0. Chapter 3 The Internal Environment:
Resources, Capabilities,
and Activities

1. LEARNING OBJECTIVES 1. Explain the internal context of strategy.
2. Identify a firm’s resources and capabilities and
explain their role in firm performance.
3. Define dynamic capabilities and explain their role
in both strategic change and firm performance.
4. Explain how value‑chain activities are related to
firm performance and competitive advantage.
5. Explain the role of managers with respect to
resources, capabilities, and value‑chain activities.

2. What is Strategic Management?
Strategic Analysis
Internal
External
Strategy
Vision and Mission
Goals and Objectives
Specific
targets
Arenas
Vehicles
Differentiators
Staging
Economic logic
Implementation Levers
and
Strategic Leadership
Fundamental organizational purpose
Organizational values
The coordinated means by which an organization pursues its goals and objectives

3. Internal Drivers of Strategy and Competitive Advantage
Full quote:
“The creation of something new is not accomplished by the intellect but by the play of instinct acting from inner necessity. The creative mind plays with the objects it loves.”
- Carl Jung
Resources, Capabilities, and Managerial Decisions
Resources
Managers
Competitive advantage/ disadvantage
Strategy
Performance
Management strategic decision making
Capabilities

4. Resources and Capabilities
Full quote:
“The creation of something new is not accomplished by the intellect but by the play of instinct acting from inner necessity. The creative mind plays with the objects it loves.”
- Carl Jung
Strategy
Capabilities (competencies)
Resources
The inputs that firms use to create goods and services
Undifferentiated or firm-specific
Tangible or intangible
Easy to acquire or difficult
A firm’s skill in using its resources to create goods and services. The combination of procedures and expertise on which a firm relies to produce goods and services.

5. Resources and Capabilities
Full quote:
“The creation of something new is not accomplished by the intellect but by the play of instinct acting from inner necessity. The creative mind plays with the objects it loves.”
- Carl Jung
Company
Capability
Result
Logistics -- distributing vast amounts of goods quickly and efficiently to remote locations.
200,000-percent return to share-holders during first 30 years since IPO.
Wal-Mart
Vanguard
An extraordinarily frugal system for delivering the lowest cost structure in the mutual fund industry, using both techno-logical leadership and economies of scale.
25,000-percent return to shareholders during the 30-plus year tenure of CEO John Connelly. Shareholders in Vanguard equity funds pay, on average, $30 per $10,000, vs. a $159 industry average. With bond funds, the bite is just $17 per $10,000.
Generating new ideas and turning them into innovative and profitable products.
30 percent of revenue from products introduced within the past four years. 3M

6. Resource-Based View of the Firm (vs the S-C-P Model (Ch 4)
Resources and Capabilities
Intangible resources
Tangible resources
Organizational capabilities (competencies)

7. Resources and Capabilities
Distinctive competence:
Capability that sets a company apart
from other companies; something that a company can do that competitors cannot duplicate easily.
Core competence:
Capability that is central to a corporation’s main business operations and allows it to generate new products and services.

8. 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).

9. VRINE MODEL
How does a company know if its resources and capabilities are strengths, weaknesses, etc? How does a company know if its resources and capabilities can drive competitive advantage? Answer: We need criteria to judge the resources and capabilities. VRINE (originally VRIO) is one method.

10. The VRINE Model
VALUE:
A resource or capability is valuable if it enables a company to take advantage of opportunities or to fend off threats in its environment.
RARITY:
Rarity is scarcity relative to demand. An otherwise valuable resource that isn’t rare won’t necessarily contribute to competitive advantage.

11. The VRINE Model
INIMITABILITY:
That which cannot be imitated is inimitable. But imitation is typically a matter of time as aspiring competitors can eventually imitate most resources.
Several factors can limit the ability of competitors to imitate resources or capabilities:
1. high cost
2. property rights
3. time
4. causal ambiguity

12. NON-SUBSTITUTABILITY:
The VRINE Model
NON-SUBSTITUTABILITY:
The non-substitutability criterion is satisfied if a competitor cannot achieve the same results using a different combination of resources and capabilities.
EXPLOITABILITY:
The business can be organized to exploit the full
potential of the resource or capability. The organizational capabilities include organizational structure, systems,
and processes.

13. Is a resource or capability…
Criteria for Sustainable Competitive Advantage and Strategic Implications
Is a resource or capability…
Valuable Rare Difficult Exploitable Implications
to Imitate/
Substitute for Competitiveness
No No No No Competitive disadvantage
Yes No No No Competitive parity
Yes Yes No Yes 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, “Gaining and Sustaining Competitive Advantage”, Addison-Wesley, 1997.
Copyright © 2009 The McGraw-Hill Ryerson Limited.

