COLLEGE OF BUSINESS AND ACCOUNTANCY

Module: Strategic Management - Module 4

Topic: The Internal Organization: Resources, Capabilities, Core Competencies, and Competitive
Advantages
Delivery Mode: Face-to-Face and Synchronous Classes

LEARNING OUTCOMES:
1. Explain why firms need to study and understand their internal organization.
2. Define value and discuss its importance.
3. Describe the differences between tangible and intangible resources.
4. Define capabilities and discuss their development.
5. Describe four criteria used to determine whether resources and capabilities are core
competencies.
6. Explain how firms analyze their value chain for the purpose of determining where they are
able to create value when using their resources, capabilities, and core competencies.
7. Define outsourcing and discuss reasons for its use.
8. Discuss the importance of identifying internal strengths and weaknesses.
9. Discuss the importance of avoiding core rigidities.

INTEGRATION OF THE BIBLE PRINCIPLE:

Taking the Initiative Against Daydreaming

Daydreaming about something in order to do it properly is right, but daydreaming about it when
we should be doing it is wrong. In this passage, after having said these wonderful things to His
disciples, we might have expected our Lord to tell them to go away and meditate over them all.
But Jesus never allowed idle daydreaming. When our purpose is to seek God and to discover His
will for us, daydreaming is right and acceptable. But when our inclination is to spend time

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
daydreaming over what we have already been told to do, it is unacceptable and God’s blessing is
never on it. God will take the initiative against this kind of daydreaming by prodding us to action.
His instructions to us will be along the lines of this: “Don’t sit or stand there, just go!”

If we are quietly waiting before God after He has said to us, “Come aside by yourselves…” then
that is meditation before Him to seek His will (Mark 6:31). Beware, however, of giving in to
mere daydreaming once God has spoken. Allow Him to be the source of all your dreams, joys,
and delights, and be careful to go and obey what He has said. If you are in love with someone,
you don’t sit and daydream about that person all the time— you go and do something for him.
That is what Jesus Christ expects us to do. Daydreaming after God has spoken is an indication
that we do not trust Him.

There is no condition of life in which we cannot abide in Jesus. We have to learn to abide in Him
wherever we are placed. Our Brilliant Heritage

Wesleyan University - Philippines

Mission, Vision and Core Values

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY

INTRODUCTION

OPENING CASE
Big Pharma: The use of data analytics as a business strategy.

The idea of using data strategically remains somewhat novel in some organizations. However, the
reality of “big data” and “big data analytics” (which is “the process of examining big data to
uncover hidden patterns, unknown correlations and other useful information that can be used to
make better decisions”) is quickly changing this situation. Large pharmaceutical companies are
considering the possibility of trying to develop a core competence in terms of BDA. Health care
reform and the changing landscape of health care delivery systems throughout the world are
influencing these firms to think of developing BDA as a core competence. Many benefits can
accrue to big pharma firms capable of forming BDA as a core competence including quickly
identifying trial candidates and accelerate their recruitment, developing improved inclusion and
exclusion criteria to use in clinical trials, and uncover unintended uses and indications for products.
In terms of customer functionality, superior products can be provided at a more rapid pace as a
foundation for helping patients live better and healthy lives.

Several features of the global economy, such as technological changes, can result in the erosion of the
competitive advantage of established competitors. For example, the Internet is undermining the
competitive advantage of brick-and-mortar rivals.

Competitive advantages are often strongly related to the resources firms hold and how they are
managed. Resources are the foundation for strategy and these can generate competitive advantages
leading to wealth creation when they are bundled together uniquely.

People are an especially critical resource for producing innovation and gaining a competitive
advantage. Even if they are not as critical in some industries, they are necessary for the development
and implementation of firms’ strategies.

