Strategy for Sustainable Competitive Advantage

Surviving Declining Demand and China's Global Development

Ian Chaston

• Publisher: Routledge
• Year: 2012
• ISBN:
  9781136325694
• Edition: 1
• Topic: Business
• Subtopic: Strategia di business
• Index: Business

Due to the adverse outcomes of the recent global recession and the public deficit crisis in the USA and Europe, Western companies can expect flattening or declining sales in their domestic markets. They will also face growing competition as Chinese firms seek to block the activities of foreign companies in their domestic market and expand their own operations in overseas markets. Survival and growth for Western companies is unlikely to come from sustaining current business practices based upon utilization of conventional approaches to strategic management; success will depend on exploiting new knowledge to stay ahead of competition. This book examines the strategic issues associated with the entrepreneurial utilization of new knowledge to create innovative products and services, accompanied by the development of leading edge, highly productive internal organizational processes. Through the use of appropriate theories and illustrative case examples, the text is designed to assist managers in Western organizations and business school students understand how to counter the increasing threats that are posed by the globalization of companies from emerging countries such as the BRIC nations.

1 A Very Uncertain World

The purpose of this chapter is to cover issues pertaining to:

1. The need for organisations to respond effectively to increasingly turbulent and volatile external environments.

2. The decline in consumer demand in mature Western markets.

3. The problems for Western firms seeking new growth by exploiting the world’s potentially future largest market—China.

4. The impact of the growing public sector financial crisis in the Western world on future funding of the welfare state and the impact on consumer disposable income.

5. The growing problems associated with the global resource availability in areas such as oil and agricultural products.

6. The scale of financial impact of the continuing rise in the costs of healthcare provision in Western economies.

7. The inability of Western firms in mature industries to compete in world markets in the face of competition from firms based in emerging economies.

8. The ongoing validity of continuing to utilise conventional strategic planning models.

9. The alternative perspective that Western organisations should accept the Schumpeterian view that ongoing success depends upon the exploitation of innovation.

INTRODUCTION

Ever since the human race began to create formal entities to engage in commercial activities, the fundamental purpose of these organisations is to acquire inputs, add value and to exchange these outputs in return for the efforts expended. In the case of private sector organisations, the primary aim in adding value to inputs is to generate a profit from sales. Within the public and not-for-profit sectors, the main purpose of organisations is usually to deliver outputs at a cost no greater than the input funding received. Unlike the private sector, where payments are provided by the user, these organisations receive payments for their activities from a third party, such as a government agency or charitable donations.

Organisational performance is influenced by interacting external environmental factors. One factor is the cost and availability of inputs. Thus, for example, in 2010 when Russia banned all grain exports due to a poor harvest, this drove up world wheat prices, leading to higher-cost bread. Concurrently not-for-profit organisations, such as the UN, which tend to have inflexible budgets, were forced to reduce the quantity of food supplies which they could afford to ship to disadvantaged people in developing nations.

Ultimately the supply of output is determined by market demand. Should an organisation encounter rising costs while undertaking value added activities, the outcome is likely to be higher prices accompanied by a fall in market demand. In most cases the demand for an organisation’s output is also determined by the proportion of total output which customers wish to purchase from the organisation’s competitors. An organisation may also face changes in demand should a new competitor such as a new producer based in a developing country decide to enter the market.

Some factors of influence within external environments have become increasingly volatile and uncertain in recent years. Examples include the rising costs of oil and certain agricultural products. Managers then face problems identifying appropriate actions for adapting to the changing market conditions. This is one of the reasons why academics have introduced the concept known as ‘strategic complexity theory’ (Cunha and Da Cunha 2006). Rising levels of environmental turbulence mean there has been a reduction in orderly competition between organisations, leading to difficulties for managers attempting to predict customers’ future needs. As a consequence organisations are required to determine which environmental factors are most likely to undergo major change. This knowledge provides the basis for assessing whether the organisation has the necessary capabilities to remain in existence (Mason 2007). It is scenarios such as these which provide the purpose of this chapter: namely to review environmental change as the basis for questioning whether existing management planning models remain ‘fit for purpose’ in today’s very uncertain world.

