1. business and industrial
2. company
3. earnings

Part D. Statistical evidence on the
impact(s) of m power
•
•
•
•
Twin hypotheses are:
Market profitability = f(market power)
Social harmfulness = f(market power)
But recall only the first of these is directly
observable. The second is an implication of the
first based on the view that any above normal
profits must come from the exercise of market
power and thus ‘harm’ consumers.
industrypartd
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L&W chapters
• Chap 9 is very good, plus bits of 14 on the
evidence with respect to innovation
• On alternative interpretations L&W is not
much use however
industrypartd
2
And of course
• Recall how these relationships are complicated by
all sorts of non observed factors (statistical noise):
p disc., durability, countervailing power,
conjectures, etc etc
• And NB: A positive statistical relationship does
not necessarily demonstrate causality, ie doesn’t
prove that market power ‘causes’ the higher
profits. (See my discussion of this on Word
version of my notes on market power, p4). Other
plausible explanations have to be considered.
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Econometric evidence and debate
• Take a large number of different markets
and use regression analysis to examine;
• Profitability = f(concentration, barriers, exit
costs, differentiation etc)
• Examine the size and significance of the
estimated parameters of the relationship.
• Easy in principle, but harder in practice for
many reasons.
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Econometric problems
• 1. The specification of the relationship. It is unlikely to be
linear, but most tests assume linearity.
• 2. We really need simultaneous equation models to allow
for likelihood that profitability affects behaviour, such as
spending on R&D, which affects market structure, and so
on. When causality runs both ways single equation
estimates are not reliable.
• 3. How do we get reliable measures of the variables. Like
barriers to entry and exit? Like the closeness of substitutes
or countervailing power? Plus accounting profit is not the
same as economic profit.
• 4. How do you define and obtain data on the true
economically relevant markets? (see earlier discussion of
this in part a/b)
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Evidence on simultaneity
• There is evidence of simultaneity in the relationship. Researchers have
found a strong tendency for markets to ‘consolidate’ or concentrate
over time as the product life cycle plays out.
• The evidence is that this has to do with economies of scale in R&D
and marketing (such as advertising). The outcome is both growing
concentration levels and increasing profitability. There seems to be a
reinforcement model at work, but not a causal model. Early entrants
get bigger faster, they do (absolutely) more R&D/marketing, so
accumulate R&D/marketing experience faster, so they tend to get even
bigger until entry becomes non viable.
• Research inter alia by Klepper/ Sutton/ Davies and Lyons….and
the PIMS (US) database (profit impact of market strategies).
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And the result is
• It is all very difficult and so the results are not
very reliable despite being one of the most
investigated relations in all of economics (see
textbook for details of these issues)
• Statistically significant results have been found,
but not in all studies, and in any case when found
the market power effects are not very large.
• US evidence somewhat more positive than UK
perhaps because UK is more open internationally
speaking.
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Detailed case evidence
• Note George’s study of the many reports of the MMC
(monopolies and mergers commission) whose job it is to
investigate dominant firm cases where a complaint of harm
has actually been made. What do these studies tell us?
• In roughly 14% of the cases investigated profits were
judged to be ‘excessive’. Of course some judgements have
been disputed but overall this is not exactly a rousing
confirmation of the harmful hypothesis!
• However a later study of 73 cases by Davies found that the
MMC condemned something or other in 2/3rds of them.
But interestingly the most common finding concerned
vertical restraints (rpm, tie-ins) not excessive prices!
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Estimates of the Harberger loss
• See textbook on this for details.
• First, follow the derivation of the expression
for the size of the Harberger triangle (H).
• H = dP. dQ. ½
• Which can be manipulated to give us:
• H = ½.R.ed.(p-c)²
• Each element of which in principle we can
measure or at least guesstimate. Results ?
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For the puzzled
• d Means the change in (increased price and
reduced quantity as a result of monopoly)
• R is monopoly revenue
• ed is elasticity of demand at the mon price
• p-c is the price cost margin at the mon price
• See textbook if still in trouble!
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Results for Harberger losses
• Vary considerably because of different time
periods, countries and samples. And of
course different guesstimates of the
unobservables. Some find significant losses
(5/6% of output) and some such as
Harberger himself find very small to
negligible losses. Useful, but still lot of
room for debate then.
