Chapter 3Examining the Internal Environment: Resources, Capabilities, and Activities

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OBJECTIVES

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2

3

4

5

Explain the internal context of strategy

Identify a firm’s resources and capabilities and explain their role in its performance

Define dynamic capabilities and explain their role in both strategic change and a firm’s performance

Explain how value‑chain activities are related to firm performance and competitive advantage

Explain the role of managers with respect to resources, capabilities, and value‑chain activities

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COMPARATIVE INDUSTRY REFORMANCE

How dosuch differences in profitability materialize?

ROA

ROS

Grocery Store

Global AutoSemiconductor

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RESOURCES, CAPABILITIES, AND MANAGERIAL DECISIONS

StrategyCompetitive advantage/disadvantage

Management strategic decision making

Capabilities

Managers

Resources

Performance

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RESOURCES AND CAPABILITIES: FUNDAMENTAL BUILDING BLOCKS OF STRATEGY

The inputs that firms use to create goods and services• Undifferentiated or firms-specific • Tangible or intangible• Easy to acquire or difficult

A firm’s skill in using its resources to create goods and services. The combination of procedures and expertise that the firm relies on to engage in distinct activities in the process of producing goods and services

Capabilities

(competencies

)

Resources

Strategy

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EXAMPLES OF CAPABILITIES

1: Stalk, Evans, and Shulman, 19922: Makadok, 2003

Capability Result

Logistics -- distributing vast amounts of goods quickly and efficiently to remote locations

An extraordinarily frugal system for delivering the lowest cost structure in the mutual fund industry, using both techno-logical leadership and economies of scale

Generating new ideas then turning those ideas into new, profitable products

200,000-percent return to share-holders during first 30 years since IPO1

25,000-percent return to share-holders during the 30-plus year tenure of CEO John Connelly.2

As for ongoing expenses, share-holders in Vanguard equity funds pay, on average, just $30 per $10,000, vs. a $159 industry average. With bond funds, the bite is just $17 per $10,000

30 percent of revenue from products introduced within the past four years

Company

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TRUST AS AN ORGANIZATIONAL RESOURCE

Trust is an intangible resource1

A trustworthy reputation for a firm can be leveraged.

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KNOWLEDGE

Knowledge as a resource

Explicit (easy competitive intelligence)

Tacit (more valuable)

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THE VRINE MODEL

Performance implicationTest Competitive implication

Valuable? Does the resource or capability allow the firm to meet a market demand or protect the firm from market uncertainties?

If so, it satisfies the value requirement. Valuable resources are needed just to compete in the industry, but value by itself does not convey an advantage

Valuable resources and capabilities convey the potential to achieve “normal profits” (i.e., profits which cover the cost of all inputs including the cost of capital)

Rare? Assuming the resource or capability is valuable, is it scarce relative to demand? Or, is it widely possessed by most competitors?

Valuable resources which are also rare convey a competitive advantage, but its relative permanence is not assured. The advantage is likely only temporary.

A temporary competitive advantage conveys the potential to achieve above normal profits, at least until the competitive advantage is nullified by other firms

Inimitable and non-substitut-able?

Assuming a valuable and rare resource, how difficult is it for competitors to either imitate the resource or capability or substitute for it with other resources and capabilities that accomplish similar benefits?

Valuable resources and capabilities which are difficult to imitate or substitute provide the potential for sustained competitive advantage

A sustained competitive advantage conveys the potential to achieve above normal profits for extended periods of time (until competitors eventually find ways to imitate or substitute or the environment changes in ways that nullify the value of the resources)

Exploit-able?

For each step of the preceding steps of the VRINE test, can the firm actually exploit the resources and capabilities that it owns or controls?

Resources and capabilities that satisfy the VRINE requirements but which the firm is unable to exploit actually result in significant opportu-nity costs (other firms would likely pay large sums to purchase the VRINE resources and capabilities). Alternatively, exploitability unlocks the potential competitive and perfor-mance implications of the resource or capability

Firms which control unexploited VRINE resources and capabilities generally suffer from lower levels of financial performance and depressed market valuations relative to what they would otherwise enjoy (though not as depressed as firms lacking resources and capabilities which do satisfy VRINE)

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SUSTAINABILITY

Sustainability:Just having a competitive advantage is not enough. Can it be sustained?

Durability

Imitability

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TANGIBLE AND INTANGIBLE ADVANTAGES

=

=

=

Intangible

Location selection

Brand

Tangible

Rural real-estate

High traffic real-estate

+

+

+

Wal-Mart

McDonald’s

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DYNAMIC CAPABILITIES

Mail Boxes Etc. franchise

Value

Dynamic capability: how we integrate recon-figure, acquire, or divest resources for competitiveadvantage?

