Why Do Firms Cluster in Strategic Groups ©

Why Do Firms Cluster in Strategic Groups
© 2016 South University
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Business Simulation
©2016 South University
2
[Document Title]
[Parent Lecture Name]
Recognize that all the firms will not go after the same
customers by using the same method in an industry

such as restaurants or footwear. But why do these firms appear
to cluster in groups? These clusters
emerge over time. Firms and customers figure out different sets
of traits that satisfy particular customer
groups best. Let's go back to our example of restaurants. In the
fast food group, individual firms
experiment with different ranges of menus, value menu pricing,
and other elements of their formula.
When one firm finds something that increases sales, others
quickly copy it. If the new idea does not work,
it is abandoned and no one else tries it because it is shown
wanting by a similar firm. As firms focus on
copying each other’s successes, they tend to look more and
more alike. Everyone wants to present the
best combination for the segment they are serving.
This does not mean that new segments will not work in the
industry. Restaurants such as Quiznos and
Moe's Grill have done a good job of developing the "fast
casual" segment just a bit above fast food. But
Burger King, McDonalds, and the rest have only made limited
moves to copy the format and menus of
these new firms. Quiznos and Moe's Grill are in a new but
different strategic group, and the burger chains
cannot move away from what makes their current positions
effective. Because the new "fast casual"
group is close to the traditional fast food business, it does have
some impact on demand but nowhere
near the impact that the rivals within the group have on each
other.
You just studied the example of the restaurant industry to
understand why firms cluster in strategic
groups and how they face the biggest competition from other
firms within their group. Now let's discuss
strategic groups in reference to the footwear simulation.

Strategic Groups in the Footwear Simulation
In the footwear simulation, the competitive intelligence reports
provide you with strategic group maps
for each market every year. These eight maps give a clue as to
who is in your strategic group. But be
careful; strategy is more than just two dimensions, which the
decision screens you deal with each week
will remind you. What would those maps look like if other
strategic dimensions were used rather than the
ones the simulation generates? A piece of paper only lets you
look at two dimensions at a time, but
researchers look at clusters in seven or more dimensional spaces
through computer analysis. You cannot
do this, but you can construct simple maps with other
dimensions to check whether the clusters
represented in the maps in the competitive intelligence reports
are robust.
One of the important things you and other managers have to
consider when making choices of strategic
dimensions is—which ones are important in which market. For
example, you cannot expect the
dimensions that are important to customers in Asia to be as
important to customers in North America.
Also don't forget the private label markets. You don't get
private label market maps generated for you by
the simulation, but there will be firms that look a lot like each
other in that market also. Wouldn't you like
to find out who they are?

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[Document Title]
Finally, when thinking about strategic groups, you should think
about who can or will like to change
group membership. In Week 2 you learned that commitments
such as factory and celebrity purchase
limit firms' flexibility. Therefore, the choices the firms make to
join a strategic group also limit the
likelihood that they will move to another group. For example, a
firm that has invested heavily in
manufacturing capacity in order to compete as a low -unit-cost
volume producer will have a hard time
moving to a low-volume, boutique position in the industry,
especially when the firms already in the low-
volume boutique position have contracted with celebrities and
the low-unit-cost firm has not done so.
But firms do change positions. It might be that a firm is facing
trouble in its current position, and it does
not see any way in which it can do well in the group in the
future. Importantly, these are often firms which
have the least to lose in terms of resources and capabilities
oriented toward their current group. In fact, it
is the absence of these resources and capabilities that are not
allowing the firms to do well.

When firms move, they tend to move into strategic groups close
to the group they are leaving. This is
because such moves do not require extensive strategic
reconfiguration. Choosing a new strategic group
depends on how strongly the firms in the new group currently
compete. Therefore, when firms move out
of their group due to weak performance, they move to new
positions that are close by and are not
occupied by strong firms.
Number of Models in Styling Budgets
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[Document Title]
Number of Models and Styling Budgets
Now we can answer the first question: What do you understand
about the market? In the footwear
industry, there are a number of different markets with different
trait bundles and different degrees of
differentiation. The branded markets run the range from high
price-sensitive on one end to high
differentiation-oriented on the other end, with a lot in between.
But different markets have different
percentages of customers in each category and different weights
for the traits in the trait bundle.
Understanding the trait distributions in all the markets is,
therefore, a critical first step.
Now let's answer the second question.
The second question asks: How do you want to approach that
market? It should be clear now why
answering this question is critical to answering questions about
the number of models, the styling
budget, and the other marketing questions. If you want to be a
high-end player, you need more models
and sharp styling to be successful. But if you want to be at the
low end, then fewer models and less
styling will result in cost savings and decrease in prices,
thereby addressing the most important variable

