rsm392h-m09 - UNIVERSITY OF TORONTO Faculty of Arts and...

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Unformatted text preview: UNIVERSITY OF TORONTO Faculty of Arts and Science 8: Rotman School of Management APRIL/MAY 2009 EXAMINATIONS RSM392HIS Duration - 3 hours Aids Allowed: Non-programmable calculators NAME STUDENT # Instructions: 1. The exam paper contains 4 pages (plus the case). Please check your paper to ensure that you are not missing any pages. 2. All answers should be written in examination booklets. Material written on the exam paper will not be graded. 3. Please ensure that your name and student number are written on each examination booklet that you turn in. If you turn in more than one examination booklet, please number your booklets. Please ensure that your answers are written legibly. A copy of the case ”Cervelo Cycles” is provided with the exam paper. A total of 100 points are available on this examination. The points per question are indicated on the exam paper. Use the points per question to help you allocate your time across questions. 7. This is an individual exam. 9‘5"!“ RSM 392H1S Final Exam mfiwmmw PART A: Case Update Questions (15 points total) Please answer the following questions. Be sure to use both concepts as discussed in class as well as the * case facts. You may assume that in the intervening time periods between the case being written and the update that the firm’s overall strategies and activities have remained the same. 1. On February 3, 2009 Starbucks announced the creation of a new value menu (officially called a ’pairing menu’) where customers can get a latte and a coffee cake or black coffee and an egg sandwich for $3.95. Starbucks also announced earlier that it was beginning to sell instant coffee, long a staple of low-cost coffee manufacturers using Robusta beans. Both moves signal a push to a more cost-conscious strategy. However, Starbucks has not abandoned its pricier coffee drinks. What are the risks of this apparent new strategy? Your answer should take into account your understanding of Starbucks’ activities as discussed in class as well as your understanding of generic strategies. (5 points) 2. A 2008 article in The Economist noted that the market for PC microprocessors appears to be maturing. While speed remains an important factor for microprocessors, the ability to handle complexity is also becoming an issue. At the same time, the microprocessors that power mobile phones increasingly able to handle elaborate and complex tasks because mobile devices themselves are becoming more complex. Graphics chips used to power gaming and other devices are also increasing in their abilities to handle complex tasks quickly. What will the impact be (if any) for the microprocessor industry from these changes? What impact (if any) do you see for the mobile phone industry? (Use the five forces framework for your answer.) (5 points) 3. In 2007, Wal*Mart announced that it will begin building smaller stores, called ”Neighborhood Markets,” in the Phoenix, Arizona and Los Angeles, California areas. The new stores are approximately 39,000 square feet, compared to the 187,000 square feet of the current Wal-Mart supercenters. Although part of the reason for the change was to deal with the arrival of Tesco, a British grocery store, that is expanding in California, some analysts have said the move to smaller stores was inevitable. Why would this be? Could such a store be consistent with Wal*Mart’s strategy as discussed in class? (5 points) RSM 392H1 S Final Exam PART B: Cervelo Case (85 points total) Attached is a copy of articles and information about Cervelo Cycles. Please answer the following questions. Point values are indicated next to the question. 1. 10. Draw the industry value chain for the road bicycle industry. (5 points) a. List the suppliers for road bicycles. b. List the buyers for road bicycles. Hint: There are 3 parts to this question: the value chain and the two lists. Analyze the threat of new entrants in the road bicycle industry. (7 points) Analyze the threat of rivals in the road bicycle industry. (7 points) Analyze the threat of substitutes in the road bicycle industry. (7 points) Do you see more of a threat to industry profits from value creation in the road bicycle industry or value capture? Explain your answer. (7 points) The articles suggest that Cervelo uses a differentiation strategy. If that is true, then why does Cervelo outsource some of its production to Asia, where labor is cheaper? (4 points) Evaluate the sustainability of Cervelo’s competitive advantage. (7 points) Hint: focus only on resources and capabilities, not the tetra-threat framework. Why were the series of doping scandals a concern to Cervelo? (4 points) Which is a bigger threat to Cervelo’s competitive advantage: substitution or imitation? Explain your answer. (7 points) Cervelo is deciding between adding bicycle helmets or exercise strollers1 to its product line. (Exercise strollers allow young children to accompany an adult who is running or jogging. They typically feature larger wheels and less storage than regular strollers and are designed for smooth pavement use.) Which of their current activities would support making bicycle helmets? Which would support making exercise strollers? According to your activity analysis, which is the better option? (10 points) 1 A stroller, according to dictionary.com, is ”a four-wheeled, often collapsible, chairlike carriage in which small children are pushed.” RSM 392HIS Final Exam 11. 