The traditional approach to strategy is based on the assumption that by applying a certain set of analytical tools one can predict the future and choose a certain clear strategy for it. This often involves estimating uncertainty to lay out a vision for future events and applying the DCF method to analyze its profitability.
When the future is uncertain this approach can be downright dangerous. This can lead to strategies that neither defend the company against threats nor take advantage of opportunities that may come up.
making systematic sound strategic decisions under uncertainty requires a different approach. here is a framework for determining the level of uncertainty surrounding the strategic decision and for tailoring strategy to that uncertainty.
Four levels of uncertainty:
Available relevant information falls under two categories. First, it is often possible to identify trends that can help define potential demand for products and services. Second, many facts that are currently unknown are in fact knowable eg., the elasticity of demand, expansion of capacity by a competitor. The uncertainty that remains after the best possible analysis is called residual uncertainty. This falls into four levels.
Level 1: Clear enough future
The residual uncertainty is irrelevant enough not to make a difference to the strategic decision and so managers can develop a single forecast that is precise enough to create strategies. A standard strategy toolkit like value chain analysis, Micheal porter's five forces framework can be used to determine the value of strategies.
Strategy: Analysis is designed to predict the industry's future directions and strategy involves making decisions on the positioning choices about when and where to compete. They need not be incremental. You identify opportunities in low uncertainty environments, that can be developed within the existing market. You create enough value through innovations in products or services without fundamentally changing the industry.
A company can assume 3 types of postures and actions.
The postures can be shaping, adapting, and reserving the right to play.
Shaping is to drive the industry toward a new structure they devise. They create new opportunities by shaking up the market or trying to control the direction of the market.
Adapting assume the current industry structure as given and react to opportunities that the market offers.
The right to play is a special form of adaption involves making incremental investments putting the company in a better position through better information, cost structures that allow the company to wait until the uncertainty clears before strategizing.
Actions can be big bets, options, no-regret move.
Big bets involve big investments, large commitments that produce large payoffs, or big losses in some. this action is taken with shaping strategy which usually involves large bets.
Options are designed to secure big payoffs of best-case scenarios by minimizing losses in worst-case scenarios. Companies relying on the right to play depend heavily on options.
No regret moves ar emoves hat will pay off no matter what happens such as reducing costs, collecting competitive information or building skills.
Level 2: Alternative futures
The future can be described as one of a few discrete scenarios. Analysis cannot identify which outcome is possible though it may establish probabilities. The value of the strategy depended mainly on competitor's strategies which cannot be observed or predicted. here a set of discrete scenarios are prepared based on the understanding of how this may play out. The valuation model would differ for each scenario. Establishing the relative probabilities would be a high priority. particular attention should be paid to the likely paths for the industry so that trigger pints to monitor can be determined.
here a shaping strategy is normally adopted o increase the probability that a favorable scenario would emerge. You may build capacity far in excess of an upturn in demand or consolidate by mergers and acquisitions. However, choices of strategic postures are not carved in stone and have flexibility under uncertainty. You may supplement shaping strategy with options that allow them to change course quickly if required.
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Strategy under uncertainty by
Hugh G. Courtney, Jane Kirkland, and S. Patrick Viguerie
Mckinsey 2000/03
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