The Resource Based View of the Firm (RBV)

B290

The object of strategic analysis…

• Explain why a firm or a group of firms is making above normal returns

– i.e. More than their long run average costs

• Two possible explanations

– It’s something to do with the industry in which

they operate

External analysis - Porter 5 Forces

– It’s something the firm owns or controls

Internal analysis, the RBV

Why some firms make more $ than others

• If firms are identical and their products are commodities– Industry concentration– Up and down stream bargaining power – Threat of new entry or substitution

• If products or firms are heterogeneous– Differences in:

• Cost structure• Value created (innovation, brand)• Value appropriated (brand, switching costs)

Two puzzles

• Some industries with no apparent industry barriers to entry are concentrated and profitable

• In some fragmented industries some firms making substantial profits – e.g., Nucor in steel

If Industry Mattered Most…

a a b b b b c c c c c c

In fact, Firms Matter Most…

a a b b b b c c c c c c

Why some firms make more $ than others

• Economic assumption– Imitation should reduce difference in

technology– And thus differences between firms’

returns• Only if imitation is difficult or

impossible, will firms with favourable initial resource endowments make consistently higher profits– E.g., Alcoa

Concentration

• Regulatory barriers to industry entry

• Economies of scale –Minimum efficient scale– Total sales / MES = # Firms– If no MES => monopoly

• Entry deterrence (overcapacity)

• Uncertain imitability

MES

Uncertain imitability

• Two assumptions

– Firms are all different in some way

– Firms cannot figure out exactly what other firms

do and why they are ‘better’ (uncertain

imitability)

• Theses two assumptions lead to competitive

industries (i.e. with no entry barriers) in with

fewer firms than one would expect which

(some) firms make money.

Lippman & Rumelt’s model…

• Each period firms consider entering an industry

• Based on their expected costs, the firm considering

entry calculates its expected profit

• If current industry prices are above its estimated long

run costs, it enters.

• If it enters, it finds out what its costs really are

• All firms (new entrant and incumbents) recalculate

their optimal quantity - a new industry price emerges

• Firms whose costs exceed this new price leave

The Resource Based View• Empirical observation: some firms in ‘competitive

industries’ make above normal returns– First explanation proposed - uncertain imitability

(Lipmann & Rumelt, 1982)

• Empirical study - firm differences account for much more variation in performance than industry differences (Rumelt 1992)

• ‘Market’ for strategic factors – – efficient market hypothesis (Barney 1986)

– Implications for inimitable resources (Dierickx & Cool, 1989)

• Properties of resources that support profitable value creating activity - the heart of the RBV

• Something is giving such firms a sustainable competitive advantage

Hypothetical example: mobile phone licenses

E[cost] = ? Frequency band B (4c / call)

Frequency band A (5c / call)

Frequency band C (3c / call)

Three different frequency bands, A, B and CAllocated by the FCC though a lottery…

p=1/3

p=1/3

p=1/3

Hypothetical example: mobile phone licenses

E[cost] = 4c / call Frequency band B (4c / call)

Frequency band A (5c / call)

Frequency band C (3c / call)

p=1/3

p=1/3

p=1/3

Best estimate of likely cost is…

E[cost] = 4c / min

Imitation allows all firm to achieve 3c / call costs

Irrespective of initial estimates firms know that 3c/min is achievable

Hypothetical example: mobile phone licenses

E[cost] = 4c / min

Without imitation, firms retain their initial costs, good or bad…

4c / min remains the expected cost

With 5 firms, prices would fall below expected costs, so no 5th firm enters

Hypothetical example: mobile phone licenses

Implications

• Dynamic rather than static model

– conceptually simple but not easily solvable

analytically

• Limit to firm entry more realistic

– Not an infinite number of firms in the market

• More uncertainty regarding the resource bundle

to be imitated…

– fewer firms enter

– surviving firms makes higher returns

Market for ‘strategic factors’

• Imagine there was a market for ‘strategic factors’the resources that make one firm more profitable than another…– Firms could buy the resources they needed to be as good as the best

in the industry

– But how much would they pay?

– Up to the present value of the expected value of the benefit the resource conferred

– In an industry with several firms, bidding would reduce gains from such a purchase to zero

• SO: if firms do make profits, they cannot have bought the resources on a ‘strategic factor’ market – Which means rent generating resources have to be created in-house

– (and acquisitions are often unprofitable for the acquiring company)

So, what resources do firms need?

[Resources are the things firms use to create its products and services]• Something that makes them distinctive,

different, unique…• Distinctiveness stems from unique resources…

– Create products of value to customers– Not available off the shelf– Are hard to imitate (barriers to imitation - not

entry)

Barriers to Imitation

• Patents, copyrights• Brand• Tacit knowledge – Riding a bicycle

• Dispersed knowledge– Formula for Coke

• Complex “activity systems”• Complex social system (culture)

Three questions

• Does the resource create value? – for our customers

• Higher prices– for the firm

• Lower costs

• Is it rare?– We can only appropriate if we have a

unique advantage• Is our advantage inimitable?– i.e., will that unique advantage persist over

time?»V.R.I.

Resources and economic transformation

INTANGIBLE KNOWLEDGE-BASED

‘TRANSFORMING’ RESOURCES

(CAPABILITIES)Knowledge,

SOPs and routines, skills

TANGIBLE RESOURCESPhysical assets

Finished product

or service

INPUT RESOURCESRaw materialsEnergy, Parts

TECHNOLOGY

Resources and economic transformation

INTANGIBLE KNOWLEDGE-BASED

‘TRANSFORMING’ RESOURCES

(CAPABILITIES)Knowledge,

SOPs and routines, skills

TANGIBLE RESOURCESPhysical assets

INPUT RESOURCESRaw materialsEnergy, Parts

COMPETENCE

Finished product

or service

A Heirarchy

Competence

Distinctive competence

Core Competenc

e

Knowledge Resourcesor Capabilities

Tangible Resources

Fruin’s ‘bow tie’ model of core competency

Capabilities and resources

e.g. HondaSmall internal

combustion engine

Products

Motorcycles

Cars

Lawn mowers

Outboard motors

ATVs

Generators

Core (distinctive) competency

“V.R.I.”

• Valuable – To customers

• Which means we may be able to raise prices above those of our less valued competitors.

– To us • Which means we may be able to maintain lower costs than

our competitors• Their costs are a floor below which prices will not fall, leaving

us with a profit even when they have none.

• Rare– If customers have no alternative they will have to pay

more than it costs us to make the product or deliver the service

– We can appropriate some of the value we create• Inimitable

– ensures rarity into the future

Complex activity systems

• Some firms are made up of complicated interlocking systems

• Complicated systems are hard to copy

• One missing piece and the entire system will not work

Summary

• If there is no structural advantage in our industry, we must look for sources of competitive advantage inside our firm

• Firm levels factors that deliver competitive advantage must be – Valuable (i.e. a competence) – Rare and non-substitutable (i.e. distinctive)– Inimitable (and thus persist over time)

• Distinctive competences with multiple uses are termed ‘core’ competences