Chapter Three Assessing the Internal Environment of the Firm

Chapter Three

Assessing the Internal Environment of the Firm

CHAPTER 3McGraw-Hill/Irwin Copyright © 2003 by The McGraw-Hill Companies, Inc. All rights

reserved.

STRATEGIC MANAGEMENT Gregory G. Dess and G. T. Lumpkin

After studying this chapter, you should have a good understanding of:

• The benefits and limitations of SWOT analysis in conducting an internal analysis of the firm.

• The primary and support activities of a firm's value chain.

• How value-chain analysis can help managers create value by investigating relationships among activities within the firm and among the firm and its customers and suppliers.

• The different types of tangible and intangible resources, as well as organizational capabilities.

• The four criteria that a firm's resources must possess to maintain a sustainable advantage.

• The usefulness of financial ratio analysis as well as its inherent limitations.

• How to make meaningful comparisons of performance across firms.

• The value of recognizing how the interests of a variety of stakeholders can be interrelated.

Learning Objectives

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The Value Chain: Primary and Support Activities

The Value Chain

General administrationHuman resource management

Technology development

Procurement

Inboundlogistics

Operations Outboundlogistics

Marketing and sales

Service

Margin

Mar

gin

Su

pp

ort

Act

ivit

ies

Primary Activities

Source: Adapted with the permission of The Free Press, a division of Simon & Schuster, Inc., from Competitive Advantage: Creating and Sustaining Superior Performance by Michael E. Porter. Copyright © 1998 by Michael E. Porter.

Exhibit 3.1TRANSPARENCY-21


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The Value Chain: Some Factors to Consider in Assessing a Firm’s Primary Activities

Source: Adapted with permission of The Free Press, a division of Simon & Schuster, from Competitive Advantage: Creating and Sustaining Superior Performance by Michael E. Porter. Copyright © 1985, 1998 by Michael E. Porter.

• Location of distribution facilities to minimize shipping times

• Excellent material and inventory control systems

• Systems to reduce time to send “returns” to suppliers

• Warehouse layout and designs to increase efficiency of operations for incoming materials

• Efficient plant operations to minimize costs

• Appropriate level of automation in manufacturing

• Quality production control systems to reduce costs and enhance quality

• Efficient plant layout and workflow design

• Effective shipping processes to provide quick delivery and minimize damages

• Efficient finished goods warehousing processes

• Shipping of goods in large lot sizes to minimize transportation costs

• Quality material handling equipment to increase order picking

• 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

•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 as required

•Effective management of parts and equipment inventory

•Quality of service personnel and ongoing training

•Appropriate warranty and guarantee policies

Inbound Logistics

Operations Outbound Logistics

Marketing and Sales

Service

PR

OF

IT M

AR

GIN



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The Value Chain: Some Factors to Consider in Assessing Firm’s 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. Copyright © 1985, 1998 by Michael E. Porter.

Exhibit 3.3

• Effective planning systems to attain overall goals and objectives

• 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 system”

• Highly visible to inculcate organizational culture, reputation, and values

• Effective recruiting, development, and retention mechanisms for employees

• Quality relations with trade unions

• Quality work environment to maximize overall employee performance and minimize absenteeism

• Reward and incentive programs to motivate all employees

• Effective research and development 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

• Procurement of raw material inputs to optimize quality, speed and minimize the associated costs

• 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

PR

OF

IT M

AR

GIN

General Administration

Human Resource Management

Technology Development

Procurement

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The Resource Based View of the Firm: Resources and CapabilitiesFinancial • Firm’s cash account and cash equivalents

• Firm’s capacity to raise equity• Firm’s borrowing capacity

Physical • Modern plant and facilities• Favorable manufacturing locations• State-of-the-art machinery and equipment

Technological • Trade secrets• Innovative production processes• Patents, copyrights, trademarks

Organizational • Effective strategic planning processes• Excellent evaluation and control systems

Tangible Resources

Source: Adapted from J.B. Barney, 1991, Firm resources and sustained competitive advantage, Journal of Management, 17: 101; R.M. Grant, 1991, Contemporary Strategy Analysis (Cambridge, U.K.: Blackwell Business), 100-102. Hitt, M.A., Ireland, R.D. & Hoskisson, R.E. 2001. Strategic Management: Competitivenesss and Globalization. Fourth Edition. South-Western College Publishing: Cincinnati, Ohio.

