1. Assessing the Internal Environment of the Firm
Chapter 3
Assessing the Internal Environment of the Firm

2. Agenda Process of internal analysis
The primary and support activities of a firm’s value chain.
The resource-based view of the firm
VRIS
Financial ratio analysis
Balanced Scorecard

3. Learning Objectives
After reading this chapter, you should have a good understanding of:
The value of recognizing how the interests of a variety of stakeholders can be interrelated.

4. Competitive Advantage Components of Internal Analysis
Capabilities
Teams of
Resources
The Source of
The Source of
Sources of
Competitive Advantage
Core
Competencies
Resources *
Tangible
Intangible
Components of Internal Analysis
Above-Average
Returns
Strategic
Competitiveness
Gained through
Core Competencies
Sustained
Competitive
Advantage
The Foundation of
The Pathway to

5. Components of Internal Analysis
Resources *
Tangible
Intangible
Components of Internal Analysis

6. What a firm Has...
Resources
What a firm has to work with:
its assets, including its people and the value of its brand name

7. Resources represent inputs into a firm’s production process...
What a firm Has...
Resources
What a firm has to work with:
its assets, including its people and the value of its brand name
Resources represent inputs into a firm’s production process...
such as capital equipment, skills of employees, brand names, finances and talented managers

8. What a firm Has... Resources
What a firm has to work with:
its assets, including its people and the value of its brand name
Resources represent inputs into a firm’s production process...
such as capital equipment, skills of employees, brand names, finances and talented managers
“Some genius invented the Oreo. We’re just living off the inheritance.”
F. Ross Johnson,
Former President & CEO,
RJR Nabisco

9. What a firm Has... Resources Resources What a firm has to work with:
Tangible Resources
Financial *
Physical
Human Resources
Organizational
its assets, including its people and the value of its brand name
Resources represent inputs into a firm’s production process...
such as capital equipment, skills of employees, brand names, finances and talented managers
“Some genius invented the Oreo. We’re just living off the inheritance.”
F. Ross Johnson,
Former President & CEO, RJR Nabisco

10. What a firm Has... Resources Resources What a firm has to work with:
Tangible Resources
Financial *
Physical
Human Resources
Organizational
its assets, including its people and the value of its brand name
Resources represent inputs into a firm’s production process...
such as capital equipment, skills of employees, brand names, finances and talented managers
Intangible Resources
Technological *
Innovation
Brand Names
Corporate Culture
“Some genius invented the Oreo. We’re just living off the inheritance.”
F. Ross Johnson,
Former President & CEO, RJR Nabisco

11. Components of Internal Analysis
Resources *
Tangible
Intangible
Components of Internal Analysis

12. Components of Internal Analysis
Capabilities
Teams of
Resources
The Source of
Resources *
Tangible
Intangible
Components of Internal Analysis

13. Capabilities What a firm Does... Capabilities represent:
the firm’s capacity or ability to integrate individual firm resources to achieve a desired objective.

14. Capabilities What a firm Does...
Capabilities represent:
the firm’s capacity or ability to integrate individual firm resources to achieve a desired objective.
Capabilities develop over time as a result of complex interactions that take advantage of the interrelationships between a firm’s tangible and intangible resources that are based on the development, transmission and exchange or sharing of information and knowledge as carried out by the firm's employees.

15. Capabilities What a firm Does...
Capabilities represent:
the firm’s capacity or ability to integrate individual firm resources to achieve a desired objective.
Capabilities develop over time as a result of complex interactions that take advantage of the interrelationships between a firm’s tangible and intangible resources that are based on the development, transmission and exchange or sharing of information and knowledge as carried out by the firm's employees.
Capabilities become important when they are combined in unique combinations which create core competencies which have strategic value and can lead to competitive advantage.

