A Focused Issue on The Marketing Process in Organizational Competence, Volume 1 (Research in Competence-Based Management) (Research in Competence-Based Management) [1 ed.] 0762312092, 9780762312092, 9780080456638

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A Focused Issue on

THE MARKETING PROCESS IN ORGANIZATIONAL COMPETENCE

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RESEARCH IN COMPETENCE-BASED MANAGEMENT Series Editors: Ron Sanchez and Aime´ Heene

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RESEARCH IN COMPETENCE-BASED MANAGEMENT VOLUME 1

A Focused Issue on

THE MARKETING PROCESS IN ORGANIZATIONAL COMPETENCE EDITED BY

RON SANCHEZ Professor of Management, Copenhagen Business School, Denmark and Linde´n Visiting Professor in Industrial Analysis, Lund University, Sweden

JO¨RG FREILING Professor and Chair for SME Management, Start-up Business, and Entrepreneurship University of Bremen, Germany

Amsterdam – Boston – Heidelberg – London – New York – Oxford Paris – San Diego – San Francisco – Singapore – Sydney – Tokyo iii

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r 2005 Elsevier Ltd. All rights reserved. This work is protected under copyright by Elsevier Ltd, and the following terms and conditions apply to its use: Photocopying Single photocopies of single chapters may be made for personal use as allowed by national copyright laws. Permission of the Publisher and payment of a fee is required for all other photocopying, including multiple or systematic copying, copying for advertising or promotional purposes, resale, and all forms of document delivery. Special rates are available for educational institutions that wish to make photocopies for non-profit educational classroom use. Permissions may be sought directly from Elsevier’s Rights Department in Oxford, UK: phone (+44) 1865 843830, fax (+44) 1865 853333, e-mail: [email protected]. Requests may also be completed on-line via the Elsevier homepage (http://www.elsevier.com/locate/permissions). In the USA, users may clear permissions and make payments through the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, USA; phone: (+1) (978) 7508400, fax: (+1) (978) 7504744, and in the UK through the Copyright Licensing Agency Rapid Clearance Service (CLARCS), 90 Tottenham Court Road, London W1P 0LP, UK; phone: (+44) 20 7631 5555; fax: (+44) 20 7631 5500. Other countries may have a local reprographic rights agency for payments. Derivative Works Tables of contents may be reproduced for internal circulation, but permission of the Publisher is required for external resale or distribution of such material. Permission of the Publisher is required for all other derivative works, including compilations and translations. Electronic Storage or Usage Permission of the Publisher is required to store or use electronically any material contained in this work, including any chapter or part of a chapter. Except as outlined above, no part of this work may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without prior written permission of the Publisher. Address permissions requests to: Elsevier’s Rights Department, at the fax and e-mail addresses noted above. Notice No responsibility is assumed by the Publisher for any injury and/or damage to persons or property as a matter of products liability, negligence or otherwise, or from any use or operation of any methods, products, instructions or ideas contained in the material herein. Because of rapid advances in the medical sciences, in particular, independent verification of diagnoses and drug dosages should be made. First edition 2005 British Library Cataloguing in Publication Data A catalogue record is available from the British Library. ISBN-10: 0-7623-1209-2 ISBN-13: 978-0-7623-1209-2 ISSN: 1744-2117 (Series)

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CONTENTS LIST OF CONTRIBUTORS

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EDITORS’ INTRODUCTION

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COMPETENCE-BASED MANAGEMENT AND MARKETING: BUILDING ON A COMMON GROUND FOR THEORY, RESEARCH, AND PRACTICE Ron Sanchez and Jo¨rg Freiling RELATING CUSTOMER VALUE TO STRATEGIC COMPETENCE: A DISCRETE CHOICE MEASUREMENT APPROACH Jeff D. Brazell, Timothy M. Devinney and David Midgley

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CAPABILITY IMPLICATIONS OF DIFFERENT FORMS OF VALUE CREATION Johan Wallin

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MANAGING IN EMERGENCE: CAPABILITIES FOR INFLUENCING THE BIRTH OF NEW BUSINESS FIELDS Kristian Mo¨ller and Senja Svahn

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THE RELATION BETWEEN FIRMS’ STRATEGIC ORIENTATION AND CAPABILITIES: WHAT DO THEIR STRATEGIC MARKETING PLANS TELL US? Paul Ingenbleek, Ruud T. Frambach and Theo M. M. Verhallen v

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CONTENTS

MOBILISING CONSUMER COMPETENCE TO CREATE TECHNOLOGY TRANSITION PATHS: THE EXAMPLE OF THE NORDEA INTERNET BANK Staffan Hulte´n, Anna Nyberg and Karl-Olof Hammarkvist

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COMPETENCE-BASED MANAGEMENT OF CO-LOCATION ARRANGEMENTS Jo¨rg Freiling

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STRATEGIC IMPLICATIONS OF A COMPETENCE-BASED MANAGEMENT APPROACH TO ACCOUNT MANAGEMENT Derrick Philippe Gosselin and Aime´ Heene

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STANDARDIZATION STRATEGY IN MODULAR AND NETWORK MARKETS: CAPABILITIES AND CRITICAL SUCCESS FACTORS IN COMPETENCES Vittorio Chiesa, Raffaella Manzini and Giovanni Toletti

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MODULAR DESIGN AS A KEY CAPABILITY FOR CREATING FUTURE PRODUCTS UNDER UNCERTAINTY Umut Asan, Sec- kin Polat and Seyda Serdar Asan

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LIST OF CONTRIBUTORS Umut Asan

Department of Industrial Engineering, Istanbul Technical University, Istanbul, Turkey

Jeff D. Brazell

The Modellers, LLC, UT, USA

Vittorio Chiesa

Politecnico di Milano, Milano, Italy

Timothy M. Devinney

Australian Graduate School of Management, Sydney, NSW, Australia

Ruud T. Frambach

Vrije Universiteit Amsterdam, The Netherlands

Jo¨rg Freiling

Chair for SME Management, Start-up Business & Entrepreneurship, Faculty of Business Studies & Economics, University of Bremen, Bremen, Germany

Derrick Philippe Gosselin

Department of Marketing, Faculty of Economics and Business Administration, Ghent University, Gent, Belgium

Karl-Olof Hammarkvist

Stockholm School of Economics, Stockholm, Sweden

Aime´ Heene

Department of Management and Organization, University Antwerp Management School, Ghent University, Belgium

Staffan Hulte´n

Stockholm School of Economics, Stockholm, Sweden

Paul Ingenbleek

Wageningen University, Marketing and Consumer Behavior Group, Wageningen, The Netherlands

Raffaella Manzini

Universita` Carlo Cattaneo (LIUC), Castellanza Varese, Italy vii

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LIST OF CONTRIBUTORS

David Midgley

INSEAD, Boulevard de Constance, Paris, France

Kristian Mo¨ller

Helsinki School of Economics, Department of Marketing and Management, Helsinki, Finland

Anna Nyberg

Stockholm School of Economics, Stockholm, Sweden

Sec- kin Polat

Department of Industrial Engineering, Istanbul Technical University, Istanbul, Turkey

Ron Sanchez

Copenhagen Business School, Denmark and Lund University, Sweden

Seyda Serdar Asan

Department of Industrial Engineering, Istanbul Technical University, Istanbul, Turkey

Senja Svahn

Helsinki School of Economics, Department of Marketing and Management, Helsinki, Finland

Giovanni Toletti

Politecnico di Milano, Milano, Helsinki, Italy

Theo M.M. Verhallen

Tilburg University, Tilburg, The Netherlands

Johan Wallin

Managing Partner, Synocusoy, Helsinki, Finland

EDITORS’ INTRODUCTION We are very pleased to have the privilege of serving as editors of this initial volume of the journal Research in Competence-Based Management (RCBM), and to have this opportunity to briefly introduce RCBM to readers. This volume signals the launch of a long-awaited outlet for peer-reviewed research papers contributing to advancement of competence-based management theory. Although published in hard-cover format, RCBM is designed as a peer-reviewed academic journal and is intended initially to appear twice a year. Each volume will contain approximately 10 papers, and successive volumes will address a broad range of management topics being investigated today through the competence perspective. The researchers contributing papers to each volume will typically come from a number of institutions and countries around the world, and will represent a variety of management disciplines. In this volume, for example, we are pleased to have representation of authors and institutions from Australia, Belgium, Denmark, Finland, France, Germany, Italy, The Netherlands, Sweden, Turkey, and the United States. Each volume in RCBM will be partially or wholly focused on a key aspect of competence theory. The focus in this volume on ‘‘The Marketing Process in Organizational Competence,’’ for example, reflects the fundamental market orientation in competence theory’s foundational concepts and theoretical development. Two additional RCBM volumes have been finalized for publication during approximately the next year: Volume 2 Managing Knowledge Assets and Organizational Learning Ron Sanchez and Aime´ Heene, Editors Volume 3 Understanding Growth: Entrepreneurship, Innovation, and Diversification Ron Sanchez and Aime´ Heene, Editors Future volumes will feature additional focal themes and editors. Researchers in the competence perspective who would like to organize or act as ix

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a coeditor of a future volume are invited to contact Ron Sanchez or Aime´ Heene with expressions of interest. Ron Sanchez Copenhagen Business School and Lund University Jo¨rg Freiling University of Bremen

COMPETENCE-BASED MANAGEMENT AND MARKETING: BUILDING ON A COMMON GROUND FOR THEORY, RESEARCH, AND PRACTICE Ron Sanchez1 and Jo¨rg Freiling2 It has often been remarked that all management theory is contingency theory that addresses in one form or another the need of firms to seek a proper ‘‘fit’’ with their environments. Within this fundamental characterization, perhaps management theories can be further divided into theories with primarily ‘‘inside-out’’ or ‘‘outside-in’’ perspectives. Inside-out theories focus on the nature of firms and their internal organization, and often treat the external environment as imposing constraints on actions that can be taken by firms to maintain desirable internal conditions. Outside-in theories focus on understanding the nature of the external environment and its opportunities or threats that invite or demand proactive responses by firms. In their concepts of how firms seek fit with an environment, inside-out theories essentially characterize firms as reacting, often reluctantly, to an environment they cannot change, while outside-in theories portray firms as having a mission to proactively interact with their environments to discover and exploit opportunities or to anticipate and parry threats.

Research in Competence-Based Management, Volume 1, 1–14 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01001-7

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Competence-based management theory is sometimes misunderstood to be primarily inside-out theory, just as marketing theory is often too narrowly construed as outside-in theory. In this introductory paper,3 we undertake to correct these misinterpretations of both competence theory and marketing theory by suggesting that there is substantial common ground in the two theories. To this end, we explain here some of the more fundamental concepts that the two theories share. We also suggest how the other papers in this volume – by researchers in both competence and marketing – illustrate a number of ways in which the two streams of theory inherently complement and reinforce each other. Our hope is that this volume will thereby encourage and provide a platform for other researchers and practitioners to develop more integrative concepts and approaches to research and practice that build on the reciprocal strengths of both competence and marketing theory.

MARKETING THEORY’S RELEVANCE TO COMPETENCE THEORY Central to competence theory is the representation of a firm as a goalseeking open system of resource flows, as shown in Fig. 1 (Sanchez & Heene, 1996, 2004). A firm’s goals are taken to be the collective goals of the firm’s stakeholders – the providers of the resources that are critical to sustaining the firm’s value-creation processes. These goals may take many forms for a firm’s various stakeholders, and achieving goal fulfillment for stakeholders requires successful mediation with product markets. Creating successful product offers generates revenues that can then be converted into various kinds of rewards (including less tangible kinds of benefits, like interesting work opportunities) that, when distributed to the firm’s stakeholders, bring an adequate measure of goal attainment to its individual stakeholders. In this sense, a firm is an open system that seeks to attain its goals through processes of value creation (in its product markets) and value distribution (to its resource markets). Within this system view of a firm, survival of the firm depends on its ability to sustain a virtuous circle of reinforcing value creation and value distribution processes. Since all forms of value that a firm might create to distribute to its stakeholders originate in its product markets, the notion of relevance to meeting the needs and opportunities of its product markets is inherent in the basic concepts of the competence perspective. Market

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Competence-Based Management and Marketing Boundary of organization as an open system

STRATEGIC LOGIC Operative rationale for achieving organization’s goals through coordinated deployments of resources

Data and Revenues

MANAGEMENT PROCESSES

Decisions, Policies, Procedures, Budgets

Data on Intangible Assets

INTANGIBLE ASSETS

Knowledge, intellectual property, reputation, relationships

Data on Tangible Assets

TANGIBLE ASSETS Physical assets

Data on Operations

OPERATIONS

ADDRESSABLE RESOURCES

Coordination mechanisms for acquiring and deploying resources

PRODUCT OFFERINGS

Market Data, Revenues

PRODUCT MARKETS

Competing Organizations

Fig. 1. Model of a Firm as a Goal-Seeking Open System. (From The New Strategic Management: Organization,Competition, and Competence by Ron Sanchez and Aime´ Heene, John Wiley & Sons 2004.)

relevance is reflected, for example, in competence theory’s foundational definitions of resources, capabilities, and competences (Sanchez & Heene, 1996, 2004). Resources are any tangible or intangible assets available to a firm that are useful in pursuing its goals for value creation (i.e., for creating successful product offerings) and value distribution. Capabilities are repeatable patterns of action that are useful in a firm’s value creation activities. Competence is the ability of an organization to sustain coordinated

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deployments of resources and capabilities in ways that help a firm attain its goals for value creation and distribution. In effect, the ‘‘acid test’’ of a competent organization is its ability to create successful product offers that enable it to create value in its product markets that can then be distributed in ways and amounts adequate to maintain the support of the providers of its critical resources needed to sustain its processes of value creation. Thus, understanding how to serve markets successfully is integral to processes of competence identification, building, and leveraging. The competence perspective furthermore seeks to develop theory that explicitly incorporates the ‘‘four cornerstones’’ of a dynamic, systemic, cognitive, and holistic view of markets and organizations (Sanchez, Heene, & Thomas, 1996). Of particular importance for our discussion here is the competence perspective’s dynamic view of markets. Markets are assumed to be dynamic in nature, presenting firms with constantly evolving opportunities and demands for successful value creation. To maintain its competence – its ability to create successful product offers – a firm must constantly research current and potential market needs and develop product offers that maintain or improve its ability to create value in its product markets. As the above summary description of key aspects of competence theory suggests, a number of concepts and representations at the heart of marketing theory are also deeply embedded in competence theory. To be sure, competence theory pays serious attention to a range of important inside-out issues, such as processes for coordinating resources, building capabilities, and designing reward systems that will maintain the support of its stakeholders. But competence theory’s fundamental outside-in orientation to sustaining value creation processes through continuous learning in product markets should also be evident (see, for example, Sanchez, 1999; Sanchez & Collins, 2001; Sudharshan & Sanchez, 1998). This foundational conceptual alignment between competence and marketing theories both enables and invites a broad integration of marketing theory and research into competence theory, research, and practice. As we explain below, the papers in this volume offer some excellent illustrations of ways in which this integration might proceed.

