Of primary concern in setting functional goals and action plans are the following decisions:

1. Which functional areas must be addressed so as to most effectively implement enterprise-, corporate-, and business level strategies?
2. Within each of those functional areas, what goals should be set?
3. What action plans within each functional area would assure that the goals identified above would be reached?

In this chapter the three stages of functional strategy formulation are discussed first. Then the major strategic variables are described for each of the functional areas of marketing, finance, personnel and union relations, production, research and development (R&D), and external relations. By the way, merger and acquisition strategy (Appendix 3-1) and global strategy (Appendix 3-2) may also be viewed as functional strategies since they have the role of implementing upper level strategies.

An organization might have functions other than those enumerated here but the principles of formulation remain the same. The strategist must identify the essential parts of each function and set goals and action plans to guide their implementation. An example would be the real estate acquisition department of a large fast food chain. The function of acquiring locations for building new retail outlets would be a key element of growth strategy for such a firm. Goals and action plans for selecting and purchasing locations would, if formulated and implemented effectively, represent the critical aspects of decision makers' thoughts and beliefs about how they will compete. Variables like size of location, demographics of the area, price, proximity to consumers' travel patterns and to competitors' units, and any number of other possible location parameters, would necessitate carefully formulated goals and action plans. If these decisions were made ineffectively, then the implementation of other functional strategy as well as business-level strategy, would likely prove to be suboptimal.

CHOOSING FUNCTIONAL AREAS

1. To select the functional areas for which strategy has to be formulated, three steps should be followed:
2. Enumerate enterprise-, corporate-, and business-level strategies and list the organizational units from which effort will be required for implementation of each.
3. Compare the list with the present functional area structure of the organization.
4. Note the organizational units for which goals and action plans will have to be changed to implement enterprise-, corporate-, and business-level goals and action plans.

A line of research has developed that focuses on linking certain operating characteristics with various functional emphases.² Most cogent for purposes of deciding upon needed functional areas are a 1978 study by Miles and Snow, one undertaken by Snow and Hrebiniak in 1980, another by Hitt, Ireland, and Palia in 1982,³ and finally one by Gupta and Govindarajan. Their major purpose was to identify the relationships among various grand strategies and executives' opinions of the relative importance of several types of functional areas.

In the Hitt, Ireland, and Palia study, the first grand strategy, stability, refers to maintaining an approximately constant amount of improvement in annual functional performance without major changes in the mix of products or markets.⁴ In contrast to earlier studies, the authors found that "for firms implementing a stability strategy, no function was rated significantly higher than any other."⁵ They speculated that a

possible reason for this result is that the stability strategy may precipitate a balance among functional areas. The absence of stability possibly would generate an imbalance in which one functional area would be emphasized more than others.

Another grand strategy, internal growth, is similar to the concentration strategy discussed in Chapter 3. The study results showed that the general administration function was felt by the executive respondents to be the most important for internal growth. The researchers explained that this strategy requires strong, effective management, control, and leadership, and thus the emphasis on general administration was not surprising.

Next the grand strategy of external acquisitive growth--growth by acquisition, merger, or joint venture--requires emphasis on the functions of finance, marketing, and general administration. Finance is important to the analysis of the target firms' ability to achieve synergy through the combination. A strong administrative function tends to produce competent management of change, which is critical in order to join two firms successfully.

Finally, retrenchment strategies call for a strong marketing function. Marketing is important to monitor external relations, which are particularly sensitive for retrenching firms. Finance is important during retrenchment, presumably to analyze and monitor the financial condition of the firm.

Overall the study offered support for the contention that the relative importance of functional areas varies with strategy.

Both the Miles and Snow and Snow and Hrebiniak studies analyze the relative importance of functional areas across a different set of strategies from that used by Hitt, et al.⁶ The strategies they studied are the reactor, defender, prospector, and analyzer, which were first defined by Miles and Snow.

A reactor is a firm that tends to allow itself to be led into actions by environmental forces. Its products and market focuses change more often than its competitors' and they tend to assume less risk.

More aggressive firms--which frequently redefine their products and markets, value creative product and market moves, and respond quickly to environmental and competitive shifts--are called prospectors. Whereas prospectors may be thought of as darting in and out of various product/market combinations, often without attaining dominant positions, defenders tend to concentrate on narrow product/market definitions in which they seek a stable niche.

Last, analyzers combine the features of defenders and prospectors to some extent. They concentrate on a narrow product/market definition but quickly pursue new developments within their niche.

Both studies examine the ways in which these four strategy types differ in terms of distinctive competence (functional strategy) and organizational performance. Their findings suggest that the successful performance of firms following these strategies in the same industry depends upon their competence in appropriate functional strategy areas.

Miles and Snow suggested, first, that reactors showed no particular functional strengths but the other three types of strategies did. Defenders' strengths centered on general management, R&D, production, and finance; prospectors emphasized general management, product R&D, basic research, and market research; and analyzers stressed general management, production, applied research, and sales management.⁷

The study by Snow and Hrebiniak showed that reactors have no regular pattern of competencies, but beyond that their results differed from those of Miles and Snow. In fact they noted that their study demonstrates the need to reconceptualize the distinctive competencies of defender, prospector, and analyzer strategies.⁸ All three showed capabilities in general and financial management. Further, defenders were strong in the areas of applied engineering and production management; prospectors stressed product R&D and basic research; and analyzers showed too much variability in strengths across industries (beyond general and financial management) to allow generalizing about any of them.

Gupta and Govindarajan show that certain characteristics of the general managers of SBUs contribute to the effectiveness of some SBU strategies.⁹ In particular, the performance of SBUs with build strategies is facilitated by greater marketing/sales experience, greater risk propensity, and greater tolerance for ambiguity on the part of the business unit's general manager. The opposite results obtained for harvest strategies; high values for the three general manager characteristics hindered SBU effectiveness.

Although these studies exhibit little consistency about the particular set of functional strengths associated with types of strategies, they do demonstrate that functional capabilities are developed by managers as important competitive tools. Managers seem to try to establish competitive strength by aligning certain functional capabilities with the strategy they have formulated. Thus they highlight the importance for strategists of understanding their firm's internal strengths and weaknesses while formulating strategy.

SETTING FUNCTIONAL GOALS
In Exhibit 5-1 it can be seen that formulation of functional goals requires development of a data set by environmental analysis. The relevant environment of each functional area is analyzed and reduced to strengths, weaknesses, threats and opportunities. These positive and negative aspects are factored in with information about existing functional strategies, political processes, and

To set functional area goals, the following steps should be taken:

1. For each functional area, compare present functional goals with new enterprise-, corporate-, and business-level goals.
2. Decide what new goal areas (functional variables) are needed for each function.
3. Set new goal levels (values for each functional area's variables).

A single goal might require action plans at several functional areas whereas others might require only one. The first step involves identifying what these functional area interdependencies are. It results in a list of the functional areas for which action plans have to be formulated for each functional goal.

The second step refers to the strategy formulation procedures explained in earlier chapters and Exhibit 5-1. To review these procedures briefly, inputs to formulation decisions consist of information about existing strategies for each functional area, environmental analysis and the data set it produces, knowledge of the extant political processes within the organization, and understanding of the values and preferences of its key actors and coalitions. All of this information is analyzed in light of the new goals (or old ones, if they remain unchanged) that have been set for each function.

For the other levels of strategy--enterprise, corporate, and business--we have explained what the content of each should be. For example, business strategy should address matters pertaining to the competitive niche and distinctive competencies of a single business or of an SBU for a multibusiness corporation. But how can one generalize about the nature of topics that should be addressed in functional area strategy? Clearly the topical content of each functional area is considerably different from one function to another, and the nature of action plans required to meet goals for each function would also differ greatly across them.

Thus instead of stating generally what the substantive content of functional strategy should be, we must describe each functional strategy area's content individually. By the time most students take a course in strategic management, they have already taken various courses in each of the functional areas. Therefore, in the section that follows, we outline only the primary variables that would be given values by the strategist to guide the operation of each functional area in a way that is consistent with the other levels of strategy. The functional areas addressed are marketing, finance, R&D, personnel, production, and external relations.