The sustainability of a competitive advantage is a function of three factors:

• The obsolescence of a core competence - the basis of value creation - as a result of environmental
changes
• The availability of substitutes for the core competence (or the extent to which competitors can use
different core competencies to overcome value created by the original core competence)
• The imitability of the core competence (or the abilities of competitors to develop the same core
competence)

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY

To sustain a competitive advantage, firms must manage current core competencies while
simultaneously developing new competencies. In other words, strategists must continuously make
investments that will enhance the value of current competencies while striving to develop new ones
(discussed further in Chapter 5).

This chapter represents the next phase in the strategy development process: what a firm can do. It is
linked to the understanding that managers gain by assessing the external environment to determine
what the firm might do, or to identify opportunities that might be pursued.

1 Explain the need for organizations to study and understand their

internal organization.

ANALYZING THE INTERNAL ORGANIZATION

The Context of Internal Analysis

In the global economy, traditional factors such as labor costs, access to financial resources and raw
materials, and protected or regulated markets continue to be sources of competitive advantage, but to
a lesser degree (mostly because the advantages created by these more traditional sources can be
overcome by competitors through an international strategy and by the flow of resources throughout
the global economy).

Increasingly, those analyzing their firm’s internal environment should use a global mind-set (i.e., the
ability to study an internal environment in ways that are not dependent on the assumptions of a single
country, culture, or context).

Analysis of the firm’s internal environment requires that evaluators examine the firm’s portfolio of
resources and the bundles of heterogeneous resources and capabilities managers have created.
Understanding how to leverage the firm’s unique bundle of resources and capabilities is a key outcome
decision makers seek when analyzing the internal environment.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
By using or exploiting their core competencies, firms are in a position to develop and perform value-
creating strategies better than their competitors or to create and perform value-creating strategies that
competitors either are unable or unwilling to imitate.

FIGURE 3.1

Components of Internal Analysis Leading to Competitive Advantage and Strategic Competitiveness

As illustrated in Figure 3.1:

• A firm's tangible and intangible resources (for example, its facilities and corporate culture,
respectively) represent sources of capabilities
• These capabilities (teams or bundles of resources) represent sources of core competencies
• When exploited and nurtured (and valuable, costly to imitate, rare, and non-substitutable), core
competencies are potential sources of competitive advantage
• If a firm is able to use its core competencies to achieve a competitive advantage, it will achieve
strategic competitiveness and earn above-average returns so long as competitors are unable or
unwilling to imitate them successfully

CREATING VALUE

Some thoughts on “value”:

• Firms create value by exploiting core competencies and meeting the standards of global
competition.
• Value is measured by the product’s performance and by its attributes for which customers are
willing to pay.
• Firms must provide value to customers that is superior to the value provided by competitors in order
to create a competitive advantage.
• Customers perceive higher value in global rather than domestic-only brands.
• Firms create value by innovatively bundling and leveraging their resources and capabilities.
• Ultimately, value is the foundation for earning above-average profits.
• Core competencies, combined with product-market positions, are the most important sources of
advantage.
• The core competencies of a firm, in addition to analysis of its general, industry, and competitor
environments, should drive its selection of strategies.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY

The Challenge of Analyzing the Internal Organization

Correctly identifying, developing, deploying, and protecting firm resources, capabilities, and core
competencies requires managers to make difficult decisions. In part, these challenges are a result of
characteristics of both the internal and external environments of the firm. This challenge is multiplied
because of three conditions that characterize important strategic decisions - uncertainty, complexity,
and intraorganizational conflict.

FIGURE 3.2
Conditions Affecting Managerial Decisions about Resources, Capabilities, and Core Competencies

The conditions or decision characteristics presented in Figure 3.2 are:

• Uncertainty regarding the assessment of the general and industry environments, assessments, and
predictability of competitive actions, and customer preferences. Strategic leaders need to be aware
of how biases affect decisions about how to cope with uncertainty and how to manage resources
and capabilities to form core competencies.
• Complexity regarding the nature of any interrelatedness of the causes of change in the environment
and how the environments are perceived, especially regarding decisions as to which of the firm’s
resources and capabilities might serve as the foundation for competitive advantage.
• Intraorganizational conflicts among managers making decisions about which core competencies
are to be nurtured and about how the nurturing should take place.

