The Internal Environment: Assessing a Firm's

Competencies and Competitive Advantages

00CHAPTER OUTLINE
0. Competitive Advantage
0. Competitive advantage refers to the edge a firm has
over rivals that allows it to earn superior profits.
Competitive advantage emerges either from a
powerful market position or from a unique internal
competency.
00. Competitive advantage is strength the firm
possesses which is relevant for successful
competition in its industry or market segment and
which rivals do not have or very few in the industry
have.
00. The benefit competitive advantage bestows is
the potential for ability for higher performance.
00. When a firm effectively exploits that potential, it
earns above-average profits in its industry.
Profitability must be higher consistently year after
year if a firm is deemed to possess a competitive
advantage.
00. One way of measuring competitive advantage of
a firm is to compare its profitability with that of its
peers. Operational efficiency, or the ability to
 control operational costs, is one example of an
advantage.
0. Routes to Competitive Advantage
00. There are two possible ways to gain competitive
advantage:
0) Market position endows a firm with competitive
advantage, leading to significant profits.
(0)0 Porter explains the reason for a firm’s competitive
success by pointing to favorable industry conditions. The
firm is successful because its industry has a structure that
is inherently conducive for profits. Steady product demand
and high entry barriers allow all firms in such industries to
realize higher profits.
(0)0 Porter’s more successful explanation is that the firm
enjoys a strong market position (as cost leader or
differentiator) in the industry and can thus control industry
forces and grab a larger share of industry profits. Or the
firm is positioned in a niche (secure segment) that
insulates it from the rest of the industry and allows it to
reap monopoly profits.
(0)0 The following are some specific ways a firm can gain
a strong market position and derive position-related
advantages:
() First mover to the market: First entry gives the company name
recognition and high visibility as a pioneer, helping it to garner
industry sales.
() Geographic location advantage: A niche provides a secure market
position.
() Market share advantage: A large market share gives a firm a
strong market position allowing it to dominate raw
material/component supplies and distribution channels, thereby
garnering most of the industry’s sales and profits.
() Brand name advantage: A widely recognized brand name
positions the product as the leading brand in the market, allowing
the firm to command premium shelf space and premium price;
additionally, it gives the firm an ability to successfully exploit the
popularity of its brand in new products.
() Government protection advantage: Government protection gives
a firm monopoly status and results in higher profits.

(0)0 According to some scholars, most market

environments evolve and positional advantages cannot be
permanent. Some deem positional advantages to be only
effective when industry conditions are static, not when
they are rapidly changing.

0) Acquiring and deploying unique internal resources

can lead to significant profits. This is known as the
resource-based view. It claims to be more enduring.
(0)0 Figure 4.1, Path Leading to Competitive Advantage
Resource-Based View, illustrates the model and its
components.
(0)0 Internal strengths emerge from the firm’s stock of
resources and its capabilities to effectively employ them.
Strengths of a firm will differ due to differences in their
resources and capabilities, giving some firms an edge over
others.
() The different choices made by strategic managers create,
over time, disparities in the resources and capabilities of
firms.
() When a firm’s resources are valuable and its ability to
employ them in competition is superior, its potential for
higher performance is greater.
() When a firm’s resources are unique and rare in the
industry and its capabilities are exceptional and
competitively relevant, they give the firm a sustainable
edge over its rivals.
() Differences in strengths inhibit low-performers from
quickly imitating a high-performer’s strengths, allowing
the latter to retain its competitive advantage. Prudent
managers constantly invest to enhance their strengths’
uniqueness and to prevent imitation. More importantly,
they invest in core competencies that have broad
application.
0. Resources and Capabilities
0. Resources and Capabilities
00. Resources, specifically, are the stockpile of
productive assets held by a firm to be used as inputs
in its business activities.
0) Tangible resources are visible, quantifiable
resources such as plants, facilities, equipment, and
liquid funds.
0) Intangible resources are not visible or easily
quantifiable, such as employee skills, leadership and
managerial capabilities, patents, brand name, and
strategic partnerships.
0) Table 4.2, Tangible and Intangible Resources,
provides a detailed list of these resources.
00. Resources on their own cannot be productive
but must be combined and collectively processed to
achieve organizational tasks. Capability refers to the
firm’s skills or knowledge in transforming inputs into
outputs; it is intangible and is not an input.
0) Capability emerges from the firm’s stock of knowledge,
employee skills, and organizational routines, which are
developed over time through complex interactions among
the firm’s resources.
0) Capability is thus specific to a firm (after years of
experience) and is intangible.
0) How capable a firm is in performing an activity
(organizational tasks) depends on how effectively it
integrates diverse resources toward completion of that
activity. Some activities require integration within a
function, while others require integration across functions.

