5.

Evaluating a Firm's Internal Environment

Internal analysis
•scan and evaluation of internal environment of the company (resources and capabilities)
•it is useful to provide analysis according to functional areas (marketing, production, human
resources ...)
main task of internal analysis is to identify:
- strengths –something what company do well (best skills, quality sources) –strengths
lead company to get competitive advantage –are important for offensive strategies
- weaknesses–something what company do bad –(lack of quality sources, lack of
information) –weaknesses lead company to get competitive disadvantage –basic of
defensive strategies
Why internal analysis?
•internal analysis provides a comparative lookat a firm's resources and
capabilities•identification of firm's strengths
•identification of firm's weaknesses
•how do these strengths and weaknesses compare to competitors
•helps a firm determine if its resources and capabilities are likely sources of competitive
advantage
•helps to establish strategies that will exploit any sources of competitive advantage
How to perform internal analysis
•internal analysis we have to do independentlyfrom external analysis
•identification of strengths/weaknesses according to functional areas (marketing,
production, finance, research, human resources ...)
•strengthsare the basis for offensivestrategies
•weaknessesare the basis for defensivestrategies
The Theory Behind Internal Analysis
The Resource-Based View (RBV)
•is a model of firm performance that focuses on the resources and capabilities controlled by
a firm as sources of competitive advantage
•main questionof this view is: Why do some firms achieve better economic performance
than others?
•assumes that a firm's resources and capabilities are the primary drivers of competitive
advantageand economic performance
Resource Based View (five step procedure for strategy formation)

Implications of the resource-based view

1. Responsibility for competitive advantage in a firm–CA is every employee's responsibility

2. Competitive parity and advantage–in gaining CA, it is better for a firm to exploit its own
valuable and rare resources of a competitor
3. Socially complex resources–teamwork, employeeempowerment, organizational culture can
be valuable, they can also be sources of sustained CA
4. Difficult to implement strategies–if cost of strategy implementation is less than the value of
strategy implementation, the relative cost of implementing a strategy is more important for
CA than the absolute cost of implementing a strategy
5. The role of the organization–organization should support the use of valuable, rare and costly
to imitate resources (change of the organization)

Parts of internal environment Resources and Capabilities

Internal analysis helps us to identify resources and capabilities.

Resources: •tangible and intangible assets of a firm

–tangible: factories, products...

–intangible: reputation, know-how...

Capabilities: •refer to corporation ́s ability to exploit resources

–marketing skills, cooperative relationships...

Resources or capabilities ?

Machinery - resources

Collective product design skill - capabilities

Recruiting skill - capabilities

Mineral deposits - resources

Brand - resources

Teamwork - capablities

Products - resources

Technical skills of individuals - capabilities

Categories of resources

•financial– include all the money from whatever source that firms use to conceive of and implement
strategies (cash, retained earnings, profit)

•physical– include all the physical technology used in a firm (plant and equipment, geographic
location, HW and SW, warehouses)

•human– include the training, experience, judgment, intelligence, relationships, and insight of
individual managers and workers in a firm

•organizational– attribute of groups and individuals (reporting structure, controlling and

coordinating system, culture, relationships)

Sources + capabilities = competencies

Competencies

1.essential competencies–minimal to stay in competitive environment

2.distinctive competencies–what company does better than rivals (unique sources, valuable sources
with high demand)

Competitive advantage

What is the difference between strengths and competitive advantage?

•strengths –possibility

•CA –reality

CA = favourable external conditions + good internal environment

•Competitive advantage results from matching core competencies to the opportunities.

Possibility to create CA depends on:

•size, variability, complexity of external change

•quantity and quality of information

•ability to react on changes

•ability to implement innovations

Models of competitive advantage

- Value chain by McKinsey and Co. (Business System Analysis):

Value chain by Porter

•helps to find, create or develop competitive advantages

•helps to understand how your business compares with competitors

Internal analysis tool

The VRIO framework

•four important questions:

- Value
- Rarity
- Imitability
- Organization

•If a firm has resources that are: valuable, rare, costly to imitate and the firm is organized to exploit
these resources, then the firm can expect to enjoy a sustained competitive advantage

Questions needed to conduct a resource-based analysis of a firm's internal strengths and

weaknesses

•The question of value –does resource enable a firm to exploit an environmental opportunity and/or
neutralize an environmental threat?

•The question of rarity –is a resource currently controlled by only a small number of competing
firms?

•The question of imitability –do firms without a resource face a cost disadvantage in obtaining or
developing it?

•The question of organization –are firm's other policies and procedures organized to support the
exploitation of its valuable, rare and costly?

The VRIO framework:

The question of value

Do resources and capabilities enable a firm to exploit and external opportunity or neutralize an
external threat?