Uncertainty is present because of the inherent difficulty in identifying, assessing, and predicting
changes and trends in characteristics of the external environment. Among these characteristics are
correctly predicting the extent, direction, and timing of changes in the general environment, such as
those resulting from societal values, political and economic conditions, customer preferences, and
emerging technologies from other industries (and how they might ultimately affect the firm).

Complexity is increased because of the uncertain nature of interrelationships among the characteristics
of the external environment and the related challenge regarding how to assess the effects of changes
in one set of characteristics on other characteristics. The issue becomes more complex when managers
must relate the complex external environment to their assessment of the firm's internal environment
and thus affects decisions regarding the firm's resources, capabilities, and core competencies, and their
relationship to opportunities in the external environment that can be exploited successfully to achieve
a competitive advantage.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY

Intra-organizational conflicts often develop as a result of uncertainty and complexity. When

managers make decisions regarding the identification of the firm's capabilities and choose to nurture
them (with resources) to develop core competencies that can be exploited to achieve a competitive
advantage, they must make these important decisions without absolute certainty that the decision is
correct. And, such decisions may result in changes or shifts in power and interrelationships among
individuals and groups within the firm. When this occurs, there may be conflict as those who are
affected adversely - or perceive that they will be so affected - may resist these changes. In some cases,
managers faced with decisions that may have unpleasant consequences or are uncomfortable often
experience denial, an unconscious coping mechanism used to block out and not initiate major changes
that may have some pain associated with them.

Thus, managers that must make decisions under conditions of uncertainty, complexity, and
intraorganizational conflict must exercise judgment, a capacity for making a successful decision in a
timely manner when no correct model is available or when relevant data are unreliable or incomplete.

When exercising judgment, decision makers often take intelligent risks. In the current competitive
landscape, executive judgment can be a particularly important source of competitive advantage. One
reason is that over time, effective judgment allows a firm to build a strong reputation and retain the
loyalty of stakeholders whose support is linked to above-average returns.

Significant changes in the value-creating potential of a firm’s resources and capabilities can occur in
a rapidly changing global economy. Because these changes affect a company’s power and social
structure, inertia or resistance to change may surface. Even though these reactions may happen,
decision makers should not deny the changes needed to assure the firm’s strategic competitiveness.
By denying the need for change, difficult experiences can be avoided in the short run.

3 Describe the differences between tangible and intangible resources.

RESOURCES, CAPABILITIES, AND CORE COMPETENCIES

This section develops the background and relationships among resources, capabilities, and core
competencies that represent potential sources on which a firm can build the foundation for a
competitive advantage.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY

Resources

Resources represent inputs into a firm's production process, such as capital equipment, the skills of
individual employees, brand names, financial resources, and talented managers.

By themselves - or individually - resources generally will not enable a firm to achieve a competitive
advantage. They must be combined or integrated with other firm resources to establish a capability.
When these capabilities are identified and nurtured, they can result in core competencies, which may
lead to a competitive advantage. A firm's resources can be classified either as tangible or intangible.

STRATEGIC FOCUS
Emphasis on Value Creation through Tangible (Kinder Morgan) and Intangible (Coca-Cola
Inc.) Resources

The Strategic Focus profiles two companies, Kinder Morgan and Coca-Cola, and describes some
of the ways in which they have used resources to create value for customers. Kinder-Morgan’s
focus is on tangible resources – pipe and pipeline networks, storage terminals, liquid transportation
assets, and financial assets (derived from creative tax approaches to earnings distributions and
cash). Coca-Cola has a number of both tangible and intangible resources that it uses to create
value. Intangible resources include a strong brand (based on well-managed image from marketing
capabilities) that spans its product line. Tangible resources include financial capabilities and
massive storage tanks that support its growing juice business and its advanced distribution system.
Tangible Resources

Tangible resources are assets that can be seen or quantified, such as a firm's physical assets (e.g., its
plant and equipment). Tangible resources are classified in one of four ways, as illustrated in Table 3.1.