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Posner losses
• Recall Posner’s (questionable) idea discussed earlier that
the losses of monopoly go beyond the H triangle to include
all the costs of competing efforts to win m power.
• Estimates of these losses (Cowling-Mueller) naturally
produce bigger more dramatic outcomes. Ultimately the
resources devoted to searching for monopoly will include,
he argued, all the economic profits thought to be available!
• See my notes on this and the textbook for an evaluation.
Personally I do not find the logic compelling or the results
meaningful. Paradoxically it makes competition the
problem, not monopoly! It sees no redeeming features in
competitive efforts. But you have to decide the issue for
yourself.
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Organisational efficiency losses
• Although intuitively appealing the impact of
market power on org eff is by no means easy to
establish empirically. It is true that public sector
statutory monopolies in countries such as Britain
had a poor reputation for efficiency but to what
extent this was the result of monopoly as opposed
to public ownership and poor labour relations is
not clear. Having politicians and civil servants in
charge, and powerful unions, undoubtedly had
negative effects on efficiency as well. (see George
on this issue)
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Org eff cont
• Studies by Nickell of the UK manufacturing sector (72/86)
found that higher levels of competition were associated on
average with higher firm level productivity and faster
productivity growth. But he also found that better
corporate governance (outsider pressure from owners)
reduced the significance of competitive pressures. So he
concluded that the evidence was not conclusive against
market power.
• Plus remember if employees ‘benefit’ from less pressure
then it is arguably not a deadweight social loss anyway!
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• Olley & Pakes found evidence that entry and exit
promoted faster productivity growth in the US
telecoms equipment market as it was deregulated.
This was driven by the higher productivity of new
entrants compared to incumbents, who kept
‘inefficient’ old technology plants going on too
long.
• Other studies appear to confirm the role of new
entrants adopting improved technological
opportunities in driving productivity growth rather
than the existing level of rivalry in a sector.
Remember competition for rather than
competition in?
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How many rivals is enough?
• Researchers have studied the question of how
many rivals it takes to produce enough
competition to approximate the perfect
competitive outcome. It turns out, if their
evidence is good, that it doesn’t take very many.
• A widely quoted study by Bresnahan and Reiss
(1991) examined a large number of ‘local markets’
for plumbers, car repairs, doctors etc and found
the following.
• With three (non coop) rivals competition is about
intense as it gets. You don’t need large numbers!
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Evidence on entry/ exit rates
• What about entry rates?
• There is a lot of evidence on entry levels,
covered well in L&W chap 8.7.
• Generally entry seems to happen and to do
the job of keeping incumbents honest.
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Evidence on profit persistence
• Do profits of market power persist for a long time?
• Sure, some dominant firm profits persist for 10/20 years.
IBM had a long run, Xerox had a good run, Intel and
Microsoft are still on a run. (NB public sector mons
persist but rarely profitably)
• But dominant firm profits also decline, sometimes
dramatically. IBM and Xerox both went through very
sticky periods as entrants made good. Sears lost out to Wal
Mart. GM and Ford to the Japanese invasion. BT to
Vodaphone etc.
• And look at the once mighty giants who are no longer
contenders. Dunlop? Burroughs? ICI? Nat West Bank?
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Persistence of firm level profits
• A study by Waring, 1996, looked at the sectoral
determinants of firm level profit persistence. It
found that firm profits persisted longer in sectors
characterised by high skill levels, unionisation,
switching costs, and high levels of R&D.
• However this was taken to support a comp
advantage view as opposed to a barriers to ‘entry’
view of profits (discussed further later).That is
high firm level profits persisted because even
existing rivals couldn’t easily imitate their success
in R&D and in managing skills.
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Villalonga study 2004
• Looked at firm performance sustainability using a
large sample and found that it was related to the
intangibility of its asset stock as predicted by
resource based advantage theory. However it is
double edged sword. Intangibles can lock firms
into poor performance because of the sunk cost
effect. So it is a high risk strategy, producing both
winners and losers wrt persistence. Very useful
study. Check it out, it is on the web, under her
name. (JEB&O 2004)
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Evidence on innovation/ m power
• Is not very supportive of the mainstream hypothesis of
‘harm’. No doubt because it is a very complex issue. For
example the issue of causality. The two things may be
related but what causes what exactly?
