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Analyzing companies the Sun Tzu way (Part II)

May 29, 2008

In the earlier part of this series, we had discussed about one of the two important elements (the terrain and the ground) mentioned in the Art of War to understand the industry and market condition. We briefly discussed about ‘terrain’, which is identical to the type of industry that a company is engaged in and where situation is fixed. In this sequel we will discuss about the second element ‘ground’. Ground is analogous to the changing market conditions. This is more dynamic and constantly changing situation. As explained in the Art of War, there are nine types of ground situations. These are elucidated and elaborated as hereunder.

  • Analyzing companies the Sun Tzu way (Part I)

    Nine kinds of ground situations, which were depicted as nine geographical positions in the Art of War are as follows:

    1. Base ground (home ground market): It refers to the geographic region where the company has got its root. Sun Tzu says on base ground, do not engage the enemy. It is better to avoid battle on home ground because invaders can be aggressive and defenders have more on stake. If the investor is investing in company, which is rooted in home ground, then he should invest in such companies, which are capable to protect their base ground by putting up entry barriers for its competitors. For example companies that protect their base market by influencing the government’s law on protectionism regulations.

    2. Frontier ground (in enemy’s ground but not deep): Art of war says on frontier’s ground, fighter should not stop. Frontier ground is analogous to new market where initial gains are fast but once penetration gets deeper and when company enters into non-frontier ground then profit starts shrinking. In this situation investors are suggested to invest in companies during initial phase of entry to get maximum return.

    3. Serious ground (deep into enemy’s territory): This is situation where company has entered completely in foreign ground and facing competition from the local players. Sun Tzu says in this kind of ground warrior should maintain continuous supply of provision. If a company has entered a new market and operating there aggressively, then to succeed in such situation the company needs to maintain high level of resources and constantly increase the morale of its people. As an investor one should invest in company, which has enough resources (financial as well as man power) to sustain for longer period.

    4. Open ground (each side of warrior has liberty of movement): This ground is similar to present day open market. Sun Tzu says that defense is most important in this kind of ground. In this kind of market investors should invest in those companies, which have strong defensive strategy and the capability to effectively communicate and project its brand identity emphatically in market.

    5. Key ground (ground of intersecting highways): The Key ground is similar to region (market) that will be advantageous to the warrior that occupies it first. If warrior arrives first, then they have maximum advantage but if warrior is not first in the ground then he should not launch a direct offensive against a market leader who holds a key market situation. The second mover in the market should draw the competitor away by pretending to take off and move swiftly in other directions, thus distracting the enemy and indirectly softening the ground for future attack.

      This is bit complicated so would like elucidate with example in Indian context. In India, initially the telecom sector industry was like key ground, the first mover in this market made huge profit by entering into a virgin market. However, Reliance Communication came into market with different technology and pricing structure and garnered huge profit by not confronting the leader but by deploying different strategy. An investor should invest in companies who are the first movers or if they the second or third mover in an industry then they should keenly look at their strategy (technology, pricing and offerings)

    6. Focal ground (surrounded on three sides): This ground is analogous to market situation which arises when market dominance within an industry is determined by a small area that is left open. This area proves profitable but it is important to capture and secure it. It can provide an edge that may be significant for a business. Once mastered, the focal market is a profitable area. Incumbents must thus prepare for competition to come in.

      We can explain this with example of software industry. When computers became popular after Second World War and eventually become a necessity at workplace and home, Microsoft started producing operating system for computer. By capturing focal ground Microsoft became leader in its business. Investors should invest in company who has identified and captured it to emerge as leader.

    7. Difficult ground (wherever the road is difficult to reach): This ground is analogous to market situation where economic and market conditions are unfavorable and growth is slowed. In this situation, company faces trouble from external environment, not from the competitors. This situation is beyond company’s control. In this situation investors should invest in those companies that apply conservative approach and wade through troubled water by concentrating on its core competency rather than building up something new .

    8. Hemmed-in ground (ground obstructed by any openings): This is similar to a position where companies have grown and hold an entrenched position and now they are difficult to be bitten because their positions has been established and its been strongly defended. In such market, companies continuously expand new product lines and new models designed to hold positions. Investors should invest in companies, which have imbedded creativity in its organization through ingenious intellectual property so that they are able to defend their position in the market.

    9. Desperate ground (completely encircled, by enemies): This situation is analogous to a company’s position whose survival is at risk. In such a market situation only those companies can survive that use an aggressive and merciless strategy. Investor should invest in companies that are focused on the core business and have a good and capable management to tide through difficult situations.

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