Chapter 3
Assessing the
Internal
Environment of the
Firm
Capabilities
The Source of The Source of
Teams of
Resources
Core
Competencies
Resources
Sources of
* Tangible Competitive
* Intangible Components of Advantage
Internal Analysis
Strategic Sustained
Competitiveness Competitive The
Advantage Foundation
Above-Average
of
Returns Gained through
Core Competencies
The Pathway to
3-2
Resources
* Tangible
* Intangible Components of
Internal Analysis
3-3
Resources What a firm Has...
What a firm has to work with:
its assets, including its people and
the value of its brand name
3-4
Resources What a firm Has...
Resources represent inputs into a
firm’s production process...
such as capital equipment, skills of
employees, brand names, finances
and talented managers
3-5
Resources What a firm Has...
Resources
Tangible Resources
* Financial
* Physical
* Human Resources
* Organizational
Intangible Resources
* Technological “Some genius invented the Oreo.
* Innovation We’re just living off the
* Brand Names inheritance.” F. Ross Johnson,
* Corporate Culture Former President & CEO, RJR Nabisco
3-6
Capabilities
The Source of Teams of
Resources
Resources
* Tangible
* Intangible Components of
Internal Analysis
3-7
Capabilities What a firm Does...
Capabilities represent:
the firm’s capacity or ability to integrate
individual firm resources to achieve a desired
objective.
3-8
Capabilities What a firm Does...
Capabilities develop over time as a result of complex
interactions that take advantage of the interrelationships
between a firm’s tangible and intangible resources that
are based on the development, transmission and
exchange or sharing of information and knowledge as
carried out by the firm's employees.
3-9
Capabilities What a firm Does...
Capabilities become important when they are combined
in unique combinations which create core competencies
which have strategic value and can lead to competitive
advantage.
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The Value Chain
General administration
Human resource management
Technology development
Procurement
Inbound Outbound Marketing
Operations Service
logistics logistics and sales
Adapted from Exhibit 3.1 The Value Chain: Primary and Support Activities
Source: Adapted with permission of The Free Press, a division of Simon &
Schuster, Inc., from Competitive Advantage: Creating and Sustaining
Superior Performance by Michael E. Porter.
3-11
The Value Chain Analysis
• A strategic analysis of an organization
that uses value - creating activities.
3-12
Primary Activities
Inbound Associated with receiving, storing
Logistics and distributing inputs to the product
• Location of distribution facilities
• Material and inventory control systems
• Systems to reduce time to send
“returns” to suppliers
• Warehouse layout and designs
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities
3-13
Primary Activities
Associated with transforming inputs
into the final product form
• Efficient plant operations
Operations • Appropriate level of automation in
manufacturing
• Quality production control systems
• Efficient plant layout and workflow
design
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities
3-14
Primary Activities
Associated with collecting, storing,
and distributing the product or
service to buyers
• Effective shipping processes
• Efficient finished goods warehousing
processes
Outbound
• Shipping of goods in large lot sizes
Logistics
• Quality material handling equipment
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities
3-15
Primary Activities
Associated with purchases of products
and services by end users and the
inducements used to get them to
make purchases
• Highly motivated and competent sales
force
• Innovative approaches to promotion and
advertising
• Selection of most appropriate distribution
channels
Marketing and
Sales • Proper identification of customer segments
and needs
• Effective pricing strategies
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities
3-16
Primary Activities
Associated with providing service to
enhance or maintain the value of the
product
• Effective use of procedures to solicit
customer feedback and to act on information
• Quick response to customer needs and
emergencies
• Ability to furnish replacement parts
• Effective management of parts and
equipment inventory
• Quality of service personnel and ongoing
training
• Warranty and guarantee policies
Service
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities
3-17
Support Activities
General Typically supports the entire value
Administration chain and not individual activities
• Effective planning systems
• Ability of top management to anticipate and
act on key environmental trends and events
• Ability to obtain low-cost funds for capital
expenditures and working capital
• Excellent relationships with diverse
stakeholder groups
• Ability to coordinate and integrate activities
across the value chain
• Highly visible to inculcate organizational
culture, reputation, and values
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities
3-18
Support Activities
Activities involved in the
recruiting, hiring, training,
development, and compensation
Human Resource
Management of all types of personnel
• Effective recruiting, development, and
retention mechanisms for employees
• Quality relations with trade unions
• Quality work environment to maximize
overall employee performance and
minimize absenteeisn
• Reward and incentive programs to
motivate all employees
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities
3-19
Support Activities
Related to a wide range of
activities and those embodied
in processes and equipment
and the product itself
• Effective R&D activities for process and
product initiatives
Technology • Positive collaborative relationships
Development between R&D and other departments
• State-of-the art facilities and equipment
• Culture to enhance creativity and
innovation
• Excellent professional qualifications of
personnel
• Ability to meet critical deadlines
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities
3-20
Support Activities
Function of purchasing inputs
used in the firm’s value chain
• Procurement of raw material inputs
• Development of collaborative “win-win”
relationships with suppliers
• Effective procedures to purchase
advertising and media services
• Analysis and selection of alternate
sources of inputs to minimize
Procurement dependence on one supplier
• Ability to make proper lease versus buy
decisions
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities
3-21
The Value Chain
General administration
Human resource management
Technology development
Procurement
Inbound Outbound Marketing
Operations Service
logistics logistics and sales
Adapted from Exhibit 3.1 The Value Chain: Primary and Support Activities
Source: Adapted with permission of The Free Press, a division of Simon &
Schuster, Inc., from Competitive Advantage: Creating and Sustaining
Superior Performance by Michael E. Porter.