for the customers.
As you look across the footwear industry, you will see the
extent to which successful firms have done a
good job of aligning their marketing choices on all the
marketing variables with the traits of the market
that they are addressing. Similarly, firms that are doing poorly
have misaligned these traits. These are
general rules, but like all general rules, a few added
considerations may help enrich your understanding
further. Let's discuss some of these considerations.
First, although the more price-sensitive customers are generally
not willing to pay more for
differentiation traits, they will prefer products or services with
these traits when they cost the same as
those without these traits. Therefore, firms often find it
valuable to slip in a little differentiation and take
a low per-unit profit margin, rather than passing along the
increased cost to the customers. This, in turn,
drives volume higher so that the firm's net income increases.
However, this has limited benefits. If rivals
copy these moves, there is no resulting volume advantage; there
are only higher costs for trying to follow
a low-cost strategy.
Second, price signaling is an important variable to consider. In
many situations, customers may not have
complete information about the quality of a product. Here, they
rely on the price to hint at the quality.
Therefore, a high-priced shoe will signal high quality, whereas
its quality may just be average. However,
you cannot take this consideration too far. If quality decreases
drastically but the price remains high, then
word will get out and sales will plummet. Remember that
customers buy passed-on perceptions that you

create, which may or may not be real.
Third, remember that just because differentiation is required, all
differentiation variables don't have to be
emphasized. This is best explained with the power of
celebrities. Celebrity identification is a strong
factor, particularly in markets where the celebrity has a strong
image rating. Here, customers will
purchase the product endorsed by their favorite celebrity and
ignore other weak traits that it may have.
But the extent to which these other traits bring in more
customers or increase pricing power may be
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[Document Title]
marginal. Once again your understanding of the market is
critical to know what combinations make
sense.
Finally, don't forget the private label. This market has certain
requirements. Most dramatically, it
emphasizes the role of cost/price management. Therefore,

unless you are using the private label market
as a place to send excess productions from factories geared to
high-end markets, your answers to the two
questions should lead you to the minimally acceptable decisions
on all marketing variables.
Three-Year Plan
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[Document Title]
Three-Year Plan
After discussing the strategic groups in the footwear simulation,
let's now look at how you will prepare a
three-year plan for your firm. For this, you will be forecasting
the demand for your product in the future.
This is one of the most important things that firms do. Aligning
demand with supply means that sales are
not missed due to stockout and inventories do not pile up in the
warehouse. However, making such
predictions is quite challenging. Even after excluding
unforeseen events that may impact demand, firms
wrestle with the correct assumptions about what they know
when making projections.
In the simulation, the software gives you good demand
projections. These are comparable to the
projections that many firms construct with the help of software
they have for industries they understand
well. In our simulation, the projections will vary due to factors
such as the amount of advertising a firm
does, the overall growth trends in the economy, and whether the
firm has attempted to address all the
major demand segments in the market. These represent one set
of assumptions that you make every
week while making decisions on the Demand Forecasting screen
in the simulation.
The three-year planning software goes deeper into projecting
future trends. The three-year planning
module in the software is similar to the software many firms
have constructed. If you look at the

projections and try to forecast how those decisions will play out
over time, you can see things in the
three-year plan that a simple one-year forecast will not show.
For example, you can see the impact of
long-term decisions such as building a new plant capacity or
acquiring celebrities. Importantly, you will
see what type of financial statements the different choices will
produce. Firms can and should use this
tool for scenario and sensitivity analysis. It is a powerful tool
for assessing the what-if of strategic choices
and their implications for the future.
You discussed the importance of forecasting demand and the
purpose of making a three-year plan in the
simulation. Now let's look at how to make these projections and
the importance of making accurate
projections.
Instructions for Making the Three-Year Plan
The three-year planning tool is only as good as the assumptions
you put into it. You will discover that you
can make the projected results look good simply by making
favorable assumptions. But if these
assumptions are inaccurate, then the variance between the actual
results and the pro forma projections
will be dramatic and embarrassing. Also, your team will miss
the opportunity to detect weaknesses in
your strategy and fix them at an early stage. Conversely,
making poor assumptions to avoid undesirable
results is the equivalent of sweeping problems under the rug. It
only looks good on the surface and at first
glance.
When you carefully read through the information on the three-
year plan on the simulation website, you

will be scored on how accurately you predict the firm's actual
performance over the next three years. In
the real world, managers of public companies have to make
projections or give guidance to the public all
the time. Making errors in projections not only embarrasses the
top-management team, but also causes
the stock price to crash because investors feel that the managers
do not know and understand their
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[Document Title]
industry well. Therefore, it is important that you and your
teammates make realistic assumptions in the
three-year plan. If the plan shows undesirable results, this is a
good indication that strategic correction
needs to be made now.
Your three-year plan is due at the same time as your Year 14
decision. Although you are not bound by the
strategy you set out in the three-year plan, you will be held to
the numbers you put into it as projected
performance metrics.

