McGahan and Porter week 4 (2) summary

McGahan and Porter

How much does industry matter really? Anita McGahan and Michael Porter

Abstract: In this paper, we examine the importance of year, industry, corporate-parent, and business specific effects on the profitability of U.S. public corporations within

specific 4-digit SIC categories. Our results indicate that year, industry, corporate-parent, and business-specific effects account for 2 percent, 19 percent, 4 percent, and 32 percent, respectively, of the aggregate variance in profitability. We also find that the importance of the effects differs substantially across broad economic sectors. Industry effects account for a smaller portion of profit variance in manufacturing but a larger portion in

lodging/entertainment, services, wholesale/retail trade, and transportation. Across all sectors we find a negative covariance between corporate-parent and industry effects. A detailed analysis suggests that industry, corporate-parent, and business-specific effects are related in complex ways.

Introduction

Debate in strategy has long focused on the sources of performance differences among firms. In the research growing out of the industrial organization tradition, industry structure is a central determinant of firm performance, and firm differences are

considered against an industry background. More recently a line of though sometimes called the resource based view argues that firm performance is most influenced by unique organizational processes. Under this view industry structure is less important then idiosyncratic historical factors giving rise to firm differences.

Data

Recently compiled data from the Compustat Business Segment Reports for 1981 -1994. This dataset covers activity in all sectors of the American economy.

Empirical results

Variation in profits

- 2% of variance in profits is associated with year effects. The effects are

macroeconomic fluctuations that affect all business segments to the same degree in a particular year

- 19% of variance is attributable to stable industry effects. This result provides

strong support for the idea that industry membership has an important influence on profitability. The estimate is much higher than Rumelt’s stable industry effect (8.32%) and is comparable with Schmalensee result (19.59%)

- Stable effects of corporate-parent membership account for nearly 4% of the

variance in business segment profit.

- Stable segment-specific effects account for nearly 32% of the variance.

Variation in importance of industry effects

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