‘Marketing capabilities are sometimes distinctive, sometimes reproducible. The importance of the distinction for strategy is this. Only distinctive capabilities can be the basis of sustainable competitive advantage.’ John Kay
A company’s strategy consists of the competitive efforts and business approaches that managers employ to please customers, compete successfully, and achieve organizational objectives. It represents management’s answers to such fundamental business questions as whether to concentrate on a single business or build a diversified group of business, which cater to a broad range of customer or focus on a particular market niche. A strategy thus reflects the managerial choices among alternatives and signals organizational commitment to particular products, markets, competitive approaches, and ways of operating the enterprise (Hooley et al. 2001; Kay 1999).
In discussing the formulation of strategy, Kay (1999) argues that it is a process of analyzing the firm’s strengths and weaknesses within the markets in which it operates. Kay (1999) thus assert that analysis answers two fundamental questions in strategy formulation. First, what are the sources of competitive advantage for a company to succeed? Second, how can a company reach an attractive competitive position and create a sustainable competitive advantage?
Sustainable competitive advantage as argued by John Kay is only achieved if the company has distinctive capabilities or resources that its competitors does not have. Kay (1999) argues that resources can be considered as unique or reproducible. A unique resource, for example the brand name of ABB, can be considered as an important asset that can be a basis of sustainable competitive advantage. A reproducible resource and capabilities, on the other hand, pertains to assets that can be easily copied or reproduced by competitors and does not offer the company the distinctive competitive advantage. A good example of a reproducible resource would be the process of manufacturing distribution transformers. Many are now able to produce distribution transformers on their own and can learn the process more very quickly and easily (Kay 1999).
Therefore, Kay’s argument depicts a part of the process of strategy formulation requires managers to view the current position and resources at its disposal and resources that needs to be acquired in order to meet market expectations. The researcher will first look at the different views in strategic management. To appreciate the contribution of resource-based view to strategic management, the researcher will describe the trend in the development of strategic management. Moreover, the researcher will discuss the resource-based view of strategy and how this view support that strategy formulation requires a good understanding of the current market position, which includes its resources and capabilities, and how the company can take advantage of market opportunities. Lastly, we shall look into the sources of competitive advantage and we shall discuss a tool often used to identify these capabilities and resources.
But, before proceeding further into the discussion of the different views in strategic management, our working definition of competitive advantage will be the ability of a firm to generate economic rents from its customers (Kay 1999). Kay (1999) defines economic rent as “what firms earn over and above the cost of the capital employed in their business”. Economic rent increases the shareholder value by ensuring its investment or acquisition is greater than the cost of capital yield. Kay (1999) argues that economic rents are the real measure of competitive advantage because a firm can only earn economic rents if it has distinctive competitive advantage in the market.
Early Foundation of Strategic Management
Hoskisson, et al. (1999) discussed the development of strategic management in the last two decades in his article Theory and Research in Strategic Management: Swings of a Pendulum. Hoskisson et al. (1999) identifies the research on business policy as a precursor on Strategic Management. Studies of Chandler’s Strategy and Structure, Ansoff’s Corporate Strategy, and Learned’s et al. Business Policy: Text and Cases were of particular importance in the early years of strategic management.
Chandler argues that corporate organizational structures are created and developed in line with the firm’s strategic goal to improve and to further grow. As firms sets out their vision and objectives of the future and strategic plan on how they are going to achieve these goals, firms also realign their people and ‘organizational design’ to support this aim. As the market environment change and the need for the firm to shift its market strategy, complementary new structures are built to allow the organization to adapt. (Hoskisson et al. 1999).
In Corporate Strategy, Ansoff described the many facets in which managers use to understand the market and offer a specific marketing proposition. His description of the process suggests of a “common thread” between the firm’s actions within the market and their product offerings. Ansoff identified four aspects of marketing strategy, which are as follows: (1) what is the product market scope, (2) how fast is the market growing (growth vector), (3) what are the unique benefits or features of the product or resources in the company that will allows us to successfully compete (competitive advantage), and (4) how can we create greater value for the products and markets (synergy). (Hoskisson et al. 1999).
Andrews and his colleagues discussed the different functions and responsibilities of general management in the context of goal setting and achieving these goals within the enterprise. Learned et al. first introduced the Chief Architect approach wherein it focuses on the Chief Executive Officer’s role in providing strategic vision and ensuring that the organization is in line to achieve these goals. Their study also introduces the concepts of strategy formulation and implementation. They note that while these two aspects are interrelated, they are practically separated aspects of strategy (Hoskisson et al. 1999).