TABLE 3.1
Tangible Resources

A firm's tangible resources generally can be placed into one of four categories:

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
• Financial resources, such as borrowing capacity
• Organizational resources, such as its formal reporting structure and systems
• Physical resources, such as location
• Technological resources, such as patents and trademarks

Intangible Resources

A firm's intangible resources may be less visible, but they are no less important. In fact, they may be
more important as a source of core competencies. Intangible resources range from innovation
resources, such as knowledge, trust, and organizational routines, to the firm's people-dependent or
subjective resources of know-how, networks, organizational culture, to the firm's reputation for its
goods and services and the way it interacts with others (such as employees, suppliers, or customers).

Table Note
Three classifications of intangible resources are presented in Table 3.2.

TABLE 3.2
Intangible Resources

A firm's intangible resources can be classified as:

• Human resources, such as knowledge, trust, and managerial capabilities

• Innovation resources, such as scientific capabilities and capacity to innovate
• Reputational resources, such as the firm's reputation with customers or suppliers

Because tangible resources are those that can be seen (such as plants), touched (such as equipment),
documented (such as contracts with suppliers of raw materials), or quantified (such as the value of a
specific asset), they generally do not, by themselves, represent capabilities that serve as sources of
core competencies. However, they still have value and will contribute to the development of
capabilities and core competencies.
1. "thought-provoking" question for an outside assignment or for future class discussion.

The Value of Brands: A Mini-Lecture

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
One intangible resource that may enable a firm to create a reputation and serve as a
source of competitive advantage is a brand name. Specifically, what a brand name
communicates to customers about the performance characteristics or attributes of a
firm's product(s) represents a direct link to a firm's reputation with its customers.

When the brand name communicates positive characteristics of a product (for example,
superior performance, high quality, or superior value), consumers will tend to purchase
the brand name product rather than similar products offered by competing firms. Thus,
it is important that companies with strong brand names nurture the core competencies
that provide the brand name with value and continually communicate that value through
consistent advertising messages.

When a firm has a brand name that serves as a foundation for competitive advantage,
the firm often will try to leverage the power of that brand name. Using an example in
the chapter, Harley-Davidson's name now adorns a limited edition Barbie doll, a popular
restaurant in New York City, and a line of L’Oreal cologne. Moreover, Harley-Davidson
Motorclothes generates over $100 million in revenue for the firm each year, and the
Harley brand adorns many clothing items, from black leather jackets to fashions for tots.

The value of a brand name can be lessened or reduced by competitive actions that the
firm either does not recognize or to which it fails to respond. In the consumer goods
segment, national brands are under attack by private label store brands. And some
appear to be losing the battle as customer preferences are shifting toward private labels
that may be perceived as providing more value than the national brands. In many cases,
national brands have reacted to such threats by cutting prices.

However, cost-cutting is not the only strategy that can be used to safeguard a brand.
• For companies whose brand names are expected to thrive and continue to provide a
competitive advantage (such as Nike or Hanes), their challenge is to nurture and
exploit the resources, capabilities, and core competencies that are the source of
competitive advantage.
• For companies whose brands are under fire (such as Marlboro or Budweiser), the
challenge is to re-establish the value of the brand. They must reconfigure their
existing bundle of resources, capabilities, and core competencies to renew them as
sources of competitive advantage.
• For companies whose brands are troubled, because the brands are no longer a source
of competitive advantage, the challenge is even greater: they must identify and

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
develop new bundles of resources and capabilities and nurture them to establish a
new source of competitive advantage.
• Firms also may choose to package their brand as a way to differentiate themselves
from competitors, as Century 21 Real Estate has done by using technology to make
its offices virtual home stores by offering many discounted home services, including
cable service, appliances, insurance, and mortgages.
• Other firms (e.g., Procter & Gamble, General Motors, and Philip Morris) support
their brand-name products through heavy advertising expenditures.