0. Strategic Leadership: A Vital Resource

00. Resources and capabilities do not simply
emerge, but are consciously acquired and
developed. This process is time-consuming.
0) The quality and competitive relevance of a firm’s resources
and capabilities at any given time is the result of the
choices that the strategic managers made in the past.
0) Strategic leadership refers to the ability of strategic
managers to make the right choices in resources and
capabilities that will meet the current and future needs of
the firm; an intangible asset, this is a crucial requirement
for competitive success.

00. Successful strategic leaders are simultaneously

concerned with the firm’s present and its future,
including building the firm’s potential for future
performance.
0) Toward this end, strategic leaders formulate strategies
not only for the efficient utilization of current resources
 and capabilities but also for developing new resources and
capabilities in anticipation of the firm’s future.
0) Successful strategic leaders:
(0)0 Articulate a vision for the firm after examining the firm’s
current strengths and potential opportunities
(0)0 Formulate strategies that would effectively utilize current
strengths and build new strengths to realize the expected
future
(0)0 Guide the firm to its future through facilitative
techniques

0) Visionary thinking, anticipatory skills, persuasiveness, and

an ability to adapt or proactively create environmental
conditions necessary to achieve the desired future
characterize successful leaders. Strategic leadership is thus
a source of competitive advantage for a firm.

0. How Do Resources and Capabilities Create

Competitive Advantage?
00. Resources as productive inputs and capabilities
as skills are essential for completion of business
tasks.
0) When resources and capabilities of firms in an industry are
similar to each other, no firm has a differential advantage
in its ability to perform.
0) Profitability of each firm under such conditions is just equal
to the industry average.
0) Comparable resources and capabilities among industry
players do not confer any with a relatively superior
potential for performance. The nature of competition,
however, means that firms strive to distinguish themselves
from one another, thus their resources and capabilities are
not similar.

00. Distinctive competency, also called distinctive

capability, refers to the ability of a firm to perform
competitively critical tasks relatively well.
0) Distinctive competency provides a firm with a potential to
perform at higher levels; that is, it bestows competitive
advantage.
0) Figure 4.2, Resources, Capabilities, and Competitive
Advantage, summarizes how resources and capabilities
lead to competitive advantage and above-average
industry performance.
0) Firms may have distinctive competency in product design,
product innovation, distribution, customer service, or a
combination of these.

00. Resources and capabilities are exceptional

when they are valuable, scarce, and relevant to
competition.
0) Valuable resources and capabilities enable a firm to be
distinctively competent and achieve better performance in
the industry.
(0)0 This includes sophisticated tools, patents, a well-
trained workforce, and organizational learning.
0) Scarce resources and capabilities, rare in the industry.
enable a firm that has them - and others do not - to
undertake tasks or do things in ways that others in the
industry cannot.
(0)0 Resources and capabilities possessed and widely used
by every firm in the industry are a prerequisite for
competing. Standard resources and capabilities, then, do
not endow a firm with distinctive competencies.
0) Relevant resources and capabilities for competition are
elements a firm must have strengths in in order to derive
competitive advantage.
(0)0 Resources and capabilities, no matter how
exceptional they may be, will not generate competitive
advantage if they are in activities that are unrelated to
competition.

00. A very important point is that it is the firm’s

capabilities that eventually give birth to distinctive
competencies.
0
0) Resources alone are of no avail unless the firm has the
requisite capabilities to effectively exploit them.
0) Unique resources and capabilities are a weak combination
whereas ordinary resources and exceptional capabilities
are more preferable.
0) Ideally, unique resources and exceptional capabilities
generate distinctive competencies that last for a long time.