Delivery Options
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Delivery Options

In the previous lecture, we discussed the end customer. But we
also need to be clear that in the
simulation, as in many industries, the direct customer of a firm
is not the end customer. Here, it is the
shoe retailer in the non-Internet markets. This customer —the
retailer—also needs to be satisfied. There
has to be something that you are offering to the retailers that
will make them want to promote your
shoes.
One thing that makes retailers happy is good service. If
someone walks into a store and requests a shoe
that you were promoting using a celebrity and the store has no
shoes to sell, then who will be blamed by
the end customer? The retailer, not the manufacturer, who failed
to deliver the product when it was
needed. Therefore, retailers do not like firms which put them in
situations that hurt their business; this is
true no matter how great a product you have. Of course, you
don't want to have warehouses full of
unsold shoes beyond what you need either. Therefore, pricing
becomes a critical variable in managing
retailers.
Another area where managing retailers is important is the
balance that firms maintain between selling
through retail outlets and selling directly to customers over the
Internet. The Internet is becoming
increasingly popular in many retail markets, and its popularity
is likely to grow in the future. But retailers
see the Internet as a new rival who steals their customers and
their sales profits. Retailers are not
unhappy when they have to fight other retailers for sales, but
they are unhappy when the competitor is
the same firm for which they are selling the same product.

The firm, of course, likes the higher margins that the Internet
can produce due to the absence of retailer
intermediaries. But firms cannot cut off the retailers
completely. Many customers, especially the ones
who are new to a brand, like to try on shoes before they buy
them, and this cannot be done online.
Therefore, manufacturers face a major tradeoff—should they
push for higher-margin Internet sales
knowing that it will hurt the willingness of retailers to promote
their shoes or should they have a low-level
Internet strategy to keep valuable retailers happy.
There is no single answer to this problem. Different geographic
markets will present different tradeoffs.
One of the marketing challenges you and your teammates will
face is deciding on the mix of distribution
channels you will use. With a little reflection, you can see that
this is a decision that an increasingly large
number of firms have to make in the twenty-first century.
Marketing Decisions-Pricing

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Apart from the signal that a price change sends to the market,
an important factor that needs to be
considered is the effect of price change on retailers, who sit
between you and the customers. Retailers
want to avoid two things. First, they don't want your shoes
collecting dust on their shelves because the
price is too high. Second, they don't want customers going away
disappointed because a shoe they
wanted was sold out due to its low price.
We will look more at managing retailers later. For now, just
note the tradeoff that you face here. Pricing is
flexible and powerful, but that very power means that you have
to be prudent in taking advantage of this
flexibility. Although it is powerful, price is just one element in
most marketing strategies. Failure to

consider the interactions of nonprice variables is a major flaw
in some strategies in the simulation. Let's
look at some of those considerations.
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Marketing Decisions - Pricing
In Week 2, you learned about price signaling. You noted that
many customers use price signals as a
substitute for detailed information about a product. More than
any other element in your marketing
strategy, the price indicates the segment of the market in which
you would like to position yourself. It does
not necessarily indicate anything more. Your �rm's styling and
quality decisions, for example, do not have to
be in perfect alignment. You can set a premium price with an
average quality shoe, provided you are able to
sustain an image of quality or imbue your shoes with other traits
that will make customers ignore the less-
than-average quality. Understanding the traits of this powerful
variable—price—is a key to its effective use.
On one hand, think about the signal you get from the
marketplace about a �rm, which moves its prices up and
down all the time. You see this in a few industries, such as
airlines, but for the most part, �rms try to hold

price steady to send a clear signal to the market about their
products' position and to keep customers from
deferring purchases until items go on sale. On the other hand,
the ease of price changes provides �rms with
the ability to keep supply and demand in alignment at the �rm
level.
In Week 1 and Week 2 lectures, we looked at the in�exible
nature of manufacturing plans and celebrity
contracts. Firms that feel the need to sustain volume, so that
these less �exible and expensive assets are best
utilized, �nd the contrasting �exibility of price quite tempting.
Clearly, this is what the airlines do in order to
utilize their planes optimally. However, it is not something that
�rms prefer to do.
Additional Materials
(media/week3/SUO_BUS4098%20Supplemental%20PDF%20for
%20W3%20L2%20Marketing%20Decisions-
Pricing.pdf?_&d2lSessionVal=4ziczn9qEskPZ3ZWUncGyhO8u
&ou=91506)
https://myclasses.southuniversity.edu/content/enforced/91506-
17110320/media/week3/SUO_BUS4098%20Supplemental%20P