16. The Value Chain General administration Human resource management
Technology development
Procurement
Inbound logistics
Outbound logistics
Marketing and sales
Operations
Service
Adapted from Exhibit 3.1 The Value Chain: Primary and Support Activities
Source: Adapted with permission of The Free Press, a division of Simon & Schuster, Inc., from Competitive Advantage: Creating and Sustaining Superior Performance by Michael E. Porter.

17. Primary Activities
Inbound Logistics
Associated with receiving, storing and distributing inputs to the product
Location of distribution facilities
Material and inventory control systems
Systems to reduce time to send “returns” to suppliers
Warehouse layout and designs
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities

18. Primary Activities
Inbound Logistics
Associated with transforming inputs into the final product form
Efficient plant operations
Appropriate level of automation in manufacturing
Quality production control systems
Efficient plant layout and workflow design
Operations
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities

19. Primary Activities
Inbound Logistics
Associated with collecting, storing, and distributing the product or service to buyers
Effective shipping processes
Efficient finished goods warehousing processes
Shipping of goods in large lot sizes
Quality material handling equipment
Operations
Outbound Logistics
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities

20. Primary Activities
Inbound Logistics
Associated with purchases of products and services by end users and the inducements used to get them to make purchases
Highly motivated and competent sales force
Innovative approaches to promotion and advertising
Selection of most appropriate distribution channels
Proper identification of customer segments and needs
Effective pricing strategies
Operations
Outbound Logistics
Marketing and Sales
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities

21. Primary Activities
Inbound Logistics
Associated with providing service to enhance or maintain the value of the product
Effective use of procedures to solicit customer feedback and to act on information
Quick response to customer needs and emergencies
Ability to furnish replacement parts
Effective management of parts and equipment inventory
Quality of service personnel and ongoing training
Warranty and guarantee policies
Operations
Outbound Logistics
Marketing and Sales
Service
Adapted from Exhibit 3.2 The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities

22. General Administration
Support Activities
General Administration
Typically supports the entire value chain and not individual activities
Effective planning systems
Ability of top management to anticipate and act on key environmental trends and events
Ability to obtain low-cost funds for capital expenditures and working capital
Excellent relationships with diverse stakeholder groups
Ability to coordinate and integrate activities across the value chain
Highly visible to inculcate organizational culture, reputation, and values
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities

23. General Administration
Support Activities
General Administration
Activities involved in the recruiting, hiring, training, development, and compensation of all types of personnel
Effective recruiting, development, and retention mechanisms for employees
Quality relations with trade unions
Quality work environment to maximize overall employee performance and minimize absenteeisn
Reward and incentive programs to motivate all employees
Human Resource
Management
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities

24. General Administration Technology Development
Support Activities
General Administration
Related to a wide range of activities and those embodied in processes and equipment and the product itself
Effective R&D activities for process and product initiatives
Positive collaborative relationships between R&D and other departments
State-of-the art facilities and equipment
Culture to enhance creativity and innovation
Excellent professional qualifications of personnel
Ability to meet critical deadlines
Human Resource
Management
Technology Development
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities

25. General Administration Technology Development
Support Activities
General Administration
Function of purchasing inputs used in the firm’s value chain
Procurement of raw material inputs
Development of collaborative “win-win” relationships with suppliers
Effective procedures to purchase advertising and media services
Analysis and selection of alternate sources of inputs to minimize dependence on one supplier
Ability to make proper lease versus buy decisions
Human Resource
Management
Technology Development
Procurement
Adapted from Exhibit 3.3 The Value Chain: Some Factors to Consider in Assessing a Firm’s Support Activities

26. The Value Chain General administration Human resource management
Technology development
Procurement
Inbound logistics
Outbound logistics
Marketing and sales
Operations
Service
Adapted from Exhibit 3.1 The Value Chain: Primary and Support Activities
Source: Adapted with permission of The Free Press, a division of Simon & Schuster, Inc., from Competitive Advantage: Creating and Sustaining Superior Performance by Michael E. Porter.

