Strategic Modelling and Business Dynamics Personal ... · Strategic Modelling and Business Dynamics INTRODUCTION In many avenues of human endeavor we get a chance to practice at something

Strategic Modelling and Business Dynamics

Strategic Modelling and Business Dynamics Personal Workshop 5

Experiments with the Goodyear Diversification Microworld

by Shayne Gary1 and John Morecroft

London Business School Regent’s Park

London NW1 4SA

1 Shayne Gary is now in the School Management at the Australian School of Business, UNSW Australia

Created by John D.W. Morecroft © 2015 John Wiley and Sons Ltd 1


INTRODUCTION ..............................................................................................................................3

I. TIRE BUSINESS SIMULATOR OVERVIEW ...............................................................................4

TIRE INDUSTRY SECTOR ................................................................................................................................. 5CORE TIRE BUSINESS (CTB) SECTOR ................................................................................................... 6

II. TIRE BUSINESS SIMULATOR USER’S GUIDE .......................................................................7

THE EXECUTIVE SUITE ................................................................................................................................... 8 INDUSTRY CONDITIONS & FIRM POLICY ASSUMPTIONS CONTROL PANEL ...........................................11 GETTING STARTED WITH THE CORE TIRE BUSINESS SIMULATOR ....................................................... 11

III. BINARY BUSINESS SIMULATOR OVERVIEW ....................................................................

NON-TIRE BUSINESS SECTOR (NTB) .................................................................................................

IV. BINARY BUSINESS SIMULATOR USER’S GUIDE ..............................................................

THE EXECUTIVE SUITE ............................................................................................................................... INDUSTRY CONDITIONS & FIRM POLICY ASSUMPTIONS CONTROL PANEL .......................................... GETTING STARTED WITH THE BINARY BUSINESS SIMULATOR .............................................................

Created by John D.W. Morecroft © 2015 John Wiley and Sons Ltd

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INTRODUCTION In many avenues of human endeavor we get a chance to practice at something before having to do it for real. In athletics we train long and hard before facing the opposition. In preparation for a presentation, we do several dry-runs in advance of having an audience. However, in the realm of strategy, rarely do managers or directors practice enacting a strategy before making decisions which very often impact the future success or failure of their company. In this era of accelerating technological, organi ational, and political change, managers must make these decisions within enormously complex environments. Management simulators, like flight simulators used to train pilots, allow managers to practice implementing their decisions without risk. They learn, make mistakes, and gain insight and experience about their interconnected business system while ‘flying’ the simulator. The Goodyear Diversification Simulators place you at the helm of Goodyear Tire Company as CEO, and allow you to experiment with various strategies for the core tire and non-tire business segments. In the Core Tire Business Simulator, you will begin by managing just the core tire business under a range of industry conditions. A series of suggested experiments highlight the difficulties of managing a mature business as dynamic complexity increases. After experime nting with the core business, the challenge escalates as the Binary Business Simulator ch arges you with managing the core and non-core businesses simultaneously. Each simulated time period you will make strategic decisions, and receive feedback from your past decisions. You may be surprised by side effects and delayed consequences of your own actions. You will face uncertain demand for tires, historically a very cyclical business, and you may face financial crisis or other unexpected developments. The purpose of the simulators is to give you insi ght into the issues raised by the particular case, and to help you understand the difficulties of making decisions in business systems with complex dynamic interconnections. In particular, an understanding of the dynamics of resource restructuring is fundamental for gaining an appreciation of the factors influencing performance in diversified firms.



I. TIRE BUSINESS SIMULATOR OVERVIEW You will take command as Goodyear CEO in the period 1972 1982 (the era of Charles Pilliod), and guide the company’s core business investment decisions for each year. The simulator has three main components: a simulation model, an Executive Suite, and a Control Panel for industry conditions and firm policy. Each of these components will be briefly summari ed below, and a detailed description of each component will be given in the sections which follow. The heart of the simulator consists of a simulation model which generates behavio r over time as you make decisions each period. The model is a simplification of the real business system, and therefore a number of factors have been omitted or simplified. Figure 1 provides an overview of the model sectors for the Core Business Simulator. The arrows linking the two model sectors represent interactions between the Tire Industry & Market and Core Tire Business sectors. The investment decisions you make in the core tire business help shape the Tire Industry, and the Tire Industry & Market certainly affects the performance of the core tire business. Details of important variables within each of these two sectors will be given in sections which follow.