COMPETENCE THEORY’S RELEVANCE TO MARKETING THEORY While marketing theory has already contributed to development of competence theory’s outside-in orientation to product markets, competence theory’s

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significant integration of inside-out and outside-in perspectives has much to offer in return to marketing theory. To illustrate this potential, we next consider two quite different domains in which such theoretical infusion might occur. The first domain derives from competence theory’s close attention to the dynamics of competence building. Competence building is the process by which an organization develops or acquires and uses qualitatively new kinds of resources and capabilities in ways that help an organization achieve its goals through successful value creation in product markets (Sanchez et al., 1996; Sanchez & Heene, 2004). Competence theory recognizes, however, that accumulating new resources and developing new capabilities usually takes significant time and effort (Dierickx & Cool, 1989; Teece, Pisano, & Shuen, 1997). The rates at which a firm can accumulate new resources and develop new capabilities therefore inevitably constrain the speed with which a firm can respond to dynamic changes in markets. While marketing’s fundamental outside-in view presumes that a firm will (or must) move with the speed of its markets’ evolutions, the competence perspective cautions that this is likely sometimes to be infeasible or very difficult. Two examples of competence theory’s views of this challenge suggest how the competence perspective could enrich marketing’s recognition and treatment of the fundamental need to maintain alignment of a firm with its markets. One view is that the rate at which a firm can create new capabilities imposes a real constraint on the rate at which a firm can create and bring new kinds of product offers to markets. Thus constrained, a firm is unlikely to be able to keep up with the individual rates of evolution of all its current customers. Instead, while serving its current customers as best it can, a firm must look more deeply into its current and potential markets to discover the underlying, broader kind of preferences in its markets that are likely to evolve at a slower rate and in a more consistent way than the demands of its current individual customers. Representation of a firm’s markets by sets of preferences a firm might serve rather than by sets of current customer demands is consistent with the preference basis of market segmentation in marketing theory. What competence theory can bring to marketing theory and especially marketing strategy is a more complete understanding of how limitations in any firm’s ability to evolve its competences essentially forces a firm to focus at the strategic level on identifying and serving underlying preferences in markets rather than serving current customer demands – which should therefore be regarded as a current operational issue (Sanchez & Heene, 2004, pp. 67–69). A second view takes a very different tactic, focusing not on a firm’s current rate of capability development as a fixed constraint on its ability to

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evolve with markets, but rather on ways to significantly improve a firm’s new product development capability and speed to bring new product offers to market. An important area of theory development and research within this view is modular product development. Much current research, including papers in this volume, are establishing that new kinds of development processes based on modularity concepts can significantly reduce the time and resource requirements for developing products, while increasing the variety of products that can be brought to market. This research suggests that firms with modular design capabilities can achieve significant new competences that enable them to more rapidly evolve and extend the market segments covered by their product offers. This new development capability makes possible new approaches to doing marketing research and development – such as ‘‘real-time market research’’ (Sanchez & Sudharshan, 1993) – and thereby challenges a number of deep assumptions in traditional marketing theory about how firms can manage their interactions with product markets (Sanchez, 1999). A second domain in which competence theory may provide significant theoretical inputs to marketing theory derives from competence theory’s recognition that firms fundamentally compete not just to sell their outputs in product markets, but also to attract the best possible inputs from resource markets (see Fig. 1). To attract and retain the support of the best available resource providers, a firm must also be able to define, create, and distribute forms of value to its resource providers that provide them with an adequate level of individual goal attainment. In effect, from a competence perspective, a firm must be capable of understanding the needs (as expressed through goals and aspirations) of the resource providers on whom it depends to provide the resources the firm needs to maintain its value creation processes in its product markets. The ongoing need to attract resource providers and distribute adequate value to them requires, in effect, that firms develop a marketing capability suited to resource markets. While related concepts and research exist in the domain of ‘‘internal marketing,’’ competence theory could provide additional insights that could substantially further development of theory and practice for marketing in resource markets. A number of further important interfaces between competence and marketing theory can be identified (Freiling, 2000). For example, the time perspective of marketing theory is usually from the present into the near future. What competence theory adds to that perspective is the understanding that firms have histories that have resulted in their current endowments of resources and capabilities, and that a firm’s past therefore constrains what it can do in the present and near future. Moreover, because new capabilities

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take time to develop, the competence perspective also suggests that a longerterm view of the future should also be incorporated into marketing, so that a firm can identify and begin developing today the capabilities it will need to have in place to serve the markets in the more distant future. Further, marketing management is typically focused on a strategic business unit (SBU) serving specific product/market combinations. The competence perspective adds to that focus a view of the resources and capabilities that must be used in core processes that enable an SBU to bring a stream of products to market. We can also add competence theory’s concern for potential synergies that can be created by coordinating resources and capabilities across SBUs to increase the effectiveness of their value creation processes. Finally, competence theory can bring useful insideout perspectives on the processes through which a firm can manage the relationships between its markets, market segments, relationships with customers, and exchanges. Important potential contributions in this regard include a growing body of competence theory on knowledge management and organizational learning, especially about how organizations can learn through their interactions with markets (Sanchez, 2001).

Papers in this Volume Having summarized the fundamental contribution of marketing to competence theory and suggested some ways in which competence theory might enrich and extend marketing theory, we now refocus our discussion on the theme of this volume, ‘‘The marketing process in organizational competence.’’ We next preview the papers in this volume to suggest how they illustrate and contribute to our understanding of the integral role of the marketing process in building, leveraging, and maintaining organizational competences. In their paper on relating customer value to competences, Jeff Brazell, Tim Devinney, and David Midgley address a basic problem of concern to management theory in general and to competence-based management in particular. Although earlier publications have suggested approaches to analyze competences (e.g., Klein & Hiscocks, 1994; Lewis & Gregory, 1996), Brazell et al. suggest that the inability to measure competences in any consistent way remains an unsolved theoretical and practical problem. To help remedy this situation, the authors draw on both economic and behavioral theory to develop a discrete-choice approach to measuring a firm’s ability to create value and to meet customers’ needs. Their approach provides an

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important framework for representing, analyzing, and evaluating the crucial relationship between an organization’s competence and its ability to create customer value. In his study of the capability implications of different forms of value creation, Johan Wallin looks beyond the usual dyadic customer/supplier relationship in marketing to include analysis of a firm’s customer’s customer, as well as other firms that support the diverse value creation activities needed to provide ‘‘market-oriented solutions’’ to a customer’s needs. Wallin extends the open system view of the firm developed by Sanchez and Heene (1996) by invoking concepts and structural elements of game-theoretic ‘‘value net’’ models involving customers, suppliers, substitutors, and complementors (Brandenburger & Nalebuff, 1995). He also incorporates cultural issues, business modeling, and coordination challenges in his approach. Wallin applies his elaborated model to analyze three constellation cases (forest industry, electronic component manufacturing, and yacht building) to demonstrate the usefulness of his model in identifying specific forms of value creation and their respective implications for capability requirements. Adopting a closely related perspective on value creation networks, Kristian Mo¨ller and Senja Svahn investigate the role of knowledge in network-based value creation processes. They identify three types of business networks or ‘‘nets’’: (1) mature and stable nets, (2) local and incremental nets, and (3) radically new value-creating nets. The three types respond to different kinds of market and internal stimuli and pursue different kinds of activities in building and using knowledge. Combining insights from a competence-based approach to analyzing strategic value nets (Gulati, 1998; Amit & Zott, 2001) and knowledge management approaches (Kogut & Zander, 1996; Nonaka & Takeuchi, 1995), they characterize network relationships as means of accessing other parties’ resources and capabilities through inter-organizational coordination of enabling activities for generating market solutions. They describe how value creation processes in networks function as value systems that depend on mutual adaptations among the partners in knowledge transfer and learning activities. Stable nets are found to be preoccupied with efficiency concerns and to emphasize knowledge exploitation, whereas in radically new value-creating nets knowledge exploration to foster innovation plays a predominant role. The paper by Paul Ingenbleek, Ruud Frambach, and Theo Verhallen asks the provocative question, What do a firm’s strategic marketing plans tell us about its strategic orientation and goals for competency development? The authors analyze a unique database of strategic business plans of 208 Dutch

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firms in a variety of markets. They find that firms’ competence development goals vary with their basic stances toward their markets, but that most firms studied seemed to prefer to emphasize further development of capabilities strongly based in internally oriented processes like production and quality management, while relatively few firms set clear goals for development of more market-oriented capabilities, even though those capabilities were rated low for virtually all firms. Their findings suggest that firms may have bias toward development processes that can be controlled internally, and that managers may have to take extra measures to launch and sustain marketoriented capability development efforts. In their paper, Staffan Hulte´n, Anna Nyberg, and Karl-Olof Hammarkvist investigate ways in which the Scandinavian bank Nordea was able to leverage its customers’ experiences and skills in managing a competence building process involving a major transformation of its banking services to internet technology. Adhering to the basic marketing concept that valueadded activities must be assessed from the customer’s point of view, Nordea carefully solicited important inputs from its customers as well as suppliers to identify ways of adopting internet technology that would be effective and efficient for both the bank and its customers. Their study specifically illustrates how careful attention to customers’ existing skills as well as supplier capabilities should be taken into account when designing and implementing improvements in a service product. More generally, their study suggests how a marketing orientation in competence management would lead to a view beyond a focus on a firm’s own capability processes to encompass and take advantage of the experiences and skills of its customers. The role of suppliers in firm competence building and leveraging is further explored by Jo¨rg Freiling, who investigates requirements for converting non-firm-addressable resources into firm-addressable resources (see Fig. 1) by forming supplier networks in which certain forms of reciprocity make participation attractive for suppliers with desired capabilities. Freiling suggests that supplier networks can be either strategic (usually concerned with competence building) or operational (concerned with competence leveraging) in nature. Academic discussion in the last two decades has often focused on strategic networks. Freiling helps to address this imbalance by studying regional operational networks in the automotive and the software industry. Freiling focuses on the management of ‘‘co-location arrangements’’ in which two or more partners operate interrelated facilities on the same site. Taking MCC’s industrial park ‘‘smartville’’ in Hambach, France, and the ‘‘consorcio modular’’ in Resende, Brazil, as examples, Freiling identifies reasons why firms in these co-location arrangements establish close and usually

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long-lasting cooperations. He suggests that co-location success depends on systematically taking advantage of asset mass efficiencies, interrelating routines, and utilizing absorptive capacity. Relationship management with various stakeholders is important in the competence perspective – of course including customers as well as suppliers. Reflecting the growing importance of key account management in relationship marketing, Derrick Gosselin and Aime´ Heene develop a competencebased analysis of key account management to better assess and exploit the strategic potential of key accounts. They contrast a strategy-driven market approach to key account management with an operational sales-driven approach (Leavitt, 1960). Gosselin and Heene suggest criteria for determining which customers should be managed as key accounts based on assessments of long-term customer value. They also propose as a selection criterion that the customer should perceive the supplier as a significant partner. They also suggest ways in which effective key account management can help to build a customer-focused organization. Capabilities in managing relationships in networks are also critical when new standards for products and processes are being established. Numerous studies show that without a well coordinated network of partners, a standardization initiative is likely to fail, no matter what the inherent technical quality of a proposed standard. In their study of standardization, Vittorio Chiesa, Raffaella Manzini, and Giovanni Toletti investigate the essential capabilities and critical success factors in standardization strategies in modular and network markets. Their research provides evidence in support of competence theory’s longstanding view that achieving competitive advantage typically requires significant forms of cooperation among firms, especially in upstream development activities (Sanchez et al., 1996; Sanchez, 2002). The authors analyze three important aspects of standardization strategy – tactics, timing, and cooperation decisions – and discuss the importance of each of these aspects in successful efforts to build new competences in markets with significant standards issues. The authors present evidence from a number of secondary case studies to support their analyses and proposals. Finally, Umut Asan, Sec- kin Polat, and Seyda Sardar explain a methodology for implementing modular design processes and thereby improving a firm’s product development capabilities to meet uncertain future market needs. Through a technique for generating future market scenarios, possible future market needs and product functions to serve those needs are identified. A modular architectural design methodology is then presented that identifies essential functions, types of components, component variations,

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and specific combinations of components that could be the basis for successful product variations across the broadest possible range of future market scenarios. The proposed modular design methodology is then applied to the definition of a modular architecture and the selection of specific modular product variations for closed-circuit television (CCTV) security systems that could serve anticipated market needs in Turkey.

OPEN QUESTIONS AND ON-GOING DISCUSSIONS We conclude this introduction with some interesting questions raised by insights developed in the papers in this volume, which we hope will serve as the basis for ongoing discussions of the ways in which marketing and competence-based management can enrich and reinforce each other in theory, research, and practice. The main marketing emphasis in the papers in this volume is relationship marketing. Although managing relational resources and capabilities has been recognized as important in both competence theory and marketing for some years, the importance (and frequency) of transactional marketing should not be neglected in either theory base. Important challenges in managing arms-length exchanges are not yet fully understood, satisfactorily represented in theory, or adequately addressed in practice. Not all exchanges warrant the bilateral resource adaptations of information, tangible assets and/or people (Engelhardt, Kleinaltenkamp, & Reckenfelderbaumer, 1993) that are necessary in relational marketing. Marketing theory can help competence theory when a customer should be regarded as belonging to a resource market as well as a product market, and thus what its position should be relative to the open system view of a firm (Sanchez & Heene, 1996). The growing importance of concepts of customer integration, value coproduction, and networking suggests that both marketing and competence theory can benefit from revisiting and reconciling their respective ontological focuses. Both marketing and competence concepts are largely concentrated at the level of business units, but both fields must pay more and more attention to issues at an inter-organizational level. Both fields must now begin to generate concepts and theory for understanding ‘‘collective strategies,’’ and this presents an excellent opportunity for collaborative research than can fashion an expanded common conceptual foundation for the two fields in this area. To develop a more theoretically grounded and articulated understanding of collective strategic decision-making and the relational view

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of competitive advantage (Dyer & Singh, 1998) poses a particular challenge to both fields. Marketing is fundamentally about positioning of products and brands in the perceptual space of consumers. Strategic positioning, however, is a broader management issue (Porter, 1996) that includes positioning issues not only in product markets, but also in resource markets. Competence theory offers an attractive platform in which to seek a theoretical integration of these two levels and forms of positioning concerns. In such an integration, the constraints that the path dependency (Teece, Pisano, & Shuen, 1997) of a firm’s resources and capabilities impose on its options for repositioning in both product and resource markets must be comprehensively investigated in order to better inform marketing positioning decisions. Identifying an attractive new market position is already a matter addressed in marketing theory, but developing the new resources and capabilities needed to implement a new market positioning is quite another matter, and that is not yet adequately addressed in the competence literature. Repositioning initiatives that are not well aligned with and supported by the development of appropriate resources and capabilities can result in decreasing competence. The core of marketing implementation theory is focused on making sure of company-wide acceptance of basic marketing principles like customer orientation. Marketing implementation research suggests that achieving a high degree of customer orientation is the most essential and challenging task in this regard (Bonoma, 1985; Kohli & Jaworski, 1990; Day, 1999). Implementations of total quality management and business process reengineering have often helped to promote customer orientation, but their main objectives are different from the goals of marketing implementation, and limit the extent to which real customer orientation actually becomes embedded in firms. The deep conceptual embedding of the marketing orientation in competence theory suggests that successful approaches to implementing competence-based management may also be useful in practically embedding a customer orientation in firms. Operational marketing has traditionally been focused on instrumental approaches to decision-making. For example, after several decades many researchers and practitioners still invoke the traditional ‘‘4 Ps’’ framework – product, place, price, promotion – of McCarthy (1960). Analyses of the marketing performance of both successful and unsuccessful companies suggests that the 4 Ps framework is not adequate to represent the decisive dimensions of marketing action, and it even appears to contradict the basic marketing concept as articulated by Kotler (2003) and Leavitt (1960). The

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complexity of the decisions to be made in branding, for example, demonstrate the inadequacy of the 4 Ps framework. Branding and related issues like building brand equity requires concepts like core values of the brand and their identity of a brand (Aaker 1996). The branding issue is another key area in which considerable benefits would result from achieving better alignment and integration of competence theory and marketing theory. A brand is not simply an asset, as it is often treated in marketing theory, but rather a resource that must be positioned in a way that can be continuously supported by a firm’s competences. This view of a brand implies a need for better understanding of how competence building and leveraging processes should take into account the need for continuous support of brands and deliver such support in concrete terms.

NOTES 1. Ron Sanchez is Visitng Professor of Management at Copenhagen Business School (Denmark) and the Linde´n Visiting Professor in Industrial Analysis at Lund University (Sweden). 2. Jo¨rg Freiling is the Chair for SME Management, Start-up Business, and Entrepreneurship at University of Bremen (Germany). 3. This paper introduces a focused issue of Research in Competence-Based Management on ‘‘The marketing process in organizational competence.’’

REFERENCES Aaker, D. A. (1996). Building strong brands. New York: Free Press. Amit, R., & Zott, C. (2001). Value creation in e-business. Strategic Management Journal, 22, 493–519. Bonoma, T. (1985). The marketing edge. New York: Free Press. Brandenburger, A. M., & Nalebuff, B. J. (1995). The right game: Use game theory to shape strategy. Harvard Business Review, 73(4), 57–71. Day, G. S. (1999). Misconceptions about market orientation. Journal of Market-Focused Management, 4, 5–16. Dierickx, I., & Cool, K. (1989). Asset stock accumulation and sustainability of competitive advantage. Management Science, 35, 1504–1511. Dyer, J. H., & Singh, H. (1998). The relational view: Cooperative strategy and sources of interorganizational competitive advantage. Academy of Management Review, 23, 660–679. Engelhardt, W. H., Kleinaltenkamp, M., & Reckenfelderba¨umer, M. (1993). Leistungsbu¨ndel als Absatzobjekt. Ein Ansatz zur U¨berwindung der Dichotomie von Sach- und Dienstleistungen. ZfbF, 45, 395–426.

