Block 3: Internal environment analysis

Class Notes:
-Value Chain Analysis
-NB “e” in Vrine

Evaluating a firm’s internal situation:

An internal analysis examines your organization’s internal environment to assess its
resources, competencies, and competitive advantages. Internal analysis enables
managers to determine whether their strategy is likely to give the company a significant
competitive edge over rival firms and helps to identify the strengths and weaknesses of
the organization.
1) How well is the firm’s present strategy working?
2) What are the firm’s competitively important resources and capabilities?
3) Is the firm able to take advantage of market opportunities and overcome external
threats to its well-being?
4) Are the firm’s prices and costs competitive with those of key rivals, and does it have
an appealing customer value proposition?
5) Is the firm competitively stronger or weaker than key rivals?
6) What strategic issues and problems merit front-burner managerial attention?

LO.1: HOW TO TAKE STOCK OF HOW WELL A COMPANY’S STRATEGY IS WORKING?

QUESTION 1: HOW WELL IS THE FIRM’S PRESENT STRATEGY WORKING?

This step involves evaluating the strategy in terms of the company’s financial performance
and market standing. The weaker a company’s performance and/or the faster the
changes in its external environment, the more its current strategy must be questioned. The
stronger a company’s performance, the less likely the need for radical strategy changes.
The three best indicators of how well a company’s strategy is working are:
(1) Whether the company is achieving its stated financial and strategic objectives.
(2) Whether its financial performance is above the industry average.
(3) Whether it is gaining customers and increasing market share.
Specific indicators of strategic success:

 Trends in the firm’s sales and earnings growth

 Trends in the firm’s stock price
 The firm’s overall financial strength
 The firm’s customer retention rate
 The rate at which new customers are acquired.
 Evidence of improvement in internal processes such as defect rate, order fulfilment, delivery
times, days of inventory, and employee productivity.

Sluggish financial performance and second-rate market accomplishments almost always signal weak
strategy, weak execution, or both.

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 LO.2: WHY A COMPANY’S RESOURCES AND CAPABILITIES ARE CENTRALLY IMPORTANT IN
GIVING THE COMPNAY A COMPETITIVE EDGE OVER RIVALS.

QUESTION 2: WHAT ARE THE FIRM’S MOST IMPORTANT RESOURCES AND

CAPABILITIES, AND WILL THEY GIVE THE FIRM A LASTING COMPETITIVE ADVANTAGE
OVER RIVAL COMPANIES?

Competitive assets are:

• The firm’s resources and capabilities.
• The determinants of its competitiveness and ability to succeed in the marketplace.
• What a firm’s strategy depends on to develop sustainable competitive advantage over its rivals.

Resource: A competitive asset that is owned or controlled by a firm.

Capability or Competence: The capacity of a firm to perform an internal activity competently

through deployment of a firm’s resources.

A firm’s resources and capabilities represent its competitive assets and are determinants of its
competitiveness and ability to succeed in the marketplace.

Identifying the firm’s resources and capabilities:

A resource: A productive input or competitive asset that is owned or controlled by a firm (e.g., a fleet
of oil tankers).
A capability: The capacity of a firm to perform some activity proficiently (e.g., superior skills in
marketing).
Resource and capability analysis is a powerful tool for sizing up a firm’s competitive assets and
determining if they can support a sustainable competitive advantage over market rivals.
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 Resource and Capability Analysis Steps:
(1) Identifying the company’s resources and capabilities:

Types of Resources
Tangible Resources Intangible Resources
Resources that can be touched or Resources that have no material
quantified readily (most easily existence on their own (harder to discern
identified) but are often the most important of a firm’s
competitive assets)
 Physical resources: Land and real  Human assets and intellectual capital:
estate, manufacturing plants, education, experience, knowledge, and
equipment, distribution facilities, talent of the workforce, collective
location, ownership of or access rights learning embedded in the organization,
to natural resources. know-how of specialized teams,
 Financial resources: Cash and cash managerial talent, leadership skill,
equivalents, marketable securities, creativity, and innovativeness of
credit rating, borrowing capacity. personnel.
 Technological assets: Patents,  Brands, company image, and
copyrights, production technology, reputational assets: Brand names,
innovation technologies, trademarks, product or company image,
technological processes. buyer loyalty and goodwill, company
 Organizational resources: IT and reputation with suppliers and customers
communication systems, planning and  Relationships: Alliances, joint ventures,
control systems, company’s partnerships, networks of dealers or
organizational design and reporting distributors, trust established with partners
structure.  Company culture and incentive system:
Norms of behavior, business principles,
ingrained beliefs within the company,
compensation system, motivation level
of company personnel.