The three researches of Chandler, Ansoff, and Learned et al. provided the foundation for the development of Strategic Management. All three has offered unique concepts and frameworks in understanding how strategies are formulated in relation to the organizational structure and the market which the firm is serving. Chandler’s main contribution has been the view that ‘structure follows strategy’ and strategy is framed in the context of the firm’s capabilities and the market opportunities; on the other hand, Ansoff’s main argument has been the manager’s role and responsibility in strategic goal setting and implementation. Learned et al. further elaborated Ansoff’s argument by highlighting process of top-down approach in strategic management. (Hoskisson et al. 1999).
In addition, researchers also took note the early study of Selznick’s Leadership in administration: A sociological interpretation. Selznick introduced the concept of “distinctive competence” and leadership in management studies. The research of Selznick highlights the focus of company’s on its internal strengths and managerial capabilities in evaluating its market position and strategic direction, which is of particular importance later in the development of the resource-based view on Strategy (Hoskisson et al. 1999).
Industrial Organization Economics
The industrial organization (IO) economics periods marked the influence of economics in strategic management and its research. This period adopted a more ‘scientific approach’ in analyzing how strategies are formulated within the company. It relied heavily on quantitative analysis to validate its postulates on strategy, and this technique in strategy research has moved away from the traditional inductive case analysis during the early foundations of strategic management. Researches were also based on popular frameworks such as Bain and Mason’s Structure-Conduct-Performance (S-C-P) paradigm and Hunt’s strategic groups (Hoskisson et al. 1999).
Micheal Porter in his article “The contribution of industrial organization to strategic management” summarized the central principle of the S-C-P paradigm as a firm’s performance is primarily a function of the industry environment in which it competes. Porter describes how an organization performs in the marketplace. The organizational structure developed determines the ways in which the firm will conduct themselves and meet the needs of the customers in the marketplace. Depending on how effectively the organization meets these needs, these actions will determine the performance of the firm. The market structure ultimately defines the conduct and performance of firms. The shift of research focus from the firm to market structure gave rise to the research on competitive dynamics (multipoint competition and competitive action-reaction) (Hoskisson et al. 1999).
In relation to Porter’s S-C-P paradigm, Hunt further extends the concept in introducing the concept of strategic groups. S-C-P paradigm mainly focuses on the interaction between a firm and its market environment, but strategic group further extends the concept in relating several firms working with the same strategy. Porter defines strategic group as a group of firms in the same industry following the same or similar strategies. Porter describes the market structure as no longer a homogeneous unit but a “structure within industries” can be seen (Hoskisson et al. 1999).
In a short period of time, the subject on strategic management has developed a rich literature of theories and frameworks to further describe and understand strategy in a management’s perspective. This rapid development can be attributed to the ability of strategy research to internalize and develop diverse theories. The main development in the Industrial Economics has been the contribution of Bain and Mason’s S-C-P paradigm and Hunt’s strategic groups. While the period has been heavily influenced on the dynamics of the competitive environment and economics, strategy researchers had been able to grow and synthesized it into new unique strategic frameworks for the field. (Hoskisson et al. 1999).
Organizational Economics looks deeper into the organization to unravel its inner structural logic and functioning in the market. Williamson’s Transaction Costs Economics (TCE) and Fama and Jensen & Meckling’s Agency theory were two branches of organizational economics which generated significant interest during this period. These two frameworks moved away the research of strategic management from the emphasis at industry level toward a firm level of analysis (Hoskisson et al. 1999).
Coase’s The Nature of the Firm provided the groundwork for the development of Transaction Costs Economics and Agency theory. The Transaction Costs Economics theory argues that doing business between two organizations can at times result to greater costs than managing the exchange within the firm. It can be more succinctly described as the firm’s decision whether to make the product in house or outsource. Williamson extended this concept to explain the existence of the firm and the formulation of TCE. The TCE theory argues that the interaction between organizations in a marketplace result in self-governing market system for completing transactions. According to Williamson, “TCE assumes that in every transaction is governed by human behavior and attributes of transaction, which could be characterized as: (1) bounded-rationality, and (2) opportunism, uncertainty, small numbers, and asset specificity”. Williamson argues that this is the reason organizations exists – i.e. some organizations may have an expertise which the another needs and lacks or some organization can produce the product at a lower cost (Hoskisson et al. 1999).