Note: It is important to remember that resources - both tangible and intangible -

represent the primary sources that enable a firm to establish capabilities, the capacity
for a set or bundle of unique resources to perform a task or activity integratively. In
other words, individual resources alone, while they may have value, will contribute to
the development of capabilities only when they are put together in unique combinations
to provide the foundation for core competencies and the establishment of competitive
advantage. Examples include a firm’s information-based tangible resources (Table 3.1)
and/or its intangible resources (Table 3.2).

4 Define capabilities and discuss their development.

Capabilities

As implied in the definition, a firm’s capabilities represent its capacity to integrate individual firm
resources to achieve a desired objective, though this ability does not emerge overnight.

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 (its human capital).

A firm’s ability to achieve a competitive advantage is thus reflected in its knowledge base and the
ability of its human capital to successfully exploit firm capabilities. Thus, human capital is of
significant value in the firm’s ability to develop capabilities and core competencies to achieve strategic
competitiveness.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
The knowledge possessed by the firm’s human capital may be one of the most significant sources of
a firm’s competitive advantage because it represents everything that the firm has learned, and thus
everything that it knows about successfully linking or bundling sets of individual resources to develop
capabilities as a foundation for developing core competencies and, ultimately, to achieve a competitive
advantage.

Establishing and nurturing the skills and abilities of the workforce is of critical importance to a firm’s
ability not only to establish, but to sustain a competitive advantage by acquiring new knowledge and
developing new skills that will enhance existing capabilities and core competencies, as well as aid in
the development of new ones.

Firms also have functional area capabilities they have nurtured and are now considered as core
competencies. As a result, these core competencies provide the foundation for the firm’s competitive
advantage.

TABLE 3.3

Examples of Firms’ Capabilities

Table 3.3 provides examples of functional areas, capabilities, and firm examples across a variety of
industries. It indicates that a number of functional area capabilities have the potential to serve as the
foundation for a firm’s competitive advantage.

STRATEGIC FOCUS
Strengthening the Superdry Brand

British-based SuperGroup is the owner of Superdry and its carefully branded product lines. The
Superdry brand is at the heart of the business. The brand is targeted to discerning customers who
seek to purchase “stylish clothing that is uniquely designed and well made.” Superdry is dealing
with recent performance issues. In addition to upper-management turnover, analysts believe
SuperGroup expanded too quickly, without the supporting infrastructure.

5 Describe four criteria used to determine whether resources and

capabilities are core competencies.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
Core Competencies

Once a firm has identified its resources and capabilities, it is ready to identify its core competencies,
the resources and capabilities that are a source of competitive advantage for the firm over its
competitors. Core competencies emerge over time through an organizational process of accumulating
and learning how to deploy different resources and capabilities. As the capacity to take action, core
competencies are the “crown jewels of a company,” the activities the company performs especially
well compared with competitors and through which the firm adds unique value to its goods or services
over a long period.

Not all of a firm’s resources and capabilities are strategic assets - that is, assets that have competitive
value and the potential to serve as a source of competitive advantage. Some resources and capabilities
may result in incompetence, because they represent competitive areas in which the firm is weak
compared to competitors. Thus, some resources or capabilities may stifle or prevent the development
of a core competence.

When the firm's resources and capabilities result in a core competence, the firm will be able to produce
goods or services with features and characteristics that are valued by customers. This implies that firms
can implement value-creating strategies only when its capabilities and resources can be combined to
form core competencies.
The question is asked: “How many core competencies are required for a competitive advantage?”
McKinsey & Company recommends that firms identify 3 or 4 competencies around which to frame
their strategic actions.

BUILDING CORE COMPETENCIES

This section discusses two conceptual tools/frameworks firms can use to identify competitive
advantages:

• Four criteria determine which of the firm’s resources and capabilities are core competencies.
• Value chain analysis, a tool for determining which value-creating competencies should be
maintained, upgraded, and developed and which should be outsourced.