Identifying capabilities
An organizational capability is the intangible but observable capacity of a firm to perform a
critical activity proficiently using a related combination (cross-functional bundle) of its resources.

Is knowledge-based, residing in people and in a firm’s intellectual capital or in its organizational

processes and systems, embodying tacit knowledge. Because of their complexity, capabilities
are harder to categorize than resources and more challenging to search for as a result.

Approaches used to identify a firm’s capabilities:

 Look over the firm’s resources and consider whether and to what extent the firm has
built up any related capabilities.
 Managers must survey the various functions a firm performs to find the different
capabilities associated with each function.

A resource bundle: Linked and closely integrated set of competitive assets centered around one or
more cross functional capabilities.

(2) Assessing the competitive power of a company’s resources and capabilities:

The competitive power of a resource or capability is measured by how many of four

specific tests it can pass. These tests are referred to as the VRINE tests for sustainable

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 competitive advantage. Very few firms have resources and capabilities that can pass all
four tests, but those that do will enjoy a sustainable competitive advantage with far
greater profit potential.

The VRINE Test for sustainable competitive advantage asks if a resource is:

VRINE Test: Resources and capabilities:

Identifying the firm’s resources and capabilities by testing the competitive power of its resources and
capabilities:
● Is the resource (or capability) competitively Valuable?
● Is the resource Rare: is it something rivals lack?
● Is the resource hard to copy (Inimitable)?
● Is the resource invulnerable to the threat of substitution from different types of resources and
capabilities (No substitutable)?
● Is the COMPANY exploitable? Is the organization structured, built and able to exploit the
resources/capability?

Classifying the sustainability competitive advantage based on the resources and capabilities:

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Social complexity (company culture, interpersonal relationships among managers or R&D teams,
trust-based relations with customers or suppliers) and causal ambiguity are two factors that inhibit
the ability of rivals to imitate a firm’s most valuable resources and capabilities.

Causal ambiguity makes it very hard to figure out how a complex resource contributes to
competitive advantage and therefore exactly what to imitate.

A firm requires a dynamically evolving portfolio of resources and capabilities to sustain its
competitiveness and help drive improvements in its performance.

A dynamic capability is the ongoing capacity of a firm to modify its existing resources and
capabilities or create new ones by:
 Improving existing resources and capabilities incrementally
 Adding new resources and capabilities to the firm’s competitive asset portfolio
Managing resources and capabilities dynamically:
Threats to resources and capabilities:
►Rivals providing better substitutes over time
►Capabilities decaying from neglect
►Disruptive competitive environment change

Manage capabilities dynamically by:

 Attending to the ongoing modification of existing competitive assets.
 Taking advantage of any opportunity to develop totally new kinds of capabilities.
LO.3: HOW TO ASSESS THE COMPANY’S STRENGTHS AND WEAKNESSES IN LIGHT OF MARKET
OPPORTUNITIES AND EXTERNAL THREATS.

QUESTION 3: WHAT ARE THE FIRM’S STRENGTHS AND WEAKNESSES IN RELATION TO

MARKET OPPORTUNITIES AND EXTERNAL THREATS?

SWOT Analysis
Is a powerful tool for sizing up a firm’s:
● Internal strengths (the basis for strategy)
● Internal weaknesses (deficient capabilities)
● Market opportunities (strategic objectives)
● External threats (strategic defenses)

SWOT analysis is a simple but powerful tool for sizing up a company’s strengths and weaknesses,
its market opportunities, and the external threats to its future wellbeing.
Basing a company’s strategy on its most competitively valuable strengths gives the company its
best chance for market success.

