CH-3 Assessing the Internal Environment of the Firm – Strategic Management: Creating Competitive Advantages : Book Guide

Chapter 3 Assessing the Internal Environment of the Firm Summary/Objectives The purpose of this chapter is to help students understand the importance of the internal environment of the firm. Chapter 2 focused on assessing the external environment; we turn our attention in this chapter to managing value creating activities within the company. Introduce the chapter by reminding students of the limitations of SWOT analysis mentioned in Chapter 2. SWOT analysis was suggested as a starting point for analysis, but not an ending destination. This chapter adds value chain analysis, the resource based view of the firm, and the balanced scorecard as methods for analyzing the firm’s internal environment. The chapter is organized into three sections. 1. Value Chain Analysis: The firm’s activities are divided into a series of value-creating steps. Both individual activities as well as the interrelationships among activities within the firm—and between the firm and its suppliers, customers, and alliance partners--add value to the firm. 2. Resource based view of the firm: We analyze the firm as a collection of tangible and intangible resources and organizational capabilities. The key to the sustainability of advantages is the creation of bundles of activities that satisfy four criteria: rare, valuable, difficult to imitate, and difficult to substitute. We also discuss how value can be appropriated by an organization’s stakeholders, such as employees. 3. Two approaches to evaluating firm performance: We emphasize both the inclusion of the analysis of financial resources as well as the interests of multiple stakeholders. Central to our discussion is Kaplan and Norton’s concepts of the “balanced scorecard.” Lecture/Discussion Outline We begin the chapter with the example of the Smart car—a pocket-sized two seater, high efficiency vehicle made with cutting-edge materials. It is a case where a firm (Daimler Benz) correctly identified trends in the urban environment (urbanization, traffic congestion, high gas prices, desire by consumers to have a car with a small ecological footprint). However, the car was unsuccessful because of problems associated with many value chain activities (e.g., R&D, marketing and sales, etc.). Ask:  Discussion Question 1: Why didn’t Smart work out in the United States market? Response guidelines: According to the vignette, the reasons for Smart’s demise were the competition, lack of a back seat, and safety concerns. Competitors were able to exploit the market opportunity better than the Smart with vehicles that were cheaper and better. These competitors had back seats, which increased safety, and other features similar to the Smart. The competitors’ offered their cars at a lower price. Students should understand that Smart did a good job of detecting relevant trends in the environment and developed a product that met those needs. The problem was that competitors did a better job. Answer: Smart's failure in the U.S. market stemmed from its inability to appeal to American consumers' preference for larger vehicles, limited brand recognition, and inadequate dealer support and infrastructure.  Discussion Question 2: Have they missed their opportunity or can they build a viable market position? Response guidelines: This question should intrigue students. It puts them in the place of a strategy manager. There is no right or wrong position, but the class dialogue could include the following points. For missing the opportunity, students could mention that: • Competitors have developed superior products and have leveraged their positions with first mover advantages. They have erected costly barriers that Smart would have to surmount in order to catch up. • The Mercedes-Benz brand image is one of prestige and quality among high-end consumers. Smart is not necessarily a product for high-end consumers and it is probably not a prestige good. So there is a potential misfit between the Mercedes-Benz brand image and Smart. • The market segment may stagnate or even decline in the future. For building a viable market position, students could mention that: • Smart has developed a competitive product and has the technology, production capacity, and distribution channels for competing in the industry. • Smart could address the deficiencies of its design, such as adding a back seat, at a reasonable cost. • The market segment may grow in the future, so Mercedes-Benz may find it worthwhile to make a strategic investment in the market segment. A critical point in the debate may be the future of the market segment. It may be useful to ask students the type of car they are likely to buy over the course of their lives. Note the percent who are considering buying an inexpensive mini car. Ask what they think their friends will buy. This discussion of buying habits makes the issue real to them, and allows them to begin thinking about the process of forecasting market demand. Prior to moving on to value chain analysis, discuss STRATEGY SPOTLIGHT 3.1. It highlights the advantages and limitations of SWOT analysis. We revisit the failed firm – ProCD (from Chapter 2) that entered the electronic telephone directory business with high hopes. This is a useful example to further reinforce the need to “go beyond” SWOT analysis and the need for value chain analysis in analyzing the internal environment of the firm. Answer: Smart has not necessarily missed its opportunity; by adapting its marketing strategy, enhancing vehicle features, and addressing consumer preferences for sustainability and urban mobility, it could potentially build a viable market position. I. Value Chain Analysis Value chain analysis views the organization as a sequential process of value-creating activities. Such an approach is very useful for understanding the building blocks of competitive advantage. In competitive terms, value is the amount that buyers are willing to pay for what a firm provides for them. And, a firm is profitable to the extent that the value that it receives exceeds the total costs involved in creating the product or service. Value chain analysis is described in Michael Porter’s seminal book, Competitive Advantage. EXHIBIT 3.1 illustrates Porter’s value chain — which consists of both primary and support activities.  Discussion Question 3: What changes in the value chain would be necessary if the CEO of a manufacturing firm decided to dramatically improve the delivery time of his or her products? Answer: To dramatically improve delivery time, the CEO would need to streamline the value chain by optimizing production processes, enhancing supplier coordination, and improving logistics and inventory management. Implementing advanced technologies like real-time tracking and automation, and possibly reconfiguring distribution networks for faster shipping, would also be essential. Discussion Question 4: What are some examples of organizations that perform “very well” or “very poorly” with respect to the items in this exhibit? Answer: Amazon excels at rapid delivery due to its advanced logistics and fulfillment networks. Walmart performs well with efficient supply chain management and inventory practices. In contrast, JC Penney has struggled with slow inventory turnover and inefficient distribution, affecting its delivery performance negatively. Point out that when using value chain analysis one needs to view the concept in its broadest context, i.e., without regard to the boundaries of a given organization. That is, include suppliers, customers, and alliance partners. The balance of this section will address primary activities, support activities, and the importance of relationships among activities — both inside and outside the boundaries of a firm. A. Primary Activities There are five categories of primary activities in an organization that is competing within any industry. These are included in EXHIBIT 3.2 — along with examples of each activity.  Discussion Question 5: What are some examples of firms with which you are familiar that are successful (or unsuccessful) in each of the primary activities? Why? Answer: Successful Examples: • Amazon: Excels in logistics with its advanced fulfillment centers and quick delivery network. • Apple: Performs exceptionally in operations by maintaining high-quality production and supply chain management. • Nike: Effective in marketing through strong brand positioning and innovative advertising campaigns. Unsuccessful Examples: • Toys “R” Us: Struggled with inbound logistics and operations due to supply chain inefficiencies and competition from online retailers. • Kodak: Fell short in innovation and R&D, failing to adapt to digital photography trends and losing market share. Now, we will address each of the five primary activities. 1. Inbound Logistics Inbound logistics are associated with the receiving, storing, and distributing of inputs to the product. It includes material handling, warehousing, inventory control, vehicle scheduling, and returns to suppliers. We provide the example of Toyota’s exemplary use of JIT inventory systems — in which parts deliveries arrive at its assembly plants only hours before they are used.  Discussion Question 6: How does this JIT system help Toyota to enhance its competitive advantages? Answer: Toyota's Just-In-Time (JIT) system enhances its competitive advantages by minimizing inventory costs and reducing waste, which leads to lower production costs. By producing only what is needed, when it's needed, Toyota can quickly respond to market changes and customer demands. This agility, coupled with high-quality standards, enables Toyota to maintain efficiency and deliver superior value, reinforcing its market position and profitability. The SUPPLEMENT below illustrates how Weyerhaeuser was able to enhance its competitive advantages by improving its customers’ inbound logistics. 2. Operations Operations include all activities associated with transforming the final product form, such as machining, assembly, equipment, testing, printing, and facility operations. We discuss how Shaw Industries (now part of Berkshire Hathaway), the world’s largest carpet manufacturer, became known for its strong concern about the natural environment. They have received numerous awards for their recycling efforts.  Discussion Question 7: What other companies are you aware of that have distinguished themselves by becoming known for their concern about the natural environment? Answer: Companies known for their environmental concern include Patagonia, which emphasizes sustainable sourcing and eco-friendly products, and Tesla, which focuses on reducing carbon emissions through electric vehicles and renewable energy solutions. Discussion Question 8: What automobile firms do you feel have been most successful in sustaining a “green” strategy? Why? Answer: Toyota has been successful with its "green" strategy through its pioneering hybrid technology in the Prius and ongoing development of hydrogen fuel cell vehicles. Tesla also excels with its commitment to electric vehicles and sustainable energy products, positioning itself as a leader in reducing automotive emissions. 3. Outbound Logistics The activities of outbound logistics are associated with the collecting, storing, and distributing the product or service to buyers. They include finished goods warehousing, material handling, delivery vehicle operations, order processing, and scheduling. Our example is the use of electronic data interchange (EDI) for Campbell Soup, whereby Campbell has forged close links with their customers to both forecast future demand as well as determine what products require replenishment.  Discussion Question 9: How does the use of EDI help Campbell Soup to enhance their competitive advantages in the marketplace? (Drawing on our discussion from Chapter 2, mention that it also increases their customers’ switching costs.) Answer: Electronic Data Interchange (EDI) helps Campbell Soup enhance competitive advantages by streamlining its supply chain processes, improving order accuracy, and reducing lead times. EDI allows for real-time data exchange with suppliers and retailers, optimizing inventory management and reducing operational costs. Additionally, it strengthens customer relationships by offering efficient and reliable service, increasing customers' switching costs and fostering long-term loyalty due to the integrated and smooth operational experience. In the following SUPPLEMENT we outline some well recognized as well as several less obvious threats to the world’s logistics systems. While the increased costs due to higher oil prices are obvious, costs resulting from increased congestion on roadways, which lead to higher fuel consumption or to idle factories awaiting deliveries of raw materials, is less obvious.  Extra Example: The Threat of Global Gridlock Many firms, operating in the durable goods as well as the retail industries, have designed and implemented their sourcing, manufacturing, distribution, and retail networks within the last few decades, when logistics costs steadily declined. This was due in part to improved roads and rail transport, allowing firms to produce in low-cost locations nationally, and then internationally, in countries such as China. However, as the supply and distribution chains became more complex, companies realized that increased logistics costs could reduce or even eliminate the benefits of manufacturing where labor is cheap. The congestion and bottlenecks of a transportation system strained beyond capacity compound the problem, making supply chains seem even longer and more unpredictable. While some of the logistics costs, such as rising fuel prices, are obvious, not so obvious are those presented by an overtaxed transportation system, such as the increased fuel costs due to trucks being stuck in stop-and-go traffic while traveling the same distance in a longer period of time. Other unpredictable costs can be due to irregular supply deliveries for factories, which could result in infrastructure underutilization when parts are delayed, as well as overutilization when they do arrive, therefore raising the overall costs. In certain industries, such as fashion retailing, which experience rapid changes in consumer demands, an erratic supply chain could lead to both overstocks leading to mark downs, as well as stock-outs, resulting in loss of immediate sales that may never be recouped. Many companies are not aware of the magnitude of these indirect costs. But once the combined expense of carrying a lot of inventory in the supply chain, suboptimal factory utilization, and overstocks and stock-outs is added into the equation, what appeared to be a healthy profit may actually turn out to be a loss. The infrastructure crisis, by exacerbating the problems of transport time and variability, will contribute significantly to those indirect costs, which will increasingly counteract the gains companies seek from cost-cutting efforts, such as layoffs. Source: Stalk, G. Jr. 2009. The threat of global gridlock. Harvard Business Review. 