12. RSM 392HIS Final Exam Mountain Bicycles (also called 26” bicycles) are designed to be ridden over rough terrain. Although many mountain bicycles have similar frame styles as road bicycles, a chief area of difference is in suspension: mountain bikes have suspension systems in the seat posts and front fork to cushion riders against rough roads. Mountain bike riders are not as concerned with aerodynamics because the sport focuses on a rider’s ability to master difficult terrain rather than speed, but racers do care about the weight of their bicycles. Suppose Cervelo is considering two options: selling a low cost road bicycle or developing a mountain bicycle. Which should it choose & why? Be sure to evaluate the risks and benefits of your choice. (10 points) In a management meeting, Cervelo realizes that it is considering very different options, as listed in questions (9) and (10). Before deciding to do any of the options listed in (9) or (10), Cervelo hires you as a consultant. They want to know when it would be a good idea to diversify. What general guidance do you offer them? Do you recommend that they diversify? Why or why not? (Be sure to list specific evidence from the case to support your recommendation.) (10 points) Cervélo Cycles Reinventing the Wheel Michael Grange, Globe and Mail Update June 12, 2008 http:/ / business.theglobeandmail.com/ servlet/ story / RTGAM.20080611.wsb- sbmag_cerve100612/ BNStory/ robSmallBizMag/ home In June of 2002, the two partners behind Cervélo Cycles were in their office, staring at a document that could take their boutique brand to explosive success, or simply blow up in their faces. Gerard Vroomen and Phil White, a pair of engineers turned entrepreneurs, had nurtured their company to indie buzz on the strength of a reputation for superior technology and performance. Now they had a shot at the equivalent of a major-label deal: a contract to become the official supplier of racing frames to Team CSC, an up-and-coming Danish outfit with the potential to dominate the Tour de France. Sign the deal and Cervélo would be elevated to cycling's world stage. But was the tiny, seven-year-old upstart ready? Were its bikes? "We had an idea the deal would change the company; we just didn't know if it would be for better or worse," says Vroomen. "We thought it would be great, or it would kill us." They signed. And things blew up—in a good way, at first. Team CSC soon rose to No. 1, putting Cervélo before millions of the world's most discerning bike buyers, who watched as CSC riders jostled with superstar Lance Armstrong at the front of the pack on the 2003 Tour. Cervélo's revenues grew fivefold as its bikes became status symbols for weekend road warriors from Silicon Valley to the Rhine Valley. Then came a second explosion: a series of blood—doping scandals embroiling the sport's biggest names, Team CSC riders among them. By last summer, the 94-year-old event on which Cervélo had bet its brand was so tarnished, some questioned its viability as viewers switched off and sponsors threatened to close their wallets. As for Cervélo's marketing strategy, things looked grim there, too. How do you make the case that it‘s all about the bikes when headlines scream it‘s really about the medicine cabinet? When I visit the company's head office in Toronto's Liberty Village, the sexy-cool address for dozens of new-media and design companies, the drama of the Tour de France and drug scandals seems far away. In fact, I'm greeted by the sight of plumber's butt on a fiftysomething guy who's trying to attach castors to the bottom of an office chair. He's introduced as a member of the much-lauded Cervélo engineering team. White is sitting at a desk in an office furnished with nothing but a filing cabinet and some framed pictures of Porsches. A couple of bike frames are lying around on the floor. This is the Canadian cycling success story? Where an engineer puzzles over an office chair? In fairness, the company only recently expanded into this space, but White and Vroomen come by their apparent belief in substance over cool honestly. The story of Cervélo— a mash-up of the Italian word for brain and French for bicycle—began in an engineering lab, after all. In the mid- 19905, Vroomen, born in the Netherlands and today based at the company's European office in Neuchatel, Switzerland, was tinkering on a bike design for time trials—short solo races against the