Resource Diversion Strategies in Multiple Markets

With the United States and the Soviet Union no longer competing for power and influence from Afghanistan to Zaire, today’s global battles are between Coke and Pepsi, Fuji and Kodak, Volkswagen and Toyota. Like the two superpowers at the height of the Cold War, modern firms have developed sophisticated methods of testing each other’s defenses without risking all-out war. In a recent paper, Rita Gunther McGrath of Columbia University, Ian MacMillan of the Wharton School, and Ming-Jer Chen of Wharton’s Global Chinese Business Initiative, explore how firms divert resources in order to influence rivals, gain information and enlarge their spheres of influence. Using a military analogy, the researchers find three principal strategies–thrust, feint and gambit. Their analysis broadens existing theory on how firms react to competition in multiple markets.

Scholarship on strategy in multiple markets often uses the term mutual forbearance. Firms are said to carve out spheres of influence in different markets. The risk of a potentially destructive war across markets deters them from attacking too aggressively in any one market. Instead, firms maximize sales by shifting them to the more cost-efficient firm in any given market. For example, firm A concentrates on dominating the widget market in country X, allowing firm B to do the same in country Y. If one firm is more cost-efficient in all markets, then firms maximize profits by setting different prices in identical markets and allocating sales to the inefficient firm in high price markets. In short, firms competing in multiple markets prefer restraint to all-out war.

McGrath, MacMillan and Chen point out that in the real world the concept of mutual forbearance does not take into account the poor quality of available information. Sometimes firms act to create leverage against their opponents rather than in pursuit of profits. Example: Kodak’s entry into the Japanese film market. Moreover, different firms hold different values. Japanese firms are known to prefer long-term employment stability and revenue gains to pure profits. Finally, mutual forbearance works better in theory than in practice because in reality firms do not have complete information about their rivals’ costs or quality.

In the absence of reliable information on which to base strategy firms have a strong incentive to mount exploratory forays on rival turf. This is akin to the routine probing of satellite defenses by the United States and the former Soviet Union during the Cold War. Rather than provoke a punitive response, these forays are seen as part of give and take of competition. They allow firms to readjust toward mutual forbearance while accurately reflecting each firms strengths and weaknesses.

Since firms don’t want to risk total war, the key to success is to force competitors to use resources that might otherwise have been successfully used elsewhere. Just as the United States bled the Soviet Union in Afghanistan, firms seek to gain advantage by influencing the resource allocations of rivals. McGrath, MacMillan and Chen refer to this as strategic resource diversion. They highlight three commonly used methods: Thrust, feint and gambit.

A thrust is a direct attack that forces a competitor to withdraw from a market because it fears further resource commitments will be too costly. This is akin to the military tactic of frontal assault. In the mid-1980s, the Japanese used a thrust strategy to drive Intel out of DRAM semiconductors, cutting prices by 10% on each target customer until Intel gave up the fight. (Ironically, Intel shifted its resources toward what was to become the hugely successful microprocessor segment.)

A feint is an attack on a surrogate target. After a competitor diverts resources to defend against the feint, the firm shifts its resources to the real target. This is similar to a flank attack in military tactics. In the late 1980s, the American pet food industry went through a transformation with the emergence of a class of rich, diet conscious pet-owners with strong emotional attachment to their cats and dogs. Premium pet foods, often sold in pet supermarkets, were targeted at these consumers. Ralston, the market leader held off threats to its market share by launching a premium brand to be sold in pet supermarkets. This feint locked competitors into fighting for their share of premium pet food sold in pet supermarkets, leaving Ralston’s lucrative supermarket business untouched.

In a gambit, a firm sacrifices its position in one market in order to attack in another. This is somewhat similar to the military tactic of strategic withdrawal. In the early-1980s, Gillette and Bic were competing in both razors and lighters. In 1984, seeing that Bic was making higher profits in lighters, Gillette withdrew from this segment. The gambit encouraged Bic to pour resources into its lighter business to further consolidate its position. Gillette was then free to enhance its sphere of influence in razors, building a 50% market share within two years.

Large firms often use a combination of these strategies. Philip Morris used thrusts, feints and gambits during its fierce competition with RJR Nabisco in the mid-1990s, popularly known as the Marlboro Wars. The work done by McGrath, MacMillan and Chen allows us a nuanced understanding of this and other battles of the global economy.