• Market structures may influence R&D investment and
innovation, but innovation success and failure also drives
market structures. Such interactions are very hard to
capture in empirical studies. Particularly given
measurement problems. We have seen that measuring
structure is hard but measuring innovation outputs is even
harder.
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• See text book for summary of studies and
findings. George concludes: no simple
relationship is apparent. Many very
competitive markets have a poor innovation
record, some dominant firms have been
very innovative (Pilkington, Intel).
• R&D intensity is more driven by
technological opportunities than by market
structures. If anything, a moderate degree
of market concentration seems best.
Oligopolistic competition.
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Research findings
• A particularly thorough study of innovation
in the UK (1948-1983) by Geroski (1990)
covering 4,400 significant innovations
found some signs of a negative relationship
between mp and innovation but the size of
the effect was very small. The author
therefore argued that the key to innovation
dynamics was not market structure but
evolving technological opportunities.
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23
More findings
• An OECD funded study by Symionidis (1996) came to
more or less the same conclusion. Although he looked at
all the research from the Schumpeterian perspective (see
earlier slide on this) in which size and market power are
expected to be good for innovation.
• So the research findings don’t lend much support to either
school. Whatever the determinants of optimal innovation
are they cannot be reduced to simplistic 2 dimensional
cause and effect views. Markets vary too much to expect
simplistic relationships to hold. For example the degree of
product differentiability (demand fragmentation) is a factor
which seems to influence the relationship according to
Symionidis (quoting the work of Sutton).
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Innovation by leaders
• New evidence on the monopoly/ innovation relationship.
Dominant firms in seeking to protect their dominance have
a greater incentive to invest in R&D than in markets where
there is no dominant player!
• Key is entry barriers. If these are not too high then the
dominant firm has to worry about about someone else
coming up with the next ‘big thing’. So the fact that
dominant firms stay dominant might show that they are in
fact competing hard to stay dominant.
• Economist article, 22/5/04 (based on Economic Journal
article by Etro, April 04)
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However re McKinsey
• A McKinsey* study has recently concluded that there is
such a thing as incumbent inertia. Or slowness to respond
to environmental threats and oppos by innovating.
• McK says this is due to ‘cultural lock in’ (inability to
accept the world has changed) and incumbent fears of
making difficult choices.
• However not all incumbents suffer. Some incumbents are
in fact very innovative. Intel, L’Oreal, Microsoft. So again
‘it is hard to generalise’ is the not very surprising message.
• *‘Creative Destruction’ text, 2001
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Performance and innovation
• Foster and Kaplan, Creative Destruction,
2001, a McKinsey research project found:
• Not all innovators were winners but that
all winners were innovators!
• Creative destroyers of the status quo. Dell,
Microsoft, Intel, Corning, Monsanto, GE,
Johnson and Johnson.
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Canadian study
• A new, well designed, study of Canadian product markets
based on new measures of specific marekt competitiveness
has suggested the relationship can go either way, ie be
positive or negative! It depends on very specific features
of firm’s perceptions about competition and about specific
innovation activities (for example process and product
innovations).
• This supports my view that we simply don’t have the
knowledge to develop policies which are guaranteed to
improve innovation and that we should be cautious about
anti trust actions.
• Research policy, 35/1, feb 2006, J Tang
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Don’t worry/ be happy
• About the lack of clear cut memorable results.
You have to remember that science isn’t a list of
definitive results but a method of investigating
complex controversial issues. We are moving
down a learning curve, improving what we know,
and discovering what we still don’t know, but not
expecting to find easy answers.
• Economics is therefore best seen as a way of
thinking, a method, for developing and testing
ideas not a neat set of clear cut answers.
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Conclusions on market power evidence
• We know a lot less about the nature of the
competitive process and impact of market power
than we think. And we all need to be more modest
until we know more. And we need to consider
alternative ways of looking at business
performance that do not assume to begin with it is
all about seeking profits by means of exploiting
market power.
