Session 8 THE SEARCH FOR VALUE AND SUSTAINABLE COMPETITIVE

Session 8
THE SEARCH FOR VALUE AND
SUSTAINABLE COMPETITIVE
ADVANTAGE
Sustainable competitive
advantage
• The ultimate determinants of success and
failure in the firm’s search for value.
• Are there any useful generalisations to be
made which can help to guide the strategy
process?
Sustainable competitive advantage
and resource based theory
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Introduction:: an examination of the sources of sustainability of profits
Why are some firms able to sustain success over a long period?
Porter’s approach to business performance:: competitive advantage.
The capabilities approach to firm performance
The nature and significance of capabilities
Architecture, reputation, and innovation
The value of capabilities:
A resource based theory of firm performance:: Peteraf’s model.
Conclusions
Part 1: Porter’s approach
Porter’s five forces approach (industry attractiveness)
sees industry performance as a function of industry
structure/conduct. (P&S, table 10.1)
BUT within industries firm performance varies,
So what determines relative firm performance?
In ‘Competitive Advantage’ he tried to answer this ?
Porter, cont.
• ‘Competitive advantage’ argues that it
depends on the firm’s ability to manage the
cost drivers/ differentiation drivers so as to
produce a cost advantage or a differentiation
advantage.
• But this approach has problems and is
incomplete.
Some questions about Porter
• Why does the successful firm not buy the
unsuccessful and teach it how to minimise costs?
• Why does the successful firm not sell its expertise
in cost reducing to less successful firms?
• Why does the successful firm not cut its prices and
drive its competitors out of business?
• Why does the unsuccessful firm not bid for the
executive(s) in charge of cost drivers from the
successful firm?
These do happen: e.g. battle between General Motors
and Volkswagen for the services of cost guru Mr.
Lopez.
Porter’s recipe
If it is possible for Michael Porter to describe how to
create and sustain competitive advantage then
surely all firms have equal access to this
knowledge once Porter has codified it. So can it
be a source of SCA? Beware recipes!
Finally, low cost/differentiation can’t be the ultimate
source. The ultimate source is surely who or what
produces the low cost/differentiation advantage.
Beyond Porter
• Does anyone offer a better explanation of
the roots of business performance?
• In the 90’s a capabilities approach emerged
as a ‘new orthodoxy’ leading to a distinctive
‘resource based view’ of the firm and
strategy.
Part 2: The capabilities approach
• Question: What could give a particular firm
a sustainable edge over its rivals?
• A series of influential articles in the HBR
during the 90’s suggested a new approach
(although it turned out its origins were
much earlier)
Prahalad and Hamel (1990):
core competencies
• Management’s ability to consolidate technology and
production skills into competencies so the business can
adapt quickly to changing opportunities/circumstances.
• Core competencies = collective learning of the
organisation about prod/tech/markets.
e.g. Sony’s miniaturisation skills.
• Competencies have to be built over a long period.
• They are difficult to identify precisely and hard to imitate.
• Many firms fail to identify their own core competencies
and so fail to nurture them properly or exploit them fully.
Stalk, Evans, and Shulman (1992):
capabilities
• Competitive advantage is based on the ability to
respond to evolving opportunities which depends
on business processes or capabilities. Business
success involves choosing the right capabilities to
build, managing them carefully, and exploiting
them fully.
e.g. Honda, Canon.
Chandler (1990):
initial risky investments
• Chandler (1990): successful giants such as
IBM and Bayer derive from the initial
heavy and risky investments in building
organisational knowledge and capabilities
which allowed them to exploit the
opportunities available to exploit scale and
scope economies.
Collis and Montgomery (1995):
competing on resources
• Competitive advantage derives ultimately
from the ownership of a valuable resource.
• Superior performance derives from
developing a ‘competitively distinct’ set of
resources and deploying them in a well
conceived strategy.
• Resources can be physical, intangible, or
organisational capabilities.
• Example: Marks and Spencer (poor timing!)
John Kay (1993): Distinctive
capabilities.
In his best seller, ‘The foundations of corporate success’ Kay
argues that the source of competitive advantage is the
creation and exploitation of distinctive capabilities.
The value of any advantage created depends on its
sustainability and its appropriability.
Kay provides a detailed analysis of this (see also P&S)
Distinctive capabilities
Kay identifies only three basic types of
distinctive capability:
• Corporate Architecture
• Innovation
• Reputation.
Distinctive capabilities
• What is it about these things in particular?
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Difficult to build and maintain.
Difficult to codify/ make into recipes.
Difficult to copy/ emulate.
Can’t simply be bought ‘off the shelf’.
Strategic assets
• He also discusses market dominance (monopoly) based on
the ownership of strategic assets as a source of success.
• Natural monopolies such as utility networks, or licensed
monopolies such as the national lottery.