3-22
Interrelationships among Value-Chain
Activities within and across Organizations
• Importance of relationships among value
activities
• Interrelationships among activities within the
firm
• Relationships among activities within the
firm and with other organizations (e.g.,
customers and suppliers)
3-23
Resource-Based View of the Firm
• Two perspectives
• The internal analysis of phenomena within a
company
• An external analysis of the industry and its
competitive environment
• Three key types of resources
• Tangible resources
• Intangible resources
• Organizational capabilities
3-24
Types of Resources
Tangible Relatively easy to identify, and
Resources include physical and financial assets
used to create value for customers
• Financial resources
Firm’s cash accounts
Firm’s capacity to raise equity
Firm’s borrowing capacity
• Physical resources
Modern plant and facilities
Favorable manufacturing locations
State-of-the-art machinery and
equipment
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities
3-25
Types of Resources
Tangible Relatively easy to identify, and
Resources include physical and financial assets
used to create value for customers
• Technological resources
Trade secrets
Innovative production processes
Patents, copyrights, trademarks
• Organizational resources
Effective strategic planning
processes
Excellent evaluation and control
systems
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities
3-26
Types of Resources
Difficult for competitors (and the firm
itself) to account for or imitate,
typically embedded in unique
Intangible routines and practices that have
Resources evolved over time
• Human
Experience and capabilities of
employees
Trust
Managerial skills
Firm-specific practices and
procedures
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities
3-27
Types of Resources
Difficult for competitors (and the firm
itself) to account for or imitate,
typically embedded in unique
Intangible routines and practices that have
Resources evolved over time
• Innovation and creativity
Technical and scientific skills
Innovation capacities
• Reputation
Effective strategic planning processes
Excellent evaluation and control
systems
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities
3-28
Types of Resources
Competencies or skills that a firm
employs to transform inputs to
outputs, and capacity to combine
tangible and intangible resources to
attain desired end
• Outstanding customer service
Organizational
• Excellent product development
Capabilities
capabilities
• Innovativeness of products and services
• Ability to hire, motivate, and retain
human capital
3-29
How Resources and Capabilities Lead to
Advantages
Adapted from Exhibit 3.5 Marks & Spencer: How Resources and Capabilities Lead to Advantages
Source: Adapted with permission of Harvard Business Review: Exhibit from “Competing on Resources: Strategy
in the 1990’s” by D. J. Collis and C. Montgomery, 73, no. 4 (1995). 3-30
Firm Resources and Sustainable
Competitive Advantages
Is the resource or Implications
capability…
Valuable • Neutralize threats and exploit
opportunities
Rare • Not many firms possess
Difficult to imitate • Physically unique
• Path dependency
• Causal ambiguity
• Social complexity
Difficult to substitute • No equivalent strategic
resources or capabilities
3-31
Is the Resource Valuable?
Organizational resources can be a source
of competitive advantage only when they
are valuable
• Enable a firm to formulate and implement
strategies that improve its efficiency or
effectiveness
3-32
Is the Resource Rare?
Organizational resources also possessed
by competitors are not sources of
competitive advantage
• Common strategies based on similar resources
give no one firm an advantage
• Competitive advantages are gained only from
uncommon resources, resources that are rare
to other competitors
3-33
Can the Resource be Imitated?