27. Importance of relationships among value activities
Interrelationships among Value-Chain Activities within and across Organizations
Importance of relationships among value activities
Interrelationships among activities within the firm
Relationships among activities within the firm and with other organizations (e.g., customers and suppliers)

28. Resource-Based View of the Firm
Two perspectives
The internal analysis of phenomena within a company
An external analysis of the industry and its competitive environment
Three key types of resources
Tangible resources
Intangible resources
Organizational capabilities

29. Types of Resources
Tangible Resources
Relatively easy to identify, and include physical and financial assets used to create value for customers
Financial resources
Firm’s cash accounts
Firm’s capacity to raise equity
Firm’s borrowing capacity
Physical resources
Modern plant and facilities
Favorable manufacturing locations
State-of-the-art machinery and equipment
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities

30. Types of Resources
Tangible Resources
Relatively easy to identify, and include physical and financial assets used to create value for customers
Technological resources
Trade secrets
Innovative production processes
Patents, copyrights, trademarks
Organizational resources
Effective strategic planning processes
Excellent evaluation and control systems
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities

31. Types of Resources
Tangible Resources
Difficult for competitors (and the firm itself) to account for or imitate, typically embedded in unique routines and practices that have evolved over time
Human
Experience and capabilities of employees
Trust
Managerial skills
Firm-specific practices and procedures
Intangible Resources
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities

32. Types of Resources
Tangible Resources
Difficult for competitors (and the firm itself) to account for or imitate, typically embedded in unique routines and practices that have evolved over time
Intangible Resources
Innovation and creativity
Technical and scientific skills
Innovation capacities
Reputation
Effective strategic planning processes
Excellent evaluation and control systems
Adapted from Exhibit 3.4 The Resource-Based View of the Firm: Resources and Capabilities

33. Organizational Capabilities
Types of Resources
Tangible Resources
Competencies or skills that a firm employs to transform inputs to outputs, and capacity to combine tangible and intangible resources to attain desired end
Outstanding customer service
Excellent product development capabilities
Innovativeness of products and services
Ability to hire, motivate, and retain human capital
Intangible Resources
Organizational Capabilities

34. How Resources and Capabilities Lead to Advantages
Adapted from Exhibit 3.5 Marks & Spencer: How Resources and Capabilities Lead to Advantages
Source: Adapted with permission of Harvard Business Review: Exhibit from “Competing on Resources: Strategy in the 1990’s” by D. J. Collis and C. Montgomery, 73, no. 4 (1995).

35. Firm Resources and Sustainable Competitive Advantages
Is the resource or capability…
Valuable
Rare
Difficult to imitate
Difficult to substitute
Implications
Neutralize threats and exploit opportunities
Not many firms possess
Physically unique
Path dependency
Causal ambiguity
Social complexity
No equivalent strategic resources or capabilities

36. Is the Resource Valuable?
Organizational resources can be a source of competitive advantage only when they are valuable
Enable a firm to formulate and implement strategies that improve its efficiency or effectiveness

37. Is the Resource Rare?
Organizational resources also possessed by competitors are not sources of competitive advantage
Common strategies based on similar resources give no one firm an advantage
Competitive advantages are gained only from uncommon resources, resources that are rare to other competitors

38. Can the Resource be Imitated?
Difficulty in imitating resources is key to value creation because it constrains competition
Profits generated from inimitable resources are more likely to be sustainable
Physical uniqueness
Path dependency
Causal ambiguity
Social complexity

39. Are Substitutes Readily Available?
There must be no strategically equivalent valuable resources that are themselves not rare or inimitable
Substitutability may take at least two forms
Competitor may be able to substitute a similar resource that enables it to develop and implement the same strategy
Very different firm resources can become strategic substitutes (such as e-business as a substitute for physical retail facility)

