Analogical Strategic Reasoning

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Analogical Strategic Reasoning
How Strategists Really Think

Executives often use analogies to make strategic choices, a technique known as
Analogical Strategic Reasoning. This document discusses the Analogical Strategic
Reasoning methodology. Topics include approach, strengths, pitfalls, examples,
deduction, and trial and error. Also includes case examples and PowerPoint
templates to be used in your own analyses and presentations.
July 29, 2013
ORIGINAL PROJECT DETAILS
http://pptlab.com/ppt/Business-Framework-Analogical-Strategic-Reasoning-39

Contents

 Overview

4

 Strengths and Pitfalls

9

 Deduction vs. Trial and Error

14

 Approach to Forming an Analogy

18

 Case Example

25

 PowerPoint Templates

30

PPT Lab (www.PPTLab.com) – Crowdsourced Business Presentation Design Service

3

Executives often use analogies to make strategic choices using a
technique called Analogical Strategic Reasoning
Executive Summary
Strategy is about choice. Oftentimes, executives use analogies
to make strategic choices, known as Analogical Strategic
Reasoning. Using this technique plays a role in strategic
decision making that is large, but largely overlooked.
Strategists who pay attention to their own analogical thinking
will make better strategic decisions and fewer mistakes.

Source
Problem

Candidate
Solution

Target
Problem

Application

Our
Solution

Analogical Strategic Reasoning is described in the HBR article
―How Strategists Really Think,‖ authored by Giovanni Gavetti and Jan Rivkin. Much of this document is based on the
thinking proposed by these authors. Analogical Strategic Reasoning is often used by strategists for the following
purposes:
•

The amount of information available in many strategic situations is similar to the information required to draw
analogies.

•

The wealth of managerial experience matches the need for that experience in analogical reasoning.

•

The need for creative strategies can be fulfilled through analogy's ability to spark creativity.

Successful strategy consultants and firms are known for their ability to draw lessons from one industry and apply them to
another—i.e. apply Analogical Strategic Reasoning.
This document discusses the merits and methodology to Analogical Strategic Reasoning, including its strengths, common
pitfalls, and other problem solving methods: Deduction and Trial and Error. This document also contains case examples
and PowerPoint templates to be used in your own analyses and presentations.


5

Another example is when Circuit City launched CarMax, driven by
similarities it saw between the used-car market and consumer electronics
Example – Circuit City and CarMax
BACKGROUND

In the 1970s, Circuit City thrived by
selling consumer electronics in
superstores—a wide selection,
professional sales representatives, and
a policy of not haggling with customers
distinguished the electronics retailer

ANALOGY / COMPARISON

In the 1990s, Circuit City recognized an
opportunity in the used-car industry,
because this industry bore a close
resemblance to the electronics retailing
environment of the 1970s:
• Mom-and pop dealers with
questionable reputations dominated
the use-car industry
• Consumers were nervous when
purchasing and financing these
complex, big-ticket, durable
products

BUSINESS DECISION

In 1993, Circuit
City announced it
would open
CarMax, a chain
of used-car
outlets

Circuit City’s management felt its success formula from electronics retailing would
work well in an analogous setting in used-cars.
Source: How Strategists Really Think, HBR, Gavetti and Rivkin (2005)

7

Contents

 Overview
 Strength and Pitfalls
 Case Example


9

To avoid a faulty analogy, it is critical to avoid superficial similarities when
constructing the analogy…
Pitfalls of Analogical Strategic Reasoning (1 of 3)

WARNING

There are numerous pitfalls that we may lead us to draw problematic
analogies on the basis of superficial similarity—and not deep casual traits.

COMMON PITFALL

1
Difficulty in
determining
structural features

OVERVIEW

EXAMPLE

• It can be very difficult to
distinguish between a
problem’s deep, structural
features and its superficial
characteristics

• In the early days of the Internet portal industry, players
adopted analogies that reflected differences in how
management perceived the deep traits to be:

• This is particularly true in new
and largely unknown markets

• Lycos saw the market as a high-tech battle field and
felt the company wit the best search technology would
win
• Magellan sough to build ―the Michelin guide to the
Web‖ and thus developed editorial capabilities

• Yahoo saw it as a media business and invested heavily
in the company’s brand and the look and feel of its
sites


11

… and, as humans, are prone to Anchoring and Confirmation Bias
Pitfalls of Analogical Strategic Reasoning (3 of 3)
COMMON PITFALL

3
Psychological
principle of
Anchoring

OVERVIEW

EXAMPLE

• Once an analogy (or any other
idea) ―anchors‖ itself in a
person’s mind, it is very
difficult to dislodge

• Nobel Prize winner Daniel Kahneman demonstrated this
principle when he asked study participants to estimate the
percentage of African countries in the membership of the
United States

