Strategic Management

SMN580S
 STRATEGY
AFI FRAMEWORK
 Internal Analysis: Resources, Capabilities, and Core
Competencies
A firm’s ability to gain and sustain competitive advantage is partly driven by core competencies—unique strengths
that are embedded deep within a firm.
Core competencies allow a firm to differentiate its products and services from those of its rivals, creating higher
value for the customer or offering products and services of comparable value at lower cost

We study analytical tools to explain why differences in firm performance exist even within the same industry.

The best firms conscientiously identify their core competencies, resources, and capabilities to survive and succeed.

Firms then determine how to manage and develop internal strengths to respond to the challenges and
opportunities in their external environment.

In particular, firms conduct the evaluation and development of internal strengths in the context of external PESTEL
forces and competition within its industry and strategic group.
 Internal Analysis: Resources, Capabilities, and Core
Competencies
Last week we
looked at
External
environment

This week we
look at
Internal
environment
 Internal Analysis: Resources, Capabilities, and Core
Competencies
Core competencies
These are unique strengths, embedded deep within a firm.
Core competencies allow a firm to differentiate its products and services from those of its rivals, creating higher
value for the customer or offering products and services of comparable value at lower cost.
The important point here is that competitive advantage can be driven by core competencies

Companies develop core competencies through the interplay of resources and capabilities.
Resources are any assets such as cash, buildings, machinery, or intellectual property that a firm can draw on when
crafting and executing a strategy.
Resources can be either tangible or intangible.

Capabilities are the organizational and managerial skills necessary to orchestrate a diverse set of resources and to
deploy them strategically. Capabilities are by nature intangible. They find their expression in a company’s
structure, routines, and culture.
Internal Analysis:
Resources,
Capabilities, and
Core
Competencies
Internal Analysis:
Resources,
Capabilities, and
Core
Competencies
 Internal Analysis: Resources, Capabilities, and Core
Competencies
Resource Based View
This model systematically aids in identifying core competencies.
As the name suggests, this model sees resources as key to superior firm performance.

The diagram illustrates, resources fall broadly into two categories: tangible and intangible.

Tangible resources have physical attributes and are visible.

Examples of tangible resources are labor, capital, land, buildings, plant, equipment, and supplies.

Intangible resources have no physical attributes and thus are invisible.

Examples of intangible resources are a firm’s culture, its knowledge, brand equity, reputation, and intellectual
property.
Internal Analysis:
Resources,
Capabilities, and
Core
Competencies
 Internal Analysis:
Resources, Capabilities,
and Core Competencies
•Competitive advantage is more likely
to spring from intangible rather than
tangible resources.
•Tangible assets, such as buildings or
computer servers, can be bought on the
open market by anyone who has the
necessary cash.
•However, a brand name must be built,
often over long periods of time.
•Google (founded in 1998) and
Amazon.com (founded in 1994, and
with a brand value of $100 billion)
accomplished their enormous brand
valuations fairly quickly due to a
ubiquitous internet presence, while the
other companies in the global top-10
most valuable brands—Apple,
Microsoft, AT&T, Facebook, Visa,
Verizon, McDonald’s, and IBM—took
much longer to build value and have it
recognized in the marketplace
 Internal Analysis: Resources, Capabilities, and Core
Competencies
The VRIO Framework
Our tool for evaluating a firm’s resource talents is a framework that answers the question of what resource
attributes underpin competitive advantage.
This framework is implied in the resource-based model, identifying certain types of resources as key to superior
firm performance.
For a resource to be the basis of a competitive advantage, it must be:
Valuable,
Rare, and costly to
Imitate. And finally, the firm itself must be
Organized to capture the value of the resource