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Identify a company’s internal strengths:
 A competence: An activity that a firm has learned to perform with proficiency- a true capability.
 A core competence: A proficiently performed internal activity that is central to a firm’s strategy
and competitiveness.
 A distinctive competence: A competitively valuable activity that a firm performs better than its
rivals.
Strengths: Something a company is good at doing or an attribute that enhances its
competitiveness in the marketplace. Represent its competitive assets which are its resources
and capabilities. Basing a company’s strategy on its most competitively valuable strengths
gives the company its best chance for market success.
Examples: Resources and capabilities that are valuable and rare; Resources and
capabilities that are hard to copy and for which there are no good substitutes;
Competencies that are well matched to industry key success factors; Financial resources to
grow the business; Strong brand-name image and/or company reputation; Economies of
scale and/or experience advantages over rivals; Cost advantages over rivals; Attractive
customer base; Superior technological skills; Strong bargaining power over suppliers or
buyers; Superior product quality; Wide geographic coverage and/or strong global presence
alliances and/or joint ventures that provide access to valuable technology, competencies,
and/ or attractive geographic markets.

Identifying a company’s weaknesses and competitive deficiencies

A weakness (competitive deficiency): Something a firm lack or does poorly (in comparison to
others) or a condition that puts it at a competitive disadvantage in the marketplace.

Types of weaknesses:
 Inferior skills, expertise, or intellectual capital
 Deficiencies in physical, organizational, or intangible assets
 Missing or competitively inferior capabilities in key areas
A firm’s strengths represent its competitive assets. A firm’s weaknesses are shortcomings that
constitute competitive liabilities.
Examples: No clear strategic vision; No well-developed or proven core competencies; No
distinctive competencies or superior resources; Lack of attention to customer needs; Product
or service features and attributes are inferior to those of rivals; Insufficient finical resources to
grow the firm; Too much debt; Narrow product line relative to rivals; Weak brand image or
reputation; Resources that are readily copied or for which there are good substitutes.

Identifying a company’s market opportunities

Characteristics of market opportunities:
 An absolute “must pursue” market: Represents much potential but is hidden in “fog of the future”.
 A marginally interesting market: Presents high risk and questionable profit potential.
 An unsuitable or mismatched market: Is best avoided as the firm’s strengths are not matched to
market factors.

Examples: Serving additional customer groups or market segments; Expanding into

geographic markets; Expanding the company’s product line to meet a broader range of
customer needs; Utilizing existing company skills or technological know-how to enter new
product lines or new businesses; Taking advantage of falling trade barriers in attractive
foreign markets; Entering into alliances or joint ventures to expand the firm’s market coverage

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or boost its competitive capability; Acquiring rival firms or companies with attractive expertise
or capabilities; Taking advantage of emerging technological developments to innovate

A company is well advised to pass on a particular market opportunity unless it has or can acquire the
competencies needed to capture it.

Identifying threats to a firm’s future profitability:

Types of threats:
● Normal course-of-business threats.
● Sudden-death (survival) threats.
Considering threats:
● Identify the threats to the firm’s prospects.
● Evaluate what strategic actions can be taken to neutralize or lessen their impact.

Examples of threats: Increased intensity of competition among industry rivals; Slowdowns in

market growth; Likely entry of new competitors; Growing bargaining power of customers or
suppliers; A shift in buyer needs and tastes away from the industry’s products and services;
Economic conditions that threaten critical suppliers or distributors; Changes in technology
that can undermine the company’s distinctive competencies; Restrictive foreign trade
policies; Costly new regulatory requirements rising prices on inputs and production costs.

Simply making lists of a company’s strengths, weaknesses, opportunities, and threats is not enough.
The payoff from SWOT analysis comes from the conclusions about a company’s situation and the
implications for strategy improvement that flow from the four lists.

SWOT analysis involves:

 Drawing conclusions from the SWOT listings about the firm’s overall situation
 Translating these conclusions into strategic actions by the firm that:
o Match its strategy to its internal strengths and to market opportunities.
o Correct important weaknesses and defend them against external threats.