MARKETING STRATEGY
Marketing goals and action plans should address matters of product/service, price, distribution, communication, and the process of new product development.¹⁰

Product/Service

Product/service strategy would be set to (1) define the key characteristics of the product or service.¹¹ (2) locate it within the organization's product/service hierarchy,¹² (3) select the quality level,¹³ and (4) outline product/service support programs. This information would be specified when an old product/service is to be changed or a new one, or several, added.

These characteristics of a firm's product/service are determined by finding the best fit between the organization's various internal factors and its external factors as they relate to product/service. Thus a university college might introduce an evening program to broaden its asset utilization and extend its instructional capabilities (internal factors) in the face of increased numbers of nontraditional students with heightened demand for education (external factors), to help implement a product (service) development action plan to reach a goal of increased revenue.

Price

Strategy regarding product/service price would be set to accomplish one or some combination of four fundamental things: (1) change in profitability, (2) change in sales level or growth rate, (3) change in net cash flow, or (4) maintenance of present sales, profit, or cash flow level.¹⁴ Marketing goals and action plans deal with price by specifying the planned-for impact on company performance (as measured by the income statement) desired of a strategy. The task of actually setting price to yield that impact is normally the responsibility of the firm's marketing director where marketing is decentralized.

In cases where a profit impact is expected, marketing goals can set a target return on assets, net cash flow, return on sales, or some other evaluative criterion that would have been determined to justify the higher-level strategy. In small sole proprietorships or partnerships, the targeted return might be a dollar amount required to cover the spending needs of the owner/manager.¹⁵

Some managers prefer to have prices set so as to generate a certain targeted dollar amount of sales, rate of change of sales, or market share. Although sales are more immediately measurable than profit, their use as a focus can lead to earnings or cash flow slippage that go undetected in the short term. For example, a firm could allow progressively more liberal receivables policy and thus attract sales to meet a rigid sales growth or market share goal. Yet by increasing payables commitments, the firm could suddenly find itself placed on the cash basis by suppliers and unable to meet delivery requirements. Obviously sales and profitability would then be threatened.

Firms can also set a net cash flow target, which, when coupled with normal credit terms for an industry or geographical area, can dictate within narrow limits what price would be most appropriate. here a strong need for cash might require a relatively low price. This would be the case if buyers were unwilling to pay a higher price on short credit terms and the seller needed cash inflow to meet required outflows.

Finally, a strategist may feel that prices should be set so that competitive attention is not drawn to the firm or that risk is minimized. This equilibrium or "status quo"¹⁶ maintenance goal could be effective for a firm with stable returns on sales, for example, which is trying to avoid competitive retaliation.

Distribution (Place)

As with other marketing variables, the details of distribution system structure and selection are the province of the marketing director in a decentralized firm. Yet the corporate strategist's input to distribution system design is critical in that it sets the limits for subsequent distribution decisions.

The primary element of distribution goals and action plans is a definition of planned-for coverage or exposure of products addressed at higher levels of strategy. Intended product exposure is a function of (1) the extent to which the firm is integrated forward or backward, (2) whether the output of intermediate steps in the production process will be marketed or retained only as components, and (3) desired coverage, usually in geographical terms, of the items marketed. To illustrate, a fully integrated home microcomputer manufacturer could limit distribution to sales of computers, the final products, to consumers. In so doing the firm would have foregone potential sales of separate intermediate products such as electronic components, individual hardware units, and software. In this case distribution decisions would be a function of how wide a market area the strategist plans to cover with the finished product. If, alternatively, business strategy called for marketing the output of each step in the production process, then distribution strategy would address the coverage of variables for components, hardware, and software. Each one could have different coverage requirements, depending upon the density in the market area of potential buyers for each product class.
Promotion
The strategist's primary concern with promotion, or, more generally, communication, is to provide guidance to the firm's marketing specialists so that product communication assumes a form consistent with overall strategy.

There are four types of communication methods:¹⁷

1. Personal sales presentations--direct communication between sellers and potential buyers.
2. Sales promotion--displays, exhibitions, demonstrations, and trade shows to complement other communication techniques.
3. Mass advertising--communication with large aggregates of potential buyers simultaneously.
4. Public relations--free nonpersonal communication.

First, a set of quantitative communication goals specifies expectations of the program ultimately designed. These goals are the planned-for results of the communication program and are not necessarily the same as overall strategic goals. Communication goals should be segment-specific such that the net effect of several communication efforts (say, one for each of several segments or markets served by the firm) is attainment of one overall growth rate in sales, market share, or profit. These goals should also clarify whether the purpose of communication is to educate, persuade, or remind.¹⁸

Second, communication activities are aimed at either one or a combination of target market segments. A segment description is normally part of all marketing strategy subsets but has specific implications for communication specialists.

Third, while analyzing the firm's environmental circumstances, competitive position, and internal characteristics, strategic analysis (the process that would have led to the development of a new product or maintenance of an existing one) would have revealed a selection of possible selling points for the product or product mix. A selling point is the collection of product or service attributes that constitute the primary message of the firm's communication program; it is the information conveyed in the communication effort.

Fourth, communication strategy should include the amount to be budgeted for the communication program expressed in either dollars or percentage of sales or gross profit.¹⁹

New Product Development
As products reach the decline stage of their life cycles, they must be replaced by new products in order for the firm to grow and prosper. Thus an integral part of a business strategy that stresses product development is a marketing strategy defining the way in which new product ideas will be generated.

The product development process is summarized by Rabino and Moskowitz as four chronologically ordered stages as follows:²⁰

1. Formulation of product goals. These may be thought of as the organization's requirements for new products; what must it "get out of" new product entries and therefore what are its purposes for generating new product ideas.
2. Search, discovery, and evaluation of new product proposals. Procedures are developed and implemented to identify and screen new product ideas which may potentially heed product goals.
3. Product development and testing. The number of new product ideas is reduced to the few tangible ones that have the highest chance of meeting goals and which fall within the company's strategic capability.
4. Market entry. The commercialization phase is typically the province of the rest of the marketing function and requires expertise which resides there.

FINANCE STRATEGY
The management of a firm's financial resources is intricately connected to the upper-level strategies of the firm. That enterprise-, corporate-, and business-level goals normally include explicit financial performance criteria attests to the fundamental strategic nature of higher-order financial matters. So too financial resources thread through all the operational components of an enterprise in a manner that either enhances or constrains their contribution to overall performance. As such financial concerns are both directive and supportive in a strategic context.

Finance strategy is generally concerned with the acquisition and allocation of financial resources for the purpose of achieving goals at an acceptable level of risk. Thus the setting of goals and action plans for finance can be viewed as a problem relating the sources and uses of capital that is constrained, at least in part, by stockholders' wealth goals. In this section financial goals and action plans are treated from capital acquisition and allocation perspectives, though this distinction is only for

expository purposes. Rarely are capital acquisition decisions made in isolation from those relating to how funds would be allocated, and vice versa. Indeed the familiar cost-of-capital notion has meaning in both regards.

On the matter of risk, we will find that it enters into both sources and uses problems. It is manifest primarily through the notions of financial leverage, operating leverage, liquidity, and working capital management. All are discussed in the present section.

Capital Allocation
Higher-level strategies normally involve certain current and fixed asset investments that represent short- and long-term applications or uses of funds. Specifications describing these investments are outlined in terms of capital budgeting techniques, cost-benefit analysis, and a cash budget, which serve (1) to determine the financial characteristics of strategic investments and (2) as evaluative criteria for monitoring the operation of the firm under the business-level strategy. Of course, to determine the financial impact of strategic investments, a comprehensive financial analysis (explained earlier) of the firm is necessary to define its preimplementation financial structure. All subsequent changes can then be evaluated according to their expected effect on this financial profile.

Business-level strategy will necessitate selection from among various expenditure choices. Finance goals and action plans are needed to establish the expected outcomes and methods to be followed in such evaluations. Related decisions involve the relative amounts of capital diverted to dividends versus reinvestment in the firm (the dividend payout ratio or its opposite, the earning retention ratio).