88(7): 126.  Discussion Question 10: What can companies do to counteract some of the logistics problems mentioned? Answer: Companies can counteract logistics problems by investing in advanced supply chain technologies, such as real-time tracking and predictive analytics, to enhance visibility and responsiveness. Diversifying suppliers, optimizing inventory management, and developing more flexible logistics networks can also help mitigate disruptions. Discussion Question 11: What types of companies are more affected by the global logistic gridlock? Why? Answer: Retailers and manufacturers are more affected by global logistic gridlock due to their reliance on complex, international supply chains for raw materials and finished goods. Industries with high inventory turnover or just-in-time production models, like electronics and automotive, face significant disruptions from delays and bottlenecks in logistics. 4. Marketing and Sales Marketing and sales activities are associated with purchases of products and services by end users and the inducements to get them to make purchases. They include advertising, promotion, sales force, quoting, channel selection, channel relations, and pricing. We provide the example of BMW’s effective use of product placement in the film, Mission Impossible: Ghost Protocol. The SUPPLEMENT below provides some additional information on BMW’s product placement in the film, Mission Impossible: Ghost Protocol. It may be of particular interest to students for two obvious reasons—the cars and the film! Before discussing the information below with your class, Ask:  Discussion Question 12: How does BMW benefits from such product placement? Answer: BMW benefits from product placement by increasing brand visibility and associating its vehicles with desirable lifestyles and high-profile events. Placement in movies, TV shows, and popular media helps reinforce the brand’s image as a luxury and performance-oriented choice. This exposure not only enhances brand prestige but also reaches target audiences in a contextually relevant manner, driving brand preference and consumer interest.  Extra Example: BMW’s Effective Use of Product Placement BMW is hoping that its participation in the fourth installment of the Mission: Impossible franchise, which has averaged 1.1 billion viewers per film, could help widen its lead over Audi. Forecaster HIS Automotive predicts that BMW sales will increase 39 percent by 2015 to 1.86 million vehicles, 170,000 more than Audi. “Such blockbuster placements are scarce, and BMW is as integrated into the movie as Tom Cruise,” says Jean-Marc Lehu, author of the book Branded Entertainment. “It’s a win for the brand.” BMW’s role, its first in a big-budget film since a Z8 roadster was destroyed in the 1999 James Bond feature The World is not Enough, is a reminder that Hollywood is not a mandatory destination for marketers. With DVRs and on-demand programs, allowing consumers to skip television ads, become part of the content is key for brands to get noticed. “The consumer today is in charge of where and how they consume content,” says Rube Igielko-Herrlich, founding partner of Propaganda GEM. “Companies are realizing the value of being where their consumers are.” Source: Reiter, C. 2011. BMW gets its close-up, and Audi’s expense. Bloomberg BusinessWeek. December 19-25: 24-25. STRATEGY SPOTLIGHT 3.2 addresses how Frito-Lay has effectively used crowdsourcing to get several award-winning Super Bowl ads. (Students, of course, will likely be very interested in this Spotlight.) You might ask them if other firms could benefit from crowdsourcing for Super Bowl ads. The SUPPLEMENT below points out how Harley Davidson, a brand traditionally targeted at males, is offering new products customized for females. To support this new product launch the company engaged in an aggressive marketing campaign and held women-only presentations in its dealerships nationwide.  Extra Example: Harley Shows its Feminine Side With motorcycle sales in a slump, Harley-Davidson is boosting its efforts to attract more female riders. To help attract women, in 2008, Harley hired Marissa Miller, who modeled for Victoria’s Secret and Sports Illustrated’s swimsuit edition, as a spokesperson. In addition to appealing to men, Miller, whose riding skills can be seen on YouTube, helps Harley draw female riders. Harley and its dealers are also working to overcome some women’s apprehension about safety. A few evenings a year, many of Harley’s 650 U.S. dealers close their stores to men and hold women-only parties where staffers try to demystify a 700-pound motorcycle. The company held about 500 such events in March of 2010, attracting 27,000 women, 11,000 of whom were in a Harley dealership for the first time. The company says it sold 3,000 bikes from the events that month. Source: Clothier, M. 2010. Harley shows its feminine side. Bloomberg Businessweek. October 4: 26.  Discussion Question 13: While such actions might increase the company’s customer base do they risk alienating some of its male customers, who represent the loyal base? Why/why not? Answer: While targeting new customer segments can expand a company's base, it risks alienating loyal male customers if the brand’s messaging or product design shifts too dramatically. If changes are perceived as too focused on appealing to new demographics at the expense of core customers, it could create a sense of exclusion among the existing loyal base. Discussion Question 14: Given the amounts spent in marketing activities to attract female riders is there a risk that the firm had not properly identified female riders as a viable customer segment? Answer: If significant marketing investments are made to attract female riders, but the segment does not respond as expected, it might indicate that the firm did not fully understand or address the specific needs and preferences of female riders, risking misalignment with a viable market segment. Discussion Question 15: Besides painting the bikes in colors appealing to women how else might Harley customize the bikes to appeal to women? Answer: To appeal to women, Harley could offer customizable features like adjustable seat heights, ergonomic handlebars, and a range of accessories designed for different riding styles and preferences. They could also provide more inclusive marketing campaigns, showcase female riders in their promotions, and enhance customer support tailored to diverse rider needs. 5. Service This includes all activities associated with providing service to enhance the value of products such as installation, repair, training, parts supply, and product adjustment. We discuss the importance of service for Internet-based retailers (e-tailers). In particular, we discuss the exemplar examples of Sephora.com and a more established, traditional retailer, Nordstrom’s.  Discussion Question 16: What has your experience been with customer service when patronizing Internet firms? How can/should it be improved? Answer: Experience with customer service when patronizing Internet firms can vary widely. Positive experiences often include quick response times and effective problem resolution, while negative experiences may involve long wait times and unhelpful support. To improve, firms should invest in user-friendly support channels such as live chat, ensure prompt and effective responses, and provide clear self-service options like FAQs and troubleshooting guides. Enhanced personalization and follow-up after resolution can also boost customer satisfaction. B. Support Activities Support activities in the value chain are involved with competing in any industry and can be divided into four generic categories, as shown in EXHIBIT 3.3.  Discussion Question 17: What firms are you familiar with that excel in some of the items included in Exhibit 3.3? How does such excellence enhance their competitive position in their industry? How hard would it be for competitors to copy? Answer: Amazon excels in order fulfillment and customer service with its fast delivery and efficient logistics, enhancing its competitive position through superior convenience and reliability. Apple stands out in product innovation and brand loyalty, strengthening its market position with cutting-edge technology and a strong brand image. While competitors can attempt to replicate these practices, the deep integration of Amazon’s logistics and Apple’s innovation culture is challenging to copy due to significant investment and entrenched systems. We will now discuss each of the four support activities. 1. Procurement Procurement refers to the function of purchasing inputs used in a firm’s value chain, not the purchased inputs themselves. Purchased inputs include raw materials, supplies, and other consumable items as well as such assets as machinery, laboratory equipment, office buildings, and buildings. We discuss the example of how Microsoft improved their procurement operations by providing formal reviews of its suppliers. The example points out the value of constructive feedback and evaluation.  Discussion Question 18: What are some of the benefits of such evaluation for both Microsoft and its suppliers? Answer: Evaluating supplier performance offers Microsoft several benefits, including improved supply chain efficiency, enhanced product quality, and stronger collaboration. For suppliers, it provides clear expectations, opportunities for performance improvement, and stronger alignment with Microsoft's strategic goals. This mutual evaluation fosters better communication, helps identify potential issues early, and can lead to long-term, more reliable partnerships, benefiting both parties in achieving their objectives. STRATEGY SPOTLIGHT 3.3 points out how a company’s supply chain network can lead to lower costs for its final customers because of a more efficient utilization of company resources. By centralizing purchases and having unified negotiations with suppliers, LG was able to lower its costs and pass on some of the savings to consumers.  Discussion Question 19: Would centralizing purchasing reduce subsidiaries’ flexibility? Why/why not? Answer: Centralizing purchasing can reduce subsidiaries’ flexibility by standardizing procurement processes and limiting local decision-making. While it can drive cost savings and consistency, it may also hinder the ability of subsidiaries to respond quickly to local market conditions and unique needs, impacting their operational agility and responsiveness. Discussion Question 20: Could aggressive cost cutting in purchasing have negative effects? Can you think of some scenarios? Answer: Aggressive cost cutting in purchasing can negatively affect quality, supplier relationships, and overall operational efficiency. For example, it might lead to sourcing lower-quality materials, causing product defects, or strain relationships with key suppliers, potentially resulting in supply chain disruptions and reduced support. 2. Technology Development Every value activity embodies technology. The array of technologies employed in most firms is very broad, ranging from technologies used to prepare documents and transport goods to those embodied in processes and equipment or the product itself. Technology that is related to the product and its features supports the entire value chain, while other technology development is associated with particular primary or support activities. We discuss some of the innovations in products and services that promise to emerge from the 2000 merger of Allied Signal and Honeywell. These include innovations in performance materials and control systems.  Discussion Question 21: What are some of the most important technological innovations? Are there possible “downsides”? Why? Why not? Answer: Important technological innovations include artificial intelligence (AI), which enhances data analysis and automation; blockchain, which improves security and transparency; and renewable energy technologies, which support sustainability. Downsides include potential job displacement due to automation, privacy concerns with AI and blockchain, and the high costs of transitioning to renewable energy. These technologies, while transformative, can also exacerbate inequalities and create challenges in adaptation and ethical use. The SUPPLEMENT below describes how Hewlett-Packard (HP) uses its innovative quantitative approach to R&D.  Discussion Question 22: What are some of the benefits of such analysis? (e.g, better utilization of resources, less political behavior/gamesmanship, etc.) Answer: Analysis offers several benefits, including better resource utilization by identifying inefficiencies and optimizing allocation, and reduced political behavior by providing objective data that minimizes personal biases and power plays. It also enhances strategic decision-making by providing insights that lead to more informed choices and improved accountability by setting clear benchmarks and performance metrics. These factors contribute to overall organizational effectiveness and transparency. 3. Human Resource Management Human resource management consists of activities involved in the recruiting, hiring, training, development, and compensation of all types of personnel. It supports both individual primary and support activities (e.g., hiring of engineers and scientists) and the entire value chain (e.g., negotiations with labor unions). In this section, we address JetBlue Airways’ innovative “family friendly” initiative and Jeffrey Immelt’s (GE’s chairman) perspective on effective human resource management.  