The Steps Involved in SWOT Analysis:

 Identify the Four Components of SWOT.
 Draw Conclusions.
 Translate Implications into Strategic Actions

Using SWOT analysis:

 What are the attractive aspects of the firm’s situation?
 What aspects are of the most concern?
 Are the firm’s internal strengths and competitive assets sufficiently strong to enable it to
compete successfully?
 Are the firm’s weaknesses and competitive deficiencies correctable, or could they be fatal if
not remedied soon?
 Do the firm’s strengths outweigh its weaknesses by an attractive margin?
 Does the firm have attractive market opportunities that are well suited to its internal strengths?
 Does the firm lack the competitive assets (internal strengths) to pursue the most attractive
opportunities?
 Where on a scale (1 = weak; 10 = strong) do the firm’s overall situation and prospects rank?

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LO.4: HOW A COMPANY’S VALUE CHAIN ACTIVITIES CAN AFFECT THE COMPANY’S COST

QUESTION 4: HOW DO A FIRM’S VALUE CHAIN ACTIVITIES IMPACT ITS COST STRUCTURE
AND CUSTOMER VALUE PROPOSITION?
Signs of a firm’s competitive strength:
 Its prices and costs are in line with rivals.
 Its customer-value proposition is competitive and cost effective.
 Its bundled capabilities are yielding a sustainable competitive advantage.

The higher a firm’s costs are above those of close rivals, the more competitively
vulnerable it becomes.

Conversely, the greater the amount of customer value that a firm can offer profitably
relative to close rivals, the less competitively vulnerable the firm becomes.

Two analytic tools used to determine whether a company’s costs and customer value
proposition are competitive:
(1) value chain analysis
(2) benchmarking

The roles of value chain analysis and benchmarking are to develop the data for
comparing a company’s costs, activity by activity, against the costs of key rivals and to
learn which internal activities are a source of cost advantage or disadvantage.

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The concept of a company value chain:
The Value Chain:
• Identifies the inner workings of the firm’s customer value proposition and business model.
• Permits a deep look at the firm’s cost structure and its ability to profitably offer low prices.
• Reveals the emphasis that a firm place on activities that enhance differentiation and support
higher prices.
A company’s value chain identifies the primary activities and related support activities that
create customer value.
A Representative Company Value Chain:

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Comparing the value chains of rival firms:
Value chain analysis
• Facilitates a comparison, activity-by-activity, of how effectively and efficiently a firm delivers value
to its customers, relative to its competitors
The value chain analysis process:
• Segregates the firm’s operations into different types of primary and secondary activities to identify
the major components of its internal cost structure.
• Uses activity-based costing to evaluate the activities.
• Does the same for significant competitors.

Value Chain System for an entire industry:

Industry value chain
• The firm’s internal value chain
• The value chains of industry suppliers
• The value chains of channel intermediaries
Effects of the industry value chain
• Costs and margins of suppliers and channel partners can affect prices to end consumers.
• Activities of channel partners can affect industry sales volumes and customer satisfaction.

Example:

Primary Activities

• Supply chain management: Activities, costs, and assets associated with purchasing fuel,
energy, raw materials, parts and components, merchandise, and consumable items from
vendors; receiving, storing, and disseminating inputs from suppliers; inspection; and inventory
management.
• Operations: Activities, costs, and assets associated with converting inputs into final products
(production, assembly, packaging, equipment maintenance, facilities, operations, quality
assurance, environmental protection).
• Distribution: A ctivities, costs, and assets dealing with physically distributing the product to
buyers (finished goods warehousing, order processing, order picking and packing,
shipping, delivery vehicle operations, establishing and maintaining a network of
dealers and distributors).
• Sales and marketing: Activities, costs, and assets related to sales efforts, advertising and
promotion, market research and planning, and dealer/distributor support.
• Service: A ctivities, costs, and assets associated with aiding buyers, such as installation,
spare parts delivery, maintenance and repair, technical assistance, buyer inquiries,
and complaints.
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Secondary (Support) Activities
• Product research and development, technology, and systems development: Activities,
costs, and assets relating to product research and development, process R&D, process
design improvement, equipment design, computer software development,
telecommunications systems, computer-assisted design and engineering, database
capabilities, and development of computerized support systems.
• Human resource management: A ctivities, costs, and assets associated with the
recruitment, hiring, training, development, and compensation of all types of personnel;
labor relations activities; and development of knowledge-based skills and core
competencies.
• General administration: Activities, costs, and assets relating to general management,
accounting and finance, legal and regulatory affairs, safety and security, management
information systems, forming strategic alliances and collaborating with strategic partners,
and other overhead functions.