• George, generally more sympathetic than I am to
the mainstream view, in fact comes to a rather
similar conclusion (p302)
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Evidence on firm specific performance
• Instead of looking at structural determinants of market
level profits what about looking directly at drivers of
individual firm level profits? Good idea. Estimate:
• Firm specific profitability as a function of the market(s) in
which it operates. Several large scale published studies
have looked at this (see next slide).
• And found that there is a statistically positive relationship,
but that it does not account for a lot of the profit variation
between firms. A lot of the variation seems to be firm
specific, not market driven.
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31
Evidence on firm specific performance
• Rumelt study (1991, updated 1999): industry effects
account for 9/16% of variations in firm performance.
• Porter/ McGahan 1997: huge US sample of firms over long
period. Industry/ market sector accounted for up to 19% of
firm level profits.
• Porter/ McGahan 1999: industry effects on firm
profitability are secondary to firm specific effects, by at
least 2 to 1.
• PIMS (profit impact of market strategies): big US data
base on business performance. Market structure is relevant,
but firm specific factors generally drive business perf.
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Marakon 2003
• Marakon consultants research (see web site)
looked at 800 businesses over 10 years to 2002
using Total Shareholder Returns (TSR) as the
measure of performance.
• Industry sector wasn’t statistically important
although some such as entertainment and
computers did better than others such as chemicals
and utilities. It was the individual businesses and
their strategies that mattered. For example top
performers relied more on organic growth and
avoided growth for the sake of growth.
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33
INSEAD 2001
• Uses new data set on EVA from Stern Stewart and a
different methodology to study relative effects of industry/
firm specific factors. It produces an interesting new result.
• That a big proportion of firm specific effects on average is
due to 2 best/2 worst performers.
• Argues that only for exceptionally good/ bad firms does
the distinction matter. For the majority industry (market)
is the key performance driver. Restores the concept of
structural determinants somewhat.
• Hawawini et al, Insead research paper, 2001
• This has a good review of the empirical literature to date.
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Part D cont: Debating
market power
• From the evidence to its interpretation
• Remember the earlier argument that
traditional theory seems to assume
something about the drivers of business
profitability and its persistence (its all about
market power) rather than seeking to
investigate the issue and look at the wider
evidence and alternative interpretations.
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Alternative interpretations
• Looking for the brighter side of the market power
debate.
• The theory and evidence reviewed suggests at
least a possibility that firm conduct is not solely
(maybe not even largely) about seeking to capture
profits by ‘harmful’ means (exploiting and
protecting market power) but could be about
creating and defending profits through developing
superior firm specific qualities?
• That is through developing comp. advantages. As
per the Austrian school and others such as Porter/
Kay/ Peteraf. How might that work exactly?
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The Austrian view of competition
• According to this school the textbook focus on ‘industry’
structure is misguided. It is the FIRM alone that matters,
because ‘industry’ structure is a consequence of how firms
compete not vice versa
• Market structure is an outcome of competition between
firms, the search for competitive advantage, not a
determinant. It is endogenous not exogenous. Firm
actions and relative success determines both market
structure and average profitability. The idea that market
structure drives profits is thus spurious. Firms are unique
& heterogeneous. And everyone is competing with
everyone else for resources/customers.
• See for ex Hill/Deedes, J of Man. Studies, 1996
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Firm specific comp advantage
and business performance
• What are these firm specific determinants
of relative success and failure, and
persistence, in value creation.
• Are there any useful generalisations to be
made about this, lessons to be learned,
which can help to guide the strategy process
and public policy?
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Create competitive advantage
•
•
•
•
•
•
•
•
Cheaper (lower cost) producer: ?
Better (superior perceived quality): ?
Newer (more innovative/up to date/fashionable): ?
Faster (speed to market): ?
More desirable/ distinctive (successful branding):?
Better reputation: ?
First mover advantages: ?
Provide your own examples of firms that compete
successfully on this basis.
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Consumers and value
• Note the obvious but absolutely fundamental point that a
business can only create and capture economic value if
what it does is valuable for consumers.
• Basically in any market (comp or not) the total value
created is divided between consumers (surplus) and
suppliers (surplus). To capture any surplus as economic
profit firms must ‘create’ it in the first place by identifying
and attracting paying customers. In this sense firms do not
‘create value’ in a vacuum. They do it in conjunction with
customers.
