International Business Strategy Lecture 3: Institution views on strategy

Prof Mo YaminMo.Yamin@manchester.ac.ukwww.manchester.ac.uk/research/mo.yamin

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Agenda for today’s lecture

• Introducing the institutional perspective on strategy » What are institutions

• Dimensions of strategy» What do institutions do ?....( reduce uncertainty)

• How do informal and formal institutions reduce uncertainty?» Two core prepositions of the institution-based view on strategy

• Revisiting the strategy Tripod : applying it to explain Walmart's failure in Germany» Industry –based factors » Resource –based factors » Institution-based factors

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What are Institutions : definitions

“Humanly devised constraints that structure human interaction” (North) Informally known as the ‘rules of the game’

“Regulatory, normative, and cognitive structures and activities that provide stability and meaning to social behavior” (Scott)

Formal institutions : Institutions represented by laws and regulations

Informal Institutions : institutions represented by norms ,cultures and ethics

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Norms, cultures and ethics : definitions

• Norms : ‘the prevailing practices of relevant players that affect the focal individual and firms’

• Cultures : ‘the collective programming of the mind that distinguishes members of one group or category of people from another’

• Ethics: norms , principle and standards of conduct governing Individual and firm behaviour

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© 2013 Cengage Learning. All rights reserved.

Dimensions of INSTITUTIONS

© 2013 Cengage Learning. All rights reserved.

LO1: TWO TYPES OF INSTITUTIONS

Formal institutions:laws, regulations, and rules.

Regulatory pillar:coercive power of governments

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© 2013 Cengage Learning. All rights reserved.

LO1: TWO TYPES OF INSTITUTIONS

Informal institutions:norms, culture, and ethics.

Normative pillar - how the values, beliefs, and actions of other relevant players influence the behavior of focal individuals and firms.

Cognitive pillar – internalized values and beliefs that guide individual and firm behavior.

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Understanding Institutions (cont’d)

• What Do Institutions Do? » Key function - Reduce uncertainty

• How Do Institutions Reduce Uncertainty?» by constraining the range of acceptable actions.

• Political or economic uncertainty can be potentially devastating to firms because uncertainty surrounding economic transactions can lead to the costs of doing business (transaction costs).

• Transaction costs also rise from opportunism, the act of seeking self-interest with guile. – Institutions spell out the rules of the game, mitigating violations and

keeping transaction costs minimal.

how do informal and formal institutions reduce uncertainty ?

• Informal institutions reduce uncertainty through ‘relational contracting’» informal, relationship-based, personalized exchanges

• No formal third party enforcement. • Informal sanction: Loss of reputation constrains opportunism.• Main cost: need to build and maintain strong social network (slide 10)

• Formal institutions reduce uncertainty through ‘arms-length transactions’» Formal , rule-based impersonal exchange with third party

enforcement• Opportunism constrained through the imposition of legal sanctions • Main cost: The creation of the enforcement infra-structure : courts ,

lawyers , police, prisons , credit agencies (slide 11)

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The Costs and Benefits of Informal, Relationship-Based, Personalized Exchange

Figure 4.1

The Costs and Benefits of Formal, Rule-Based, Impersonal Exchange

Figure 4.2

An Institution-Based View of Strategy

• A perspective on strategy that argues that in addition to industry and firm level conditions firms also need to take into account wider influences from sources such as the state and society when crafting strategy

• Strategic choices are direct outcomes of the dynamic interaction between institutions and firms

Institutions , Firms and strategic choices

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Two Core Propositions : Proposition 1

• Managers and firms rationally pursue their interests and make choices within the formal and informal constraints in a given institutional framework.

»firms’ success is correlated to monitoring, decoding, and adapting to changing rules of the game• Managers are ‘boundedly rational’ –they make

decisions in the absence of complete information

Two core propositions: Proposition 2

• While formal and informal constraints combine to govern firm behavior, in situations where formal constraints are unclear or fail, informal constraints will play a larger role in reducing uncertainty to managers and firms.

• This is particularly relevant in emerging markets .» Striking differences between institutions in developed and

emerging economies has pushed the institution-based view to the forefront.