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Freiling, J. (2000). Competence-based theories and marketing: A starting point for re-defining marketing’s role in strategic management. In: R. Sanchez & A. Heene (Eds), Theory development for competence-based management (pp. 147–176). Stamford, CT: JAI Press. Gulati, R. (1998). Alliances and networks. Strategic Management Journal, 19(4), 293–318. Klein, J. A., & Hiscocks, P. G. (1994). Competence-based competition: A practical toolkit. In: G. Hamel & A. Heene (Eds), Competence-based competition, (pp. 183–212). Chichester: Wiley. Kogut, B., & Zander, U. (1996). What firms do? Coordination, identity and learning. Organization Science, 7(5), 502–518. Kohli, A. K., & Jaworski, B. J. (1990). Market orientation: The construct, research proposition and managerial implications. Journal of Marketing, 54(2), 1–20. Kotler, P. (2003). Marketing management (11th Ed.). Upper Saddle River, NJ: Prentice-Hall. Leavitt, T. (1960). Marketing myopia. Harvard Business Review, 38(5), 45–56. Lewis, M. A., & Gregory, M. J. (1996). Developing and applying a process approach to competence analysis. In: R. Sanchez, A. Heene & H. Thomas (Eds), Dynamics of competence-based competition, (pp. 141–164). Oxford: Pergamon. McCarthy, E. J. (1960). Basic marketing, A managerial approach. Homewood, IL: Richard D, Irwin, Inc. Nonaka, I., & Takeuchi, H. (1995). The knowledge creating company. Oxford: Oxford University Press. Porter, M. E. (1996). What is Strategy? Harvard Business Review, 74(6), 61–78. Sanchez, R. (1999). Modular architectures in the marketing process. Journal of Marketing, 63, 92–111. Sanchez, R. (2001). Managing knowledge into competence: The five learning cycles of the competent organization. In: R. Sanchez (Ed.), Knowledge management and organizational competence. Oxford: Oxford University Press. Sanchez, R. (2002). Industry standards, modular architectures, and common components: strategic incentives for technological cooperation. In: F. Contractor & P. Lorange (Eds), Cooperative strategies and alliances (pp. 659–687). Oxford: Elsevier Science. Sanchez, R., & Collins, R. P. (2001). Competing—and learning—in modular markets. Long Range Planning, 34(6), 645–667. Sanchez, R., & Heene, A. (1996). A systems view of the firm in competence-based competition. In: R. Sanchez, A. Heene & H. Thomas (Eds), Dynamics of competence-based competition (pp. 39–62). Oxford: Elsevier Pergamon. Sanchez, R., & Heene, A. (2004). The new strategic management: Organization, competition, and competence (textbook). New York and Chichester: Wiley. Sanchez, R., Heene, A., & Thomas, H. (1996). Introduction: Towards the theory and practice of competence-based competition. In: R. Sanchez, A. Heene & H. Thomas (Eds), Dynamics of competence-based competition: Theory and practice in the new strategic management (pp. 1–35). Oxford: Pergamon. Sanchez, R., & Sudharshan, D. (1993). Real-time market research: Learning-by-doing in the development of new products. Marketing Intelligence and Planning, 11(August), 29–38. Sudharshan, D., & Sanchez, R. (1998). Distribution equity: Creating value through managing knowledge relationships with distribution channels. Journal of Market-Focused Management, 2(4), 309–338. Teece, D. J., Pisano, G., & Shuen, A. (1997). Dynamic capabilities and strategic management. Strategic Management Journal, 18(7), 509–533.

RELATING CUSTOMER VALUE TO STRATEGIC COMPETENCE: A DISCRETE CHOICE MEASUREMENT APPROACH Jeff D. Brazell, Timothy M. Devinney and David Midgley ABSTRACT The conceptual debate between Hamel and Pralahad (1990) in Harvard Business Review (68(3), 79–93) and Stalk, Evans, and Schulman (1992) in Harvard Business Review (70(2), 4–9) focused the attention of both scholars and executives on the role of those bundles of assets, resources, and processes that serve as the basis for a firm’s strategic direction. In this chapter, we develop a methodological approach that relates competences to customer value. Our approach builds on research in the area of multiattribute utility theory and provides a number of distinctive benefits. First, it is rigorous and consistent. Second, it is built on economic and behavioral decision theory. Third, it provides a direct and measurable link between measured competences and customer value. Although nowhere near a completed methodology, our approach provides the beginning of a stream of thinking that we hope will stress the importance of the measurement and testing of strategic concepts in a scientifically rigorous manner.

Research in Competence-Based Management, Volume 1, 15–45 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01002-9

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INTRODUCTION The notion of a ‘competence’ has entered the everyday lexicon of corporate strategic thinking. Formulated, in a formal sense, by writers like Selznick (1957) and Ansoff (1965), it burst onto the strategy scene with the publication of Prahalad and Hamel’s (1990) seminal article in Harvard Business Review. Much like the resource-based theory of the firm (Wernerfelt, 1984) and evolutionary perspectives on strategy (Nelson & Winter, 1982), roots of the concept of a corporate competence reside in the thinking of economists like Schumpeter (1934) and Penrose (1959), and organizational theorists such as Ansoff (1965), Weick (1979), and Snow and Hrebiniak (1980). However, in spite of the face validity behind the concept of a corporate competence, there has been very little systematic development of consistent and general methodologies for the measurement of competences. This is not only critical to academic requirements, which require the falsifiability of theoretical developments, but has enormous practical implications. The inability to measure competences and their relationship to performance and managerial actions rigorously makes their proactive management next to impossible. We argue that if competences are to break out of the realm of philosophical canon, they must be measurable not just idiosyncratically but make use of clear, consistent, and recognized methodologies that are accepted by the field. In this chapter, we attempt a modest beginning at a research agenda aimed at measuring competences in a scientifically rigorous manner. However, in doing so, we do not lose sight of the requirement that our methodology must be sufficiently parsimonious to satisfy the normative requirements of managers. Our approach builds on the long tradition of random utility theory modeling found in fields such as marketing (e.g., Hensher, Louviere, & Swait, 2003) and economics (e.g., McFadden, 1980). We show that not only can we apply the logic of this methodology in theory, but that it is doable in practice. Our methodology and an empirical application are presented in six sections. The next section presents an overview of the literature on competences and the few attempts at empirical measurement. The third section describes the logic of our modeling framework. The fourth section describes the data and instruments used and followed by the results of an analysis of a series of fast-food franchises. The penultimate section discusses some conclusions from the empirical application and finally talks about areas of future development. We emphasize throughout the chapter that this

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work represents the beginning of an agenda for the development of a consistent methodology for the measurement and evaluation of competences.

COMPETENCES: CONCEPTION AND MEASUREMENT The Concept of a Competence Although, there have been a number of different definitions of what is encompassed by a ‘competence’, and there was a long-standing debate between Prahalad and Hamel (1990) and Stalk, Evans, and Shulman (1992) as to the distinction between a ‘competence’ and a ‘capability’, there is an emerging consensus that a competence reflects the ‘‘combination of skills, knowledge, and behaviors widely diffused throughout the organization and its people and embedded in systems, processes, and structures’’ (Turner & Crawford, 1994, p. 242). Even though different writers may take different twists on this basic definition, we can view these primarily as refinements of a core idea. Similarly, developments in thinking in the areas of evolutionary economics and the resource-based theory of the firm have expanded and tightened our conception of competences. Teece, Pisano, and Shuen (1997), as well as others (e.g., Lei, Hitt, & Bettis, 1996), have highlighted the distinction between static and dynamic competences. This view emphasized the point that different sorts of competences may be required for the temporal development of the firm as opposed to the exploitation or defense of a strategic position at any point in time. A number of authors (e.g., Collis & Montgomery, 1995; Davis & Devinney, 1997; Peteraf, 1993; Petts, 1997) apply resource-based tests to justify what is a core versus a non-core competence. For example, Petts’ (1997, p. 552) definition of a core competence is based on seven characteristics: complexity – it is possessed by a group of individuals using diverse technologies; invisibility – it is not easy to identify; inimitability – it cannot be copied easily; durability – it exists over a period of time; appropriability – its accrues rents to its owner; nonsubstitutability – it is not easily replaced by another competence; and superiority – it is clearly better than alternative competences. Still other writers note that it is not the existence of competences per se that is

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important, but their configuration and distribution (e.g., Grandstrand, Patel, & Pavitt, 1997). For our purposes, we are taking a view of competences as presented in Fig. 1. This view differs only marginally to that presented by Prahalad and Hamel (1990) and others (e.g., Knott, Pearson, & Taylor, 1996; Petts, 1997). The fundamental idea is the transformation of essential skills, philosophies, processes, material inputs, firm assets, and so on, in a way that creates customer value efficiently. A competence is defined as the complex combination of assets, resources, and processes that allows the firm to meet customer needs.1 Whether that competence can be viewed as strategically valuable in resource-based view of the firm sense will depend on its ability to satisfy the criteria such as those described earlier. At this point, our methodology is concerned with mapping the process in Fig. 1 rather than addressing the distinction between a core and a non-core competence, the distribution and configuration of competences, and static versus dynamic competences.

Customer Value

Customer Product Ideal Attribute A Demanded

Attribute B Demanded

Attribute C Demanded

Attribute A Created

Attribute B Created

Attribute C Created

GAP Company Current Product Offering

Business Processes

Skills, Assets, Resources

Corporate Competences Fig. 1.

Generating Customer Value from Corporate Competence.

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Fig. 1 shows a market segment, where customers demand three attributes in their products (A, B, and C). It is reasonable to assume that each firm tries to create a product offering possessing levels of these attributes that best matches the competences of the company with the desires of the customers. Any difference between this ‘company product offering’ and the ‘customer product ideal’ creates a ‘GAP’ that reflects the inappropriate structure of the firm’s competences when viewed from the perspective of the demands of the market segment. It would not be unreasonable to propose that this GAP will be related negatively to performance – either measured as market share or profitability. At this stage in our research, the top portion of Fig. 1 is our area of focus. We make no attempt in this chapter to define neither what generalized competences – process, skills, assets, resources, and so on – might be nor what their relative value is to the firm. Indeed, we make no assumption that generalized competences exist. In this regard, our method is incomplete as one would ideally want to specify, in detail, which specific competences are related to which specific component of customer demand. Our methodology is applicable to any specific market and firm situation, and only assumes that managers understand which actions fit with their firm’s competences. We take this stance because, as the next two sections will demonstrate, we believe that a valid methodology for measuring competences should come before the development of empirical generalizations about the competences themselves. The observant reader may notice a similarity between Fig. 1 and quality function deployment (QFD), or the house of quality (Hauser & Clausing, 1988; Griffin & Hauser, 1993). This is no coincidence. In QFD, the concern is with the matching of engineering characteristics of a product to the functional demands of customers and quite rigorous methods exist for doing this. In our case, the matching is between the assets, resources, and processes that make up the firm’s competences and the functional demands of customers. This is obviously more demanding and difficult as what makes up competences is considerably more amorphous than the engineering components of an automobile. In addition, our approach differs from more traditional competence-based approaches in that it is concerned with customer value (as defined by the meeting of specific feature demands) and not with firm or business unit performance, per se. This is important as the literature typically assumes that if customer demand is satisfied, then business performance follows. Although this may be true in general, there is no reason to believe that specific, non-customer-orientated competences, may also be related to performance (e.g., as revealed by Microsoft and other

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monopolists). Indeed, this is articulated clearly by authors such as Hunt and Morgan (1995), although it is somewhat less well understood by those proposing ‘‘customer-value-based theory of the firm’’ (see, e.g., discussion in Slater, 1997). Hence, we argue that our approach, by focusing on the link between competences and demand (i.e., customers), is more effective at understanding the first link in the chain between competences and performance.

The Measurement of Competences If there is a damning criticism of the scientific side of strategy, it may be the fact that the field is methodologically inadequate. This weakness is nowhere more evident than in the study of competences. Although a number of authors have outlined methods for managerially articulating competences (e.g., GrØnhaug & Nordhaug, 1992; Roos & von Krogh, 1992) it is quite clear that such methods have their problems. The literature is replete with examples of manager’s chagrin over attempts to apply these sorts of techniques and the basic theoretical idea of a competence to their firm. For example, Coyne, Hall, and Clifford (1997, p. 42), in an article entitled ‘‘Is Your Core Competence a Mirage?’’, point out that [f]ew managers we have talked to could claim to have utilized a core competence to achieve success in a marketplace, and even fewer to have built a core competence from scratch. Indeed most were uncertain as to exactly what qualifies as a core competence.

Although, they go on to argue that the only solution to this dilemma is to have the ability to measure, what a competence is, their approach falls into the trap of ad hoc theorizing weakly based on resource-based thinking. In other words, they propose a process without any attempt to test whether or not that process is actually related to some measure of performance, be it customer value, financial performance, or operational efficiency. Indeed, Turner (1997) seems to be making this point when he points out that another article in the same edition of the McKinsey Quarterly (Beinhocker, 1997) shows that few companies appear to be able to outperform their rivals for anything but a transitory period of time. Core competences, if they exist, are a rare commodity indeed. Academic studies of the measurement of competences fall into two general categories, case-based studies and empirical examinations of single firms or industries.

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A large number of single and multiple case-based studies of competences exist in the literature (e.g., Bogner & Thomas, 1994; Goddard, 1997). The benefit of these studies is the richness they possess and the ability they give us in terms of being able to discuss less well-measured constructs. Indeed, the initial development of the whole notion of competences was based solely on inductive case analysis. However, from the standpoint of validating the concept of a competence and its relationship to performance, the case approach lacks generalizable validity. Case studies fail to provide us with general approaches to discovery and measurement and, in most situations, rely on post hoc th eorizing that can only weakly link the competences discussed to the performance outcomes being touted. For example, Goddard’s (1997) examination of Walmart is based entirely on secondary sources and there is no way in which his three domains approach – epistemic, idiomatic, and logistic – can either be falsified or used as an effective method of predicting performance differences ex ante. As noted by Makadok and Walker (2000), ‘‘case studies can identify a competence, but their small sample size, their retrospective research design and their tendency toward sampling on the dependent variable, [implies that] they cannot reliably test the causal connection between a competence and its antecedents and consequences’’ (p. 853). More analytic studies generally rely on statistical modeling techniques to extract competences from a mixture of survey and secondary data (such as financial data, patent counts and citations, or journals and reports). In general, these studies posit a series of competences, construct the measures, and then put them, along with other variables, into a model of performance. For example, Henderson and Cockburn (1994) posit that a pharmaceutical company’s drug discovery productivity is positively related to ‘component competence’ in specific disease areas and they include a measure of the ‘stock’ of patents possessed by the firm in the area as a measure of this construct. They then include this measure, along with others, in evaluating the role of competences in the determination of patent output using Poisson regression techniques. Lin (1997) uses the analytical hierarchical process technique to generate importance weights for a series of predefined competences that he hypothesizes are related to technological capability. Powell (1992a, b, 1995) uses surveys to examine how strategic planning, organizational alignment, and TQM serve as sources of advantage and performance. Those arguing that the general conception of a ‘market orientation’ is a competence rely on specific batteries of questions as reflecting facets of underlying competences and show that, generally, these facets are related to performance (see, e.g., Langerak, 2003).

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The difficulty with all these techniques is their retrospective nature. From a managerial standpoint, they can only tell you what appears to have been inter-related in the past rather than what may be related today or in the future. Indeed, there is not a single study that employs an approach whereby an intervention is made and the predictive validity of the measures examined. As was shown by Makadok and Walker (2000) in a study of forecasting ability of fund managers, there is complex causality relating the competence studied (forecasting ability), its outcome (better forecasting and performance), and the ability of that outcome to lead to even stronger competences (greater future forecasting ability). More limiting is the reliance on an existing information (i.e., data) set. For example, if a pharmaceutical company were deciding where to put its efforts over the next 10 years, Henderson and Cockburn’s analysis might guide them on how to concentrate their efforts. However, it cannot give the firm’s managers specific prescriptions about which newly evolving areas to specialize in, since the requisite information is not presently quantified or available. Nor can it provide micro-level information about how these competences relate to what customers want or need.