Four Criteria for Sustainable Competitive Advantage

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
Four criteria should be used to determine whether or not a firm’s capabilities are core competencies
and can be a source of competitive advantage.

TABLE 3.4
The Four Criteria of Sustainable Strategic Capabilities

Before they can be sources of competitive advantage, capabilities must be:

• valuable • rare • costly-to-imitate • nonsubstitutable

It is important to understand that a firm’s capabilities must meet all four of the criteria noted earlier
before they can be core competencies and enable the firm to achieve a sustainable competitive
advantage.

However, a short-term competitive advantage is available when firm capabilities are valuable, rare,
and non-substitutable. The length of time that a firm possessing such capabilities can expect to sustain
a competitive advantage depends on how long it takes for competitors to successfully imitate the value-
creating activity or process, or reproduce valued features or characteristics of the product or service.

Thus, the ability to sustain a competitive advantage is dependent on firm capabilities being valuable,
rare, non-substitutable, and costly to imitate.

Valuable
Capabilities that are valuable help a firm exploit opportunities and/or neutralize threats in the external
environment. Valuable capabilities allow a firm to develop and implement strategies that create
customer value.

Rare
Capabilities are rare when they are possessed by few, if any, current or potential competitors. If many
firms have the same capabilities, the same value-creating strategies will be selected. As a result, none
of the firms will be able to achieve a sustainable competitive advantage. A competitive advantage will
be achieved by firms that develop and exploit capabilities that are different from those held by other
firms.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY

Costly to Imitate

Capabilities are costly to imitate when other firms are unable to develop them except at a cost
disadvantage relative to firms that already have them. This usually is a result of one or a combination
of three conditions:

1. Unique historical conditions can make duplication of capabilities costly. For example, establishing
facilities in a key location that can preempt competition when no other locations have similar value-
related characteristics or developing a unique organizational culture in the early stages of the
organization's life may not be cheap to duplicate by firms that are developing theirs at a different time.

A unique culture may not only serve as a source of competitive advantage, but also can be a source of
competitive disadvantage. The latter may be the case when a firm's culture prevents it from
recognizing or successfully adapting to changes in a turbulent environment.

2. Causal ambiguity also may prevent competitors from perfectly imitating a competency if the link
between a firm's capabilities and core competencies is not identified or understood. Competitors may
not be able to identify or determine how a firm uses its competencies to achieve a sustainable
competitive advantage.

3. Social complexity means that a firm's capabilities are the product of complex social phenomena
such as interpersonal relationships within the firm (e.g., how managers and subordinates at Hewlett-
Packard work with each other) or a firm’s reputation with its customers and suppliers.

Nonsubstitutable

A firm's capabilities are nonsubstitutable when they do not have strategic equivalents. Firm resources
are strategically equivalent when each can be separately exploited to implement the same strategies.
If capabilities are invisible, it is even more difficult for competitors to identify viable substitutes.
Examples of capabilities that can be difficult to identify or to find suitable substitutes include firm-
specific knowledge and trust-based working relationships.

TABLE 3.5
Outcomes from Combinations of the Criteria for Sustainable Competitive Advantage

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
Highlights from Table 3.5 are:

• Resources and capabilities that are neither valuable, rare, costly to imitate, nor nonsubstitutable
mean that the firm will be at a competitive disadvantage and will earn below-average returns.
• Resources and capabilities that are valuable, but are neither rare nor costly to imitate and may or
may not be nonsubstitutable mean that the firm can achieve competitive parity and earn average
returns.
• Resources and capabilities that are both valuable and rare, but are not costly to imitate and may or
may not be nonsubstitutable, may enable the firm to achieve a temporary competitive advantage
and will earn above-average to average returns.
• Resources and capabilities that are valuable, rare, costly to imitate, and nonsubstitutable will enable
the firm to achieve a sustainable competitive disadvantage and earn above-average returns.