TIRE INDUSTRY& MARKET

CORE TIRE BUSINESS

GOODYEAR

Figure 1. Core Tire Business Simulator Model Sectors with interconnections. You fly the simulator from the Executive Suite, where you can monitor developments of the company and market, and input your investment decisions. You will have to decide how to select the most important and useful data to assist you in making your decisions. Each ‘game’ lasts nine years, and every year you have to make an investment decision for the core tire business (CTB). Investment is necessary to maintain product attractiveness in an industry with heavy spending on R&D and marketing. Product innovations have shaken up the industry in the recent past, and maintaining market share


Strategic Modelling and Business Dynamics requires continuous innovation. In addition, companies in this industry invest large sums of money to keep up with the rate of change in tire plant and equipment. Lastly, the simulator includes a Control Panel for Industry Conditions and Firm Policy, where you determine the amount of dynamic complexity and the managerial objectives for the core tire business. The next section provides brief summaries for each of the model sectors which are at the heart of the simulator.

Tire Industry Sector In the simple representation of the tire industry, there are four crucial variables which impact Goodyear’s performance in the core tire business. These four variables are: Tire Demand, Industry Capacity, Industry Rivalry, and Industry Tire Price. A summary for each variable is given below. Tire Demand Tire Demand consists of two separate components: Replacement Tire Demand and Original Equipment Manufacturer Demand. Demand in these segments, for the United States, has been constructed from secondary data sources for the time period being simulated. As a result, the demand you experience in the simulator is similar to the demand faced by the managers at Goodyear. One point of departure from the actual demand Goodyear experienced is that the simulator focuses exclusively on the domestic U.S. tire market and ignores the international tire market for simplicity. Another point of departure depends on the assumptions you make about industry conditions for each simulation (i.e. constant demand, demand crash, or cyclical demand). Industry Capacity Industry Capacity adjusts in response to Tire Demand, and is represented with a time delay of three years. When demand exceeds capacity, it will take three years to get new plants functioning at full capacity in order to meet that demand. Similarly, when capacity exceeds demand, it will take three years to fully shut down the tire plants. Industry Rivalry Industry Rivalry is a measure of competitive intensity in the tire industry, and is a function of the ratio of Tire Demand and Industry Capacity. When Capacity exceeds Demand, Rivalry is high. When Demand exceeds Capacity, Rivalry is low. The graphical function shown in Figure 2 is used in the simulation model to express this relationship. This variable gives you insight into how competitive the industry is at any point in time. Values above one indicate a highly competitive industry in which industry prices will be falling to compete for sales.



Figure 2. Industry Rivalry as a function of the ratio of Tire Demand and Industry Capacity.

Industry Tire Price Industry Tire Price is a function of Tire Cost and Industry Rivalry. When Rivalry is low, Industry Price can rise to capture high margins. When Rivalry is high, Industry Price falls and margins deteriorate. Goodyear’s Tire Price adjusts in response to the Industry Price, but with some premium to represent Goodyear’s high brand value.

Core Tire Business (CTB) Sector The Core Tire Business sector is a highly aggregated representation of Goodyear’s accumulation of resources in the core business. This sector represents the interface between Goodyear and other companies in the industry. There are four crucial variables in this sector: Resources in CTB, Goodyear Tire Attractiveness, Goodyear Market Share, and Return on CTB. Resources in CTB The investment you make each year in the core tire business accumulates into a stock of Resources over time. These resources include plant and equipment, marketing, R&D, employee training and knowledge, and generally, the entire bundle of resources of which a firm is composed. These Resources depreciate over time such that investment is required to maintain the stock. Goodyear Tire Attractiveness Goodyear’s Tire Attractiveness is a function of the ratio of Goodyear’s Investment in CTB and the Industry Average Investment. When Goodyear’s Investment is higher than the Industry Average, Goodyear’s Tire Attractiveness increases. You can keep track of the relative core business investment compared with the industry with the Investment Ratio numeric display in the Executive Suite.


Strategic Modelling and Business Dynamics Goodyear Market Share Goodyear’s Market Share adjusts in response to Goodyear’s Tire Attractiveness after a time delay. Indicated Market Share provides data about the direction market share is moving. Return on CTB Return on CTB is computed as the ratio of Goodyear Income and Resources in the core tire business. This value differs from tradit ional accounting measures of return since the bundle of Resources in CTB includes non-capital resources/assets. The measure can be interpreted as a return on resources.

II. TIRE BUSINESS SIMULATOR USER’S GUIDE Now that you have an overview of the simulator, it is time to learn how to start ‘flying.’ The best way to learn how to use the simulator is to simply dive in and begin. In Windows, start the ithink application, and open the file TIRE.itm (Core Tire Business Simulator) by using the File....Open command on the Menu Bar in ithink. If using a Macintosh, double click on the icon titled TIRE.itm to begin. When the simulator opens, your screen will display the two model sectors for the Core Tire Business Simulator along with a welcome at the top of the screen. Just below this you will see a brief description of your task . Figure 3 shows what your screen should look like upon opening the simulator.

