Report on Corporate Strategy.

Case Study: Lloyds TSB under

Brian Pitman (2010)

By Chris Sausman (2009)

Executive Summary

This report concludes that the success of Lloyds under Brian Pitman as CEO was the result of
a coherent corporate, marketing and operations strategy. This coherence was largely a
manifestation of the clear objective that Pitman identified at the beginning of his tenure – to
improve returns on equity (ROE) (Lloyds TSB, p. 665). Using this as a foundation, Lloyds was able to
build its corporate and functional strategies in a way where conflict was minimised and synergy was
maximised. I will briefly recommend at the end that in the current economic climate, ROE isn’t
suitable as a measure of success, and that another single objective should be formulated in the
short term, for example operating profit margins.

Introduction

            Throughout this report I will be examining the case study of Lloyds and relating it to theories
in operations management. The case study concerns itself with how Lloyds changed its corporate,
marketing and operations strategy, or more specifically, how it linked these three aspects together
to better meet its objectives. Each segment of the report will begin with a theoretical basis,
followed by a specific answer to the question (provided in the case study) with relation to the
theory described. In the report I will be referring to what is currently named ‘Lloyds TSB’ as ‘Lloyds’
to avoid confusion over the period before and after Lloyds merged with TSB.

Objectives

            There are two fundamental characteristics in the formulation of an effective objective. First
of all it must be measurable. Unless the objective can be measured, then it is meaningless.
Measurable goals give management a standard that they can measure performance against (Hill &
Jones 2004, p.10). Secondly, the objectives should reflect on the overall goal of the company.
However well a strategy is carried out, it is rarely understood in terms of the initial objectives that
were originally set out (Richmond 1997, p.1). It may be well and good to set an objective that can
be measured, but if this objective contradicts with the interests of shareholders, it is likely to do
more harm than good. Lloyd’s board of directors chose an objective that fulfilled both of the
characteristics mentioned; returns on equity (ROE). It was easily measureable and could be clearly
understood as a parameter of success, while at the same time reflecting the crucial underlying
purpose of the company; returns for shareholders and investors. Using ROE as an objective gave
greater direction for which a corporate strategy could be formulated from. The benchmark for ROE
was set as a minimum of 17-19 per cent; the cost of equity (Lloyds TSB, p. 665). Therefore the
primary objective was profitability – any capital must lead to revenues that meet or exceed the cost
of employment.