clock—while studying at McGill University, and White, an American raised in Southern Ontario, agreed to pitch in. Though neither was an elite cyclist, they were—and are—bike snobs, combining a fascination for the practical efficiency of a well-designed machine with a passion for sleek and pricey toys. The pair initially focused on triathletes and time-trial specialists—riders seeking any speed advantage and indifferent to aesthetics. Their break came when rising Canadian star Eric Wohlberg rode a Cervélo at the 1996 Olympics time-trial event. That first bike, White admits, was "butt ugly," but with its aeronautically inspired tubing, it gave riders an edge. White and Vroomen humped it around North America, showing up at bike races. Their first year, sales amounted to a paltry $25,000. From the beginning, the two partners took an approach to marketing that made perfect sense to a pair of engineers: build lighter, more durable and more aerodynamic bikes, and savvy cyclists will gladly fork out $2,000 to $7,000 for the boost in performance. Not only was it the obvious strategy to them, but it had the advantage of being the cheapest. They bootstrapped their growth, and What money they made they reinvested in R&D, including $1,000-an—hour wind- tunnel sessions to seek ways of reducing drag. They drew inspiration from brands like Porsche, with its reputation for uncompromising engineering and a limited product line. A photograph in White's office of the iconic 911 (he drives a 911 GT3) is accompanied by a quote from the company's founder, Ferdinand Porsche, himself an engineer: " It is easy to have something new, but very difficult to have something better." Just as Porsche delivers race-proven technology to the autobahn, White and Vroomen intended to supply ordinary joes with the same bikes used by professional racers. “People will say, ‘Hey, you're the Ferraris of bikes,"I says White. "And we go, 'No, no, no, we're not Ferrari. We're not trying to sell very few of something at an extremely high price.‘ Obviously we're a premium-priced brand, but you're getting value for it, and we're trying to get it out to as many people as possible." In fact, Cervélo defines its market more by attitude than aptitude: The target customer is exacfing and driving; it doesn't matter how hard he can attack a hill. "When I think of Cervélo, I think of racing and competition," says Elliot Gluskin, an American bicycle-market researcher. "[This positioning] appeals to people who understand the advantages of technology and are willing to spend to get it." But reaching those buyers isn't easy, and the Cervélo founders weren't content to remain a cult secret. So in 2002, Vroomen approached Bjarne Riis, the 1996 Tour de France champion who took over Team CSC in 2000, to discuss the possibility of Cervélo equipping his outfit. Vroomen had no expectation of landing a deal. Though the pair had long hoped to get their bikes into the Tour, they figured 2005 would be the earliest they'd be ready for that level; the call to Riis was more of a dry run to learn how the proceSs works. But Riis turned out to be a forward-thinking iconoclast more interested in Cervélo‘s engineering-focused approach than in its pedigree. Vroomen left behind a bike in Riis's office, and that proved to be the clincher. In a matter of days, Cervélo received a contract. The deal was a milestone-for the company, and a puzzler for nearly everyone in Europe, the sport's cradle. "We announced the deal at Eurobike in 2002 and everyone was like, who‘s Cervélo?" says White. "We had two European distributors at that time, but you could count the 2 number of bikes they'd sold on one hand." Still, this huge promotional opportunity came with significant risks. Once the deal was announced, "there was no flying under anyone's radar," says White. Any problem—a glitch in the supply chain or a design flaw exposed by the extreme conditions—would be a lasting blow to the nascent company's image. As well, supplying a Tour team meant providing between 150 to 200 frames of varying styles and specifications to 30 very picky riders. The company had cracked $1 million in revenues only a year earlier, and giving away roughly $400,000 worth of its very best product was no small undertaking. Vroomen and White were also concerned that catering to one demanding client would pull their staff away from servicing their existing—paying—business. It was no doubt a major break, Vroomen says, but "it wasn't cheap." Whether it was the bikes or Team CSC's rising star under Riis's guidance, Cervélo hit the jackpot. The first year on Cervélos was the racing team's most successful season ever, capped with three stage wins in the 2003 Tour, most notably a long, dramatic solo breakaway by American Tyler Hamilton that gave the nearly unknown bike brand hours of television time before its target audience. By 2005, Team CSC was No. 1 in the world, and retained the title in 2006 and 2007. Cervélo's fortunes tracked those