0. Sustaining Competitive Advantage

0. Sustaining Competitive Advantage
00. Because competitive advantage allows a firm to
earn significantly above-average profits in the
industry, it attracts the attention of average
performers who want to duplicate it or find
alternative ways of gaining a similar advantage for
themselves.
00. The market leader may feel pressured when
other firms attempt to identify the resources and
capabilities underlying its competitive advantage and
imitate them, either by developing substitutes or
purchasing them.
00. When the sources underlying a firm’s
competitive advantage resist imitation,
substitutability, or mobility, the firm can sustain its
advantage for a long time.
0) Imitation: In general, competitive advantages based on
tangible resources are quickly copied because they are
easily visible; advantages stemming from technologies or
 capabilities are more durable because they are not easily
discernable.
0) Substitution: A firm’s advantage can be neutralized by
competition through substitution.
0) Transferability: An easy way by which a rival can come to
have a firm’s competitive advantage is through
acquisition: acquiring a firm that has the requisite
resources and capabilities.

Reasons being that:

(0)0 Tangible resources can be easily absorbed.
(0)0 Capabilities, however, are not easily transferable
from one firm to another because they become specific to
a firm, emerging from its culture, learning, and cumulative
experience.
0. Identifying and Assessing a Firm’s Competencies
0. Identifying a Firm’s Competencies
00.By examining a firm’s competencies (task input) and
performance (task output) in discrete activities, we can
inferentially assess its overall competency.
00.In broad terms, a firm’s competencies may be broken
down into an ability to identify product/market
opportunities and an ability to exploit them.
0) Opportunity identification requires visionary
(entrepreneurial) skills whereas opportunity exploitation
requires operational skills (ability to develop and market
products of superior quality at a relatively low cost or in a
timely manner).
0) To be successful, the firm must possess a combination of
entrepreneurial and operational competencies.

0. Entrepreneurial Competence
00. Entrepreneurial competence: A firm whose
managers have the vision to see an emerging market
or a technological opportunity before the
competition does, and have the will to exploit that
 opportunity will enjoy significant strategic
advantages.
0) A firm that recognizes and seizes opportunities first
(referred to as the first mover or pioneer if the firm
introduces new technology) stands to gain substantially.
0) For an established firm, entrepreneurial competence offers
several strategic and financial advantages:
(0)0 Prevents entry: By recognizing and seizing new
opportunities in its industry early on, a firm can prevent entry
by potential competitors.
(0)0 Lead advantage: Pioneering enables a firm to gain a lead
advantage; customers associate the product with the
entrepreneur’s brand, endowing it with high brand
recognition and market leadership.
(0)0 Cost advantage: An early mover’s higher volume of
output and cumulative experience confers on it a lower unit
cost position compared to followers.
(0)0 Significant profits: The absence of competition during
the initial stages enables the entrepreneurial firm to garner
substantial profits.

0. Sources of Entrepreneurial Competence

00. A firm’s entrepreneurial competence becomes
evident when it frequently pioneers new products or
new administrative or manufacturing processes or
proactively creates new markets for its products.
0) R&D spending generates the technological information,
while environmental scanning generates the market
 information the firm needs for developing new products or
new markets.
0) New information is of no avail unless a firm recognizes and
learns from it. Cognitive psychology (chapter 3) tells us
that people do not observe and recognize everything in
their environment. Biases, beliefs, and work routines shape
managers’ thinking, determining which opportunities they
will perceive and analyze and which ones they will discard.
0) Organizations that cling to outmoded assumptions and
favor the continuation of the past seriously constrain the
ability of their members to perceive new opportunities.
Such opportunities either are not noted or are ignored.
0) The firms that adopt a learning and adaptive culture and
promote a knowledge-sharing environment frequently
identify new opportunities because of their wider
knowledge and information base.
(0)0 Some researchers call this the absorptive capacity of
the firm. This is the ability of the firm to absorb new
information as a result of its previously stored information.
(0)0 A learning and adaptive culture is an intangible asset
for a firm, helping it to recognize new opportunities in a
timely manner.

00. Timely recognition of an opportunity is only one

part of successful entrepreneurship. Willingness to
take the necessary risk in exploiting the perceived
opportunity is an additional requirement.
00. To sustain an early-mover advantage, a firm
must additionally be uniquely competent in several
operational activities of its business.
00. Operational Competence: Value Chain Model
0) Porter proposed the value chain model to assess a firm’s
operational competencies.
0) Any product must go through stages of activities during
which value is added to the product at every stage.
0) A firm is more capable in any or a combination of activities
when it performs them better (that is, it adds
comparatively more value to the product or service in
those activities), performs them at a relatively lower cost,
or performs at a relatively shorter time than other firms.
0) Figure 4.2, Value Chain, shows that research, product
design, raw material procurement, component
manufacturing, assembly, marketing, sales, distribution,
and after-sales service are activities in this sequence that
add value to the product incrementally.