DF%20for%20W3%20L2%20Marketing%20Decisions-
Pricing.pdf?_&d2lSessionVal=4ziczn9qEskPZ3ZWUncGyhO8u
&ou=91506
Choosing the number of models you want to offer and making
marketing decisions on aspects such as the �rm's styling budget
are some of the
considerations involved in creating strategies. These choices are
related to two basic questions:
What do you understand about the market?
How do you want to approach the market?
Before answering the questions, let's �rst understand why you
need to ask these questions. To do that, look at the underlying
logic of differentiation
strategies. Differentiation strategies assume that customers do
not make choices based on one product trait but on a bundle of
traits. They weigh
each trait in the bundle according to their preferences.
Therefore, across the strategic space, customers have a range of
combinations of trait
preferences.
Similar to strategic groups, which we saw on the supply side of
the market, we also tend to see clusters of customers around
popular demand trait

bundles. Not surprisingly, these demand-side clusters are at the
same points along the strategic space as the supply-side
strategic groups. As an
industry, you tend to see clusters of �rms going after clusters
of customers.As the number of traits or the range of preference
weights that the
customers give to these traits increases, the number of different
ways in which a �rm can create a product and satisfy a market
also increases.
As a general rule, as customers become less price-sensitive, the
number of traits that come into play increases. Therefore, at the
low end of markets,
customers buy primarily on price, and there is little value of
wide-ranging differentiation. But in the high end of the market,
more differentiation is
needed to cater to the speci�c needs of particular customer
groups.
%20W3%20L3%20Number%20of%20Models%20and%20Stylin
g%20Budgets.pdf?
_&d2lSessionVal=4ziczn9qEskPZ3ZWUncGyhO8u&ou=91506)
Delivery Options

%20W3%20L3%20Delivery%20Options.pdf?
Three-Year Plan
%20W3%20L3%20Three-Year%20Plan.pdf?
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DF%20for%20W3%20L3%20Number%20of%20Models%20and
%20Styling%20Budgets.pdf?_&d2lSessionVal=4ziczn9qEskPZ3
ZWUncGyhO8u&ou=91506
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ssionVal=4ziczn9qEskPZ3ZWUncGyhO8u&ou=91506
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Year%20Plan.pdf?_&d2lSessionVal=4ziczn9qEskPZ3ZWUncGy
hO8u&ou=91506
Emerging Strategic Groups
To understand how patterns of rivalry exist in an industry, let's

take an example of restaurants. Fast food restaurants compete
closely against one another.
They offer similar food to similar customers at similar prices.
Therefore, it is not surprising that they are rivals. We can say
that fast food represents a
strategic group within the restaurant industry. Within a strategic
group, rivalry is particularly strong because these �rms target
the same customers by
using similar methods.
But consider other restaurants in town. Olive Garden,
Applebee's, and T.G.I. Friday's also make up a strategic group.
They also compete for similar
customers by using similar strategies, but these strategies are
meaningfully different from the strategies with which fast food
restaurants compete.
Finally, consider the "white tablecloth" restaurants in town; the
places you visit on special occasions. They also form a strategic
group. But ask yourself, "Do
these restaurants really care if McDonalds adds new salads to
its menu?" Of course not. Although they are in the same
industry, they are not rivals.
Conversely, Burger King is extremely interested in any menu
changes that McDonalds makes.
In restaurants, footwear, and all other industries, it is critical
that managers identify strategic groups in order to identify their
rivals—who the managers
have to beat to win customers.

%20W3%20L1%20Why%20Do%20Firms%20Cluster%20in%20
Strategic%20Groups.pdf?
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%20in%20Strategic%20Groups.pdf?_&d2lSessionVal=4ziczn9q
EskPZ3ZWUncGyhO8u&ou=91506
Address one of the following bullet points and its sub-points:
· Although strategic groups tend to be rigid, they are by no
means fixed. One of the things managers have to be aware of is
which firms may change group membership. With the results
from Year 13 of the simulation, consider the following:
· Why do firms tend to cluster into strategic groups?
· Would it not make sense for firms to spread out across
strategic spaces? Why or why not? Explain your rationale.
· How likely is it that firms competing in other strategic groups
will adapt their strategy to compete directly against you?
Explain your rationale.
· Which firms currently not in your strategic group would be
most likely to try and enter your group? Why?
· Firms also sell in the Internet markets and have to coordinate
the Internet marketing strategy with the branded marketing
strategy.
· How do firms that are successful in the Internet market

balance their sales there with those in retail markets?
· Is there any evidence showing firms that emphasize the
Internet channel are being hurt in the retail channel and vice
versa? Support your answer with examples.
· A firm has to market an athletic shoe product line that it
orders from its factories. Which decisions on the Production and
Labor screens are critical to coordinate with the firm's
marketing strategy? Why?

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