Mb311- July 05

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Question Paper

Business Policy & Strategy (MB311): July 2005 Section A : Basic Concepts (30 Marks) • • • •

1.

This section consists of questions with serial number 1 - 30. Answer all questions. Each question carries one mark. Maximum time for answering Section A is 30 Minutes.

Which among the following is studied with reference to the size, growth rate, age composition, sex < Answer > composition, life expectancy etc. of the population? (a) Social environment (c) Ethical environment (e) Economic environment.

2.

Firms usually source raw material from external suppliers and process them to produce the desired < Answer > product. However, some firms may attempt to produce the raw material or some components on their own. For example, Levi’s manufactures the cloth required for making jeans. Which of the following best describes this strategy? (a) Acquisition (c) Backward integration (e) Forward integration.

3.

(b) Activity ratios (e) Turnover ratios.

(c) Premise control < Answer >

To divide firms activities into two major categories To acquire in-depth understanding of firms capability To create competitive advantage To create value for both producer of products or service and its users A process of internal analysis. < Answer >

Low barriers to entry High barriers to entry High barriers to entry; with low product differentiation Low barriers to entry; with high product differentiation Low barriers to entry; with low product differentiation.

Irena has been assigned to work on the development of a budget that plans future investments in major < Answer > assets such as building and heavy machinery. Irena is working on a (n) (a) Cash budget (c) Revenue budget (e) Expense budget.

9.

(b) Special alert control (e) Strategic surveillance.

Which of the following are the characteristics of fragmented industries? (a) (b) (c) (d) (e)

8.

< Answer >

(c) Profitability ratios

Which of the following statements would hold true for the assumptions of value chain analysis? (a) (b) (c) (d) (e)

7.

(c) Simple structure

Which of the following controls reflects the need to thoroughly reconsider the firm’s basic strategy < Answer > based on a sudden unexpected event? (a) Implementation control (d) Operational control

6.

(b) Functional structure (e) Geographic structure.

Which of the following ratios is used to measure the effective utilization of firms resources? (a) Liquidity ratios (d) Leverage ratios

5.

(b) Horizontal integration (d) Diversification

In which of the following structures, functional and product forms are combined simultaneously at the < Answer > same level of the organization? (a) Divisional structure (d) Matrix structure

4.

(b) Cultural environment (d) Demographic environment

(b) Capital budget (d) Operating budget

The structure of organization is based on the strategy of the firm. Which statement(s) support(s) the < Answer > choice of structure as a function of strategy? I. II. III.

In implementing strategy, all forms of organizational structure are not equally effective In large organizations, structure seems to have a life of their own Sheer growth can make restructuring essential

Page 2 of 17 IV.

Understanding the structure, strategy relationship is provided by research on corporate segment

(a) (c) (e)

Only (I) above Both (II) and (III) above All (I), (II), (III) and (IV) above.

(b) Both (I) and (II) above (d) Both (II) and (IV) above

10. The vision of an organization becomes more tangible when it is expressed in the form of (a)

Objectives statement (d) Policies

(b) Goals

< Answer >

(c) Mission

(e) Procedures. < Answer >

11. The difference between a merger and a joint venture is (a) (b)

There is no profit sharing in joint ventures while in mergers partners share their profits In joint venture when two firms combine there is no organizational autonomy left between them while it is not so in the case of mergers (c) When two firms go for a joint venture they maintain their separate legal entity whereas it is not the case with merger (d) Joint venture is for unforeseeable future which is not the case with mergers (e) In joint venture there is no expectation of profit. 12. Which of these, according to Porter, is not a support activity in a manufacturing firm's value chain? (a) Firm infrastructure (b) Marketing and sales (c) Human resource management (d) Procurement

< Answer >

(e) General administration.

13. Managers play a key role in the decision-making system of the business. Which of the following does < Answer > not come under the decisional roles category? (a) Negotiator (c) Entrepreneur (e) Disturbance handler.

(b) Resource allocator (d) Liaison role

14. Which of the following strategies describes the pricing policy where the company brings a product to < Answer > the market with a remarkably low price? (a) Skimming price (b) Penetration price (c) Cost-plus price (d) Virtual price

(e) Push price.

15. The collection of beliefs, expectations and values learned and shared by a corporation's members and < Answer > transmitted from one generation of employees to another is known as (a) Cultural Integration (c) Corporate Culture (e) Corporate Identity.

(b) Cultural Intensity (d) Corporate Integration

16. The management of change in any company generally fails for one reason, i.e. an inadequate < Answer > understanding on the part of top management. Quinn argues that the hardest part of strategic management is implementation of change. The roles of strategic leaders are critical in the process because they are responsible for the proposed change. Which of the following statements is contradictory to the Quinn’s Incremental Model? (a) (b) (c) (d) (e)

The strategic leaders will develop their information channels within and extend to the organization The strategic leader should generate awareness of the desired change within the organization The strategy will be floated as a clear major change so that it will attract minimum resistance In the initial period, the strategy will be flexible, so that changes can be made in the light of trials Finally, the proposed changes will be formalized and ideally accepted within the organization. < Answer >

17. Grand strategies refers to the strategies that (a) (b) (c) (d) (e)

Involve diversification into related/unrelated business Are aimed at creating entry barriers in the industry Indicate the methods to be used to achieve the company’s objectives Lead to a redefinition of the company’s culture/mission Implement new ideas.

18. The process by which strategies and policies are put into action through the development of programs, < Answer > budgets, and procedures is known as (a) Strategy formulation (c) Strategy control

(b) Strategy implementation (d) Strategy manipulation (e) Strategy direction.

19. When an acquiring firm is focusing purely on the profit pattern of the venture and is little concerned < Answer > with creating product/market synergy with existing businesses, it is commonly referred to as

Page 3 of 17 (a) Concentric diversification (c) Horizontal integration (e) Vertical integration.

(b) Backward integration (d) Conglomerate diversification < Answer >

20. Two reasons for mergers and acquisitions are (a) (b) (c) (d) (e)

To increase managerial staff and to minimize economies of scale To reduce tax obligations and increase managerial staff To create seasonal trends in sales and to make better use of a new sales force To provide improved capacity utilization and to gain new technology To divest assets and to improve economies of scale.

21. Which power is used in the advertisements of shirts like Van Heusen and Arrow to show how group < Answer > acceptance takes place through wearing their shirts? (a) Expert power (c) Legitimate power

(b) Coercive power (d) Referent power

(e) Reward power.

22. Technological transfer, market sharing and investment sharing are involved in a/an (a) Acquisition (c) Turnkey operation (e) Wholly owned subsidiary.

