A Critical Evaluation of Scottish Power’s International Strategy
Introduction
This is a brief evaluation of Scottish Power’s international strategy. It begins with a summary of the organisation’s history and an outline of the scope of their international activities. The critical evaluation draws on the literature to identify relevant models, frameworks and theoretical perspectives that are used to analyse and evaluate Scottish Power’s strategic orientation and approach to international business. Throughout the analysis, the literature will also be subject to critical evaluation in light of the evidence of Scottish Power’s experience. The final section draws some conclusions from the analysis.
Organisation Summary
The company states in it’s Annual report and Accounts 2004 that:
‘Scottish Power’s strategy is to become a leading international energy company; managing both regulated and competitive businesses in the US and the UK to serve electricity and gas customers’
(Scottish Power, 2004)
Scottish Power is an integrated multi-utility business, with more than five million electricity and gas customers in the UK and western United States. The company’s core activities include the generation, transmission, distribution and supply of electricity in both the UK and North American markets. For the financial year up to March 2004, the company turnover was £5.8 billion, compared with £5.3 billion in the previous year. For the same period, profit before tax was £792 million, up from £697 million the previous year. (Datamonitor, 2004a)
The company was formed in 1991, following the privatization of the South of Scotland Electricity Board. It started with 1.8 million customers producing a turnover of £1.2 billion and the initial market capitalization was £1.8 billion. Seven years later, the turnover had grown to £3 billion. This growth was achieved domestically.
Scottish Power’s strategic plan recognised impending market deregulation and included a commitment to international expansion, but not until the domestic operations were running smoothly. They also wanted to get their core competency in electricity right before looking to acquire other UK utility businesses. This UK expansion began in 1995 with diversification into gas supply, the acquisition of Southern Water, and the creation of Scottish Telecom from their inherited communications infrastructure, which resulted in the UK’s first multi-utility company ahead of deregulation in 1998. It then wanted to integrate those new businesses before expanding abroad. The first foreign expansion occurred through a merger with the North American electricity company PacificCorp in 1999, which then created one of the world’s leading multi-utility businesses. (Merriden, 1999) The company operates with four divisions as illustrated in Table 1.
|
Division: |
PacifiCorp |
PPM Energy |
UK Division |
Infrastructure Division |
|
Country: |
US |
US |
UK |
UK |
|
Market: |
Regulated |
Competitive |
Competitive |
Regulated |
|
Turnover: |
40% |
6% |
48% |
6% |
|
Operating Profit |
49% |
4% |
9% |
38% |
|
Activities: |
Generates electricity, operates the power delivery network and undertakes wholesale trading in 6 western US states. It also manages the company’s coal-mining interests. |
Wholesale energy marketing and providing services to municipal and other agencies. Renewable energy projects aimed at building a balanced portfolio of assets. It is one of the largest providers of wind energy in the US |
Energy generation, trading and supply. Grouped into an energy value chain to maximise profit in the wholesale markets and to achieve growth in the retail electricity and gas markets across the UK |
Three asset owner companies: SP Transmission, SP Distribution and SP Manweb, which hold the transmission and distribution licences. Network management and development. |
Table 1: Scottish Power Business Profile Source: Scottish Power (2004)
Analysis and Evaluation
The Market Context
Globalisation is a significant factor in today’s business environment. There are many reasons given for this in the literature. One perspective has been to try to identify the structural drivers of change. Yip (1995) identified four forces that tend to increase globalisation: convergence of markets, cost advantages of global operations, government policy influences, and global competition.
Some implications of these drivers that are particularly relevant to the energy industry include: the globalisation of sourcing, the convergence of industry standards and sourcing, and an increasing trend towards deregulation.
Another view of the forces involved is provided by Porter (2004) who argues that global markets are created when there are economic (or other) advantages to an organisation that competes in a coordinated way in many national markets. He maintains that these global advantages stem from four sources: conventional comparative advantage, economies of scale, product differentiation, and the ability to utilise proprietary technology.
The Company’s Response
Scottish Power’s strategy identified the need to respond to globalisation and deregulation of markets in 1991, even though their first international diversification was not announced until 1998. Comparing Scottish Power’s situation to Yip’s theory: their markets were not converging in any significant way, but they did identify the potential for gaining cost advantages from global operations. Government policy in both the UK and US was reducing regulation, and they anticipated that these drivers would therefore create global competition even though international multi-utility businesses didn’t exist until 1999 when Scottish Power created the first one.