Exhibit 3.4

Human • Experience and capabilities of employees• Trust• Managerial skills• Firm-specific practices and procedures

Innovation and creativity

• Technical and scientific skills• Innovation capacities

Reputation • Brand name• Reputation with customers for quality and reliability• Reputation with suppliers for fairness, non-zero sum relationships

Intangible Resources

Organization Capabilities• Firm competences or skills the firm

employs to transfer inputs to outputs

• Capacity to combine tangible and intangible resources, using organizational processes to attain desired end

• Outstanding customer service

• Excellent product development capabilities

• Innovativeness of products and services

• Ability to hire, motivate, and retain human capital

Examples:

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Marks & Spencer: How Resources and Capabilities Lead to Advantages

•Lower costs and higher quality of goods sold

•Fewer layers of hierarchy

Capabilities

•Customer recognition with minimal advertising No promotional sales

•Lower labor turnover 8.7% labor costs versus 10%-20% industry average

Intangible

•1% of revenues allocated to occupancy costs (versus 3% to 9% industry average)

Tangible

Competitive Advantages in Great Britain

Resource

Ownership (vs. leasing) of property

Brand reputation

Employee loyalty

Supplier chain

Managerial judgment

Source: Adapted from Collins, D. & Montgomery, C. 1995. Competing on resources: Strategy in the 1990s. Harvard Business Review, 73(4): 123.



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Assessing Sustainability of Resources and Capabilities: Four Criteria

• No equivalent strategic resources or capabilities

Difficult to substitute

• Physically unique• Path dependency (how

accumulated over time)• Causal ambiguity (difficult to

disentangle what it is or how it could be recreated)

• Social complexity (trust, interpersonal relationships, culture, reputation)

Difficult to imitate

• Not many firms possessRare

• Neutralize threats and exploit opportunities

Valuable

ImplicationsIs the resource or capability . . .



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Criteria for Sustainable Competitive Advantage and Strategic Implications

Is a Resource…

Source: Adapted from Barney 1991. Firm Resources a Sustained Competitive Advantage. Journal of Management, 17:99-120.

Valuable RareDifficult to Imitate

Without Substitutes

Implications 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



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Historical Trends: ROS for a Hypothetical Company

20%

10%

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001

Ret

urn

n S

ales

Years 1, 2, 3

Years 4, 5, 6

Years 6, 7, 8 Years 8, 9, 10

Years 6, 7, 8, 9, 10

Year



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How Financial Ratios Differ Across Industries

Financial RatioSemi-

conductorsGrocery Stores

Skilled nursing facilities

Quick ratio (times) 1.5 0.5 1.1

Current ratio (times) 3.2 1.6 1.9

Total liabilities to net worth (%) 34.8 114.0 93.0

Collection period (days) 54.8 2.9 40.2

Assets to sales (%) 98.1 21.2 108.7

Return on sales (%) 3.1 0.9 2.0

Source: Dun & Bradstreet, Industry Norms and Key Business Ratios, 1999-2000. Desktop Edition. SIC # 0100-8999.



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Comparison of Procter & Gamble’s Drug Revenues and R&D Expenditures and Key Competitors

COMPANY (OR DIVISION)

SALES*

(billions)

R&D BUDGET

(billions)

P&G DRUG DIVISION $0.8 $0.38

BRISTOL-MYERS SQUIBB $20.2 $1.8

PFIZER $27.4 $4.0

MERCK $32.7 $2.1

* Most recently completed fiscal year. Data: Lehman Brother Procter & Gamble Co.

Exhibit 3.10

Source: Berner, R. 2000. Procter & Gamble: Just say no to drugs. Business Week: October 9:128.

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ECI’s Balanced Business ScorecardExhibit 3.11

Financial Perspective

GOALS MEASURES

• Survive • Cash Flow

• Succeed • Quarterly sales growth and

operating income by division

• Prosper • Increased market share and ROE

Customer Perspective

GOALS MEASURES

• New products • Percent of sales from new products

• Responsive supply • On-time delivery (defined by customer)

• Customer partnership

• Number of cooperative engineering efforts

Source: Adapted from Kaplan, R.S. & Norton, D.P. 1992. The balanced scorecard: Measures that drive performance. Harvard Business Review, 69(1): 71-79.

Internal Business Perspective

GOALS MEASURES

• Manufacturing excellence • Cycle time• Unit cost• Yield

• Design productivity • Silicon efficiency• Engineering efficiency

• New product introduction • Actual introduction schedule versus plan

Innovation and Learning Perspective

GOALS MEASURES

• Technology leadership • Time to develop next generation

• Manufacturing learning • Process time to maturity

• Product focus • Percent of products that equal 80% sales

• Time to market • New product introduction versus competition

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Chapter Three Assessing the Internal Environment of the Firm