< Answer >

(b) Management contracts (d) Joint venture

23. Cultural, legal, political and economic conditions may dictate different optimum operating practices < Answer > from one country to another. This leads to adoption of (a) Multi-domestic strategy (c) Nationalistic strategy (e) Regional strategy.

(b) Global strategy (d) Transnational strategy

24. Which of the following features of a market encourages a firm to enter the market? (a) (b) (c) (d) (e)

< Answer >

High competitive advantage, high risk, high market attractiveness Low competitive advantage, low risk, high market attractiveness High competitive advantage, high risk, high exit barrier Low competitive advantage, high risk, high market attractiveness High competitive advantage, low risk, high market attractiveness.

25. Which of the following does not support the contingency approach to strategic choice? (a) A downturn in the economy (c) A technological break through management (e) Shortage of critical material.

< Answer >

(b) A labour strike (d) Change in firm’s

26. Which of the following statements is/are correct with regard to competitive scope of the value chain?

< Answer >

I. II.

In segment scope, the buyers are served by a variety of products. The extent to which activities are performed by independent firm instead of in-house is analyzed under vertical scope. III. In industry scope the firms view with a coordinated strategy in the range of related industries. (a) Only (I) above (c) Both (I) and (III) above (e) All (I), (II) and (III) above.

(b) Only (II) above (d) Both (II) and (III) above

27. Which of the following is not an appropriate Question Mark division strategy for a product in the BCG < Answer > Matrix? (a) Product development (c) Market penetration diversification (e) Innovation.

(b) Divestiture (d) Conglomerate

28. Change is any alteration of the status quo. Organizational change is a substantive modification to some < Answer > part or the entire part of the organization. Which of the following strategies to overcome resistance to change, involves explaining the need for and the logic of change to individuals? (a) Participation and involvement (c) Negotiation and agreement communication (e) Manipulation and co-optation.

(b) Facilitation and support (d) Education and

29. Which of the following factors is not considered in determining the business strength as per the GE Nine-cell planning grid?

< Answer >

Page 4 of 17 (a) Ability to compete on price and quality (c) Knowledge of customers and markets (e) Profit margins.

(b) Economies of scale d) Caliber of management

30. Which of the following is not a determinant of cost behavior of the value activities constituting the < Answer > value chain? (a) Learning (c) Linkages (e) Demand for the end product.

(b) The pattern of capacity utilization (d) Location

END OF SECTION A

Page 5 of 17 Section B : Caselets (50 Marks) This section consists of caselets with serial number 1 – 6. Answer all questions. Marks are indicated against each question. Detailed explanations should form part of your answer. Do not spend more than 110 - 120 minutes on Section B.

Caselet 1 Read the caselet carefully and answer the following questions: 1.

‘‘Umang is primarily a project engineering company,’’ said Kohli. ‘‘That is where we should refocus our energies. Our main thrust should be on bagging contract jobs worldwide for large engineering projects. I don’t think a satellite status marginalizes our skills,’’ he continues. In this light, how do you support the stand taken by Kohli? (8 marks) < Answer >

2.

What strategies do you recommend for Umang to pursue? Give reasons. (7 marks) < Answer > Contract Manufacturing Strategy

Dhruv kohli, Managing Director, Umang Ltd., knew he was holding on to a lifeline. But he was aware that some of his direct reports thought otherwise. Vinay Paliwal, Vice-President (HRD), was particularly forthright. ‘‘A death trap,’’ he said. The issue in question was the tentative offer made by Fredrick plc of the UK, after months of mutual talks, for using Umang’s facilities for captive manufacture of air-conditioners. Umang had two business divisions: air-conditioners and refrigerators. Over 80 percent of the turnover in both divisions came from projects and the rest from trading through the dealer network. By successfully bidding for and executing large projects-both at home and abroad - Umang had acquired, over the years, a fine grip over costs, time frames, and pricing that gave it a formidable edge over competitors. The company led the central air-conditioning segment (45 percent) and the room air-conditioners segment (33 percent) and had the second-largest market share of 21 percent in refrigerators. ‘‘The deal with Fredrick envisages the transfer of one of the three existing AC manufacturing facilities of Umang to a new 50:50 joint venture,’’ said Kohli. ‘‘Fredrick perceives the JV as a platform with which to get a foothold in India and the neighboring markets. For Umang, it would mean a new growth ambition: focusing on the higher end of the value chain. Servicing AC equipment-which not only offers higher margins, but also fits in well with our project orientation-will be the driver for us. That is where the future lies.’’ ‘‘In fact, I feel that, over time, we should look for similar arrangements not only for our two other AC manufacturing facilities but also for the refrigeration business,’’ said Rajiv Desai, Vice-President (Corporate Planning). ‘‘If we pursue that logic, where would Umang be five years from now?’’ asked Arun Singh, VP (Special Projects). ‘‘It will move out of manufacturing for itself. We will become a satellite firm, orbiting around global majors. Umang will lose its historical identity. Is that what we want? Several skills would become redundant. Several people would become redundant. It will be gut wrenching for those who have built it all up.’’ ‘‘The business drivers of yore, like capacity utilisation and cost reduction, are no longer valid at Umang,’’ said Vikas Sarang, COO (Refrigerators). ‘‘We should now look for value. Is each of our activities, processes, businesses, and delivering value? Is it contributing to enhancing shareholder return? That is the question. Value addition over-rides cost reduction as a business objective. That is why we need to reposition ourselves on the value chain.’’ ‘‘We have to safeguard the future of Umang,’’ added Kohli. ‘‘The white goods sector is facing a churn. The volumes we sought when we set up two new AC facilities in India in 1992 and 1995 are simply not there. The market is facing a glut. We need to look for alternatives in order to survive. And, satellite manufacture is a worthwhile option.’’ ‘‘My main apprehension is whether we are forfeiting all that we have built over the years,’’ said Vinay Agarwal, COO (Air-conditioners),’’ and, in doing so, compromising the future of the company.’’ ‘‘You have a point there,’’ said Kohli. ‘‘Let us list our competencies.’’ ‘‘Our project engineering skills,’’ said Agarwal. ‘‘Our competitors simply do not have the range of capability that we have in terms of EPC (engineering, procurement and construction management) skills, product technology, IT infrastructure and after-sales-service. We ensure the best deliverables in terms of service quality and timeliness. This has been repeatedly acknowledged by our customers whose referrals have consistently generated over 50 percent of new business every year. Our ability to offer customized services to clients, in terms of managing airflows and temperatures, is among the finest in the world. It has taken years to build this.’’ ‘‘The fact that we operate on a low working capital is a major competency in the industry,’’ said Arun Vinayak, VP

