PORTER’S STRATEGY, VALUE CHAINS AND

COMPETITIVE ADVANTAGE

Vasile Voicu Pantea, Luiela Magdalena Csorba, Olga Irina

Maxim
University “Aurel Vlaicu” of Arad

Abstract: A strategy means the plans and actions necessary to

achieve the goals of an organization. Porter defines business
strategy as "a broad formula for how a business is going to
compete, what its goals should be, and what policies will be
needed to carry out these goals." He recommends for strategy
formation a the three-phase process. The “Five Forces” diagram
reflect the main idea of Porter’s theory of competitive advantage,
defining the rules of competition in any industry. The five forces
are: industry competitors, buyers, suppliers, substitutes, potential
entrants. The term “value chain” is suggesting that the chain was
made up of a series of activities that added value to products the
company sold.

Key words: strategy, competition, competitive advantage, value

chain.

Defining a strategy
A strategy means the plans and actions necessary to
achieve the goals of an organization. The manager must
consider the strengths and weaknesses on their own
organization and its competitors and to know the external
environment threats and opportunities. The most important
theory about the business strategies was elaborated by
Michael Porter in his book “Competitive strategy:
Techniques for Analyzing Industries and Competitors” in
1980. In this book Porter analyzed the various sources of
environmental threats and opportunities and described how
companies could position themselves in the marketplace.

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 Porter defines business strategy as "a broad formula for
how a business is going to compete, what its goals should
be, and what policies will be needed to carry out these
goals." He recommends for strategy formation a the three-
phase process (figure1):

Phase 1: What is the company doing now ?

1. Identify current strategy
2. Identify assumptions

Phase 2: What is happening in the environment ?

1. Identify key factors for success and failure in the industry
2. Identify capabilities and limitations of competitors
3. Identify likely government and societal changes
4. Identify company’s strengths and weakness relative to
competitors

Phase 3: What should the company do next ?

1. Compare present strategy to environmental situation
2. Identify alternative course of action
3. Choose best alternative

Figure 1 Porter's process for defining a company strategy.

(Source: Porter M., Competitive Strategy.)

 Phase 1: Determine the current position of the company.

The formal strategy process begins with a definition of
where the company is now - what its current strategy is -
and the assumptions that the company managers currently
make about the company's current position, strengths and
weaknesses, competitors, and industry trends. Most large
companies have a formal strategy and have already gone
through this exercise several times. Indeed, most large
companies have a strategy committee that constantly
monitors the company's strategy.
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 Phase 2: Determine what's happening in the
environment. In the second phase of Porter's strategy
process the team developing the strategy considers what is
happening in the environment and ignores the assumptions
the company makes at the moment and gathers intelligence
that will allow them to formulate a current statement of
environmental constraints and opportunities facing all the
companies in their industry. The team examines trends in
the industry the company is in, and reviews the capabilities
and limitations of competitors. It also reviews likely
changes in society and government policy that might affect
the business. When the team has finished its current review,
it reconsiders the company's strengths and weaknesses,
relative to the current environmental conditions.
 Phase 3: Determine a new strategy for the company.
During the third phase, the strategy team compares the
company's existing strategy with the latest analysis of
what's happening in the environment. The team generates a
number of scenarios or alternate courses of action that the
company could pursue. In effect, the company imagines a
number of situations the company could find itself in a few
months or years hence and works backward to imagine what
policies, technologies, and organizational changes would be
required, during the intermediate period, to reach each
situation. Finally, the company's strategy committee,
working with the company's executive committee, selects
one alter native and begins to make the changes necessary
to implement the company's new strategy.
Porter’s model of competition
The “Five Forces” diagram (figure 2) reflect the main
idea of Porter’s theory of competitive advantage, defining
the rules of competition in any industry. The five forces are:
industry competitors, buyers, suppliers, substitutes,
potential entrants.

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 Potential
Entrants

Threat of
New Entrants

Industry
Bargaining Power Competitors Bargaining Power
of Buyers of
Buyers Your organization Suppliers Suppliers

Rivalry among existing

firms

Threat of
Substitutes

Substitutes

Figure 2: Porter's 5 Forces - Elements of Industry Structure

(Source: M. Porter, Competitive Advantage,1985)