Figure 3. Initial screen of th e Core Tire Business Simulator.

As CEO, you make the investment policy decision for the core business each year. A note concerning the nature of this investment decision is appropriate given it is really more of a policy choice rather than a decision about specific investment amounts. Your


Strategic Modelling and Business Dynamics challenge each year will be to direct investment policy in the core tire business to downsize, remain constant, or grow. The simulator pauses each year for you to make your investment policy decision, and continues only after you indicate you are ready to continue. Prior to making the investment policy decision, you are encouraged to view the graphs generated by the simulator. These graphs of simulation variables over time display information critical to your investment decision. The following pages convey what information is displayed and how to view it. In the end, you will need to digest the information and make the investment decision based on your strategy for managing the business.

The Executive Suite After reading through the welcoming comments and the brief description of your task, you are ready to begin making policy decisions. Scroll to the right to enter the Executive Suite of the Core Tire Business Simulator. From this position you will make investment decisions each year and review all available company and industry information required for this decision. The Executive Suite is composed of a Graph Pad, the Investment Multiplier slide bar, and a series of numeric variable displays as shown in Figure 4.

Figure 4. Executive Suite graph pad, Investment Multiplier slide bar, and numeric variable displays.

The Executive Suite Graph Pad provides you wi th plots of all available variables over time. The first page of the Graph Pad displays Resources in the Core Tire Business (CTB), Investment in the CTB, and Tire Resource Depreciation. As you run the simulator year by year, the values for these variables will be plotted on the graph. Additional pages in the Graph Pad plot other variables over time.


Strategic Modelling and Business Dynamics By clicking on the upturned corner of the graph pad in the bottom left corner, you can view page 2 of the graph pad as shown in Figure 5.

Figure 5. Graph Pad page 2 displaying Indicated Share, CTB Market Share, and CTB Target Share.

Page 2 of the Executive Suite Graph Pad plots three variables over time Indicated Share, CTB Market Share, and CTB Target Share. Indicated Market Share provides you with an idea of what direction market share is moving in either gaining or losing share. CTB Market Share is the current market share, and CTB Target Share represents the historical market share as the current target. This target adjusts over time to reflect new market share information. Clicking once again on the upturned tab in the lower left-hand corner of the graph will take you to Graph Pad page 3 as shown in Figure 6.

Figure 6. Graph Pad page 3 displaying Return on CTB, Mgmt View of Return, and Benchmark Return.

The graph in Figure 6 allows you to track Return on CTB, Management View of Return, and Benchmark Return over time. Return on CTB has been explained in a previous section. Management View of Return gives you an indication of how well current returns are living up to management’s (broadly taken as the top management team including the Board) expectations. The Benchmark Return is the basis for management’s comparison.



all. Page 4 displays Tire Price and Tire Attractiveness over time, and these variables have been discussed in a previous section. Page 5 displays CTB Revenue and Initial CTB Revenue. CTB Revenue is the current turnover as calculated by multiplying Goodyear’s Tire Sales and Goodyear’s Tire Price. Page 6 displays Tire Demand, Industry Capacity, and Industry Rivalry, all of which have also been discussed in a previous section. You are encouraged to examine all of the pa es in the Graph Pad when making your investment policy decisions. Directly below the Graph Pad, you will find the slide bar for the Investment Multiplier as shown below in Figure 7. Initially, the Investment Multiplier is set equal to 1 indicating an investment level in the core business exactly equal to Tire Resource Depreciation. This investment level maintains the resources in the core tire business at their current value. By moving the slide bar to the left, towards 0.5 (50%), you can decide to downsize the current level of resources in the core business. In contrast, by moving the slide bar to the right, towards 1.5 (150%), you can decide to grow the core business. Think of the investment multiplier as a policy choice to grow, maintain, or downsize the core business. You will get ample experience adjusting the investment multiplier a bit later.

Figure 7. The Investment Multiplier slide bar and digital display.

Note the minimum and maximum values for the investment multiplier 0.5 and 1.5 respectively. These values represent constraints indicative of any large firm that is trying to radically change resource deployments in the core business. There is a limit to how quickly a firm can downsize its core business, and at the same time there is a limit to how quickly the firm can grow its core business. The final component of the Executive Suite is the panel of numeric variable displays shown in Figure 8.

Figure 8. Executive Suite Panel of numeric variable displays.

The panel provides you with exact values for a selection of crucial simulation variables. Included in this panel is a score for you to monitor your performance as CEO of Goodyear. Your score is reported at the bottom of the second column of variables. This score is computed as a weigh ted average of return and market share performance, and adequately captures the typical tradeoff between the objectives of high returns and high market share. The last column in the panel, on the far right, indicates Control Panel settings for Industry Conditions and Firm Policy for the simulation. The next section discusses the assumptions in this Control Panel which you can change.