Page 6 of 17 (Finance). ‘‘We conduct our business with client funds rather than with bank finance. In fact, our reliance on bank finance is less than 5 percent of our working capital requirements. We have ensured maximum liquidity in operations by fixing milestones for each project, executing each phase of the rolling project as per a time schedule, and securing prompt payments at the end of each milestone. That is what sets us apart from domestic competition whose relatively stronger focus on unitary products and ducted systems forces them to borrow funds to finance their manufacturing and marketing operations.’’ ‘‘How about the fact that we have a disproportionate share of outstanding technical talent in the Indian air-conditioning and refrigeration industry?’’ asked Paliwal. ‘‘With 650 qualified engineers and 1,200 trained technical staff, we have the single-largest concentration of industry specialists in the country. The competence of our people is what has contributed to our monopoly position in central air-conditioning. Incidentally, that, in turn, is what enables us to attract good quality people whenever the need arises. Our competitors will take long to come anywhere close.’’ ‘‘Or the long-term relationships we have built up with architects, interior designers, contractors, vendors, and installers all over the country. It is unmatched by any of our competitors,’’ he continued. ‘‘Or the finest logistics support system with over 2,000 dealers today nationwide. It is an effective entry barrier to any MNC trying to set up shop in India.’’ ‘‘A satellite status only ensures that we fritter away all these advantages,’’ said Paliwal. ‘‘Umang is primarily a project engineering company,’’ said Kohli. ‘‘That is where we should refocus our energies. Our main thrust should be on bagging contract jobs worldwide for large engineering projects. I don’t think a satellite status marginalizes our skills,’’ he continues. “I see this as an excellent opportunity for Umang to re-invent itself as a value-driven company. By focusing on the service end of the value chain, we will stay on top of market circumstances instead of being overwhelmed by them.’’

Caselet 2 Read the caselet carefully and answer the following questions: 3.

Compare the organizational characteristics of the two companies and identify the sources of conflict between the companies. (8 marks) < Answer >

4.

What strategies should the companies pursue in integrating their operations? Discuss. (10 marks) < Answer > Old vs. New Cultures

Sunil Khurana, 35, Managing Director, PowerWare Ltd, was on his routine early morning rounds of the company’s shopfloor, when Vinayak Pandey, Chief Security Officer, pulled up on his side. ‘‘We have a problem, sir,’’ Pandey said. ‘‘It is the boys at Netronix,’’ he said, trying to keep pace with both Khurana and Manu Patel, VP (Manufacturing), who was accompanying the MD. ‘‘They are indisciplined. They are punching their attendance cards at all odd hours. They walk in and out of the factory as they please. It is a breakdown of discipline. It has generated resentment among the regulars.’’ ‘‘There we go again,’’ said Khurana, winking at Patel. ‘‘Pandey, why don’t you come for the executive committee meeting scheduled in half-hour? We’ll catch up.’’ Khurana could see the divide. Ever since it was set up as an e-commerce venture within the premises of Powerhouse in June, 2000, Netronix had opened up battlefronts within. The venture per se had made eminent business sense. PowerWare was a major player in the Indian electrical industry with the third-largest market share in its flagship product of transformers. Employing around 400 workmen at a sprawling industrial estate in Pune, it had a turnover of Rs.100 crore. Having built up domain expertise, setting up Netronix.com as an industry portal was a logical next step for PowerWare. The site’s objective was to provide a database of manufacturers, products, product specifications, dealers, India-specific research reports, and country reports. ‘‘We have several exciting plans for Netronix,’’ said Khurana, opening the meeting later at his office. ‘‘As part of generating revenue streams for the portal, we are working on three areas. All electrical manufacturers and dealers will be invited to open their online shops at our portal for a fee. We will also be billing them between 0.5 and 1 percent of the value of each transaction as our commission. And once we become a full-fledged b2b exchange, we will have regular auctions for disposal of surplus inventories that will also bring in fee-income.’’ ‘‘But the major source of revenue,’’ said Hiranmay Kelkar, V-P (Marketing), ‘‘comes from becoming an Application Service Provider to small and medium enterprises (SMEs) in the electrical industry. We can put up a software package on our portal that would enable thousands of SMEs to use it as a selling medium for either a license fee or a transaction fee payable to Netronix. We are looking at a B2B potential in excess of Rs.10,000 crores turnover per annum that should translate into a Rs.100 crores portal income.’’ ‘‘That is equivalent to the turnover of our brick-and-mortar business at PowerWare,’’ said Vinod Roy, V-P (Finance), excitedly. “Given the fact that our capital investment in Netronix was Rs.15 crores and the recurring annual investments

Page 7 of 17 will be about Rs.10 crores, the returns are quite impressive.’’ ‘‘That should normally charge up the entire organization,’’ said Aditya Sinha, V-P (HRD). ‘‘But there are schisms. Of course, there are reasons. The traditional business at PowerWare is not technology-intensive. The pace is slow and relaxed. Business relationships have been long-term. There is no need for customer focus because a bulk of our revenues come from state electricity boards. Contrast this with the situation at Netronix, which has only 20 employees. True, except for five, they were drafted from PowerWare. But they are young, all in their late 20s. Because we update the site every four hours, they work 24/7. They have flexi time. When we signed them on, we doubled their salaries straightaway. We have also promised them ESOPs in future.’’ ‘‘It might help if we physically moved Netronix out of the premises of PowerWare,’’ suggested Pandey. Sinha was quick to point out that it will only be a cosmetic change. ‘‘We must retain it within PowerWare,’’ chipped in Khurana who, as the concurrent CEO of Netronix, saw it as his personal responsibility to ensure company-wide integration. ‘‘I have been witness to the contrasts in the operating environment of the two businesses. Unlike our parent business where processes are governed by precision and detail, the new business has no rules to go by. Frankly, it is a crazy scene. But the guys there are committed. The point is: how do we blend the inherent merits of both businesses to build a seamless organization?’’ ‘‘I think the issue is more basic,’’ said Neil Richards, who had been part of the HRD division of PowerWare before being asked to head the operations at Netronix. ‘‘There is a growing feeling among senior employees at PowerWare that they are subsidising a loss-making business. After all, Netronix is bleeding. And it will be at least another three-to-five years before the hemorrhage stops. And they are all miffed at the attention that the ‘nerds’, as they call us, attract wherever we go. The fancy packages we get, the paper money we will encash... a lot of myths are being floated. In fact, one of the plant supervisors asked me in the canteen only this morning: ‘‘when will you start making some money for a change? Our bonus this year will go down because of the losses you guys are making at Netronix. Can’t blame him, though.’’

Caselet 3 Read the caselet carefully and answer the following questions: 5.

What are the initiatives that DYNAX has taken so far to face competition from imports? What are the strategic options available to the company to face the competition? Explain. (7 marks) < Answer >

6.