CONSUMER DEMAND

The standard strategic assumption within many Western consumer goods companies is that families with children in the age group 18–49 provide the primary source of demand and generate the majority of revenue for multinational giants such as Proctor & Gamble and Nestle. The problem that is now emerging in Western democracies is population ageing. This is causing a rise in the average age of populations as older people are becoming the dominant group within many nations (Johnson 2004). Although the total population in Europe will remain virtually unchanged between now and the year 2050, the number of 65+ individuals is forecasted to increase by 65 percent. Associated with this socio-demographic shift is that older people now own an increasing share of a country’s total wealth. In the United States, for example, individuals aged 55+ make up 35 percent of the adult population yet control 70 percent of the net worth of all household assets. The problem for consumer goods companies is that although much wealthier, these older people tend to spend and consume less than their younger counterparts (Chaston 2009a).

In the case of governments, population ageing results in a reverse situation in relation to the demand for services. With people living longer, governments face rising demand for state pensions and healthcare provision (Klaase and Van der Vlist 1990). Long before the 2008 global banking crisis, observers of population ageing were predicting many governments would face a potentially massive fiscal crisis (Jensen et al. 1995). On average the cost of public pensions and healthcare benefits consumes 12 percent of GDP in developed nation economies. Assuming no change in the nature of welfare provision, this figure is forecasted to rise to 24 percent of GDP by 2040. Without significant changes being made in the way governments operate their welfare systems, funding of this increase in welfare provision for older people will require the working population to accept at least a 100 percent increase in their personal tax burden. This in turn will further reduce the spending power of the 18–49 age group.

Recognition of the implications of population ageing has caused many of the world’s largest multi-nationals to decide that compensation for declining sales in the West can be achieved by entering rapidly developing markets of countries such as China and Russia. Such perspectives may reflect a somewhat limited understanding of how world history has caused these nations to become highly xenophobic. This attitude has evolved over the centuries because these countries have suffered very severely at the hands of numerous foreign invaders (Fenby 2008). In both countries the political leadership tends to welcome foreign firms in those cases where their presence is seen as an effective strategy for attracting capital or the latest industrial technology or acting as a source of new job creation. However, at the juncture where politicians perceive that domestic firms can fulfil these roles, foreign corporations usually find their ability to remain in the country becomes increasingly difficult (Chaston 2009b).

In the case of Russia, for example, following the advent of perestroika, the Western oil companies were welcomed with open arms to assist the country with modernising existing fields and to open new fields. Once the Russian government felt its own producers had acquired sufficient expertise, the Western oil companies were confronted with problems such as exploration licences being revoked and claims that they were attempting to avoid paying corporation tax (Bucknall 1997). It would appear that few Western corporations learned from the Russian scenario because after failing to achieve commercial success in that country, many of them have re-directed their efforts to enter Chinese markets (Jacques 2009). The attraction of this latter country is that the economy is growing at a rate greater than almost anywhere else in the world. This in turn leads to a massive increase in the size of the all-important consumer market, the middle classes.

Until recently few business leaders were willing to openly express their concerns about the long-term opportunities associated with the Chinese market. One of the first sources of adverse comment was by the CEO of the American GE Corporation, Jeff Immelt. He is quoted (Evans-Pritchard 2010, p. B2) as stating ‘It’s getting harder for foreign companies to do business there. I am not sure that in the end they want any of us to win or to be successful.’ His views have since been echoed by two German corporations, Siemens and BASF, which both feel ‘the playing field in China is increasingly tilted against foreigners.’ In the same article, Evans-Pritchard also reported that the British multi-national mobile telephone giant Vodafone will probably sell their £4 billion investment in China Mobile because they have concluded it is becoming increasingly difficult to do business in China.

This growing level of concern over the problems of operating in China has also led to the European Chamber of Commerce concluding foreign companies are being actively discouraged from investing in China. In their view this is caused by the Chinese government’s policies in areas such as unequal law enforcement and unfair restrictions on operations. The Japanese have traditionally avoided commenting upon adverse trading conditions elsewhere in the world to avoid causing loss of face for foreign governments. However, even the Japanese, who have numerous operations based in China, have recently begun to express concerns about the risks of making further investments in that country (Monaghan 2010).

