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The Business dictionary suggests that the definition of strategy is "the approach to future that involves Â examinationÂ of theÂ currentÂ external and internal environment, envisioning a new orÂ effectiveÂ roleÂ for the firm in aÂ creativeÂ manner, and aligningÂ policies,Â practices, andÂ resources to achieve the primarily goals of a firm profitability and growth."
The way and an explanation how to achieve the businesses goals; profitability and growth, can be supported by two theories, giving an inside into external and internal sources which result either into success or failure. Researchers were constantly trying to look for the answer of "why do some companies fail and why some enjoying the success?" Michael Porter has provided us with the explanation of the external environment and the five forces by which the company is surrounded and influenced. However since 1980s, when Porter had established the framework analysing the variables influencing the competition and profitability, many other ideas and theories were put forward regarding the analysis of the sources of the competitive advantage. Those have included Capabilities and Resources based view, which would work as a source of criticism of external orientation strategy approach and put rather resources on the first place as the foundation of a firm's strategy. Therefore, which of these two theories, Resource and Capabilities, and Porter's Five forces, gives a better perspective on firms profitability and explains better what does the competition influence?
Porter is suggesting that the firms have to beat the competitors in as many key activities as possible. "To survive in an industry it is necessary to ask two questions, what do our customers want and what does a firm need to do to survive." (Grant 2010, p.87) "Traditional view of Porter sees firms as homogenous entities, and competition is occurring via positioning in markets and the structure of the industry. Strategic challenge is to identify attractive markets to compete in with characteristics identified by five Porters Forces." (Powell, 2007) The success lies in choosing an attractive industry, as close to a monopolistic position as possible, where a firm can outshine its rivals and try to avoid the level of competition. (Hax, 2002)The intensity of competition can be determined by the level of competition from substitutes on the market, threat of new entrants, the power and relationships between buyers and suppliers and, finally, the rivalry among incumbent firms which is the most important element of Porters diagram.
These elements indeed influence the position of the firm in the industry, but "the firm is not a prisoner of the industry structure" (Porter, 1985)at all and can influence it by its own strategies.. All the Five forces may not have the same importance depending on the industry, but all lead to the same goal to enhance the competitive advantage. "Competitive advantage grows out of value a firm is able to create for its buyers that exceeds the firm's cost of creating it. Value is what buyers are willing to pay, and superior value stems from offering lower prices than competitors for equivalent benefits or providing unique benefits that more than offset a higher price. There are two basic types of competitive advantage: cost leadership and differentiation."(Porter, 1985)
Porters Framework helps to identify where the potential for profit is lying by analysing each element one by one. The rivalry between firms is the most powerful element, if the competition happens to be high, there are likely to be pressure on prices and therefore on margins of firms and pushing their profits down. This happens as a result of interaction between different factors; the number of firms is too high in one market, especially when using the same strategy then the competition is based mainly on price. A threat from substitutes is present, or control of buyers and supplier. For firms is however very difficult to leave the industry, as they are facing barriers of exit tied up with high costs as their resources are too specialized or their employees are protected by law.
At the same time, firms are under a constant threat of new entrants to the market, which could bring advanced products or services. The higher the numbers of incumbent firms, the higher are the changes to a firm to enter the industry. The level of the threat depends on the number and strength of the barriers of entry for the new players. It is essential to have a substantial capital to enter a new market and to get established, it would be very unlikely for a firm to succeed together with e.g. Airbus without having the same or better resources for the R&D, marketing, etc and not being able to enjoy economies of scale, patent protection or having well established distribution channel or good relationship with customers. Large companies and established companies may not worry about substitutes; however may be disastrous for smaller ones. The threat exists when new firms are able to offer better service, cheaper products or innovation such as downloading music instead of buying CDs. The existing companies do have to put more effort and spend more to attract customers. Substitutes also form a price ceiling, which the rivals can't exceed otherwise a customer chooses a different product.
