Chapter 3

Internal Analysis: Resources and

Competitive Advantages
Why, within a particular industry or market, do
some companies outperform others?
Internal analysis is a three-step process:

First, managers must understand the role of rare, valuable, and hard-to-imitate
resources in the establishment of competitive advantage.

Second, they must appreciate how such resources lead to superior efficiency,
innovation, quality, and customer responsiveness.

Third, they must be able to analyze the sources of their company’s competitive
advantage to identify what drives the profitability of their enterprise, and just
as importantly, where opportunities for improvement might lie. In other words,
they must be able to identify how the strengths of the enterprise boost its
profitability and how its weaknesses result in lower profitability.
Competitive Advantage

▪ A company has a competitive advantage over its rivals when its

profitability is greater than the average profitability of all companies in
its industry.

▪ It has a sustained competitive advantage when it is able to maintain

above-average profitability over a number of years (as Southwest has
done in the airline industry).

▪ The primary objective of strategy is to achieve a sustained competitive

advantage, which in turn results in superior profitability and profit
growth.
 What are the sources of competitive
advantage, and what is the link between
strategy, competitive advantage, and
profitability?
 The Roots of Competitive Advantage
❖ Distinctive Competencies
• A firm’s profitability is greater than the average profitability for all firms
in its industry due to cost leadership or product differentiation.
❖ Resources
• Company specific advantages of tangible (like equipment) and
intangible (like belongingness)
❖ Capabilities
• Capabilities refer to a company’s skills at coordinating its resources
and putting them in productive use. It refers to internal rules, routines
and procedures to achieve the goals; like demand creation,
❖ Sustained Competitive Advantage
• A firm maintains above average and superior profitability and profit
growth for a number of years.

The Primary Objective of Strategy is to achieve a Sustained

Competitive Advantage which in turn results in Superior Profit and
Profit Growth.
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Distinctive Competencies
Distinctive competencies are firm-specific strengths that allow a company to
differentiate its products from those offered by rivals and/or achieve
substantially lower costs than its rivals.

Apple, for example, has a distinctive competence in design. Customers want to own the
beautiful devices that Apple markets.

Similarly, it can be argued that Toyota, which historically has been the standout
performer in the automobile industry, has distinctive competencies in the development
and operation of manufacturing processes. Toyota pioneered an entire range of
manufacturing techniques such as just-in-time inventory systems, self-managing teams,
and reduced setup times for complex equipment. These competencies, collectively
known as the “Toyota lean production system,” helped the company attain superior
efficiency and product quality as the basis of its competitive advantage in the global
automobile industry
Resources
Resources refer to the factors of production that a company uses to transform inputs into
outputs that it can sell in the marketplace. Resources include basic factors of production such
as labor, land, management, physical plant, and equipment.

Advanced factors of production

• process knowledge Knowledge of the internal rules, routines, and procedures of an
organization that managers can leverage to achieve organizational objectives. Process
knowledge is accumulated by the organization over time and through experience.
• socially complex Something that is characterized by, or is the outcome of, the
interaction of multiple individuals.
• tacit A characteristic of knowledge or skills such that they cannot be documented or
codified but may be understood through experience or intuition.
• organizational architecture The combination of the organizational structure of a
company, its control systems, its incentive systems, its organizational culture, and its
human capital strategy
• intellectual property Knowledge, research, and information that is owned by
an individual or organization.
For example, Coca-Cola has been very successful over a prolonged period in the
carbonated beverage business. Coke’s factors of production include not just labor,
land, management, plants, and equipment, but also the process knowledge about
how to develop, produce, and sell carbonated beverages. Coke is in fact a very
strong marketing company—it really knows how to sell its product. Furthermore,
Coke has an organizational architecture that enables it to manage its functional
process well. Coke also has valuable intellectual property such as the recipes for
its leading beverages (which Coke keeps secret) and its brand, which is protected
from imitation by trademark law.
 Resource Quality: The VRIO Framework

A framework managers use to determine the quality of a company’s resources,

where V is value, R is rarity, I is inimitability, and O is for organization

First, are the company’s resources valuable in the sense that they enable the enterprise
to exploit opportunities and counter threats in the external environment?

For example, Apple’s product-design skills constitute a valuable resource that has helped
the company exploit opportunities to develop new product categories in the computer
device industry with its touch screen iPhone and iPad offerings.

At the same time, those skills have also enabled Apple to keep rivals at bay, thereby
countering threats. More generally, resources can be judged as valuable if they
(a) enable a company to create strong demand for its products, and/or
(b) lower the costs of producing those products.
Second, are those resources rare? If they are not rare and rivals also have access to them,
by definition they cannot be a source of competitive advantage. For a company to gain a
competitive advantage, it must have some resource that is superior to that possessed by its
rivals. It cannot be a commodity; it must be uncommon. Thus, the process knowledge that
underlies Apple’s design skills is rare; no other enterprise in its industry has a similar,
high-quality skill set.

Third, are the valuable and rare resources of the company inimitable? Put differently, are
they easy or hard to copy? If they are easy to copy, rivals will quickly do so, and the
company’s competitive advantage will erode. However, if those resources are hard to
copy—if they are inimitable–the company’s competitive advantage is more likely to be
sustainable. Apple’s design skills appear to be difficult to imitate.
Fourth, is the company organized and managed in a way that enables it to exploit its rare,
valuable, and inimitable resources and capture the value they produce? In other words,
does the firm have the broader organizational architecture required to make the most out
of its unique strengths? Apple has been successful not just because of its design skills, but
because those skills reside within an organization that is well managed and has the
capability to take superbly designed products, produce them efficiently, and market and
distribute them to customers. Without the correct organization and management systems,
even firms with valuable, rare, inimitable resource will be at a competitive disadvantage.
Resources and Sustained Competitive Advantage

Which valuable resources are most likely to result in a long-term, sustainable

competitive advantage?

The quick answer is process knowledge, organizational architecture, and

intellectual property. As we shall argue below, these resources or advanced factors
of production are more likely to be rare and are in general more difficult for rivals
to imitate.
Rare Resource

Barriers to Imitation
 McDonald’s Competitive Advantages
❖ Started in 1955 it has grown into the biggest restaurant chain. Success formula:
• Give consumer value for money
• Good quick service
• Consistent quality in good environment
• High employee productivity due to standardized process
• Close ties with wholesalers and food producers, and managing supply chain
to reduce cost
• As it become larger its buying power enabled it to realize economies of scale,
and pass on cost savings to customers in the low priced meals
❖ It worked fine in 1990s and early 2000s. Then it was under attack of health
consciousness. By 2002 sales were stagnating, and profits were falling. So there
was a corporate makeover like:
• Top management changed
• Unlike before it introduced healthier food like salad and apple slice etc.
• Did research to observe that consumer preference changes from beef to
chicken and acted accordingly
• Another emphasis was on beverages, in line with the success of Starbucks.
Fast and good coffee was a focus. Price control was never undermined..
• The next change is in design. The aging design being replaced by wide
screen TV and Wi-Fi connection.
❖ The change was successful: From 2002 to 2008 net profit increased from $1.7
billion to $4 billion, Sales revenue increased from $15.4 billion to $24 billion.
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