1. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 1 CHAPTER 5 Internal Analysis

2. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 2 Chapter Topics Resource-based View of the Firm SWOT Analysis Value Chain Analysis Internal Analysis: Making Meaningful Comparisons

3. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 3 Ingredients Critical to Successful Strategy Strategy must … Be consistent with conditions in the competitive environment Place realistic requirements on the firm’s resources Be carefully executed

4. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 4 What is the Resource-based View of the Firm? Firms differ in fundamental ways because each firm possesses a unique “bundle” of resources – tangible and intangible assets and organizational capabilities to make use of those assets

5. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 5 The Three Basic Resources Tangible assets Easiest to identify and often found on a firm’s balance sheet Include physical and financial assets Examples: production facilities, raw materials, financial resources Intangible assets Cannot be seen or touched Often very critical in creating competitive advantage Examples: brand names, company reputation, company morale Organizational capabilities Involve skills – ability to combine assets, people, and processes – used to transform inputs into outputs

6. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 6 Ex. 5-2: Examples of Different Resources (selected) Tangible AssetsIntangible AssetsOrganizational Capabilities Hampton Inn’s reservation system Nike’s brand nameDell Computer’s customer service Ford Motor’s cash reserves Dell Computer’s reputation Wal-mart’s purchasing and inbound logistics 3M’s patentsWendy’s advertising with Dave Thomas Sony’s product development process Georgia Pacific’s land holdings Jack Welch as GE’s leader Coke’s global distribution coordination

7. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 7 What Makes a Resource Valuable? Competitive superiority: Does the resource help fulfill a customer’s need better than those of the firm’s competitors? Resource scarcity: Is the resource in short supply? Imitatability: Is the resource easily copied or acquired? Appropriability: Who actually gets the profit created by a resource? Durability: How rapidly will the resource depreciate? Substitutability? Are other alternatives available?

8. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 8 Isolating Mechanisms Physically unique resources Resources virtually impossible to imitate E.g., one-of-a-kind real estate location, mineral rights, patents Path-dependent resources –Resources that must be created over time in a manner that is often expensive and difficult to accelerate –E.g., Dell Computer’s system of direct sales of customized PCs via the Internet, Coca-Cola’s brand name, Gerber Baby Food’s reputation for quality

9. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 9 Isolating Mechanisms Causal ambiguity Situations where it is difficult for competitors to understand how a firm has created its advantage E.g., Southwest Airlines’ approach Same plane, routes, gate procedures, number of attendants Culture of fun, family, and frugal yet focused service Economic deterrence Involves large capital investments in capacity to produce products or services in a given market that are scale sensitive

10. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 10 Ex. 5-4: Resource Imitatability (Adapted) Easy to imitate Cash, commodities Can be imitated (but may not be) Capacity preemption, economies of scale Difficult to imitate Brand loyalty, employee satisfaction, reputation for fairness Cannot be imitated Patents, unique locations, unique assets

11. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 11 Guidelines: Using the RBV in Internal Analysis Disaggregate resources – break them down into more specific competencies rather than use broad categories Utilize a functional perspective in disaggregating tangible and intangible assets and organizational capabilities Look at organizational processes and combinations of resources, not only at isolated assets or capabilities Use the value chain approach to uncover potentially valuable capabilities, activities, and processes

12. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 12 Ex. 5-6: Key Resources Across Functional Areas (Selected) Marketing Firm’s products/services Concentration of sales in a few products or a few customers Ability to gather needed information about markets Market share Product-service mix and expansion potential Channels of distribution Effective sales organization Financial and Accounting Ability to raise short-term and long-term capital; debt-equity Corporate-level resources Cost of capital relative to competitors Tax considerations Relations with owners, investors, and stockholders Leverage position Cost of entry and barriers to entry

13. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 13 Ex. 5-6 (contd.) Production, Operations, Technical Raw materials cost and availability, supplier relationships Inventory control systems Location, layout, and use of facilities Economies of scale Technical efficiency of facilities Effectiveness of subcontracting use Degree of vertical integration Personnel Management personnel Employees’ skills and morale Labor relations costs compared to competitors Efficiency and effectiveness of personnel policies Effectiveness of incentives used to motivate performance Ability to level peaks and valleys of employment

14. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 14 Ex. 5-6 (contd.) Quality Management Relationships with suppliers, customers Internal practices to enhance quality of products and services Procedures for monitoring quality Information Systems Timeliness and accuracy of information about sales, operations, cash, and suppliers Relevance of information for tactical decisions Information to manage quality issues, customer service Ability of people to use information provided

15. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 15 Ex. 5-6 (contd.) Organization and General Management Organizational structure Firm’s image and prestige Firm’s record in achieving objectives Organization of communication system Organizational climate and culture Use of systematic procedures in decision making Top management skills, capabilities, and interest Strategic planning system Intra-organizational synergy

16. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 16 SWOT Analysis Based on assumption an effective strategy derives from a sound “fit” between a firm’s internal resources and its external situation Opportunities A major favorable situation in a firm’s environment Threats A major unfavorable situation in a firm’s environment Strengths A resource advantage relative to competitors and the needs of markets firm serves Weaknesses A limitation or deficiency in one or more resources or competencies relative to competitors

17. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 17 Ex. 5-7: SWOT Analysis Diagram Numerous environmental opportunities Major environmental threats Critical internal weaknesses Substantial internal strengths Cell 3: Supports a turnaround-oriented strategy Cell 4: Supports a defensive strategy Cell 1: Supports an aggressive strategy Cell 2: Supports a diversification strategy

18. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 18 What is a Value Chain? The term value chain describes a way of looking at a business as a chain of activities that transform inputs into outputs that customers value

19. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 19 What is Value Chain Analysis? Focuses on how a business creates customer value by examining contributions of different internal activities to that value Divides a business into a set of activities within the business –Starts with inputs a firm receives –Finishes with firm’s products or services and after-sales service to customers Allows for better identification of a firm’s strengths and weaknesses since the business is viewed as a process

20. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 20 Ex. 5-8: The Value Chain General Administration Human Resource Management Research, Technology, and Systems Development Procurement Inbound Logistics Operations Outbound Logistics Marketing and Sales Service Margin Primary Activities Support Activities

21. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 21 Conducting a Value Chain Analysis Identify activities Allocate costs Recognize the difficulty in activity-based cost accounting Identify the activities that differentiate the firm Examine the value chain Compare to competitors

22. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 22 Ex. 5-11: Possible Factors for Assessing Sources of Differentiation in Primary and Support Activities of the Value Chain (selected items) General Administration Capability to identify new product market opportunities and potential environmental threats Quality of strategic planning system to achieve corporate objectives Ability to obtain relatively low- cost funds for capital expenditures and working capital Human Resource Management Effectiveness of procedures for recruiting, training, and promoting all levels of employees Appropriateness of reward system for motivating and challenging employees A work environment minimizing absenteeism and keeping turnover low

23. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 23 Ex. 5-11 (contd.) Technology Development Success of R&D activities in leading to product and process innovation Quality of working relationships between R&D personnel and other departments Timeliness of technology development activities in meeting critical deadlines Procurement Development of alternate sources for inputs to minimize dependence on a single supplier Procurement of raw materials (1) on a timely basis, (2) at lowest possible cost, and (3) at acceptable levels of quality Procedures for procurement of plant, machinery, and buildings

24. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 24 Ex. 5-11 (contd.) Inbound LogisticsOperationsOutbound Logistics Soundness of material and inventory control systems Productivity of equipment compared to key competitors Timeliness and efficiency of delivery of finished goods and services Efficiency of raw material warehousing activities Appropriate automation of production processes Efficiency of finished goods warehousing activities Effectiveness of production control systems to improve quality and improve costs

25. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 25 Ex. 5-11 (contd.) Marketing and Sales Effectiveness of research to identify customer segments and needs Innovation in sales promotion and advertising Evaluation of alternate distribution channels Motivation and compensation of sales force Development of quality image and favorable reputation Service Means to solicit customer input for product improvements Promptness of attention to customer complaints Appropriateness of warranty and guarantee policies Quality of customer education and training Ability to provide replacement parts and repair services

26. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 26 Internal Analysis: Making Meaningful Comparisons Perspectives to use 1. Comparison with past performance 2. Stages of industry evolution 3. Benchmarking – comparison with competitors 4. Comparison with success factors in industry

27. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 27 Ex. 5-13: Sources of Distinctive Competence at Different Stages of Industry Evolution Functional Area IntroductionGrowthMaturityDecline MarketingResources/skills to create widespread awareness and find acceptance from customers ; advantageous access to distribution Ability to establish brand recognition, find niche, reduce price, solidify strong distribution relations, and develop new channels Skills in aggressively promoting products to new markets and holding existing markets; pricing flexibility; skills in differentiating products and holding customer loyalty Cost effective means of efficient access to selected channels and markets; strong customer loyalty or dependence; strong company image

28. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 28 Ex. 5-13 (contd.) Functional Area IntroductionGrowthMaturityDecline Production operations Ability to expand capacity effectively, limit number of designs, develop standards Ability to add product variants, centralize production, or otherwise lower costs; ability to improve product quality; seasonal subcontracting capacity Ability to improve product and reduce costs; ability to share or reduce capacity; advantageous supplier relationships; subcontracting Ability to prune product line; cost advantage in production, location or distribution; simplified inventory control; subcontracting or long production runs

29. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 29 Ex. 5-13 (contd.) Functional Area IntroductionGrowthMaturityDecline FinanceResources to support high net cash overflow and initial losses; ability to use leverage effectively Ability to finance rapid expansion, to have net cash outflows but increasing profits; resources to support product improvements Ability to generate and redistribute increasing net cash inflows; effective cost control systems Ability to reuse or liquidate unneeded equipment; advantage in cost of facilities; control system accuracy; streamlined management control

30. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 30 Ex. 5-13 (contd.) Functional Area IntroductionGrowthMaturityDecline PersonnelFlexibility in staffing and training new management; existence of employees with key skills in new products or markets Existence of an ability to add skilled personnel; motivated and loyal workforce Ability to cost effectively, reduce workforce, increase efficiency Capacity to reduce and reallocate personnel

31. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. 31 Ex. 5-13 (contd.) Functional Area IntroductionGrowthMaturityDecline Engineering and R&D Ability to make engineering changes, have technical bugs in product and process resolved Skill in quality and new feature development; ability to start developing successor product Ability to reduce costs, develop variants, differentiate products Ability to support other grown areas or to apply product to unique customer needs Key functional area and strategy focus Engineering: market penetration Sales: consumer loyalty; market share Production efficiency: successor products Finance: maximum investment recovery