Example

Value Chain Analysis:

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Benchmarking is a potent tool for improving a company’s own internal activities that is based on
learning how other companies perform them and borrowing their “best practices.”

Using benchmarking to assess a firm’s value chain activities:

Benchmarking:
• Involves improving a firm’s internal activities based on learning from other firms’ “best practices.”
• Assesses whether the cost competitiveness and effectiveness of a firm’s value chain activities are
in line with its competitors’ activities.

Sources of benchmarking information:

• Reports, trade groups, analysts, and customers
• Visits to benchmark companies
• Data from consulting firms

Benchmarking the costs of a firm's activities against those of rivals provides hard evidence of
whether the firm is cost competitive.

Delivered-cost benchmarking in the cement industry:

• Which of the five benchmarked manufacturing and logistics costs are likely to be most affected by
fluctuating market conditions?
• Why is the collection of competitive intelligence to accurately benchmark delivered costs of such
importance in the cement industry?
• How could key data about competitors published by the PCA create a temptation for unethical
price fixing, market, or customer allocation schemes, dealing arrangements, bid rigging, or bribery
in the industry?

Strategic options for remedying a cost or value disadvantage.

Areas in the total value chain system for a firm to look for ways to improve its efficiency and
effectiveness:
• The firm’s own internal activity segments.
• The suppliers’ part of the value chain system.

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 • The forward channel portion of the value chain system.

Improving internally performed value chain activities:

• Implement best practices throughout the firm, particularly for high-cost activities.
• Eliminate cost-producing activities altogether by redesigning products and revamping the internal
value chain.
• Relocate high-cost activities to areas where they can be performed more cheaply.
• Outsource activities that can be performed by vendors or contractors more cheaply than if done
in-house.
• Invest in productivity-enhancing, cost-saving technological improvements.
• Find ways to detour around activities or items where costs are high.
• Redesign products or components to facilitate speedier and more economical manufacture or
assembly.

Improving the effectiveness of the customer value proposition and enhancing differentiation.
• Implement best practices for quality of high-value activities.
• Adopt best practices and technologies that spur innovation, improve design, and enhance
creativity.
• Implement the best practices in providing customer service.
• Reallocate resources to activities having the most impact on value for the customer and their
most important purchase criteria.
• For intermediate buyers, gain an understanding of how the activities the firm performs impact the
buyer’s value chain.
• Adopt best practices for marketing, brand management, and enhancing customer perceptions.

Improving supplier-related value chain activities:

• Pressure suppliers for lower prices. u Switch to lower-priced substitute inputs.
• Collaborate closely with suppliers to identify mutual cost-saving opportunities.
• Work with suppliers to enhance the firm’s differentiation.
• Select and retain suppliers who meet higher quality standards.
• Coordinate with suppliers to enhance design or other features desired by customers.
• Provide incentives to suppliers to meet higher quality standards and assist suppliers in their
efforts to improve.

Improving value chain activities of distribution partners:

Achieving cost-based competitiveness:
● Pressure forward channel allies to reduce their costs and markups.
● Collaborate with forward channel allies to identify win-win opportunities to reduce costs.
● Change to a more economical distribution strategy, including switching to cheaper distribution
channels.

Enhancing differentiation through activities at the forward end of the value chain system:
 Engage in cooperative advertising and promotions with forward channel allies.
 Use exclusive arrangements with downstream sellers or other mechanisms that increase their
incentives to enhance delivered customer value.
 Create and enforce standards for downstream activities and assist in training channel partners in
business practices.

Performing value chain activities with capabilities that permit the firm to either outmatch rivals on
differentiation or on costs will give the firm a competitive advantage.
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Translating proficient performance of value chain activities into competitive advantage:
(1) They can contribute to greater efficiency and lower costs relative to competitors.
(2) They can provide a basis for differentiation, so customers are willing to pay relatively
more for the company’s goods and services.