What functional strategies should DYNAX implement to be successful? Discuss (10 marks) < Answer > Import Competition

We have crossed the final frontier in global trade,’’ said the official of the Union Ministry of Commerce, looking straight into the news cameras. It was evident from his self-assured manner that he had mastered the art of the sound byte. Watching him perform on TV, soon after the EXIM Policy 2001-02 was announced on March 31, Cyrus Batliwala, CEO, DYNAX Spinning & Weaving Mills Co, was amused. And angered. As a leading spokesman for the Indian textile industry, Batliwala had always campaigned for what he called ‘‘internal liberalization’’ as a precursor to opening the doors to competition. ‘‘Final frontier, huh?’’ he said to himself. ‘‘Final offensive on indigenous enterprise is more like it.’’ Batliwala had been with DYNAX, one of oldest composite textile mills in the country, for more than two decades. He had steered the company through every crisis-right from the invasion of power looms in the 80s to the deluge of foreign textile brands in the 90s. But nothing, Batliwala felt, would beat the removal of Quantitative Restrictions on textile imports on March 31, 2001 for its novelty. And naiveté. ‘‘True, we saw it coming,’’ he said, addressing his A-Team later in the evening. ‘‘Right since 1991, there has been a progressive move towards dismantling trade controls. It is also true that we have a breathing time of three more years before the tariff rates are brought in line with the requirements of WTO. But the cost structure is simply not in favour of DYNAX vis-á-vis, say, China-based Shanghai Clothing Co., which is invading our turf. Shanghai Clothing gets power at Rs 1.75 per unit, whereas we pay Rs 4 per unit. It borrows funds at about 6 percent while our cost of finance is 15 percent. Where is the level playing field?’’ ‘‘I visited the plant when I was in China last week,’’ said Vikram Roy, Vice-President (Marketing). ‘‘Shanghai Clothing has aggressive growth targets. It gets a quarter of its export revenue from the Indian market and wants to double it every year. Its efforts at market expansion are focused and concerted. All the way. Its labor force is energized. The productivity per person there is Rs.30 lakhs. DYNAX’s is Rs.2 lakhs per person. The infrastructure support provided in China for textiles is very good. The turnaround time at Shenzen port is 24 hours, compared to 7 days at Nhava Sheva in Mumbai.’’ ‘‘A desperate situation calls for desperate solution,’’ said Batliwala. ‘‘But let us first review the initiatives we have taken so far. We can then examine the various options before us.’’ ‘‘Cost control has been the sheet anchor of our strategy,’’ said Sourab Sen, Vice-President (Manufacturing). Indeed, DYNAX had taken four major steps in this regard. First, it had shut down the unit at Parel, which was manufacturing

Page 8 of 17 low-end products, where price competition from power looms was stiff. Second, it had begun concentrating on exports where price realizations were higher. Ergo, from a 15 percent share of turnover in 1994, the share of exports has gone up to 40 percent. “We are chasing a target of 50 percent by 2003,’’ said Sen. ‘‘We have set up a 100 percent EOU at Nasik in technical collaboration with an Italian firm. DYNAX has also taken several change initiatives like TQM. We have spent Rs.100 crores on modernization in the last four years, with specific focus on flexibility and product development ‘‘ ‘‘That apart,’’ added Roy, ‘‘the product mix is being rationalized. We have been focusing more on the manufacture of high-end products like readymades and garments. And also on higher width fabric which helps us secure economies through lower unit cost. We are also changing the sales mix which at present breaks up into 25 percent to garment manufacturers, 32 percent, exports and the rest, retail. The mix will change gradually in favour of exports and sale to garment makers. That is where lie high yields.’’ ‘‘These measures are fine,’’ said Batliwala. ‘‘But they do not preempt competition.’’ ‘‘There is one area where our competitors in the Asian region are vulnerable,’’ said Roy. ‘‘They cannot handle niche businesses. They are good at mass production and mass marketing. But they are not comfortable with smaller production runs requiring flexibility in manufacturing. This is where we should take them on. DYNAX, for example, can deliver the finished sample of a fabric in two weeks. That is a formidable advantage, which firms like Shanghai Clothing cannot match. We should exploit it fully.’’ ‘‘We should move into the high end of the value chain,’’ said Damodar Hegde, Vice-President (Finance). ‘‘We should stop making basic products-like the normal fabric-and move into value-added items like non-iron, anti-crease, waterrepellent, and fire-resistant fabrics. These technologies are available today for a price. We should also expand our retail network and concentrate on branding where the ROI is much higher.’’ ‘‘We should start looking at options like sourcing cheaper fabric from the Southeast and the Far East, add value in India, and re-export,” said Chintaman Deshmukh, Vice-President (Special Projects). ‘‘For example, we can get our manufacturing done outside India by leasing garment factories. We should also get into JVS with players in the Asian region. That will preempt competition.’’ ‘‘If you can’t beat them,’’ said Roy, ‘‘join them. There is merit in turning our competitors into allies.’’ “But what we need,” Batlivala reminded his A-team, “is quick solutions. Now if someone can just name some.’’

END OF SECTION B

Section C : Applied Theory (20 Marks) This section consists of questions with serial number 7 - 8. Answer all questions. Marks are indicated against each question. Do not spend more than 25 -30 minutes on section C.

7.

Briefly outline the advantages and disadvantages of functional structure and multidivisional structure in organizations. Also identify the advantages of centralization and decentralization of decision-making in organizations. (10 marks) < Answer >

8.

The combination of resources, capabilities and core competencies for mutual business gains leads to strategic partnerships and associations. Elucidate the rationale behind joint venture. (10 marks) < Answer >

END OF SECTION C END OF QUESTION PAPER

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Suggested Answers

Business Policy & Strategy (MB311): July 2005 Section A : Basic Concepts 1.