Discussion Question 23: What are the advantages of JetBlue Airways’ innovative approach to human resource management? Could this type of program be used at companies with which you are familiar? Why? Why not? Answer: JetBlue Airways benefits from its innovative HR approach by fostering a strong, positive company culture, enhancing employee satisfaction, and improving retention. Their focus on employee engagement and empowerment leads to better customer service and operational efficiency. Such a program could be adapted to other companies by emphasizing cultural fit, communication, and employee recognition. However, it may require adjustments based on industry-specific needs and organizational structure, as not all companies may have the same resources or operational contexts. The SUPPLEMENT below provides a unique approach to individual performance evaluations: eliminate the metrics! The SUPPLEMENT below discusses a rather unique approach to individual performance evaluation—eliminate the metrics! Performance evaluation is an important activity of human resource management.  Extra Example: Can eliminating metrics in performance evaluation actually work? ITT China President William Taylor wanted to know why employee turnover was so high in the Shanghai sales office. The local manager knew the answer. If the sales manager gave workers an average “3” on the 1-5 performance scale, they’d soon stop talking to him and, in some cases, quit shortly thereafter. The manager lamented: “They’re losing face in the organization. It would be great if we could do something about the scores.” Comments like that popped up around the world. For example, in southern Europe, the focus on individual performance didn’t sit well with the region’s more “collective ethos,” claimed James Duncan, director of ITT’s talent development. And, in Scandinavia, where there’s more of “a sense of equality between bosses and workers,” says Duncan, some workers asked, “What gives you the right to rate me a 3?” That led to ITT to make the radical decision to ditch performance ratings altogether. Most employees, who still require a detailed evaluation, cheered the changes. In one of the ITT plants in Shenyang, China, the new system has helped to cut the plant’s attribution rate in half. The change isn’t as poplar in the U.S., where some metrics-loving engineers in the defense business remain attached to the old rankings. Still, most people have come around. Says Duncan, “It’s not just Asia and Europe.” No matter what culture you are from, everyone “likes the fact that they’re treated like an adult in this discussion.” Source: McGregor, J. 2008. Case study: To adapt, ITT lets go of unpopular ratings. BusinessWeek. January 28: 46.  Discussion Question 24: Could this approach be used at other organizations? Why? Why not? Note: This should spur some interesting debate. Perhaps you could pick two students to take the “pro” and “con” positions. Answer: Pro: Adopting JetBlue’s HR approach in other organizations can enhance employee satisfaction, foster a positive work environment, and improve overall performance. The emphasis on engagement and empowerment can drive productivity and customer service excellence. Con: However, not all organizations might find this approach suitable due to different industry demands, organizational cultures, or resource constraints. Implementing such a program may require significant changes and investment, which might not align with every company's goals or capabilities. Teaching Tip: While discussing the various support activities, ask those students who have some work experience (or organizations they are familiar with) whether or not the Human Resource Management function at their organization was well integrated with other value-creating activities such as operations, marketing, and procurement. Then you can address the issue of whether or not such relationships help to create value for the organization. (Interestingly, some students may point out that there were indeed interactions, but these actually were negative and bureaucratic in nature and eroded value.) 4. General Administration General Administration consists of a number of activities, including general management, planning, finance, accounting, legal, government affairs, quality management, and information systems. General administration (unlike other support activities) typically supports the entire value chain and not individual activities. This section addresses how general administration can be used as a source of competitive advantages — not merely as “overhead expenses.” We provide examples of the symbolic leadership of CEOs such as Herb Kelleher, Andrew Grove, and Jack Welch. STRATEGY SPOTLIGHT 3.4 discusses how CarMax has uses its proprietary information system to enhance its competitive advantage. The SUPPLEMENT below provides another example of how a firm has used its IT very effectively. Here, Tesco, a large UK-based retailer, has used its Clubcard program to increase its regular customers’ loyalty and revenue via coupons that are carefully targeted.  Extra Example: Tesco’s Clubcard Program UK-based retailer Tesco has focused its strategy on increasing sales to regular customers and enhancing loyalty with targeted coupon offers delivered through its Clubcard program. Tesco uses Clubcard to track which stores customers visit, what they buy, and how they pay. This has enabled the retailer to adjust merchandise for local tastes and to customize offerings at the individual level across a variety of store formats, from hypermarts to neighborhood shops. For example, Clubcard shoppers who buy diapers for the first time at a Tesco store are mailed coupons not only for baby wipes and toys but also for beer. (Data analysis revealed that new fathers tend to buy more beer, because they are spending less time at the pub!) More recently, Tsco has experimented with “flash sales” that as much as triple the redemption value of certain Clubcard coupons—in essence making things even better for selected customers. A countdown mechanism shows how quickly time or products are running out, building tension and driving responses. Some of these offers have sold out in 90 minutes. Source: Davenport, T. H., Mule, L. D., & Lucker, J. 2011. Know what your customers want before they do. Harvard Business Review. 89(12): 84-90. C. Interrelationships among Value-Chain Activities within and across Organizations Up to now, we have addressed value chain activities separately. Here, we discuss: (1) interrelationships among activities within the firm, and, (2) relationships among activities with other organizations, such as suppliers and customers. We first review the examples of CarMax’s proprietary information system and Campbell Soup’s Electronic Data Interchange (EDI) to demonstrate interrelationships within the firm and relationships with other organizations, respectively. Then, we present the example of Ciba Specialty Chemicals (now part of Novartis), a Swiss manufacturer of textile dyes. Their innovation of dyes that fix more readily to the fabric and require less salt provides significant advantages for their customers. The SUPPLEMENT below addresses Timberland’s detoxification initiative. It serves to show how an energy efficient supply chain can both enhance environmental sustainability and improve efficiency. It serves to illustrate the importance of viewing one’s firm as part of a value chain system composed of a focal firm a swell as it s suppliers, customers, and alliance partners.  Extra Example: Timberland’s Detoxification Initiative Making shoes is a surprisingly toxic business. Both the materials and the adhesives that connect them are made of chemicals that are known dangers to the cardiac, respiratory, and nervous systems. One pair of running shoes will hardly harm you. However, workers in the industry face real risks. Timberland, the second largest company in the outdoor industry with $1.3 billion in revenues, realized that it needed to rethink the industry’s traditional reliance on toxic chemicals. It became the first footwear company to test new water-based adhesives on non-athletic shoes. (Nike and others had already taken the initiatives in the “white shoe,” or athletic, part of the industry). Making such a change required the firm to work very closely with Asian suppliers. According to Timberland’s website, the company released its long-term strategy in 2008 which included its goal to create products at lower cost and with less harm to the environment. The strategy included the elimination of polyvinylchloride (PVC) from its product line and increasing the use of water-based adhesives in its footwear in order to reduce the use of solvents. Common sense would suggest that Timberland’s detoxification efforts would be very costly for its suppliers. And, during the test phase it was quite expensive. The new adhesives cost more because economies of scale hadn’t yet been achieved. However, over time, Timberland fully expects the process to be at least cost neutral for its business and a money maker for the full value chain. Why? Water-based adhesives eliminate almost entirely the supplier’s expense for handling hazardous materials, including waste disposal, insurance, and training. Manufacturing expenses had already declined during the testing phase because water-based adhesives go on with one coat instead of two, and the application equipment requires less cleaning. Thus, suppliers can run longer without interruption. The change also improves worker safety as well as reduces both labor costs and time. Sounds good. But, will Timberland be able to capture these supplier savings down the road? Probably not, but over time this strategy should help the firm win market share and drive revenues. Sources: Esty, D. C. & Winston, A. S. 2009. Green to Gold. Hoboken, NJ: Wiley, p: 112-113; http://community.timberland.com/; and, www.yahoo.finance.com.  Discussion Question 25: Do you think that Timberland will eventually capture the supplier savings? Why? Why not? Answer: Timberland may capture supplier savings if they effectively manage their supply chain relationships and negotiate favorable terms. Successful capture depends on their ability to implement efficient cost-management practices and pass on savings through streamlined processes. However, challenges such as fluctuating material costs, supplier negotiations, and market conditions could impact their success in fully realizing these savings. If Timberland maintains strong supplier partnerships and operational efficiency, they are more likely to benefit from the savings. D. The “Prosumer” Concept: Integrating Customers into the Value Chain This is an interesting concept that is new to the Sixth Edition. A “prosumer” is considered a customer/producer who is even more extensively integrated into a firm’s value chain. It stands in sharp contrast to the traditional marketing approach in which the customer merely consumes the products and services produced by the company. In addition, efforts are made to tie the customer to the company through, for example, loyalty programs and individualized relationship marketing. 1. How Procter & Gamble Embraced the Prosumer Concept We provide how Proctor & Gamble values their customers not just for their money—but also as a rich source of information. In our first example, P&G—with its “customer is boss” perspective—transformed their fragrance business by focusing on innovations that were meaningful to consumers. This included fresh new scents, distinctive packaging, and proactive marketing. Central to their approach was clearly identifying target consumers for each brand. Their approach also includes building social connections through digital media and other forms of interactions, i.e., incorporating the crowdsourcing concept. Here, P&G enabled customers to co-design and co-engineer innovations in the design of baby diapers.  Discussion Question 26: What other companies have used social connections through digital media to gain valuable insights from customers? Answer: Nike leverages social media to gather customer feedback and engage with users through platforms like Instagram and Twitter, driving product development and marketing strategies. Starbucks utilizes its My Starbucks Idea platform to collect and implement customer suggestions. Lego engages fans through Lego Ideas, allowing them to submit and vote on new product designs. These companies use social connections to gain real-time insights, improve customer relationships, and enhance their products and services. E. Applying the Value Chain to Service Organizations We added this section on how to apply the value chain concept to service organizations in order to help show how it can be applied to firms other than manufacturing firms (which is what Porter’s generic value chain concept can be most directly applied). We provide Nordstrom’s (retail) and Beca (technology-based consulting company) as illustrations. EXHIBIT 3.4 includes a depiction of the primary activities for each of these firms. Ask:  Discussion Question 27: What would be some of the important support activities for these two firms? Answer: For firms like Nike and Starbucks, important support activities include technology development (for product innovation and digital engagement), human resources management (for recruiting and training skilled staff), and procurement (for sourcing quality materials and supplies). Discussion Question 28: What are the key relationships among the primary and support activities to create value for these firms? Answer: The key relationships among primary and support activities involve integration and alignment to create value. For example, Nike’s technology development enhances product design, while human resources ensure a skilled workforce for operations. Similarly, Starbucks’ procurement ensures high-quality ingredients that support customer service, and technology development helps streamline logistics and supply chain management, enhancing overall value delivery. II. Resource-Based View of the Firm The resource-based view of the firm (RBV) combines two perspectives: (1) the internal analysis of phenomena within a company, and (2) an external analysis of the industry and its competitive environment. It extends SWOT analysis by combining internal and external perspectives and provides a useful framework for exploring why some firms are more successful than others. EXHIBIT 3.5 addresses the types of resources that firms possess: tangible resources, intangible resources, and organizational capabilities.  