Corporate Strategy

Corporate strategy is concerned with the decisions made by a company in where it should
involve itself, i.e. where to invest and where to divest in terms of the overall business mix (Hill 2005,
p.32, Coulter 2005, p.217). Where objectives show the direction that the firm should go, corporate
strategy sets out a plan on how it can get there. The choice of whether to invest or divest in a
particular market is fundamental, largely because it manifests into the wider strategic goals of the
company. A growth strategy commonly involves the expansion of an organization’s activities or
operations (Coulter 2005, p. 219). There are number of different methods in achieving a growth
objective. Firms may wish to differentiate their products into different markets, using differentiation
to invest resources in developing other competencies (Hill & Jones 2004, p. 175). This ranges from a
conglomerate’s strategy, where a firm invests across industries, to smaller related diversification
across a different product range, for example a convenience store adding alcohol to its shelves to
gain new customers.
Further from product diversification is international diversification. Internationalisation has
a number of benefits to it, for example to exploit strategic capabilities or to bypass limitations in a
home market (Johnson et al. 2005, p.292). However it may also leave a company exposed in terms
of competition in foreign markets, barriers to trade or lack of infrastructure. More importantly, a
firm should have a competitive advantage when investing in a foreign market. There has been much
previous work done on the conditions for FDI, most notably Dunning’s OLI framework (1988). A
second strategy for growth is a concentration strategy, where a firm concentrates on its primary
line of business and looks for ways to expand within this (Coulter 2005, p.220). It differs from
unrelated diversification precisely because it doesn’t look to diversify its product range across
industries, but rather to focus on its current market. This may include offering new products to its
current market segment, unlike an unrelated diversification corporate strategy where new products
are used to expand across several market segments as opposed to concentrating on one.
It is clear in the case study that prior to Pitman’s introduction, Lloyds had followed not just
diversification in terms of its product line, but diversification into foreign markets. As Pitman
describes, “our bank acquisition there (California) in 1974 had been hailed as healthy diversification
away from our UK home market… the problem was that, however appealing the market, we had
absolutely not competitive advantage” (Lloyds TSB, p. 665). Pitman’s description clearly states that
Lloyds had no competitive advantage in the foreign market, going against Dunning’s framework
since without a competitive advantage, the motive for diversifying into international markets is
obsolete. Furthermore, inline with the objectives set out prior to designing a corporate strategy, the
venture in California was yielding poor ROE, in fact only half of the returns made covered the cost of
the capital employed. The objective was profitability and certainly not market share. This made the
disinvestment from California a necessary step to achieve the firm’s objectives. It wasn’t just
international disinvestment that became the victim of a profitability objective. Lloyds also moved
out of merchant banking, precisely because they didn’t have the competitive advantages that U.S.
banks had – economies of scale. This sees a reversal of the international diversification strategy for
Lloyds in terms corporate strategy.
While Lloyds reversed its international diversification strategy, under Pitman it still looked
for growth. But instead of looking to grow market share, under its new objectives it looked to grow
profitability. International diversification went against this new type of defined growth; however we
can observe a definite concentration strategy into the markets that yielded the highest profitability.
Looking at the figures presented in Exhibit 2 (Lloyds TSB, p. 669), UK retail banking and mortgages
income was significantly more profitable than its other businesses, accounting for 44.5% of all profit
generated between 1998 – 2002. This led to “focus the business more on the UK financial services
market” (Lloyds TSB, p. 665), which Lloyds could use as a distribution channel to push the more
profitable products. The second most profitable part of the business was the insurance and
investment division (see exhibit 2 in Lloyds TSB, p. 669). Again, following a concentration growth
strategy, Lloyds acquired Abbey Life and Cheltenham & Gloucester to sell more insurance and
mortgage products. The corporate strategy of Lloyds can be clearly defined from the decision to pull
out from California and concentrate investment in the UK market; disinvestment from unprofitable
businesses and investment into those which were most profitable.

Marketing Strategy

A firm’s marketing strategy is not only essential in supporting a successful corporate

strategy, but plays a proactive role in the formulation of corporate strategy itself (Hill 2005, p. 43).
The primary marketing strategies include segmentation or target market, differentiation, positions
and marketing mix strategic decisions (Coulter 2005, p. 146). It is important to note that marketing
strategy is different to what we might consider as marketing management, where marketing
management typically revolves around the ‘four P’s’ (price, product, place and promotion), the
formulation of marketing strategy consists of the ‘three C’s’ (customer, company and competitors).
For the purpose of this report, only marketing strategy will be covered. As mentioned, the three C’s
establish the basis for marketing strategy formulation:

Figure 1 and figure 2 – Taken from El- Ansary (2006, p. 269)