14. The VRINE Model Test Competitive implication Performance implication
Valuable?
Does the resource or capability allow the firm to meet a market demand or protect the firm from market uncertainties?
If so, it satisfies the value requirement. Valuable resources are needed just to compete in the industry, but value by itself does not convey an advantage.
Valuable resources and capabilities convey the potential to achieve “normal profits” (i.e., profits which cover the cost of all inputs including the cost of capital).
Rare?
Assuming the resource or capability is valuable, is it scarce relative to demand? Or, is it widely possessed by most competitors?
Valuable resources which are also rare convey a competitive advantage, but its relative permanence is not assured.
The advantage is likely only temporary.
A temporary competitive advantage conveys the potential to achieve above normal profits, at least until the competitive advantage is nullified by other firms.
Inimitable and non- substitut- able?
Assuming a valuable and rare resource, how difficult is it for competitors to either imitate the resource or capability or substitute for it with other resources and capabilities that accomplish similar benefits?
Valuable resources and capabilities which are difficult to imitate or substitute provide the potential for sustained competitive advantage.
A sustained competitive advantage conveys the potential to achieve above normal profits for extended periods of time (until competitors eventually find ways to imitate or substitute or the environment changes in ways that nullify the value of the resources).
Exploit- able?
For each step of the preceding steps of the VRINE test, can the firm actually exploit the resources and capabilities that
it owns or controls?
Resources and capabilities that satisfy the other VRINE requirements
but which the firm is unable to exploit actually result in significant opportu- nity costs (other firms would likely pay large sums to purchase the VRINE resources and capabilities). Alternatively, exploitability unlocks the potential competitive and perfor-
mance implications of the resource or capability.
Firms which control unexploited VRINE resources and capabilities generally suffer from lower levels of financial performance and depressed market valuations relative to what they would otherwise enjoy (though not as depressed as firms lacking resources and capabilities which do satisfy VRINE).

15. Resources and Capabilities
Value Chain:
Total of primary and support value-adding activities by which a company produces, distributes, and markets a product.

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.

19. 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)

20. Value Chain Analysis
Full quote:
“The creation of something new is not accomplished by the intellect but by the play of instinct acting from inner necessity. The creative mind plays with the objects it loves.”
- Carl Jung
Comparing Competing Businesses
Area of innovation
Source
Assemble
Deliver
IKEA
Transferred assembly and delivery to the consumer
Dell
Chose an entirely direct distribution model (rather than through retailers) and outsourced component manufacturing

21. Resources and Capabilities
Outsourcing:
Activity performed for a company
by people other than its full-time
employees.

22. Value Chain Analysis
Outsourcing is sourcing the function, product, or service of a value-chain activity from another company.
Offshoring is taking that activity from a high-cost country to a low-cost country.
These are separate decisions and a “yes” to one could be a “no” to the other.

23. Value Chain Analysis
Management may consider the following when selecting activities to outsource:
■ Would outsourcing an activity improve results such as reduced lead time,
higher flexibility, reduced inventory, and/ or lower cost?
■ Would outsourcing reduce the risk associated with performing the activity
in-house? If the activity relies on fast-changing technology or the product is
sold in a rapidly changing market, it may be advantageous to outsource the
activity in order to maintain flexibility and avoid the risk of investing in
specialized assets.
■ Is the activity a source of competitive advantage that stems from a cost
advantage or product differentiation?

24. KSFs
KSFs for outsourcing and off-shoring Commit time and effort Treat other firm as a partner, not just a vendor Involve middle management

25. Strategic Leadership: Linking Resources and Capability to Strategy
SENIOR MANAGERS
Decide how to use resources and capabilities.
Configure a company’s value-chain activities.
Senior managers also set the context that
determines how front-line and middle managers
can add value.

26. Strategic Leadership: Linking Resources and Capability to Strategy
MIDDLE MANAGERS
Middle managers are responsible for executing
what senior managers want done.
They play a key role in what the firm is doing and
what it may be adept at doing in the future.
This is why senior management considers the firm’s
leadership pool as they shape strategy and align
their leadership-development programs with long-
term aspirations.

27. Evaluating Firm Performance
Two approaches for evaluating firm performance
Financial ratio analysis
Balance sheet
Income statement
See text for DuPont Analysis example (page 63) to integrate B/S and I/S
Balanced scorecard (stakeholder perspective)
Employees
Customers
Owners

28. 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

29. 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)

30. The Balanced Scorecard
Customer Perspective
Time
Quality
Performance and service
Cost
Processes
Cycle time Quality
Employee skills Productivity
Decisions
Actions
Coordination
Resources and capabilities
Internal Business
Perspective

31. The Balanced Scorecard
Introduction of new products and services
Greater value for customers
Increased operating efficiencies
Innovation and
Learning Perspective
Profitability
Growth
Shareholder value
Increased market share
Reduced operating expenses
Higher asset turnover
Financial Perspective