Not only the customer has a primary say in the world of competition and commerce, and the buyers are dominant players, "they affect the profitability with their purchase choices" (Bamford, 2009) and diminish the profitability of industry. They also do demand lower prices, better quality and service. They become more economically powerful when they buy in large volumes, they could easily switch to another product, if the market offers substitutes or if buyers can integrate backwards without any problems and could start making the product themselves. (WikiCFO.com, 2010)
The last element in Porters diagram is the bargaining power of suppliers, similar to case of buyers: their power can be exerted by making product less available, reducing their quality or they can put pressure by higher prices. DeBeers, ruling the diamond market, has a very high supplier power, which will in most likely cases "decrease profit potential for the buyers." (WikiCFO, 2010)There are several factors, which affect the power including the availability of substitute inputs, more concentrated the control over supply they have more power they possess, there might be a threat of forward integration and suppliers can be selling their products directly to the customer.
However, the view of Porter could be perfected if we include: Strength, Weaknesses, Opportunities and Threats analysis (SWOT), strategy by which a firm could exploit not just its external environment but as well as look inside. With the conjunction of PESTLE, which stands for Political, Economic, Sociological, Technological, Legal and Environmental factors surrounding businesses, we could get a good overview and analysis of industry and an individual firm.
On the other hand, resource based perspective focuses the attention on the performance of the firms and emphasizes its assets and capabilities as its primary strength. The way the resources and capabilities are combined, makes firm different from one to another. It is important that these resources are valuable, rare, inimitable, and non-substitutable as (Barney, 1991) had suggested in his work. "(Rungtusanatham et al., 2003) have perfected Barney's view and included that resource must be imperfectly mobile to discourage the ex-post competition for the resource that would offset the advantages of maintaining control of the resource. It was then abbreviated as VRINN (valuable, rare, imperfectly mobile, not imitable and not substitutable)." (Laosirihongthong T., 2009) (Prahalad and Hamel, 1990) made even more thorough research into Resource Based View (RBV) and presented out three main ideas in the Harvard Business Review; "The competitive advantage comes from the strength of being able to act in cheaper, faster way than the rivals. The fountain of competitive advantage lies in the management capability to use firms' technology and production skills in a way that it helps the business to react and adapt fast in the industry. Second, the physical bond between core competencies and end products is a core product." Third, they talk about the management which should be most of the time focusing on building corporate strategy.
As an example; a firm, which has used their resources to the maximum of their value is Toyota. It has identified their strategic resources and it is using them to enhance their sustainable competitive advantage. Each distinctive element of the value chain and its linkages provided Toyota with the competitive advantage over their competitors. These resources classify into tangible, intangible and human resources including their assets, knowledge, technology, human skills, and financial securities etc. (Grant, 1991) defines these resources as inputs into production cycle; in order to make them work there has to be a careful coordination of them. First, it is important that the firm identifies its strength and weaknesses of its capabilities and then analysing the profit earning potential from these, resulting in choosing the right strategy and eventually extending these resources and capabilities. Some firms were not able to identify these elements and failed such as Kmart, "their implementation process was done in a way that the costs exceeded the resulting benefit," (Hax, 2010) on the other hand, Walmart operating in the same industry has proven to be the dominant player by using their capabilities and identifying primary questions of a business strategy: who their customers are, what their needs are and how to satisfice their needs. "Toyota has also been able to initiate their unique capabilities and being able to manage their core competencies to meet the needs of the clients for innovative and new vehicles through the just in time system, which is so unique selling point of this company." Apart from the strong manufacturing system, Toyota has been enjoying its strong marketing capabilities by building their strong brand name, which is inimitable and enhances their competitive advantage, attracting customers and satisfying their needs.