A similar comparison to Porter’s theory agrees with the idea of economic advantage driving the globalisation of the market, albeit with Scottish Power in the vanguard. Comparative advantage exists for electricity generation, distribution and supply because it doesn’t make economic sense to import electricity. The ‘economies of scale’ argument is similar to Yip’s ‘cost advantages’ concept and also applies. Product differentiation is harder to identify, although the transfer of excellent operational capability could lead to improved service and reduced cost, which could provide a difference. There is little evidence of the existence of proprietary technology in this industry. Power station generators, transformers and transmission lines are similar the world over. The fact that this aspect of Poter’s theory doesn’t match the Scottish Power case does not call the theory into question. It does not state that every driver must apply to all industries.
Developing an International Strategy
|
Existing MARKETS New |
|
||||
|
Existing New PRODUCTS |
Table 2: Strategy development Directions (Johnson and Scholes, 2002)
Johnson and Scholes (2002) suggest that a combination of strategy developments are usually used as illustrated in Table 2. This model is consistent with Scottish power’s approach. They began by protecting and building the domestic business they inherited when the business was formed (Direction A). Having recognised the trend towards deregulation, they developed new products such as renewable energy sources in a competitive company (Direction B). Finally, once the UK business was stable, they sought entry into the U.S. energy market to achieve the same combination of regulated and competitive business (Direction C).
Having set the direction to become an international company, they then had to choose a market entry strategy. Yip (1995) argues that increased participation in global markets requires three main considerations: global market share, a global balance of revenues, and participation in globally strategic markets. Scottish Power chose the largest, and therefore most significant, market as the first target for expansion, but as a result it does not have a significant global market share in the way that Toyota dominate the motor industry, for example. Their combined customer base across both markets is 5 million, when the United States alone has over 112 million households (US Census Bureau, 2004). Also, while they have achieved a good balance of revenue and profit between the U.K. and U.S. businesses, they have no representation beyond these two markets.
Porter (2004: 277) states that there are three basic mechanisms through which firms can operate internationally: ‘licensing, export, and foreign direct investment’. He suggests that they will usually begin with export or licensing to gain experience before considering investing directly. Scottish Power, however, began with direct investment. The nature of their main activities, electricity generation, transmission, distribution and supply are not capable of being licensed or exported easily unless the foreign market is proximate. The cost of transmitting electricity across the Atlantic, for example, would be prohibitively expensive and while some of the technology involved might be capable of being licensed, suppliers rather than the utility company will own most of it. This does not necessarily invalidate Porter’s theory, but it suggests there may be limits to it’s applicability.
|
High Product Strength Low |
|
||||
|
Narrow Wide Geographic Coverage |
Table 3: The International competitive posture matrix. Gogel and Larreche (1989)
The international competitive posture matrix is intended to illustrate the strategic options available (Table 3). It is based on an assertion that two key factors involved in strategic resource allocation decisions are product strength and geographic coverage.
Scottish Power’s decision to strengthen their core competencies before expanding internationally indicates that, according to this model, their product strength is high. The decision to move into a single international market from a domestic market means that their geographic coverage is narrow. This gives them the classification of: ‘Barons’, which according to the model:
‘…makes geographic expansion attractive to them. It also makes them attractive to companies wishing to supplement their own product strength and therefore may be takeover targets.’
Gogel and Larreche (1989)
The key issue that this model illustrates is that international expansion requires a trade-off as the opposing needs for expansion and product strength compete with each other. The model supports Scottish Power’s conclusion that international expansion was an attractive option, but not while it might compromise their success in the domestic market. It further highlights a business risk that they may become a takeover target. This particular prediction is supported by events. Datamonitor (2004a) reported an attempted takeover by Warren Buffet in December 2003, for example.
Doole and Lowe (2001) argue that strategic development decisions will also have involved the company’s attitude and commitment to achieving a global strategy, and that the challenge they face is ‘turning widespread international presence into global competitive advantage’.
They further suggest that they must provide better customer benefits than local competitors while, at the same time, aggressively seeking cost efficiencies to beat their competitors on value for money. This is borne out by Scottish Power’s actions. For example, in the last Annual Report they state that:
‘PacifiCorp developed and implemented significant organisational and operational changes arising from the strategic decision to focus on its electricity businesses…and embarked upon a continuing programme of efficiency improvements’
(Scottish Power, 2004)
Impediments to Global Development
Another way of looking at global competition is to consider the impediments to achieving the advantages of global competition. Porter (2004) suggests they may prevent an industry from becoming global and provide competitive niches for national firms to exploit. He groups them into three categories: economic, managerial and governmental. Many of them do not appear to apply in this case, for example: transportation and storage costs are not an issue when expansion is achieved through acquisition of an existing national company. He also cites an inability to gain access to local distribution channels. In the case of the PacifiCorp merger, regulatory approval had to be granted by each of the west coast states in which they operated plus one national body: the Federal Energy Regulatory Commission (FERC), and while this took some months to complete, all of the necessary approvals were obtained. Looking at the U.S. market in general, Porter (2004) posits that the size and value of the U.S. market is a positive incentive to foreign entrants, whereas the U.S. firms have had little incentive to seek to extend their business from the world’s largest and potentially most lucrative national market into other, apparently, less attractive ones. He suggests that this lack of competitive edge is exacerbated by a lack of trade barriers due to benign government policy.