To generate greater understanding of the attitude to foreign firms in China, Bretnotz and Murphree (2011) undertook an extensive examination of the attitudes and values which overseas firms can expect to encounter. They note that although the Chinese have become more supportive of greater economic freedom and exhibit a willingness to permit overseas firms to enter the country, the government still retains control over the behaviour of the population and the activities of business enterprises. Bretnotz and Murphree’s analysis reveals that a significant degree of commercial uncertainty exists because the Chinese government is willing to make abrupt major revisions in policy should this be perceived as beneficial to domestic organisations or is advantageous in frustrating further expansion by overseas firms. Where a sector of industry is deemed as critical to the Chinese economy in terms of supplying domestic markets or expansion into overseas markets, the government has developed a number of mechanisms to influence outcomes. These include granting operating licences only to certain companies, appointing specific firms as the approved suppliers for government contracts and refusing to approve applications from foreign firms to open new plants in China. Foreign companies also face problems created by the country operating a dual track regulatory system. This is achieved by the central government retaining control over certain matters but being willing to delegate relatively autonomous authority over certain other policy issues to regional governments.

Another factor of influence is that China’s banks remain under state control. By this means the government can enforce rapid changes in consumer, industrial and financial markets by requiring the banks to respond immediately to new government directives concerning economic policy. An example was provided in 2011 when the government became concerned over rapidly rising house prices. Its solution was to instruct the banks to immediately revise the terms and conditions under which new mortgages could be granted. In relation to commercial credit, although stock markets exist which in theory can provide access to capital, government regulations over the operation of these stock exchanges severely limit the ability of firms to raise capital or engage in merger and acquisitions (M&As).

PUBLIC SECTOR DEMAND

After World War II the appeal of Keynesian economic theory concerning the stimulation of economic growth through deficit spending, linked to the desire of returning military personnel and their families to enjoy a better life, led to the establishment of the modern welfare state (Brown-Collier and Collier 1995). Creation of these new entities caused a massive expansion in public sector spending and public sector jobs as Western governments initiated strategies such as free subsidised services in areas such as education, healthcare, pensions and unemployment benefits. As a consequence the public sector became a critical component of these countries’ economies in terms of purchasing products and services from the private sector and providing employment for millions of people. For example, the UK National Health Service (NHS) is now the largest employer of any organisation within Europe.

By the 1980s, the combination of poor economic growth, rising inflation and inflexible attitudes to workplace reform among the public sector unions led to the situation that governments faced increasing problems funding their ever-expanding provision of public sector services. This led to attempts at reform such as the introduction of the New Public Management (NPM) philosophy. This was designed to introduce private sector management practices into the public sector in order to improve efficiency and effectiveness (Chaston 2011). Such initiatives achieved a limited degree of success and hence public sector spending continued to rise (Hood and Jackson 1992). By the beginning of the 21st century most Western nations continued to enjoy economic growth only due the central banks keeping interest rates low, which in turn supported greater consumer spending through higher borrowing (Boyne 2006). The first indication of trouble with this economic model was the emergence of problems in the United States’ sub-prime mortgage market. This was followed by banks in both the United States and Europe, due their involvement in complex financial derivative products, being forced to admit their balance sheets contained high levels of toxic debt. In order to avoid a banking collapse on a scale not previously seen since the 1930s, governments were forced to intervene (Anon. 2007a). This resulted in a further massive increase in public sector deficits. The scale of these deficits was exacerbated in some Mediterranean countries because governments had made the mistake of stimulating even faster economic growth through excessive public sector borrowing (Connelly 2008). By 2009 the combined influence of all these events led to the only solution for many developed nation economies of having to implement major cuts in public spending. These cuts will continue to dampen economic growth for some years, severely reduce the scale of public sector purchasing from the private sector and be accompanied by public sector employees being made redundant (Anon. 2009a).