Competences: Logic for Measurement Our discussion to this point has shown inadequacy in our measurement and testing of the notion of a competence. More often than not, managerial techniques aimed at eliciting corporate competences degrade into laundry lists (Snyder & Eberling, 1992) or simplistic modeling approaches based on decomposition of the value chain or reliance on ad hoc categorizations such as McKinsey’s seven Ss. Similarly, firms either fail to understand the rarity of the truly competitively advantageous competence or are unwilling to admit that they do not possess anything of real value. Furthermore, the lack of specificity as to what is embodied within a competence leads to operational and implementation problems. For example, it is one thing to talk about a ‘‘firm’s adaptivity to change’’ as a core competence and quite another to finely measure what this is and how it is to be managed. Perhaps the best example of a useful managerial technique is the ‘toolkit’ approach of Klein and Hiscocks (1994) and ‘strategy maps’ of Kaplan and Norton (2004). Klein and Hiscocks develop five basic tools for analyzing competences – skill mapping, the opportunity matrix, skill base simulation, skill cluster analysis, and critical skills analysis. Although their approach is related to many ideas covered in existing theory (such

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as time-based competition and QFD), we must take it on faith that firms using the approaches they describe are demonstrably better off than those, who do not. However, the logic of their approach is consistent with that being discussed here and we will refer back to their approach periodically. Kaplan and Norton build on their incredibly popular notion of the balanced scorecard to create a process map that links capital – human, informational, and organizational – to process to customer value to financial value. Their goal is less prediction and measurement for validation but to create a mechanism whereby managers can measure and prioritize activities. However, the premises behind their approach are not dissimilar to that used here and their multiple case studies show strong relationships between implementation of their thinking and performance enhancement. From the academic side of the debate, there has never been a systematic agenda within the strategy field to rigorously measure and attempt to validate the existence and importance of the notion of a competence. Hence, the measurement that has occurred has been tailored to specific tasks and been secondary to the more fundamental questions being addressed by the researchers. The fact that a bundle of activities or measures may be correlated with some performance outcome does not de facto imply that it is an operational competence unless the research design has been specifically tailored to measure this fact. For example, Klavan’s (1995) argument for psycholinguistic and bibliometric analysis is noble but not particularly fruitful since he is unable to show that there are any substantive differences arising from any categorization based on this information. The logic of our methodology follows from the model outlined in Fig. 1 and attempts to resolve some of the problems found in the academic literature and facing the practicing manager. It is our belief that any such technique should be able to do the following: 1. Determine a dimensional structure for the definition of a competence. This is critical since, if the technique is to be generalizable, it must specify not what the specific dimensions are but how they are structured. It is critical to recognize that we are not concerned about what the competence is but how it is formally structured in a modeling framework. 2. Be able to measure managerial actions and customer value on those dimensions. One of the critical assumptions about a competence is that it permits the firm possessing it to service the customer more effectively. This can only be measured by being able to transform ‘competence’ dimensions into ‘customer value’ dimensions.

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3. Be able to measure the specific components of a competence and their relative importance. In other words, the technique should provide the modeler with a direct measure of what the competence entails and whether or not the competence is core or non-core. Overall, if our modeling technique is to be valuable, it must be able to work in a host of market circumstances, with firms possessing different competences and competence structures, and provide statistically reliable and valid measures of the importance of specific competences. In the present chapter, we are concerned with whether we can develop and validate a methodology that allows us to map corporate competence onto customer value. In essence, this allows us to resolve points 1 and 2 above to a greater or lesser degree. Point 3 is the subject of future work.

A METHODOLOGY FOR MEASURING COMPETENCES AND CUSTOMER VALUE Our methodology represents a new variant of traditional multiple choice experiment methodology. The data collection process is described in the next section followed by a short discussion of the statistical model underlying the analytic procedure. The approach we discuss here is aimed at examining the link between corporate competences and customer value within a single segment of a market. We leave the more complex problems of the decomposition of competences and multiple market competences to future research.

Data Collection Methodology The data collection process requires four steps. The first step gathers information on customer value. The second step utilizes the information from step 1 to evaluate the company’s current product offering and that of other competitors. Step 3 provides an evaluation of competences and how they relate to product offerings. Step 4 links competences to strategic outcomes. Step 1: Customer ideal offering. In the first stage we need to gather information that disassembles the components of customer value. Using experimental discrete choice techniques (e.g., McFadden, 1980; Louviere & Woodworth, 1983; Louviere, 1988) we gathered data to determine the

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customer ideal offering – that composition of product and service attributes, which represents the customer’s ideal product structure. This is done by utilizing focus groups and depth interviews to determine a list of relevant product attributes and their levels followed by a discrete choice experiment customer survey built on this information. Step 2: Company and competitor current offerings. Utilizing the same survey instrument, the customer provides an evaluation of his/her perceptions of both the company’s current product offering and the competitors’ current offerings. Respondents simply indicated their perception of the level of each attribute offered by each competitor in the marketplace. Steps 1 and 2 together articulate the structure of customer value and how, based upon this articulated structure, customers perceive the current set of products and services. Step 3: Company and competitor competent offerings. In step three, we apply a similar discrete choice experiment methodology to evaluate the competences of the company and its competitors – the company and competitor competent offerings. Managers are given a definition of a competence as, ya combination of skills, knowledge, and behaviours that are widely diffused throughout the organisation and its people. Competences are embedded in the company’s systems, processes, culture, etc.; they can be technological or managerial.

We ask managers to consider their own company’s specific competences. We do not define specific competences, assuming that managers understand what these are. Then, we ask managers to complete the discrete choice task by choosing the product offering that fit best with their company’s competences. In essence, we are asking managers to imagine a situation, where the choice set is represented by only two strategic options of which they must choose the one best for the firm given its existing competences. An option of ‘Neither’ (‘‘Neither option fits our competences; it would be unprofitable to offer either one’’) is included as a null option. Step 4: Strategic choice. The final data collection task is aimed at determining, how the company would trade-off strategic choices both in the short-term (i.e., by making changes that would reposition the current offering) and in the long-term (i.e., by making competence changes that would reposition the competent offering). We refer to this model as our ‘gapeffects-preference’ model. We operationalize this within a discrete choice task by including a visual diagram of the gaps between the two product offerings the company controls (the company current offering and the

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customer ideal offering

Gap A

Gap J

Gap I

Gap E

Gap B company current offering

competition current offering

Gap H

Gap D

company competent offering

competition competent offering

Gap F Gap C

Fig. 2.

Gap G

A Diagrammatic Representation of the Gap-Effects-Preference Choice Task.

company competent offering) and the customer ideal, and competitor offerings. Data from this task also indicate whether managers’ strategic desires were consistent with the normative prescriptions of the literature. A diagrammatic representation of the gap-effects-preference choice task is depicted in Fig. 2. Each gap had one of two levels: closer or further (we found in qualitative pilots that ‘closer’ and ‘further’ were better understood than ‘expand’ or ‘contract’ or ‘open’ and ‘close’, etc.), signifying what would happen to the specific gap if a certain strategic offering were adopted. The figure shows that five possible product configurations can be discussed (labeled P1, P2,y,5) as well as 10 gaps (labeled Gap A, Gap B,y,J). Each of the gaps has a distinct implication.
The gaps between the customer’s ideal product and (1) the current offerings of the company (Gap A) and its competitor (Gap J) and (2) the

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company competent offering (Gap E) and the competitor competent offering (Gap I) measure current and potential product fit with customer value. The gap between the company and competitors current product offering and their competent product offerings (Gaps D and H) measures how far each firm’s current product are from what they could do by best utilizing their competences. The gap between the company’s current product offering and that of its competitor (Gap B) serves as a measure of short-term differentiation. The gap between the company’s competent product offering and that of its competitor (Gap G) measures potential long-term differentiation. The gaps between the company current product offering and the competitor competent product offering (GAP C) and the competitor current product offering and the company competent product offering (GAP F), serve as an indicator of the potential threat from one’s competitor.

Thus, this task allowed us to estimate a model indicating managers’ utilities for making changes that would reposition their current offering (short-term strategy) and their competent offering (long-term strategy). It would also indicate the relative importance of short- versus long-term effects. Analytic Models The aim of the approach described in the previous section was to gather data to develop four models: the consumer ideal model, the company competent model, the competitor competent model, and the gap-affectspreference model. Each of the models discussed are multi-attribute discrete choice models based on information integration theory (e.g., Anderson, 1970, 1981, 1982) and random utility theory (e.g., Ben-Akiva & Lerman, 1985). Consumer model. A consumer’s overall preference for a product offering is assumed to be a function of the utility that the alternative holds for that individual (e.g., Gensch & Recker, 1979). Consistent with behavioral choice theories, the utility of a product offering is described as a function of the product’s attributes and a random error component that captures the unexplained variance in the consumer’s utility function. Formally, this utility function is expressed as: U ij ¼ bij X j þ ij

(1)

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where eij represents the stochastic component of consumer i’s utility for product j, and bij and Xj are vectors of part-worth utilities (bij) and product attributes (Xj), respectively. The inclusion of the random component implies that choices are inherently stochastic when viewed from the researcher’s perspective. So, in our consumer model, we model the probability that consumer i chooses product j from the total set of competing products, J. This is equal to the probability that the utility of j is higher than the utility of competing products j0 A J, which can be expressed as follows:


 Pr j J ¼ Pr bij X j þ eij 4 bij 0 X j0 þ eij 0 ; 8j 0 aj; j 0 2 J (2) We assume that the error terms in the consumer utility function are independently and identically distributed (iid) as Gumbel variates (e.g., BenAkiva & Lerman, 1985), which leads to the familiar multinomial logit (MNL) model. This model has the following closed form expression for the probabilities:

exp lbij X j (3) Pr j J ¼ PJ
0 j 0 ¼1 exp lbij 0 X j where l is a scale parameter inversely related to the variance of the Gumbel error distribution underlying the model (Ben-Akiva & Lerman, 1985). In any one data set, l cannot be uniquely identified; hence, only the combined effect of l and b can be estimated (Swait & Louviere, 1993). Therefore, l is typically set by the analyst to a value of one (e.g., Ben-Akiva & Lerman, 1985, p. 71). We follow this convention in estimating our models. As the model will be estimated at the segment level, the choice probabilities derived from the consumer model are interpreted as the probability that a consumer segment will choose a given product offering as described by its attribute levels given the preferences of that segment. Company and Competitor Models. The purpose of the company model is to map company competences into product offering attribute space. Again, we must keep in mind that, at this stage, we are not specifying the competences, just the mapping from competence to product structure. Since respondents tend to be overconfident when asked to give direct numerical estimates (Wallsten & Budescu, 1983) and find it difficult to give direct estimates of probability (Selvidge, 1975), we chose to use decompositional methods developed in the choice modeling literature to elicit responses for this mapping (e.g., Green & Rao, 1970; Green & Wind, 1973; Srinivasan & Shocker, 1973; Louviere & Woodworth, 1983; Louviere, 1988).

Strategic Competence and Customer Value

29

As discussed previously, the company task gave instructions that lead to the assumption that managers will choose product offerings that fit the company’s competences best. In the qualitative work that preceded instrument development, the managers interviewed felt confident they could credibly evaluate and choose product offerings that fit with company competences in the proposed paired-comparison format. Therefore, the model assumes that a manager’s utility for a product-offering alternative is derived from his or her assessment of that alternative’s fit with company competences. Future work on decomposing the competences will tell us the extent to which this assumption is true. The models utilized for the evaluation of manager’s choices follow the form discussed in the previous section (Eqs. (1)–(3)). The difference between the two formulations is due to the contextual manipulation. The choice probabilities estimated from the company model will be interpreted to be derived from managers’ assessment of product offering attribute fit with company competences rather than individual preferences. The model mapping competitor competences into product offering attribute space follows an identical procedure. The probabilities are interpreted as deriving from competitive managers’ assessment of attribute fit with their company’s competences.

AN EMPIRICAL APPLICATION OF THE METHODOLOGY: FAST-FOOD RESTAURANTS We tested our methodology in a commercial study of fast-food restaurant managers and customers. Several major chains agreed to participate in the study. For the purposes of our analyses, we chose one of the chains as the ‘Company X’, and assigned one of the other chains as the ‘Competitor Y’. The data were collected through three separate surveys: a customer survey (steps 1 and 2), a company and competitor competence survey (step 3), a strategic trade-offs survey (step 4). Steps 1 and 2 were completed using customer data collected through a survey of 170 adult residents drawn from 10 sections of a large metropolitan area. Trained interviewers administered self-completion questionnaires. The interviewers gave instructions to the respondent, left the questionnaire for completion, then returned the following day to retrieve the completed instrument. One hundred twenty-five completed questionnaires were returned (74% response rate). The instruments included both perceptual

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JEFF D. BRAZELL ET AL.

(step 2) and conjoint choice tasks (step 1). In the choice task, respondents were asked to make choices in 16 hypothetical choice situations, each describing choices between two fast-food restaurant offerings and a base alternative of not going out to eat. Thirteen attributes were used to describe the restaurant offerings; each attribute had two levels. A main effects fraction of a 213 design in 16 profiles was combined with its fold-over and ‘‘I wouldn’t go out to eat’’ to create choice sets. An example of the critical components of the survey instrument is given in Appendix A. The company data were collected through a survey of 35 managers at the headquarters of a large fast-food restaurant chain. The competition data were collected from managers of a competitive chain. Both company and competitors received instruments that included two choice tasks. The first task was a 16 choice set task generated from the same fraction of the 213 design as the one in the customer survey. Data from this part of the survey were used to generate the competence to product mapping (step 3 in our procedure). The second choice task was the strategic trade-offs (gap-affectspreference) task described earlier as step 4. This task was preceded by a brief strategic ‘warm-up’ task to help managers consider their preferences in isolation. The choice task consisted of eight choice sets generated using a main effects fraction of a 27 design combined randomly with profiles from the same fraction and ‘Neither’. We used a visual representation of the trade-offs to help simplify the task. Appendix B contains examples of the critical components of the manager survey. Both customers and managers were instructed to consider the situation of a ‘quick, inexpensive meal’ – focusing data collection on one market segment. This is the major segment that these companies target and qualitative research indicated that it is appropriate to segment the market by usage situation. The customers surveyed all used one or more of the chains in our study.

EMPIRICAL RESULTS MNL models were used to estimate the company competent model, the customer ideal model, and the competitor competent model. The parameter estimates and accompanying asymptotic t values are listed in Table 1. There were five significant parameters in the company competent model: chicken, not ethnic, staff helpful and polite, easy accessibility, and the price of $5–$10 per meal. The model fit was in the lower part of the acceptable range for this type of aggregate model (a r¯ 2 value of 0.115). The customer

Company X Model Attribute Hamburgers Chicken Pizza Ethnic Salad bar Healthier Fresh food Ambience Personal attention Staff helpful Table service Accessible Price Intercept

Coefficient b1 b2 b3 b4 b5 b6 b7 b8 b9 b10 b11 b12 b13 b0

0.036 0.262 0.072 0.093 0.068 0.021 0.077 0.011 0.023 0.405 0.060 0.153 0.219 0.764

Asymptotic t 0.867 6.276 1.684 2.182 1.614 0.516 1.794 0.249 0.540 9.718 1.399 3.574 5.237 18.106

Customer Model Coefficient 0.118 0.208 0.223 0.263 0.171 0.200 0.378 0.026 0.078 0.342 0.141 0.262 0.069 0.027

Asymptotic t 2.959 5.087 5.612 6.460 4.279 4.903 9.103 0.657 2.013 8.341 3.612 6.492 1.711 0.432

Competitor Y Model Coefficient

Asymptotic t

0.545 0.050 0.069 0.074 0.012 0.144 0.100 0.024 0.182 0.056 0.059 0.159 0.133 0.955

7.677 0.701 0.963 1.032 0.173 2.020 1.400 0.333 2.558 0.788 0.830 2.220 1.870 13.410

Strategic Competence and Customer Value

Table 1. MNL Models for Company, Customer, and Competition.

 po 0.10.  po 0.05. po 0.01.

31

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JEFF D. BRAZELL ET AL.

ideal model had eleven significant parameters (of a possible 13). Only ambience and price were insignificant and price would be significant at the 0.10 level. The r¯ 2 ¼ 0:107 for the customer model is in the lower end of the acceptable range for aggregate discrete choice models. The competitor competent model had four significant parameters: hamburgers, not healthier, personal attention, and accessibility. A low price would be significant at the 0.10 level. This model’s fit was not as good as those of the other two models (r¯ 2 ¼ 0:082). We considered these results to be adequate to illustrate our methodology. We used simulation techniques to find the levels at which each of the three models was maximized. The results of the simulation are tabulated in Table 2 under the headings Company Competent, Customer Ideal, and Competitor Competent. Insignificant parameters are listed as ‘—’. The results listed under the Company and Competitor Current columns in Table 2 represent the median perception of customer respondents’ regarding the attribute levels currently offered by Company X and Competitor Y. We also computed an ‘importance’ measure for each attribute in each model by computing the difference in probability (using Eq. (3)) between each attribute’s two levels, while holding all other attributes constant. In essence, the importance measure listed in the table represents the impact on the probability of choice (in the case of the customer model), or of fit with competences (in the case of the company and competitor models), on moving an attribute from absent to present. In the case of the attributes that do not have yes/no levels, such as price (o$5 to $5–$10) and personal attention (little to much), the importance represents the impact on probabilities of moving from the lower level to the higher level. A negative importance signifies a decrease in the probability of choice/fit as the attribute level goes from lower to higher. For example, the –0.035 importance of price in the customer model indicates that price has little effect on the probabilities compared to most other attributes and that the probability of choice decreases as the price goes from o$5 to $5–$10. The results for the company simulation and importance show that the Company X’s competences result in a product offering of chicken, with a helpful and polite staff, in an easily accessible location, and being supplied at the price higher than $5–$10. The customer model results depict a customer, who values variety in food – as chicken, pizza, and ethnic food are all part of the ideal – fresh food, a helpful and polite staff, and easy accessibility. Clearly some differences exist between the customer’s preferences and Company X’s offering to which the firm’s management must give special attention. The results of Competitor Y’s simulation and

Simulation Results, Importance, and Performance.