• And those based on heavy sunk costs which discourage
challengers for the first mover.
• But he argues that in these case it is essentially structural
factors that count not distinctive capabilities.
• There may of course be room for debate in some
cases.
Architecture as a distinctive
capability
• Concerns organisational effectiveness in the
search for value.
• Connects back to the discussion of
corporate objectives and the co-operation
needed to get things done in P&S chap 4.
• How to focus individuals on achieving
organisational goals.
Architecture
The network of contractual relationships which
defines the firm. The capacity of organisations
to:
– 1. Create and store organisational
knowledge and routines
– 2. Promote more effective co-operation
between the members.
– 3. Achieve an open and easy flow of
information between members.
– 4. Adapt rapidly and flexibly
Architecture
• Architecture is largely about how you
organise to get things done as effectively as
possible.
• But NB it also influences what you choose
to do (strategy) in the first place. Because?
• Architecture is about organisational form,
incentive mechanisms, work organisation,
performance evaluation, and governance.
Architecture
e.g. IBM in its heyday, Marks and Spencer (back
when!), Liverpool Football Club.
e.g. Many Japanese firms: the Japanese employment
system, its supplier networks, the close relations
between industry and finance, the great emphasis
on co-operation and collaboration, the
development of long term commercial
relationships, and the generally higher level of
trust which encourages co-operation
Architecture
• Now a specialised study area.
• See for example, Brickley, Smith, and
Zimmerman: Economics and Organisational
Architecture.
Reputation as a distinctive capability
• This is about conveying information to consumers
about quality. But it isn’t equally important for all
goods and services. It applies to a particular
category of goods called,
• Long term experience goods.
• These are goods where product quality is vital to
the consumer but where it is difficult for the
consumer to establish quality except through time
and experience.
Reputation
• Kay mentions car hire services, legal
services, accountancy services, funeral
services (?), consumer durables. Add
vitamin pills, roofing services, pension
funds, and ……
• All students are very familiar with the
problem involved.
Reputation
• Problem is that you want quality, but that
quality takes time to manifest itself.
• All suppliers will ‘guarantee satisfaction’.
• How can you distinguish between them?
• If difficult then consumers will assume low
quality and pay only low prices.
• If you can convince them you can obtain a
premium price for quality assurance.
Reputation
• Selling on reputation is saying we have
made an investment in an asset so we have a
lot to lose if we fail to satisfy. So you can
trust us, but not the ‘hit and run’ suppliers
who sell on (low) price alone.
• How might it be done. Longevity (est.1768
sort of thing). Warranties.
• Advertising?
Advertising and reputation
• Heavy advertising may be a way.
• Adv is a sunk cost which implies
commitment to the service. There is
something to lose.
• Evidence is that ‘long term experience’
goods do have the highest adv/sales
ratio(5%). (B.S.R. 1992).
Reputation and diversification
• Note for later,
• Reputation might be a basis for growth
through diversification but Kay notes that
an expensively created reputation can be
damaged by unwise diversification when
firms stray into areas they don’t fully
understand.
Innovation as a distinctive capability
• A capacity for lowering costs or improving its products or
introducing new products ahead of its competitors.
• Innovation by itself as a source of competitive advantage is
actually quite rare.
• Innovation is very difficult. It is uncertain, and it is hard to
manage properly. There are no recipes. It can be difficult
for firms which invest in R&D to secure or appropriate all
the returns. So being able to do it well will undoubtedly
give you a good edge.
• However many firms which seek competitive advantage by
this route fail.
• Often what appears to be competitive advantage based on a
capability for innovation is actually based ultimately on
architecture. e.g. Sony and Glaxo
The Value of Capabilities
• Distinctive capabilities generate success
which attracts competitors.
• Their value depends on their sustainability
and the appropriability of the value they
generate. (see also Collis et al HBR 95)
• These in turn depend on the following
factors:
The Value of Capabilities
• Transparency: how easy is it to identify and
understand? J. management techniques?
• Replicability: how easy to imitate/replicate?
A team formation such as 4-4-2 is easy, but
German ‘efficiency’ or Brazilian ‘flair’ is
more difficult.
• Substitutability: How easy to find a
substitute for. Sony o/m of innovation,
M&S supply chain organisation.
The Value of Capabilities
• Who captures the income stream from the
capability? The organisation or the
underlying resources. This is the issue of
appropriability.
• To be valuable to the organisation the
capability has to be immobile/
organisationally specific. Not able to walk!
Appropriability
• Resources such as people are marketable
and can capture their full market value.
• So the organisation’s capability has to be
more than the sum of its (marketable) parts.
• Take Manchester United and the Roy Keane
effect (£50,000 per week!).
• To be a valuable business MU must produce
a team capability beyond the market value
of its expensive players and coaches.
To sum up
• The value of the organisations capability
requires that the competition:
• Can’t see it easily.
