3 Internal Analysis: Distinctive Competencies, Competitive Advantage, and Profitability

Internal Analysis Identifying the strengths and weaknesses of the company Managers must understand The role of resources, capabilities, and distinctive competencies in the process by which companies create value and profit The importance of superior efficiency, innovation, quality, and responsiveness to customers The sources of their company’s competitive advantage (strengths and weaknesses) Copyright © Houghton Mifflin Company. All rights reserved.

Competitive Advantage A firm’s profitability is greater than the average profitability for all firms in its industry Sustained competitive advantage A firm maintains competitive advantage for a number of years Copyright © Houghton Mifflin Company. All rights reserved.

Profitability in the U.S. Retailing Industry, 1996-2001 Copyright © Houghton Mifflin Company. All rights reserved.

Distinctive Competences and Competitive Advantage Distinctive competencies Firm-specific strengths that allow a company to gain competitive advantage by differentiating its products and/or achieving lower costs than its rivals Arise from resources and capabilities Copyright © Houghton Mifflin Company. All rights reserved.

The Role of Resources Resources Capital or financial, physical, social or human, technological, and organizational factor endowments Tangible and intangible A firm-specific and difficult to imitate resource is likely to lead to distinctive competency A valuable resource that creates strong demand for a firm’s products may lead to distinctive competency Copyright © Houghton Mifflin Company. All rights reserved.

The Role of Capabilities A company’s skills at coordinating and using its resources Capabilities are the product of organizational structure, processes, and control systems Copyright © Houghton Mifflin Company. All rights reserved.

Strategy, Resources, Capabilities, and Competencies Copyright © Houghton Mifflin Company. All rights reserved.

A Critical Distinction If a firm has firm-specific and valuable resources it must also have the capability to use them effectively to create distinctive competency A firm can create distinctive competency without firm-specific and valuable resources if it has unique capabilities Copyright © Houghton Mifflin Company. All rights reserved.

Competitive Advantage, Value Creation, and Profitability Profitability factors Amount of value customers place on the company’s products Price charged Costs of creating the value Copyright © Houghton Mifflin Company. All rights reserved.

Value Creation per Unit Copyright © Houghton Mifflin Company. All rights reserved.

Value Creation and Pricing Options Copyright © Houghton Mifflin Company. All rights reserved.

Comparing Toyota and General Motors Copyright © Houghton Mifflin Company. All rights reserved.

Differentiation and Cost Structure: Roots of Competitive Advantage Copyright © Houghton Mifflin Company. All rights reserved.

The Value Chain A company is a chain of activities for transforming inputs into outputs that customers value The transformation process is composed of primary and support activities that add value to the product Copyright © Houghton Mifflin Company. All rights reserved.

The Value Chain: Primary and Support Activities Copyright © Houghton Mifflin Company. All rights reserved.

The Generic Building Blocks of Competitive Advantage Copyright © Houghton Mifflin Company. All rights reserved.

Efficiency The quantity of inputs it takes to produce a given output Productivity leads to greater efficiency and lower costs Employee productivity Capital productivity Copyright © Houghton Mifflin Company. All rights reserved.

Quality Superior quality = customer perception of greater value in a specific product’s attributes Form, features, performance, durability, reliability, style, design Quality products = goods and services that are reliable and that are differentiated by attributes that customers perceive to have higher value Copyright © Houghton Mifflin Company. All rights reserved.

Quality (cont’d) The impact of quality on competitive advantage High-quality products increase the value of (differentiate) the products in customers’ eyes Greater efficiency and lower unit costs are associated with reliable products Copyright © Houghton Mifflin Company. All rights reserved.

A Quality Map for Automobiles Copyright © Houghton Mifflin Company. All rights reserved.

Innovation The act of creating new products or processes Product innovation Creates products that customers perceive as more valuable, increasing the company’s pricing options Process innovation Creates value by lowering production costs Perhaps the most important building block of competitive advantage Copyright © Houghton Mifflin Company. All rights reserved.

Responsiveness to Customers Doing a better job than competitors of identifying and satisfying customers’ needs Superior quality and innovation are integral to superior responsiveness to customers Customizing goods and services to the unique demands of individual customers or customer groups Copyright © Houghton Mifflin Company. All rights reserved.

Responsiveness to Customers (cont’d) Sources of enhanced customer responsiveness Customer response time, design, service, after-sales service and support Differentiates a company/its products; leads to brand loyalty and premium pricing Copyright © Houghton Mifflin Company. All rights reserved.

The Durability of Competitive Advantage Barriers to Imitation Imitating Resources Imitating Capabilities Capability of Competitors Strategic commitment Absorptive capacity Industry Dynamism Copyright © Houghton Mifflin Company. All rights reserved.

Why Companies Fail Inertia Prior strategic commitments Companies find it difficult to change their strategies and structures Prior strategic commitments Limit a company’s ability to imitate and cause competitive disadvantage The Icarus paradox A company can become so specialized based on past success that it loses sight of market realities Craftsmen, builders, pioneers, salesmen Copyright © Houghton Mifflin Company. All rights reserved.

Avoiding Failure and Sustaining Competitive Advantage Focus on the building blocks of competitive advantage Institute continuous improvement in learning Track best industrial practice in use benchmarking Overcome inertia Luck Copyright © Houghton Mifflin Company. All rights reserved.

Analyzing Competitive Advantage and Profitability Benchmarking company performance against that of competitors and the company’s own historic performance Return on invested capital Net profit = Total revenues – Total costs Copyright © Houghton Mifflin Company. All rights reserved.

Definitions of Basic Accounting Terms Copyright © Houghton Mifflin Company. All rights reserved.

Drivers of Profitability (ROIC) Copyright © Houghton Mifflin Company. All rights reserved.

Ways to Increase ROIC Increase the company’s return on sales Reduce cost of goods sold Reduce spending on sales force, marketing, general, and administrative expenses Reduce R&D spending Increase sales revenue more than costs Increase sales revenues from invested capital Reduce the amount of working capital Reduce amount of fixed capital Copyright © Houghton Mifflin Company. All rights reserved.