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Sector Matrix Modela a Tool for Business Analysis

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The traditional productionist chain concept of activity through which firms develop sustainable competitive advantage and shareholder value has recently been challenged by the sector matrix model established by Froud et al (1998).

Indeed, “drawing upon the unstable and unpredictable nature of modern business” (Teece, 2009), characterized by growing complexity and global integration of product markets and firms (Day & Nedungadi, 1994), Lynch (2008) argues value chains and systems are concerned with existing linkages and may thus miss totally new strategic opportunities.

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Yet keeping the strategic imperative of cost reduction to maintain return on capital, it “extends the field of the visible”by offering a broader picture of a firm’s strategic possibilities through an all rounded mindset of horizontal and vertical relations by considering separately the two webs of supply and demand (Froud et al, 1998).

This essay aims at demonstrating the sector matrix suitability for business analysis of a firm’s demand and supply linkages ; for this purpose, one will firstly focus on the commodity chain approach and its limitations in order to merge into the sector matrix view. The automobile/motoring sector is used as an illustrative case because of its complexity and multidimensional aspects (Olugu et al, 2011).

The value chain concept was first introduced in 1985 by Michael Porter as a ‘basic tool for diagnosing competitive advantage and finding ways of enhancing it’ (Porter,1985). His model encompasses a collection of value-generating activitiesviewed as supporting product and market development (Barnes, 2000) and found to be common to a wide range of firms. Primary activities are related with production whilst support activities provide the necessary background for the firm’s efficiency. Analysis of these activities provides the basis for decidingvia which generic strategy the organization can foster competitive advantage. For example, Japanese car producers are generally highly vertically disintegrated which implies the critical importance of management supplier interactions. The main goal is to offer the customer a level of value which exceeds costs (Macmillan et al 2000), thus resulting in profit margins as shown in the following figure.

(Source: Competitive Advantage. Creating and Sustaining Superior Performance by Michael E. Porte, 1985)

In a context of “functional integration between internationally dispersed activities” (Dicken, 1985) brought by globalization, Gereffi and Korzeniewicz (1994) designedthe ‘global commodity chain’ (GCC) model for cross sectioning spatial issues and economic activities across national boundaries. Focusing onthe spatial and political distribution of production, governmental structures and power relations, they make a distinction between producer or buyer dominated chains. The automobile industry fits in the producer-driven chain because of its capital intensive, multifaceted production systems andthe numerous firmsinvolved. Womack et al’sclaim thatglobal supply chains offer the basis for business analysis in international cars business is reflected when they utilizedlinear chain analysis to assess the benefits of Japanese lean production methods in The Machine that Changed the World (1990).

Subsequently, Kay(1993) located firms within contractual relations networks with a post functional perspective on advantage levers(reputation, innovation and architecture), similar to Prahalad and Hamel’s (1994) idea of the ‘firm acting on the industry to control its destiny’ through its core competences.

Before and after globalization, one remarksshared a priori among these different value chain approaches firstly through the understanding of the firm as a linear supply chainout of which costs can be taken out in order to restore/enhance/sustain competitiveness, from raw materials to after sales services.Then, a view of the industry as a “group of products associated with common technology, supply or distribution channels” (Kay, 1993) For example, a number of organisations involved in the car industryuse comparable assembly technologies even if they may differ regarding their organizational models. The shared concept of the value chain is illustrated in the next figure.

The strong emphasis on the supply side which highlights the vertical linkages between suppliers and final producers,informs managament how interventions on the value chain can deliver advantage.

The demand side’s weak horizontal linkages guide strategic policies choice of which value chain would best fitaccording to similar competitors and industry; for example, Fordist mass production, German VW or the Toyota model.

(Source: Froud et al, ‘Breaking the Chains? A Sector Matrix for Motoring’, 1998)

The value chain analysis is thus very convenient for firms producingsimple commodities such as cotton (whose value chain is expressed below) which do not require supplementary infrastructure or services after the distribution process. Indeed, once the finished product arrives to the final product market – as for example a cotton tee-shirt in a retail store–not much maintenance is needed; ‘after all, a pair of sports shoes does not need much maintenance or insurance’ (Froud et al 06)

(Source :http://www.intracen.org/BB-2011-03-14-Regional-Integration-and-the-African-Textile-Industry/)

One can consider the cotton’sjourney fits into Gereffi’s GCC production scheme : it crosses local, national and international boundaries; starting with farmers provision of cotton seeds to local traders,the exporting process then occurs into local/multinational firms for massive market manufacturing before ending up asa finished product, which is finally ready to be distributed.

Nonetheless, the first limitation of supply chain analysis lies in the assumption that its ability to assess strategic possibilities and limitations of firms operating in simple, throw-away products fails to fully do so for more complex activities such as the automobile.