Taken from El-Ansary (2006), the diagram above illustrates how the three C’s formulate the
marketing strategy process. The strategy design begins with understanding the market place. Which
customers will help us achieve our objectives? From this the company targets the market segment
they want to sell to. The market strategy supports the corporate strategy; therefore the market
segment will depend on the consumers that fulfil the firm objectives. In the case study, Lloyds’
objective was profitability and as a result the corporate objective was to concentrate on the UK
retail market. The target market was therefore UK consumers, primarily purchasers of insurance
and mortgages. The concentration of the UK market also opened up the opportunity to offer new
products that were desired by UK consumers such as the Createcard, Premier credit card and the
Lloyds TSB branded gas, electricity and home telephone products (Lloyds TSB, p. 666). We can
observe a marketing strategy where consumers of the products that were profitable for Lloyds,
such as insurance and mortgages, were now being offered new products that appealed to their
market segment. For instance a consumer who buys a mortgage is likely to also need utilities for a a
new property. New market segments were also being targeting in Lloyds’ marketing strategy.
Consumers with higher incomes were segmented with tailored services for wealth management
(Lloyds TSB, p. 666). Lloyds offered products and services to its segmented markets - segmented
markets derived from its corporate strategy, resulting in targeting markets which were most
profitable to the company.
In the three C’s model, firms also concern themselves with competitors as well as
consumers by differentiating their product. From the case study we can see that Lloyds’ marketing
strategy took this into account. The “brand name” (Lloyds TSB, p. 666) of Lloyds gave them a
distinct competitive advantage, particularly over new entrants in the market. Most importantly,
Lloyds’ brand name differentiated their service from their competitors, particularly in the UK where
this was most strong as opposed to California where it was likely to have been the most weak
(supporting the decision for disinvestment from the U.S. market). The actual products being offered
also looked to differentiate Lloyds from its main competitors, as the marketing director described
“given the increasingly competitive nature of the UK financial services market, it is important that
we continue to find new and innovative products that add value for our customers” (Lloyds TSB, p.
666).To differentiate itself it also constantly developed innovative products, all the time finding new
ways to add value for consumers.
Operations Strategy

Operations strategy is concerned with how the functions of the organisation deliver the
corporate strategies in terms of resources, processes and people (Johnson et al. 2005, p. 12). The
operations strategy must look at the operations process where inputs are transformed to create
outputs which are ultimately manifestations of the corporate objective. There are a number of
different theories of operations strategy that have been developed and presented in the literature
such as mass customization, operational effectiveness, demand trends etc; however in my
judgement the most relevant in terms of the case study is the resource driven view of strategy, and
for the purpose of this report I will focus on this as a foundational concept to Lloyds’ operations
strategy. The resource driven view of strategy looks at resources as the basic elements that
companies have control of which ultimately determines their operations strategy (Lowson 2002,
p.1118). When resources are combined, they lead to the creation of competencies and capabilities
(Prahalad & Hamel 1990, cited in Lowson 2002, p.1118). Competencies are unique products and
services which can penetrate markets, whereas capabilities are the operational facilities available to
carry out and implement such competencies (Smith 2008, p. 47). Capabilities are not just physical
elements like technology, but also the managerial organisation to be able to develop and follow
through available competencies.
If we look at the case study, a key competency that Lloyds possessed was the technology to
set up telephone and internet banking. By having this technological competency, there was the
potential to have an effective delivery system between consumers and the company at a much
lower operation cost. However this also meant that the capabilities must be implemented as well,
and it was essential that the operations strategy could meet the existing competencies. One
capability needed for the new delivery systems came in the form of infrastructure: “significant work
was done developing new areas, such as the call centres for telephone and internet banking” (Lloyds
TSB, p. 666). Further improvements in capabilities continued (Lloyds TSB, p. 666) after they were set
up leading to operational efficiencies (Porter 1996, p. 64), for example bringing down the costs of
telephone banking by outsourcing call centres to countries where the labour costs were significantly
lower than in the UK. Therefore we can see that the operational strategy for Lloyds wasn’t just to
create the capabilities for the competencies available, but to constantly improve them to achieve
the corporate objective.
The operations strategy which was developed to meet the needs of the corporate and
marketing strategies involved more than just delivering systems and processes, but also changing
the culture of Lloyds to rally round the objectives. A capability that the operations strategy
addressed was the managerial organisation needed to bring about the new changes to the business.
It wasn’t purely infrastructure that was needed in developing new systems and processes, but the
design, marketing/sales and I.T. etc all had to follow the same culture that revolved around the
corporate strategy:

Figure 3 and figure 4 – Adapted from Hill (2005, p. 39)