Investment Project Categories
Investment projects can be classified as follows:

1. Cost reduction. Expenditures to increase the efficiency of labor or equipment would fall into this category. They commonly would be part of a retrenchment strategy or one targeting increased profitability.
2. Maintenance. These expenditures are for replacement of worn-out or damaged equipment or facilities where no strategic change is intended.
3. Market development or penetration. Expenditures for action plans requiring expansion into new markets or increased penetration of existing markets are included here. They would be for advertising campaigns, market research, geographical expansion, and so on.
4. Product development. When expenditures are for the production of new or modified products, they fall into this category.
5. Compliance. Expenditures are often required by government regulations, labor contracts, or insurance terms.
6. Miscellaneous. Projects that do not fall into the other five categories are classified as miscellaneous. Examples include office facilities and some employee benefit programs.

Project Selection Criteria
In all instances the capital allocation process becomes a budgetary matter therefore, we have the term "capital budgeting." But it is as much a process of selection as it is of submission.

Compliance and most miscellaneous projects, which usually involve no cash inflows, are evaluated by level of necessity and dollar amount. The other types of projects involve both cash inflows and outflows and can be evaluated by various measures of net return as well as size of outflow (or investment). Most common among the various methods are the payback period, average rate of return, net present value, internal rate of return, and profitability index models.²¹ The model to be used to evaluate projects is specified by finance strategy along with the project selection criterion (or cutoff point) for approval.

Capital budgeting models allow the strategist to rank investment alternatives by profitability (or other bases). Establishing a cutoff point for selection from among the ranked alternatives is another strategic decision. Two popular ways to determine the cutoff point are (1) to use the firm's cost of capital or (2) to compute other hurdle rates of return. Of course, some expenditures are simply necessary regardless of their return and would be selected accordingly. Compliance investments, for example, often fall into this category.

Cost of Capital. If investments are made in projects with returns below the rate paid to obtain capital, the earnings available to common shareholders will be reduced accordingly. The cost of capital for a firm is thus the rate of return on projects that is necessary to prevent changes in the earnings available to common shareholders and can be used as an evaluative criterion for selection from among strategic investment choices. This definition does not imply that the concern is only with the cost of equity financing (which includes new common share issues as well as retained earnings). Debt and preferred stock are also sources of investment funds, both of which normally have different component costs from common equity sources taken alone. But the focus of cost of capital as an investment criterion is on the returns generated for common shareholders.

Establishing the firm's cost of capital is important to ensure that investments are not made with expected returns that are less than the amount the firm pays for capital. Thus the cost of capital can be used as a "hurdle" rate of return. This estimate is also used as the discount rate in computing net present value, internal rate of return, and the profitability index for projects.

Operating Leverage and Risk. All strategic investment decisions are going to involve some degree of risk. Risk entails not only the profitable versus unprofitable dichotomy, but also the variability in earnings or losses emanating from an investment project. One dimension of the risk-management question is captured in the concept of operating leverage.

Operating leverage is the degree of magnification of earnings or losses (expressed as cash flows or profits) set off by different levels of output. The magnification results from the variable cost versus fixed cost mix in an investment period. Generally the higher the level of fixed commitment in relation to variable costs, the greater is the leverage (and magnification). This, of course, is the central notion in the familiar break-even analysis, where concern is given not only to the break-even point, but also the levels of earnings or losses around it.

Operating leverage becomes a strategic issue because it affects such things as variability of anticipated sales, competitive strategy, and the degree to which the firm can absorb or tolerate variations in earnings. The fact that differences exist across companies in their relative amounts of operating leverage may be largely a function of the industry in which each of them competes. The fashion apparel industry, for example, tends to display a good deal more demand volatility than does the tobacco industry. The first, therefore, tends to be more labor (variable cost) intensive than the latter in its production processes (though there are other explanations for this difference as well). It is much more difficult to reduce fixed than variable commitments than in the short term to address temporary demand shortfalls.

Second, a firm's fixed versus variable cost mix is often a function of the competitive advantage it is trying to achieve. A firm choosing a technological leadership role would likely have comparably large fixed commitments to research and development. This would raise its relative break-even point and magnify the levels of losses or earnings at other output levels. Or a firm trying to maintain a price leadership position might require automated (capital-intensive) production systems. Here lower total costs at higher output levels allow the competitive price advantage and magnify earnings above break-even volume. Below break-even volume, the reverse is true.

Finally, the tolerance for, or ability to absorb, earnings fluctuations affects the operating leverage profile. A marginal firm, intolerant of losses, would probably make as few fixed commitments as possible. Though this might impair its upside earnings capability, the firm's primary concern would be with downside risk. Managers are also concerned with the degree of operating leverage when confronted with vertical integration decisions, since they usually represent the conversion of variable costs to fixed costs. One reason for integrating vertically is to capture the margins realized by suppliers or downstream distributors. But in the process, additional fixed costs are normally incurred that alter the degree of operating leverage the integrator experiences. Any resulting variations in earnings or loss potential must be consistent with overall financial performance goals. If not, the new acquisition might operate at a loss (below break-even). Losses could be avoided by margin/cost trade-offs between integrated units (absorption), or additional fixed-cost commitments may be simply insignificant in the grand scheme of things. In any case the operating leverage profile of a firm and that of individual investments pose risk, as well as profitability, questions.

Capital Acquisition
The second aspect of financial goals and action plans is determining the sources of capital to be invested in assets needed to carry out a higher-level (usually business-level) strategy. Long-term sources will affect primarily the firm's debt/equity structure; short-term sources its liquidity position. But, as we shall see, they are interrelated. Financial choices will be made to optimize the firm's overall financial profile while also maximizing the likelihood that a new set of higher-level strategies will be implemented as planned. Making these choices is a decision process fraught with trade-offs. Using equity to raise funds may improve debt/equity position, but will dilute ownership. Use of short-term debt will preserve ownership but will threaten liquidity. Using internally generated funds will prevent interest expense increases, but may threaten dividend payout ability. Thus the strategist's primary concern is with setting limits or guidelines for key financial criteria within which a higher-level strategy's financial requirements must fit.

Considerations in the Capital Mix. Financing for strategic investments falls generally into two classes; short term and long term. For both the strategist must select the optimal type of financing--optimal in terms of cash/return trade-offs, relative costs, and control as indicated by the firm's mission and master strategy.²² For example, if stockholders through the board of directors were to oppose further dilution of holdings, the strategist probably would not consider equity financing, even if it was considered optimal for another reason.

Next the impact of the selected mix of financing sources is assessed on (1) the firm's liquidity position and (2) the firm's debt/equity structure. In the process of selecting sources of funds and capital, managers have the opportunity to affect the firm's financial profile. They can take advantage of financial strengths such as strong liquidity or a relatively low debt-to-equity position. Conversely they can, within reasonable limits, strengthen financial weaknesses. Weak liquidity can be at least partially ameliorated by generating cash through tightening credit collection policies, improving inventory control, or controlling operating expenses. These are largely working capital management matters.

Dividend Policy. In deciding between long- and short-term financing, the strategist must evaluate the firm's dividend policy. The proportions of earnings allocated to dividends and retained earnings can materially affect the firm's ability to meet debt repayment schedules with cash. Over-commitment to debt could necessitate reducing, or not increasing, dividend payments, and thus lessening cash flows to stockholders.

Dividend policy generally will be one of three major types: stable dollar amount per share, constant payout ratio, or low regular dividend plus extras.²³ Which of these is appropriate for an individual firm is a function of a financial interpretation of shareholder goals, including expectations of returns and risk. It is therefore a matter of highest-level concern, and normally is treated by the board of directors. Decisions regarding dividend policy also eventually affect the liquidity and debt structure of the firm, as well as stockholder relations. Consequently, students should carefully enunciate the potential impact of proposed changes in dividend policy of companies they are analyzing in cases by explaining how they will alter the firm's liquidity position, debt structure, and stockholder relations.