Mail boxes, etc., has developed the ability to

combine resources better

than the competition

Start-up plans

People

Brand

Location

Processes

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VALUE CHAIN: INTERNET STARTUP EXAMPLE

Inbound shipment of top titles

Warehousing

Server operations

Billing

Collections

Picking and shipment of top titles from warehouse

Shipment of other titles from third- party distributors

Pricing

Promotions

Advertising

Product information and reviews

Affiliations with other websites

Returned items

Customer feedback

CDsShipping

ComputersTelecom lines

Shipping services

Media

Inventory system

Site software

Pick & pack procedures

Site look & feelCustomer research

Return procedures

Financing, legal support, accounting

Recruiting, training, incentive system, employee feedback

Procurement

TechnologyDevelopment

HumanResources

FirmInfrastructure

SupportActivities

InboundLogistics

Operations OutboundLogistics

Marketing& Sales

After-Sales Service

Primary Activities

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USING VALUE CHAINS TO GAIN COMPETITIVE ADVANTAGE

Identical DifferentiatedFind a different way to perform activities

Find a better way to perform the same activities

Longer-lasting advantage

Shorter-term advantage (competitors catch up)

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INNOVATION AND INTEGRATION OF THE VALUE CHAIN

  

Transferred assembly and delivery to the consumer

Choose an entirely direct distribution model (rather than through retailers) and outsourced component manufacturing

IKEA

Dell

Source

Assemble

Deliver

Area of innovation

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TRADE OFF PROTECTION - YOUR RIVALS CHOOSE NOT TO COPY YOU

Selected difference between Southwest and large Airlines

Southwest made choices so that competitors did not copy - because copying would require them to abandon activities essential to their strategies

Technologyand design

Operations

Marketing

Southwest

• Single aircraft

• Short segment flights

• Smaller markets and secondaryairports in major markets

• No baggage transfers to others airlines

• No meals

• Single class of service

• No seat assignments

• Limited use of travel agents

• Word of mouth

Major Airlines

• Multiple types of aircrafts

• Hub and spoke system

• Meals (based on class of service)

• Seat assignments

• Multiple classes of service

• Baggage transfer to other airlines

• Extensive use of travel agents

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GUIDELINES FOR OUTSOURCING

Activities that can create value for the firm should not be outsourced.

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Those activities that represent key sources of learning for the firm should not be outsourced.

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Outsourcing and Offshoring

What is Outsourcing?

• Sourcing the function, product, or service of a value chain activity from another company. • Outsourcing arrangements are put in place to improve competitiveness in a function or set of

functions.

What is Offshoring?• Taking the activity from a high-cost country to a low-cost country.

What are some examples of outsourcing?

BUSINESS CASE FOR OUTSOURCING: ANALYSIS AND ACCURACY

• More than 80% of organizations base their sourcing decisions on inadequate financial information.

• Organizations fail to include up to 20% of internal costs in their calculations of a business case.

• More than 70% of discrete projects and longer-term outsourcing initiatives exceed original business case costing estimates.

• Building a financial business case for sourcing is a challenge – difficult to identify and estimate all possible costs

• Also difficult to quantify choices and assess risks

HIDDEN COSTS OF GLOBAL SOURCING Hidden Costs

Project ManagementProject ManagementOnshore/Offshore Coordination Demands

RelationshipManagementRelationshipManagement Cross-Cultural Issues

Connectivity and TelecomConnectivity and TelecomSingle Domestic vs. Multiple Cross-Border

Project TripsProject TripsMultiple Personnel, Long Trips

Transition and Knowledge Transfer

Transition and Knowledge Transfer

Virtual Decentralized Teams

OUTSOURCING KEYS TO SUCCESS

Commit time and effort – beyond the initial cost savings, corporations must be prepared to invest in quality control and training to keep the outsourced or offshored activity competitive and efficient

Treat outsourcing partners as partners: what was previously handled internally is now managed by a third party. Take advantage of the relationship to learn new things about product and process innovation.

Involve middle management: middle management is the lifeblood of strategy execution. Middle managers bridge offshore activities with internal ones and put additional outsourcing arrangements into place as opportunities arise.

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STRATEGIC LEADERSHIP

“Companies that overlook the role of leadership in the early phases of strategic planning often find themselves scrambling when it’s time to execute. No matter how thorough the plan, without the right leaders it is unlikely to succeed”

– McKinsey & Company

BOTH SENIOR AND MIDDLE MANAGERS PLAY KEY ROLES

Key tasks in the role of management:

• Identify resources and capabilities• Specify the resources that will create competitive advantage• Locate an attractive industry in which to deploy them• Select the strategy to get the most out of them• Choose when to change the mix of resources, capabilities, and targeted markets Middle managers contribute to corporate success within many roles:

• Entrepreneur

• Communicator

• Psychoanalyst

• Tightrope walker

“In Praise of Middle Managers”, HBR (see text endnotes)

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