The cultural change that Pitman describes in the case study (Lloyds TSB, p. 666) can be
illustrated in the diagrams above. The challenge that faced Pitman was the situation reflected in
figure 3 where corporate strategy wasn’t being mirrored by the functions below it. The aim was to
bring the strategy making process from figure 3 towards figure 4, where the corporate strategy and
the functional strategy correlated. If profitability is the objective, then the marketing function must
look to maximise sales, operations concerns itself with minimising costs and I.T. looking to improve
service delivery, while all the time the business unit level analyses where to invest and where to
disinvest. This was promoted by the way executives were compensated, linking performance
related pay packages to ROE (Lloyds TSB, p.665), therefore creating a strategic reward system (Hill
& Jones 2005, p.417) that cemented the functional objectives of staff to corporate strategy. On a
functional level, staff were not necessarily rewarded on ROE since this meant very little to
performance, but instead other targets that linked with ROE was used. It is easy to consider
functional strategic coherence as separate from the resource driven view of strategy, but the drive
for functional synergy is fundamentally a drive for improved capabilities. It takes effective
managerial systems (Smith 2008, p.51) and organisation for a firm’s competencies to be a valuable
competitive advantage.

Conclusion and Recommendation

            From starting with a single measurement of success, a corporate strategy becomes
purposeful and most importantly, measureable. In the case study, the objective of improving ROE
gave a foundation for corporate strategy to be built on. The corporate strategy revolved around a
simple purpose, invest into markets that met or exceeded the cost of equity and divest into those
which didn’t. This fulfilled the objective of profitability while setting out strategic control over the
organisation. The ROE objective led to disinvestment from California where returns only covered
half the cost of equity, while resources were diverted towards profitable parts of the business;
primarily UK retail, mortgage and insurance, resulting in a number of acquisitions. It would be a
mistake to consider the corporate strategy of Lloyds not to be one of growth purely because of the
choices to divest. Lloyds may have pulled out of the U.S. market, but the measurement of growth
wasn’t market share and that is fundamentally the point of the new corporate strategy. Growth was
defined by ROE and in that sense it grew significantly since Pitman’s introduction into the company.
By following a market concentration strategy it was able to withdraw to a focused strategy and
specialize in particular product lines (Hill & Jones 2004, p. 176). It also followed a focused
differentiation strategy where it still offered unique or distinctive products but to specific market
segments. This made the marketing function particularly important.
The marketing strategy of a firm should essentially become a function to achieve corporate
strategy. Under the three C’s framework, the products and services offered reflect the market
segment which is targeted. Lloyds offered products and services to particular segmented markets -
segmented markets which would achieve the corporate objective – profitability, while at the same
time withdrawing from segments which were no longer profitable. The other aspect of the three C’s
framework is how to differentiate from competitors. Lloyds already had a brand reputation which it
then used when selling products gained from its acquisitions, thereby maximising its brand
competitive advantage. It also differentiated by constantly innovating the products it sold,
differentiating products but within the chosen market segments. As the theory suggests should
happen, the marketing function of Lloyds ultimately became a channel to fulfil the corporate
strategy of the company – profitability.
The resource driven view of strategy in my judgement reflected the operational decisions
faced by Lloyds. The competencies that Lloyds possessed were primarily its ability to deliver
products and services by telephone or through the internet. However the theory indicates that it’s
necessary for competencies to be met with sufficient capabilities, and this posed a significant
challenge for Lloyds where not just infrastructure and processes had to be set up, but managerial
organisation was also vital in pushing forward the change. Individual functions as well as at the
business unit level must connect towards the corporate strategy, otherwise the benefits of synergy
are likely to be lost. If senior management doesn’t understand where the corporation stands on
certain issues, then there will be conflicting strategies between different business functions
(Mintzberg et al.2003, p. 81). Pitman developed a culture which went through every part of the
business to promote a coherent effort towards profitability, and this was possibly the most
important capability needed to enable all other competencies within the Lloyds’ operations
strategy.
As a recommendation, under the current economic climate using ROE as a measurement of
success is highly unsuitable. While in 2008 the ROE rate was 27.1, in 2009 this fell to 9 (ADVFN
2010). Many parts of the business would likely fall below Pitman’s original condition of ROE meeting
or exceeding the cost of capital. Therefore a more relevant and short-term measurement would be
necessary. In my judgement, basing a measurement on operating profit margin would be most
suitable, since it reflects a need to keep operating costs low while maintaining focus on the short
term needs of the business during exceptional economic circumstances.

References

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Posted by Chris at 10:41 
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