Financial Leverage and Risk. In addition to dividend policy, the strategist will be particularly concerned with financial leverage. Not to be confused with operating leverage, financial leverage involves the use of debt in the firm's financial structure. Though it may be operationally defined and measured in a variety of ways,²⁴ it essentially entails the use of debt to extend the earning power of funds committed by the firm's shareholders. When used properly financial leverage magnifies returns on committed funds.

Because of the nature of financial leverage, it carries within it not only the general types of risk associated with operating leverage, but also two others that have rather specific implications. First, there is the risk of default--the inability to meet debt obligations as they come due. By definition, as financial leverage increases, cash flow requirements necessary to service additional debt increase as well. The risk of inadequate cash flow is, therefore, a primary concern in strategic decisions regarding financial structure. This, of course, suggests that liquidity and leverage are intricately intertwined in decisions of that kind.

Second, the informed strategist not only must consider the risk of default and the involuntary actions that failure may lead to, but also the priority of claims that attend a given financial structure. In the case of liquidation, voluntary or involuntary, shareholders normally hold a claims position subordinate to that of debt holders. Thus increased leverage can have a deteriorating effect on the assets available for distribution to shareholders upon liquidation. Therefore, this component of risk enters financial structure decisions as well.

Cost of Capital. The cost of capital is of major importance in investment decisions (as a discount rate or hurdle rate of return), but it also has strategic importance in capital mix decisions. Since a firm's cost of capital represents the combined influence of all of its individual components, it can serve as a useful criterion for evaluating the capital structure itself. That is, the lower the overall cost of capital, generally the more "optimal" is the capital structure for a given risk profile. In planning the capital mix, the finance strategist is concerned with minimizing the combined cost of funds so that the funding of future growth can be accomplished most economically. Thus if the addition of long-term debt to the capital structure ends up reducing the combined cost of capital (through a marked increase in the price of common stock, for example), then the increased-leverage decision can be partly justified on that basis. Similarly increases in common shares issued may have a disproportionately negative influence on the cost of debt. In these cases the cost-of-capital concept offers a useful framework for establishing capital mix objectives. Further, it forces the analyst to consider the interactive effects of different forms of financing, rather than simply examine the individual component costs of the various forms of debt and equity available.

Long-Term Financing Instruments
The major classes of long-term financing are common stock, preferred stock, various forms of debt, and convertible securities (along with leasing as we shall see next). Selection from among these choices is a function of the firm's dividend policy, leverage position, cost of capital, and earnings per share; target values for each of these, in turn, are a function of higher-level goals and strategy. The strategist can set financial goals for each of these risk/return variables so as to guide the selection of long-term financing instruments.

Leasing
Increasingly popular as a method of financing, leasing is loosely a form of leverage. Because of the debt characteristics of leasing, which normally extend beyond one year, it is included in our discussion of long-term sources of funds. (One author refers to leases as "soft debt."²⁵

The Internal Revenue Service normally allows an income tax deduction for the full amount of a lease (annualized, of course, by the payment schedule). This amount is often greater than that resulting from an asset purchase where depreciation and related interest expenses are deductible. Leases may also prove a more expeditious method of obtaining assets than by an outright purchase, and may allow for greater flexibility in asset management and financial planning.

The viability of leasing instead of purchasing an asset is largely a function of cash outflows and the cost of funds. Although there are several ways to analyze the lease-or-buy decision, the internal rate of return approach is straightforward and reasonably comprehensive. The internal rate of return of leasing is compared with the after-tax cost of debt to determine which has the lower cost.

WORKING CAPITAL MANAGEMENT
Working capital management is an integral part of a firm's day-to-day affairs and is guided to some extent directly by strategic choices. Since it entails the management of current assets and current liabilities, it involves both the allocation and acquisition of funds and/or their material counterparts. The focus of working capital is generally short term, although it interacts with longer-term decision-making in the context of strategy implementation, and insofar as short-term financing is used in lieu of long-term financing.

Cash--The Common Thread
The common thread in the management of working capital is cash or, more generally, cash flow, which leads to changes in cash balances.²⁶ In some cases short-term cash flow is a function of long-term commitments (a capital purchase, for example) that may require a series of short-term obligations (e.g., current portion of long-term debt) or a large, nonserial cash outlay. In either circumstance working capital is affected through its cash component.

The minimum cash balance carried by a firm is that which is necessary to conduct business in a manner consistent with the firm's strategies. This includes the ability to react to emergencies, to maintain compensating balances, and to take advantage of profit-generating opportunities, as well as to meet regular requirements for raw material or inventory purchases, operating expenses, debt service, and other day-to-day expenditures. The management of cash balances and their near-equivalents (e.g., marketable securities) can become a critical component of strategy implementation. Certainly this would be the case for marginal firms embarking on survival or turn-around strategies involving divestiture, retrenchment, or financial reorganization. Chrysler Corporation's experiences at the turn of the decade are representative here, since the company was not concerned just with its liquidity (in the accounting sense), but specifically with maintaining adequate cash as obligations came due within the accounting period. Alternatively the accumulation of cash and near-equivalents may be necessary to implement a growth strategy. In gearing up for its latest generation of computers, IBM amassed an unusually large fortune in cash and marketable securities. This required close top management scrutiny to ensure that these funds were generating adequate returns until they could be effectively invested internally.

Other Working Capital Concerns
All this is not meant to imply that working capital management translates solely into the management of cash. The mix and magnitude of current liabilities and the noncash components of current assets also have direct implications for higher-level strategy and its implementation. Though normally aimed at achieving a desired liquidity position (with a keen focus on cash flow), working capital decisions must be carefully cast in the strategic framework that guides them.

PERSONNEL AND UNION RELATIONS STRATEGY
Personnel goals and action plans are set to guide the personnel department in major staffing decisions pertinent to business-level strategy. It has four primary elements. First, the nature of jobs that are required to carry out the business-level strategy and the characteristics of people needed to fill them are determined by job analysis. Second, a staffing plan is developed to forecast total employment needs of the strategy by job title over the relevant planning horizon. Third, the magnitude of the strategy's payroll budget is estimated over the planning horizon. Finally, union relations strategy is set to heighten the prospects of union acceptance of matters pertaining to the union.

Job Analysis
Sometimes a strategy has very specific implications for jobs. For example, Hewlett-Packard's high-quality, high-price strategy necessitates astute R&D, which, in turn, requires a wide range of R&D jobs. When an electric utility decides to develop a non-fossil fuel source of electricity, new technical jobs are created that previously were not in the firm's hierarchy of jobs.

To communicate expectations about job content, a job analysis is performed to gather pertinent information. The job-related data are then reported in a set of job descriptions; people-related information is arranged in a set of job specifications.

The primary role of job descriptions and specifications to guide the process of hiring and placing people. When no new jobs are involved in a new strategy, job analysis can be conducted on existing jobs. Ideally job analysis data would already be available in the latter case; the strategist could simply refer to existing job descriptions and specifications and note the number of job titles required. Of course, the problem the strategist faces when a strategy necessitates creation of new jobs is having to decide what the content of jobs and employment requirements will be before hiring applicants.

Several sources of occupational information can be helpful in finding out about the nature of new jobs. The Dictionary of Occupational Titles²⁷ contains condensed job descriptions for over 30,000 job titles. It can serve as a starting point for deciding on the content of newly created jobs.

Other sources of job content information are the Alphabetical Index of Industries and Occupations²⁸ and The International Standard Classification of Occupations.²⁹ Although they provide only the most basic information about the activities involved in thousands of job titles, they are useful initial sources of ideas about the nature of jobs and the type of work to which job titles refer.³⁰

Staffing Plan
The staffing plan presents the required numbers of employees by job title that will be needed over the strategy's planning horizon. This is a key consideration for the firm's personnel specialists. It tells them how many and when people will have to be brought into the firm to operationalize strategy.

Human resource planning procedures are followed to develop the staffing plan. Total employee requirements are determined by job title for the initial stages of strategy implementation. Then these totals are modified to reflect the numbers of current employees who can be transferred into the new jobs as well as expected normal outflows caused by retirements, deaths, out-transfers, and separations. The result is net incremental human resource demand by job title generated by the strategic change.

