“Sources of competitive advantage rarely yield added value that can be sustained over time.”
The following essay is going to attempt to assess the above proposition and try to find if it is possible to add value continually over a period of time. I will first discuss what competitive advantage is and what it means to a firm. Then I will explain the sources of competitive advantage and how the distinctive capabilities of a firm allow it to sustain added value. The discussion is based on a number of viewpoints from different authors who will be clearly indicated and acknowledged. I begin with explaining what competitive advantage is.
So, what is Competitive Advantage? In a number of industries, the average performance of the industry is usually no better than the average performance of industries’ as a whole. However particular firms or groups of firms manage to do considerably better than average. In this case, the high performing firm or sub-group has something special and difficult to imitate to offer which allows it to outperform it’s rivals.
Porter (1985) refers to such special assets as the firm’s competitive advantage. “A firm’s competitive advantage are those characteristics that allow it to do well even in the face of mediocre industry wide performance and free entry into the industry as a whole.”
The firm has certain capabilities which allow it to be different from the other firms in the industry. It has certain distinctive capabilities which cannot be reproduced by competitors. However, it is not enough for that characteristic to be distinctive. It is also necessary for it to be sustainable over a period of time.
As Oster (1994) points out, ” The key success factors in an industry are those assets that allow a firm to outperform it’s rivals for a sustained period of time.”
Competitive advantages are always relative. For example, Sainsbury’s has a very slight competitive advantage over Tesco. These firms serve similar markets and they see themselves as members of the same industry and strategic group. Tesco has a competitive advantage over Argyll. In a paired comparison one firm will have a relative competitive advantage over another.
The resource based theory of the firm indicates, ” If all firms in a market have the same stock of resources and capabilities, no strategy for value creation is available to one firm that would not also be available to all other firms in the market.”
The theory is implying that a resource must be scarce in order to sustain profitability in the industry. A firms profitability is a function not only of industry conditions, but also of the amount of value it creates relative to it’s competitors. The amount value the firm creates in comparison depends on it’s cost and differentiation positions relative to competitors. No business can exist without creating positive value, and to achieve a competitive advantage it must add more value that it’s competitors.
Added value is the difference between the market value of a firm’s output and the value which it’s inputs would have in comparable activities undertaken by other firms. Added value can be achieved if customers or suppliers are willing to undertake relationships which they would not make available to other people.
The main sources of competitive advantage are architecture, reputation and innovation. It is the ability of the firm in how it utilizes it’s distinctive capabilities to add value to it’s competitive advantage.
Architecture is the first primary distinctive capability of competitive advantage. It is a network of relational contracts within , or around, the firm. It is a description of relationships held by a firm internally or externally, or with a group of other firms. Architecture can add value and provides competitive advantage by encouraging the formation of organizational knowledge and the development of organizational routines and cooperative ethics. Some firms such as IBM and Marks ; Spencer have a powerful and identifiable corporate culture. Each of these companies has created a structure, a certain style, a set of routines which operates to get the best out of employees.These routines have continued to produce exceptional results and add value.
Kay (1995) points out, “Architecture depends on the ability of the firm to build and sustain long term relationships…it is easier to sustain architecture than to set out to create it.”
More than the other sources of competitive advantage, the sustainability of architecture rests on the level of skills of senior mangers. The first major step for the managers is to recognize the nature of the firm’s architecture and the function it plays in the markets the firm serves. Kay argues that there are two main types of distinctive capability based on architecture,. Firstly, the firm’s architecture may generate a flow of innovations which forms a sustainable advantage. Secondly, the architecture of the firm may allow the firm to successfully adopt new technology sooner and more efficiently than it’s competitors.
The second primary distinctive capability is Reputation. This is the most important commercial mechanism for conveying information to consumers. The process of building up a reputation can br accelerated by staking a reputation which has been established in a related market. Once the firm’s reputation has been created, it will have an advantage competing for new customers and further strengthening it’s reputation. However, reputation is difficult and costly to establish and in order to sustain it a lot of hard work by management has to be exerted. It is worthwhile investing into building a reputation if two certain conditions are met. The first condition is that the premium available for providing high quality is large relative to the cost of providing high quality. The second condition is the likelihood of repeat purchase. If the firm is unlikely to provide the service or product again, then there is little point to maintain a reputation. Once established, though, reputations can yield substantial added value.
Innovation is the third primary distinctive capability. The process of innovation involves complex interactions between firms. Managing innovation is costly and risky. New products on the market can fail because of the lack of demand for them. Firm specific innovation usually is the application of generally available knowledge or technology in advance of, or more cheaply, than it’s competitors. Sometimes, what appear to be the rewards of innovation are often the products of the firm’s architecture. Some firms established an architecture which stimulates a continuous process of innovations. Others create an architecture which enables them to implement innovation particularly effectively. There was EMI who was one of the most effectively innovative companies which pioneered in television, computers and it’s music business. Sir Clive Sinclair created a reputation for innovation by bringing products such as digital watches, personal computers and battery operated cars to the market for the first time.