Agency theory, on the other hand, highlights the conflict and divergence of interests between shareholders and managers. The conflict arises from the assumption that human beings are boundedly rational, self-interested, and opportunistic, therefore, managers will seek to maximize their own interests even at the expense of the shareholders (Hoskisson et al. 1999).
Resource-Base View on Strategy
Kay’s argument is on the developing sustainable competitive advantage is based on Birger Wernerfelt’s Resource-Based View on strategy. Published in 1994, Birger Wernerfelt’s theory was chosen to be the best article published in the Strategic Management Journal. Zajac argues that the emergence of resource-base view is “an important new conceptualization in the field of strategic management” and is “one of the most important redirections of the (content of) strategy research in this decade.” Following Birger’s theory on resource-based view, the framework seeks to explain the uniqueness of each firm and how a firm can attain sustainable competitive advantage. In addition, it seeks to find the unique factors and irreproducible resource in which firm’s are able to build a competitive advantage over its competitors. (Hoskisson et al. 1999; Hooley et al. 2001).
The founding idea of RBV is identified with Penrose’s theory on the growth of the firm. Penrose described a firm as a collection of productive resources. Penrose’s arguments focuses on the distinctive, inimitable, and irreprocible resources and/or capabilities that are important to the customers. These distinctive resources give a firm its competitive advantage over its competitors. The theory contends that each firm has a unique character in the marketplace because of their diverse resources and capabilities. Therefore, it is the competing firm’s heterogeneity gives rise to the linkage between the firm’s resources and capabilities and its overall performance (Kor & Mahoney 2004; Hoskisson et al. 1999).
The resource-based theory can be best described in the figure below of Hooley & Broderick (1998). Hooley & Broderick (1998) categorizes the resources of a company into 2 types: Assets and Capabilities. Tangible assets are physical resources that a company has accumulated and built over time; Intangible assets are valuable knowledge base or a brand name. Both assets are freely available for the disposal of the firm to create competitive advantage. A firm’s resources are defined as tangible and intangible assets which are tied semi-permanently to the firm, and resource-based view identifies these assets or capabilities into strengths and weaknesses relative to market opportunity and threats (Day 1994).
Organizational capabilities, on the other hand, refer “to the abilities of an enterprise to organize, manage, coordinate, or undertake specific set of activities (Hooley & Broderick 1998). Wernerfelt argues that the distinctive resources give the firm its competitive advantage and evaluating firms in terms of their resource can lead to insights that differ from the traditional perspective (Hooley & Broderick 1998; Hoskisson et al. 1999). Resource-based view looks at strategy formulation from “inside-out” which differs from traditional perspective of analyzing the market environment then aligning the firm’s strategy (Day 1994).
Figure 1. Classification of resources. (Adapted from Hooley & Broderick. Competitive positioning and the resource-based view of the firm. Journal of Strategic Marketing 6: 97-115.)
While the resource-based view provides new insights on a company’s capabilities, focusing solely on the firm’s strengths and capabilities may result to poor strategic positioning. Furthermore, Hooley & Broderisk (1998) criticizes that focusing too much on such view may “run the risk of myopia in rapidly changing, turbulent environments.” Therefore, it is important for managers to understand and have a balanced view of both the firm’s internal capabilities and market orientation (Hooley & Broderick 1998).
Sources of Competitive Advantage
Extending on Wernerfelt’s study, other researchers attempted to explain more specifically how differences in firms’ resources realized superior firm performance. Based on the assumption of resource heterogeneity, Rumelt in his article Toward a strategic theory of the firm argues and explains the time factor and the subsequent conduct of a firm to address the market needs leads to the differentiated resources each firm has. For example, ABB’s pioneering role in the electricity market in Saudi Arabia cannot be replicated by competitors and the time elapse before the entry of new competitors gives ABB its competitive advantage because of its experience in the industry and its established customer relationship with power producers.
Barney further extends the theory offering the insight that not all resources are valuable in the market place. It is the important resource or capabilities of the firms that allows it to serve the market needs. It is by serving market needs exceptionally well or better than competitors that give a firm its competitive advantage. Adding to Barney’s theory on conduct of a firm, Dierickx and Cool also introduces the concept of “asset stock” accumulation that allows a firm to meet the market needs. They explained that asset stocks are built over time and gives the firm its competitive advantage. However, the economic rent of asset stocks are dependent on the “substitutability by equivalent assets and amount of time before a firm is able to imitate the strategic resources. (Hoskisson et al. 1999).