Payroll Budget
The cost of labor is a major strategy variable. It can be a primary consideration in determining the feasibility of a new strategy. The staffing budget is simply the sum of estimated total labor costs involved in the new strategy. It should be broken down by department. As such it represents the dollar limits that functional managers cannot exceed in hiring people to implement the new strategy. Personnel strategy (or a separate strategy category) can address union/management relations whether or not the firm is organized by a union. By reducing the critical areas of labor/management relations to strategy, the relationship between unions and management can be productive and comfortable in unionized firms. For nonunionized firms the relationship between labor and management can be prevented from degenerating into a strictly adversarial one.

Union Relations Strategy³¹
After a new strategy set has been formulated, one of the last functional areas that must be addressed with functional strategy is union relations. This area should be the last to be designed because there can be union relations implications for each of the other functional strategies. The purpose of union relations strategy is to set goals and action plans that will lead to acceptance of the new strategy set by unions representing employees of the organization.

There are four phases in setting union relations strategy:

1. Determine the relationships among elements of the new strategy set and the union contract.
2. Enumerate the features of the new strategy set that are likely to be subject to formal and informal negotiations.
3. Prepare a proposal for negotiations for each strategy set feature in item 2.
4. Enter negotiations.

Relationships Between Strategy and Contract. There are many possible ways in which a new strategy set can affect a union/management contract. For example, a retrenchment strategy might involve layoffs, of which the circumstances either could be spelled out in the contract or would have to be negotiated before implementation. Similarly a product development strategy could necessitate a work-force expansion. The processes of increasing the number of jobs and employees could be subject to contract provisions or negotiations.

The National Labor Relations Board (NLRB) defines the range of topics subject to collective bargaining in the private sector, as matters of wages, hours, and working conditions. In the public sector, the items subject to bargaining are usually covered by statute. They differ from state to state.

When agreement cannot be reached as to whether an item is subject to negotiation, the NLRB can be called upon to make the determination. It defines three types of bargaining issues for determination: mandatory, permissive, and illegal. Illegal bargaining subjects are those that are prohibited. Closed-shop agreements are in this category. Permissive items include management rights issues over which management has exclusive decision authority. Examples are product choices, pricing decisions, and types of advertisements. Permissive topics do not have to be negotiated, but can be if management so desires.

Mandatory bargaining subjects include matters pertaining to wages, hours, and working conditions, and these issues must be resolved by negotiations. Whenever a new strategy requires changing any of these three factors, it may be necessary to negotiate the company's position with affected unions.

For case-writing purposes, the elements of strategy, at all levels, that might be subject to negotiations are likely to be mandatory items (wages, hours, and working conditions) and permissive subjects (product prices, product additions and deletions, advertising methods, etc.). Students should identify these items and prepare the necessary arguments for presentation to the union leadership. That is, elements of cost should be estimated, effects on payroll and wage rates determined, expected increases or decreases in overtime calculated, and so on. The idea is to develop the arguments that would have to be made to union bargainers so that strategy could be implemented without union interference.

Formal or Informal Negotiations. Some items might be better left to formal negotiations whereas others could be resolved by informal bargaining. Formal negotiations are those that lead to a new contract between labor and management. Informal negotiations refer to the day-to-day discussions by the two parties about how the contract applies to particular situations. Many of the issues that surface when new strategy is developed can be resolved by informal negotiations during meetings between union and management representatives.

Items that would have to be handled through formal negotiations probably would hold up implementation of the strategy until the next collective bargaining sessions. Therefore, in practice it would be most helpful if negotiable items could be resolved informally. For case analysis negotiable issues should be earmarked for either formal or informal negotiations.

Preparation of Negotiation Proposals. Preparing proposals for either formal or informal collective bargaining purposes is largely a matter of conducting the necessary research to support one's position and then presenting findings, in as convincing a form as possible, during the negotiations themselves. For strategy-setting purposes, this means that proposals must be "airtight" when presented. The best strategy ever conceived can be nullified by the inability of management to gain the support of unions or failure to consider before negotiations what the implications of the strategy are for union leadership and members. A good example is the extent to which support of the auto workers was necessary for Lee Iacocca to begin to turn Chrysler Corporation around during the early 1980s.

Entering Negotiations. The final phase of implementing union relations strategy is the process of entering into negotiations. This phase is usually subject to convention within the organization involved. That is, in any firm negotiations proceed according to procedures understood by both parties or spelled out by law or agreement.

RESEARCH AND DEVELOPMENT STRATEGY
Industrial research can have one of two fundamental orientations. Scientific research refers to what one author has called "free-roving and analytical inquiry into the domain of unpredictable phenomena."³² This type of research activity is concerned with generating new concepts that may or may not have product applications.

The second orientation is "commercial development--the ultimate business outcome of successful industrial research, with its practical aura of economic and company values and restraints."³³ Development activity can take several forms, but is essentially product, as opposed to concept, oriented. Thus it is a more pragmatic and market-centered form of R&D effort than scientific research. Although statistics are scarce, development work may account for over 90 percent of all industrial product innovation costs.³⁴

Research and development strategy has four primary elements: R&D goals, extent of integration of the R&D function, amount of market coupling desired, and size of the budget.

R&D Goals
Goals are needed to specify the purpose of R&D is used as part of product or market development or market-penetration business-level strategies, the firm's desired competitive position can largely determine the amount and type of R&D needed. More specifically R&D can have one of four basic purposes that normally would be stated at the business level.

First, industry leader positioning can require both scientific research and commercial development capabilities but research emphasis is important for consistent generation of new concepts with development potential. The industry leader has to maintain its product preeminence by outstripping its competitors' new concept initiation rates. Thus the leader tends to have a high R&D expenditure-to-sales ratio and state-of-the-art research facilities. In addition its development capabilities must be effective and rapid. Effectiveness is largely a matter of production expertise, quality consistency, and marketing know-how. In brief, an industry leader, as one would expect, has to be good at everything and have the confidence to invest heavily in risky scientific research.

Another R&D position is that of follower. A follower is described as a firm that essentially duplicates the product innovations of the industry leader. Such firms usually strive to underprice the leader by avoiding the overhead burden of a basic research function that maintains high quality. In return the follower sacrifices time, wide profit margins, and prestige by always having to wait for the leader to make a move. The more quickly a follower can respond to the leader's new introductions, the more it can capitalize on the early adopter market. Thus the follower's primary R&D capability has to be in competitive intelligence, market sensing, and development.

The third R&D position is that of adapter. The adapter scans its competitors' offerings, not just those of the leader, and then modifies selected ones to meet the needs of its market segments. It actually is not duplicating competitors' products in a strict sense, but rather is adapting them to the specific requirements imposed by its customers. The adapter is not necessarily producing a lower-quality rendition. When Michelin was dominating the radial tire industry, several U.S. tire manufacturers introduced the all-weather steel-belted radial tire. They adapted the steel radial to the particular needs of their customers.

Adapters need strong developmental research capabilities and a keen understanding of market needs and sensitivities. Although the all-weather radial example demonstrates the essential characteristics of an adapter's product relative to an industry leader's, it fails in one important respect. Adapters modify products by means of strategic choice, not simply as part of a product development tactic. That is, they are adapters by choice, not incidentally. Consequently an adapter searches for products (among many competitors) to modify for its customers.

The final position with R&D implications is that of copier. Copying in this sense usually involves price competition with a leader, follower, or even adapter, which is made possible by production efficiencies, often resulting in reductions in quality. For example, certain brands of wood stoves developed widespread reputations for heating efficiency, safety, and dependability. These features normally command high retail prices. Copies of some of the more popular high-priced, high-quality units appeared at prices far below those of the originals. They also tended to have shorter warranty terms and were rougher in appearance. Their smaller profit margins and lower prices required higher sales volume, and thus more widespread distribution. Also, copiers need accurate market information and process engineering capabilities sufficient to quickly produce a high volume of less costly copies.