How value chain activities relate to resources and capabilities:

When companies engage in a value-creating activity, they do so by drawing on specific
company resources and capabilities.

QUESTION 5: IS THE FIRM COMPETITIVELY STRONGER OR WEAKER THAN KEY RIVALS?

Assessing the firm’s overall competitive strength

 How does the firm rank relative to competitors on each of the important factors that determine
market success?
 Does the firm have a net competitive advantage or disadvantage versus major competitors?

High-weighted competitive strength ratings signal a strong competitive position and

possession of competitive advantage; low ratings signal a weak position and competitive
disadvantage.

Steps in the competitive strength assessment process:

1. Make a list of the industry’s key success factors and measures of competitive strength or
weakness.
2. Assign weights to each competitive strength measure based on its perceived importance.
3. Score competitors on each competitive strength measure and multiply each measure by its
corresponding weight.
4. Sum the weighted strength ratings on each factor to get an overall measure of competitive
strength for each company.
5. Use overall strength ratings to draw conclusions about the company’s net competitive advantage
or disadvantage and to take specific note of areas of strength and weakness.

A company’s competitive strength scores pinpoint its strengths and weaknesses against
rivals and point directly to the kinds of offensive and defensive actions it can use to exploit its
competitive strengths and reduce its competitive vulnerabilities.

Strategic implications of competitive strength assessment.

 The higher a firm’s overall weighted strength rating, the stronger its overall competitiveness
versus rivals.
 The rating score indicates the total net competitive advantage for a firm relative to other firms.
 Firms with highly competitive strength scores are targets for benchmarking.
 The ratings show how a firm compares against rivals, factor by factor (or capability by capability).
 Strength scores can be useful in deciding what strategic moves to make.

Example:
key success importance ABC company RIVAL 1 RIVAL 2
factor weight strength weighted strength weighted strength weighted
rating score rating score rating score
quality/ 0.10 8 0.80 5 0.50 1 0.10
product
performance

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 reputation/ 0.10 8 0.80 7 0.70 1 0.10
image
manufacturing 0.10 2 0.20 1 1.00 5 0.50
capability 0
technological 0.05 10 0.50 1 0.05 3 0.15
skills
dealer 0.05 9 0.45 4 0.20 5 0.25
network/
distribution
capability
new product 0.05 9 0.45 4 0.20 5 0.25
innovation
capability
financial 0.10 5 0.50 1 1.00 3 0.30
resources 0
relative cost 0.30 5 1.50 1 3.00 1 0.30
position 0
customer 0.15 5 0.75 7 1.05 1 0.15
service
capabilities
overall 1.00 5.95 7.70 2.10
weighted
competitive
strength rating

QUESTION 6: WHAT STRATEGIC ISSUES AND PROBLEMS MERIT FRONT-BURNER

MANAGERIAL ATTENTION

The final step focusses on the strategic issues and problems that stand in the way of the
company’s success. It involves using the results of industry analysis as well as resource and
value chain analysis of the company’s situation to identify a priority list of issues to be
resolved for the company to be financially and competitively successful in the years ahead.

Strategic priority “how to” issues

● How to meet challenges of new foreign competitors.
● How to combat the price discounting of rivals.
● How to both reduce high costs and prepare for price reductions.
● How to sustain growth as buyer demand slows.
● How to adapt to the changing demographics of the firm’s customer base.

Compiling a list of problems and roadblocks creates a strategic agenda of problems that merit prompt
managerial attention.

Strategic priority “should we” issues

 Expand rapidly or cautiously into foreign markets?
 Reposition the firm to move to a different strategic group?
 Counter increasing buyer interest in substitute products?
 Expanding the firm’s product line?
 Correct the firm’s competitive deficiencies by acquiring a rival firm with the missing strengths?

A good strategy must contain ways to deal with all the strategic issues and obstacles that
stand in the way of the company’s financial and competitive success in the years ahead.
Summaries from class slides, and textbook “Strategy Management, Custom Edition for University of
Pretoria (2020 Edition) Arthur Thompson, 2020e.”
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