Discussion Question 29: What are some examples of firms that are particularly strong (or weak) with regard to the items in Exhibit 3.5? Answer: Firms like Apple are particularly strong in innovation and marketing, leveraging these strengths to maintain a leading edge in technology and brand appeal. Conversely, Sears has been weak in supply chain management and customer service, contributing to its struggles in retaining market position and customer satisfaction. Discussion Question 30: Can you provide examples of firms that have effectively (or ineffectively) integrated their strengths regarding some of the items in Exhibit 3.5? Answer: Amazon effectively integrates strengths in technology and logistics to offer efficient service and fast delivery, creating a competitive advantage. On the other hand, Kodak ineffectively integrated its strengths in branding and R&D with the shift to digital photography, leading to missed opportunities and eventual decline in market relevance. Throughout this section we focus on the importance of integrating value-creating activities, i.e., that competitive advantages are created (and sustained) through the bundling of several resources in unique combinations. A. Types of Firm Resources This rather brief section discusses each of the three types of resources — tangible, intangible, and capabilities — and provides examples from business practice. Tangible resources are assets that are relatively easy to identify and include financial, physical, organizational, and technological resources that an organization uses to create value for its customers. We provide the example of FedEx’s computer-based job competency tests. Intangible resources are much more difficult for competitors to account for or imitate. These include human resources, innovation resources, and reputation resources. The example of Harley-Davidson’s strong brand image is addressed. At the end of this section, we discuss how various social networking sites can severely damage a firm’s (Comcast) reputation.  Discussion Question 31: What are some examples of other companies whose reputation was damaged when a product failure or other mishap became public knowledge? What were the strategic implications for those companies? Answer: Toyota faced significant reputation damage due to the 2009-2010 recall crisis over unintended acceleration, leading to a loss of customer trust and increased scrutiny. Samsung experienced similar issues with the Galaxy Note 7 battery fires, which harmed its brand image and led to costly recalls. Strategic implications included a focus on improving quality control, rebuilding consumer trust, and investing in crisis management. Discussion Question 32: In general, what steps should companies (as well as students!) take to protect their reputations? Answer: Companies should establish robust quality control processes, proactively address potential issues, and maintain transparency with stakeholders. Students should develop strong ethical standards, engage in continuous learning, and handle information responsibly to safeguard their reputations. Regular communication and effective crisis management strategies are also essential in protecting and restoring reputations. Organizational capabilities are not specific tangible or intangible assets. They are competencies or skills that a firm employs to transform inputs into outputs. We present the examples of Gillette’s capabilities to combine several technologies in its wet-shaving products and how Apple has combined and leveraged assets and technologies. B. Firm Resources and Sustainable Competitive Advantages For a firm to earn a sustainable competitive advantage, it must have four attributes: valuable, rare, and difficult for competitors to imitate or substitute. EXHIBIT 3.6 addresses these four criteria and their implications. To encourage student discussion, ask the students:  Discussion Question 33: What are some examples of products (and services) that did not possess these four characteristics and subsequently did not provide sustainable advantages for the firm? Answer: Products like Google Glass lacked broad consumer appeal and practical functionality, resulting in limited adoption and failure to sustain a competitive advantage. Microsoft's Windows Phone struggled with limited app availability and market presence, leading to its eventual discontinuation. New Coke failed due to a lack of brand loyalty and misunderstanding consumer preferences, harming Coca-Cola’s market position. These examples highlight the importance of aligning product characteristics with market needs for sustainable advantages. The SUPPLEMENT below addresses the vast variety of consumer products on the market — giving additional credence to the argument that it is difficult to attain advantages that (typically) are not eroded over time.  Extra Example: The Vast Variety of Consumer Products Imitation products have proliferated the consumer products market with 31,000 new consumer products in 2000 alone. The average grocery store stocks 40,000 items. There are 16 flavors of Kellogg Eggo waffles, nine kinds of Kleenex brand tissue, 19 varieties of Colgate toothpaste, and innumerable garbage can liners in scented, unscented with twist, drawstring, and handle ties. Procter & Gamble offers 19 varieties of Pert shampoo and 72 varieties of Pantene hair care products. Unilever has bucked the trend by decreasing its consumer products from 1,600 products to a mere 970 in the year 2000. The bottom line: It’s not possible to attain sustainable advantages if your products don’t satisfy the four RBV criteria. Source: Nelson, E. 2001. Too many choices. The Wall Street Journal, April 23: B1, B4. We will now discuss each of the four criteria. 1. Is the Resource Valuable? Resources are valuable when they enable a firm to formulate and implement strategies that improve its efficiency or effectiveness. The SWOT framework suggests that firms improve their performance only when they either exploit opportunities or neutralize (minimize) threats.  Discussion Question 34: What are some other examples of resources that were once valuable—but are now less valuable (or a liability)? Answer: Physical retail stores have become less valuable as e-commerce growth has shifted consumer preferences toward online shopping. Blockbuster’s extensive DVD rental infrastructure became a liability with the rise of streaming services. Kodak’s expertise in film photography diminished as digital cameras and smartphones became dominant. These resources lost their competitive edge due to technological advances and changing market demands. 2. Is the Resource Rare? If competitors or potential competitors also possess the same valuable resource, it is not a source of competitive advantage because all of these firms have the capability to exploit the resource in the same way. Common strategies based on such a resource would give no one firm an advantage. For a resource to provide a competitive advantage, it must be uncommon, that is, rare relative to other competitors. 3. Can the Resource Be Imitated Easily? Inimitability is a key to value creation because it constrains competition. If a resource is inimitable, then any profits generated are more likely to be sustainable. We discuss the example of Iowa Beef Processors (IBP). Although this firm was the first to modernize its facilities and capabilities, competitors easily duplicated its efforts. This drove down their profitability. We also discuss Groupon – a firm that the students are likely much more familiar with!  Discussion Question 35: What action(s) should Groupon take (in addition to firing its founder and CEO, Andrew Mason, in early 2013)? How would such actions address the four sustainability criteria? Answer: Groupon should focus on restructuring its business model to enhance profitability and user engagement, improving operational efficiency to streamline processes, and investing in technology to better target and serve customers. Strengthening partnerships and expanding international presence can also help. These actions address the sustainability criteria by improving value creation (better services), value capture (increased revenue), competitive positioning (technology and partnerships), and resource utilization (operational efficiency). The SUPPLEMENT below addresses some issues that point out difficulties which firms will have succeeding in the “deal site” industry.  Extra Example: Why it will be Hard to Succeed in the “Deal Site” Industry Some consumers might see a 52 percent discount on dinner at a local Malaysian restaurant and ask: How good can it be if they need to slash prices so much to pull people through the door? In other words, extreme discounts leave consumers questioning the "long run value of the advertised product or service," wrote Rafi Mohammed, a pricing strategy consultant, in a Harvard Business Review article. They it becomes less likely that customers return to the same merchant to pay full price, he said. Mohammed also noted that drastic discounts attract the "wrong customers." Super-bargain hunters often decide to buy the rock-climbing class simply because of the low price--they have no intention of coming back to pay full price. Indeed, in Raymond James' survey, 67 percent of merchants found that Groupon customers' spending habits are "lower" than their typical customers. Small businesses aren't pinning hopes of a sales boost on daily deal offerings during the holiday season. A Manta survey of small businesses found that the majority (82%) of businesses have not, and will not, run promotions with Groupon or other daily deal sites this year. And only 3% of respondents said these types of promotion sites have brought them repeat business. Perhaps aware that daily deals on yoga classes and laser-hair removal won't be its bread and butter much longer, Groupon is moving beyond the 40%-off-a-romantic-Italian-dinner-for-two type of offerings it's known for. It is now trying to become more of a traditional online marketplace. In its third-quarter earnings report, Groupon touted "rapid growth" in Groupon Goods, a retail marketplace selling things like toys, apparel, cameras and jewelry that was launched a year ago. Groupon subscribers have been noticing the email offers. During the summer in 2012, Groupon opened its first concept store in Singapore, and this month it opened one in Hong Kong. And in an attempt to get in on the holiday shopping frenzy, Groupon just launched its first holiday and toy catalogs, along with free shipping and free returns (when purchases meet certain restrictions). Source: Scherzer, L. 2012. Groupon and deal sites see skepticism replacing promise. finance.yahoo.com. November 29: np. For imitation to be avoided, four conditions need to be satisfied: Physical uniqueness. By definition it is inherently difficult to copy. Examples would include a beautiful resort location, mineral rights, or Merck & Co.’s pharmaceutical patents. Path Dependency. This means that resources are unique and therefore scarce because of all that has happened along the path followed in their development and/or accumulation. We provide the examples of Gerber Products Co. and Southwest Airlines. The SUPPLEMENT below points out an important caveat regarding path dependency and competitive advantage. That is, tight interrelationships among value chain activities that have been built up over time can often represent a strong fortress to ward off competition. However, the downside is that if industry conditions change, or if the firm desires to make a major change in its strategy, what is often a strength can become a severe handicap. We give the example of Liz Claiborne, an apparel firm.  Extra Example: When a Competitive Advantages Built on Path Dependency Becomes a Handicap Changing a tightly linked system of value creating activities means dismantling the very synergies that management worked so hard to build and putting the organization at risk during the transition to a new strategy. For this reason, many managers either ignore change or make changes at the margin. However, neither approach works. Once stable markets change, entrenched strategic positions tend to falter. Change forces managers to dismantle their existing resource systems to reassemble them in new strategic positions. This is difficult and time-consuming—a combination that can potentially be lethal because performance may not improve until the pieces are reassembled and linked. Consider Liz Claiborne, an apparel company. It relied on a strategy in which production, distribution, marketing, design, presentation and sales resources were all tightly linked. However, when the industry changed, the firm’s relationships with department stores were disrupted. In an effort to adopt, Claiborne executives changed resources such as their “no reordering” process that had antagonized department stores. But since this process was synergistically entwined with other resources like overseas logistics and distant manufacturing locations, the “no reordering” process could not be undone without damaging system coherence. Financial performance sank precipitously. Only after Claiborne executives dismantled their existing resources and started reconnecting new ones did positive performance begin to return. Source: Bingham, C. B., Eisnehardt, K. M. & Furr, N. R. 2011. Which strategy when? Sloan Management Review, Fall: 71-78. Causal Ambiguity. This means that would-be competitors may be thwarted because it is impossible to disentangle the causes (or possible explanations) of either what the valuable resource is or how it can be created. We discuss 3M’s process of innovation as well as Continental Airlines’ failure to imitate Southwest Airlines’ successful low-cost strategy. STRATEGY SPOTLIGHT 3.5 discusses how Amazon has created Amazon Prime--an extremely effective “free delivery” program. For a fee of $79 per year, customers are guaranteed two-day delivery on their purchases. Analysts contend that this has been a key driver in the dramatic growth for the firm—at the expense of many on-line and “brick-and-mortar” rivals. Although competitors have tried to imitate this service, Amazon has been able to exploit many elements of its strategy—wide selection, low prices, network of third-party merchants, and superb distribution system—to create what would seem to be a nearly perfect “sustainable competitive advantage.”  