Intensity of R&D
Realistically there are seven choices of levels of R&D involvement. Larger firms will tend to have more of the different levels of R&D activity and smaller ones fewer. The choices are as follows:³⁵

	Level 1.	Basic research is seeking new conceptual developments at the frontier of a discipline with little concern for product applications. Very few new concepts from basic research ever reach the market as successful products. Thus it is a risky and expensive type of research effort rarely pursued in-house by businesses. Much basic research is conducted by universities under federal or private grants.
	Level 2.	Applied research usually refers to problem-initiated research. These activities are focused on solving a problem whose nature has possible implications for the firm's product lines or items.
	Level 3.	Advance development focuses on determining preliminary performance specifications for a new conceptual design that may have been produced by applied research. Output of this activity would be a detailed set of guidelines on how the new product should operate with tolerances and the necessary component configuration.
	Level 4.	Design engineering converts performance specifications into design specifications, which are used to make a prototype. With appropriate refinements these specifications are the plans used for manufacturing.
	Level 5.	Feasibility testing is analysis of financial or physical reasonableness of a product, process, or project.36
	Level 6.	Equipment engineering results in the design and development of machinery and equipment peculiar to the manufacturing needs of a product or component.
	Level 7.	Process engineering is the design of production operations necessary to manufacture an item or to convert design specifications.

When creative R&D is required for a strategy, the tendency will be to implement an R&D program that consists of advance development or applied research. Conversely a strategy calling for merely copying another product would not require these high-level research functions. The firm could operate successfully with process, or possibly design, engineering functions alone. In terms of their relationships to the finished product, basic research is the most distant, and process engineering is the closest. Selection of the level of integration of R&D identifies the type of R&D effort appropriate for a business-level strategy.

Market and Production Coupling
Market and production coupling is the practice of controlling the output of an R&D operation by the input of marketing and production information.³⁷ For example, an applied research group could be "managed" by systematically informing researchers of pertinent marketing data such as customers' preferences and competitors' product attributes, or production quality maintenance problems and cost structures. This should result in their work having market relevance and reflecting production realities. The information normally would be transmitted at regular meetings between appropriate managers and key R&D staff people.

Particularly at the basic research end of the system of R&D intensities, there is danger that researchers will pursue their own interests with limited market or production applicability. This could result in too few new product ideas even though the researchers' professional development would be considerably enhanced. For example, development of esoteric propulsion systems by an automotive R&D group could be professionally satisfying to the researchers. However, the systems would be of little immediate value to the firm if customers would not buy them, or if they could not be produced. Firms investing large amounts in basic research programs can destroy their creative effectiveness, though, by too much market coupling. Thus the extent of coupling is a critical determination for the strategist in designing and managing an R&D program at all levels, not just in basic research.

The choices facing the strategist concerning coupling are straightforward. For each level of R&D activity, R&D strategy should specify (1) the presence or absence of a market and/or production information input system and (2) the type of data that should be so transmitted. Responsibility for designing and implementing this information system would normally be held by a functional manager.

R&D Budget
Research and development goals and strategy should also specify the size of the R&D budget. An R&D budget, which can be viewed as a limit for R&D expenditures, is often expressed as a percentage of sales. However, this basis for R&D expenditures can lead to financial difficulties because it ignores consideration of whether there is sufficient profitability to cover R&D costs. Alternatively, the R&D budget could be a function of a profit measure.

An R&D budget can also be set according to industry practices. But the average R&D expenditure of competitors is a minimum below which management could find itself at a competitive disadvantage.

PRODUCTION STRATEGY
Perhaps in no other functional area is the task of reflecting business-level strategic choices in functional strategy as demanding as it is in the production area. During the press of current operational snags, it is easy for production managers to exchange strategic relevance in operational decisions for tactical convenience. An industrial equipment manufacturer, for example, having developed a strategy stressing high quality and rapid delivery at premium prices, may suddenly cut inventory levels or the number of workers, or both to meet period-end cash flow needs. The restaurant chain store manager stressing product quality will precook food for the noon rush hour to hasten service when customers arrive.

These short-term departures from higher-level strategy not only have the effect of shocking the production system, but they also can produce results that are in conflict with that strategy-- in these examples, the creation of a reputation for high-quality products.³⁸

To guide manufacturing managers in the operation of the production function in a way consistent with other strategy levels, production strategy should at the minimum address capacity, facilities, product quality, process, technology, and control.³⁹

Production Capacity
When business-level goals and strategy involve manufacturing, production capacity required to meet sales and inventory requirements should be specified. Thus to begin to set production goals and formulate strategy, the strategist must first forecast sales.

Capacity is the amount of labor and equipment that will be required within specific time periods to meet expected demand. The strategist can express capacity in either total or incremental terms, whichever is consistent with the scope of strategy. As for units of analysis, capacity is usually specified as units of output per time period for labor, machines, and plant space required to meet expected demand. More specifically, production system capacity can be expressed as system efficiency (SE), the measure used to describe a firm's actual output as a function of production capacity:⁴⁰

The system efficiency ratio is also called utilization rate. It may range from 85 to 95 percent, or even higher, depending on industry, investment levels, and economic conditions.⁴¹ Of course, the precise maximum output capability of a firm varies somewhat with conditions. But management usually recognizes a certain capacity utilization rate as the level above which the firm cannot produce without adding facilities. This capacity limit is the one against which a new business-level strategy's production expectations are compared to determine whether or not new facilities are needed.

The seven basic ways in which a firm can be managed in order to respond to an increase in capacity requirements are shown in Exhibit 5-2.

Production Processes
Production strategy should also specify the type of manufacturing processes to be used to produce the products called for by business-level strategy. There are three basic types of production--repetitive (continuous), intermittent (job order), and project systems--and two hybrids, job lot and limited-quantity large-scale systems.⁴² Explanations and examples of each are presented in Exhibit 5-3.

Quality
Also as part of production goals and strategy, the strategist can guide the production department in reaching the appropriate product quality level by specifying values for inspection costs and defective unit costs. It may not be necessary to specify quantities for both, since they are highly negatively correlated. That is, when inspection costs are low, the proportion of defective units of output is high; when inspection costs are high, defects are low.

For new products and new production processes, it is difficult to know a priori what values to assign for desired inspection or defective unit costs. Standards for quality, which arise from strategic analysis and parts of marketing strategy, usually cannot be interpreted directly in terms of inspection costs or defective units. For example, with no experience in producing a new product item, the strategist would have no basis for setting inspection cost levels or defective cost proportions even though a desired quality goal in a general sense is clearly understood. Thus a period of experimentation by acceptance sampling would be necessary to establish reliably what cost control guidelines are appropriate to produce the desired and affordable level of defective units. "A general guideline is to inspect when the cost of inspection at a given stage is less than the probable loss from not inspecting."⁴³

In the absence of quality guidelines set by management, individual employees will set their own quality guidelines at the stage of production in which they are involved. This inconsistency can lead to chaos in production processes as product move between stages or activities, and ultimately can result in an unacceptably low level of product quality.

For new entries or existing products in extant markets, either through market research or information gathered from customers by salespeople, data can be developed on competitors' proportions of defective units. Then relative quality goals can be generally determined and inspection costs can be set by acceptance sampling techniques.

Of course, responsibility for seeing that a desired product quality level is maintained rests with everyone who is in a position to affect quality. One of the key reasons for the success of Japanese manufacturers in acquiring reputations for quality products has been their ability to develop this sense of quality responsibility among all employees. To do so strategic quality or service goals (or intentions) must be manifested in all activities, from the very top to the bottom of the organization, through production quality strategy.

Facilities⁴⁴
When more capacity is required to carry out a business-level strategy, whether it involves new construction or the upgrading of old facilities, guidelines are needed to evaluate facility proposals. In service businesses owned or leased buildings have to be evaluated.

