Write a paper on the sources of economic profit, both internal to the firm and external to the firm (Chapter 10).Requirements: 300-500 words, APA formatI attached chapter 10 to this post

The Quest to Keep Profit from Eroding 10 ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Summary Of Main Points ● Strategy is simple―to increase economic performance, figure out a way to increase P (price) or reduce C (cost) ● The industrial organization economics (IO) perspective assumes that the industry structure is the most important determinant of long -run profitability ● The Five Forces model is a framework for analyzing the attractiveness of an industry. Attractive industries have low supplier power, low buyer power, high entry barriers, low threat of substitutes, and low rivalry • And cooperation from complements (The force that Porter forgot) ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Summary Of Main Points, cont. ● According to the resource -based view (RBV), individual firms may exhibit sustained performance advantages due to their superior resources. To be the source of sustainable competitive advantage, those resources should be valuable, rare, and difficult to imitate/substitute ● Strategy is the art of matching the resources and capabilities of a firm to the opportunities and risks in its external environment for the purpose of developing a sustainable competitive advantage ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Summary Of Main Points, cont. ● Be wary of any advice you read that claims to identify best practices, critical resources or capabilities that successful companies have to develop in order to gain a competitive advantage.

This is the fundamental error of attribution ● To stay one step ahead of the forces of competition, a firm can adopt one of three strategies: cost reduction, product differentiation, or reduction in the intensity of competition ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages ● In 1971, three partners opened a coffee shop in Seattle named Peaquod , after the ship from Moby Dick ● The company enjoyed mild growth until 1988 when the partners agreed to sell the company to their former director of retail operations and marketing ● Over the next 20+ years, that director has overseen a global expansion of the company and billions of dollars of revenue ● Yes, Starbucks was the first mate on the Peaquod and that former director of retail operations is Howard Schultz, the CEO of Starbucks until 2018. ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Sustainable Competitive Advantage (SCA) ● Warren Buffett was once asked what his most important investment criterion is. Without hesitation, he replied, “Sustainable competitive advantage” ● Succeeding in a competitive market requires a company to find an advantage, and then protect that advantage ● SCA creates a “moat” around the company to help protect its profits from the forces of competition ● A company’s prosperity is driven by how powerful and enduring its competitive advantages are ● Stock price = discounted flow of future profits • The challenge is to keep profits from eroding ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Strategy ● Strategy = trying to slow erosion ● Firms have a competitive advantage when they can:

a) Deliver the same product or service benefits as competitors at a lower cost OR… b) …they can deliver superior product or service benefits at a similar cost ● Strategy is about raising price or reducing cost • Really successful firms manage to do both • Extremely successful firms (like Starbucks) do it over a long period of time, creating sustainable competitive advantage ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Strategy, cont. ● Strategy is all about how to increase the size of the profit box ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Sources of Economic Profit ● What is the key to competitive advantage and positive economic profit? ● Two schools of thought:

1) Industrial organization (IO) economics • Locates the source of advantage at the industry level 2) Resource -based view (RBV) – build the right firm • Locates the source of advantage at the individual firm level ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Industry (IO) View of Strategy ● Industry is the key issue • Focus on the external environment ● Industry structure determines the conduct of firms, which in turn determines their performance ● Typical structural characteristics that are of interest to IO researchers include:

• barriers to entry • product differentiation among firms • the number and size distribution of firms ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages IO View of Strategy, cont. ● The key to generating economic profit for a business is its selection of industry ● According to the Five Forces model of Michael Porter, the best industries are characterized by:

• High barriers to entry • Low buyer power • Low supplier power • Low threat from substitutes • Low levels of rivalry between existing firms • (Cooperation from complementary products) ● So, the advice is to pick a good industry and work to make it even more attractive ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Using Five Forces ● Definition : An industry is comprised of a group of firms producing products that are close substitutes to each other to serve each other • Note: For a multi -product company, industry analysis may need to be done on a product -by -product basis ● To use the Five Forces model, one must consider “value capture” • Just because you are in an industry that creates value doesn’t mean that you are going to capture it • Value is created in each industry and distributed across suppliers, industry rivals, and buyers • The Five Forces model helps you think about how much of the industry value your firm is likely to capture ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Five Forces: Buyers and Suppliers ● Suppliers • are the providers of any input to the product or service • power tends to be higher when the inputs provided are critical inputs or highly differentiated • Concentration among suppliers gives suppliers power because a firm will have fewer bargaining options • Even if many suppliers exist, power may still be high if there are significant costs to switching between suppliers ● Buyers • If buyers are concentrated or if it is easy for buyers to switch from firm to firm, buyer power will tend to be higher. • More power means these buyers will find it easier to capture value, taking it away from your firm. ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Five Forces: Entrants ● Economic profits tend to draw new entrants ● Entrants erode the profit of an industry, so barriers are made to prevent, or slow, their entry ● Some barriers are, • government protection (e.g., patents or licensing requirements) • proprietary products • strong brands • high capital requirements for entry • lower costs driven by economies of scale ● Substitute products can still erode a firm’s ability to capture value even if barriers to entry are high ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Five Forces: Rivalry ● Rivalry is the force most directly related to our typical view of “competition” ● If a large number of firms compete in an industry with high fixed costs and slow industry growth, rivalry is likely to be quite high ● Rivalry also tends to be higher when products are not very well differentiated and buyers find it easy to switch back and forth ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Support for the IO View ● Profitability differences do exist across industries ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Using Industry Analysis Creatively ● What if you don’t have the ability to choose a new industry? ● You can use industry analysis too 1) Move beyond a historical analysis of your industry to think about how the five force might change in the future 2) Think about what actions you can take to make your current industry position more attractive • Ex/ How can you reduce supplier power? • Increase rivalry among your suppliers ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Limitations of Five Forces ● This view portrays an industry as a zero -sum game • i.e., the way you get a bigger piece of the pie is to take it from one of the other participants in the industry ● Although this is one way to view competition, companies can also work with other industry participants to try to build a larger pie • With a larger pie, everyone’s slice grows bigger ● Some economists recommend that as a complement to a Five Forces analysis, which focuses on threats in the industry, that firms also evaluate the Value Net of the industry for cooperative opportunities ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages The Force that Porter Forgot ● Preston McAfee was the first to realize that Michael Porter's famous industry analysis leaves out one crucial force: cooperation from complements. ● A company must decide whether to pursue a “product” or a “platform” strategy:

