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Simulation as an aid in strategy making
 

Simulation as an aid in strategy making

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    Simulation as an aid in strategy making Simulation as an aid in strategy making Document Transcript

    • Simulation as an aid in strategy making Malcolm Brady Dublin City University Business School Dublin 9 Ireland Tel. +353 1 7005188 Fax +353 1 7005446 Email malcolm.brady@dcu.ie Presented at OR42 - Operational Research Society Annual Conference University of Wales, Swansea 12-14 September 2000 © Copyright, Malcolm Brady, 2000, all rights reserved. Abstract The subject of this paper is the use of simulation as a tool to assist managers develop strategy in the business firm. The paper refers to a simulation model of a hypothetical business firm's profit and loss account and balance sheet statement. The simulation model comprises accounting identities and behavioural statements represented as a set of difference equations. The model is parsimonious in that as few equations as possible are used while still reasonably representing a business firm. The paper examines how simulation can be used to assist strategy makers in formulating strategy. This work is part of the author's PhD research and represents ongoing rather than completed work. Please do not quote without prior permission. Introduction This short paper begins by briefly surveying the main schools of thought in strategy formulating and implementing. It then briefly examines simulation as a technique and discusses the main approaches to simulating. The paper then goes on to examine how simulation may be useful to strategy makers and at which particular points of the strategy making process it would be most beneficial. The paper ends by examining briefly a simulation model developed by the author as part of his ongoing research. Strategy Strategic management is rather a new field of knowledge. It developed originally in the 1960's, two of the original leaders in the field being Andrews, who examined the process of strategy development and who played a major role in founding the design school of strategy at the Harvard Business School (Mintzberg et al, 1998:ch2), and Chandler, who examined the links between strategy of organisations and their structure. The work carried out in this
    • period provided the foundation for most of the process models still prevalent in text books today: for example, the formulation-implementation model of Bower et al (1991:111), and the analysis-choice-implementation model of Johnson and Scholes (1999:18). In the 1980's a further impetus was given to the field due to the work of Michael Porter (1980, 1985) who applied concepts from industrial organisation economics. He coined the term 'competitive advantage', developed the key concepts of focused and differentiated generic strategies as a means of gaining competitive advantage, and identified the value chain of activities of an organisation as one of the key influencers of an organisation's strategy. Also in the 1980's another movement began that suggested that the process of strategy formulation and implementation did not take place separately. Instead it was suggested that formulation and implementation take place together in an incremental way (Quinn, 1989) or that strategy emerges out of the process of strategy making (Mintzberg et al, 1998:ch.7). In the late 1980's the focus of attention of strategy researchers moved from the position of organisations in the marketplace to the internal capabilities of the organisation. Prahalad and Hamel's (1990) research suggested that firms were successful because they had a small number of core competences that they were exceptionally good at and which allowed the organisation compete in a number of different markets. Canon's success in the camera, photocopier, and printer marketplaces due to their competence in microelectronics and optics is an often cited example (Canon, 1992). Much of the strategic thinking in the early 1990's focused on improving operational effectiveness (Porter, 1996) and in this era movements such as total quality management and business process reengineering (Hammer, 1990) gained ground. Recent research has tended to focus more on the speed of change in the business world and the difficulty that firms have in adapting and reacting to a complex, dynamic and fast-changing environment (Chakravarthy, 1997). A recent issue of the Sloan Management Review was devoted to this topic: Beinhocker (1999) suggests that strategic thinking can benefit from complexity and evolutionary theories; Markides (1999) suggests a dynamic model for strategy-making based on building internal variety, a premise of evolutionary theory. Simulation A model is essentially an imitation of something real and simulation is a process of using a model to imitate the behaviour of something real. It is important to remember that a model is only an imitation of reality and is not in itself reality. This is both an advantage, in that it is usually much easier to manipulate and understand the behaviour of a model than reality, and a disadvantage in that one must be careful in generalising from conclusions drawn from examining the behaviour of a model. Ackoff (1962:109) suggests that models fall into three categories: iconic, analog and symbolic; he includes mathematical models under the symbolic category. Law and Kelton (1991) also suggest a similar taxonomy of models and further subdivide mathematical models based on the solution approach: analytical or simulation. Many mathematical problems cannot be solved analytically and simulation offers a means of 'solving' such problems. Simulation is a process of 'driving a model of a system with suitable inputs and observing the corresponding outputs' (Bratley et al, 1987); in effect simulation is a means of experimenting with a model of reality. Nelson and Winter (1982) see a computer program as 'a type of formal theoretical statement' and simulation as 'a technique of theoretical explanation'. Simulation is particularly useful where it is impossible, dangerous or inordinately expensive