•YES –R and C are valuable and can be considered strengths

•NO –there is nothing valuable about firm's R and C

•sometimes, the same R and C can be strengths in one market and weaknesses in another
The question of rarity

•if a resource is not rare, then perfect competition dynamics are likely to be observed (i.e., no
competitive advantage, no above normal profits)

•a resource must be rare enough that perfect competition has not set in

•thus, there may be other firms that possess the resource, but still few enough that there is scarcity

Valuable and rare

If firm’s resources are: The firm can expect:

Not valuable Competitive disadvantage
Valuable, but not rare Competitive parity
Valuable and rare Competitive advantage (at least temporary)

The question of imitability

•firms with valuable and rare resources are often strategic innovators and can have competitive
advantage

•if a firm has a competitive advantage, others will attempt to imitate it

•firm's competitors can respond to this competitive advantage in at least 2 ways:

–ignore the success

–duplicate resources to implement similar strategy

•if there are high costs of imitation, then firm may enjoy a period of sustained competitive advantage

•a sustained competitive advantage will last only until a duplicate or substitute emerges

Sources of costly imitation

•unique historical conditions –firm gains low cost access to resources because of its place (first-
mover advantages)in time and space(path dependence)–costlyto imitate

•casual ambiguity –when competitors cannot tell, for sure, what enables a firm to gain an
advantage–costlyto imitate (when a firm's advantages are based on complex sets of interrelated
capabilities)

•social complexity –when R and C a firm uses to gain an advantage involve interpersonal relationship,
trust, culture, social resources –costlyto imitate in short term

•patents –only a source of sustained competitive advantage in few industries, offer a period of
protection if the firm is able to defend its patent rights

Value, rarity and imitability

If firm’s resources are: The firm can expect:

Valuable, rare, but not costly to imitate Temporary competitive advantage
Valuable, rare and costly to imitate Sustained competitive advantage (if organized
appropriately)

The question of organization

•is a firm organized to exploit the full competitive potential of its R and C?

•how can organization exploit its R and C with itsstructure, policy and communication

•some components of a firm's organization can complement other R and C –taken together they can
help a firm achieve sustained competitive advantage

The question of organization includes:

•formal reporting structure–description of who in the organization report to whom (organizational

chart)

•management control systems–include a range of formal and informal mechanisms to ensure that
managers are behaving in ways consistent with a firm's strategies

•formal management controls–include firm's budgeting and reporting activities that keep people
higher up a firm's organizational chart informed about the actions taken by people lower down in a
firm's organizational chart

•informal management controls–might include a firm's culture and the willingness of employees to
monitor each others ́behaviour

•compensation policies–ways that firms pay employees

The relationship between the VRIO framework and organizational strengths and weaknesses

Weakness

Sttrength

Strength and
distinctive
competence

Strength and
distinctive
competence

Process of internal analysis

Benchmarking –tool of internal analysis

•process of identifying „best practice“

•allows a company to determine whether the manner in which it performs activities represent
industry best practices

•effectiveness and costs must to be take into account

•benchmark is the point of reference by which something can be measured

Application of benchmarking

1. understand in detail existing business processes

2. analyse the business processes of others

3. compare own business performance with that of others analysed

4. implement the steps necessary to close the performance gap

Benefits of benchmarking

•it ensures best practices will be identified

•it provides a deeper understanding of the organization ́s processes

•it stimulates the company to try something different

•it is a tool of improvement

6. Strategic synthesis –SWOT analysis

Strategic synthesis

•helps to connect internal and external analysis

•identification of strengths and weaknesses from internal environment

•identification of opportunities and threats from external environment

•basic method –SWOT analysis

SWOT analysis

•scan of the internal and external environment is an important part

•S strengths W weaknesses -internal

•O opportunities T threats -external

•useful technique for understanding your strengths and weaknesses, and for identifying both the
opportunities open to you and the threats you face

•SWOT analysis provides information that is helpful in matching the firm's resources and capabilities
to the competitive environment in which it operates

Strengths (S)•firm's strengths are its resources and capabilities that can be used as abasis for
developing acompetitive advantage

Weaknesses (W)•the absence of certain strengths may be viewed as aweakness

Opportunities (O)•the external environmental analysis may reveal certain new opportunities for
profit and growth

Threats (T)•changes in the external environment also may present threats to the firm

Advantages of SWOT
•beneficial tool for decision-making

•helps to understand dependencies between acompany and its environment

•other techniques influence the input factors of SWOT analysis

•it is framework fro reviewing the strategy, the position and the direction of acompany

•it derives critical success factors for competitive advantage

•it helps to increase profit potential

•provides possible strategic directions of impact that points out aprofitable way for strategy
definition

Disadvantages of SWOT

•it is afflicted with the dependency on the executor

•could depend on the personal cognition and subjective position

•the direction of impact or the SWOT profile resulting of the SWOT analysis determines its
performance and the consequences of afacile or inaccurate result

•false strategy formulation after bad SWOT analysis

•focusing on strengths and opportunities

Strategies according to SWOT

Strategy SO
•useful for company where strengths are more intensive than weaknesses and opportunities
influence stronger than threats

•company can exploit strengths for all opportunities

•offensive strategy is recommended

Strategy ST

•strategy of strong company in environment with big threats

•strong position can be used for blocking of dangers to defend position

•defensive strategy is recommended

Strategy WO

•for company with higher weaknessesin attractive environment

•company tries to improve internal abilities to exploit new opportunities

•strategy of alliance is recommended for improving internal skills and exploit opportunities with
reliable partner

Strategy WT

•for weak company in non attractive environment

•company has to leave business and try to adopt in another business where weaknesses are not so
intensive

•strategy of escape or liquidation is recommended

Simple rules for successful SWOT analysis

•Be realistic about the strengths and weaknesses of your organization when conducting SWOT
analysis.

•SWOT analysis should distinguish between where your organization is today, and where it could be
in the future.

•SWOT should always be specific.

•Always apply SWOT in relation to your competition.

•Keep your SWOT short and simple.

•SWOT is subjective.