• Point is there is a big difference between producing
products and producing valuable products.
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Porter’s approach
• In ‘Competitive Advantage’ Michael Porter
argues that success depends basically on the
individual organisation’s ability to organise
and manage the cost and differentiation
drivers involved in a particular market so as
to produce a cost advantage or a
differentiation advantage. (see next slide)
• But this approach has problems and is
incomplete as we discuss below.
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Competitive advantage
• Porter describes two sorts of business advantage.
• 1. Cost advantage: arises when one business achieves a lower overall
cost structure than the average of its competitors in a particular market.
A cost disadvantage is the opposite. This gives the business an
opportunity to win market share or to extract a better profit from the
market. That is to increase value creation. Think of Toyota.
• 2. Differentiation Advantage: arises when one business achieves
higher price margins (prices above market average) because its
product/ service is perceived as superior compared to its rivals. Better
quality, more fashionable, newer, faster to market, better reputation,
more attractive, etc. These of course arise from investments which
create significant costs but if done well can create benefits exceeding
costs. Assets may differentiate the business: branding, quality, safety,
originality, etc. Think of L’Oreal for example. Or Sony.
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Cost differences between businesses
• Arise for a variety of reasons, or some combination of
these reasons:
• Scale differences. (Nokia v its competitors)
• Experience differences. Some businesses are much
further down the learning curve. (Intel)
• Utilisation differences. Existing capacity may be better/
more fully used. (British Airways)
• Location. Some locations are less expensive to produce in
than others.
• Economies of scope. Sony gets cost advantage from the
broad scope of its products & businesses. Also L’Oreal.
• Transaction costs: Toyota’s approach to managing its
supply chain is renowned for its cost effectiveness.
• And, see next slide for more on this
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Cost differences and organisation
• As discussed more fully below another important source of
cost differences is organisational design (architecture) and
effectiveness.
• Two businesses may have similar scale/ scope/ experience
etc but one may simply be better organised than the other
and more effective at managing its operations. Better at
motivating and coordinating people and managing
complex operations. This is called organisational
architecture.
• For example Wal Mart, RBS, AXA, BP, Toyota, and Dell
are superbly organised and managed compared to many of
their competitors.
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• Therefore a successful ‘low cost’ producer may
come about because a combination of superior
plant/ firm scale, superior learning/ experience,
superior utilisation levels, superior economies of
scope, superior transactional effectiveness, or
more effective organisation.
• In examining a particular market (eg for PCs) a
good place to start would be to consider what was
driving cost differences amongst businesses (such
as Dell, Compaq, HP etc) and how this influenced
relative performance and the evolution of market
shares.
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Cost differences and strategic
differentiation
• When comparing costs however it is important to compare
like with like. Cost differences between firms can reflect
important differences in strategic intentions or differences
in the market niche being developed.
• For example a business seeking competitive advantage
through superior quality or product development may have
‘high’ costs because it is aiming for a sales advantage. Or a
business seeking a distinctive market niche (Porsche) will
have ‘higher’ costs than a mass market producer as PSA.
• This shows the importance of defining the market
properly and considering firm strategy when comparing
costs.
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Differentiation differences between businesses
• Differentiation advantage may arise from a variety of
sources:
• Product differentiation/ branding a la Coke or Nike
• Quality based differentiation a la Toyota or George V
• Speed to market with exciting new products a la Sony or
Apple
• Cutting edge innovators such as Glaxo or Aventis
• Fashion based differentiation a la Armani or LV
• Reputation based differentiation such as McKinsey or
Harvard Business School
• Differentiation based on understanding emerging market
patterns and developing/ positioning the right products at
the right time a la Airbus or Nokia
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Examples
• Businesses with Comp advantage: consider on
what exactly it might be based.
• Toyota in mass market autos.
• BMW in luxury autos.
• LMVH in luxury goods.
• Dell in desk top PCs
• BA in airlines
• Harvard for management education
• Some of those with no comp advantage:
• Fiat, Ford, Air Canada, Alitalia, ……
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Some questions about Porter
• Why does the more successful firm not buy the
less successful and teach it how to minimise costs?
• Why does the successful firm not sell its expertise
in cost reducing to less successful firms?