Discussion Question 36: Have you used Amazon Prime? Are you satisfied with it and has it caused you to increase your purchases through Amazon? Do you see how some firms could successfully imitate this service? Why? Why not? Answer: Amazon Prime provides benefits like free shipping, streaming services, and exclusive deals, which many users find valuable and may increase their purchase frequency on Amazon. Other firms could imitate this model by offering similar bundled services to enhance customer loyalty and drive repeat purchases. However, successful imitation requires substantial investment in logistics, technology, and content, as well as the ability to effectively integrate and deliver these services at scale. Social Complexity. These include “soft” issues such as culture, trust, and leadership. Examples include interpersonal relations among the employees and managers of a firm, its culture, and its reputation among suppliers and customers. Although complex physical technology is not included in this category of imperfect inimitability, the exploitation of physical technology in a firm typically involves the use of socially complex resources. The SUPPLEMENT below discusses the market for corporate real estate and the importance of personal relationships and insider knowledge. It serves to drive home the point that competitive advantages are difficult to attain or sustain for new entrants. This is because some intangible assets may be difficult to imitate. We discuss a Chinese beverage company, Wahaha, which has succeeded in a hotly contested market against much larger rivals—Coca Cola and PepsiCo. Its well-known secret lies in its ability to foster very close ties with its distributors. Also, in contrast to its larger rivals, Wahaha has developed a strong position in many rural locations throughout China. In particular, it is quite interesting how Wahaha was able to strike financial partnerships with distributors that created a win-win situation (distributors pay deposits in advance to cover potential bad debts—and Wahaha, in turn, provides them with a superior interest rate; and Wahaha provides bonuses/discounts to distributors who pay promptly). The SUPPLEMENT below provides more detailed information on Wahaha, a large Chinese beverage firm, which we address.  Extra Example: Wahaha Succeeds by Creating Close Relationships with its Distributors Wahaha’s distribution network now consists of about 4,000 first-tier domestic wholesalers and a large number of second and third-tier wholesalers and outlets to ensure that Wahaha’s products reach millions of retailers nationwide within one week of leaving the factory—no small feat with China’s vast rural areas and provinces as far out as Xinjiang and Tibet. As CEO Zong Qinghou colorfully points out: “Our rapid and sound network serves as human blood vessels which circulate the blood stream to every part of the body once the products are ready.” In contrast, domestic and multinational companies established their own distribution networks—not partnerships with local distributors as Wahaha had done. Not surprisingly, Wahaha has managed to capture impressive market share increases in markets traditionally dominated by Coca Cola and PepsiCo. And, its financial results have been stunning. Over a recent 6-year period, its revenues have increased from $1.24 billion to $5.2 billion, and its profits have increased from $165 million to $1.5 billion. These figures represent annual compound rate increases of 27 and 45 percent, respectively! Source: Anonymous. 2010. Wahaha…China’s Leading Beverage Producer. www.chinabevnews.com. April 11: np; and, Andersen, M. M., Froholdt, M. & Poulfelt, F. 2010. Return on Strategy. New York: Routledge. 4. Are Substitutes Readily Available? The fourth requirement for a firm to be a source of sustainable competitive advantage is that there must be no strategically equivalent valuable resources that are themselves not rare or inimitable. Substitutability may take at least two forms. First, although it may be impossible for a firm to imitate another firm’s resource exactly, it may be able to substitute a similar resource that enables it to develop and implement the same strategy. We provide the example of roughly equivalent top management teams. Second, very different firm resources can become strategic substitutes. We provide the example of Internet booksellers such as Amazon.com as substitutes to brick-and-mortar booksellers such as B. Dalton. The result is that premier real estate becomes less valuable. We also discuss the viability of roughly equivalent drug therapies that treat similar maladies. EXHIBIT 3.7 illustrates the relationship among the four criteria of sustainability and shows the competitive implications.  Discussion Question 37: What may be example(s) of companies that illustrate each of the four conditions? Answer: 1. Value Creation: Apple creates significant value through its innovative products like the iPhone, which offer unique features and a seamless user experience. 2. Value Capture: Microsoft captures value through its dominant position in software with products like Windows and Office, commanding high market share and profitability. 3. Competitive Position: Amazon holds a strong competitive position with its extensive e-commerce platform and Prime membership, which creates high customer loyalty and market dominance. 4. Resource Utilization: Tesla effectively utilizes its technological and manufacturing resources to lead in electric vehicle innovation and achieve significant market impact. 5. Dell’s Eroding (Sustainable?) Competitive Advantage Even a company as strong as Dell can fall behind relative to its competitors. After its market share declined and stock price fell in 2007, the company experienced a shake-up in its top management team. We outline several factors that contributed to its decline including product design issues and outsourcing problems. EXHIBIT 3.8 lists Dell’s tangible resources, intangible resources, and organizational capabilities – and how they are associated with Dell’s traditional sources of competitive advantage. Two steps that Dell has recently taken to improve its competitive position — selling at retail outlets and shipping computers with Linux operating systems — represent major breaks with the past for Dell. However, Dell’s performance still lags its key rivals.  Discussion Question 38: Is buying in a retail store a reasonable substitute for buying online? What is lost and what is gained by buying online rather than in a retail store? Answer: Buying in a retail store offers immediate product access, the ability to see and touch items, and personalized customer service, which are often lost when buying online. Online shopping provides convenience, wider selection, and often lower prices, but can lack the tactile experience and immediate gratification of in-store purchases. Discussion Question 39: In your opinion, how will Dell’s decision to sell its computers through retail outlets affect its reputation? Answer: Dell’s decision to sell through retail outlets may enhance its reputation by increasing product visibility and accessibility, potentially reaching a broader audience. However, it could also dilute its brand’s direct-sales focus and control, impacting customer perceptions of its unique value proposition. C. The Generation and Distribution of a Firm’s Profits: Extending the Resource-Based View of the Firm The key point in this section is that even though a firm may have a source of competitive advantage that appears to satisfy the four criteria for sustainability, some (or a good deal) of its profits may be retained (or “appropriated”) by its employees or managers—instead of going to the owners (i.e., shareholders). We address four conditions that explain the extent to which managers and employees will be able to extract a proportionately high level of the profits they generate: • Employee bargaining power • Employee replacement cost • Employee exit cost • Manager bargaining power Teaching Tip: The discussion of the generation and distribution of a firm’s profits between the firm and individual employees is a good opportunity to discuss some of the career implications for the students and enable them to realize the practical applicability of the concepts covered in this section. In this section, we address the four conditions that enable managers and employees to extract a disproportionate share of the profits that they generate. You may ask them to think back on people they have known in organizations who were either very successful or very unsuccessful and if their success (or lack thereof) could be explained by these four criteria. The career implications become rather self-evident. III. Evaluating Firm Performance: Two Approaches Here, we address two major approaches to evaluating firm performance. The first is financial ratio analysis in which we assess how a firm is doing compared to its balance sheet, income statement, and market valuations. Second, we address performance from the perspective of a broader stakeholder perspective. Kaplan and Norton’s concept of the balanced scorecard is central to our discussion. A. Financial Ratio Analysis We address five different types of financial ratios: • Short-term solvency or liquidity • Long-term solvency measures • Asset management • Profitability • Market value (All of your students have been exposed to this information in their accounting and finance classes but it is worthwhile to spend some time in review.) EXHIBIT 3.9 provides a summary of five types of financial ratios. The Appendix to Chapter 13 (on Case Analysis) provides detailed definitions for discussions of each of these types of ratios as well as examples of how each is calculated. Next, we address some issues that must be taken into account in order to make financial analysis more meaningful: historical comparisons, comparisons with industry norms, and comparisons with key competitors. 1. Historical Comparisons Comparing a firm’s performance over time helps to provide a means of evaluating trends. We provide the example of Apple’s performance over a period of years to point out the importance of looking at historical trends and their implications. EXHIBIT 3.10 illustrates a ten-year period of return on sales for a hypothetical company. As indicated by the dotted trend lines, the rate of growth (or decline) differs substantially over time periods. At times, historical comparisons may need to be used with caution. For example, the SUPPLEMENT below provides some specific information on how percentage increases can, in effect, distort reality. Consider how some specific data on percentage in the export of U. S. automobiles to Japan many years ago could be misleading.  Extra Example: U.S. Car Sales to Japan — The Importance of “Relative” Sales Volume Percentage increases may imply that U.S. automakers made inroads in the Japanese markets a decade ago. However, such apparent optimism is eroded when absolute numbers are addressed. Though sales climbed 800 % between 1985 and the early 1990’s, total sales of the Big Three in Japan were only about 17,000 in 1991. (This figure represents only about one month’s production at a typical automobile plant!) Meanwhile, Japanese automakers sold approximately 3.3 million cars in the U. S. in 1991 — a factor of nearly 200! Source: Miller, K. L. 1991. What’s this? American cars gaining in Japan. Business Week: July 22: 82-83. 2. Comparisons with Industry Norms When evaluating a firm’s financial performance, it is important to compare it with industry norms. That is, a firm’s current ratio or profitability may be impressive at first glance. However, it may pale when compared to industry averages. EXHIBIT 3.11 compares financial ratios for three different industries — semiconductors, grocery stores, and skilled nursing facilities. Although the text provides a brief discussion of why there is such variation among these industries, it may still be useful to pose this question — to reinforce learning and obtain additional insights. 3. Comparisons with Key Competitors Referring back to Chapter 2, firms with similar strategies are considered members of strategic groups in a given industry. Furthermore, competition tends to be more intense among competitors within groups than across groups. Thus, one can gain valuable insights into a firm’s financial and competitive position if comparisons are made between a firm and its most direct competitors. We use the example of the pharmaceutical industry. Here, large firms such as Pfizer and Merck have enormous investments in R&D—which would discourage new firms from competing “head to head.” B. Integrating Financial Analysis and Stakeholder Perspectives: The Balanced Scorecard 1. The Balanced Scorecard: Description and Benefits The balanced scorecard helps to provide a meaningful integration of many issues that come into play when evaluating a firm’s performance. It is a set of measures that provide top managers with a fast but comprehensive view of the business. In a nutshell, it includes financial indicators, operational measures of customer satisfaction, internal processes, and the organization’s innovation and improvement activities. The balanced scorecard enables managers to consider their business from 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 our shareholders? (financial perspective) EXHIBIT 3.12 depicts the balanced scorecard’s four perspectives. a. Customer Perspective Managers must translate their general mission statements on customer service into specific measures that reflect the factors that really matter to customers. There are four primary categories of customer concerns: time; quality; performance and service; and cost. b. Internal Business Perspective Customer-based measures are important. However, they must be translated into indicators of what the firm must do internally to meet customers’ expectations. The internal measures should reflect business processes that have the greatest impact on customer satisfaction. This includes factors such as cycle time, quality, employee skills, and productivity. c. Innovation and Learning Perspective Given the rapid rate of change in markets, technologies, and global competition, the criteria for success are constantly changing. Accordingly, a firm’s ability to improve, innovate, and learn ties directly to its value. That is, only by developing new products and services, creating greater value for customers, and increasing operating efficiencies, can a company penetrate new markets, increase revenues, and grow shareholder value. d. Financial Perspective Such measures indicate whether the company’s strategy, implementation, and execution are, in fact, contributing to bottom-line improvement. Typical financial goals include profitability, growth, and shareholder value. Periodic financial statements remind managers that improved quality, response time, productivity, and innovative products benefit the firm only when they result in improved service, increased market share, reduced operating expenses, or higher asset turnover. We discuss the example of Sears, the large U. S. retailer to illustrate the strong causal relationships among employee attitudes, customer attitudes, and financial outcomes. This should come across as an interesting example in that many “hard to quantify” concepts are, in fact, accurately measured. The SUPPLEMENT below, although dated, serves as a “caveat” to the use of the balanced scorecard. That is, it emphasizes that the alleged linkage between improved operating performance and financial success can be quite tenuous and uncertain.  