Analyzing Resources and Capabilities

_(Originally published on_ _OUBS Blog_ _)_

This is chapter 5 of Robert M. Grant’s book _Contemporary Strategy Analysis_. This time, we move along with a general shift in focus from the industry environment to the resources and capabilities of a company in terms of strategy, something that has been a shift in the 1990s. Please tag along.

In the 1980s strategy analysis concentrated on the industry environment, something very prominent in Michael Porter’s work. International diplomacy was more resource-based though, with a balance of power being very important. In the 1990s, the resource-based view became more important in the sense that a firm’s resources and capabilities determine it’s strategy. This was especially true in fast changing markets where a market based view didn’t provide the consistency and longterm focus that a strategy needed. Broadening what a market ment didn’t help in many cases because it is very hard to server customer requirements across a wider market (e.g. railroads being in the transportation business). Other companies that focused on developing and exploiting their internal capabilities adapted well to external change. The question that comes into play is whether to focus on your external customer needs when your product becomes obsolete or whether to focus on your core capabilities and resources. The question would be if Kodak (who’s capabilities are/were in chemistry) or Canon (who know technology) would succeed in digital imaging.

There are two types of profits. One is associated with the absense of competition (monopoly rents) and the other with a firm’s superior resources (Ricardian rents, after 19th century economist David Ricardo). The resource based view argues that profitability does not come from doing the same thing but doing things differenty (something I whole heartedly agree with by the way).

The Resources of the Firm

Here you have tangible, intangible and human resources and make up your capabilities and hence the strategy. The strategy is influenced though by the key success factors of an industry and a company will have to seek a competitive advantage, preferably long-term, with its strategy.

From tangible resources you need to ask what you can do to economize on them or where you could employ them more profitably.

Intangible resources can also be trademarks and brand names (brand equity, calculated by taking the price premium attributable to the brand and putting it in relation to the entire revenue stream). It should be remembered that reputation can be attached to brands or companies. Technology is another intangible asset.

Human resources are the productive services offered to a company by it’s employees. Here the emphasis is moving toe flexibility, learning potential and collaboration as well as emotional inteligence (see D. Goleman, _Emotional Intelligence_ , the second book is a bit more management like and practical).

Organizational Capabilities

It should be clear that resources are not productive by themselves. Capabilities refer to putting them to good use and this good use should be in relation to other firms. To find your capabilities you can look at your functions (Corporate, management information, R&D, manufacturing, product design, marketing, sales and distribution, …) or take Porter’s value chain methodology.

Richard Nelson and Sidney Winter have referred to organizational routines in the sense that regular and predictable patterns are normally the basis for a firm’s capabilties. They are to the firm what the skills are to the individual as Grant puts it.

They are also hierarchical, meaning that more general capabilities are integrated for specialised ones. This integration only works with the help of knowledge of individuals, which is why cross-functional teams are so en vogue.

Hamel and Prahalad note that it is the firm’s ability to leverage its resources that make them into capabilities. This can be done by concentrating, accumulating, complementing, conserving or recovering them.

… then comes the profit…

The profits depend on establishing a sustainable competitive advantage and in appropriating the returns to that competitive advantage. For this to happen the resource must be scarce and relevant. To be sustainable it has to be durable a not transferable or replicable.

Here one might choose reputation over technology. Choose sources of immobility in relation to resources like geographic or imperfect information as well as resources that loose its value in case they are detached from a complementary resource. In case the resource cannot be replicated it must be built, which is a lot harder.

Then comes the question who gets the gains. This is especially hard with human resources where capabilities are often tightly tied with the humans themselves (bad humans!!! ;)).

… now lets put them to work…

Step 1: Identifiy them… from the demand and/or supply side. Take a broad look.

Step 2: Appraise them … based on importance and relative strength (benchmarking). You should link importance in your industry with our strengths. Here you can build a matrix with Strategic importance on the x-achsis and relative strength on the y-achsis. Here you can place your resources and capabilities into the 4 fields: zone of irrelevance, key weaknesses, superfluous strengths and key strengths.

Step 3: Develop them … exploit you key strengths, manage your weaknesses (make them into strengths, outsource or defend), think about what to do about your superfluous strengths.

… now we develop them further …

Here the most often used method is gap analysis. There are several things you could also do: replicate them (like McDonalds) or develop new ones.

This is often hard as existing ones are based on routines and routines are hard to brake. Future capabilities are highly influenced by the past of a company. To develop them you could:

\- develop the individual ones that make up the organizational capability

\- acquire them (risky as they need to be integrated)

\- use strategic alliances

\- incubate them in sub-units (need to be brought back into the business)

\- use product sequencing in which you use experience gained to build new things and gain more experience.

Commentary: There is a nice graphic at the end of the chapter which summarieses everything very well. I suggest writing that down

Appendix

The appendix talks about knowledge management and its importance.