• Why does the successful firm not cut its prices and
drive its competitors out of business (dominance)?
• Why does the unsuccessful firm not bid for the
executive(s) in charge of cost/ diff drivers from
the successful firm? (it happens, eg the battle
between General Motors and Volkswagen for the
services of cost guru Mr. Lopez)
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Porter’s SCA
• Low cost/ differentiation may indeed be a proximate cause of CA but
they cannot be the ultimate source.
• Low cost positions, superior quality, speed to market,
or whatever, must come from something or other the
organisation has or does. From assets it has created, or
processes it has developed.
• For example in agriculture the superior returns achieved by some
farmers derives from lower costs which derive ultimately from
superior quality (ie more productive) land, a resource that is very hard
to increase the supply of!
• Nowadays Nokia’s or Dell’s superior returns come ultimately from
something similar, something (scarce and hard to make more of) which
allows them to do things which enable them to offer a better ‘value for
money’ proposition to consumers. But what things exactly?
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Porter’s recipe
NB If it was possible for Porter literally to describe how to
create and sustain competitive advantage (which is his
unique selling proposition) then surely all firms have equal
access to this knowledge once Porter has codified it in his
text. So can such knowledge literally be a source of SCA?
Or is it not perhaps simply a description of the necessary
conditions for success?
Isn’t it a bit like saying that if you want to win the 1500m
gold medal you need to be able to run fast?
Furthermore if everyone reads the book and applies the
lessons it just raises the standards required for survival!
Lesson 101: Beware over hyped recipes!
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Beyond Porter
• Can we now offer a better/ deeper
explanation of the roots of (and routes to)
superior business performance?
• In the 90’s a capabilities/ competencies
approach emerged as a ‘new orthodoxy’
leading to a distinctive ‘resource based
view’ of the firm and approach to strategy.
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Porter’s approach to CA
• Low cost/ differentiation may indeed be the proximate cause of CA but
they cannot be the ultimate source!
• Low cost positions, superior quality, speed to market, or whatever,
must come from something or other the organisation has or does
that other don’t have or do.
• For example in Ricardo’s time the superior returns (CA) of some
farmers came from lower costs which derived ultimately from superior
quality (ie inherently more productive) land, a resource that was very
hard for others to make more of!
• Nowadays Nokia’s or Dell’s superior returns arguably come ultimately
from something similar, something (scarce and hard to easily make
more of) which they have created which allows them to do things in
ways that enable them to offer a better ‘value for money’ proposition to
consumers. But what things exactly?
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Beyond Porter
• We can now suggest a better/ deeper explanation of the
roots of (and routes to) superior business performance, one
which is consonant with the more recent evidence.
• In the 90’s a capabilities/ competencies approach emerged
as a new view leading to a distinctive ‘resource based
view’ of firm performance.
• Question: What ‘ things’ or ‘qualities’ could give a specific
firm a sustainable edge (cheaper/ better/ …) over its rivals?
• A series of influential articles in the HBR and elsewhere
developed this new approach (although it turned out its
origins were much earlier…Edith Penrose, or even
earlier…David Ricardo’s theory of land rents)
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Collis and Montgomery (1995):
competing on resources
• Competitive advantage derives ultimately from the
ownership of a scarce valuable ‘resource’.
• Superior performance derives from developing a
‘competitively distinct’ set of resources and
deploying them effectively.
• Resources involved could be physical, intangible,
or organisational processes.
• Example given: Marks and Spencer (poor timing?)
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Hyper-competition
• No cost/quality advantages are truly durable but the
skills needed for generating new advantages can be
durable.
• H. Requires ability to disrupt the market rapidly and
repeatedly so as to unsettle the competition.
• H. Requires competencies&capabilities in
surveillance, intelligence, interpretation, initiative,
opportunism, shaping situations as they emerge.
• Success in H requires improvisation, inventiveness,
unpredictability, speed, surprise, changing the rules
of the game, and decisiveness.
• D’Aveni, Hypercompetition, 1994
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A ‘new’ economy view
• All profits are transitory. They always attracts competition and get
squeezed. Success (?) generally comes from attack not defence. No
business can stand still. Not even a Microsoft. Success needs to be
constantly renewed by continued investment efforts. This depends on:
• Creativity, innovation, newness, surprise, initiative, flexibility,
speed of reaction, decisiveness, opportunism, anticipation,
reinvention, organisational intelligence, identifying and exploiting
the right options, energising the business.