Extra Example: The Tenuous Linkage Between Financial Success and Operating Performance Over a three-year period between 1987 and 1990, a NYSE electronics company made a significant improvement in quality and on-time delivery performance. Outgoing defect rates dropped from 500 parts per million to only 50, on-time delivery improved from 70 % to 96%, and yield soared from 26 % to 51 %. Unfortunately, these breakthrough improvements in quality, productivity, and customer service did not provide substantial financial benefits to the company. During the same period of time, the firm’s financial results showed little improvements and the stock price eroded to one-third of its July 1987 value. Why? The considerable improvements in manufacturing capabilities had not been translated into increased profitability. Slow releases of new products and a failure to expand marketing to new and perhaps more demanding customers prevented the company from realizing the benefits of its manufacturing achievements. The operational achievements were real, but the company failed to capitalize on them. Source: Kaplan, R. S. & Norton, D. P. 1992. The balanced scorecard—Measures that drive performance. Harvard Business Review, 70 (1): 77. Teaching Tip: During the discussion of the Balanced Scorecard, it is important to bring to the class’ attention that there are inevitable tradeoffs between the elements in the balanced scorecard. What are the challenges involved in balancing these tradeoffs? You may point out that at a given time a firm may focus on a goal that is more pressing at that point in time. You may also point out that a firm can focus on different elements at different points in time, building on the success in one area to improve in another. 2. Limitations and Potential Downsides of the Balanced Scorecard One criticism of the balanced scorecard is that executives will believe that implementing it provides a “quick fix” to organizational problems. The balanced scorecard takes time to implement effectively and performance problems can be linked to poor execution of the system rather than the balanced scorecard itself. Commitment to improve issues addressed by the balanced scorecard—such as learning and improving the internal culture—are also essential to its successful application. Teaching Tip: You might consider asking the following question prior to discussing the material in the supplement above: What do you think are some of the problems that can potentially be expected with the use of the Balanced Scorecard. Or, if your students, as a group, have a relatively large amount of business experience, you may ask them: What has been your experience with the use of the Balanced Scorecard in your organization? Has it worked well? Why? or, Why not? I IV. Issue for Debate This is an issue that is about brand value and how over extending it brand can erode its value. The World Triathlon Organization (which holds the Ironman competitions) extended its brand name to products that were ‘less than’ equivalent in order to enhance revenues and profits. In the process it compromised its exclusive brand image because it was selling unrelated items to expand its customer base. QUESTIONS: 1. Is the World Triathlon Organization trying too aggressively to monetize the brand? Answer: Students may have a variety of perspectives on this issue--often reflecting how important they feel that non-economic factors should be in making important decisions and to what extent if any they owe to their customer base. Ask the students: Who are the stakeholders of World Triathlon Organization. Are the stakeholders other than the stockholders that should be taken into consideration? Just like other companies, the customers, distributors and users of products and services (in this case Ironman competition) play a significant role in determining the success of a company as it tries to navigate the market. The World Triathlon Organization (WTO) may be perceived as monetizing too aggressively if its efforts prioritize revenue over the sport's integrity or fan experience. If initiatives like premium pricing for events, excessive sponsorship deals, or aggressive merchandising alienate fans or diminish the event's appeal, it could harm the brand’s long-term value. Balancing revenue generation with maintaining the sport’s authenticity and accessibility is crucial for sustainable growth and fan loyalty. 2. What are the long-term implications of their efforts? Answer: In the process of identifying new markets to enter the company did not seek input from other stakeholders. To the company’s dismay, expanding the brand to strollers and other non-related items was not what new customers or old customers wanted. Point out to the students that this is one example when decisions that can enhance short-term revenues and profits may hurt a firm in the longer term. Finally, you might ask if there are more creative ways to resolve this issue (e.g., creating a new brand for “less than full Ironman athletes”). The long-term implications of the World Triathlon Organization's aggressive monetization efforts could include potential alienation of grassroots participants and fans if costs become prohibitive. This could lead to decreased participation and lower fan engagement. However, if managed well, it could result in increased revenue, enhanced event quality, and expanded global reach. Balancing financial goals with maintaining a strong community connection is key to ensuring sustainable growth and long-term success.  V. Reflecting on Career Implications Below, we provide some suggestions on how you can lead the discussion on the career implications for the material in Chapter 3.  The Value Chain: It is important that you develop an understanding of your firm’s value chain. What activities are most critical for attaining competitive advantage? Think of ways in which you can add value in your firm’s value chain. How might your firm’s support activities (e.g., information technology, human resource practices) help you accomplish your assigned tasks more effectively? How will you bring your value-added contribution to the attention of your superiors? Students should appreciate that the value chain helps to identify where within the firm that competitive advantage is created. To make this concept more concrete, instructors may need to us a real-world example. Consider a firm such as Whole Foods. Ask students which activity may be most responsible for its competitive advantage. There are multiple possible “right” answers, but one option can be procurement. Whole Foods develops relationships with suppliers that can provide a wide variety of high quality organic food that is GMO-free. Competitors would find it difficult to imitate this supplier network. Assuming that students agree with this logic, ask them how they might contribute to Whole Foods’ success in procurement. One way may be to survey customers and find out what types of products they would be open to buying. There are many possibilities for linking the process of discovering these consumer preferences to a support activity. Perhaps information technology could be used to survey customers. There are many possible directions that this discussion could go, but the point is to link competitive advantage to a value chain activity and then to an interrelationship with a support activity. As for bringing the value-added contribution to the attention of superiors, the best technique depends on the environment within firms and the student’s relationship with the superior. Ask students for suggestions and identify the possible costs and benefits of various methods. Many superiors will be open to suggestions if there is not much risk to current operations or a major change in routines. So a suggestion for an incremental improvement with a high upside potential is most likely to be successful.  The Value Chain: Consider the most important linkages between the activities you perform in your organization with other activities both within your firm as well as between your firm and its suppliers, customers and alliance partners. Understanding and strengthening these linkages can contribute greatly to your career advancement within your current organization. The goal of this discussion is to get students to appreciate the wider context of their current position. Ask students who have jobs, or a select few “volunteers”, to consider this context by identifying the value chain activity in which they currently work, its internal linkages with other value chain activities, and external linkages with suppliers, customers, and alliance partners. For each linkage, ask students to identify the range of resources exchanged within the relationship, such as information, goods, people, or intellectual property. Instructors could write this information on the board. Now ask students to rank these linkages by importance and identify the most important one. The logic behind this choice should be related to the firm’s competitive advantage. Now ask how an employee can strengthen this linkage so that the competitive advantage is enhanced. Normally, employees who strengthen these linkages will be helping their careers. The goal here is to get students to appreciate how any manager within a firm can contribute to its success. The value chain helps to focus these efforts.  Resource-Based View of the Firm: Are your skills and talents rare, valuable, difficult to imitate, and have few substitutes? If so, you are in the better position to add value for your firm—and earn rewards and incentives. How can your skills and talents be enhanced to help satisfy these criteria to a greater extent? More training? Change positions within the firm? Consider career options at other organizations? The RBV can apply to individuals as well as firms, which is analogous to SWOT analysis. Ask students to identify their individual skills and capabilities that differentiate them from other employees and give them a sustainable “competitive advantage” over others. Then ask students why these skills and capabilities are difficult for others to imitate. Ideally, students will quickly learn to identify intangible characteristics such as the ability to motivate others, the ability to work hard to meet deadlines, or communication ability. It may be useful to extend the discussion and ask students how their academic degree program enhances their ability to add value to their firm. (There is no correct answer here, but it may be useful to mention that students gain subject matter knowledge as well as the tenacity to complete the program.) The next step in the discussion is to ask how work experience helps students to enhance their skills and talents. Students should also appreciate that different work experiences vary in their ability to enhance students’ skills and talents. Students can then be asked which experiences would be most beneficial to them in their efforts to develop competitive resources. The point here is to help students look at themselves as strategic assets to their firms, to appreciate how they add value to their firms, and to think about how to sustain and develop that value.  Balanced Scorecard: Can you design a “balanced scorecard” for your life? What would be the perspectives that you will include in it? In what ways would such a “balanced scorecard” help you attain success in life? A useful way to start this discussion is to ask students to devise measures for their personal professional success. Money can be only one measure, and students will have to think beyond this dimension. A brainstorming approach is appropriate, and the range of suggestions may include long life, satisfaction, new innovations developed, number of people helped, and status. Using inductive reasoning, try to group the resulting measures into “perspectives”. If money is included, that could be a “financial” perspective. Other perspectives may include “influence”, “entrepreneurship”, “service”, or “satisfaction”. To make the discussion have a lasting impact, ask students to develop their own “balanced scorecard” and keep track of their life “performance”. At the end of the semester, ask students how they are doing.  