According to this model, a firm can gain and sustain a competitive advantage only when it has resources that
satisfy all of the VRIO criteria.
Internal Analysis:
Resources,
Capabilities, and
Core
Competencies
Internal Analysis: Resources,
Capabilities, and Core Competencies
VALUABLE.
•A valuable resource is one that enables the firm to exploit
an external opportunity or offset an external threat.
•This has a positive effect on a firm’s competitive
advantage.
•In particular, a valuable resource enables a firm to
increase its economic value creation
•Revenues rise if a firm is able to increase the perceived
value of its product or service in the eyes of consumers by
offering superior design and adding attractive features
(assuming costs are not increasing).
•Production costs, for example, fall if the firm is able to put
an efficient manufacturing process and tight supply chain
management in place (assuming perceived value is not
decreasing)
Internal Analysis: Resources,
Capabilities, and Core Competencies
RARE.
•A resource is rare if only one or a few firms
possess it.
•If the resource is common, it will result in
perfect competition where no firm is able to
maintain a competitive advantage
•A resource that is valuable but not rare can
lead to competitive parity at best.
•A firm is on the path to competitive
advantage only if it possesses a valuable
resource that is also rare.
 Internal Analysis: Resources, Capabilities, and Core
Competencies
COSTLY TO IMITATE.
A resource is costly to imitate if firms that do not possess the resource are unable to develop or buy the resource
at a reasonable price.
If the resource in question is valuable, rare, and costly to imitate, then it is an internal strength and a core
competency.
If the firm’s competitors fail to duplicate the strategy based on the valuable, rare, and costly-to imitate resource,
then the firm can achieve a temporary competitive advantage.
A firm that enjoys a competitive advantage, however, attracts significant attention from its competitors.
They will attempt to negate a firm’s resource advantage by directly imitating the resource in question (direct
imitation) or through working around it to provide a comparable product or service (substitution).

Direct Imitation.
We usually see direct imitation, as a way to copy or imitate a valuable and rare resource, when firms have
difficulty protecting their advantage – Example

Substitution.
The second avenue of imitation for a firm’s valuable and rare resource is through substitution. This is often
accomplished through strategic equivalence
 Internal Analysis: Resources, Capabilities, and Core
Competencies
ORGANIZED TO CAPTURE VALUE.
The final criterion of whether a rare, valuable, and costly-to-imitate resource can form the basis of a sustainable
competitive advantage depends on the firm’s internal structure.
To fully exploit the competitive potential of its resources, capabilities, and competencies, a firm must be
organized to capture value— that is, it must have in place an effective organizational structure and coordinating
systems
 Internal Analysis: Resources, Capabilities, and Core
Competencies
ISOLATING MECHANISMS: HOW TO SUSTAIN A COMPETITIVE ADVANTAGE
Although VRIO resources can lay the foundation of a competitive advantage, no competitive advantage can be
sustained indefinitely.
Several conditions, however, can offer some protection to a successful firm by making it more difficult for
competitors to imitate the resources, capabilities, or competencies that underlie its competitive advantage.
Barriers to imitation are important examples of isolating mechanisms because they prevent rivals from competing
away the advantage a firm may enjoy; they include:
• Better expectations of future resource value.
• Path dependence.
• Causal ambiguity.
• Social complexity.
• Intellectual property (IP) protection
 Internal Analysis: Resources, Capabilities, and Core
Competencies
BETTER EXPECTATIONS OF FUTURE RESOURCE VALUE.
Sometimes firms can acquire resources at a low cost, which can lay the foundation for a competitive advantage later
when expectations about the future of the resource turn out to be more accurate than those held by competitors.

Better expectations of the future value of a resource allows a firm to gain a competitive advantage.

If such better expectations can be systematically repeated over time, it may help in sustaining a competitive
advantage

PATH DEPENDENCE.
Path dependence describes a process in which the options one faces in a current situation are limited by decisions
made in the past.
Often, early events— sometimes even random ones—have a significant effect on final outcomes
 Internal Analysis: Resources, Capabilities, and Core
Competencies
CAUSAL AMBIGUITY.
Causal ambiguity describes a situation in which the cause and effect of a phenomenon are not readily apparent.
To formulate and implement a strategy that enhances a firm’s chances of gaining and sustaining a competitive
advantage, managers need to have a hypothesis or theory of how to compete.
This implies that managers need to have some kind of understanding about what causes superior or inferior
performance, and why