• Studies have shown this is
true even when decision
makers obviously have no
reason to even believe that
initial idea

• He then spun a roulette wheel with numbers from 0 to 100

• This suggests early analogies
(even incorrect) can have
lasting influences

4
Psychological
principle of
Confirmation Bias

• Confirmation Bias asserts we
tend to seek out information
that confirms our beliefs and
ignore contradictory data
• Thus, strategists will seek
evidence that their analogy is
legitimate, not evidence that it
is invalid

• Surprisingly, the outcome of the roulette wheel had a drastic
affect on final estimates:
• When subjects saw 10% on the wheel, the average
estimate was 25%
• When they saw 65%, the average response was 45%

• In the 1970s, a study asked participants one of two
questions:

• Which pair of countries is more similar, West Germany
and East Germany; or Sri Lanka and Nepal?
• Which pair of countries is more different, West
Germany and East Germany; or Sri Lanka and Nepal?
• In both cases, most people answered ―West Germany and
East Germany‖
• When asked to test their hypothesis, subjects all sought out
evidence to confirm the similarity or dissimilarity (depending
on their response)


13

Commonly, credit for a strategic decision goes to one of two approaches:
Deduction and the process of Trial and Error
Deduction vs. Trial and Error

DEDUCTION

vs

 When manager apply deduction, they apply
general administrative and economic principles to
a specific business situation

TRIAL AND ERROR
 On the other hand, trial and error involves the
process of learning after the fact, rather than
thinking in advance

 They weigh alternatives and then make a rational,
informed choice
 They choose the alternative that, per their
analysis and data, would lead to the best
outcome

Deduction typically requires a lot of data and is
likewise most powerful in information-rich settings—
e.g., mature and stable industries

Trial and error is a relatively effective way to make
strategic decisions in settings that are ambiguous,
novel, and/or complex

Both deduction and trial and error play important roles in strategy—but each is
effective only in specific circumstances.


15

Likewise, on the analogical spectrum, we need to rely on Deduction and
Trial and Error to improve on the analogical comparison
Analogical Spectrum

Universe of Analogies

Analogies lie on a spectrum
Problematic
Analogy

Perfect
Analogy

Some analogies are seemingly perfect—e.g. Toys R Us and
the grocery business. Others can be profoundly
problematic and destructively misleading—e.g. Enron’s
comparison of broadband and natural gas trading.

Most analogical comparison lie in the middle—they are
imperfect, but useful. The best way to utilize analogy is to
harness deduction and trial and error to test, iterate, and
improve on those analogies that lie in the middle of the
spectrum.


17

Analogical Strategic Reasoning takes 4-step approach
Approach to Forming an Analogy

It is impossible to make analogies 100% safe—however, these four steps
below can improve our odds of using analogies correctly and skillfully

1
Recognize the
analogy and identify
its purpose

2
Understand the
source

3
Assess similarity

4
Translate, decide,
and adapt


19

Step 2.
Understand the source

1

2
Recognize the
analogy and
identify its
purpose

ILLUSTRATIVE PROCESS

3
Understand the
source

4
Assess similarity

Translate, decide,
and adapt

DESCRIPTION

Source
Problem

Target
Problem

• Begin by examining why the strategy
worked in the industry from which the
analogy was drawn
• Classic tools of strategy analysis (e.g.
Porter’s Five Forces, SWOT, BCG
Matrix) are extremely useful here
• The keys are to lay out:

Candidate
Solution

• In-depth analyses of the source
competitive environment

2
Understand the source


• The solution of strategy that worked
well in the original context
• The link between the source
environment and the winning strategy

21

Step 4.
Translate, decide, and adapt
1


2
Recognize the
analogy and
identify its
purpose

3
Understand the
source

ILLUSTRATIVE PROCESS

Assess similarity

Translate, decide,
and adapt

DESCRIPTION

Source
Problem

Candidate
Solution

4

Target
Problem

Application

Our
Solution
Adjust the solution for glaring
differences—finetune the
solution using market feedback

4
Translate, decide, and adapt

• The final step is to decide whether the
original strategy—properly translated—
will work in the target industry
• This step requires that we state clearly
what the strategy would look like in the
new setting
• This requires some adjustments
• Even the best analogies involve some
differences between the source and
target settings
• After the translation, there is a Go or Nogo strategic decision on whether to
pursue the analogy in the market
• If the decision is ―Go,‖ there is another
round of adjustments:
• The strategy must be adapted to
feedback from customers, rivals,
suppliers, and other key players


23

Contents

 Overview
 Strengths and Pitfalls
 Case Example


25

When Circuit City launched, the retail environment was very fragmented,
there were untapped efficiencies and unmet customer needs
Case Example – Circuit City Launching CarMax (2 of 4)
1

2
Recognize the
analogy and
identify its
purpose

When Circuit City launched
CarMax in the earl 1990s,
management recognized
significant parallels between the
competitive environment of the
used car market and that of
consumer electronics in the
1970s (when Circuit City
launched).
The goal was to leverage this
similarities to duplicate its
retailing business model in an
entirely new vertical market.