The buyers want to buy the company’s products at the

lowest prices. There are two situations: if the company is
the only source the company will keep higher prices, or the
invert situation, if there are many companies with similar
prices who made the product, it will be obligated to reduce
the prices.
Suppliers want to sell their products for a higher price.
If the suppliers are the only source of a needed product or if
there is lots of demand for a relatively rare product, then
suppliers will tend to have more power and will increase
their prices. If the suppliers products is widely available, or
available more cheaply from someone else, the company
(buyer) will try to force the supplier's price down.
Companies in every industry also need to watch to see
that no products or services become available that might
function as substitutes for the products or services the
company sells. At a minimum, a substitute product can
drive down the company's prices and even can product
bankruptcy.
Finally, there is the threat that new companies will enter
an industry and the competition will increase, driving up the
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cost of products and lowering each company's profit
margins.
Potter describes competition says that most companies
follow one of three generic strategies: cost leadership,
differentiation, and niche specialization.
The cost leadership is the company that can offer the
product at the cheapest price. In most industries, price can
be driven down by economies of scale, by the control of
suppliers and channels, and by experience that allows a
company to do things more efficiently. In most industries,
large companies dominate the manufacture of products in
huge volume and sell them more cheaply than their smaller
rivals.
If a company can't sell its products for the cheapest
price, an alternative is to offer better or more desirable
products. Customers are often willing to pay a premium for
a better product, and this allows companies specialize in
producing a better product to compete with those selling a
cheaper but less desirable product.
Niche specialist’s focus on specific buyers, specific
segments of the market, or buyers in particular geographical
markets and often only offer a subset of the products
typically sold in the industry. They represent an extreme
version of differentiation, and they can charge a premium
for their products, since the products have special features
beneficial to the consumers in the niche.
Porter’s Theory of Competitive Advantage
The term value refers to value that a customer perceives
and is willing to pay for. The idea of the value chain is that
each activity in the chain or sequence adds some value to
the final product. It's assumed that if you asked the
customer about each of the steps, the customer would agree
that the step added something to the value of the product. A
value proposition describes, in general terms, a product or
service that the customer is willing to pay for.
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 There are some activities or steps that don't add value,
directly, but facilitate adding value. These are often called
value-enabling activities. Thus acquiring the parts that will
later be used to assemble a product is a value-enabling
activity. The key reason to focus on value, however, is,
ultimately, to identify activities that are non-value-adding
activities. These are activities that have been incorporated
into a process, for one reason or another, that no longer add
any value to the final product. Non-value-adding activities
should be eliminated.
Many individual subprocesses must be combined to
create a complete value chain. Every process, subprocess, or
activity that contributes to the cost of producing a given line
of products must be combined. Once all the costs are
combined and subtracted from the gross income from the
sale of the products, one derives the profit margin
associated with the product line. Porter discriminates
between primary processes or activities, and includes in-
bound logistics, operations, outbound logistics, marketing
and sales, and service. He also includes support processes or
activities, including procurement, technology development,
human resource management, and firm infrastructure, which
includes finance and senior management activities.
The term “value chain” is suggesting that the chain was
made up of a series of activities that added value to products
the company sold. Some activities would take raw materials
and turn them into an assembled mechanism that sold for
considerably more than the raw materials cost. That
additional value would indicate the value added by the
manufacturing process. One goal of many process redesign
efforts is to eliminate or minimize the number of non-value-
adding activities in a given process.
In his book, Porter has defined the competitive advantage
and shows how value chains were the key to maintaining
competitive advantage. He considered that a strategy depends

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on defining a company position that the company can use to
maintain a competitive advantage. A position simply describes
the goals of the company and how it explains those goals to its
customers.
A competitive advantage occurs when your company can
make more profits selling its product or service than its
competitors can. The managers have to establish a long-term
competitive advantage. This provides the best possible return,
over an extended period, for the effort involved in creating a
process and bringing a product or service to market. A
company with a competitive advantage is not the largest
company in its industry, but is the one that is selling a desirable
product and is producing great profits. There are two variables
that determine a company's profitability: the industry
structure, that imposes broad constraints on what a company
can offer and charge and a competitive advantage that results
from a strategy and a well-implemented value chain that lets a
company outperform the average competitor in an industry
over a sustained period of time.
In conclusion, in Porter's books, companies that create
and sustain competitive advantage do it because they have
the discipline to choose a strategic position and then remain
concentrated on it. They gradually refine their business
processes and the fit of their activities so that their
efficiencies are very hard for competitors to follow.

References:

1. Nicolescu Ovidiu, Strategii manageriale de firmă, Editura

Economică, 1996 ;
2. Popa Ion, Management strategic, Editura Economică,
Bucureşti, 2004;
3. Porter Michael, Competitive Advantage, The Free Press, NY,
1985;
4. Porter Michael, "What is strategy?" Harvard Business
Review v74, n6, Nov-Dec, 1996).
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