• That is on developing and using competitive competencies and
capabilities to produce a competitive advantage, not on exercising
static mon. power.
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Distinctiveness is the key
• NB it isn’t just a matter of having capabilities or competencies, but
having distinctive c and c. More effective than average for….
• Production/ marketing effectiveness
• Innovation effectiveness
• New product generation effectiveness
• Strategic thinking effectiveness
• Transactional/ coordinative effectiveness
• Organisational effectiveness
• People management effectiveness
• Problem solving effectiveness
• Financial effectiveness
• Marketing/ Customer relations effectiveness
• Cost management effectiveness
• Learning effectiveness
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Distinctive capabilities: Kay (1993)
In his best seller, ‘The foundations of corporate
success’ John Kay argues that the source of
competitive advantage is the creation and
exploitation of distinctive capabilities.
The value of any advantage created depends on its
sustainability and its appropriability.
Kay identifies only three basic types of distinctive
capability:
Corporate Architecture. Innovation. Reputation
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Why these things?
•
•
•
•
•
What is it about these things in particular?
Difficult to build and maintain.
Difficult to codify/ make into recipes.
Difficult to copy/ emulate/ replicate.
Can’t simply be bought ‘off the shelf’ like
a piece of machinery.
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RESOURCE BASED ‘VIEW’ OF THE FIRM
A distinctive resource based ‘view’ of firm performance has
emerged trying to formalise the capabilities approach.
• The “resource-based” approach is concerned with the
nature of the firm’s resources and how these resources are
combined into capabilities.
• Key example is Peteraf (1993). Her approach is outlined
below and summed up in this figure (at lecture). Note she
uses the term RENT common in US writing to connote the
outcome of sustainable competitive advantage (ie
economic profit that isn’t easily competed away).
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Ex-ante limits
to competition
Heterogeneity
Rents not offset
by building costs
Rents obtained
Peteraf
model
Competitive
advantage
Rents captured
by the firm
Imperfect
mobility
Rents sustained
Ex-post limits
to competition
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Competitive Advantage a la Peteraf
A firm is said to have a competitive advantage when it can:
• achieve rents: which requires resource heterogeneity between
firms (some have better bundles of resources than others).
• enjoy rents that are not offset by the costs of achieving a
superior set of resources: which requires ex ante limits to
competition for those resources.
• appropriate those rents for the firm: which requires imperfect
resource mobility.
• sustain those rents: which requires ex-post limits to
competition.
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Entrepreneurship and rent
So a firm needs the foresight to acquire resources and
build capabilities in the absence of too much such
competition. This requires the presence of uncertainty,
incomplete information and a willingness to take risks. If
everyone knows today what will be valuable tomorrow
competition would raise prices.
The essence of successful ENTREPRENEURSHIP is of
course foresight and taking advantage of uncertainty and
incomplete information before someone else does.
So what Peteraf seems to be saying here is simply that rents
derive from entrepreneurial activity. Which seems
intuitively reasonable to me.
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Summing up on SCA
• The ultimate determinants of success and failure
in the search for profits? No easy recipes to offer
but the starting point is being cheaper (low cost)
/better/faster etc.
• The capabilities/ competencies approach
developed in the 90’s looks to the development
and deployment of a distinctive set of resources
and capabilities. Success is not the norm because it
isn’t so easy to create and deploy these things.
• Success is not just about exploiting ‘market
power’ it is about organisation, reputation,
innovation and entrepreneurship. F specific
qualities.
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Summing up
• The value of distinctive capabilities lies in the fact
that they are hard to create and maintain, hard to
codify or make into recipes, hard to copy or
emulate, and can’t simply be bought ‘off the
shelf’.
• Organisational architecture is a fundamental
source of advantage. Strategy (what you do) and
structure (how you do it/ make sure it gets done)
are closely connected as determinants of success.
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Part E: other aspects
• Continue considering the consequences of
firm development into other areas, such as
vertical integration and M&As (time
permitting).
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