Indeed, the automobile industry is highly integrated, complex and competitive in nature (Saeed et al, 2011) and instead of competing as individual firms, they are increasingly operating as elements of an overall supply chain (Peidro et al 09) which in turn results in great dependencies between them(Zhang 12) For instance, 2011 Fukushima natural disastersignificantly reverberated on the global automobile industry (Wilson 2011) because of its heavy integration and reliance. Managing such dependencies is essential thus relationships stakeholders/firm implyscrutiny in order to achieve “mutually defined goals”(Charan, 2012) Also, because of the external environment unpredictability, it uses its integration as a fundamental source of competitive advantage (Barney 2012).) For example, Lee (2011) observes shifts towards greener resolutions within supply chains. Last but not least, because of the verycyclical and mature traits of the automobile industry, Williams et al (1994) suggest value chain emphasis on cost reduction isn’t the only focal point anymore as current major growth opportunities reside in exploring new market segments such as niche marketing and specifically in the services sector (Haslam et al, 2009).

In order for a firm tofullycomprehendproduct markets, it seems appropriate to shift to a sector matrixanalysis ofthe motoring sectorbecause it mirrors its various dimensions and represents a “large component of consumer and household expenditure in all major advanced economies” (Froud et al, 1998). In turn, it showsvarious interactions between the demand and supply spheres.

The framework’s objective is to explore these interactions, which impact on strategic decision-making. It includes all household expenditure on motoring (all motoring-related complementary and substitutable products and services) rather than restrict demand to an individual’s expenditure on a new product. The firm is accordinglyconsidered as a financialized business consolidating profits through various activities operated across different sectors.For example, in the automobile industry, the supply side takes into accountnot only the suppliers but also activities such as finance companies, service operators or motor vehicle dealers. This viewpoint extension then makes possible an understanding of potential changes at anygiven stage of the supply chain, which results in a matrix of vertical and horizontal liaisons as illustrated in the next figure.

(Source: Froud et al, ‘Breaking the Chains? A Sector Matrix for Motoring’, 1998)

As one notes on the above figure, demand for close substitutes and complementary services is the starting point, because elasticity of demand constrains firms behaviours (Griffith et al, 2007) and thus determinescost-recovery possibilities in the product market.

For example, opportunities provided by used cars have undeniable impacts on demand for second-hand cars. Indeed, purchasing a second-hand car is interesting as the owner’s depreciation costs are excluded. This demand for close substitutes is important as itimplicates car manufacturers to interplay with second-hand car market dealers on the supply side.

Furthermore, viewing demand from different angles builds a gateway to understanding reasons forinstability of growth in the market.Froud et al (2005) stress the crucial importance of analyzing household income patterns inside and outside national boundaries by analyzing three interconnected variables – income, household type and physical location.Indeed, if income patterns in a certain region are low, consumption will automatically be tightened which will directly reverberate on the supply management. For example, the 2008 tight credit conditions meant reduced consumer spending, thus reduced demand (Neumark&Troske, 2012).

Also, whether the purchased car is new or used, the user will continuously spend money on various complementary services such as repair, tax and insurances and obviously fuel to keep the vehicle legal and running; these are generally expensive and representconsiderable proportions of household expenditure on motoring (Froud et al, 1998; 2005). Organisations providing these services are therefore includedin the supply side review,even if they mayuse different technologies or have their main stakes outside the motoring sector (for example, banking houses providing loans), because they capture profits in addition to the core manfuacturing activities. Haslam et al (2009) stress the importance of these organisations by pointing out the employment of these types of services outperform those manufacturing cars by a 2:1 factor in the UK and over 3:1 in the US.

As these products and services not directly related to the firm’s core operations are included in the analysis, a wider and deeper range of informations are provided for product market understanding thus fully informs strategic action. This matrix assumption constitutes a major difference from the value chain analysis. One may howeverstate that expansion of the services sector was not as significant at Porter’s time than today (Tomasini,1993). Yet, one notes GM’s President Sloan visionary understanding of business as a consolidation of a range of activities already in the 1920s in his ‘Principles and Policies Behind GM’ speech « not more than half GM profits come from manufacturing of motor cars (…) very large sums have gone in entirely different directions in expanding and establishing new activities entirely independent of motor car operations and some even outside the automotive industry”, reinforced by VW CEO Berndt Pischetrieder’smore recent recognition that “with car making you only make 8 or 12% of the value chain” (Froud et al, 2006)

One thus assumes strategic rewards are derived from non-manufacturing activities; indeed, by combining car manufacturing with services and finance such as Ford Option personal loans and finance deals, Ford was able to ensure strong financial returns and build customer loyalty. “The most important strategic development in the car business is not changes in the product or technology but in the selling of cars using new forms of finance” (Haslam et al, 2009). This matrix perspective redefines competition,which moves away from the value chain sole contest of manufacturing organizations.

In a context of ‘restless capitalism’ where “global business is no respecter of a linear value chain” (Froud et al, 1998), the sector matrix offers a wider angle of perspective in regards of contemporary product markets than the conventional value chain. Because it analyzes variables from different sectors, it is able to identify and exploit strategic opportunities and limitationsacross different social/institutional contexts – for example, Fiat’s failure with providing customers finance in Europe in 1995. One can argue the framework’s applicability can also be extended to commodities which are increasingly featured with additional services too.However, the broadness of the sector matrix analysis may find its limitations in the fact that it gets away from firm specifics focus.

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