Value Chain Analysis

A framework that firms can use to identify and evaluate the ways in which their resources and
capabilities can add value is value chain analysis. This framework is useful because it enables firms
to understand which parts of their operations or activities create value by segmenting the value chain
into primary and secondary activities as illustrated in Figure 3.3.

FIGURE 3.3

A Model of the Value Chain

Figure 3.3 illustrates how the value-creating activities performed by the firm can be separated into
value chain activities and support functions.

Value chain activities represent traditional line activities such as supply chain management,
operations, distribution, marketing, and follow-up service.

Support functions are represented by a firm's staff activities and include its financial infrastructure,
human resource management practices, and management information systems activities.

FIGURE 3.4
Creating Value Through Value Chain Activities

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
Figure 3.4 illustrates the link between the value chain activities and customer value. All areas of the
value chain can help firms deliver value to customers.

Supply-chain management consists of activities including sourcing, procurement, conversion,

and logistics management that are necessary for the firm to receive raw materials and convert them
into final products.

Operations consist of activities necessary to efficiently change raw materials into finished
products. Developing employees’ work schedules, designing production processes and physical
layout of the operations’ facilities, determining production capacity needs, and selecting and
maintaining production equipment are examples of specific operations activities.

Distribution consists of activities related to getting the final product to the customer. Efficiently
handling customers’ orders, choosing the optimal delivery channel, and working with the finance
support function to arrange for customers’ payments for delivered goods are examples of these
activities.

Marketing (including sales) consists of activities taken for the purpose of segmenting target
customers on the basis of their unique needs, satisfying customers’ needs, retaining customers, and
locating additional customers. Advertising campaigns, developing and managing product brands,
determining appropriate pricing strategies, and training and supporting a sales force are specific
examples of these activities.

Follow-up service consists of activities taken to increase a product’s value for customers. Surveys
to receive feedback about the customer’s satisfaction, offering technical support after the sale, and
fully complying with a product’s warranty are examples of these activities.

FIGURE 3.5
Creating Value Through Support Functions

Figure 3.5 illustrates the link between the support functions a company performs and customer value.
All support functions can help firms deliver value to customers.

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
Finance consists of activities associated with effectively acquiring and managing financial
resources. Securing adequate financial capital, investing in organizational functions in ways that
will support the firm’s efforts to produce and distribute its products in the short- and long-term,
and managing relationships with those providing financial capital to the firm are specific examples
of these activities.

Human Resource consists of activities associated with managing the firm’s human capital.
Selecting, training, retaining, and compensating human resources in ways that create a capability
and hopefully a core competence are specific examples of these activities.

Management Information Systems consist of activities taken to obtain and manage information
and knowledge throughout the firm. Identifying and utilizing sophisticated technologies,
determining optimal ways to collect and distribute knowledge, and linking relevant information
and knowledge to organizational functions are activities associated with this support function.

Using the value chain framework enables managers to study the firm’s resources and capabilities in
relationship to the primary and support activities performed to design, manufacture, and distribute
products, and to assess them relative to competitors’ capabilities. For these activities to be sources of
competitive advantage, a firm must be able to:

• Perform primary or support activities in a manner superior to the ways that competitors perform
them
• Perform a primary or support activity that no competitor is able to perform to create superior value
for customers and achieve a competitive advantage

This implies that, given that individual firms comprise unique or heterogeneous bundles of activities,
reconfiguring the value chain - or re-bundling resources and capabilities - may enable a firm to develop
unique value-creating activities.

The managerial challenge is that the value-creation process is difficult and there is no one best way to
assess a firm’s primary and support activities or to evaluate the value-creating potential of those
activities either within the firm or relative to competitors, because of incomplete or ambiguous data.

By being objective, managers may be able to use the value chain framework to identify new, unique
ways to combine resources and capabilities to create value that are difficult for competitors to
recognize, understand, or imitate. The longer a firm is able to keep competitors “in the dark” as to how

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
resources and capabilities have been combined to create value, the longer a firm will be able to sustain
a competitive advantage.