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Answer : (d) Reason : Demographic environment is studied with reference to the size, growth rate, age, composition, sex composition, life expectancy etc. of the population.(a)Social environment has an impact on the strategic management process with in the organization in the areas of mission, setting of objectives and decisions related to products and markets.(b) Cultural environment often helps to pinpoint market opportunities. Companies often gain a competitive edge by meeting the cultural needs that have been so far ignored by their competitors. (c) Ethical environment is the identification of the moral principles and standards that guide behavior in the world of business.(e) Prime interest rates, inflation rates and trends in the growth of the Gross National Product(GNP), the general availability of credit, the level of disposable income and the propensity to spend at the national and international levels influence the strategic planning of the organization. All these factors constitute the economic environment of the organization Answer : (c) Reason : Levi’s manufacturing the cloth required for making jeans, the process is termed as backward integration which takes place when a firm assumes a function previously provided by a supplier. Answer : (d) Reason : Matrix structures are functional and product forms combined simultaneously at the same level of the organization.(a)Divisional structure is a type of departmentalization in which positions are grouped according to similarity of products, services or markets. The Divisional structure does not promote specialization of labor (b) Functional structure is a type of departmentalization in which positions are grouped according to their main functional area or specialized area.(c) In simple structure all the strategic and operating decisions are under the control of the owner-manager(e)Geographic structure is a form of divisional structure involving divisions designed to serve different geographic areas. Answer : (b) Reason : Activity ratios measure how effectively a firm is using its resources i.e., to say this reflects a firm’s efficiency in resource utilization.(a) Liquidity ratios measures a firm’s capacity to meet its short-term financial obligations.(c) Profitability ratios provide a firm’s overall economic performance. (d) Leverage ratios indicate a firm’s financial risk. Answer : (b) Reason : Special alert control reflects the need to thoroughly reconsider the firm’s basic strategy based on a sudden unexpected event.(a) Implementation control determines whether or not the overall strategy should be changed in light of the unfolding events and results associated with incremental steps and actions that implement the overall strategy.(c) Premise control helps to check systematically and continuously whether or not the premises set during the planning and implementation are still valid.(d) Operational control are concerned with “steering” the company’s future direction and they are concerned with provide action controls.(e) Strategic surveillance is designed to monitor a broad range of events inside and outside the company that are likely to threaten the course of a firm’s strategy. Answer : (d) Reason : A value chain is a linked set of values-creating activities beginning with basic raw material s coming from suppliers ,moving on to a series of value added activities involved in producing and marketing a product or service ,and ending with the distributor passing the final products into the hands of customer. (a) The assumption of value chain analysis is based on the belief that to divide firms activities into two major categories is incorrect. (b) The assumption of value chain analysis is based on the belief that, to acquire in-depth understanding of firms capability is incorrect.(c) The assumption of value chain analysis is based on the belief that, to create competitive advantage is incorrect.(e) The assumption of value chain analysis is based on the belief that it is a process of internal analysis is incorrect.

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Answer : (e) Reason : In a Fragmented Industry there are large number of small medium sized companies Ex. Video rentals, where high profits may lead to new players coming into the industry and

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product differentiation is low. (a) Low barriers to entry in case of a fragmented industry is incorrect. (b) High barriers to entry in case of a fragmented industry is incorrect.(c) High barriers to entry; with low product differentiation in case of a fragmented industry is incorrect.(d) Low barriers to entry; with high product differentiation in case of a fragmented industry is incorrect. Answer : (b) Reason : A budget is a plan expressed in numerical terms. They are usually expressed in financial terms. The budget, which shows costs of major assets such as new plant, machinery, land etc is known as capital budget. The other budgets included are cash budget which shows all the sources of cash income and cash expenditure revenue budget shows the anticipated income from normal operations, operating budget is concerned with planned operations within the organization, expense budget shows the anticipated expenses for the organization during the coming time period. Answer : (e) Reason : All (I), (II) ,(III) and (d) are valid statements statement that supports the choice of structure as a function of strategy. Answer : (c) Reason : A vision describes aspiration for the future ,but without specifying the means to achieve those desired ends. A mission statement verbalizes the beliefs and direction towards which organization moves in future. (a) Objectives are guide points in defining standards of what the organization should accomplish in providing direction and motivation.(b) Goal is a major planning component that is a future target or end result than an organization wishes to achieve.(d) Policies are general guidelines for decision-making.(e) Procedures are the guides to action that explain in detail the manner in which activities are to be performed. Answer : (c) Reason : The difference between merger and joint venture Discussion: Option c) is correct. In a merger, two (or more) separate corporations (organizations) come together to form one legal entity. There are several legal ways to implement a merger, but regardless of how it is done, the result is one corporation (organization), not the two (or more) that existed previously. This is not the case with a joint venture. Two (or more) organizations can establish a joint venture — project, program, organization, etc. — together, and jointly administer and govern it, while still maintaining their own organizational autonomy. With a joint venture, the partnering corporations (organizations) remain separate. Option a) is not correct as in both joint venture and mergers profit sharing aspects between the partners are present. Option b) is incorrect as when two companies go for a joint venture they maintain their separate legal identity. On the other hand when two companies go for a merger there is no organizational autonomy left. Option d) is incorrect. Mergers are for unforeseeable future and not joint ventures. Option e) is incorrect as both mergers and joint venture is undertaken for profit. The characteristic features of Joint ventures are: In joint venture when two firms combine there is no organizational autonomy left between them while it is not so in the case of mergers. When two firms go for a joint venture they maintain their separate legal entity whereas it is not the case with merger. Joint venture is for unforeseeable future which is not the case with mergers In joint venture there is no expectation of profit as it is established to fulfill a particular goal while mergers are profit oriented. Answer : (b) Reason : According to Porter, Procurement is not a support activity in a manufacturing firm's value chain. It is a primary activity in the value chain. Infrastructure, Marketing and sales, Human resource management and general administration are considered as the supporting activities. Answer : (d) Reason : Decisional roles includes the role of an entrepreneur, disturbance handler, resource allocator and negotiator. The role of leadership is not included in decisional role but is included in interpersonal role. Answer : (b) Reason : A penetration price strategy describes the pricing policy where the company brings a

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Page 11 of 17 15.

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product to the market with a remarkably low price, to gain market share Answer : (c) Reason : The collection of beliefs, expectations, and values learned and shared by a corporation's members and transmitted from one generation of employees to another is known as the corporate culture. Answer : (c) Reason : Quinn’s approach can be illustrated as follows: •

The strategy may be floated as a minor change to minimize resistance. So the alternative (c) is the answer.

•

The strategic leaders will develop their information channel within and extend to the organization and will draw on this using formal system. So the alternative (a) is correct statement.

•

The strategic leader then should generate awareness of the desired change within the organization. So the alternative (b) is correct statement.

•

The strategic leaders will seek to legitimize the new strategies by lending authority to them. Then they will gather key supporters for strategy.

•

The steps are taken to remove or minimize opposition. For example, opponents can be moved to other parts of the organization.

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•

17.

Answer : Reason :

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22.