Company X Attribute

Competent offering

Current offering

Hamburgers Chicken Pizza Ethnic Salad bar Healthier Fresh food Ambience Personal attention Staff helpful Table service Accessible Price

— Yes Yes No Yes — No — — yes No Yes $5–$10

Yes Yes No No No No No Relaxing Little Yes No Yes o $5

Performance measures Sim1 market sharea Sim2 market shareb Actual market share Est. profitability Fit with objectives a

Customer Importance weight 0.018 0.130 0.036 0.046 0.034 0.011 0.038 0.005 0.011 0.200 0.030 0.076 0.109

Ideal offering Yes Yes Yes Yes Yes Yes Yes — Much Yes Yes Yes o $5

Importance weight 0.059 0.103 0.111 0.131 0.085 0.100 0.187 0.013 0.039 0.169 0.070 0.130 0.035

Competitor Y Competent offering

Current offering

Yes — No No — No No — Much — — Yes o $5

Yes No No No No No No Relaxing Little Yes No Yes o $5

60.2 69.9

Importance weight 0.266 0.025 0.034 0.037 0.006 0.072 0.050 0.012 0.091 0.028 0.030 0.079 0.066

Strategic Competence and Customer Value

Table 2.

39.8 30.1

20.5 3.0 4.0

35.0 4.3 4.7

Company and competitor current offerings head-to-head share calculated using Eq. (3). Company and competitor competent offerings head-to-head share calculated using Eq. (3).

b

33

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importance estimations show a firm, whose competences are very different from Company X’s. The fit with competences appears to be driven by the presence of hamburgers and unhealthy food, personal attention, easy accessibility, and a low price. The results for our tests of performance are listed at the bottom of Table 2. Simulation of a head-to-head only share model (i.e., we did not include other competitors in the demand simulation) shows that the models predict a significantly higher share for Company X than for Competitor Y. Predicted head-to-head shares are 60.2% and 39.8%, respectively. Actual market shares are currently reversed; Company X has a 20.5% share and Competitor Y a 35.0% share. This can be directly attributed to the fact that the Company X has 93 restaurants in the metropolitan area studied, while Competitor Y has 185. If we adjust the head-to-head only share values to account for this fact our model predicts share figures of 20.1% ( ¼ 0.602  0.335) for Company X and 26.5% for Competitor Y ( ¼ 0.398  0.665). These adjusted figures are reasonably close to actual shares. Each of the other measures of performance also favors Competitor Y over Company X. Reported profitability (as reported on the survey by managers) was significantly higher for Competitor Y than Company X (means 4.3 versus 3.0 on a five-point scale, t ¼ 13; df ¼ 2; p ¼ 0:006). Reported fit with strategic objectives (again as reported on the survey by managers) was also significantly higher for Competitor Y than for Company X. The means were 4.5 for the competitor and 4.0 for the company on a fivepoint scale (t ¼ 14; df ¼ 2; p ¼ 0:005). The results for the gap-effects-preference model are presented in Table 3. The parameters for Gaps A, E, and F are all significant. The parameter for Gaps C and D are significant at the 0.10 level. Negative signs denote an increase in preference as the Gap closes. In reference to Company X’s current product, the results indicate managers prefer strategic alternatives that:
close the gap with the customer ideal;
open the gap with Competition Y’s competent offering; and
close the gap with the Company X’s competent offering. When examining Company X’s competent offering, the results indicate managers prefer strategic alternatives that:
close the gap with the customer ideal; and
open the gap with Competition Y’s current offering.

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Strategic Competence and Customer Value

Table 3. Estimates of the Gap-Effects-Preference Model. GAP GAP A – Company X Current offering to Customer Ideal GAP B – Company X Current Offering to Competitor Y Current Offering GAP C – Company X Current Offering to Competitor Y Competent Offering GAP D – Company X Current Offering to Company X Competent Offering GAP E – Company X Competent Offering to Customer ideal GAP F – Company X Competent Offering to Competitor Y Current GAP G – Company X Competent Offering to Competitor Y Competent Offering

Coefficient

Asymptotic t

0.435

4.621

0.107

1.134

0.154

1.638

0.174

1.848

0.593

6.302

0.194 0.040

2.059 0.420

 po 0.10.  po 0.05.  po 0.01.

The dominant preferences are the gaps to the customer ideal. It is quite clear that the managers in this study are following a strategic model based upon: (1) giving the customer what they want, (2) avoiding direct competition with a rival (a differentiation approach), and (3) leveraging existing competences.

DISCUSSION Our analysis presents the beginning stage of a research agenda aimed at modeling and validating the link between corporate competences and customer value. One of the keys to this investigation has been discovering whether we can develop a methodology that is consistent with the demands of both academics and managers. We have proven that the basic task is easily doable and provides the sort of information that can be used to guide both management decisions and academic thinking. Each of the three models we estimated made intuitive sense. The customer model showed that the ideal fast-food offering provides variety, along with the higher levels of service, accessibility, and courtesy, all for a lower price. The picture of competences painted by the company and competitor

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competence models seemed to fit the respective firms quite well. Although Company X and Competitor Y competence mappings into product offering space appeared to work quite well, they suggest that managers tended to focus on positive competences versus ‘anti-competences’. That is, managers chose product offerings that fit with their competences rather than choosing against product offerings that did not fit with their competences. It is most probable that a larger sample of managers would allow our models to pick up these more subtle differences. The results of the gap-effects-preference model indicate clearly that the managers of Company X are market-oriented. They have a dominant preference for strategic movements that result in attempts at product positioning that is closer to the customer ideal. In the short term, they prefer strategies that move their current offering closer to the customer ideal, much more than alternatives that differentiate their products from competitors. In the longer term, Company X managers preferred alternatives that would move their competent offering closer to the customer ideal. They prefer to develop competences that move them closer to the customer ideal rather than differentiate themselves from the competition. Nevertheless, managers also prefer alternatives that differentiate themselves from the competition. Our results suggest that the managers, who responded to the survey, understand the basics of competence-based management and strategic differentiation and attempt to apply them in practice. When they make strategic moves, they try to do so in a manner that will result in higher customer satisfaction, better differentiation, and a clearer matching with corporate competences. When faced with a trade-off between the differentiation and customer satisfaction, our respondents showed a preference for the customer. One would have expected that financial performance would increase as the gap between the consumer ideal and the firm’s offerings decreases. In our particular application, Company X’s products, both competent and current, were closer to the customer ideal, however, all the performance measures indicated Competitor Y was a better performer, both in terms of market share and profit. One reason for this result might be the existence of dominant competitor, who has more restaurants and has been in operation for a longer period of time. An alternative explanation might be found in the relationship between internal efficiency and performance. From an internal efficiency standpoint, we would expect that as the gap between the company current offering and the company competent offering decreases performance would increase. The gap between Company X’s current and competent offerings was clearly larger than the gap between

Strategic Competence and Customer Value

37

Competitor Y’s current and competent offerings. Given that we have already noted that performance measures indicated that Competitor Y outperformed Company X, this finding suggests that a company that offers products and services, which fit its competences better also has better performance. It is highly likely that the main driver of performance in this industry is providing what you provide more efficiently even if consumers prefer it less!

FUTURE DEVELOPMENT OF THE METHODOLOGY This chapter presents the first attempt to rigorously model the relationship between corporate competence and customer value. We have shown that using relatively simple models in a structured experimental framework allows us to disassemble the relationship between competence and value. Our approach is conceptually similar to Klein and Hiscock’s (1994) skillbase simulation with the added bonus of being more theoretically and methodologically rigorous. Clearly our methodology, even at this level, needs to be refined and revalidated using data from more markets. However, the ease with which discrete choice models have been used elsewhere gives some hope that our approach is generally doable in many situations. There are a number of areas, where the methodology needs to be expanded upon. Perhaps the most important area, where work needs to be done is in the decomposition of specific competences (the bottom part of Fig. 1). We assumed, and the results do indicate this is true, that managers know the relationship between competences and customer value. However, we need to empirically discover what those competences are and map the path between them and customer attributes. Refinement of some of Klien and Hiscock’s skill-mapping techniques will be useful in doing this. Even deeper down in the organization, we need to be able to model the relationship between these competences and more fundamental assets, resources, processes, and so on. However, we feel the staged discrete choice modeling approach used here is sufficiently robust for us to be able to expand it to deal with these questions. Another area of future research is in the understanding and modeling of multi-market competences. Almost every author writing in this field emphasizes the importance of applying and building competences across markets and products. This no doubt increases the complexity of the modeling task but does not change its fundamental nature. For example, the fast-food business is relatively simple but it is a multi-product business. Our

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methodology was able to deal with this fact by the suitable design of the survey instrument. This work will hopefully make strategy researchers think about the different possibilities open to them in the validation of fundamental ideas in the field. At times, the strategy field has expanded conceptually without taking a moment to question and critically and scientifically examine the validity of new conceptual constructs. This has led to a race to discover new constructs rather than effectively study the ones that exist. Furthermore, it leads to the sort of managerial chagrin that we presented earlier in the chapter. More precise and consistent measurement techniques such as those outlined here can potentially address both the academic and managerial issues relating to our understanding of corporate competence.

ACKNOWLEDGMENT We would like to thank Grahame Dowling, Jordan Louviere, and David Bunch for comments on the methodology used in this chapter.

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APPENDIX A. SELECTED SECTIONS OF THE CUSTOMER SURVEY Fig. A.1 is the instrument used to measure customer perceptions of the attributes possessed by the competitors in the marketplace. Fig. A.2 is an example from the customer choice experiment. Hungry Jack's Hamburgers

Chicken

Pizza

Ethnic/Int'lFood

Salad Bar

Healthier Food

Food Made Fresh

Ambience

Personal Attention

Staff Helpful/Polite

Easily Accessible

Price Per Meal

KFC

McDonalds

Pizza Hut

Red Rooster

yes

yes

yes

yes

yes

no

no

no

no

no

yes

yes

yes

yes

yes

no

no

no

no

no

yes

yes

yes

yes

yes

no

no

no

no

no

yes

yes

yes

yes

yes

no

no

no

no

no

yes

yes

yes

yes

yes

no

no

no

no

no

yes

yes

yes

yes

yes

no

no

no

no

no

yes

yes

yes

yes

yes

no

no

no

no

no

vibrant

vibrant

vibrant

vibrant

vibrant

relaxing

relaxing

relaxing

relaxing

relaxing

much

much

much

much

much

little

little

little

little

little

yes

yes

yes

yes

yes

no

no

no

no

no

yes

yes

yes

yes

yes

no

no

no

no

no

less than $5

less than $5

less than $5

less than $5

less than $5

$5–$10

$5–$10

$5–$10

$5–$10

$5–$10

Fig. A.1. Customer Perceptions of Competitors. Note: Hungery Jack’s is Known as Burger King in Many Countries. Red Rooster is a Local, Exclusively Chicken Restaurant.

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Fig. A.2.

Example from the Consumer Discrete Choice Experiment.

APPENDIX B. SELECTED SECTIONS OF THE MANAGER SURVEY Fig. B.1 is the instrument used to measure managers’ perceptions of the attributes possessed by the participants in the marketplace. Fig. B.2 is an example from the choice experiment matching competences to products. Fig. B.3 is an example from the strategic trade-offs experiments used to estimate the gaps-effect-preference model.

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Pizza Hut Hamburgers Chicken Pizza Ethnic/Int'l Food Salad Bar Healthier Food Food Made Fresh Ambience Personal Attention Staff Helpful/Polite Easily Accessible

Hungry Jack's

KFC

McDonald's

Red Rooster

yes

yes

yes

yes

no

no

no

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Fig. B.1.

Managers’ Perceptions of the Market Participants.

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JEFF D. BRAZELL ET AL.

Offering A

Offering B

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Hamburgers

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Chicken

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Pizza

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If these were the only two offerings available to our strategic planners, we would choose (

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tick one )

I would rate the fit of each offering with our main competitor’s competencies (ona scale 1-100) If these were the only two offerings available to our competitor's strategic planners, they would choose ( tick one)

Fig. B.2.

Neither

Managers’ Perceptions of Hypothetical Product Offerings.

45

Strategic Competence and Customer Value Offering A

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Fig. B.3.

Example from the Strategic Trade-Offs Choice Experiment (Company is Disguised Using ‘xxxxxx’).

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46

CAPABILITY IMPLICATIONS OF DIFFERENT FORMS OF VALUE CREATION Johan Wallin ABSTRACT This chapter addresses the question of what are the capability implications of different forms of value creation. The notion of value creation is discussed taking an open system’s perspective on the firm. Using the systems perspective, seven different categories of capabilities are defined. Alternative ways of creating value are exemplified by three mini-cases, and the capability configurations of the case firms are discussed. The chapter also introduces the capability map as a tool for visualization and communication of the implications of competence-based management.

INTRODUCTION The competence-based strategic management school of thought (Hamel & Heene, 1994; Sanchez, Heene, & Thomas, 1996; Sanchez & Heene, 1997a; Heene & Sanchez, 1997) has provided the strategy field with a set of new tools for firms to better understand and use their resources to achieve their goals. The notion of the firm as an open system (Sanchez & Heene, 1996;

Research in Competence-Based Management, Volume 1, 47–71 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01003-0

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Wallin, 2000) has provided a basis for a more in-depth discussion of how the actual value-creation process takes place. The value-creation framework (Wallin, 1997) is one tool that builds on the tradition of competence-based strategic management, and allows a more specific analysis of the conditions under which one single firm creates value for its customers (Wallin, 2000; Ramı´ rez & Wallin, 2000). Ramı´ rez and Wallin (2000, p. 60) introduced the notion of ‘‘granularity’’ when discussing value creation. They argued that improved information technology enables firms to enhance the level of granularity they deal with. This has provided the possibility to move from a more aggregated product/ market view of the world to observe and manage value constellations, which are coproductive arrangements aiming at matching the value-creation potential of an individual customer with the optimal capability configuration of the supplier. Ramı´ rez (1999), Wallin (2000), and Normann (2001) have all separately and jointly discussed the ‘‘anatomy’’ of value creation. Ramı´ rez and Wallin (2000) state that the actualization of value takes place in the relationships between a customer and his or her customers or counterparts. Value is not ‘‘added’’ in the interaction between customer and supplier, but in the interaction between the customer and the customer’s customer or counterpart. In coproductive terms, value is manifested thanks to the ‘‘enabling’’, which the supplier brings to the customer’s own value-creating activity. Combining the above notion of value coproduction, with the suggestion from Hamel and Heene (1994) that the processes of ‘‘knowledge creation’’ and ‘‘knowledge engineering’’ will be the ultimate sources of competitive advantage, suggests
that the firm should not only look at value-creation potentials within its own customer base, but extend it also to the understanding of valuecreation potentials among the customers’ customers, and
that the firm as well should not only look into its own resource base for sources of knowledge and value creation, but also extend its learning and value-creation processes to firm-addressable resources outside the firm (Sanchez & Heene, 1996, 2004). This chapter investigates the capability development and management implications of a number of forms of value-creation processes involving mobilization of productive knowledge within and, especially, external to a firm. The chapter consists of four parts. First, it provides the conceptual background for the notion of value creation, based on which the notion of ‘‘mobilizing productive knowledge’’ will be defined. Second, the alternative

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value-creation logics will be illustrated with three mini-cases. Third, the capability implications of different value-creation logics will be discussed. Fourth, some reflections will be presented on the evolution from one mode of value creation to another, and its implications on capability building and capability leveraging.