    • to experiment with reality. This is generally speaking the case with real-life business firms or economies and hence simulation offers the business researcher a means of examining and experimenting with economic and business systems. Simulation as a strategy making tool Phelan and Wigan (1995) points out that it is particularly difficult for researchers in the strategy field to successfully carry out experiments in order to determine the 'laws' of successful strategic management. They suggest that three distinct difficulties arise: that of observation, manipulation, and replication; they go on to suggest that simulation may assist strategy researchers in overcoming some of these difficulties. The tools and technique of simulation can be useful to practising managers in two ways: for training in strategy-making and for use in actual strategy-making. Simulation is used as an aid for training managers in the art and science of strategy-making by universities and by management training consultants. Within academia, simulations are increasingly becoming an integral part of strategy textbooks; for example, Thompson and Stappenbeck's (1998) simulation game is a companion to the Thompson and Strickland (1999) textbook. Many universities and business schools use simulation as a teaching aid; for example, Dublin City University uses simulation games to give teams of students near-practical experience in running a business, London Business School (2000) offers an executive education programme devoted to systems thinking and strategic modeling that uses simulation software to model business situations. Simulations are also increasingly used by management training consultants; for example, Strategic Management Group (2000) use many different simulation games in their training and development programmes. Many of these learning vehicles are termed microworlds and are based on systems thinking and learning organisation ideas originally developed by MIT's system dynamics group (Sterman, 1992; Senge, 1990a); for example, Mike's Bikes simulation from SmartSims.com (2000) and the Beefeater simulation from Strategydynamics (2000). It is interesting to note that the simulations being used in universities have tracked the movement in theories underpinning strategic thinking from industrial organisation economics theory to the resource-based view to systems and complexity theories. Older business simulations tend to use a competitive model whereby teams compete in a marketplace of four or five teams and prices are determined according to standard neoclassical theory; Dublin City University business school uses two simulations of this type in undergraduate teaching. More recent business simulations, such as those mentioned above, tend to use the system dynamics modeling approach and use dynamical systems theory and feedback as a driving mechanism for the simulation. Some of these simulations, for example Beefeater, are also draw strongly on the resource-based view of the firm as an underlying theory. Secondly, simulation can be used in the actual process of strategy-making. When examining the external environment during the analysis phase of strategy-making, simulation could be used to develop and test various business scenarios (Johnson and Scholes, 1999:112-3). Simulation could also be used in the choice or matching phase of strategy-making. This phase is rather underdeveloped in the strategic management literature and relatively poorly supported by formal techniques (Moroney, 2000). Textbooks tend to describe the relevant parameters when considering strategic choice but avoid giving specific guidelines on how to go about making a choice (see for example Thompson and Strickland, 1999:ch.6). Simulation could assist in generating and evaluating strategic options. Other techniques from the field of management science such as the multi-criteria decision approach (the subject of the paper following this one at this conference) could also be applied to the choice-matching phase of the strategy-making process.
    • This use of management science techniques by strategists could also have the effect of improving the profile of management science and operations research within the business firm; these functions are often seen by managers suited only to operations analysis and are pushed 'further and further down in their organisations' (Ackoff, 1979a). In a sister paper Ackoff (1979b) argues that the systems view taken by management scientists/ operational researchers has a role in planning. While corporate planning is no longer as in vogue as it was in the nineteen seventies (Mintzberg, 1994) Ackoff is not alone in the promotion of a systems view of an organisation in the context of corporate or business strategy (Senge, 1990b). Simulation can be carried out using several different mechanisms. Straightforward spreadsheet models may be used to carry out 'what-if' type analyses. Specialised simulation packages, for example Powersim, from Powersim (2000) and Stella and iThink from High Performance Systems (2000), can be used to develop more sophisticated models. Customised models can also be developed using standard programming languages such as Basic, C, or Fortran; this is rare in business but common in engineering eg. custom development of software to simulate the behaviour of networks (eg. gas, water, sewerage), structures (eg. buildings, bridges), mechanisms or vehicles. Finally, simulation can be used as a research tool by business academics in the field of business and corporate strategy. Simulation offers a means of experimenting with virtual business organisations and economies, something that is not possible with real organisations and economies. Several papers on simulation of different aspects of business firms featured at this year's young operational researchers conference (YOR11, 2000). This author's own research has examined the growth of business firms using simulation as a research technique (Brady, 1999 and 2000). This research has identified a critical point in the growth of firms - where production of the firm first exceeds demand - such that the behaviour of firms is significantly different before and after this point. Summary and Conclusion This paper has attempted to show how simulation can be a useful addition to the strategic manager's toolkit. It has pointed out that simulation is in essence an experimental approach to problem solving and is particularly appropriate to business situations where real-life experiments are generally impossible or undesirable. It has identified in particular the choice phase of strategy-making as one that is underdeveloped and where simulation could be particularly useful. Bibliography Ackoff, Russell, L. (1962). The scientific method: optimising applied research decisions, Wiley. Ackoff, Russell L. (1979a). 'The future of operational research is past', Journal of the Operational Research Society, v.30, n.2, pp.93-104. Ackoff, Russell L. (1979b). 'Resurrecting the future of operational research', Journal of the Operational Research Society, v.30, n.3, pp.189-199. Beinhocker, Eric D. (1999). 'Robust adaptive strategies', Sloan Management Review, Spring, pp.95-106.