Answer :

In initial period, the strategy will be flexible, so that changes can be made in the light of trials. The principle of learning by doing is practiced by strategic leaders. Finally, the proposed changes will be formalized and ideally accepted within the organization. It is important to look ahead and consider how the new strategy might be developed further in the future. (c) Grand strategy is otherwise termed as a statement of means that indicates the method for achieving the objectives and it provide a basic direction to the company’s business. All other options refer to different strategies like growth etc. (b) Strategy implementation is the process by which strategies and policies are put into action through development of programs, budgets and procedures. Strategy implementation is conducted by middle and lower management. Answers a, c, d, e are incorrect since, strategy formulation stage is a prerequisite for implementation and control is the post requisite to implementation. (d) Conglomerate diversification is diversification into a new business area that has no obvious connection with any of the company’s existing areas. It is also called unrelated diversification (a) Concentric diversification occurs when an organization diversifies into a related, but distinct business. In other words, it involves the acquisition of business that are related to the acquiring firm in terms of technology, markets or products.(b) Backward integration takes place when a firm assumes a function previously provided by a supplier (c) In horizontal integration the firm’s long-term strategy is based on growth through the acquisition of one or more similar firms operating at the same stage of productionmarketing chain.(e) Vertical integration involves effecting growth through the production of inputs previously provided by suppliers or through the replacement of a customer role by disposing ones own inputs (d) Two reasons for mergers and acquisitions is to increase capacity utilization through accessing new markets for the products, and to gain new technology, which gives a competitive edge in the industry. (d) Referent power is used in the advertisements of shirts like Van Heusen and Arrow to show how group acceptance takes place through wearing their shirts. i.e. referent power is the power that results from being admired , personally identified with or liked by others.(a)Expert power is the power that is based on the possession of expertise that is valued by others.(b)Coercive power is the negative side of reward power, based on the influencers ability to punish the influence.(c) Legitimate power is the power that stems from a position’s placement in the managerial hierarchy and the authority vested in the position. (e)Reward power is the power based on the capacity to control and provide valued rewards to others. (d)

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Page 12 of 17 Reason : 23.

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Joint ventures usually involve technological transfer, market sharing and investment sharing (a) Cultural, legal-political and economic condition may dictate different operating practices from one country to another. This leads to adoption of Multi-domestic strategy. (e) High competitive advantage, low risk, high market attractiveness are the features of a market which encourage the firms to enter the market. (d) Change in firms management does not support the contingency approach to strategic choice (c) The following statements are correct with regard to competitive scope of the value chain i.e., the segment scope, the buyers are served by a variety of products and in industry scope the firms view with a coordinated strategy in the range of related industries. (d) Conglomerate diversification is not an appropriate Question Mark division strategy in a BCG Matrix, as the viable strategy for question mark business would be to divest the weaker businesses and invest heavily in high potential businesses to turn them into stars in the near future.(a)(b)(c)(e) Product development, divestiture, market penetration and innovation does form the appropriate strategy in the question mark division in a BCG matrix. (d) One strategy for overcoming resistance to change is education and communication . This involves explaining the need for and the logic of change to individuals. (a) In participation and involvement resistance tends to be less pronounced when the individuals who will be affected by a change are allowed to participate in planning and implementing it. (b) The use of facilitation and support is another way to overcome resistance, when fear and anxiety are responsible for resistance to do things in a new and different way. (c) Negotiation can be a particular important strategy when one group perceives that it will be hurt by the change and is in a position to cause the change effort to fail.(e) Manipulation refers to covert influence attempts. It usually involves selectivity providing information about a change so that it appears more attractive or necessary to potential resisters. Cooptation normally involves token participation. In this , a leader or an influential person among the potential resisters is given a seemingly desirable role in the change process in order to gain cooperation. (b) GE matrix takes two factors into consideration – Business strength and industry attractiveness. Economies of scale is not considered in determining the business strength. (e) The cost behavior of value activities is determined by ten major drivers. These are: •

Economies of scale.

•

Learning.

•

The pattern of capacity utilization.

•

Linkages.

•

Interrelationships.

•

Integration.

•

Timing.

•

Discretionary policies.

• Institutional factors. Demand for the end product is not one of these drivers. Hence the correct answer is (e).

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Page 13 of 17 Section B : Caselets 1.

Advantages of contract manufacturing: Gives access to markets hitherto unavailable • Allows moving up the value chain into services • Renews Umang's much needed focus on margins • Aids in reinvention of the ageing company. • Disadvantages of contract manufacturing: Will lead to a loss of carefully built brand identity • Could erode organizational skills and competencies • Sends out wrong signals to employees about the future • Dangerously lowers entry barriers to new rivals. • < TOP >

2.

Go for the alliance: The alliance brings focus to the company's operations. It enables Kohli and his team to concentrate all resources on strengthening the core skills in project management, and not manufacturing which does not add much value. Forming an alliance is better than sharing the market with a formidable competitor like Fredrick. Fredrick brings to the table brand value, technical expertise, strong R&D, better technology, and, perhaps, more staying power. Umang brings local market penetration and relationships, an excellent technical team, efficient business practices, and front-end people of outstanding personal repute. Both parties would be interested in a tie-up, and it will soon boil down to negotiating attractive alliance terms. The nature of the alliance can range from a simple contract manufacturing arrangement to things like joint product development, joint project execution in international markets, combined distribution in the retail side, and cobranding. Umang may not be geared to independently support R&D investments in air purification technology, variable speed compressors, and environment-friendly materials. If the deal with Umang falls through, Fredrick would be forced to find another Indian partner, who could well prove to be sub optimal. In entering into any transaction with Fredrick, Umang should ensure a long lock-in period, rather than a year-toyear perspective, and move according to a pre-determined transition plan. This could mean starting with a manufacturing alliance for one of its plants, adding more plants, moving to a marketing and distribution alliance, and finally a full merger. Such a phased move will allay the concerns of Umang's management team and build more confidence in the manner in which the combined strengths of the two organizations are being harnessed and also, in particular, how the careers of the senior managers are being shaped. Consolidation: Large EPC firms usually do not have manufacturing facilities of their own. This is the trend worldwide. They outsource all equipment supplies and fabrication work. Having built up expertise in handling large ac projects, Umang should now consolidate its areas of strength. There is little merit in clinging on to skills that have lost their edge-even if they have helped build Umang as an organisation in the past. Times are changing and Umang will have to move with the times, to safeguard its future. Manufacturing: Own manufacturing simply does not have relevance in the context of not only the expertise acquired by Umang in EPC, but also of the proposed JV with Fredrick. In fact, own-manufacturing might now be a handicap on three grounds. One, Umang would be forced to buy components and equipment from its own captive source and forfeit the price, and delivery advantages available in the open market. Two, the assurance of a captive customer would provide no incentive to a manufacturing unit to improve efficiency, reduce costs, and enhance product quality. And, finally, the company may become inward looking, losing all initiatives to look for alternate sources of supplies. Service: After sales service is clearly a growth area. There is a possibility of this activity being spun off into an independent profit center. Kohli and his team should develop and nurture such focus areas within the company. Jobs should be driven towards pockets where they can be done cost-effectively. That is the key to managing an EPC business. And given the proposed JV with Fredrick, I am sure Umang is on the right track. Productivity: The company should review internal operations and look for areas for productivity improvements. The scope for cost reduction needs to be examined in detail. The objective is to ensure that by the time demand picks up, Umang is in a better position to take on competition as a leaner and fitter organization. < TOP >