of CSC: In 2004, revenues jumped to $11 million, up from just $806,000 in 1999. Since then, sales have been growing by 40% to 70% a year. "When we started at CSC, we were active in just a couple of countries," says Vroomen. "Now we have [offices] in Europe and distributors and agents in 15 countries. Germany alone now is bigger for us than North America was when we started with Team CSC." The deal was just a bigger version of the marketing vision Cervélo had from the start: Get the equipment under the bums of elite athletes and let their credibility wash over the brand. The other big thrust was consumer education. "If people test-ride our bikes and they're educated about our bikes, they tend to purchase our bikes," says Vroomen. There are doubters, however, who suggest Cervélo's claims to superior engineering are just a branding shtick tacked onto a few minor design tweaks. "They're unbelievable marketing people," says Dennis Mizerski, owner of Racer Sportif, an established Toronto bike boutique. It's a hollow compliment. "There's nothing so innovative about their bikes," adds Mizerski, "but the other brands don't emphasize [the technology] as much." Needless to say, Mizerski isn't one of Cervélo's dealers. Instead, he sells his own house brand, Aquila, something that isn't as difficult to do as it sounds. It merely requires a trip to Taiwan or China to find a fabricator and choose a generic frame that suits your specs. Get it painted, dress it up with components, buy some liability insurance, and a brand is born. Cervélo holds itself distinct from such private labels, citing patented design features and certified performance. There have been glitches, as when Cervélo had to recall a production run of one model two years ago due to a flaw White blames on a since-replaced subcontractor. But the firm defends its engineering bona fides earnestly. In 2003, Cervélo filed suit against Guru Bikes, a Montreal manufacturer whose sales rep questioned Cervélo's tech claims in an e-mail to a prospective buyer. The suit was settled a year later with a written apology and a retraction. Most gratifyingly, the prospective Guru buyer chose a Cervélo. Though having their bikes under top riders was giving the brand massive exposure, the Cervélo partners had yet to see the overall Tour winner ride one. In 2006, they had high hopes. Lance 3 Armstrong had retired after a seven-year winning streak, and Team CSC leader Ivan Basso was in spectacular form, favoured to stand on top of the podium. What happened instead was a disaster: Basso was named in a Spanish blood-doping scandal, suspended from cycling for two years and sacked by Riis. The ultimate champion, Floyd Landis, was hit with doping accusations and eventually stripped of his title. Things only got worse from there. Last year, Denmark's Michael Rasmussen appeared headed for victory until he was removed from the race for seeming to dodge drug testers during training; eventual winner Alberto Contador was linked to past doping allegations aimed at his teammates. But the biggest hit to Cervélo came when Riis publicly confessed that his Tour victory a decade earlier had been fuelled by blood doping and steroid use. Perfect: You build a company on the idea that your technology makes the fastest in the world even faster, and the guy whose team seemed to prove your point admits his biggest cycling accomplishment came while he was a living chemistry experiment. It was not the best summer, White concedes. "It's like. . .crap." The sport was in turmoil. The newspaper France Soir ran a mock death notice for the Tour. TV ratings and sponsorships remained steady in France, but US. viewership, which had peaked at 558,000 in 2005, was barely half that for the 2007 Tour. In Germany, public broadcasters pulled the plug on Tour coverage. The legendary Discovery Channel cycling team, Armstrong's base of opera’dons, disbanded last year, unable to find a sponsor after the cable channel pulled out. The Cervélo partners, however, have stood by Team CSC. Vroomen and White claim the scandals are proof of the cycling establishment's commitment to rooting out the drug culture. And while Riis's dramatic admission was a blow, they support the man who gave them their big opportunity. Vroomen notes that the drug-testing regimen Riis had implemented before his confession is one of the most rigorous in the sport. "From the moment we got involved with Team CSC, I got the sense that the team was set up to prove something," he says. "It was a way for him to make amends." Importantly, the pair believe Cervélo's positioning is sufficiently diversified. Despite the brand's close connection to the Tour, the company has never strayed from its roots in the triathlon market and now has the top-selling time-trial bike in the world. Its timing couldn't have been better: USA Triathlon memberships have more than quadrupled in the decade up to 2005, meaning the co...
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