Chapter 3 . Creating Com CHAPTER EXHIBIT 3.1 A Average Economic Profits in the Airline Industry, 1988- (Source: @2008 Marakon/Trinsum) B Average Economic Profits in the Ph 1988-2007. (Source: C 2008 Marakon/Trinsum) Note: Several familiar airlines such as United, Northwest, and USAir are invisible in negative book equity (bankruptcy). What this means, of course, is that the depiction actual value destruction in the airline industry. 3 . Creating Competitive Advantage Pankaj Ghemawat and Jan W. Rivkin A Average Spread (Percentage) 30 20 10 SkyWest Inc. Southwest Airlines Co. 0 JetBlue Airways Corp .- -10 If a man . . . make a better mousetrap than his neighbor, tho' he build his house in the woods, the world will make a path to his door. -RALPH WALDO EMERSON (ATTRIBUTED) -20 -30 1 0 1,000 2,000 3,000 4,000 AMR Corp. Delta Air Lines Inc. (y= - 120.3%) 5,000 6,000 Average Equity Millions of Dollars (1988-2007) L ecturing in the nineteenth century, Emerson anticipated one of the key pieces of advice that strategists still stress at the beginning of the twenty-first: Strive for an edge over the competition! Since Emerson's time, strategists have explored, in effect, what makes one mousetrap better than others from the point of view of prof- itability. "Better" involves not just buyers' willingness to pay for a firm's mousetrap or the costs incurred to provide the trap, but the difference between the two. In other words, an appreciation of the importance of a competitive edge has been elaborated into an understanding of the economics of what might be called the competitive wedge. A firm is said to have created a competitive advantage over its rivals if it has driven a wider wedge between willingness to pay and costs than its competitors have achieved.1 The long-standing interest in competitive advantage and its inclusion as the second dimension of the profitability grid in Exhibit 1.7 reflect the sense that while industry- or population-level effects have a large impact on business performance, large differences in performance also appear within industries. Consider, for example, the two industries identified as outliers in terms of performance and analyzed in Chapter 2- pharmaceuticals and airlines. Exhibit 3.1 unbundles the spreads between returns on equity and the costs of equity capital in these two industries, competitor by competitor.2 Note that while pharmaceutical firms have, on average, earned returns higher than air- lines, the best performing airlines create economic value while the worst performing B Average Spread (Percentage) 40 Merck & Co. Inc. Abbott Laboratories Eli Lilly & Co. Schering-Plough Corp. Forest Laboratories Inc. Barr Pharmaceuticals Inc. Endo Pharmaceuticals Holdings Inc. Bristol-Myers Squibb Co. Johnson & Johnson Wyeth 20 0 -20 -40 Pfizer Inc. Amgen Inc. Millipore -Allergan Gilead -Gen-Pr -Char Ge Watson Pharmaceuticals Inc. Mylan Inc. Perrigo Co. Celgene Corp Genzyme Cor Biogen Idec Invitrogen Alpham Valeant Pharamceuticals Inter Ceph Millennium Pharmaceu -60- Vertex Pharmace 0 10,000 20,000 30,000 40,000 50,000 60,000 70,000 80,000 90.00 Average Equity (Millions of Dollars)
46 Chapter 3 . Creating Competitive Advantage