As you have seen, clicking in the bottom left-hand corner of the graph pad advances from page to page on the graph. There are six pages in the Executive Suite Graph Pad in

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Industry Conditions & Firm Policy Assumptions Control Panel The Core Tire Simulator is capable of accepting a variety of assumptions for industry conditions and firm policy objectives. If you scroll down from the initial welcoming screen, you will enter the Assumptions Control Panel as shown in Figure 9.

Figure 9. Industry Conditions & Firm Policy Control Panel.

For Industry Conditions, the first lever you can control is a slide bar labeled Step Change. This lever determines if there will be a sudden shock, or step change, in the tire industry two years into the simulation. The default setting is 0 (zero), indicating that there will not be any sudden shocks to the industry. Moving the slide to the left, towards -0.2, will result in a simulation in which tire demand drops by 20% after just two years. Moving the slide bar to the right, towards 0.2, will result in a simulation in which tire demand increases by 20% after just two years. The next lever for Industry Conditions, Cyclicality, is also initially 0 (zero). Any value above zero results in simulations which have cyclical tire demand corresponding to the same demand Goodyear faced during the era of Charles Pilliod. For Firm Policy, the only lever you can control is the management weighting or bias on market share. The more weighting placed on market share, the more your total score depends on meeting market share targets. This value ranges from 1 to 3, and the default value is 1. Fundamentally, this lever represents the trade-off between profitability and gains in market share which every top management team must decide upon.

Getting Started with the Core Tire Business Simulator The following simulation experiments should help you get more familiar with the Core Tire Business Simulator interface. Reviewing the process for changing the investment policy decision and stepping through the simulation, will be useful for anyone unfamiliar with gaming simulators. If you have not opened the Tire Business Simulator yet, please do so now and execute the following experiments. Simulation Experiment 1: An Invest ment Programme in a Stable Market In this experiment you will explore the implications of an aggressive four year investment programme, similar to Charles Pilliod’s. However, unlike Pilliod you face stable and benign industry conditions demand for tires is steady at 180 million tires per year and capacity exactly equals demand. Under such conditions, you can focus your attention on the effects of investment without the distraction of volatile industry rivalry. Your tire world has less dynamic complexity than Pilliod’s.


Strategic Modelling and Business Dynamics Scroll to the Executive Suite and run the simulation for two years with the Investment Multiplier set at its default value of 1. To begin a new simulation, select Run from the Run Menu at the top of the screen or use the shortcut keys Option-R for the Macintosh or Control-R for PCs. After running the simulation for one year, your screen should look similar to Figure 10 shown below.

Figure 10. Executive Suite Graph Pad, Investment slide bar, numeric variable displays, and Run window. The Run window, shown in the top right cor er of the graph pad in Figure 10, will pop up somewhere on the screen when you begin th e simulation. You can single click on the horizontal bar at the top of the Run window and move the window, by keeping the mouse depressed, to a spot on the screen where it does not block anything. When the window is in the position you want, simply release the mouse button. When you begin a simulation the model will take the value in the Investment Multiplier slide bar as input, and step through the model logic one year. After one year, the model will pause and await any changes you might deem appropriate for the investment policy. You should use these intervals to examine the information given in the Graph Pad to determine if you want to change the investment policy for the next year. For this thought experiment, assume that we do not want to change the investment policy yet. To continue without any changes, select Resume from the Run Menu at the top of the screen to resume the simulation, or you can click on the Run/Resume arrow pointing to the right (on the far left) on the small Run window as shown in Figure 11.



Figure 11. Run window with Run/Resume arrow pointing to the right, Pause button represented by two parallel vertical lines, Stop button represented by a black square, and the Specs menu down arrow. At the end of two years, examine the pages in the Graph Pad to reveal stable performance in all dimensions. Note that you have invested in the core business at a rate that exactly balances tire resource depreciation. Return to page 1 of the Graph Pad which shows resources and investment in the core business. Change the investment multiplier to 1.5 (extreme right of the slide bar), and run the simulator for the next four years (years 2 6). To change the investment multiplier you can single click the mouse button on the slide and keep it depressed while moving the slide horizontally to choose an investment amount, or you can double click in the digital display in the top right corner of the Investment Multiplier decision box and enter a numeric value. Your investment programme is under way! Note the build-up of resources in page 1 of the graph pad when investment exceeds depreciation. Watch return on CTB and market share. Explore the other pages in the graph pad. A word here about the nature of the investment policy decision is appropriate. The annual investment can be thought of as all the strategic expenses over one complete year. As discussed previously regarding Resources in CTB, the Investment represents expenditures in Plant & Equipment, R&D, Promotion and Advertising, and SG&A (Selling, General, and Administrative). While higher levels of investment may help capture market share through higher expenditures on R&D and Marketing there is a tradeoff with profitability (Returns). Run the final two years (years 6 8) with the investment multiplier set back to 1. Your investment programme is over and you are now holding resources steady. At the end of year 8, page 1 of the graph pad should look like Figure 12.

