Strategic Management: Sector Matrix Framework vs. Commodity Chain Analysis
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Extinction of the linear value chain as a means of analyzing the product market is becoming seemingly necessary with the global rise and expansion of industries and sectors. Demand and supply relations are constantly interfering with each other hence disregarding use of commodity chains as an effective way to understand the market demand. Understanding the product market is a challenge that cannot be overlooked because every business relies on the market for its profitability. The management has a task to integrate the factors of production so as to profit from the business through reduction of costs while maintaining quality to improve customer base. Porter’s use of the supply chain to study the product market defines a sector as a group or collection of firms producing the same products while using the same or similar technology to develop the products. This implies that market is likely to be similar for these goods and therefore the concept of value added is appropriate for studying the product market (Porter, 1985: 29-38).
Haslan and Neale (2000: 87-96) on the other hand describe the use of the commodity chains as lacking in the study of the overall economy. According to Cohen (1995: 331-345) market for goods is not only determined by the different prices set by the separate firms in that particular sector but also by other sectors in the economy. The consumer’s budget cannot be predicted and changing trends will always come with new kinds of demand (Cohen (1995: 21-36). According to Haslan and Neale (2000:87), using the value chain only succeeds in influencing the firms to seek for cost control and recovery in order to maximize profits. The supply chain analysis leads to strategic decisions and policies of re-organizing the chain to give the firm a competitive advantage over other firms. In other words, the commodity chain bases its choice for business strategy only on the best value chain. The commodity chain analysis limits the businesses to using the linear supply chain and confides their analysis within the sector or across the industry.
The sector matrix on the other hand provides a better strategy for the product market because it deviates form the traditional supply chain analysis taking into consideration other sectors in the economy. The sector matrix is defined by Froud et al (1999: 6-25) as the study or analysis of a sector in relation to other sectors. It aims at analyzing how one sector as part of the economy interacts with other sectors and how market forces not part of demand and supply affect business. It must be noted however that the firm will still aim at minimizing costs and maximizing sales. When it comes to using the sector matrix, the business aims not only on concentrating on the sector from which they solicit their profits and incomes but on the entire economy as a whole. Instead of analyzing demand from the individual market, we take the whole household as a consumption unit. As we will realize, household expenditure is limited by how their priorities are set and the income constraint. Decisions can no longer be based on individual customers as they are highly influenced by family decisions. In addition, factors influencing demand vary from household to household and are influenced by the amount of disposable income available to them (Cohen, 1995: 21-31).
In order to explain the dichotomy existing between commodity supply chains and sector matrix and which of the two methods best analyzes the product market, we are going to take the example of the motoring sector. At the end of 2007, Business Week magazine reported a slumping demand for motor vehicles with many companies reporting excess supply as the market demand was not enough to take up all the vehicles produced (Jim 2007: 12-14). Major auto companies such as Ford, Chrysler, Toyota, Mazda among others have set to analyze the market to establish the cause of the demand in the past (Whisler, 2000: 25-38). We will use the example of Toyota’s market study in 1999 to go through the case study.
Toyota is a Japanese firm which over the years has penetrated the American market giving substantial competition to the big three; Chrysler, Ford and General Motors. Alarmed at the rate at which demand for motor vehicles has been declining despite the introduction of new models, Toyota set out to conduct a market survey in America to help it in channeling its strategies to fit the market. Among the major findings were competition from other players in the motor industries but most significant was the influence of various factors in the consumer’s buyer behaviour.
According to Porter, Toyota could evaluate the commodity chain in a bid to re-organize its use of factors of production to reduce the costs and subsequently win the market over its competitors through lower prices. This is analyzing the product market from the commodity supply chain. Use of the commodity chain strategy would mean reducing costs through supply substitution and reduction in the costs of labour to offer a competitive edge. The supply chain according to porter would help Toyota to improve on its production of newer models that would beat its competitors which is a good idea. Decisions taken using the supply chain however may not reflect the actual situation at the market and the reforms may not change the situation much. Policies taken to reduce the cost of labour can take time to be implemented and may end up having limited benefits since the costs may eventually be passed on to the final consumer (Haslan and Neale (2000: 95). Below is a representation of the supply chain for Toyota ltd.
Designers Suppliers Toyota Dealers Consumers.
The use of supply chain to assess a sector however has proved to be limiting as it concentrates so much on the supply side leaving out or analyzing very little on the demand side. Vertical linkages which form the connections between suppliers and the final distributors or manufacturers are highly emphasized in commodity chain analysis. Horizontal linkages on the demand side however show that the competition is determined by the firms in the sector which is not very exhaustive.