» monitoring, decoding, and adapting to changing rules of the game in emerging markets may be particularly challenging for Western companies

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Agenda for today’s lecture

• Introducing the institutional perspective on strategy » What are institutions

• Dimensions of strategy» What do institutions do ?....( reduce uncertainty)

• How do informal and formal institutions reduce uncertainty?» Two core prepositions of the institution based view on strategy

• Revisiting the Strategy Tripod : applying it to explain Walmart's failure in Germany» Industry –based factors » Resource –based factors » Institution-based factors

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Strategy tripod

• Three theoretical perspectives on strategy provide their own distinctive ‘answers’ to the four fundamental questions*» Industry-based view - focusses on the degree of competitiveness in

the industry as the critical influence on a firm’s strategic positioning in the industry

» Resource-based view -emphasizes firm specific differences in capabilities as the main driver of strategic behavior and performance

» Institution-based view - highlights the importance of context- shaped by institutional forces- particularly when companies operate outside their home market

• The idea of the ‘strategy tripod’ is simply that combining these three perspectives provides a more robust understanding of strategy

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Remember that a firm’s strategy is defined as

• Its theory of how to compete successfully» A ‘good’ theory is one that corresponds to ‘external’ and’ internal’ realities affecting a

particular firm

• External realities refer to the industry context and the institutional setting within which firms compete . The internal reality refers to the resources and capabilities the firm uses to achieve its strategic aim. – A ‘good theory’ receives support from the three ‘pillars’ . A ‘ bad’ theory receives no or weak support.

• Walmart’s theory of its business was based on the belief that ‘everyday low price’ Is a powerful weapon with which to compete : it is an unbeatable proposition» This worked in the US and Mexico and to a lesser degree in the UK and Canada

» It did not work in Germany, Europe’s largest retail market. Why not ?

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Industry based factors relevant to Walmart in Germany

• rivalry amongst competitors in German retailing » ‘hard discounters’ led by Aldi and Lidl have strong market shares

• Walmart could not implement or defend its cost leadership against main competitors

» Large market share gave the incumbents retailers strong bargaining position with suppliers* • Its low market share significantly weakened Walmart’s bargaining

power with suppliers • Exist Barriers » German retailers are mostly family-owned –or organized as co-

operatives. The don’t have to satisfy shareholders and can better withstand cost competition. • Walmart could not drive out the smaller , less profitable competitors

• Overall Walmart’s position vis-a-via the five forces was weak20

Resources and capabilities

• "everyday low prices" not achieved » Despite its enormous financial and managerial resources and its

legendary reputation ,Germany’s biggest market-research institute, demystified Wal-Mart’s fundamental value proposition

“everyday low prices” as a (largely) empty promise

• Wal-Mart had not been able to systematically undercut Aldi and the other hard discounters

• its assortment was not even substantially cheaper then the traditional ( i.e non-discounters)retailers’ offerings

• even some of its store managers complained about 'low American quality standards” of most merchandise

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Neither "everyday low prices" nor "excellent service“

• Wal-Mart Germany has not succeeded in delivering on the second part of

• its value proposition – “excellent customer service” – either. By contrast the company has repeatedly been rated as only just or even slightly below average in terms of overall consumer satisfaction

Walmart’ strategy in Germany failed the VIRO test : mostly because it failed to offer value that was rare and could not be matched by its main rivals in Germany

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Institutional factors relevant to Walmart’s poor performances in Germany : Formal Aspects

• Retail-Specific Legislation» At a maximum of 80 hours a week store opening hours in Germany

are among the shortest in Europe ( see table in next slide). Sunday and holiday openings are not permitted at all.

» Germany’s fair trading laws forbid merchants to sell goods below cost on a permanent basis.• A pricing strategy focussed on loss-leaders was very likely to be illegal under

German law (but more often than not perfectly legal in the US and UK)

• Employment regulations » strict worker protection regulations, making surplus workers

redundant can be a complicated, and costly in Germany• Overall formal institutions significantly reduced Walmart’s

ability to implement a cost leadership strategy 23

Store opening hours in selected EU countries

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Informal institutions :Norms and practices

• Wal-Mart is a strictly non-union employer

• In Germany unions, wield enormous influence– both in the political sphere and on the shop floor

» Centralized wage-bargaining process is the standard procedure for determining wages in Germany • in retailing the relevant union, and the retailers’ employers’ association

agree upon.

• Walmart refused to accept the centralised agreements leading to many labour disputes and disruptions

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Norms and cultures affecting Walmart’s in-store operations

• ‘Ten-Feet Rule’ of Walmart ( see next slide) was seen in Germany as fake and not genuine because the employees are strangers, and thus, shoppers did not appreciate it. » it is not the norm to express emotions in business relations.

Shoppers think it weird that a stranger smiles and talks to them during their shopping activity.

» The same applies to the idea of ‘greeters’ in the stores

• shoppers unaware of key role of ‘greeters’ in Wal-Mart’s service concept had repeatedly complained that they had been harassed by strangers on store premises !

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Ten-Feet Rule of Walmart

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Overview

• What are institutions , what are their key dimensions? • What do they do and how?• Core proposition of the institution-based view on strategy • Applying the strategy tripod to Walmart in Germany

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