Cutbacks in public sector services will also result in some nations’ citizens having to allocate a much larger proportion of their disposable income to self-funding services in areas such as education, healthcare and pensions. Although it is difficult to precisely forecast the impact of these events, it is very certain that private sector organisations can expect a severe decline in sales as the average consumer faces some 5–10 years of significantly reduced personal incomes (Wallop 2010). This forecasted reduction in consumer spending in mature markets is already being felt by the major branded goods companies. David Polman, the CEO of Unilever, perceives slower growth in the face of smaller disposable incomes in the company’s mature markets. In his view there are real concerns about social cohesion and unemployment, not just in the peripheral nations of the EU such as Greece, Portugal or Spain but also among other core markets within mainland Europe. Unilever’s strategy includes ensuring brands offer consumer choice across different price points and accepting there will be brand switching as consumers seek to purchase products offering the best price/value relationship. However, Polman also believes the company must sustain a focus on innovation in order to develop new or improved products that respond to changing consumer buying behaviour in these mature markets (Lucas 2011).

RESOURCE AVAILABILITY

The ability of organisations to add value and offer prices acceptable to customers is heavily influenced by the cost of raw materials. Energy is a critical cost component for all organisations. In the early years of the 21st century the price of oil began to rise dramatically. To a large degree this rise was fuelled by the rapid growth in the Chinese and Indian economies (Rees 2008). Oil is a non-renewable resource and as the number of cars on the world’s roads continues to rise, especially in the emerging economies, this ongoing, ever-increasing demand for petrol will lead to higher oil prices (Moeller 2008). This outcome will concurrently trigger an upward climb in the price of other non-renewable energy resources such as coal and gas, thereby placing upward pressures on global electricity prices (Hartley et al. 2008).

Known and newly identified oil reserves, when linked to ongoing developments in new extraction technologies, will mean that the world is unlikely to run out of oil any time soon. Nevertheless the interaction between supply and demand will result in organisations facing rising costs for carbon-based fuels over the balance of the 21st century. This outcome will impact all other economic activities, from the extraction of minerals to manufacturing of products, production of services and the distribution of goods. Hence most organisations, especially those in engaged in highenergy consumption sectors such as the airline industry, will need to accept rising energy costs as a meta-event requiring careful attention during the development of future strategies.

The other major resource problem is growing shortages in the world’s food supplies. The underlying cause of this problem is that demand, especially in underdeveloped economies, is rising at a rate greater than can be sustained from available supplies (Rosen and Shapouri 2009). Currently the United Nations has judged approximately 40 percent of the world’s nations to be at risk from serious food shortages or already facing starvation. Although continued growth in the size of the world population is an important factor influencing food shortages, the amplitude of these shortages reflects an interaction between a number of factors. One factor is that over the last few years there has been a change in eating habits, with rising per capita incomes causing meat to become a more important component of diets in countries such as India, China and Brazil. This switch in eating habits is causing more of the world’s cereal output to be directed to the less productive agricultural process of feeding crops to cattle, with 7 kg of grain being required to produce 1 kg of beef. Additional pressure on grain prices has also occurred as countries such as the United States have diverted an increasing proportion of their corn harvest to the highly inefficient process of converting crops into bio-fuels. Together these two factors are considered to be major contributors to what has become known as ‘world food inflation’ (Hojjat 2009). To this scenario has been added financial investors’ speculation in commodities. This has further aggravated food price volatility (Singh 2009). Although most Western consumers will continue to afford to buy food, the inflation effect will reduce the proportion of disposable income available to spend on other purchases and lead to further increases in public sector operating costs in areas such as caring for patients in hospital (Singh 2009).

A critical issue which is related to both continuing utilisation of hydrocarbon energy sources and the ability of certain nations to grow sufficient food is global warming. The idea that burning ever larger amounts of fossil fuels could increase the level of carbon dioxide (or greenhouse gases) in the earth’s atmosphere was widely ignored until the publication of reports from the United Nations Intergovernmental Panel on Climate Change (IPCC). Obtaining acceptance of the threat posed by global warning initially proved extremely difficult for the IPCC. Eventually, under the auspices of the United Nations, in 1997 the world leaders met in Kyoto, Japan to discuss proposals about limiting carbon dioxide emissions (Cirman et al. 2009).

It is now accepted by most governments that unless ways are found to reverse current levels of greenhouse gas emissions, the world’s climate will become more volatile, ocean temperatures will rise and ice caps will melt at faster rates, eventually resulting in higher sea levels. A significant problem in responding to this threat is the ongoing difficulties in accurately predicting the potential environmental and economic impacts of global ...