CHAPTER 3

INTERNAL ANALYSIS: DISTINCTIVE COMPETENCIES, COMPETITIVE ADVANTAGE, AND

PROFITABILITY

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LEARNING OBJECTIVE
▪ Discuss the source of competitive advantage.
▪ Identify and explore the role of efficiency,
quality, innovation, and customer
responsiveness in building and maintaining a
competitive advantage.
▪ Explain the concept of the value chain.
▪ Understand the link between competitive
advantage and profitability.
▪ Explain what impacts the durability of a
company’s competitive advantage.
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COMPETITIVE ADVANTAGE
▪ Exists when a company’s profitability is greater
than the average profitability of all companies in
its industry.
▪ Sustained competitive advantage - Exists when a
company maintains its competitive advantage
over a number of years.
▪ Primary objective of strategy

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DISTINCTIVE COMPETENCIES
▪ Firm- Specific strengths that allow a company to
differentiate its products and/or achieve lower
costs than its rivals.
▪ Arise from resources and capabilities
▪ Resources: Assets of a company.
▪ Tangible resources: Physical entities.
▪ Land, buildings, and inventory, and money.
▪ Intangible resources: Nonphysical entities created by
managers and other employees.
▪ Brand names, company reputation, and intellectual property.

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DISTINCTIVE COMPETENCIES
▪ Capabilities- Company’s skills at coordinating its
resources and putting them to productive use:
▪ reside in an organization’s rules, routines, and
procedures.
▪ Intangible.
▪ lead to sustained competitive advantage if they are rare
and protected from copying.

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DISTINCTIVE COMPETENCIES
▪ Requirements
▪ Firm-specific and valuable resource, and the capabilities
to take advantage of that resource.
▪ Firm-specific capability to manage resources.
▪ Distinctive competency is strongest when a company
possesses both.

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COMPETITIVE ADVANTAGE, VALUE
CREATION, AND PROFITABILITY
▪ Profitability of a company depends on the:
▪ value customers place on its products.
▪ price it charges for its products.
▪ costs of creating those products.
▪ When a company strengthens the value of its
products, it can:
▪ raise prices to reflect the value.
▪ reduce prices to induce more customers to purchase its
products.

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COMPETITIVE ADVANTAGE, VALUE
CREATION, AND PROFITABILITY
▪ Point-of-sale price is less than the utility value
placed on the product by many customers, due
to:
▪ consumer surplus - customers capture some of that
utility.
▪ customer’s reservation price - each individual’s unique
assessment of the value of a product.
▪ competition from rivals.

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©2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
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VALUE CREATION AND PRICING
OPTIONS
▪ Managers must understand:
▪ dynamic relationships among value, pricing, demand,
and costs.
▪ how value creation and pricing decisions affect
demand.
▪ how unit costs change with increases in volume.

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PRIMARY ACTIVITIES
▪ Relate to a product’s design, creation, delivery,
marketing, support, and after-sales service.
▪ Research and development
▪ Design of products and production processes.
▪ Superior product design increases a product’s
functionality and add value.
▪ Production
▪ Creation process of a good or service.
▪ Helps lower cost structure and leads to differentiation.

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PRIMARY ACTIVITIES
▪ Marketing and sales
▪ Brand positioning and advertising - increase customers’
perceived value of a product.
▪ Help create value by discovering customers’ needs.
▪ Customer service
▪ Provide after-sales service and support.
▪ Create superior utility by solving customer problems
and supporting customers after a purchase.

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SUPPORT ACTIVITIES
▪ Provide inputs that allow the primary activities
to take place.
▪ Materials management
▪ Controls the transmission of physical materials through
the value chain.
▪ Lowers cost and creates more profit .
▪ Human resources
▪ Ensures value creation by making sure that the
company has the right combination of skilled people.

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SUPPORT ACTIVITIES
▪ Information systems
▪ Electronic systems to improve efficiency and
effectiveness of a company’s value creation activities.
▪ Company infrastructure
▪ Companywide context within which all the other value
creation activities occur.
▪ Organizational structure, control system and company culture

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©2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
BUILDING BLOCKS OF COMPETITIVE
ADVANTAGE
▪ Efficiency
▪ Measured by the quantity of inputs that it takes to
produce a given output.
▪ Employee productivity - Output produced per employee
▪ Helps attain competitive advantage through a lower cost
structure.
▪ Quality
▪ Superior quality - Customers’ perception that a
product’s attributes provide them with higher utility
than those sold by rivals.