Difficulty in imitating resources is key to
value creation because it constrains
competition
• Profits generated from inimitable resources are
more likely to be sustainable
Physical uniqueness
Path dependency
Causal ambiguity
Social complexity
3-34
Are Substitutes Readily Available?
There must be no strategically equivalent
valuable resources that are themselves not
rare or inimitable
• Substitutability may take at least two forms
Competitor may be able to substitute a similar
resource that enables it to develop and
implement the same strategy
Very different firm resources can become
strategic substitutes (such as e-business as a
substitute for physical retail facility)
3-35
Criteria for Sustainable Competitive
Advantage and Strategic Implications
Is a resource or capability…
Valuable Rare Difficult Without Implications
to Imitate Substance for Competitiveness
No No No No Competitive disadvantage
Yes No No No Competitive parity
Yes Yes No No Temporary competitive
advantage
Yes Yes Yes Yes Sustainable competitive
advantage
Exhibit 3.7 Criteria for Sustainable Competitive Advantage and Strategic Implications
Source; Adapted from J. Barney, “Firm Resources a Sustained Competitive Advantage, ‘ Journal of
Management 17 (1991), pp. 99-120. 3-36
Core Competencies--Cautions and Reminders
It should never be taken for granted that core competencies
will continue to provide a source of competitive advantage
All core competencies have the potential to become
Core Rigidities
Core Rigidities are former core competencies that sow the
seeds of organizational inertia and prevent the firm from
responding appropriately to changes in the external
environment
3-37
Evaluating Firm Performance
Two approaches for evaluating firm
performance
• Financial ratio analysis
Balance sheet
Income statement
• Balanced scorecard (stakeholder perspective)
Employees
Customers
Owners
3-38
Financial Ratio Analysis
• Five types of financial ratios
• Short-term solvency or liquidity
• Long-term solvency measures
• Asset management (or turnover)
• Profitability
• Market value
• Meaningful ratio analysis must include
• Analysis of how ratios change over time
• How ratios are interrelated
3-39
Financial Ratio Analysis: Historical
Comparisons
Exhibit 3.8 Historical Trends: Return on Sales (ROS) for a Hypothetical Company
3-40
Financial Ratio Analysis: Comparison with
Industry Norms
Grocery Skilled-Nursing
Financial Ratio Semiconductors Store Facilities
Quick Ratio (times) 1.5 0.5 1.1
Current ratio (times) 3.2 1.6 1.9
Total liabilities to net worth (%)34.8 114.0 93.0
Collection period (days) 54.8 2.9 40.2
Assets to sales (%) 98.1 21.2 108.7
Return on sales (%) 3.1 0.9 2.0
Exhibit 3.9 How Financial Ratios Differ across Industries
Source: Dun & Bradstreet, Industry Norms and Key Business Ratios, 1999-2000, Desktop Edition, SIC #0100-
8999 3-41
Financial Ratio Analysis: Comparison with
Key Competitors
Sales* R&D budget
Company (or division ($ billions) ($ billions)
P&G Drug Division $ 0.8 $ 0.38
Bristol-Myers Squibb 20.2 1.80
Pfizer 27.4 4.00
Merck 32.7 2.10
*Most recently completed fiscal year. Data: Lehman Brothers, Procter
& Gamble Co.
Exhibit 3.10 Comparison of Procter & Gamble’s and Key Competitors’ Drug Revenues and R&D Expenditures
Source: R. Berner, “Procter & Gamble: Just Say No to Drugs,” Business Week, October 9, 2000, p. 128; data
courtesy of Lehman Brothers and Procter & Gamble. 3-42
The Balanced Scorecard
• Provides a meaningful integration of many
issues that come into evaluating a firm’s
performance
• Four key perspectives
• How do customers see us? (customer perspective)
• What must we excel at? (internal perspective)
• Can we continue to improve and create value?
(innovation and learning perspective)
• How do we look to shareholders? (financial
perspective)
3-43
The Balanced Scorecard
Customer • Time
Perspective
• Quality
• Performance and service
• Cost
3-44
The Balanced Scorecard
• Processes
• Cycle time
Internal Business • Quality
Perspective
• Employee skills
• productivity
• Decisions
• Actions
• Coordination
• Resources and capabilities
3-45
The Balanced Scorecard
• Introduction of new products
and services
• Greater value for customers
• Increased operating
Innovation and efficiencies
Learning Perspective
3-46
The Balanced Scorecard
• Profitability
• Growth
• Shareholder value
• Increased market share
• Reduced operating expenses
Financial • Higher asset turnover
Perspective
3-47