40. Is a resource or capability…
Criteria for Sustainable Competitive Advantage and Strategic Implications
Is a resource or capability…
Valuable Rare Difficult Without Implications
to Imitate Substance for Competitiveness
No No No No Competitive disadvantage
Yes No No No Competitive parity
Yes Yes No No Temporary competitive
advantage
Yes Yes Yes Yes Sustainable competitive
advantage
Exhibit 3.7 Criteria for Sustainable Competitive Advantage and Strategic Implications
Source; Adapted from J. Barney, “Firm Resources a Sustained Competitive Advantage, ‘ Journal of Management 17 (1991), pp

41. Core Competencies--Cautions and Reminders

42. Core Competencies--Cautions and Reminders
It should never be taken for granted that core competencies will continue to provide a source of competitive advantage

43. Core Competencies--Cautions and Reminders
It should never be taken for granted that core competencies will continue to provide a source of competitive advantage
All core competencies have the potential to become
Core Rigidities

44. Core Competencies--Cautions and Reminders
It should never be taken for granted that core competencies will continue to provide a source of competitive advantage
All core competencies have the potential to become
Core Rigidities
Core Rigidities are former core competencies that sow the seeds of organizational inertia and prevent the firm from responding appropriately to changes in the external environment

45. Evaluating Firm Performance
Two approaches for evaluating firm performance
Financial ratio analysis
Balance sheet
Income statement
Balanced scorecard (stakeholder perspective)
Employees
Customers
Owners

46. Financial Ratio Analysis
Five types of financial ratios
Short-term solvency or liquidity
Long-term solvency measures
Asset management (or turnover)
Profitability
Market value
Meaningful ratio analysis must include
Analysis of how ratios change over time
How ratios are interrelated

47. Financial Ratio Analysis: Historical Comparisons
Exhibit 3.8 Historical Trends: Return on Sales (ROS) for a Hypothetical Company

48. Financial Ratio Analysis: Comparison with Industry Norms
Grocery Skilled-Nursing
Financial Ratio Semiconductors Store Facilities
Quick Ratio (times)
Current ratio (times)
Total liabilities to net worth (%)
Collection period (days)
Assets to sales (%)
Return on sales (%)
Exhibit 3.9 How Financial Ratios Differ across Industries
Source: Dun & Bradstreet, Industry Norms and Key Business Ratios, , Desktop Edition, SIC #

49. Financial Ratio Analysis: Comparison with Key Competitors
Sales* R&D budget
Company (or division ($ billions) ($ billions)
P&G Drug Division $ 0.8 $ 0.38
Bristol-Myers Squibb
Pfizer
Merck
*Most recently completed fiscal year. Data: Lehman Brothers, Procter & Gamble Co.
Exhibit 3.10 Comparison of Procter & Gamble’s and Key Competitors’ Drug Revenues and R&D Expenditures
Source: R. Berner, “Procter & Gamble: Just Say No to Drugs,” Business Week, October 9, 2000, p. 128; data courtesy of Lehman Brothers and Procter & Gamble.

50. The Balanced Scorecard
Provides a meaningful integration of many issues that come into evaluating a firm’s performance
Four key perspectives
How do customers see us? (customer perspective)
What must we excel at? (internal perspective)
Can we continue to improve and create value? (innovation and learning perspective)
How do we look to shareholders? (financial perspective)

51. The Balanced Scorecard
Customer Perspective
Time
Quality
Performance and service
Cost

52. The Balanced Scorecard
Customer Perspective
Processes
Cycle time
Quality
Employee skills
productivity
Decisions
Actions
Coordination
Resources and capabilities
Internal Business
Perspective

53. The Balanced Scorecard
Customer Perspective
Introduction of new products and services
Greater value for customers
Increased operating efficiencies
Internal Business
Perspective
Innovation and
Learning Perspective

54. The Balanced Scorecard
Customer Perspective
Profitability
Growth
Shareholder value
Increased market share
Reduced operating expenses
Higher asset turnover
Internal Business
Perspective
Innovation and
Learning Perspective
Financial Perspective