3. Powerware Hierarchical; command & control Setting the agenda & enforcing change Long-tern; individual rewards

Organization Structure Role of Leadership Compensation

Focused on functional

Internal

Netronix Networked and flexible Creating a milieu for success Short-term; collective rewards Focused on the

Page 14 of 17 turfs Linear, time-bound & predictable

Processes Career Plan

customer Lateral and multitasked

Sources Of Conflict •

Netronix does not have revenue sources

•

PowerWare is subsidizing a loss-making venture

•

Varying perceptions of office discipline and conformity

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Gaps in salary structure too wide

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Khurana has to ensure, through appropriate communication channels, that all employees of PowerWare recognize the fact that the idea behind setting up Netronix is to provide value-added services at every link in the value chain. He must reiterate the fact that the new business will require time to stabilize and that it will be a drain on the resources of the organization in the short term but, if nurtured well, deliver very high returns to all the stakeholders of PowerWare. The success of Netronix will also demonstrate the company's ability to constantly renew itself in anticipation of future technology trends. Khurana is facing challenges that are quite typical for an incumbent launching a new economy business. To successfully address these challenges Khurana must address five key issues: •

Organisational structure: It is important to delink Netronix from PowerWare. The portal business must be quickly spun off as a Strategic Business Unit (SBU) with its own resource pool. This would be a precursor to turning Netronix into a separate legal entity and making Initial Public and Employee Stock Option offers possible. The delinking also enables each organization to develop its own culture.

•

People strategy: Khurana may need to hire external people for Netronix, particularly in technology and marketing, as PowerWare may not have all the relevant skills in-house. However, he should allow PowerWare staffers with the requisite skills to move to Netronix if they so desire. He must make it clear that there is no fallback option and the move cannot be reversed. The new economy business is a high-risk, highreward business and all must share the risks and rewards equally.

•

Compensation policy: Khurana's compensation policy for the new economy business should be performance-based. This means that fixed salary levels could be moderate, but performance-based bonuses and ESOPs would boost the total compensation package and make it attractive. Parity between PowerWare and Netronix salaries should prevail only at the level of the fixed component of the salary. While Khurana might find it difficult to slash the salaries of migrants from PowerWare, he should increase the variable component in their compensation.

•

Governance: With PowerWare and Netronix functioning as two separate businesses, Khurana need not worry about the need for integration. Khurana should also consider having an independent, active board of directors for Netronix. This board could be constituted with a mix of venture capitalists, domain specialists, and entrepreneurs with good track records.

•

Planning and Performance Monitoring: Khurana must ensure that he has a robust business plan, based on discussions with vendors and customers. He must focus more on planning than on performance reviews-of both the micro-processes and the business as a whole so that mid-course corrections can be introduced without delay. < TOP >

5.

Initiatives that DYNAX has taken so far • Vacate low-end products •

Focus on exports

•

Modernize plant facilities

• Improve internal efficiencies. Strategic Options For The Future • Move higher up the value chain into retailing •

Get into niche marketing

•

Source cheaper fabric from outside India

• Strike strategic alliances with global competitors. Strategic alliances with overseas textile firms: There are several countries-like South Africa and Bangladeshwhich enjoy the status of the most-preferred trading partner with countries like the US. It makes sense for DYNAX to lease manufacturing facilities in such countries and export to the US and Europe from there. Mills in these countries would be too glad to partner with well-known Indian textile firms. DYNAX can become competitive by moving into value-added niche markets through the route of joint ventures

Page 15 of 17 and strategic tie-ups with world-class, cost-effective Asian producers: access to global technology is imperative in enhancing product quality. Alliances must be confined to mass production items alone. Care should be taken to ensure that each alliance with a competitor in the Asian region safeguards DYNAX's own backyard. There is no way the company can compromise on its domestic turf. There should be a restrictive clause that prevents the alliance partner from invading the company's designated markets and territories. The partner should be given local market expertise in exchange for new product ideas. Backward integration into cultivation of cotton: Land laws in India are still not amenable to such an approach. But it may not be a bad idea to forge relationships with major cotton growers. Batliwala should strengthen the various elements of the supply-chain at DYNAX. A control over the supply-chain gives the company a tremendous staying power. DYNAX should also leverage the brand name of its JV partner to enhance its own brand value at home and abroad. The company should specifically target the high-end niche market segments in order to exploit some of the advantages it has already built-up, such as focusing on cost-reduction, concentrating on value-added exports, modernization, and serving value-added segments. It is only through these options that DYNAX would be able to hedge the risks involved in entering into head-on competition with the low cost producers of South-East Asia and China. While WTO awareness will lead to an all-round understanding of the uncertainties arising due to WTO imperatives, the WTO Audit at a company level would confer on the company a Global Competitiveness Score. This will eventually lead towards a strategic action plan aimed at increasing its competitiveness over a given period of time. In fact, such exercises should be of the nature of a 'rolling plan', without which the company would not be able to target its achievable parameters. Long-term focus: Since tariff barriers in India will be progressively reduced, the two-pronged strategy outlined above will build upon the company's strengths, leverage its JV partners' technology and brand image, and help it to develop its domestic and external markets. It would also help DYNAX to focus on improving its core business processes and gain competitive advantage by producing quality products, which at the same time would meet WTO stipulations. < TOP >

6.