Evaluating proposals properly requires cost data. Industrial engineering may supply labor and productivity estimates; accounting may furnish labor rates, overhead rates, tax rates, and cost-of-capital rates. The proposal should also be supported by a demand forecast so that expected revenues or savings can be compared with costs. At least two stages of analysis are usually undertaken. Preliminary analysis is used to screen out unacceptable proposals by break-even analysis, payback period, simple rate of return, or average annual cost methods. Those projects that survive preliminary screening are then analyzed in more detail. This detailed analysis involves consideration of the time value of money and results in a rank ordering of proposals. It normally follows the other capital budgeting techniques identified in the financial strategy section (net present value, discounted rate of return, etc.).

There may also be a final analysis stage, which requires selection from among rank-ordered proposals. The firm's cost of capital, historical rate of return, or industry averages can be used as cutoff points for selection of the best proposal.

Replacement of existing facilities is guided by calculations based on costs. Although replacement decisions are usually operational in nature and ongoing, a new strategy can involve replacement of facilities as opposed to new acquisitions. Facilities' replacements, a capital expenditure problem requiring large amounts of capital, are different from the more common component replacement decisions associated with maintenance management. Component replacement often involves expense items, charged to the current period, or relatively small capitalized expenditures. Facility replacement expenditures tend to have longer-term effects on the firm than do those for component replacement.

A more comprehensive model of the categories of decisions which make up production strategy is proposed by Wheelwright.⁴⁵ It consists of the following eight elements: Capacity, facilities, technology, vertical integration, workforce, quality, production planning/materials control, and organization. Although we agree with this proposal, the parts of this list not addressed in our elements of production strategy can be addressed in the other functional strategy areas. For example, the question of organization of the production effort would be confronted in organization strategy; desired level of technology in production would be a matter of reflecting technological preferences delineated in business level strategy; workforce issues would comprise personnel strategy, and so on.

EXTERNAL RELATIONS STRATEGY
Strategies for external relations are formulated to guide the organization's direct involvement in the external social and political systems. Of course, the environment of a firm is taken into consideration in the formulation of all levels of strategy. But for external relations goals and action plans, we are concerned with direct attempts to use political processes to influence elements of an organization's environment.

Dickie studied the effect which several characteristics of organizations seem to have on the ability of those companies to influence Congress, regulatory agencies, and state and local regulatory bodies.⁴⁶ Two variables, size of organization and economic sector within which the organization operates, determine the amount of influence a firm is able to exert on proposed legislation. Large companies have more influence than smaller ones, according to his results, where size is measured by total assets. Thus, smaller organizations can expect to have to work harder to influence legislation than larger ones.

As for the influence of a firm's economic sector, utilities and service companies are more likely to have great influence before Congress than retail and mature industry firms. High technology and energy companies exhibit levels of influence before Congress between the other two combinations.

Influence before regulatory bodies is a function of the tenure of the organization's senior public affairs officer (time in position) and time with company, as well as size of the company. Among utilities and retail firms, people with the most time in position have greater influence over regulatory agencies than those new to their positions. The opposite results obtain for service and energy firms, though, for which new public affairs officers are most likely to have the greatest influence.

A similar pattern emerged for public affairs officers' time with the company. Firms with public affairs officers who have been with the company less than eight years have the least influence on regulatory agencies. However, public affairs officers with over seventeen years of company service report the greatest degree of influence with respect to regulatory bodies.

Size of company is also a factor with regulatory agencies. The large organizations have the greatest influence over them as is the case with influence before Congress.

Size and sector of firm also are important factors in determining the amount of influence of companies on state and local regulatory bodies. Utilities and service firms have greater influence than those in other sectors and larger companies exceed smaller ones in terms of influence on state and local regulatory agencies.

Starling explains that companies enter into external political processes for four purposes.⁴⁷ They can attempt to oppose or advocate (1) a state, local, or federal government action or policy; (2) an interest group action; (3) another company's action; or (4) a union action.⁴⁸

He goes on to outline four political approaches organizations can take to influence these four sectors of its environment, and then suggests several possible strategies for each approach.⁴⁹ In the rest of this section, we discuss these sets of political action approaches and associated strategies.

Information Activities Approach
Organizations can attempt to influence public opinion by disseminating information in various ways. They can use advocacy advertising to enhance their image. For example, frequent

appearances on national television by Chrysler's president, Lee Iacocca, seem to have bolstered the public's confidence in Chrysler's products.

They can also obtain media coverage by preparing and releasing research reports, press releases, and position papers on key issues, and having executive grant interviews and make speeches. One executive who is frequently in the public eye is Ted Turner, who owns several businesses, including the Atlanta Braves baseball team and Turner Broadcasting Company. Turner became a national hero of sorts when he skippered the 12-meter yacht Courageous to four straight America's Cup victories over the Australians in 1977.

Electoral Activities Approach
Organizations can try to influence the results of elections by encouraging managers to become involved in voluntary political activity, by making campaign contributions, and by forming political action committees.

Managers can become politically active by working for a party or other political organization, running for local political office, or getting appointed to a public administrative group. By first determining the type of political activity by employees that would be strategically advantageous to the organization, top management can develop performance-evaluation criteria that reward employees that would be strategically advantageous to the organization, top management can develop performance-evaluation criteria that reward employees for such activity.

Political action committees (PACs) can be established to collect and funnel funds to political candidates and issues. They can be formed by individual organizations or on behalf of entire industries. Companies are forbidden from donating their own funds to candidates but they can pay the operating expenses of PACs and set strategy about recipients of funds collected by the PAC for employees and others. A PAC can contribute up to $10,000 to a federal candidate; $5,000 before a nominating convention and then another $5,000 afterward. Authority over the distribution of PAC funds can give the associated company a considerable amount of influence with candidates.

Governmental Activities
Governmental policy-making processes can be influenced by coalition building, letter writing, and lobbying. Basically these three methods can be used to inform decision makers of an individual's, a firm's, or an industry's preferences in regard to specific governmental policy.

Firms can build coalitions to influence public policy making by identifying a constituency and then developing support within it for a particular viewpoint. Constituencies that can be developed into coalitions include stockholders, company charge card holders, employees, suppliers, and interest groups that are unrelated to the organization except for some similar interest.

Once a coalition is formed around an issue or a policy, the appropriate elected officials have to be informed of its wishes. This communication process is usually accomplished by letter-writing campaigns in which members of the coalition write to the elected official. Alternatively the coalition may use a lobbyist to convey its desires or concerns to the appropriate officials. Lobbyists are used to influence legislation at mainly the federal and state levels.

Litigation Activities
Finally, organizations can attempt to influence governments, interest groups, other companies, and unions by taking legal action. For example, the Mansville Corporation and two smaller firms unsuccessfully sought congressional relief from growing numbers of personal injury suits contending that asbestos, a product they had sold for years, was either killing or seriously injuring people.⁵⁰ The critical issue is that the effects of asbestos poisoning may take as long as thirty years to materialize. Thus, in addition to outstanding suits, asbestos manufacturers can anticipate possibly a great number of claims many years in the future.

The companies responded by developing external relations strategy that involved filing Chapter XI bankruptcy petitions. If they were granted relief under Chapter XI, they hoped to be freed not only from current claims against them, but also from any claims arising from possible future asbestos sickness suits. So far the strategy has failed: the court rejected one of the petitions. Nonetheless this rather unusual case demonstrates how a firm at least can attempt to use legal action to influence government and interest-group actions. The Mansville and related cases are examples of direct judicial activity. Alternatively organizations can use quasi-judicial activity, in the form of arbitration. Arbitration is usually an attempt to avoid or foreshorten litigation over a disagreement between two parties. Basically arbitration entails an agreement between two parties to abide by the decision of a third party, the arbitrator.

The most common use of arbitration is to resolve labor/management disputes. However, it is not restricted to this situation. As the cost of litigation continues to rise, arbitration may become a more popular form of settlement in all types of disagreements.

Strategic Parameters
To set goals and action plans for external relations, the strategist must first understand the purpose of the external relations effort. This insight can be gained from the process outlined in Exhibit 5-1, just as with other strategy areas. External relations goals should be case in terms of the expected results of the effort. Action plans for reaching those goals should specify the approaches to follow. In addition, expected results should specify the approaches to follow. In addition, expected results should be enumerated along with budgeted costs.