Firms can use outsourcing as an alternative to identify primary or support activities for which its
resources and capabilities are not core competencies and do not enable the firm to add superior value
and achieve competitive advantage.

OUTSOURCING

Outsourcing describes a firm's decision to purchase a value-creating activity from an external supplier.
Outsourcing has become important - and may become more important in the future - for two reasons:

• There are limits to the abilities of firms to possess all of the bundles of resources and capabilities
that are required to achieve superior performance (relative to competitors) in all its primary and
support activities.
• With limited resources and capabilities, firms can increase their ability to develop resources and
capabilities to form core competencies and achieve competitive advantage by nurturing a few core
competencies.

Firms engaging in outsourcing can increase their flexibility, mitigate risks, and reduce their capital
investment.
Other research suggests that outsourcing does not work effectively without extensive internal
capabilities to coordinate external sourcing as well as core competencies.

To ensure that the appropriate primary and support activities are outsourced, four skills are essential
for managers involved in outsourcing programs:

• Strategic thinking – understanding whether/how outsourcing creates competitive advantage within

the company
• Deal making – ability to secure rights from external providers that can be fully used by internal
managers
• Partnership governance – ability to oversee and govern appropriately the relationship with the
company to which the services were outsourced
• Change management – because outsourcing can significantly change how an organization operates,
managers administering these programs must also be able to manage that change, including
resolving employee resistance that accompanies any significant change effort

COMPETENCIES, STRENGTHS, WEAKNESSES, AND STRATEGIC DECISIONS

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY

Tools such as outsourcing help the firm focus on its core competencies as the source of its competitive
advantages. However, evidence shows that the value-creating ability of core competencies should
never be taken for granted. Moreover, the ability of a core competence to be a permanent competitive
advantage can’t be assumed.

All core competencies have the potential to become core rigidities. As Leslie Wexner, CEO of The
Limited, Inc., says: “Success doesn’t beget success. Success begets failure because the more that you
know a thing works, the less likely you are to think that it won’t work. When you’ve had a long string
of victories, it’s harder to foresee your own vulnerabilities.” Thus, each competence is a strength and
a weakness - a strength because it is the source of competitive advantage and, hence, strategic
competitiveness, and a weakness because, if emphasized when it is no longer competitively relevant,
it can sow the seeds of organizational inertia.

Events occurring in the firm’s external environment create conditions through which core
competencies can become core rigidities, generate inertia, and stifle innovation. According to one
observer, “Often the flip side, the dark side, of core capabilities is revealed due to external events when
new competitors figure out a better way to serve the firm’s customers, when new technologies emerge,
or when political or social events shift the ground underneath.”

In the final analysis, changes in the external environment do not cause core competencies to become
core rigidities; rather, strategic myopia and inflexibility on the part of managers are the cause. Thus,
nurturing existing competencies must be balanced by efforts to encourage the development of new
competencies.

LEARNING OUTCOME

Ethics Questions
1. Why is it important for a firm to study and understand its internal organization?

2. What is value? Why is it critical for the firm to create value? How does it do so?
3. What are the differences between tangible and intangible resources? Why is it important for
decision makers to understand these differences? Are tangible resources more valuable for creating
capabilities than are intangible resources, or is the reverse true? Why?

4. What are capabilities? How do firms create capabilities?

GEN-FM-019 Rev 1 Effective 30 Sept 2022

COLLEGE OF BUSINESS AND ACCOUNTANCY
5. What four criteria must capabilities satisfy for them to become core competencies? Why is it
important for firms to use these criteria to evaluate their capabilities’ value-creating potential?

REFERENCE

Hitt, M., Ireland,R.D., Hoskisson,E. (2023). Strategic management competitiveness and

globalization: Concepts and cases (12th Edition). Cencage.

PREPARED BY:
MERCY JOY C. ESCUADRO, MBA
Faculty

GEN-FM-019 Rev 1 Effective 30 Sept 2022