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BUILDING BLOCKS OF COMPETITIVE
ADVANTAGE
▪ Quality as excellence - Product features and functions,
and level of service associated with its delivery.
▪ Quality as reliability - Occurs when a product
consistently performs the function it was designed for,
and seldom breaks down.
▪ Innovation
▪ Product innovation: Development of products that are
new to the world or have superior attributes to existing
products.

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BUILDING BLOCKS OF COMPETITIVE
ADVANTAGE
▪ Process innovation: Development of a new process for
producing products and delivering them to customers.
▪ Customer responsiveness
▪ Superior responsiveness - Achieved by identifying and
satisfying customer needs better than one’s rivals.
▪ Customer response time: Time that it takes for a good
to be delivered or a service to be performed.
▪ Other sources - Superior design, service, and after-sales
service and support.

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DEFINITIONS OF BASIC ACCOUNTING
TERMS
Term Definition Source
Cost of Goods Sold • Total costs of producing products Income
(COGS) statement
Sales, General, and • Costs associated with selling products and Income
Administrative administering the company statement
Expenses ( SG&A)
R&D Expenses (R&D) • Research and development expenditure Income
statement

Working Capital • Amount of money the company has to work Balance

with in the short term: Current assets – sheet
current liabilities
Property, Plant, and • Value of investments in the property, plant, Balance
Equipment (PPE) and equipment that the company uses to sheet
manufacture and sell its products
• Also known as fixed capital

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DEFINITIONS OF BASIC ACCOUNTING
TERMS
Term Definition Source
Return on Sales (ROS) • Net profit expressed as a percentage of sales Ratio
• Measures how effectively the company
converts revenue into profits
Capital Turnover • Revenues divided by invested capital Ratio
• Measures how effectively the company uses
its capitals to generate revenue
Return on Invested • Net profit divided by invested capital Ratio
Capital (ROIC)
Net Profit • Total revenues minus total costs before tax Income
statement
Invested Capital • Interest-bearing debt plus shareholders’ Balance
equity sheet

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©2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
BARRIERS TO IMITATION
▪ Make it difficult for a competitor to copy a
company’s distinctive competencies.
▪ Greater the barrier, more sustainable a company’s
competitive advantage.
▪ Imitating resources
▪ Firm-specific and value tangible resources are the
easiest to imitate.
▪ Intangible resources
▪ Brand names - Imitating them is prohibited by law.

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BARRIERS TO IMITATION
▪ Marketing and technical knowhow - Easy to imitate owing to
movement of skilled personnel between companies and
visibility of strategies to competitors.
▪ Technological knowhow - Easy to imitate as patents do not
provide complete protection.
▪ Imitating capabilities is difficult because:
▪ they are not visible to outsiders.
▪ no one individual has access to all the internal
operating routes and procedures of a company.

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CAPABILITY OF COMPETITORS AND
INDUSTRY DYNAMISM
▪ Capability of competitors is determined by the:
▪ nature of the competitors’ prior strategic
commitments.
▪ strategic commitment - company’s commitment to a
particular way of doing business.
▪ Absorptive capacity - Ability of an enterprise to identify,
value, assimilate, and use new knowledge.
▪ Most dynamic industries are those with a very
high rate of product innovation.
▪ Where product life cycles and competitive advantages
are short-lived.
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REASONS FOR FAILURE OF
COMPANIES
▪ Inertia - Companies find it difficult to adapt to
changing competitive conditions.
▪ Power struggles and hierarchical resistance make
change difficult.
▪ Prior strategic commitments - Limit a company’s
ability to imitate rivals.
▪ Cause competitive disadvantage.
▪ The Icarus paradox - Companies become very
specialized and myopic.
▪ Lose sight of market realities.

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STEPS TO AVOID FAILURE
Focus on the building blocks of competitive advantage

Institute continuous improvement and learning

Track best industrial practice and use benchmarking

Overcome inertia

The role of luck

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