Distinctive capabilities enable firms to produce at lower costs than their competitors or to enhance the value of their products, which puts them ahead of their rivals. They are the product of the firm itself in terms of it’s architecture, it’s reputation and successful innovation.
Nevertheless, some competitive advantages are not based on the distinctive capability firms, but instead are based on their market position or dominance. These are know as strategic assets.’
Kay recognizes three main types of strategic assets. The first is that some firms may benefit from a natural monopoly. Secondly, in other markets, firms have already incurred many of the costs of supply, but new entrants have not. Thirdly, some firms benefit from market restrictions which are imposed by government such as licences and regulation. Firms which hold a licence that is not available to other firms, enjoy an advantage over their potential competitors.
Kay (1995) states, “Their competitive advantage follows from the structure of the industry or market, rather than from their own distinctive capability.” These firms are said to hold strategic assets. Large firms may enjoy market positions based on strategic assets even if they have no distinctive capability. Small firms may achieve modest profits from local strategic assets.
However, strategic assets are often less secure sources of competitive advantages than distinctive capabilities. Kay (1995) indicates, “Distinctive capability continue to add value only if both the capability and the distinctiveness are sustainable.” Competitive advantages begin to alleviate because the distinctive capability may itself decline and become less distinctive. Or the market may shrink in which that distinctive capability is applied.
The first most likely distinctive capability to suffer is innovation. Most innovation advantages are transitory because the successful innovation is quickly adopted by other firms. Innovation yields a competitive advantage only for a length of time it takes for innovation to be effective. Innovation advantages are more sustainable where they are supported by other distinctive capabilities or protected by complementary assets. Kay recognizes the need for innovation to be used in conjunction with at least one other distinctive capability in order to ensure success for the firm.
The architecture of the firm may generate a flow of innovations which forms a sustainable advantage even if individual innovations are unsuccessful. However, as a result of innovation being costly and difficult to manage, there is a lot of uncertainty surrounding it. Usually, a great deal of research and development goes into producing innovations which have no guarantee of profitability. So, it can be said that transforming innovation into sustainable competitive advantage which yields added value is very difficult to implement and also unlikely.
Competitive advantages which are based on architecture can be sustained over long periods of time.
If organizational knowledge is refreshed and replenished frequently then added value can be yielded. To continue to add value a cooperative ethic requires regular reinforcements. Some firms have maintained their advantages by adopting their organizational knowledge and redeploying their relational skills in different market sectors.
The sustainability of architecture is the responsibility of the management of the firm. Kay (1995) states, “Architecture is certainly not created by, and not much sustained by, the proliferation of identity and communication programmes of the last decade as chief executives and their consultants unveil the expensively orchestrated corporate culture.” Here, Kay is implying that management must acknowledge the degree to which architecture grows with and from the organization. If this can be identified by firms then they are in a position to yield added value which can be sustained over time.
Reputation advantages are usually persistent and sustainable over time. Kay uses the phrase, “living on a reputation,” to describe the process of sustaining competitive advantage. However, reputation advantages often fade as the market, in which they were established declines. Therefore in order to sustain added value the market needs to stay constant or progress.
Strategic assets fall into three broad categories. The first is that some companies have a natural monopoly in the market. The second, is a firm may benefit from some sort of regulation ruled by the government. The third is the cost structure of the industry, with a substantial component of sunk cost which may confer incumbent advantages. A natural monopoly ensures that there is only one firm in a market. A firm with a modest competitive advantage can easily knock out an incumbent firm whose strategic advantage is natural monopoly. So a natural monopoly on its own may find it difficult to sustain added value over a period of time. Almost all natural monopolies are associated with sunk costs. In a market where costs are substantially sunk are readily sustainable. A natural monopoly becomes a far more sustainable competitive advantage if it is combined with a strategic advantage based on sunk cost. From this, added value can be yielded over time.
So, we have seen that the distinctive capabilities of competitive advantages do and can yield added value to the firm over a period of time but can only be sustained to a certain degree. However, an interesting conception emerges from Kay. He believes that size, market share, market position and market selection are actually the real sources of competitive advantage. These sources differ from the distinctive capabilities (architecture, reputation and innovation), and those factors are the outcome of a firm’s competitive success and not the source of it. However, he does point out that his definition of the sources of competitive advantage are not sustainable over time because they are all characteristics which, given time and expenditure, can be imitated and replicated by other firms.
Therefore, in answering the proposal, sources of competitive advantage rarely yield added value which can be sustained over time, my answer would be that certain sources do rarely yield added value which can be sustained over time but there are also sources which can continuously yield and sustain added value over time which further strengthen the competitive advantage a firm has in the market.
Word Count: 1450 words
Combined Bibliography for essay an related case study.
Firm Resources ; Sustained Competitive Advantage, 1991J. Barney
Foundations Of Corporate Success, 1995J. Kay
Modern Competitive Analysis, 1994S.M. Oster
Competitive Advantage, 1985Micheal Porter
Exploring Corporate Strategy, 1989G. Johnson ; K. Scholes
IBM website on the Internet, http:/www.ibm.com
Newspaper articles and CD ROM
Combined Word Count: 2500 words