VI. Summary In traditional approaches to assessing a firm’s internal environment, a manager’s primary goal would be to determine her firm’s relative strengths and weaknesses. Such is the role of SWOT analysis, wherein a manager analyzes her firm’s Strengths and Weaknesses as well as the Opportunities and Threats in the external environment. In this chapter, we discussed why this may be a good starting point but hardly the best approach to performing a sound analysis. There are many limitations of SWOT analysis, including its static perspective, its potential to overemphasize a single dimension of a firm’s strategy, and the likelihood that a firm’ strengths do not necessarily help the firm create value or competitive advantages. We identified two frameworks that serve to complement SWOT analysis in assessing a firm’s internal environment: value chain analysis and the resource-based view of the firm. In conducting a value chain analysis, you first divide the firm into a set of value creating activities. These include primary activities such as inbound logistics, operations, and service as well as support activities such as procurement and human resources management. Then you analyze how each activity adds value as well as how interrelationships among value activities in the firm and among the firm and its customers and suppliers add value. Thus, instead of merely determining a firm’s strengths and weaknesses per se, we analyze them in the overall context of the firm and its relationships with customers and suppliers, the value system. The resource-based view of the firm considers the firm as a bundle of resources: tangible resources, intangible resources, and organizational capabilities. Competitive advantages that are sustainable over time generally arise from the creation of bundles of resources and capabilities. For advantages to be sustainable, four criteria must be satisfied: rareness, valuable, difficulty in imitation, and difficulty in substitution. Such an evaluation requires a sound knowledge of the competitive context in which the firm exists. The owners of a business may not capture all of the value created by the firm. The appropriation of value created by a firm between the owners and employees is determined by four factors: employee bargaining power, employee replacement cost, employee exit costs, and manager bargaining power. An internal analysis of the firm would not be complete unless you evaluated its performance and made the appropriate comparisons. Determining a firm’s performance requires an analysis of its financial situation as well as a review of how well it is satisfying a broad range of stakeholders, including customers, employees, and stockholders. We discuss the concepts of the balanced scorecard and strategy map, in which four perspectives must be addressed: customer, internal business, innovation and learning, and financial. Central to the balanced scorecard is the idea that the interests of various stakeholders can be interrelated. We provide examples of how indicators of employee satisfaction lead to higher levels of customer satisfaction, which in turn lead to higher levels of financial performance. Thus, improving a firm’s performance does not need to involve making tradeoffs among different stakeholders. Assessing the firm’s performance is also useful if it is evaluated in terms of how it changes over time, compares with industry norms, and compares it with key competitors. In an appendix to this chapter, we discuss how Internet-based businesses and incumbent firms are using digital technologies to add value. Such technology-enhanced capabilities are providing new means with which firms can achieve competitive advantages. Chapter 3: Assessing the Internal Environment of the Firm Map the value chain for an organization with which you are familiar. Assess each of the activities in the value chain as to whether they are a strength or a weakness. What are the important relationships among the activities? Teaching suggestions: You might want to ask the following questions in order to organize the discussion on this topic. *What is ‘Value?’ Why is this mapping called ‘value chain?’ Value, in competitive terms, means the amount the buyers are willing to pay for a firm’s products or services. Value is measured by total revenue. A firm is profitable when the value it receives exceeds its costs of production. The mapping is called a ‘value chain’ because in this analysis, the organization is viewed as a sequential process of ‘value creating activities.’ *What are the primary and support activities? Primary activities: Inbound logistics: Activities associated with receiving, storing and distributing inputs to the product. These are activities such as material handling, warehousing, inventory control, vehicle scheduling and returns to the suppliers. Operations: Activities connected with transforming inputs into outputs. These are machining, assembly, packaging, testing etc. Outbound logistics: Activities associated with collecting, storing and distributing the product or service to buyers. Includes finished goods warehousing, material handling, order processing etc. Marketing and sales: Activities associated with purchases of products and services by the buyers including activities to induce them to purchase. Advertising, promotion, channel selection, channel relations, pricing etc. come under this category. Service: Includes all activities associated with providing service to enhance or maintain the value of the product, such as installation, repair, training, parts supply and product adjustment. Support activities: Procurement: It is the function of purchasing inputs used in the firm’s value chain. Technology development: Refers to a number of technologies from those used to prepare documents and transport goods, to those embodied in processes and equipment, or the product itself. Human resource management: Consists of activities involved in the recruitment, hiring, training, development and compensation of all types of personnel. It supports both primary and support activities (e.g., hiring of scientists) and the entire value chain (eg., negotiations with labor unions). General administration: General management, planning, finance, accounting, legal, government affairs etc., are all general administration activities. Unlike other support activities, this activity supports the entire value chain and not individual activities. You might want to ask the students to describe the primary activities of the organization they have chosen for analysis. Some of the factors to consider when assessing the primary and secondary activities are provided in the exhibits in the chapter *Are the components of the value chain independent of each other? What are the interrelationships? The components of value chain are described and understood separately for the purpose of clarity. Clearly, there are interrelationships among the various activities. For example, excellence in technology development will benefit almost all the primary activities. Efficient operations leading to high quality products would reduce the need for repair services. You can ask the students to map the interrelationships among the various value chain activities. A template for such mapping is provided in the experiential exercise section of this chapter. It is also important to recognize that one has to look at the ‘value chain’ in the broader context of the firm’s relationships with its suppliers and customers i.e., the extended value chain. For example, Dell has excellent supply chain linkages that lower the inventory holding costs for both its suppliers and itself. (We provide the detailed example of Dell.) However, as we note, Dell’s competitive position has eroded. The example of Campbell Soup given in the text illustrates such beneficial relationships with the customers, i.e., the retailers in this case. Campbell Soup uses an electronic network that facilitates its ‘continuous-replenishment’ program with its most progressive retailers. This program reduced the inventories of participating retailers from about four to a two- week supply. This gave the retailers an incentive to carry a broader line and give the company more shelf-space. Since inventories play a key role in the retailers’ profitability, by introducing this program, Campbell was able to create value for its customer and, in turn, to itself. *How does ‘value chain analysis’ help? The purpose of the analysis is to understand which activities help in creating value for the customer and therefore, can be sources of sustainable competitive advantage. Activities with which a firm is able to create value for its customers can be viewed as ‘strengths’ and, those activities that become bottlenecks in the value chain and erode value can be viewed as ‘weaknesses.’ It would be useful to bring in the ‘resource-based view’ of the firm into discussion. According to the resource-based view, there are additional qualifications for a resource (bundles of resources) to be a source of sustainable competitive advantage i.e., the resource or resource combination must be valuable, rare, difficult to imitate and, difficult to substitute. You might also want to ask the students to now assess each of the value chain activities and their combinations on these four attributes to determine whether the activity or the combination can be a source of sustainable competitive advantage. The template to help in this analysis is provided at the end of the chapter as part of an experiential exercise. End of Chapter Teaching Notes Chapter 3: Assessing the Internal Environment of the Firm Summary Review Questions 1. SWOT analysis is a technique to analyze the internal and external environment of a firm. What are its advantages and disadvantages? Response: SWOT provides a useful starting point for improving firms and better positioning them for success. However, SWOT is a limited technique with at least four problems. First, SWOT may identify strengths, but these do not always translate into competitive advantages. To generate competitive advantages, firms have to understand the source of their strengths and focus resources on developing them. Second, SWOT has a too narrow focus on the external environment. Often, a firm’s future growth comes from peripheral or emerging parts of the market. Third, SWOT is static. Over time, all aspects of a firm’s environment may change, and SWOT does not offer insights into the processes that cause the change, or how a firm needs to adapt to a dynamic environment. Fourth, SWOT may overemphasize single strategic dimension. This overemphasis may lead to neglect of other important factors that affect a firm’s performance. Answer: SWOT analysis helps identify a firm’s strengths and weaknesses, as well as opportunities and threats, providing a comprehensive view of its strategic position. However, its disadvantages include potential subjectivity in assessments and lack of prioritization, which may lead to an oversimplified view of complex strategic issues. 2. Briefly describe the primary and support activities in a firm’s value chain. Response: A firm’s value chain consists of a firm’s value-creating activities. Primary activities are sequential activities that pertain to the physical creation of the product or service, its sale and transfer to the buyer, and its service after sale; including inbound logistics, operations, outbound logistics, marketing and sales, and service. Support activities either add value by themselves or add value through important relationships with both primary activities and other support activities; including procurement, technology development, human resource management, and general administration. Answer: Primary activities in a firm's value chain include inbound logistics, operations, outbound logistics, marketing and sales, and service, directly involved in creating and delivering products. Support activities encompass firm infrastructure, human resource management, technology development, and procurement, which facilitate and enhance the efficiency of primary activities. 3. How can managers create value by establishing important relationships among the value-chain activities both within their firm and between the firm and its customers and suppliers? Response: Relationships among value chain activities can improve firm operations, leading to better quality products or lower costs. For example, the human resource management practice of encouraging transfer of employees across divisions can improve employee morale, transfer of information and ideas across divisions, and thereby improve operations. A relationship between inbound logistics and suppliers can lead to implementation of just-in-time management, which can reduce inventory cost and improve product quality. Answer: Managers can create value by integrating and optimizing value-chain activities to ensure seamless operations and enhance efficiency. Establishing strong relationships with customers and suppliers improves coordination, reduces costs, and aligns offerings with market needs, driving competitive advantage. 4. Briefly explain the four criteria for sustainability of competitive advantages. Response: Strategic resources that lead to firms’ sustainable competitive advantages must be valuable, rare, costly to imitate, and costly to substitute. Resources must be valuable in order to give the firms competitive advantages. They must be rare, or else competitors will be able to obtain the advantages too. The resources must be costly to imitate, or else competitors will be able to replicate the competitive advantages. Four factors that limit resource imitation are physical uniqueness, path dependency, causal ambiguity, and social complexity. And they must be costly to substitute, or else competitors will be able to create a similar competitive advantage that serves the same function. The four criteria for sustainability of competitive advantages are value (the advantage provides significant value to customers), rarity (it is not widely available to competitors), imperfect imitability (it cannot be easily replicated), and non-substitutability (there are no viable alternatives). 5. Under what conditions are employees and managers able to appropriate some of the value created by their firm? Response: Employees and managers sometimes have the capability to consume a firm’s earnings in the form of salary and perks. Four conditions that determine their ability to do so are 1) employee bargaining power, due to their unique skills and abilities; 2) employee replacement cost, due to the rareness of employee skills; 3) employee exit cost, which is the ability of the employee to find alternative employment, and associates with lower ability to appropriate earnings, and 4) manager bargaining power, due to managers’ information about the integrated understanding of the firm’s total operations. Answer: Employees and managers can appropriate value when their contributions lead to improved firm performance and they receive appropriate compensation or incentives linked to the firm's success, such as bonuses, stock options, or profit-sharing. 6. What are the advantages and disadvantages of conducting a financial ratio analysis of a firm? Response: Financial ratios enable a firm to obtain a quick assessment of its overall performance. There are three comparisons that lend themselves to financial ratio analysis. First is historical comparisons, or the trend in various financial ratios over time. Second is comparison with industry norms, which enables a firm to determine whether or not it looks competitive within the industry. Third is comparison with competitors, which provides a set of benchmarks that track the firm’s competitiveness. Financial ratio analysis has limitations. First is the quality of the accounting data on which the ratios are calculated. Second, the ratios do not provide any direction as to how managers should invest resources to generate future sustainable competitive advantages. Answer: Employees and managers can appropriate value when their efforts drive firm performance improvements and they are rewarded with incentives such as bonuses, stock options, or profit-sharing, aligning their interests with the firm's success. 