3
Understand the
source

4
Assess similarity

Translate, decide,
and adapt

Let’s start by analyzing the source environment.
When Circuit City began its rise to success in the 1970s, the consumer electronics industry was
dominated by mom-and-pop retailers of varying quality and effectiveness. Demand kept these small
retailers in business, despite three key issues with their businesses:
• Consumer were more committed to national brands than to retailers;

• The switching cost from one retailer to another was very low; and
• Customers often feared that retailers were preying on their ignorance of high-tech products.
The environment was also marked by untapped efficiencies (e.g. economies of scale) and unmet
customer needs (e.g. stores carried limited selections of brands and products, products were
oftentimes out of stock).
Circuit City developed a highly successful strategy to take advantage of these market opportunities
and neutralized the threats in this situation.
Key to its success were a series of fixed investments: 1) large stores that could provide a wide
selection of products, 2) technology that could track sales patterns closely, 3) automated distribution
centers that were tied to the sales-tracking technology, and 4) significant branding efforts.
Additionally, through economies of scale and scope, Circuit City offered lower, competitive prices.
These scale-driven cost advantages also put up barriers to entry. (Analysis continued on next slide.)


27

CarMax was launched with many operating and strategic similarities to
Circuit City, but with key adjustments and important changes made
Case Example – Circuit City Launching CarMax (4 of 4)
1

2
Recognize the
analogy and
identify its
purpose

3
Understand the
source

4
Assess similarity

Translate, decide,
and adapt

CarMax’s translated strategy had a deep resemblance to its parent company’s electronics retailing operation. On lots of up to 14 acres,
each CarMax superstore offered an extremely broad inventory of 200 to 550 vehicles.
It also took special efforts to build consumer trust:
• Sold cars at fixed, posted prices with no haggling;
• Hired salesmen with retail experience, but NOT auto retailing experience and gave them extensive training;
• Paid salesmen with a flat fee per vehicle sold, instead of the traditional model of a percentage of sales price;
• Implemented advanced inventory tracking system (similar to the Circuit City retailing system); and
• Offered money back guarantees and warranties (similar to those in Circuit City stores)
Numerous adjustments were also made to CarMax’s strategy, so that it is tailored to the new business and market. These included:
• Finding a reliable source of used cars—to this end, began purchasing used cars from customers. BY 2002, individual customers were
CarMax’s single largest source of used cars.
• CarMax developed a computer system that allowed customers to peruse the company’s full inventory, since each superstore could
show the full array of vehicles in CarMax’s inventory. The system also provide the cost to transfer a car to the customer’s locale.
It took Circuit City most of a decade to tailor its strategy formula to the used-car market. By 2004, CarMax had revenues of $4.6B with a
return on sales of 2-3%. This positive outcome shows the strong resemblance between the electronics retailing vertical and the used-car
vertical, particularly in features relevant to the casual logic of the original model’s success.

29

Insert headline
TEMPLATE – Analogical Strategic Reasoning Approach/Process

[INSERT LOGO]

[INSERT LOGO]

• Filler text, filler
text, filler text

text, filler text

text

text

text, filler text
text

Source
Problem

Candidate
Solution

Target
Problem

Application

Our
Solution

text, filler text
text

Insert bumper.


31

Insert headline
TEMPLATE – Analogical Strategic Reasoning Approach/Process

1

2

3

4

Recognize the
analogy and identify
its purpose

Understand the
source

• Filler text, filler text, filler
text, filler text, filler text,
filler text

filler text

filler text

filler text

text

text

text

text

• Filler text, filler text




Assess similarity

Translate, decide,
and adapt

Insert bumper.


33

Insert headline
TEMPLATE – Analogical Strategic Reasoning Approach/Process (Variant)
1. Recognize the analogy and identify its
purpose

2. Understand the source

Source
Problem

Source
Problem

Candidate
Solution

Candidate
Solution

3. Assess similarity

Source
Problem

Target
Problem

4. Translate, decide, and adapt
Similarity
Mapping

Target
Problem

Candidate
Solution


Source
Problem

Candidate
Solution

Target
Problem

Application

Our
Solution

35

Insert headline
TEMPLATE – Case Study (2 of 2)
1

2
Recognize the
analogy and
identify its
purpose

Filler text, filler text, filler text, filler text, filler text

3
Understand the
source

4
Assess similarity

Translate, decide,
and adapt

Filler text, filler text, filler text, filler text, filler text

• Filler text, filler text, filler text




Source:

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Analogical Strategic Reasoning

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