Functional Strategies Marketing Product-Mix Rationalisation: Cotton is a commodity in which India has a natural advantage. DYNAX should seriously examine changing its product mix towards cotton-intensive products. Innovations: Niche markets do not remain niche for long. Competitors are bound to catch up. Innovation should therefore become an integral part of company operations. This can be done in many ways. For instance, Batliwala must ensure that new products comprise 20 per cent of the product portfolio every year. The product mix must be changed so as to create a value-perception for new products. In fact, a large chunk of profits must be generated from newer products every year. Track new market opportunities in terms of changes in fashion trends. Each change must be not only foreseen, but also acted upon quickly so as to reap the advantages of being there first. Branding: Fabric loses identity when converted into garment. A branding exercise may not help much, but moving up the value-chain in ready-made garments does. This is a time-consuming exercise and cannot be a quick solution. The move towards retailing should be gradual. It should be undertaken so as to gain margins and reach customers faster. Global aspirations at higher end of value-chain can then be initiated with products based on cotton (which comes with a natural factor advantage). Growing Volumes: Managers of Indian textile companies are enamoured with the premium end of the market. They see glamour in niche segments. They also see higher margins there. This obsession with a small, but no doubt profitable, part of the market undermines the basic viability of the business in the long run. Value-added niche marketing can only be a tactical approach. It is not a sustainable proposition. Since technology is usually the basis of that proposition-and technology is easily duplicable or is available for a price-competitors will catch up sooner or later. In the long run, there is money only in volumes. It is only mass marketing that provides a strategic direction and thrust for a company. Volumes will automatically cut costs and ensure profits. That is what gives depth to a company's strategy and makes it strong from within. It also generates an enduring commitment on the part of the dealers, distributors, and of course, consumers that can ultimately act as an effective entry barrier to competitors. Distribution: The supply-chain for the company's domestic-market offerings must be strengthened. It would be worthwhile to leverage the partnership concept here. When you work closely with your partners, you can identify several areas where costs could be minimised on both sides. The same approach would be applicable towards managing dealers and distributors. Manufacturing: DYNAX should fully exploit its competitive advantages in flexible manufacturing and shorter production cycles. Reduction in response times would bring down the cost of inventory. TQM initiatives may be time consuming, but they should be ongoing. DYNAX needs to focus on timely delivery and shorter cycle time; smaller batch sizes (to be accepted only at higher margins); and larger number of SKU (stock keeping units).

Page 16 of 17 Effective Inventory Management at all levels of manufacturing and distribution will reduce pressure on working capital. This will bring down interest cost. It will also eliminate the need to reduce prices of old and dead inventory. Human Resources: Initiate regular training programmes aimed at changing the mindset of people at DYNAX. This is particularly required for middle-level managers and workers. They must be trained to look beyond the routine and develop a global perspective of the company's business.

Section C: Applied Theory 7.

Functional Structure • Advantages – Task grouping facilitates specialization and productivity – Better monitoring of work processes, reduced costs – Greater control over organizational activities •

Disadvantages – Functional orientation creates communication problems – Performance and profitability measurement problems – Location versus function problems (coordination) – Strategic problems due to structural (vertical and horizontal) mismatches Multidivisional Structure • Advantages – Enhanced corporate control by division – Enhanced strategic control of each SBU in portfolio – Growth is easier. New units don’t have to be integrated across organization – Stronger pursuit of internal efficiencies. Performance of individual units is readily measurable. •

b.

Disadvantages – Establishing the divisional-corporate authority relationship – Distortion of information by divisions – Competition for resources by divisions – Transfer pricing problems between divisions – Short-term research and development focus – Bureaucratic costs. Advantages of decentralization – Reduced information overload on upper managers – Increased motivation and accountability throughout organization – Fewer managers; lower bureaucratic costs Advantages of centralization – Easier coordination of organizational activities – Decisions fitted to broad organizational objectives – Exercise of strong leadership in crisis – Faster decision making and response. < TOP >

8.

Rationale behind Joint Ventures. 1. To augment insufficient financial or technical ability to enter a particular line of business 2. To share technology and/or generic management skills in organization, planning, and control. 3. To diversify risk 4. To obtain distribution channels or raw materials supply 5. To achieve economies of scale 6. To extend activities with smaller investment than if done independently 7. To take advantage of favorable tax treatment or political incentives (particularly in foreign ventures) In view of alternative forms of business relationships, a basic issue is why the use of joint ventures versus other forms of contractual arrangements is justified. The literature suggests that the underlying theoretical justification for joint ventures lies in the transaction cost theory of the firm. Every exchange between productive agents involves transaction costs. The benefits of interaction arise from using resources efficiently, but resources are used up by the organizing activity itself through obtaining information on exchange opportunities, negotiating and enforcing contracts, and so on. The exchange and organizational patterns viewed in the marketplace are responses to varying levels of transaction costs, which affect the allocation of

Page 17 of 17 resources in society. According to the theory, resource misallocation cannot exist in the absence of transaction costs. Complementary production refers to the joint use of assets or inputs to create products which cannot be unambiguously attributed to any single input. Nor can the inputs simply be summed to yield the total output of the process, that is, synergy. A complementary asset is one whose value in a production process depends on its combination with other assets or a specifically chosen technology. The difficulty arises when these inputs are owned by different firms. In general, an asset’s productivity increases with its specialization to other inputs used in the production process. However, specialization also increases the risk of loss to the owner of the complementary asset if the other inputs are withdrawn. Complementary or composite quasi-rent is the economic term for the investment cost of the complementary asset which is nonrecoverable if the other inputs with which it is used are withdrawn. Thus, the owners of the other inputs, by threatening to remove their inputs, can expropriate the owner of the complementary asset by taking a larger share of the return from the process (which, by definition, cannot be unambiguously attributed to any single input). Input owners will choose the organizational form which minimizes transaction costs. Long-term explicit contracts and common ownership of the complementary assets are possible solutions to the problem. However, a flexible contract may result in litigation for interpretation. A comprehensive contract is costly both to write and to enforce. These costs may outweigh the benefits of the contract. Business complexity increases the number of contingencies that might arise, thus increasing the cost of enumerating contingencies, the risk of omitting to specify contingencies, and costs of monitoring in a contractual relationship. Finally, the greater the frequency of exchange of inputs, the greater the likelihood of joint ownership. The prospect of recovering the investment cost of specialized assets increases with the frequency of the transaction. In a contractual relationship, repetitive activity would mean repetitive contracting and thus higher contracting costs. The specialized organizations required in common ownership are easier to justify for recurring transactions than for identical transactions occurring only occasionally. In some cases, common ownership might extend to complete merger, but in general, joint venture is appropriate where: 1. Complementary production activity involves only a limited subset of the firms’ assets. 2. Complementary assets have limited service life. 3. Complementary production has limited life. Joint ventures are a form of a long-term contract. Like all contracts they are subject to difficulties. As circumstances change in the future, the contract may be too inflexible to permit the required adjustments to be made. There is also evidence that in many joint ventures, the participants early become enamored of the idea of the joint activity, but do not spend sufficient time and effort to lay out a program for implementing the joint venture. About 70 percent of joint ventures was found to fall short of expectations or be disbanded. Other studies suggest that on average joint ventures do not last as long as one half the term of years stated in the joint venture agreement. An independent survey by the present authors uncovered many examples of joint ventures that came apart either before they started or early into the venture. Some of the reasons for the abortive lives of joint ventures are: 1. The hoped-for technology never developed. 2. Preplanning for the joint venture was inadequate. 3. Agreements could not be reached on alternative approaches to solving the basic objectives of the joint ventures. 4. Managers with expertise in one company refused to share knowledge with their counterparts in the joint venture. 5. Management difficulties may be compounded because of inability of parent companies to share control or compromise on difficult issues. < TOP > < TOP OF THE DOCUMENT >