SOCIAL COMPLEXITY
Social complexity describes situations in which different social and business systems interact.
There is frequently no causal ambiguity as to how the individual systems such as supply chain management or
new-product development work in isolation.
They are often managed through standardized business processes such as Six Sigma or ISO 9000.
Social complexity, however, emerges when two or more such systems are combined.
Copying the emerging complex social systems is difficult for competitors because neither direct imitation nor
substitution is a valid approach.
The interactions between different systems create too many possible permutations for a system to be understood
with any accuracy.
The resulting social complexity makes copying these systems difficult, if not impossible, resulting in a valuable,
rare, and costly-to-imitate resource that the firm is organized to exploit.
 Internal Analysis: Resources, Capabilities, and Core
Competencies
INTELLECTUAL PROPERTY PROTECTION.
Intellectual property (IP) protection is a critical intangible resource that can also help sustain a competitive
advantage.
The five major forms of IP protection are:
■ Patents
■ Designs
■ Copyrights
■ Trademarks
■ Trade secrets

The intent of IP protection is to prevent others from copying legally protected products or services.
 Internal Analysis: Resources, Capabilities, and Core
Competencies
USING SWOT ANALYSIS TO GENERATE INSIGHTS FROM EXTERNAL AND INTERNAL
ANALYSIS
We create insights from an internal analysis of the company’s strengths and
weaknesses with those from an analysis of external opportunities and threats using
the SWOT analysis.
Internal strengths (S) and weaknesses (W) concern resources, capabilities, and
competencies.
Whether they are strengths or weaknesses can be determined by applying the VRIO
framework.
A resource is a weakness if it is not valuable.
In this case, the resource does not allow the firm to exploit an external opportunity or
offset an external threat. A resource, however, is a strength and a core competency if
it is valuable, rare, costly to imitate, and the firm is organized to capture at least part
of the economic value created
 Internal Analysis: Resources, Capabilities, and Core
Competencies
External opportunities (O) and threats (T) are in the firm’s general environment and can
be captured by PESTEL and Porter’s five forces analyses (discussed in the previous
chapter).
An attractive industry as determined by Porter’s five forces, for example, presents an
external opportunity for firms not yet active in this industry.
On the other hand, stricter regulation for financial institutions, for example, might
represent an external threat to banks.
A SWOT analysis allows the strategist to evaluate a firm’s current situation and future
prospects by simultaneously considering internal and external factors.
The SWOT analysis encourages managers to scan the internal and external
environments, looking for any relevant factors that might affect the firm’s current or
future competitive advantage.
The focus is on internal and external factors that can affect—in a positive or negative
way—the firm’s ability to gain and sustain a competitive advantage
 Exercise

Looking Inside Yourself: What Is My Competitive Advantage? We encourage you to apply what you have learned about
competitive advantage to your career. Spend a few minutes looking at yourself to discover your own competitive advantage. If you
have previous work experience, these questions should be from a work environment perspective. If you do not have any work
experience yet, use these questions to evaluate a new workplace or as strategies for presenting yourself to a potential employer.

1. Write down your own strengths and weaknesses. What sort of organization will permit you to really leverage your strengths and
keep you highly engaged in your work (person–organization fit)? Do some of your weaknesses need to be mitigated through
additional training or mentoring from a more seasoned professional?

2. Personal capabilities also need to be evaluated over time. Are your strengths and weaknesses different today from what they were
five years ago? What are you doing to make sure your capabilities are dynamic?

3. Are some of your strengths valuable, rare, and costly to imitate? How can you organize your work to help capture the value of
your key strengths (or mitigate your weaknesses)? Are your strengths specific to one or a few employers, or are they more generally
valuable in the marketplace? In general, should you be making investments in your human capital in terms of company-specific or
market-general skills?

4. As an employee, how could you persuade your boss that you could be a vital source of sustainable competitive advantage? What
evidence could you provide to make such an argument?