    • Bower, Joseph L., Christopher Bartlett, C. Roland Christensen, Andrall Pearson and Kenneth Andrews (1991). Business policy: text and cases, 7th edition, Irwin. Brady, Malcolm (1999). 'Patterns of growth: an investigation into the dynamics of firm performance', paper presented at Young Operational Researchers Forum, 22-24 March, University of Sheffield. Brady, Malcolm (2000a). 'Simulation of a business firm', paper presented at YOR11: Young Operational Research Conference, 28-30 March, Fitzwilliam College, Cambridge. Bratley, Paul, Bennett L. Fox, and Linus E. Schrage (1987). A Guide to Simulation. Springer- Verlag (2nd edition). Canon (1992). 'Canon: competing on capabilities', INSEAD. (Case study no. 392-031-1, European Case Clearing House, Cranfield University). Chakravarthy, Bala (1997). A new strategy framework for coping with turbulence, Sloan Management Review, Winter, pp.69-82. Hammer, Michael (1990). 'Reengineering work: don't automate, obliterate', Harvard Business Review, n.4, July-August, pp.104-112. High Performance Systems (2000). Available at http://www.hps-inc.com, August, 2000. Johnson, Gerry and Kevan Scholes (1999). Exploring corporate strategy: text and cases, 5th edition, Prentice Hall. Law, Averill M. and W. David Kelton (1991). Simulation Modeling and Analysis, McGraw- Hill. London Business School (2000). available at http://forum.london.edu/execed.nsf/progFrameset/Systems+Thinking+and+Strategic+Modelling August, 2000 Markides, Constantinos (1999). 'A dynamic view of strategy', Sloan Management Review, Spring, pp.55-63. Mintzberg, Henry (1994). 'The fall and rise of strategic planning', Harvard Business Review, Jan-Feb, pp.107-114. Mintzberg, Henry, Bruce Ahlstrand, and Joseph Lampel (1998). The strategy safari, Prentice Hall. Moroney, Mike (1999). 'Strategy evaluation: towards an updated paradigm', Irish Business and Administrative Research, v21, n1, pp.103-129. Nelson, Richard and Sidney Winter. 1982. An evolutionary theory of economic change. Belknap Press. Phelan, Steven E. and Marcus R. Wigan (1995). 'Using simulation for theory generation in strategic management', paper presented at 2nd Australasian Conference in Strategic Management, 20-21 April 1995, La Trobe University, Melbourne. Porter, Michael (1980). Corporate strategy, The Free Press.
    • Porter, Michael (1985). Competitive advantage, The Free Press. Porter, Michael (1996). 'What is strategy?', Harvard Business Review, November-December, pp.61-77. Powersim (2000). Available at http://www.powersim.com/, August, 2000. Prahalad, C.K. and Gary Hamel (1990). 'The core competence of the corporation', Harvard Business Review, May-June, pp.79-91. Quinn, James Brian (1989). 'Strategic change: logical incrementalism', Sloan Management Review, summer, pp. 45-60. Senge, Peter (1990a). 'The leader's new work: building learning organisations', Sloan Management Review, Fall, pp.7-23. Senge, Peter (1990b). The fifth discipline, Century Business. SmartSims.com (2000). available at http://www.smartsims.com August, 2000. Sterman, John (1992). 'Teaching takes off: flight simulators for management education', OR/MS Today, October, pp.40-44. Strategic Management Group (2000). available at http://phl.smginc.com August, 2000. Strategydynamics (2000). Available at http://www.strategydynamics.com August, 2000. Thompson, Arthur and A.J. Strickland (1999). Strategic management: concepts and cases, 11th edition, Irwin/McGraw-Hill. Thompson, Arthur and Gregory Stappenbeck (1998). The business strategy game, 5th edition, Irwin/McGraw-Hill. YOR11 (2000). Young Operational Researchers Conference, 28-30 March, Fitzwilliam College, Cambridge.