The sector matrix brings in a more detailed analysis of the market because apart from looking at the supply chain of the given sector, it incorporates the sector in a whole market economy scenario. The sector matrix makes use of other forces affecting demand other than price and competitors’ products. This offers a wide range of analytical material that can be used to take steps to improving the demand for motor vehicles and if not so come up with solutions to dealing with the financial difficulties through other means not necessarily confined to the motoring sector. As stated above, expenditure is more constrained to the budget of the household such that the household aims at satisfying its needs without neglecting others. Knowledge of the market shows demand as being affected by many factors. After several studies in the American market, Toyota discovered that the following major factors affecting demand are responsible for the fall in prices. They have so far designed strategies to try and deal with the current situation of falling motor vehicle demand.
The service sector.
Toyota realizes that the buying decision of the customer does not end at the purchase of the motor vehicle. Complimentary services needed either before or after the purchase of the vehicle will most definitely affect the choice of customers. Consider this car will need, fuel, tax, insurance, service and repair all which the customer will need to incorporate in his buying decision. Increase in oil prices have raised significantly over the last few years prompting motorists to cut down on the expenses through using public means (Whisler, 2000: 125-181). Likewise, purchases of cars have gone down due to similar conditions. The financial sector plays a major role in purchases of vehicles as the banks provide easy access to money through consumer credit. According to Jim, 2007: 13-15), the current economic global crisis has led to high interests on loans and thus many consumers may not access them. This will in fact limit the vehicle purchases. We realize that the financial services sector including banks and insurance is in a completely different sector in the economy yet the activities in one sector must affect the other.
Can the demand be caused by substitution? Toyota discovered that second hand cars have made a market of their own separate from new cars causing the fall of demand for new cars. Furthermore, second hand vehicles are cheaper due to the reduction in value once the car has been used. This means the customer avoids suffering the initial costs of depreciation. Propensity of buying cars according to Toyota has gone down significantly since 1995. In 1999, only 30% of households with a disposable income of $25,000 to $40,000 were willing to purchase new cars. For Toyota has to survive and to do this it has started the sale of a combination of new and used cars to capture the market. Through different agencies has established car hire to tap markets of customers who cannot afford to buy new cars.
What if the current vehicles produced are durable enough such that people do not need to keep purchasing new ones for replacement? Quality improvement goes with durability and in strategies aimed at increasing markets through high quality vehicles has led to reduction in vehicle replacement. This is explained by Haslan and Neale (2000: 87-96) as the duration of maturity of demand or replacement demand. It represents the time a consumer takes to demand a new product. Toyota could not possibly reduce quality in a bid to reduce its prices as this would put it at a competitive disadvantage.
From the above example, we can conclude that a sector matrix analysis is much more informative than a commodity schedule analysis because it provides a reasonable base to make strategic business solutions. A sector matrix as opposed to product chain analysis reveals more complex possibilities explaining the nature of the market production and financial interaction between different sectors (Froud et al, 1999: 290-234). Matrix model helps firms to make important decisions. Toyota for example now combines car dealership with dealer finance as well as customer finance to help customers in purchasing its cars. This shifts the vehicle customer market from the financial sector which is outside the motoring matrix re-directing earnings in their direction (Haslan and Neale (2000: 105). The decision to enhance its after sales services to include repair and maintenance may actually push sales up than when the firm would have concentrated on reducing supplier prices. Diversifying production to include financial services has given Toyota a market advantage and interest earned from the loans provides an extra source of finance. In 1996 for example, 17% of Toyota’s income came from financial services.
The use of the sector matrix helps the business to achieve the objective of understanding how different relations on the demand as well as the supply affect the business. Essentially, it means that profitability of a business is not only affected by its interaction with the supply chain and competitors within the sector but also on other interacting factors in the economy as a whole. According to Cohen, (1995: 19-44), a business needs to know how it is doing in the market and the possible new markets to explore.
The supply chain method cannot be overlooked altogether. According to Haslan and Neale (2000: 100), the supply chain analysis is still valuable for small and simple companies especially those dealing with production of fast moving goods such as clothing. This is because they may not require extensive infrastructure and they are not extensively affected by the other sectors such as the complementary services sector. Care should however be taken to avoid over-relying on reducing the expenses through altering the supply chain and reducing labour costs as this may reduce the quality of goods leading to reverse outcomes.
Cohen, W.A. (1995). The marketing plan. New York: John Willey & Sons.
Froud et al. (1998). Breaking the Chains? A Sector Matrix for Motoring in Competition and Change vol 3, p. 293-334.
Haslam, C. & Neale, A. (2000). Economics in a business context . Cengage Learning EMEA.
Jim H., (2007). How Bad is U.S Auto Market? Toyota is feeling it too. Business week.
Porter, M. E. (1985). Competitive Advantage. New York: Free Press.
Whisler, T. R., (2000). The British Motor Industry, 1945-94: A Case Study in Industrial Decline. Reviewed by Gary B. Magee. Harvard Business School, Business History Review vol 75 issue no 4.