Figure 12. Simulation experiment 1 results of an investment programme.


Strategic Modelling and Business Dynamics Examine the pages of the graph pad closely. What conclusions do you draw about your ability to manage the performance of the core tire business? Record your final score ________ Part 2: Scroll to the Industry Conditions & Firm Policy Assumptions Control Panel (below the welcome screen), and find the slide under Firm Policy. Set Mkt Share Priority to 3 (extreme right of the slide scale), then return to the Executive Suite and repeat simulation experiment 1. Record your final score ________ What conclusions do you draw about dominant logic and performance? Simulation Experiment 2: Managing an Industry Downturn In this simulation experiment you will be faced with a sudden 20% downturn in demand in both your major markets: original equipment (OEM) and replacement. You will have the opportunity to explore the strategic options for managing your way out of this crisis. Scroll to the Industry Conditions & Firm Policy Assumptions Control Panel and Restore Mkt Share Priority to its default value of 1. Set Step Change to -0.2 (extreme left of the slide bar), and return to the Executive Suite. Run the simulator for 8 years with the investment multiplier set at its default value of 1. You are investing at a rate that exactly balances resource depreciation. Select page 6 of the graph pad to see the industry downturn play itself out. Watch your performance in the numeric displays and review the pages of the graph pad. You have now been through a downturn albeit with a passive investment strategy! Record your final score ________ On the basis of your experiences devise an investment strategy to improve CTB performance (your score) in a downturn, under the prevailing reward system. Use the graph below to sketch a profile for investment over time. If you are working in a team, you should negotiate and agree on the profile.

Figure 13. Investment Stra tegy Profile Strategy 1.


Strategic Modelling and Business Dynamics Write down your rational in the rectangle below, explaining why the investment strategy profile you have sketched will improve performance.

RATIONALE STRATEGY 1

Using the final score from the passive investment strategy as a benchmark, write down your expected score with your investment strategy profile ________ Try out your strategy and record your score ________ With the benefit of one attempt to improve your performance in a downturn, now devise another (better) investment strategy to improve CTB performance yet again. As before, use the graph in Figure 14 to sketch a profile for investment over time. If you are working in a team, you should negotiate and agree on the profile.

Figure 14. Investment Strategy Profile Strategy 2.

Write down your rational in the rectangle below, explaining why the investment strategy profile you have sketched will improve performance.



Using the final score from the passive investment strategy as a benchmark, write down your expected score with your investment strategy profile ________ Try out your strategy and record your score ________ If you have time, you can experiment with additional investment strategies. Simulation Experiment 3: Coping with Cyclicality In this simulation experiment you will be faced with a slice of real market history the same conditions prevailing during Charles Pilliod’s reign as CEO. It is your job to manage the business as effectively as possible in a turbulent industry. Scroll to the Industry Conditions & Firm Policy Assumptions Control Panel. Restore Step Change to its default value of zero, and set Cyclicality to 1 (extreme right side of slide bar). Make sure Mkt Share Priority is set to its default value of 1, and then return to the Executive Suite. Make sure the investment multiplier is set to 1, and run the simulator for 8 years without changing the investment multiplier. Select page 6 of the graph pad to see the cyclical industry scenario play itself out. As before, watch your performance in the numeric displays and review all the pages of the graph pad. Record your final score ________ Rerun the simulator. Adjust investment to cope with cyclicality as best you can to improve CTB performance (your score). This time, don’t try to plan your complete investment strategy 8 years in advance. Instead, react year-by-year to changing circumstances and decide each year whether to build, hold, or downsize your strategic resources. If you are working in a team discuss and agree on your annual tactics. Record your final score ________ If you have time, repeat the experiment trying, each time, to improve CTB performance. What insights can you draw about investment tactics for coping with cyclicality? At this point you should be comfortable experimenting with the simulator, examining the pages of the graph pad to get information about the business, and changing the investment multiplier to an amount you deem appropriate. You are now on your own to experiment with the simulator and try to draw insights about successful investment strategies under different levels of dynamic complexity. Best of luck in your new position!