VALUE CREATION Sanchez et al. (1996) define resources as follows: Resources are assets that are available and useful in detecting and responding to market opportunities or threats. Resources include capabilities, as well as other forms of useful and available assets. (Sanchez et al., 1996, p. 8)

Firm resources can be divided into firm-specific and -addressable resources (Sanchez et al., 1996, p. 7). Firm-specific resources are those, which a firm owns or tightly controls. Firm-addressable resources are those, which a firm does not own or tightly control, but which it can arrange to access and use from time to time. Firms use resources in some form of coordinated deployment of assets and capabilities to create, produce, and provide offerings to markets. These coordinated deployments of resources constitute competences when they lead to positive market responses that help a firm achieve an acceptable level of attainment of the firm’s goals. Mosakowski and McKelvey (1997) suggest that the evaluation of those resources and competences regarded as important should be addressed through the firm’s intermediate outcomes. Their argument is that it is the scarcity of the intermediate outcomes, not of specific competences, that is necessary for rent generation since intermediate outcomes encompass both the form and function of a competence. Bogner and Thomas (1994) advocate a similar view by stating that competences likely to generate rents are those capable of generating product attributes that are desirable in their targeted market. Normann and Ramı´ rez (1993, 1994) also recognize the importance of the ‘‘firm’s intermediate outcomes’’. In their ‘‘interactive strategy framework’’ they perceive value creation as the ‘‘raison d’eˆtre’’ for a firm. This focuses the attention on the interaction and interplay between suppliers and customers. An offering is defined as the output produced by one (or several) actor(s) – ‘‘producer’’ or ‘‘supplier’’ – creating value that becomes an input to another actor (or actors) – the ‘‘customer’’ creating value. Successful

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ENVIRONMENT The corporation

money, information

OFFERINGS

CUSTOMER BASE

CUSTOMER S CUSTOMERS

Firm-addressable resources

The Firm

information

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money, information

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Fig. 1.

The Value-Creation Framework (Wallin, 1997).

firms are effective ‘‘conversation holders’’, catalyzing an effective dialog between competence development and customer development. The reasoning of Normann and Ramı´ rez (ibid.) can be combined with the notion of firm-specific and -addressable resources according to Fig. 1. The competence-based strategic management perspective simultaneously addresses the internal perspective (the resource-based view), and the external perspective related to changing environments that may make obsolete previously valuable competences. Wallin (2000) developed a model of the firm as an open system as an extension of an earlier model developed by Sanchez and Heene (1996).1 The major extensions compared to Sanchez and Heene are:
The company, and its interaction with its environment, is depicted in greater detail, making specific distinction between value constellations, transactional environment, and contextual environment.
The notion of product markets is replaced by the notion of customers.
The Sanchez and Heene notion of strategic logic is divided into two components: corporate values, addressing the issue of value distribution; and business model, addressing the issue of value creation.
Business processes and management processes are specifically categorized.
Culturing is superimposed on the other managerial processes.

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Capability Implications of Different Forms of Value Creation The border of the firm

Contextual listening

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Contextual Requirements on Technology, Assets, Systems, Capabilities and Competences

Culturing Purpose

Business Modeling Recipes

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Transactional Environmental Analysis

Corporate Values Value Constellations

Transactional Requirements on Technology, Assets, Systems, Capabilities and Competences Business Model

Technology, Assets, Systems, Capability, Competence and Offering Development Plan

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Fig. 2.

The Firm as an Open System (Adapted from Wallin, 2000).

The model of the firm as an open system (Fig. 2) can be summarized to consist of three parts: the purpose (values and goals), the recipes (the business model), and the value-creating processes. The model of the firm as an open system takes its origin in the valuecreating business processes2 through which the firm-addressable resources and customers are coupled together. To be able to provide value to customers the firm develops and delivers offerings, which require activities to develop technology, assets, systems, capabilities, and competences. These activities are planned for according to the priorities set within the business model. The notion of business model defines the strategic positioning of the firm (Porter, 2001). Porter presents six principles of strategic positioning:
Having the right goal; superior long-term return on investment.
Delivering a value proposition, or set of benefits, different from those that competitors offer, defining a way of competing that delivers unique value in a particular set of uses or for a particular set of customers.
A distinctive value system, a configuration based on which it performs the activities to deliver the value proposition.

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Clear trade-offs, rules for how to abandon some product features, services, or activities in order to be unique in others.
A definition of how all the elements of what a company does fit together.
Strategy involves continuity of direction. The notion of business model (Ramı´ rez & Wallin, 2000, p. 77) addresses these same principles: The business model defines the value-creation priorities (value proposition) of the firm in respect to the utilization of both internal and external resources (distinctive value system). It defines how the firm relates (goals) with stakeholders, such as actual and potential customers, employees, unions, suppliers, competitors, and other interest groups. It takes account for situations where its activities may (a) affect the business environment and its own business in ways that could create conflicting interests (trade-offs), or impose risks on the firm, or (b) develop new, previously unpredicted ways of creating value (fit). The business model is in itself subject to continual review as a response to actual and possible changes in perceived business conditions (continuity of direction).

Sanchez and Heene (1997b) have noticed that a firm’s ability to learn and acquire new capabilities may be more important determinants of its competitive success in dynamic markets than the firm’s current endowment of unique resources or the industry structure it currently faces. Connecting existing internal capabilities with external capabilities provides the firm with opportunities to learn new capabilities (competence building) and to enhance existing capabilities (competence leveraging). A firm emphasizing learning, accepts and encourages the business model to be updated dynamically and changed in pace with the changes in the environment that make the previous model out of date. Constantly changing the business model is, however, not a goal in itself. On the contrary, the cost of changing the business model implies that the model should not be changed unless the benefits are greater than the cost of change. The learning perspective possesses a dilemma for the firm deciding on its value-creating activities. First, in which context does the best present cashflow-generating opportunity, through competence leveraging reside? Second, which offerings (with which customers) provide the best opportunities for learning and competence building? This dilemma suggests that the firm should choose different business models at different times. Firms can approach the definition of the business model in two ways. First, the customer demand for different types of offerings can be the business model’s driver. An alternative view is to focus more on the supply side, seeing the firm’s resources as drivers for value creation. Accordingly, depending on whether the firm emphasizes activities focusing on existing or new customers and capabilities, the framework depicted in Fig. 3 will evolve.

Capability Implications of Different Forms of Value Creation

F i r m

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Fig. 3.

The Capability Development Options within a Business Model.

In almost any business model a substantial part of the business is to provide existing customers with existing solutions. In this process, the pursuit of lean management, which seeks continuous efficiency improvement within existing business and management processes, is likely to be a key capability development objective. Customer orientation means that the firm starts from its existing customers, and continuously develops its capabilities to serve these chosen customers. This does not mean that existing customers cannot be served by leveraging capabilities; this alternative, however, would then be categorized as lean management. Capability focus uses the existing resource base as the main driver for developing new business. Capability focus looks to develop new applications and offerings based on the existing capabilities of the firm. The final positioning alternative is to see the development of new business as one of developing simultaneously both new capabilities and new customer preferences. This can be called market making if the capabilities are genuinely new in the marketplace. If the capabilities are new to the firm, but already exist in the marketplace, then this can be referred to as imitation. Sanchez and Heene (1997b) and Khanna, Gulati, and Nohria (1998) have noted that networks of firms sometimes function like competence alliances. In such alliances, firms enter a succession of short-term collaborations for the explicit purpose of more quickly reconfiguring and maximizing a temporary pool of resources to take advantage of short-lived market

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opportunities (Sanchez, 1995). Using the notion of ‘‘offering’’ instead of ‘‘product’’ enables a better understanding of the dynamics of such competence alliances. The notion of value constellations provides for the extension of the product/market notion along both its dimensions: in the supply or resource dimension to include capabilities and competences, and in the demand or market dimension to include and take account of individual customers’ needs. From the value constellation perspective the firm not only considers to what extent the offering provides value to potential customers in the short term, but also reflects on how the established value constellation can be leveraged for later value creation. Based on this value creation can be defined as follows: Value creation is the process of co-producing offerings (i.e. products and services) in a mutually beneficial seller/buyer relationship. This relationship may include other actors such as sub-contractors and the buyer’s customers. In this relationship, the parties behave in a symbiotic manner leading to activities that generate positive values for them. (Wallin, 2000)

The notion of value constellation3 does then not just replace the traditional elements of the product/market perspective. In the product/market thinking the focus is on defining the best output strategy of the firm. In value constellation terms offerings are both outputs and inputs, and the business model addresses this issue of value coproduction. Normann and Ramı´ rez (1994) discuss value constellation and their view is that the actors within a value constellation ‘‘constantly reassess each other, and reallocate tasks according to their new views of the comparative advantage they perceive each other to have’’. A value constellation is thus implicitly designed with some longevity in mind, the focus being on improving the matching of the capabilities of the coproducers. However, it could be argued that there are situations where value-creating potentials will emerge, where the supplier does not himself have the actual capabilities needed, but does have an opportunity to access these capabilities. For the firm, spotting such an opportunity would further enhance the probability of providing a successful offering, if the firm also could ‘‘see through the customer’’ and understand the value-creating potential among the customer’s customers. This type of value creation would then be more based on the ability of the firm to bring together the right set of external capabilities for the purpose of value creation, instead of specifically using its own capabilities. This form of value creation will here be called ‘‘mobilizing productive knowledge flows’’. Fig. 4 illustrates how the different forms of value creation can be perceived as ‘‘expanding circles’’. This implies that the

55

Capability Implications of Different Forms of Value Creation Resources Mobilizing productive knowledge flows

Firm adressable capabilities Designing value D con constellation

Firm capabilities Product/market Prod strateg strategy

Physical resources Market

Fig. 4.

Customer

Customer's customer

Customer potential

Alternative Perspectives on Value Creation.

increased granularity will not exclude the more aggregated level of granularity, but add more depth and/or breadth to the analysis. The three suggested logics (product/market strategy, designing value constellations, and mobilizing productive knowledge flows) are conceptual constructs. They can exist in parallel, and will here be used for the purpose to discuss different contexts for competence building and competence leveraging.

EXAMPLES OF ALTERNATIVE FORMS OF VALUE CREATION The form of value creation can partly be enforced on the firm by the competitive environment or the industrial logic, and is partly a strategic choice to be made by the firm. In the following three mini-cases from Finland (the country of origin of the author) will be used to illustrate the three forms of value creation.

Product/Market Strategy: UPM-Kymmene UPM-Kymmene is the second largest forest industry company in Europe with a 2001 turnover of h10 billion and 34,000 employees. In May 2002, the market capitalization of UPM-Kymmene was h10.8 billion.

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Sixty-seven percent of the 2001 turnover of UPM-Kymmene came from sales of printing papers, and the company is the global market leader in coated and uncoated magazine papers and label materials. UPM-Kymmene provides the paper for magazines such as Elle, Time, Der Spegel, and Stern. Every fourth magazine in the world is printed on paper produced by UPMKymmene in one of its 13 paper mills located in Europe or North America. The products of UPM-Kymmene are distributed worldwide through a network of 170 sales and distribution companies. As a natural resource-based industry the forest industry by definition is very product focused. The industry provides raw materials to competing companies (e.g. publishers) where the raw material cost is a substantial part of the cost of the final product (e.g. the magazine). The market is thus very competitive, and the business model of the forest industry company has to be greatly driven by a ‘‘lean management’’ perspective. The core offering of the forest industry company is the actual physical product, e.g. lightweighted-coated paper (LWC-paper). However, a customer such as a publisher will not only consider the ex-factory cost of the paper, but he will be calculating the overall costs of the logistics involved in the transport of the paper from the mill to the printer, the possible production risks (interruptions) related to the quality of the paper and the reliability that the supplier will be guaranteeing supplies in pace with the changing demand of the publisher. All these elements build up to the customer’s decision on which suppliers to buy from, and how much to pay for the product. All forest industry companies are using very much the same technology, have the same access to shipping and logistics providers and have the similar requirements from the customer base; thus the core offering will not differentiate the best forest companies. For the individual forest company this means that there are two major factors that ultimately decide how the market is split up between the various suppliers: the comparative logistic advantages of individual suppliers and the relationship-based inertia connecting the supplier and customer. Thus, it is no surprise that most of the growth of UPMKymmene over the recent years has been through acquisitions of smaller forest industry companies. UPM-Kymmene in itself was only formed in 1995 through a merger of two major Finnish forest industry companies. From a value-creation perspective, the forest industry is an example of the product/market value-creation logic. The notion of product should here be understood to include also the logistics services and the relationships that are added to the physical product. For a firm adapting to the product/ market logic it has to provide additional services as ‘‘add-ons’’ to the physical product, and in this way the firm develops value constellations around

Capability Implications of Different Forms of Value Creation

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single customers. But the value constellations are then not driven by the capabilities of the suppliers, but are built as product-plus extended offerings. If the core product, e.g. the magazine paper, would be taken away, the customer would not be interested in the add-ons of the supplier. The customer is only interested in those capabilities of the supplier, which are strengthening the value of the core product offering.

Designing Value Constellations: Elcoteq Network Elcoteq Network was in 1984 formed as the electronics part of a Finnish conglomerate, Lohja corporation. Elcoteq was spun off through an MBO in 1991. At that time it had 170 employees. During the 1990s, Elcoteq developed into the largest European electronics manufacturing services company. The explosive growth of the mobile phones market formed the basis for rapid expansion of Elcoteq Network. Elcoteq also was the first company (in 1997) to be given the outsourced responsibility for the manufacturing of a mobile phone from start to finish. In 2001, Elcoteq had a turnover of h1.9 billion and employed in total 10,000 people with production facilities in Finland, Estonia, Russia, Hungary, Mexico, and China. By the end of May 2002 the market capitalization of Elcoteq Network was h135 million. From the beginning as a stand-alone business, Elcoteq developed a strategy it called ‘‘coevolution’’. Elcoteq defines the guiding principle of coevolution as follows: ‘‘to continuously improve the performance of the value chains in which Elcoteq participates, to understand each other’s business operations, objectives and skills, to look at the big picture in which Elcoteq plays a part’’. The assumption by Elcoteq is that if the chain as a whole works better than the competitors’ chains, each link in the chain of Elcoteq will be successful. This strategy meant in practice that Elcoteq formed very close relationships with Nokia and Ericsson. In 1996, 69% of its sales went to Nokia and Ericsson, and in the year 2000 these two customers represented 91% of the turnover. The strategy paid well off in 1999 and 2000. First Elcoteq doubled and then tripled its business volume at improved profitability. However, in the beginning of 2001, Elcoteq encountered in a very harsh way the risks related to a very close focus on a small number of large customers. Poor financial performance forced Ericsson to close down all its own mobile phone manufacturing plants in high-cost European countries, and without informing Elcoteq formed an agreement with Flextronics, a Singapore/US-based manufacturer with 80,000 employees to sell all its

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European plants. In one single deal, announced on 26.1.2001, Flextronics took over the entire manufacturing of Ericsson’s mobile phones, which Ericsson had already agreed should be contracted out to Elcoteq’s plants in Hungary and Tallin. This was a major blow for Elcoteq, and the company’s shares lost 55% of their value in one day. The result was that Elcoteq had to close its mobile phones manufacturing operations in both Hungary and Estonia. The Ericsson move showed the need for suppliers in the telecommunications industry to not only be closely linked with their most important customers, but also to be able to build and maintain cost-competitive network of plants that all employ the same consistent manufacturing methods, and make use of comparative cost advantages across the globe.

Mobilizing Productive Knowledge Flows: Nautor Nautor was founded in the Ostrobotnia region in Finland in 1966 by a Finnish entrepreneur called Pekka Koskenkyla¨, who had the idea to build the first 10 m yacht using a fiberglass mould. His concept was a design capable of both cruising and racing. Series production was considered key to the success of the venture. Precise, logistical organization was paramount at an early stage. From its early days, the company established a global reputation as builder of luxury sailing yachts of outstanding performance on the racecourse. The trademark Mr. Koskenkyla¨ chose, Swan, rapidly became a well-established quality brand, considered the ultimate ocean-going, performance, luxury sailing yacht of unrivaled build quality. By 2001 more than 1,700 Swan-yachts had been built, and most of them are still sailing. Soon Mr. Koskenkyla¨ ran into financial problems, and in 1971 Nautor ended up as a part of a local forest industry company, which later was acquired by what is now UPM-Kymmene. Under the ownership of UPMKymmene Nautor never performed particularly well, and in 1998 a consortium lead by Mr. Leonardo Ferragamo bought Nautor from UPMKymmene. Mr. Ferragamo, a passionate sailor and a leading member of the family that controls the eponymous fashion group, bought his first Swan in 1988. In 1997, he got a close-up look at the decline of the historic marque, which has become known as the Rolls-Royce of the sea. In spring 1998 the deal was closed, and Nautor employing 325 people with a turnover of h27 million changed ownership.