7. Summarize the concept of the balanced scorecard. What are its main advantages? Response: The balanced scorecard is a method of evaluating a firm’s performance using performance measures from the customers’, internal, innovation and learning, and financial perspectives. These measures include the financial perspective from financial ratio analysis, but also include measures of other firm processes that should pertain to developing sustainable competitive advantage. The customers’ perspective includes measures of customer satisfaction. The internal perspective includes the ability of the firm’s organization to efficiently and effectively create products and services that satisfy customers’ needs. The innovation perspective includes measures of the firm’s ability to change operations in order to keep up with the dynamic business environment. The advantages of the balanced scorecard are that it incorporates more information about firm operations than financial ratio analysis about a frim’s basis for sustaionable competitive advantage. Therefore, it should be a better indicator of future organizational success. Answer: The balanced scorecard is a strategic management tool that evaluates a firm's performance from four perspectives: financial, customer, internal processes, and learning and growth. Its main advantages include providing a comprehensive view of organizational performance and aligning strategic objectives with operational actions, facilitating better decision-making and strategic alignment. Experiential Exercise Dell Computer is a leading firm in the personal computer industry, with annual revenues of $61 billion during its 2008 fiscal year. Dell had created a very strong competitive position via its “direct model,” whereby it manufactures its personal computers to detailed customer specifications. However, its advantage has been eroded recently by strong rivals such as HP. Below we address several questions that focus on Dell’s value-chain activities and interrelationships among them as well as whether they are able to attain sustainable competitive advantage(s). (We discuss Dell in this chapter.) 1. Where in Dell’s value chain are they creating value for their customer? Response: The analysis indicates that the primary activities of the value chain are where Dell is strongest. These are supported by the support activities of procurement and technology development. For marketing and sales, Dell has developed its direct sales and support system that both takes orders from customers and adapts to customers’ buying habits. For inbound logistics, outbound logistics, and procurement, Dell has developed a just-in-time system that links customer orders to orders for computer components from suppliers. This system limits overhead and speeds up responsiveness to customers. For operations, Dell has developed assembly processes that customize production of every computer to the specifications of each customer. Technology development supports operations, by developing new flexible manufacturing processes, packaging configurations, and the high volume customer interface and supplier order communications. These factors are incorporated in the figure below. Value-Chain Activity Yes/No How Does Dell Create Value for the Customer? Primary: Inbound logistics - Dell has developed a just-in-time system that links customer orders to orders for computer components from suppliers Operations - Dell has developed assembly processes that customize production of every computer to the specifications of each customer Outbound logistics - Dell has developed a just-in-time system that links customer orders to orders for computer components from suppliers Marketing and sales - Dell has developed its direct sales and support system that both takes orders from customers and adapts to customers’ buying habits Service Support: Procurement - Dell has developed a just-in-time system that links customer orders to orders for computer components from suppliers Technology development - Technology development supports operations, by developing new flexible manufacturing processes, packaging configurations, and the high volume customer interface and supplier order communications Human resource management General administration Answer: Dell creates value in its value chain through its direct model, which includes customized manufacturing based on customer specifications, efficient supply chain management, and direct sales that reduce costs and enhance customer satisfaction. 2. What are the important relationships among Dell’s value-chain activities? What are the important interdependencies? For each activity, identify the relationships and interdependencies. Response: The key activities that Dell uses to generate value are procurement, technology development, inbound logistics, operations, outbound logistics, and marketing and sales. The various parts of Dell’s organization, and suppliers/customers are highly interdependent. The following illustrates some of the interdependencies. Procurement involves interdependencies with suppliers to implement the just-in-time processes as well as marketing and sales, which provides real-time orders that are translated into orders from suppliers. Technology development works closely with operations to develop the mass customized output, and with all the other activities to develop a communications infrastructure. Inbound logistics is designed to seamlessly deliver product from suppliers to operations while retaining customer specifications. Operations coordinates with inbound and outbound logistics to obtain the correct configuration of components from suppliers and deliver the correct product to customers. Outbound logistics links operations with customers. Marketing and sales works to take orders from customers and pass on the information to procurement and suppliers. And the entire system is controlled, designed, implemented, updated and supported by general administration. These interdependencies are incorporated below in the figure. Answer: Dell's value-chain activities are interdependent in several ways: customized manufacturing relies on efficient supply chain management to ensure timely component delivery, while direct sales and customer feedback feed into product development, enabling continuous improvement. These interdependencies enhance operational efficiency and customer responsiveness. 3. What resources, activities, and relationships enable Dell to achieve a sustainable competitive advantage? Response: Students should be able to articulate a number of responses to this question. It is important to relate each option to the four criteria for sustainable competitive advantages, i.e. valuable, rare, costly to imitate, and costly to substitute. Examples of responses, activities, and relationships might include: • Proprietary manufacturing technology (Operations and Technology development) • Close relationships with suppliers (Procurement) • Communications infrastructure that spans marketing and suppliers (General administration) • Efficient logistics that links suppliers, operations, and customers (Inbound logistics, ourbound logistics, and general administration) • Brand equity (marketing and sales) Resource/Activity Is It Valuable? Is It Rare? Are There Few Substitutes? Is It Difficult to Make? Inbound logistics X X X X Operations X X X X Outbound logistics X X X X Marketing and sales X X X X Service Procurement X X X X Technology development X X X X Human resource management General Administration X X X X Answer: Dell achieves a sustainable competitive advantage through efficient supply chain management, customized product offerings, and direct customer relationships. These resources and activities enable cost leadership, high customer satisfaction, and operational efficiency. Application Questions Exercises 1. Using published reports, select two CEOs who have recently made public statements regarding a major change in their firm’s strategy. Discuss how the successful implementation of such strategies requires changes in the firm’s primary and support activities. Response: Most companies have on their websites new releases that include CEO statements. In addition, many corporate annual reports include a statement to shareholders from the CEO. The purpose of this exercise is to have students learn how to classify changes in strategy into changes in activities on the value chain. Answer: For example, Satya Nadella at Microsoft emphasized a shift to cloud computing, requiring changes in operations (cloud infrastructure), technology development, and firm infrastructure. Similarly, Elon Musk’s Tesla focuses on sustainable energy, impacting operations (manufacturing processes) and technology development (innovation in batteries and solar technology). 2. Select a firm that competes in an industry in which you are interested. Drawing upon published financial reports, complete a financial ratio analysis. Based on changes over time and a comparison with industry norms, evaluate the firm’s strengths and weaknesses in terms of its financial position. Response: Most annual reports include the relevant accounting data. In addition, some common services, such as Hoovers, Yahoo Finance, and Lexis/Nexis, include financial ratios for many corporations. Data on industry norms may require industry-level reports, and that data are available from industry analysts, which may require a library subscription. The goal is to have students appreciate the value and limitations of financial ratio analysis. Students can quickly tell if a firm’s ratios are above or below industry norms, which directly indicates strengths and weaknesses. However, an important step is to ask students, “what investments does the firm need to make to improve its financial performance?” Usually, the financial ratios analysis itself turns out to provide little guidance for answering this question. Answer: For instance, analyzing Apple Inc. using its financial reports, you might evaluate profitability ratios (like net profit margin), liquidity ratios (like current ratio), and solvency ratios (like debt-to-equity). Comparing these with industry norms and historical data reveals Apple’s strong profitability and solid liquidity but may highlight areas of concern if debt levels rise or if margins decline. 3. How might exemplary human resource practices enhance and strengthen a firm’s value-chain activities? Response: Exemplary human resource practices can enhance and strengthen every value chain activity. Such human resource practices can put people in jobs they are best able to do, improve morale by supporting their efforts, and enable them to transfer to other positions within the company in order to further their professional development. Answer: Exemplary HR practices, such as targeted recruitment, training, and employee development, can enhance value-chain activities by improving workforce skills and motivation, leading to increased efficiency, innovation, and customer satisfaction throughout the value chain. 4. Using the Internet, look up your university or college. What are some of its key value-creating activities that provide competitive advantages? Why? Response: Universities and colleges have similar support activities as other firms. For primary activities, the value chain is different. The “raw material” is students. The activities may include moving-in support, educational offerings, recruitment, career services, and alumni relationships. Ask students why they chose your college, and you’ll usually have your answer. In our experience, students usually mention the great academic programs, great faculty, good reputation from alumni, convenient location, or low cost. Of these, only convenient location and low cost do not translate directly to an activity on the value chain. Low cost is often related to financial support from alumni, donors, or state legislatures, so the interrelationship story applies. Answer: For example, University X might create value through high-quality academic programs, cutting-edge research, and strong industry partnerships. These activities provide competitive advantages by attracting top students and faculty and enhancing the institution's reputation and research capabilities. Ethics Questions 1. What are some of the ethical issues that arise when a firm becomes overly zealous in advertising its products? Response: A firm may advertise its products with inaccurate claims. If so, then it opens itself up to claims of false advertising, which can result in legal action and embarrassment. In addition, brand equity will suffer as consumers discover that the actual product is not as good as advertised. The solution is to have marketing and sales closely linked with technology development and operations. Marketing should therefore only advertise products and services realistically. And technology development and operations should work together to develop and produce products that live up to marketing’s (and customers’) expectations. Answer: Overzealous advertising can lead to misleading claims or exaggerated benefits, which may deceive consumers and erode trust. 2. What are some of the ethical issues that may arise from a firm’s procurement activities? Are you aware of any of these issues from your personal experience or businesses you are familiar with? Response: Ideally, procurement involves an agreement with a supplier that specifies, in part, the product to be delivered, the timing of delivery, the place of delivery, the price, and the timing of payment. Malfeasance can occur along any of these dimensions. Malfeasance by suppliers may include shipping an inferior product or a lower quantity of product, delivery delay, or delivery to the wrong place. Malfeasance by the buyer may include delay of payment or underpayment. Other malfeasance may include miscommunication or misunderstanding of any of the terms of the agreement. Any issue that arises requires a negotiation and resolution. In extreme cases, legal action is a last resort. All types of resolution require that someone incur a cost. Answer: Ethical issues in procurement include exploitation of labor, unfair supplier practices, or environmental harm, which can arise from practices like sourcing from low-cost, unethical suppliers. Solution Manual for Strategic Management: Creating Competitive Advantages Gregory G. Dess, Alan Eisner, G.T. (Tom) Lumpkin, Gerry McNamara 9780077636081, 9781259245558