SUMMARY
This chapter explains the processes of formulation and major dimensions of content of functional strategy that is the implementable manifestation of higher levels of strategy. To formulate functional strategy, the analyst must first choose the functional areas within which to set goals and action plans. Then goals and action plans are set. The steps for these processes are explained in the first part of the chapter.

In the second part, the major elements of the content of six functional strategy areas are described. These dimensions can be viewed as the typical set of topics that would have to be addressed in order to formulate strategy for each functional area. A particular firm may not have all of the six functional areas covered in the chapter; it may have more than these six. The ones presented are intended to be used as a starting point for analysts to decide on the content of functional strategy for specific applications.

1. LaRue T. Hosmer, Strategic Management: Text and Cases on Business Policy (Englewood Cliffs, N.J.: Prentice-Hall, 1982, p. 492.
2. For example, see Harold W. Fox, "A Framework for Functional Coordination," Atlanta Economic Review, November-December 1983, pp. 8-11; Howard H. Stevenson, "Defining Corporate Strengths and Weaknesses," Sloan Management Review, Spring 1976, pp. 41-68; John F. Rockart, "Chief Executives Define Their Own Data Needs," Harvard Business Review, March-April 1979, pp. 81-93; and Charles C. Snow and Lawrence G. Hrebiniak, "Strategy, Distinctive Competence, and Organizational Performance," Administrative Science Quarterly, vol. 25, pp. 317-336, June 1980.
3. Michael A. Hitt, R. Duane Ireland, and K.A. Palia, "Industrial Firms' Grand Strategy and Functional Importance: Moderating Effects of Technology and Uncertainty," Academy of Management Journal, vol. 25, no. 2, pp. 265-298, June 1982.
4. This section paraphrases Hitt et al. "Industrial Firms'," pp. 288, 291.
5. Ibid., p. 289.
6. R. Miles and Charles C. Snow, Organizational Strategy: Structure and Process (New York: McGraw-Hill, 1978), and Snow and Hrebiniak, "Strategy."
7. These results are summarized in Snow and Hrebiniak, "Strategy," pp. 319-320.
8. Snow and Hrebiniak, "Strategy," pp. 333-334.
9. Anil K. Gupta and V. Govindarajan, "Build, Hold, Harvest: Converting Strategic Intentions into Reality," The Journal of Business Strategy, vol. 4, no. 3 (Winter 1984), pp. 34-47. For other discussions of the relationships between manager characteristics and strategic performance see Gupta and Govindarajan, "Business Unit Strategy, Managerial Characteristics, and Business Unit Effectiveness at Strategy Implementation," Academy of Management Journal, vol. 27, no. 1 (1984) and Milton Leontiades, "Choosing the Right Manager to Fit the Strategy," The Journal of Business Strategy, vol. 3, no. 2 (Fall 1982).
10. E.J. McCarthy called the first tour of these the four P's - product, price, place, and promotion - in Essentials of Marketing, Homewood, Ill.: Irwin, 1979).
11. See Phillip Kotler, Marketing Management, 4th ed. (Englewood Cliffs, N.J.: Prentice-Hall, 1980), pp. 351-379.
12. Ibid., pp. 353-354.
13. Ibid., pp. 357-369.
14. Adapted from McCarthy, Essentials of Marketing, pp. 339-343.
15. Ibid., p. 346.
16. Ibid., pp. 342-343.
17. Ibid., pp. 373-275.
18. Ibid., p. 276.
19. For an excellent discussion of approaches to setting communication budgets, see Kotler, Marketing Management, pp. 498-504.
20. Samuel Rabino and Howard Moskowitz, "The R&D Role in Bringing New Products to the Marketplace," The Journal of Business Strategy, vol. 1, no. 4 (Spring 1981), pp. 26-32.
21. For detailed explanations of those models, which are beyond the scope of this book, the reader is referred to the books included in the "Reading" for this chapter.
22. See J.F. Weston and E.F. Brigham, Managerial Finance, 7th ed. (Hinsdale, Ill.: Dryden, 1981), pp. 770-777 for a detailed discussion of how to proceed with such a decision.
23. Ibid., p. 682.
24. The financial leverage notion is fraught with conclusion at the point it is operationalized. In measurements of leverage, distinctions can be made among total debt, long-term debt, and short-term debt. On the matter of funds committed by owners, a problem arises with preferred stock. From one viewpoint it is more like debt and should be treated as such. From another it represents an ownership claim. Finally, financial leverage can be treated as the relationship between debt or equity and total assets of the firm, though accounting convention results in a fully specified equation such that the magnitude of two determines the third. In the present discussion, these distinctions are of much less importance than the concept itself. The analyst is cautioned, however, to understand the operation distinctions and use them in the proper context.
25. H. Bierman, Strategic Financial Planning, (New York: Free Press, 1980), pp. 176-185.
26. Under the rubric of accounting convention, working capital itself is ultimately defined in cash terms. That is, current assets are categorized as such under the (not necessarily accurate) assumption that they can be converted to cash within a "merchandising cycle" or one-year accounting period. Current liabilities are those obligations due within the same period, and which require cash outlays. Thus the "current" categorization of assets and liabilities is derived from their timing and substantive relationships.
27. U.S. Department of Labor, Dictionary of Occupational Titles (Washington, D.C.? GPO).
28. U.S. Department of Commerce, Bureau of the Census Alphabetical Index of Industries and Occupations (Washington, D.C.: GPO).
29. International Labor Office International Standard Classification of Occupations (Washington, D.C.: GPO).
30. J.B. Miner and M.G. Miner, Personnel and Industrial Relations (New York: Macmillan, 1977), pp. 167-168).
31. Portions of this section adapted from Dale Yoder and Paul D. Staudohar, Personnel Management & Industrial Relations, 7th ed. (Englewood Cliffs, N.J.: Prentice-Hall, Inc., 1982), pp. 471-475.
32. R.W. Cairns, "Planning for Research: The Problems Involved," Research Management, vol. 4, no. 2, 1961.
33. Ibid.
34. W.H. Newman and J.P. Logan, Strategy, Policy, and Central Management (Cincinnati, Ohio: South Western, 1971), p. 168.
35. R.S. Murdick et al, Business Policy, 3rd ed. (Columbus, Ohio: Grid, 1980), pp. 199-200; Cairns, "Planning for Research," and Newman and Logan, Strategy, Policy, pp. 166-169.
36. Newman and Logan, Strategy, Policy, p. 167.
37. Ibid., p. 180.
38. S.C. Wheelwright, "Japan - Where Operations Really Are Strategic," Harvard Business Review, vol. 59, p. 69, July-August, 1981.
39. Ibid., p. 72
40. For detailed discussion, see J.G. Monks, Operations Management: Theory and Problems, (New York: McGraw-Hill, 1977), pp. 49-51.
41. Ibid., p. 150.
42. This section paraphrases R.J. Schoenberger, Operations Management (Plano, Texas: Business Publications, 1981), pp. 15-19 and Monks, Operations Management, 391-394.
43. Monks, Operations Management, p. 497.
44. Schonberger, Operations Management, pp. 433-482.
45. Steven C. Wheelwright, "Manufacturing Strategy: Defining the Missing Link," Strategic Management Journal, vol. 5, no. 1 (January-March 1984), pp. 77-91.
46. Robert B. Dickie, "Influence of Public Affairs Offices on Corporate Planning and of Corporations on Government Policy," Strategic Management Journal, vol. 5, no. 1 (January-March 1984), pp. 15-34.
47. Grover Starling, The Changing Environment of Business, Boston: Kent, 1980), pp. 516-520.
48. Ibid., Exhibit 13-1, p. 517.
49. From Grover Starling, The Changing Environment of Business, 2nd ed. (Boston: Kent Publishing Company, 1984), pp. 439, 442-444 c 1984 by Wadsworth, Inc. Paraphrased with permission of Kent Publishing Company, a division of Wadsworth, Inc.
50. "A Case That May Burn Makers of Asbestos," Business Week, April 11, 1983, p. 35.