Capability Implications of Different Forms of Value Creation

59

Nautor had in the 1990s done little to capitalize on the name that gained fame by winning the first Whitbread around-the-world race in 1974. It continued to produce everything in-house, which did little to encourage innovation, while German Frers, the world-class designer and Swen’s long-time stylist, grew frustrated at not being able to use new materials and technology to produce the sort of sleeker, lighter boats that rivals were creating. Mr. Ferragamo was impressed by the quality and craftsmanship of Nautor, and realized that combining this with his own experience and relationships from the fashion world could radically improve the performance of the company. So when organizing the Swan Cup at the rocky coastline of Sardinia’s Costa Smeralda in autumn 2000, Mr. Ferragamo invited Claudia Schiffer, the super model, and Paul Cayard, a well-known America’s Cup sailor and skipper to add a bit of celebrity buzz to the event. He also drew in sponsors such as Bulgari and Italian wine group Fescobaldi, while sprucing up the regattas in order to butter up potential clients better. But adding glamor to events organized by Nautor was not the main change. Nautor also aggressively tuned to outside suppliers to address the ever-growing demand for new technological features of the sailboats of the most demanding customers asking for both top performance and high comfort. Titanium fittings and carbon masts were examples of new technology brought into the new models introduced by Nautor under the guidance of the new ownership. Another clear change in strategy was to expand the product range into bigger and even more extravagant yachts. Previously 60-footers used to mark the top end of the Swan’s range, Nautor now offers 80, 82, and 112-foot models, and is contemplating a 160-foot craft. And for customers willing to shell out the h4 million plus it costs for a 82-footer, Nautor will customize much of the boat, whether it is personalizing the layout of the deck and interior or adding touches such as finishing in handrubbed Burmese teak (Ball, 2000). A new feature of Nautor has been to extend the after sales services and the community building efforts through its ClubSwan program, which offers to its members access to valuable services and products. In 2002, Nautor expects a turnover of h84 million, and the order book has grown by a multiple of five since Leonardo Ferragamo bought the company in 1998. One reason for the rapid growth has been that Nautor in 4 years has launched nine new models, of which Swan 112 is the largest sailboat that Nautor this far has built. The new Swan 45, introduced in May 2002, is the first attempt to apply a standardized modularized concept enabling Nautor to produce the Swan 45 in only 14 days. By September 2002 Nautor had already sold 30 of the $582,000 Swan 45s (Edmondson, 2002).

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CAPABILITY IMPLICATIONS OF ALTERNATIVE FORMS OF VALUE CREATION The capabilities of an organization can be categorized based on whether they relate to the lower-order system elements or the higher-order system elements of the firm as an open system. The notion of higher- and lowerorder control loops (or feedback flows) introduced by Sanchez and Heene (1996) is here adapted to the categorization of capabilities. Sanchez and Heene (ibid.) define higher-order control loops as those monitoring and adjusting asset stocks and flows in a firm’s higher-order system elements of strategic logic, management processes, and intangible assets. Higher-order control loops govern changes in a firm’s managerial cognitions. Lowerorder system elements refer to tangible assets, operations, and products in the world of Sanchez and Heene (ibid.). The value-creation framework (Fig. 1) depicts the ‘‘lower-order elements’’4 of the model of the firm as an open system (Fig. 2). The valuecreation framework can be used to categorize the capabilities of the firm that relates to ‘‘lower-order system elements’’ (Wallin, 1997). Sanchez and Heene commented on this categorization as follows: Viewing customers as ‘‘co-producers’’yhelps to identifyyfour capabilities: the capability of the firm to develop and maintain relationships with its customers (relationship capability), the capability of the firm to design products that deliver value to customers (transformative capability), the capability to create new kinds of product performance (generative capability), and the capability to deploy both firm-specific and firm-addressable resources (integrative capability). Recognizing these four dimensions of competence provides a framework for both goal setting in competence building and developing insights into key aspect of industry change dynamics (Sanchez & Heene, 1997b, p. 14).

The firm can also have capabilities that relate to ‘‘higher-order system elements’’. These higher-order system elements were in the model of the firm as an open system (Fig. 2) identified as culturing, business modeling, and coordination. The categorization of capabilities suggested here would thus consist of seven categories: relationship, transformative, generative, integrative, culturing, business modeling, and coordination capability. In the following each capability category is shortly discussed (for a more in-depth presentation see Wallin, 2000 or Ramı´ rez & Wallin, 2000). Customer interaction or relationship capability is the capability to listen to and understand the customer, as well as the ability to communicate to the customer the value-creation possibilities of the firm, and to do so over long periods of time. The customer-interaction capability consists of customer

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intelligence and customer linking. Customer intelligence involves the processes for gathering, interpreting, and using market information. Customer linking includes the well-defined procedures and systems that a firm uses to achieve collaborative customer relationships. Transformative capability refers to the ability to combine bundles of product traits that in terms of physical, service, and people content have the threshold traits required by each customer and which can be offered at costs less than their perceived value-creating potential. The central transformative capability is offering design. Design is a key element in the planning process of the business. Design is separate from the innovative process. Innovation is the creative process. Design is the process that modulates, controls, and encourages the innovative inputs into the business and makes innovation meaningful. Design acts as a thermostat for innovation, responding to the voices and views of customers, employees, and capital investments. Generative capability is the ability to create new bundles of product traits that constitute firm-specific competences. Two important features of generative capability can be identified, innovation and execution. Innovation was described in the previous section on design. Execution refers to the capability to perform according to set objectives and is closely related to the notion of efficiency. Resource-integration capability refers to the capability to deploy firmaddressable assets and capabilities inside and outside the boundaries of the firm/business unit. The resource-integration capability can be divided into internal integration and external integration. Internal integration refers to the need to extract value out of the management of interlinkages. The notion of an ‘‘enlightened collective strategy’’ describes this. External integration refers to how the firm integrates its own resources with the resources of outside actors. The process of recognizing, articulating, and shaping the values and culture within the firm is called culturing. Two central aspects of culturing can be identified: socialization and role modeling. Socialization refers to the explicit processes to pass over and teach the values and the culture to members of the organization. It includes transferring knowledge from one individual or a group to become knowledge for another individual or group. Role modeling involves how the leading actors demonstrate values and culture through their own behavior. Role includes what the leaders pay attention to, measure, and control on a regular basis, how they react to critical incidents and organizational crises, how they allocate scarce resources, how they allocate rewards and status, and how they recruit, select, promote, and excommunicate organizational members.

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Business modeling is the management process whereby the firm develops, prepares and makes decisions on its future business model. Business modeling capabilities address three parts relating to the development, preparation, and making of decisions on business models: absorptive capacity, conceptualizing, and timing. Absorptive capacity in this context refers to the ability of a firm to recognize the value of new information about its environment, to integrate this information into its knowledge base, and thereby to stimulate conceptualizing activity. Conceptualizing refers to the capability of transferring the knowledge derived from absorptive capacities into actionable activities. Through conceptualizing, management develops actual business opportunities that exploit new ways to create value. Timing as ‘‘time when put in context of what to do’’, and is one of the cornerstones of ‘‘excellence in execution’’. Time pacing is how firms compete by scheduling change at predictable time intervals. Coordination capabilities include both an internal perspective related to coordinating resources (internal coordination) and an external one (constellation management). In addition the process of closing gaps is a special form of coordination (change management). Internal coordination renders the day-to-day management of the business possible. It includes financial, human resources, legal, and information management. Constellation management involves deciding with whom to create value, determining the roles each actor will play in value constellations, including allocating accountabilities and responsibilities, and managing these relationships as a coherent system. Change management entails making it possible for an organization to actually change from one business model to another. The categorization of both ‘‘higher-order’’ and ‘‘lower-order’’ capabilities is presented in Fig. 5. The competence-based strategic management perspective suggests that a firm must manage its competences as a system and avoid excessively focusing managerial attention on developing and managing a ‘‘single competence’’ judged by some criteria to be ‘‘core’’ (Sanchez & Heene, 1997b). Therefore, the firm’s building, leveraging, and maintaining of competences has to be carefully evaluated against the context of value creation that the firm is encountering. It could be argued that the balancing between competence building and competence leveraging ultimately drives what specific capabilities the firm need to focus on at different times. If learning from the supplier is a significant value-creating element for the customer, the supplier would benefit from assembling capabilities (firm-specific and -addressable) into offerings that would leverage the value of the learning advantage that the supplier possesses. The more customers are demanding personalized offerings, the greater the need for the supplier to also be able to address

Capability Implications of Different Forms of Value Creation

Business modeling capability

Culturing capability Socialization Role modeling

•

• •

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Absorptive capacity • Conceptualizing • Timing

Coordination capability •

• Change management Constellation management • Internal coordination

Resource-integration capability • •

Internal integration External integration

• •

Customer intelligence Customer linking

Generative capability

Transformative capability

Innovation • Execution

•

•

Fig. 5.

Customer-interaction capability

Offering design

A Categorization of Capabilities; ‘‘the Capability Map’’ (Wallin, 2000).

outside capabilities in order to put together an offering that is truly matching the value-creating potential of the customer. The learning potentials thus create opportunities for companies serving customers in close relationships to develop incentives for close collaboration and mutually reinforcing learning processes. But this will not take place without costs. There are two main problems related to close supplier–customer relationships, as the case of Elcoteq illustrated. First, the more resources the supplier allocates to one single customer, the more likely his own competence building will suffer, and the risk for not providing a competitive set of offerings in the future is increasing (i.e. in the case of Elcoteq it could not match the offering of Flextronics, when Ericsson decided to outsource all its mobile phones manufacturing activities). Second, the more the supplier will try to gain understanding of the customer’s customers value-creating potentials, the greater the risks that there will be overlaps in activities, and thus the creation of suboptimization of resource allocation and lost cost-efficiency.

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In the following the capability implications of the three forms of value creation will be discussed.

Product/Market Strategy: UPM-Kymmene The crucial role of the core offering of a product/market-based industry indicates a strong focus on generative capabilities. Strong innovation and execution capabilities are preconditions for guaranteeing a competitive core offering. But also customer-interaction capabilities are important, as the firm needs to continuously update its offerings based on new requirements from the customers. To manage the operations efficiently internal coordination is of essence, as the ‘‘lean management’’ part of the business model is predominant, and the provision of a cost-efficient total solution is part of the success formula. In the product/market world less importance seems to be on the transformative and resource-integration parts of lower-order system elements. In the higher-order system elements the most important part seems to be coordination. The recent acquisition of the German paper maker Haindl has been a success for UPM-Kymmene, and is thus an example of the importance of right timing in acquisitions. By expanding its operations more and more outside its Finnish origin UPM-Kymmene also needs to develop a truly global way of working. In Fig. 6 there is an illustration of the capability map of UPM-Kymmene, and there is an attempt to indicate the most critical capabilities with dark shade in addition to concrete examples of important capabilities in each category.

Designing Value Constellations: Elcoteq Network The Elcoteq example showed the importance of access to worldwide lowcost production resources when providing outsourcing services to global players, which would indicate that the single most important capability is efficiency in production. As Elcoteq could not match the cost-efficiency and global presence of the global operators, like Flextronics, it lost its most important customer, Ericsson Mobile Phones, over night. This raises the question whether a company like Elcoteq truly can choose a ‘‘customer partnering’’ type of strategy, i.e. designing and maintaining value constellations around its most important customers, or whether it ultimately will have to compete according to product/market logic. The tendency seems to

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Capability Implications of Different Forms of Value Creation

Higher-order system elements

Building a global culture

Timing of acquisitions Lean management External

Lower-order system elements

Supporting distributors and logistics partners

Product sales Account management Customer intelligence

Resources

Customers

Product improvements Production efficiency

Designing logistic solutions

Internal

Fig. 6.

Capability Map for Product/Market Strategy (Illustration).

be that there is a growing market share for the very big contactors such as Solectron and Flextronics, and that these dominant players gradually absorb smaller players. Another example of the application of the value constellations design model is ARM, the UK-based chip designer, also providing components for Ericsson and Nokia (Lang, 1997; Ramı´ rez & Wallin, 2000). As a small supplier of chip technology ARM also has chosen partnering with its major customers as its business model. ARM enters into contractual licensing agreements with its customers. ARM claims that its success is due to the ‘‘structure and culture’’ of the teams involved at the interface, or boundary, between the firms. The power/control base of the relationship between ARM and its customers is ‘‘expertise’’. Thus, ARM’s expertise helps to ensure that ARM, the smaller partner, does not cede control to the larger customer-partners. This would indicate that a successful strategy according to the ‘‘designing value constellations’’ paradigm would be based on some strong distinguishing expertise on top of the high degree of adaptability that also Elcoteq shared in comparison with ARM. A capability map of a company pursuing a successful design of value constellations would thus somewhat differ from the one of a product/market-driven company (Fig. 7).

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Higher-order system elements

Building an adaptive culture

Constellation management

Identifying technology changes

External Lower-order system elements

Securing access to global sources of low-cost supplies

Customer partnering Customer intelligence

Resources

Customers

Technological expertise Product improvements

Designing customer interfaces

Internal

Fig. 7.

Capability Map for Designing Value Constellations (Illustration).

Mobilizing Productive Knowledge Flows: Nautor The Nautor case showed a need for a fashion-inspired industry to be able to rapidly adapt to changes in the preferences of customers, and add external capabilities to the pool of resources that can be addressed to put together offerings that will provide customers with high value. This type of value creation asks for considerably more efforts in the management of external resources, and consequently the firm has also to be proficient in internalizing the possible elements that can be added to the offerings to keep the firm sought after as a leading supplier. The rapid pace of introducing new products means that now coordination capabilities have to be added. Nautor’s new projects, whether a new internal product development project or a major custom-made yacht to an important customer, could be seen as ventures, which have to be managed in a one-of-a-kind spirit. This asks fore a different mode of operation than the streamlined process needed to produce the Swan 45 in 2 weeks time. The case of Nautor indicates that the application of the ‘‘mobilizing of productive knowledge flows’’ seems to include both leveraging of existing competences and building new ones. ‘‘Leonardo Ferragamo is doing exactly the right thing at Nautor; evolving a modern boat design but maintaining the beauty and tradition of Swan’’, says Gucci Group CEO Domenico De Sole (Edmondson, 2002).

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Managerial Capabilities

Introducing a fashion design culture

Ventures management

Conceptualising

External Business Process Capabilities

Creating and maintaining partnerships

New product sales Joint developments with customers

Resources

Customers

Product design Efficient production

Designing new offering concepts

Internal

Fig. 8.

Capability Map for Mobilizing Productive Knowledge Flows (Illustration).

In the case of Nautor one example of leveraging is the Swan 45, a new more efficient ‘‘lower-end’’ offering. Another example of leveraging is the attempts to further strengthen Nautor’s customer interactions through the revitalization of the annual Nautor’s Swan Cup, founded by the Aga Khan in 1967, and other races for the Swan owners. In spite of the leveraging efforts that have produced additional revenues and profits for Nautor in 2002, the major reasons for the successful turnaround seem to be the competence building that have taken place under the leadership of Leonardo Ferragamo. His major contribution is cited (Edmondson, 2002) to be the injection of ‘‘luxury-goods marketing savvy’’ into Nautor and the Swan brand. Examples of this are the full-page editorial article in the Business Week (Edmondson, 2002) and a favorable article in the Financial Times (Finn, 2002). This way Ferragamo infused Swan with new excitement and cachet, which affected the ‘‘higher-order systems elements’’ of Nautor, or the way in which the whole company is managed and how it works (Fig. 8).

DISCUSSION This chapter has tentatively discussed the capability implications of different forms of value creation. The traditional form of value creation is focused on

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providing competitive products to the market. The discussion of the forest industry indicates that in a traditional product/market-based industry the basis for competitiveness is still the value provided through the core offering, e.g. magazine paper, but there is an increasing amount of product-addons like logistics services, delivery contracts, etc., which are differentiating suppliers in front of the customer. However, in this type of industry the capabilities that are not directly linked to the core offering will provide limited added value to the relationship. The competence strategy seems to favor competence leveraging. The second form of value creation, designing value constellations, was discussed through the examples of Elcoteq and ARM. This discussion seems to indicate that for a firm to be able to maintain its position in a value constellation based on its capabilities more than on actual products, there is a need to have some specific expertise that cannot be easily acquired by another, lower-cost producer. As Elcoteq was producing equipment to Ericsson based on Ericsson’s specifications, it was very easy for Ericsson to switch supplier once Ericsson decided to change its strategy in mobile phones. ARM on the contrary has built its own position based on specific expertise in chip design combined with a capability in forming close interrelationships with the customers it is serving. The challenge for ARM will of course be that at some stage new technologies or cost-pressure will force ARM to relay to a larger degree on outside resources to complement its own capability base. However, the efforts in this type of value creation seem to mainly support competence leveraging as well. Nautor was very much in the position of ARM in the yacht industry, but due to insufficient cost-efficiency it did not produce profitable results in spite of being regarded as the Rolls-Royce of the sea. By expanding the scope of resource allocation to include also firm-addressable resources Nautor was able to reposition itself and return to profitability. At the same time Nautor also invested in building community-enhancing programs, and one ambition with these has been to even better understand the value-creating potentials among its customers. Having produced only 1,700 sailboats during its 36 years of business it is in a position to closely monitor its entire customer base. This provides Nautor with a natural base to act according to the ‘‘mobilizing productive knowledge flows’’ – philosophy. The paradox seems to be that in order to apply this model successfully, the company itself also has to have some very strong own capabilities forming the basis for the attractiveness of the brand and the offering it is compiling. IKEA and Nike are examples of firms that to a large extent are mobilizing knowledge flows, and basically integrating value-creating activities on a global basis.