• Can’t imitate it.
• Can’t find a sub for it.
• Can’t just buy it.
Isolating mechanisms
• Name given to barriers preventing the
replication of organisations capabilities.
• Causal ambiguity.
• Time compression diseconomies. Extra
costs of accumulating resources and
capabilities quickly to take on a first mover.
PART 3: RESOURCE BASED
‘THEORY’ OF THE FIRM
A distinctive resource based ‘theory’ of the firm has
emerged trying to formalise the capabilities approach.
• The “resource-based” approach is concerned with the
nature of the firm’s resources and how these resources are
combined into capabilities.
• Key example is Peteraf (1993). Her approach is outlined
below and summed up in this figure. Note she uses the
term RENT common in US writing to connote the result of
sustainable competitive advantage. The Linn example is
from a student case study.
Ex-ante limits
to competition
Heterogeneity
Rents not offset
by building costs
Rents obtained
Peteraf
model
Competitive
advantage
Rents captured
by the firm
Imperfect
mobility
Rents sustained
Ex-post limits
to competition
Peteraf’s model - Linn Products
Ex-post limits
to competition
Heterogeneity
The industry is made of firms
with access to different
resources and skills. Linn has
particular distinctive
competencies.
Imperfect
Mobility
Shared specialist knowledge
and reputation
Specialist knowledge
and reputation
Competitive
Advantage
Ex-ante limits
to competition
Linn has demonstrated an
ability to leverage the
potential of existing
technologies
ALL THESE LEAD TO SUSTAINABLE COMPETITIVE
ADVANTAGE THROUGH DIFFERENTATION
Competitive Advantage a la Peteraf
A firm is said to have a competitive advantage when it can:
• achieve rents: which requires resource heterogeneity between
firms (some better bundles than others).
• enjoy rents that are not offset by the costs of achieving a
superior set of resources: which requires ex ante limits to
competition for those resources.
• appropriate those rents for the firm: which requires imperfect
resource mobility.
• sustain those rents: which requires ex-post limits to
competition.
Heterogeneity:
• Bundles of resources and capabilities are heterogeneous
across firms. Heterogeneity implies that firms with
superior resources/ capabilities will earn superior returns.
• An important class of resources are those which are limited
in the short run but may be renewed and expanded within
firms that use them. Prahalad and Hamel (1990) argue that
core competencies - particularly knowledge-based
resources - are enhanced as they are used because of
learning.
Ex-post limits to competition
Forces which limit competition from imitators.
These arise from sources already discussed:
Imperfect imitability, replicability, and
substitutabilityof resources/ capabilities isolating
the firm from challengers.
Ex ante limits to competition
• The source of a firm’s rents is a superior resource position.
• But imagine the situation before any firm has achieved this
position.
• If many firms recognised its potential, a competitive
struggle would ensue to obtain the resources and build the
capabilities to occupy that position.
• This process would compete away all rents that could be
obtained from occupying the position. For example,
• North Sea Oil fields.
• Manchester United team!
• National Lottery licence.
• Sony licence for transistor.
• The script for ‘Four weddings and a Funeral’
Entrepreneurship and rent
So a firm needs the foresight to acquire resources and build
capabilities in the absence of such competition. This
requires the presence of uncertainty and incomplete
information and a willingness to take risks.
The essence of successful ENTREPRENEURSHIP is of
course foresight and taking advantage of uncertainty and
incomplete information before someone else does.
So what Peteraf seems to be saying here is simply that all
rents begin with an entrepreneurial act. Which seems
inherently sensible.
Imperfect resource mobility
• This refers to the marketability or otherwise
of the underlying resources and capabilities.
• See discussion above of appropriability.
• Thus good high street locations are
important for retailers but competition
means the rental costs reflect this fact. The
value of the location is captured by the
property owner not the retailer per se.
Summing up on SCA
• The ultimate determinants of success and
failure?
• No recipes but the starting point is being
cheaper, or better, or faster to market.
• The capabilities approach developed in the
90’s looks to the development and
deployment of a distinctive set of resources
and capabilities.
Summing up
• The value of distinctive capabilities lies in
the fact that they are hard to create and
maintain, hard to codify or make into
recipes, hard to copy or emulate, and can’t
simply be bought ‘off the shelf’.
• Organisational architecture is a fundamental
source of advantage. Strategy and structure
are closely connected as determinants of
success.
TEAM TASKS 8
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What is competitive advantage and how according to Porter might it be achieved?
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What according to Kay are the ultimate sources of superior business performance?
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What is it about the nature of things like innovation and corporate architecture which
make them fundamental to business success?
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Evaluate the extent to which your case enterprise has Sustainable competitive
advantage.
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If it has it how did it get it, on what is it based?
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If it hasn’t, how might it go about achieving better performance?
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Evaluate the key capabilities of your main competitor.