RATIONALE STRATEGY 2

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III. Binary Business Simulator Overview The Binary Business Simulator places you at the helm of Goodyear as CEO of an established company as it diversifies into a promising new business. Your role will be similar to Robert Mercer, who led Goodyear into the gas transmission business between 1983 and 1986. The core tire business is iden ical to the one you managed in the core tire business simulator, and initially you will only manage the core business by making investment policy decisions as you have already done previously. However, if the return on the core business falls to an unacceptable level, the Board of Directors will approve a diversification strategy. If this happens, you will also need to make investment policy decisions for the non-core business. The sectors of the simulation model at the heart of the Binary Business Simulator are shown in Figure 15. The arrows linking the core and non-core sectors represent interactions between the two sectors. Invest ment in non-core businesses results in distraction of management from the core business, and hurts core business performance. In addition, the returns for each of the businesses may affect the level of investment allocated to the core or non-core businesses.

TIRE INDUSTRY& MARKET

CORE TIRE BUSINESS

GOODYEAR

NON-TIREBUSINESS

Figure 15. Model sectors for the Binary Business Simulator.

The addition of the Non-Core Business sector and the interactions between the Core and Non-Core sectors are the only changes in the si mulation model at the heart of the Binary


Strategic Modelling and Business Dynamics Business Simulator from that of the Core Tire Business Simulator. As in the CTB Simulator, the Binary Simulator also consists of an Executive Suite and a Control Panel for Industry & Firm Policy Assumptions. The following sections provide more details about the Binary Business Simulator, and begin with a summary of the Non-Tire Business Sector.

Non-Tire Business Sector (NTB) The Non-Tire Business sector is a highly aggregated representation of Goodyear’s Assets in the NTB. There are three variables which are crucial in this sector: Acceptance of Diversification, Assets in NTB, and Expected Return on NTB. Acceptance of Diversification If the Goodyear Board of Directors decide that the performance of the Core Tire Business is below the minimum acceptable return, then they will notify you of their approval of a diversification strategy. You are then able to manage the growth of the Non-Tire Business. Assets in NTB Goodyear’s Assets in the NTB accumulate over time as a result of investments in the NTB. These assets are very similar to the bundle of resources in the CTB, except that a higher percentage of these assets will be capital assets representing acquisitions. These assets also depreciate over time. Expected Return on NTB The Expected Return on NTB adjusts in response to the Actual Return on the NTB as Goodyear gains experience in the non-core businesses. Remember, there will not be good data about the returns in the NTB until Goodyear actually gets into the business.

IV. Binary Business Simulator User’s Guide Now that you have an overview of the simulator, it is time to start flying. As with the CTB Simulator, the best way to learn how to use the simulator is to simply dive in and begin. In Windows, start the ithink application, and open the file BINARY.itm (Binary Business Simulator) by using the File…Open command on the menu bar in ithink. If using a Macintosh, double click on the icon titled BINARY.itm to begin. When the simulator opens, your screen will display the three model sectors for the Binary Business Simulator along with a welcome at the top of the screen. Just below this you will see a brief description of your task. Figure 16 shows what your screen should look like upon opening the simulator.



Figure 16. Initial screen of the Binary Business Simulator.

If the return on the core business falls to an unacceptable level, the Board of Directors will approve a diversification strategy and your role will expand to management of a diversifying firm. If this happens, like Goodyear and Celeron you will make a large initial acquisition of a non-tire business and then build the business through further investment. As time unfolds you will have to gauge the performance of the new business relative to the core, and allocate resources to the core and non-core businesses as you see fit. It will be up to you to establish a return criterion for the initial acquisition, but keep in mind that you will not know for certain the true return of the new business. Only time will tell. You will have to decide how quickly to adapt your expectations, finding an appropriate blend of optimism, confidence, and pragmatism to guide the business forward. You must also judge the appropriate pace of diversification: too fast and you may destroy the potential of the new business as well as th e core; too slow and you may never achieve your ambition of a balanced diversified company. The following pages take you through several iterations of this process so that you will be well prepared to embark on your own as CEO of Goodyear.

The Executive Suite The Executive Suite for the Binary Business Simulator is an expanded version of the Executive Suite you are familiar with from the CTB Simulator. We will now explore the additional Graph Pads, Slide Bar, and numeric variable displays for the Non-Tire Business portion of the simulator. Scroll to the right from the initial welcoming screen to enter the Executive Suite as shown in Figure 17.



Figure 17. Core Business portion of the Executive Suite.