• “Put simply, a product is largely proprietary and under one company’s control, whereas an industry platform ... requires complementary innovations to be useful, and…is no longer under the full control of the originator..” ● One of the biggest mistakes a company can make is to pursue a product strategy and fail to recognize the platform value of their product.

• E.g., 1983 Macintosh computer was priced high - forgot about the value of the Macintosh platform. • In contrast, Microsoft recognized the value of the DOS platform. ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Platform Strategy ● If you decide on a platform strategy, there are two recommended strategies 1) “Coring” - using a set of techniques to create a platform by making a technology “core” to a particular technological system and market • Examples of successful coring include Google Inc. in Internet search and Qualcomm Inc. in wireless technology. 2) “Tipping” - the set of activities that helps a company “tip” a market toward its platform rather than some other potential one • Examples of tipping include Linux’s growth in the market for Web server operating systems ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages The Resource -Based View ● According to the resource -based view (RBV), individual firms may exhibit sustained performance advantages due to the superiority of their resources (internal focus) ● Definition : Resources are defined as “the tangible and intangible assets firms use to conceive of and implement their strategies” ● Two primary assumptions underlie the RBV:

1) resource heterogeneity - firms possess different bundles of resources 2) resource immobility - since resources can be immobile, these resource differences may persist ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages The Resource -Based View, cont. ● If a resource is both valuable and rare, it can lead to at least a temporary competitive advantage over rivals ● A valuable resource must allow a business to conceive of and implement strategies that improve its efficiency or effectiveness • Ex/ resources that let a firm operate at lower costs than its rivals or charge higher prices to its customers ● For a resource to be rare, it must not be simultaneously available to a large number of competitors ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages The Resource -Based View, cont. ● Resources that may generate temporary competitive advantage do not necessarily lead to a sustainable competitive advantage • SCA requires that resources must be difficult to imitate or substitute ● Some conditions that make a resource hard to imitate are 1) Resources that flow from a firm’s unique historical conditions will be difficult for competitors to match 2) If the link between resources and advantage is ambiguous, then competitors will have a hard time trying to re -create the advantage 3) If a resource is socially complex (e.g., organizational culture), rivals will find it difficult to duplicate the resource ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages The Resource -Based View, cont. ● So from the resource based view perspective, resources and capabilities that are valuable, relatively rare, and difficult to successfully imitate/substitute are at the core of sustained, excellent firm performance ● These resources and capabilities may include:

• technology • physical capital • intellectual assets • human capital • financial resources • organizational excellence ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Some advice you can follow ● Be wary of any advice that claims to identify critical resources or capabilities that successful companies have to develop in order to gain a competitive advantage • explanations such as these often mistakenly conclude a causal relationship when only a correlation exists • Publicly available knowledge is not going to help you create a competitive advantage • ex/ You read that having a CMEO (Chief Managerial Economics Officer) in your company leads to a competitive advantage. You decide to hire a CMEO for your business and no competitive advantage follows. What happened? • Your competitor heard about the CMEO “secret” as well and hired one too. Now that everyone knows about it, no advantage is possible. Competitive advantage flows from having something that competitors cant easily duplicate ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Generic Strategies ● There are three basic strategies a firm can follow to generate better economic performance and keep ahead of competitors 1) Reduce costs 2) Reduce intensity of competition 3) Differentiate product • Example: Perdue Chicken – successful differentiation – Frank Perdue took an essentially homogenous product – chicken – and turned it into a branded product by exercising quality control over the entire supply chain. Consumers perceive his branded chickens to be of higher quality. • Example: Prelude Lobster – fruitless attempt at differentiation – Tried to adopt Perdue’s strategy, but consumers correctly perceived that the supply chain for lobsters is largely uncontrollable. ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Bose ● In 1964, an MIT professor founded a technology company ● One year later, the company launched it’s first product – a loudspeaker with excellent technological performance • Regardless, the loudspeaker was a complete failure in the market. No one liked the design of it and turned to complimentary products. • Four years later the company produced another loudspeaker.

The company was forced to rely on door -to -door sales to convince consumer’s of the quality of the product. ● Baring the rocky start, the company stuck with it and continued to produce innovative products. Now annual revenues have grown to $2 billion and the company employs over 9,000 people. ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Bose, cont. ● In 2006, a survey of American households found that consumers voted this company the most trusted technology brand. ● How did they achieve this success?

• According to the company’s former president:

“Our challenge is to prod people into being innovative and using their creativity to do something that's better.

In the long run, this is the source of sustainable advantage over our competition.” • The continuous stream of product innovations coupled with aggressive marketing and innovative control of its supply chain created a competitive advantage that rivals found difficult to match ©2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password -protected website for classroom use. ©K ami ra/ S hut t ers t oc k I mages Reference Froeb , L. M., McCann, B. T., Shor, M., & Ward, M. R. (2018). Managerial economics: a problem solving approach (5 th ed.). Boston, MA: Cengage Learning.