00. Primary activities, also called line activities, are

directly related to creating, making, and marketing
of the product. Examples include:
0) Procurement and inbound logistics entail purchasing of
raw materials and parts components from vendors, storing
them, and transmitting them to production. Skilled
management of these activities ensures a steady and
timely flow of inputs, eliminating the need for large
 inventories. Primary activities provide opportunities to
lower inventory and minimize overall operational costs.
0) Product design (or product engineering) is concerned with
the products’ features, functionality, and physical
appearance.
0) Process design (or manufacturing engineering) is
concerned with planning the layout and construction of
the production process.
0) Productions/Operations pertain to the processing of
materials and components into finished goods. On
average, about 60 percent of total costs of a firm are
production related.
0) Marketing is concerned with market segmentation,
product positioning, and delivering the message to the
consumer. Marketing adds value by creating a favorable
image of the company and its products in the minds of the
consumer.
0) Service provides after-sales service such as product
installation, parts delivery, maintenance and repairs, and
technical assistance.

00. Support activities, also called staff activities,

provide the expert help necessary for the primary
activities to take place. These include:
0) Research and development (R&D) combines two distinct,
yet related, functions. Research focuses on identifying
scientific information needed to develop new products and
processes or enhance current products and processes;
 development focuses on the actual design of products and
production processes.
0) Human resources is concerned with attracting and
retaining the right mix of skilled people on the job. It also
conducts work analysis and develops training and
compensation mechanisms for enhancing employee
morale, job satisfaction, and productivity.
0) Company infrastructure comprises the firm’s
organizational structure, administrative mechanisms, and
culture or value system.

00. Value chain analysis divides a firm’s operations

into a chain of activities, indicating how they are
linked.
0) Primary activities are sequentially linked whereas support
activities are linked to several primary activities
simultaneously.
0) By analyzing the linkages, managers understand the
coordination needs of their firm to enhance work flow
efficiency, quality, and speed.
0) By analyzing each activity, managers understand their
firm’s overall internal cost structure vis-à-vis competition’s.

00. Function-based approach identifies a firm’s

capabilities within each functional category.
0) Table 4.3, Function-Based Capabilities, lists common
organizational functions and capabilities associated with
those functions.
0) To obtain realistic results, functional analysis needs to be
combined with the value chain analysis.
0) Table 4.4, Information Checklist and Format for Internal
Analysis, provides a broad information checklist and
format for conducting internal analysis.

0. Competitive Advantage: Market Position or

Resources & Capabilities?
00. What causes competitive advantage and
company success, strong market position, unique
internal resources and capabilities, or both?
0) Both are needed. Current views take a balanced approach
and suggest that a strong market position and unique
internal assets complement each other and that both are
necessary for competitive success.
0) Strategy in Practice 4.1, Golden West Financial Bank’s
Positional and Capability-based Advantages, examines
the argument that both sources of competitive advantage
are necessary.

00. SWOT analysis examines a firm’s strengths and

weaknesses relative to its competitive environment.
0) Managers use the SWOT technique to compare company
strengths and weaknesses with industry opportunities and
threats. The purpose is to assess overall firm strength
 relative to competitive environmental factors, and thus
determine strategic action to maximize performance.
0) The SWOT process places the firm in one of the following
four categories:
(0)0 Abundant environmental opportunities and
significant internal strengths
(x) This is the most favorable situation.
(y) The firm’s strategy should be to pursue aggressive growth
that will use its internal strengths to exploit the abundant
external opportunities.
(0)0 Abundant environmental opportunities but significant
internal weaknesses
(x) The strategy should be to eliminate weaknesses either by
acquiring the needed competencies through joint ventures
and alliances or by vertical mergers so that opportunities
can be effectively exploited.
(0)0 Major environmental threats but significant internal
strengths
(x) The strategy should be either to alter industry forces using
the firm’s strengths (depending on the threats) or to
diversify into more attractive industries.
(0)0 Major environmental threats and significant internal
weaknesses
(x) This is an extremely unfavorable situation.
(y) This firm should consider repositioning by moving into
another segment in the industry, or gaining the required
strengths through horizontal mergers.