This core business portion of the Executive Suite is composed of the Graph Pad, Investment Multiplier slide bar, and numeric variable displays. You will find that the Graph Pad contains the same 6 pages as the Graph Pad from the CTB Simulator. The Investment Multiplier slide bar is also identical. In the panel of numeric variable displays, there are two new additions in the last column to the extreme right. The Diversification Option, at the top of this last column, indicates whether or not the Board of Directors has approved a diversification strategy. The value of this variable will be zero until a diversification strategy has been approved, and then it takes on a value of one. The other addition to this panel is Minimum Return on CTB located at the bottom of the last column. This variable tells you the minimum acceptable Return on CTB needed for the Board to maintain a focused strategy on the core tire business. If Return on CTB falls below this Minimum Return on CTB, a diversification strategy will be approved. In addition, your score is now computed as a weighted average of return on portfolio and core business market share performance. All other variables in the panel of numeric variable displays are identical to those in the CTB Simulator. Scroll down until you can see the non-core portion of the Executive Suite as shown in Figure 18.



Figure 18. Non-Core Business Portion of the Executive Suite.

In this expanded Executive Suite, you will need to make policy decisions and receive information about the non-core businesses in yo ur diversifying company. This includes another Graph Pad, a Growth Multiplier slide bar, and another panel of numeric variable displays. Assets in the NTB are plotted over time on page 1 of the Graph Pad as shown in Figure 18. Note that assets are not as broad a category as resources. The Assets in NTB represent acquired companies in non-tire businesses, and therefore are much more of an accounting asset definition. You may recall that Goodyear has long been involved in some amount of non-core business activity. The blimp business in Goodyear Aerospace is a good example. Therefore, the initial value of the Assets in NTB is set equal to $500M to represent the small NTB historic holdings. Until the Board of Directors approves a diversification strategy and notifies you of their decision, you need not concern yourself with managing the NTB. In fact, NTB assets will remain constant until you are asked to take over management of the non-core businesses. At that point, you will need to make a growth policy decision of the same sort as for the CTB, keeping in mind that NTB Assets will depreciate over time and that you must invest at least at the level of depreciation unless you want to decrease your NTB assets. Remember that by clicking on the upturned bottom left-hand corner of the graph you advance to the next page in the Graph Pad. Page 2 of the Graph Pad, shown in Figure 19, displays Expected Return on NTB, Return Criterion, and Benchmark Return.



Figure 19. Graph Pad page 2 displaying Exp Return on NTB, Return Criterion, and Benchmark Return.

The Expected Return on NTB has been discussed previously. The Return Criterion is a value you will be able to adjust in the Industry & Firm Policy Assumptions Control Panel which will be explained in more detail in the following pages. Fundamentally, the Return Criterion represents the minimum expected return that the management team requires of the non-core businesses before they will authori e growth of non-core businesses. Benchmark Return is the current management view about the long term return potential of the core business, and provides a useful comparison when contemplating growth in non-core businesses. The last page of the Graph Pad, page 3, displays Return on Portfolio, return on NTB, and Disruption from NTB. Return on Portfolio is a weighted average of the Return on CTB and Return on NTB. Return on NTB is the actual yearly return for the non-core businesses. As mentioned previously, growth in non-core businesses results in distraction of management from the core business, and hurts core business performance. Disruption from NTB represents the degree of management distraction. Directly above the Graph Pad, you will find the slide bar for Desired Growth in NTB as shown below in Figure 20. Initially, the Desired Growth in NTB slide bar is set equal to 0 indicating no growth in non-core businesses. This maintains the assets in the non-core business at their current (historically small) value. If the Board of Directors approves a diversification strategy, you can adjust NTB growth. By moving the slide bar to the left, towards -0.5 (-50%), you can decide to downsize the current level of assets in the non-core business. In contrast, by moving the slide bar to the right, towards 0.8 (80%), you can decide to grow the non-core businesses. Think of this as a policy choice to grow, maintain, or downsize the non-core businesse s. You will get ample experience adjusting the Desired Growth in NTB slide bar a bit later.

Figure 20. The Desired Growth in NTB slide bar and digital display.

Note the minimum and maximum values for the Desired Growth in NTB slide bar:


Strategic Modelling and Business Dynamics -0.5 and 0.8 respectively. These values represent constraints indicative of any large firm that is trying to radically change resource deployments in non-core businesses, just as there are similar constraints for changing resource deployments in the core business. There is a limit to how quickly a firm can downsize its non-core business, and at the same time there is a limit to how quickly the firm can grow its non-core business. The final component of this expanded Executive Suite is the panel of numeric variable displays shown in Figure 21.

Figure 21. Expanded Executive Suite Panel of numeric variable displays.

The panel provides you with exact values for a selection of crucial simulation variables. The performance gap, shown at the bottom of the first column on the left, indicates the difference between the expected return on the NTB and the expected return on the CTB. Fundamentally, this represents the potential advantage to be gained from NTB investment. The last column in the panel, on the far right, displays Control Panel settings for Industry Conditions and Firm Policy for the simulation. The next section discusses the assumptions in this Control Panel which you can change.