A further impediment that Porter proposes is a lack of world demand for the industry, which is a necessary pre-requisite for a true global market to exist. In Scottish Power’s case they may not have not created a global company; it could be argued that they have four separate businesses. This may be because they do not perceive a global market in the homogeneous sense that Porter’s theory implies, or it may be that they have not linked the organisation design with their international presence.
Building an International Company
Multinational company configurations can take a number of forms. Bartlett and Ghoshal (1998) propose four variations depending on the degree of global co-ordination required and how much local independence is needed to be responsive to local needs (Figure 4).
|
GLOBAL CO-ORDINATION |
|
LOCAL INDEPENDENCE AND RESPONSIVENESS |
|
Figure 4 Configurations in multinational companies
Bartlett and Ghoshal (1998)
Applying this model suggests that the degree of global co-ordination in Scottish Power appears to be low. They describe their four operating entities as businesses and each has it’s own set of accounts. In the annual report they also describe the drivers for each business, and they are different in each case. The only consistent drivers they identify are: fluctuating demand, economic trends, and abnormal weather.
Two of the subsidiaries are called divisions and two are referred to as businesses, which might imply a mixture of configurations as described by the above model. However, the management and reporting of each subsidiary is consistent, and they are all constituted as separate companies, so the use of the term ‘division’ may be purely symbolic or a relic of the previous U.K. organisation.
The relationship between the businesses and the corporate holding company is not integrated. There is evidence in the annual report that the co-ordination across subsidiaries is low with little more than return on investment criteria being set and evaluated by the head office. In most respects, therefore, Scottish Power appears to be configured for medium to high local independence and low global co-ordination.
The Results
The cautious approach adopted by the company has been broadly supported by external analysts, although there are criticisms of their financial performance. However, this appears to be despite rather than because of their international operations. Datamonitor (2004b) cite the company’s ‘positive progressive strategy’ and a ‘growing stability at PacifiCorp’ as strengths and the possibility of U.S. growth as an opportunity.
Conclusion
The theoretical frameworks tend to be consistent with Scottish Power’s strategy for international growth. The company’s statement that they intend to become a ‘leading international energy company’, places international strategy at the heart of the business.
The decision to consolidate the UK business before beginning the process of expansion is supported by the literature and, based on the positive analysis by external observers, appears to have delivered a business that is performing well across their home and international markets.
The company was formed in 1991 and didn’t become an international concern until 1999, given the strategic aim referred to above, the current position should probably be seen as the early stages of growth. If so, Yip’s model of three considerations for global market participation suggests that in addition to gaining further market share in the United States, their plans should be turning to the next most important strategic markets so that their global market share can increase, but it also suggests that any further entry into new markets will probably follow the same route of acquisition because of the need to maintain a global balance of revenue and profit across markets.
Bibliography
Bartlett, C. Ghoshal, S. (1998( Managing Across Borders: The transnational corporation, 2nd edition.: Random House
Datamonitor (2004a) ‘Scottish Power plc’ Company Profile Reference Code: 1485,
Datamonitor (2004b) ‘Company Spotlight: Scottish Power’, MarketWatch: Energy, July 2004, Vol. 3 Issue 7, p31, 5p
Doole, I. And Lowe, R. (2001) International Marketing Strategy 3rd ed.. Thomson Learning
Gogel, R. and Larreche, J.C. (1989) ‘The battlefield for 1992: Product strength and geographical coverage’, European Journal of Management, 17, 289.
Merriden, T. (1999) Europe’s Privatized STARS, Management Review; Jun99, Vol. 88 Issue 6, p16, 8p
Porter, M.E. (2004) Competitive Strategy. Techniques for Analyzing Industries and Competitors, Free Press
Scottish Power, ScottishPower Annual Report & Accounts 2003/04
US Census Bureau (2004) ‘Table HH-6. Average Population Per Household and Family: 1940 to Present’ Current population Survey (CPS) Reports, http://www.census.gov/population/www/socdemo/hh-fam.html, Sept. 15 2004
Yip, G. (1995), Total Global Strategy, Prentice Hall