However, Grant himself suggests that Resource Based View theory is not clear enough and its implication to the strategic management has not been developed yet. It does lack a single framework such as Porters Forces. (Grant, 1991)Resource Based View may be a very simplistic view on resources and capabilities being the only aspect affecting the firm, many firms are dealing with turbulent industry they are performing in and doesn't matter how great their e.g. managerial skills are. "It only gives a narrow explanation of competitive advantage" (Kraajenbrink, 2010), which Porter does explain thoroughly. The question of determining what resources are might also be a challenge for a firm. "Works of Bain (1956) reflected a view that it is assumed that management can't influence neither industry nor the performance of the firm. Firms conduct is constrained by industry forces, management role and its own assets can therefore be ignored." (Spanos, 2001)
The importance of resources by itself does no guarantee success. It is the way how the resources are used and if they provide the firm with distinctive capabilities, only a few resources might be productive by themselves. Sometimes a firm overestimates their resources and strengths, not looking further on the environment such as in the case of Disneyland Paris. The managers believed they had all the attributes to be successful with their cartoon characters; however Disneyland made an enormous loss instead. (Fahy, 1999) Resources do not give strength to the firm as it can be bought by the rivals too; therefore the companies are losing the competitive advantage by having the same available resources. Resources have to be developed internally or ensure that there is a short supply to gain the competitive advantage; nevertheless it may take long time to figure out the way how to use the resource for the firm. (Grant, 1991) points out capabilities have to be explored as well, it involves a complex pattern between people and other resources and it is hard to move them across businesses. Toyota would not be able to compete on the automotive market if they didn't have knowledge about the industry, different design, and manufacturing nor having in mind their competition, having a good supplier and buyer relationships.
Both theories are approaching the term of strategy in a different way; therefore, it is truly difficult to say which one is the best choice for a firm. "Porter explains sources of profitability as the result of the links to the firm's monopolistic position in the industry structure, on the other side RBV associates profitability with internal capabilities of the business." (Hax, 2010)We also have to bear in mind that RBV originated and was built on the idea of Porter and that both theories have similarities, "they both believe that businesses are in the "war" and building their business strategy is alike playing a zero sum game".(Hax, 2010)
In order to achieve competitive advantage, it is very important to develop firm's resources, but at the same time look at the industry surrounding them and their effects on the business. Perhaps, there is no right answer: Porter and RBV could be combined as they complement each other by focusing on different areas. Recent researches have shown that "both co-exist and shape actual firm behaviour." (Spanos, 2001) According to (Foss, 2000) resource based strategy represents internal strength and weaknesses and on the other hand, the industry acts as the analysis of opportunities and threats, therefore the combination of both would bring more balanced view.
There is still a room for further development of both strategies. The new Delta model strategy, as the name suggests is looking for a change (Delta in Greek stands for change). It was developed by the professor of Sloan Business School, is perfecting both strategies by adding another element which is the customer. In Porters framework the customer element might be the buyer, in RBV there no is customer mentioned at all. Customer is the main aspect in firm's performance, without customers firms would not work, however companies are sometimes forgetting this and rather focus on product instead. Companies such as Dell removed intermediaries in the supply chain so they would be able to get closer to the customer and bond with them, forming strong competitive advantage. To achieve a good relationship with a customer, Delta diagram, which is represented via triangle, gives three different strategic options, which are the new sources of profitability. These are: Best Product, when the customer chooses the product for its characteristics such as quality, low price etc. Total customer solutions is when the product is no longer in the centre, but the customer. "The Boeing strategy is to offer customers total solutions for the dynamic, complex air travel marketplace. This is the critical path for the successful manufacturer in the years ahead." (Boeing, 2000) Finally a Lock in System, which is a system attracting the complementors, "which are not competitors, but providers of products and services that enhance company's products and services." (Hax, 1999) Microsoft could be the best example of this strategy, offering their software as an essential part of most computers. Of course, companies do have think of the ways how to stay successful and not to become too monopolistic.
In a nutshell, Porter offers a better and different perspective on understanding on how a firm should position itself in the industry taking into account its external environment. RBV gives better and different perspective on how a firm can enjoy their potential and internal strength to enhance their competitive advantage. Delta model shows both strategies in a different light giving a better understand and a new perspective of both by pointing out the importance of having both strategies present together.