Industry Conditions & Firm Policy Assumptions Control Panel The Binary Business Simulator contains an expanded panel of assumptions for industry conditions and firm policy objectives. If you scroll down from the initial welcoming screen, you will enter the Expanded Assumptions Control Panel as shown in Figure 22.

Figure 22. Expanded Industry Conditions & Firm Policy Control Panel.


Strategic Modelling and Business Dynamics The Industry Conditions levers are identical to those of the CTB Simulator, except the default value for Step Change is -0.2 (indicating a sharp downturn in tire demand in the first two years of the simulation). For Firm Core Policy, the only additional lever you can control is the management view of the minimum acceptable return for the core business. If Return on CTB falls below this minimum threshold, the Board of Directors will approve a diversification strategy given the dismal future profitability of the core business. This minimum return can vary between 0% and 5% per year for the core business, and the default value is 4%. For Firm Diversification Policy, there are three levers you can change Return Criterion, Jog to True return, and Time to Change Mind. Return Criterion sets the minimum expected return for non-core businesses required for management to approve growth in the NTB. This Return Criterion can vary between 6% and 12%, and the default value is 9%. Jog to the True Return represents a bias you can introduce to either increase or decrease the true return on the non-core business by up to 3% per year, and the default value is 0%. Keep in mind that you do not know the true return on the non-core business, and can only improve your expectation of the true return over time. Time to Change Mind represents time required (in years) for management to adjust their expectations about the Return on NTB. This value can range between 1 and 8 years, and the default value is 5 years. The next section will provide you with ample opportunity to explore the impact of these assumptions.

Getting Started with the Binary Business Simulator The following simulation experiments should help you get more familiar with the Binary Business Simulator interface. If you not have opened the Tire Business Simulator yet, please do so now and execute the following experiments. Simulation Experiment 1: In this simulation experiment you are faced with a 20% downturn in your core business. You must do you best to manage the crisis. If you succeed, the firm will continue to focus on tires. If not, then you and the Board will consider diversification into a business that promises higher returns. Thereafter your task will be to manage investment in both the core and the new non-tire business. You will be judged on your ability to improve return on the portfolio and maintain share in the core tire business. You have entered the world of Robert Mercer. GOOD LUCK! To start, scroll to the Executive Suite and simulate the core year-by-year. Watch out for a downturn on page 6 of the Core Business Graph Pad displaying tire industry demand data. Use the investment multiplier to manage return on the core business. As long as the Board has confidence in the core business, then the diversification option will display a value of 0. The Board of Directors closely monitors returns in the core tire business, and if they perceive persistently low returns they accept a strategy to diversify. When the Board votes to accept a diversification strategy, you will receive a message such as the one shown in Figure 23.



Figure 23. Message from the Board of Directors approving diversification into NTB.

After receiving this message, read it carefully and then single click on the arrow pointing to the right in the Run window (the Run/Resume arrow) in the message window. Do not click on the black square next to the arrow, because this will stop the simulation. You are now authori ed to diversify. Note th at the diversification option now displays a value of 1. Scroll down to the non-core business numeric variable displays and Graph Pad. Note the return criterion agreed by you and the Board (top right numeric display in black). Compare the expected return on CTB (black) and NTB (brown). The performance gap indicates the potential advantage to be gained from NTB investment. Explore the pages of the non-core business Graph Pad. Devise a policy for NTB growth. If you are working in a team, you should negotiate and agree the policy. Under what circumstances would you go for rapid growth? Why would you stabili e or shrink the NTB? Unlike Mercer, you can safely assume a benign stock market and no corporate raiders. Record your policy in the box provided.

Non-Core Business Growth Policy

Set the NTB slide bar to reflect your non-core business growth policy. Return to the core business slide bar and set it appropriately given your policy. Simulate one year and examine the pages of the Graph Pad for the core business. Return to the non-core business Graph Pad and examine page 1 to review NTB assets, page 2 for expected return on NTB, and page 3 for return on portfolio. Continue the simulation, monitoring performance in both the core and non-core businesses year-by-year, until the simulation is complete. Record your score ________




Re-set the investment multiplier to its default value of 1, and desired growth of NTB to its default value of 0. Use your experience to devise a new non-core business growth policy to try and improve your performance (your score). Record your score ________ Can diversification improve your score? That concludes the introduction of the Binary Business Simulator and also concludes the Workshop briefing. At this point you should feel comfortable experimenting with the simulator on your own to identify strategies which improve the performance of a diversified firm.

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Strategic Modelling and Business Dynamics Personal ... · Strategic Modelling and Business Dynamics INTRODUCTION In many avenues of human endeavor we get a chance to practice at something