In understanding the sources of competitive advantage, Hooley & Broderick (1998) introduced two fundamental approach in creating sustainable competitive advantage based from Micheal Porter’s Competitive Advantage. Micheal Porter suggests that companies undertake two roads towards establishing itself as a market leader. First, a company can position itself as a cost leader or differentiate itself from competitors through superior technology or recognized brand name. The former strategy requires that a company to operate more efficiently, thereby lowering its operational cost relative to its competitors. The later strategy requires that a company identify a resource that add value for the customer and modify the product or service in a way that will entice the customer to buy (Hooley & Broderick 1998).
Hooley & Broderick (1998) further elaborated Porter’s discussion by suggesting five ways a firm can position itself in the market: (1) price, (2) quality, (3) innovation, (4) service, and (5) benefit. A firm generally can position itself as a low-cost provider if it has the operational excellence to offer the lower price while still generating substantial profits. Some customers may have demanding requirements that it requires a specialized capabilities to meet its specific quality needs.
As such, a firm can position itself as a premium provider if it has the technological expertise and internal controls to offer the superior quality of products. In some industries such as the electronics, rapid technological change occurs in the market environment that firms not only need the superior technology but have the innovative capabilities adapt. In such environment, products and technologies are frequently replaced by a new and better technologies to meet the market needs. In service and hospitality industries, close customer relationship has been the differentiating factor, while a number of firms will focus on specific market segment and position itself based on the needs of the target market segment (Hooley & Broderick 1998).
Luo, Sivakumar, & Liu (2005) offered a different perspective in creating sustainable competitive advantage. Luo, Sivakumar, & Liu (2005) highlights Barney’s definition of competitive advantage as “resources that are valuable, rare, and difficult to imitate”. Following this definition, Luo, Sivakumar, & Liu (2005) argues that the implicit knowledge assets are likely to create competitive advantage over tangible assets, which are easily replicable or acquired. More importantly, it is the knowledge assets of the firm that allows it to become innovative and differentiate itself from competitors. This can be a distinctive source of sustainable competitive advantage in a rapidly changing market environment. (Luo, Sivakumar, & Liu 2005).
Thus, Hunt and Morgan (1996) recommends a resource-based model as a way to investigate competency and superior firm performance through a more intimate integration of organizational theory, marketing and economics. Furthermore, through organizational learning, strategic resources improve a firm’s performance over time. If a firm mobilizes unique and immobile resources to create sustainable competitive advantage, then a firm can enjoy generating greater economic rents than competitors in the industry. In addition, the resource-based theory asserts that distinctive competencies of a firm can ultimately result to superior outcomes and performance (Hunt and Morgan 2005).
Kay (1999) also defined the three primary sources of sustainable competitive advantage as: (1) the market’s barriers to entry; (2) a unique firm history and experience which has transformed the firm and industry; (3) the tacitness of relationship with customers or suppliers.
To illustrate the explanation of Kay on sources of sustainable competitive advantage, the researchers looked at ABB Saudi Arabia sources of competitive advantage.
ABB Saudi Arabia: Analysis of Distinctive Resources of the electrical industry in Saudi Arabia
The history of electricity in Saudi Arabia is the history of Asea – a company founded in 1883 – and of Brown-Boveri, founded in 1891. Oil production was beginning to surge in 1951 and Brown-Boveri entered the Saudi Arabian electricity market by supplying three gas turbines to the Arabian-American Oil Company (now Saudi Aramco). Brown-Boveri’s permanent presence in Saudi Arabia was established in the 1970s with the incorporation of a domestic joint venture there.
The growing need for electrical equipment in Saudi Arabia made it natural to establish a locally based manufacturer with full access to international technology and experience. Asea and Brown-Boveri were in a very good position to meet local needs with their well-developed range of products and their joint manufacturing venture, known as Saudi Arabia ABB (SAARA), was established in 1987. SAARA’s business in Saudi Arabia has since grown to include power and automation technology for utilities, consumers and other industries both domestically and regionally. This phenomenal growth was achieved by establishing several manufacturing companies to provide a range of contracting, servicing and trading businesses (online ABB).
A pioneer and a market leader in the electrical industry, ABB has been able to grow the business significantly in the last 10 years. ABB business model proved to be a success and its success story had been much followed by investors and market followers.
SWOT Analysis on ABB Saudi Arabia
|– Strong brand recognition
– Strong financial position with significant cash reserves for expansion
– High standard quality
– Global agreements with raw material suppliers by ABB Switzerland, which leads to a cost reduction of raw material cost .Therefore, other ABB companies worldwide will have a better chance in price ereduction .
– The ability of designing and producing the product as per customer request(Tailoring)
|– Organization culture can not cop with the modern westrin industrial culture in ABB Eourp due to employees culturer background and trends at that geographical location
– Lack of local raw material suppliers ,e.g.,copper
|– Due to the dramatice increase of oil prices after Iraqe war 2003,the business in Saudi Arabia is booming.The Saudi government allocated a huge budget to the electrice sector for the coming 3years.
– Expand the service to reach all GCC countries which are also effected with oil prices
|– GATT agreement which will increase competition in the Saudi market
– The invasion of chinese products to the Saudi market with reasonable performance and low prices .
Source: ABB Saudi Arabia website. [Online] Available: http://inside.abb.sa/Global/GAD/GAD01109.nsf?OpenDatabase
ABB’s core competence can be attributed to its strong technological competence and its strong partnership with its customers in the power industry. The strong partnership ties assist ABB Saudi Arabia in providing the use electrical power effectively and to increase industrial productivity in a sustainable way. In addition, its strong technological competence allows ABB Saudi Arabai to offer innovative and technological advanced products to serve the needs of its customers.
Moreover, being the first in the electrical industry inside Saudi Arabia, ABB has established itself as the market leader. More importantly, many contractors in the electrical industry have grown to trust ABB to provide safe and durable products.
Summary of Different Theories and Competitive Advantage
While all three theoretical perspectives have significantly advanced our understanding of the sources of competitive advantages and hence firm performance, the sustainability of firms’ competitive advantages has increasingly become an important question, because the new competitive landscape forces firms to continue to evaluate the sustainability of their positions.
We looked at the different periods in the development of strategic management. Each builds on prior research and offers new fresh insight on the existing literature. Hoskisson et al. (1999) suggests that the trend of the development of strategic research has been similar to the movement of a pendulum. Early research of strategic management describes the firm’s organizational structure to follow strategy to meet market needs. Early research focuses on how a firm adapts its organizational structure and decisions to cater the market needs. The industrial organization economics shifted the research methodology to provide greater quantitative analysis on the sources of competitive advantage.
From an IO economics perspective, mobility barriers or market positions are the critical sources of competitive advantages that lead to superior performance. Later on, organizational economics is more concerned with devising appropriate “governance mechanisms or contracts” to help reduce transaction or agency costs. It looks to understand and improve the efficiency within the firm’s value chain by creating strategic alliances with its suppliers and building relationships with its customers. It is in managing the transaction costs within the value chain can a firm offer superior products and service and improve the overall profitability of the firm. Recently, the advancement of Resource-based View has refocused the field of strategic management on the firm’s internal characteristics and views firms’ internal resources as the source of competitive advantage (Hoskisson et al. 1999).
Resource-based view has its rooted on Penrose’s arguments on that unique, difficult to imitate and irreplicable resources and capabilities are the sources of sustainable competitive advantage. Birger Wernerfelt organized Penrose’s arguments into a strategic framework to explain the unique characteristics of each firm in the market, the distinguishing capabilities that firms over its competitors, and the relationship of these assets to the overall performance of the firm. Resource-based view on strategy had been an important landmark in the strategic management that several researches built on this framework to provide new insights and further its value.
Rumelt further elaborated Wernerfelt’s assertion of the firm’s uniqueness by arguing the time and conduct as the determining factors of firms heterogeneity in the market. Barney’s contribution to this view has been his assertion that while a firm may have a number of resources at its disposal, it is still the market who ultimately determines the value of such resources. It is the firm’s capability to serve the market needs exceptionally well or better than competitors that gives a firm its competitive advantage. Dierickx and Cool adds to Barney’s argument that sustainable competitive advantage can only be determined by the substitutability of equivalent assets and the amount of time before a competitor can imitate this capability.
Lastly, we discussed the common approach of firms in creating sustainable competitive advantage. Based on Micheal Porter’s discussion on Competitive Advantage, a firm may position itself as a cost leader or through market differentiation. Cost leadership is determined by the firm’s operational efficiency and the capability to offer the same benefits to customers at a lower cost. Market differentiation can be attributed to the firm’s technological expertise and brand name. Differentiation can be achieve in a number of ways and determined by the firm’s ability to produce superior quality, offer innovative products and services, build close customer relationship and offer a superior benefit for a target market segment (Hooley & Broderick 1998).
In summary, resource-based view provides a unique perspective to the core competencies of a firm in the market. It provides a framework in taking advantage the market opportunities that allows the firm to better chances of success in the market (Hunt and Morgan 1996).
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