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However, the basis for their competitive position is that they have very strong transformative as well as resource-integration capabilities. Using these capabilities they can then continuously activate and moderate capability building necessary to put out a stream of new offerings, the production activities of which mostly is performed by third parties. It therefore seems that the competence leveraging is dominant in the product/market – and ‘‘designing value constellations’’ forms of value creation, whereas ‘‘mobilizing productive knowledge flows’’ is favoring a higher degree of competence building and in addition to competence leveraging. Applying the capability map as a tool for visualization and communication of implications of competence-based management is also illustrated. The use of the capability map as a tool would be an area for further research and experiments.

NOTES 1. Sanchez and Heene (1996) connect their model to earlier works on the system’s behavior of firms (Ashby, 1956; Forrester, 1961, 1968; Simon, 1969; Dierickx & Cool, 1989; Teece, Pisano, & Shuen, 1990). 2. The processes of the firm can be divided into two broad sets: business processes and management processes. The activities tying together customers and resources (firm-specific and firm-addressable) through offerings (present and future) are the business processes of the firm. The business processes are defined, monitored and re-evaluated through the management processes of the firm. Management processes relate to the ways a firm gathers and interprets data, makes, communicates, implements, monitors, and adjusts decisions about tasks and resource allocations, and measures and compensates performance. (Garvin, 1995, pp. 80–81)

3. It is also worth noting that Porter (2001) has accepted the limitation of the notion of value chain. He introduces the notion of ‘‘the entire value system’’ (or value constellations) and defines the value system as the set of value chains in an entire industry, encompassing those of tiers of suppliers, channels, and customers. And when talking about technology development, he refers to the importance of Internet in collaborative product design across locations and among ‘‘multiple value-system participants’’. 4. The capabilities of an organization can relate both to business and management processes. Business processes are ‘‘lower-order’’ system elements, whereas management processes can be both ‘‘lower-order’’ (e.g. production planning, delivery scheduling, etc.) and ‘‘higher-order’’ (e.g. business model renewal, cultural change programs, etc.).

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REFERENCES Ashby, W. R. (1956). An introduction to cybernetics. London: Chapman & Hall. Ball, D. (2000). Ferragamo sails for sales. The Wall Street Journal Europe (September). Bogner, W. C., & Thomas, H. (1994). Core competence and competitive advantage: A model and illustrative evidence from the pharmaceutical industry. In: G. Hamel & A. Heene (Eds), Competence-based competition. Wiley. Dierickx, I., & Cool, K. (1989). Asset stock accumulation and sustainability of competitive advantage. Management Science, 35, 1504–1511. Edmondson, G. (2002). Running before the wind. Business Week (September). Finn, H. (2002). Moschino coast. Financial Times (October). Forrester, J. W. (1961). Industrial dynamics. Cambridge, MA: MIT Press. Forrester, J. W. (1968). Principles of systems. Cambridge, MA: MIT Press. Garvin, D. A. (1995). Leveraging processes for strategic advantage. Harvard Business Review, September–October, 77–90. Hamel, G., & Heene, A. (Eds) (1994). Competence-based competition. Chichester: Wiley. Heene, A., & Sanchez, R. (Eds) (1997). Competence-based strategic management. Chichester: Wiley. Khanna, T., Gulati, R., & Nohria, N. (1998). The dynamics of learning alliances: Competition, cooperation and relative scope. Strategic Management Journal, 19, 193–210. Lang, J. W. (1997). Leveraging knowledge across firm boundaries: Achieving strategic flexibility through modularization and alliances. In: R. Sanchez & A. Heene (Eds), Strategic learning and knowledge management. Chichester: Wiley. Mosakowski, E., & McKelvey, W. (1997). Predicting rent generation in competence-based competition. In: A. Heene & R. Sanchez (Eds), Competence-based strategic management. Chichester: Wiley. Normann, R. (2001). Reframing business – When the map changes the landscape. Chichester: Wiley. Normann, R., & Ramı´ rez, R. (1993). From value chain to value constellation. Harvard Business Review, July–August, 65–77. Normann, R., & Ramı´ rez, R. (1994). Designing interactive strategy. Chichester: Wiley. Porter, M.E. (2001). Strategy and the internet. Harvard Business Review, March, 62–78. Ramı´ rez, R. (1999). Value co-production: Intellectual origins and implications for practice and research. Strategic Management Journal, 20, 49–65. Ramı´ rez, R., & Wallin, J. (2000). Prime movers. Chichester: Wiley. Sanchez, R. (1995). Strategic flexibility in product competition. Strategic Management Journal, 16, 135–159. Sanchez, R., & Heene, A. (1996). A systems view of the firm in competence-based competition. In: R. Sanchez, A. Heene & H. Thomas (Eds), Dynamics of competence-based competition. Oxford: Elsevier. Sanchez, R., & Heene, A. (Eds) (1997a). Strategic learning and knowledge management. Chichester: Wiley. Sanchez, R., & Heene, A. (1997b). Competence-based strategic management: Concepts and issues for theory, research, and practice. In: A. Heene & R. Sanchez (Eds), Competencebased strategic management. Chichester: Wiley. Sanchez, R., & Heene, A. (2004). The new strategic management: Organization, competition, and competence. New York and Chichester: Wiley.

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Sanchez, R., Heene, A., & Thomas, H. (Eds) (1996). Dynamics of competence-based competition. Oxford: Elsevier. Simon, H. A. (1969). The science of the artificial. Cambridge, MA: MIT Press. Teece, D. J., Pisano, G., & Shuen, A. (1990). Firm capabilities, resources, and the concept of strategy. CCC Working Paper No. 90–8, University of California at Berkeley. Wallin, J. (1997). Customers as the originators of change in competence building: A case study. In: A. Heene & R. Sanchez (Eds), Competence-based strategic management. Chichester: Wiley. Wallin, J. (2000). Customer orientation and competence building. Acta Polytechnica Scandinavica. Industrial Management and Busines Administration Series No. 6. Helsink, Finland: Acta Polytechnica Scandinavica.

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MANAGING IN EMERGENCE: CAPABILITIES FOR INFLUENCING THE BIRTH OF NEW BUSINESS FIELDS$ Kristian Mo¨ller and Senja Svahn ABSTRACT This chapter investigates a range of management challenges encountered in emergent business networks during times of radical technological change. We develop a framework that describes the environment of emergent networks. We then identify and analyze several phases in the emergence of networks during significant technological change. Finally, critical management tasks are identified for each phase, and important dynamic capabilities required for successfully achieving these management tasks are suggested.

$

This research is part of the VALUENET Project financed by the LIIKE Programme at the Academy of Finland. Research in Competence-Based Management, Volume 1, 73–97 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01004-2

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INTRODUCTION This chapter examines the tasks and managerial challenges faced by companies involved in the emergence of new businesses during periods of radical technological change. This landscape is one where new technological regimes such as the Internet and technological systems as the mobile telephony or digital imaging emerge as a result of activity by networks of interlinked actors. Eisenhardt and Martin (2000, p. 1111) describe this emerging business landscape as ‘‘high-velocity markets’’, characterized by nonlinear and unpredictable change, with blurred market boundaries and ambiguous and shifting market players, with no evidently successful business models. Rather than considering markets or industries, we will examine this environment through the network ‘‘lens’’. It can be argued that there are no clearly identifiable markets in the traditional sense during the early emergence phase, since markets presume structures, which constitute relatively identifiable actors and their individual value propositions. We propose that the network view as we develop it in this chapter provides a better conceptual tool for understanding the emergence of complex value systems often involving many non-business actors such as government agencies, supra-national bodies, university research centers, and regulatory agencies (Ha˚kansson & Snehota, 1995; Lundvall, 1992; Mo¨ller & Svahn, 2003; Nelson, 1993; Parolini, 1999). Levels of technological complexity and the degree of embeddedness mean it is actually impossible for any single firm to create a new technology or business (Lundgren, 1995; Tushman & Anderson, 1990). The interconnected and interactive character of complex value-systems supports adoption of the network perspective (Ha˚kansson & Waluszewski, 2002; Levinthal & Warglien, 1999; Nelson, 1993; Seufert, von Krogh, & Back, 1999; Shy, 2001). More specifically, we analyze here the role of management and the modes of management that must be employed in emerging business networks, as well as in strategically developed networks that simultaneously face and seek to further radical change. Why is this theme important? First, Ford and Ha˚kansson, prominent scholars in the industrial marketing and purchasing group, contend that the complex, interconnected nature of industrial networks makes the creation and management of intentional networks practically impossible (Ford & McDowell, 1999; Ha˚kansson & Ford, 2002). The challenges facing management in networks can be expected to be further accentuated in an environment of radical change. There is accumulating evidence, however, that firms are not only

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trying to influence emerging networks but also deliberately constructing what have been called value nets or strategic nets to pursue their goals (Hinterhuber, 2002; Hung, 2002; Jarillo, 1993; Parolini, 1999; Spencer, 2003). Is it possible for this ‘‘it cannot work in theory but works in practice’’ paradox to be solved, or at least reformulated? Second, it has been claimed that in a landscape of radical and discontinuous change, managerial suggestions which derive from the resourcebased view (RBV) theory of the firm break down (Sanchez, 1996; Sanchez & Heene, 1997; Eisenhardt & Martin, 2000). This view is supported by evolutionary economics, which suggests that firms must have capabilities that allow them to adapt to change in their operating environment if they wish to survive and perform. These capabilities, however, evolve over time as experimental learning develops into organizational routines and exhibits patterns of accumulation, making rapid changes in company behavior both unlikely and difficult (Nelson & Winter, 1982). Have firms operating in and even creating radical change been able to develop capabilities that allow them to not only survive but also prosper? Third, although there has been unprecedented growth in corporate collaboration and different forms of partnering and inter-organizational networks (Anand & Khanna, 2000; Achrol & Kotler, 1999; Brandenburger & Nalebuff, 1996; Gulati, 1998; Hinterhuber, 2002; Hung, 2002; Powell, Koput, & Smith-Doerr, 1996; Powell, 1998; Spekman, Isabella, & MacAvoy, 2000), relatively little is known about management practices which intentionally influence emerging technological and business networks, or about efforts which intentionally use nets of organizations in the creation of new technologies/businesses (Sanchez, 2002; Kenis & Knoke, 2002; Park, 1996). The majority of the work already done has, as Lorenzoni and Lipparini (1999, p. 318) note, ‘‘tended to consider networks as given contexts, rather than a structure that can be deliberately designed’’. Together, these postulations and findings emphasize the theoretical and managerial relevance of identifying how firms are actively creating change through innovation networks and also surviving change in radical emergence. Our study addresses this knowledge gap. We aim to contribute to the emerging theory of network management in the context of radical change by integrating notions from the industrial network approach, from strategic management, from the dynamic capabilities view, and from organizational learning studies. A number of premises guide our work. First, it is clear that the characteristics of an emerging network influence the capabilities required when operating in this environment. Second, the task that organizations aim

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to accomplish, either through influencing emerging networks and other network actors, or more directly by trying to create specific network organizations (we call these ‘‘strategic nets’’), influence the managerial capabilities required. Third, the pool of resources and capabilities available from potential collaborating actors also conditions the capabilities that are critical for a focal actor. Finally, the formation of potential new net organizations is subject to the availability of different types of network actors and their resource pools. Based on these premises, we aim to (1) identify a set of characteristics describing the environment of emerging networks, (2) propose key management tasks that are relevant when operating in an emerging network environment, and (3) identify the basic capabilities required. The chapter is organized as follows. We start by discussing the nature of emerging networks and their environment, which is characterized by radical change. The basic dimensions of these landscapes are then identified and an organizing framework is proposed. The fundamental tasks of operating in radical emergence are put forward and the management capabilities related to these are identified and discussed. A discussion of the theoretical contributions concludes the chapter.

CHARACTERISTICS OF INNOVATIONS AND THE ENVIRONMENT OF EMERGING NETWORKS Since the early work of Schumpeter (1934) that pioneered the theory of economic development, several research traditions have addressed the emergence of new technologies and businesses. In their exploration of value creation in e-business, Amit and Zott (2001) identify and review ‘‘Schumpeterian innovation, Porter’s value-chain analysis, the RBV of the firm, strategic networks, and transaction-cost economics’’. To this list could be added organizational learning theory, evolutionary economics, technological and innovation dynamics, and complex systems theory. A proper review of this rich base of knowledge is outside the scope of the present chapter. We will allocate priorities firmly using the following criteria: (1) Does the literature address value creation and management in the network context? (2) Does it describe the characteristics of business/social networks? (3) Does it describe the value-creation process? We start by discussing the characteristics of technological innovations and their

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development dynamics since these heavily influence the kinds of capability required from involved firms.

Innovation Types Freeman and Perez (1988) distinguish among four different types of innovation: 1. Incremental innovations, which occur more or less continuously in any industry (e.g. new generations in Random Access Memories (RAMs), new ‘‘Walkman models’’). 2. Radical innovations, which are discontinuous events unattainable through incremental adjustments to already-existing regimes (analog vs. digital mobile phones). 3. New technological systems, which are far-reaching changes in the technology affecting several branches of the economy (digital imaging, mobile telephony). 4. New techno-economic paradigms or technological revolutions, which are so far-reaching in their effects that they have a major influence on the behavior of the entire economy (electromechanical technology vs. electronics, the Internet). The taxonomy is based on the scale (i.e. single innovations vs. clusters of innovation) and the scope (minor changes vs. major changes) of technological change. Although these types of innovation are, as Lundgren (1995) points out, neither independent nor mutually exclusive but embedded, they are useful for characterizing different innovation networks.

Cycles of Technological Change Research in technological dynamics provides additional insights into the innovation environment. In their study of the nature of technological change, Tushman and Anderson (1990) suggest two cycles. An era of ‘‘ferment’’ which is characterized by competition between emergent technological designs (e.g. DOS and the Macintosh operating systems) and an era of ‘‘incremental change’’ which is characterized by gradual improvement of the new dominant design (e.g. new generations of Intel processors). A discontinuous technological change triggers the era of ferment, its impact can either enhance current resources or destroy them. Discontinuous and

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resource-destroying change, exemplified by the impact of digital quartz technology on the Swiss watch industry, brings with it severe technological and commercial uncertainty, and may ruin the position of major incumbents who have been slow to react (Dosi, Nelson, & Winter, 2000). Incremental change is more continuous in nature and generally enhances the positions of actors that are mobilizing these innovations. These two eras present actors in the networks with different challenges. During the era of ferment, actors who conceptualize new innovations are searching for partners with complementary resources and capabilities, and in general try to mobilize the behavior of relevant actors in the direction of building the necessary infrastructure for commercialization. In cases where there are two or more technological solutions, the emergence of sub-networks of actors competing for the dominant design can be expected (e.g. Betamax vs. VHS videorecorder technology).

Phases of Network Emergence In his historical analysis of the emergence of a new technological system network, digital image processing in Sweden, Lundgren (1995) suggested that network emergence includes three partly parallel but distinct phases: genesis, coalescence, and dissemination. ‘‘Genesis’’ (Lundgren, 1995, pp. 100–102) represents the creation of novelty and variety in the network. This generally takes place through several R&D initiatives and projects by individual actors who rely on their established network partners. In the digital image processing case, actors within different technological systems and located in different industrial systems initiated these projects. As the projects opened up new possibilities, their initiating actors had to search for complementary resources/capabilities outside their original networks (Lundgren, 1995, p. 101). Sense making and early identification of the application potential of new emerging technological knowledge drive this process. ‘‘Coalescence’’ (Lundgren, 1995, p. 102) takes place when the proponents of new technology have identified each other and any supporting actors, and form a network through interaction. This mobilization of actors and the emergence of technological applications are characterized by the intensive development of new capabilities, which also creates increased legitimacy among critical constituents such as potential users and financers. ‘‘Dissemination’’ refers to expansion of the primarily R&D-oriented network (which has one or more sub-networks or blocks depending on the technological system in question) toward suppliers of components and

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complementary products, services and systems, and toward major customer groups. This concerns exploitation of the new technology by providing applications for different user groups. During this phase, suppliers may specialize by fulfilling the needs of specific customer groups. In Tushman and Anderson’s terms, the emerging network has reached the era of incremental change. Lundgren’s three phases of network emergence offers perceptive insight into the issues and tasks that face companies involved in this process. The genesis-coalescence dissemination framework helps in understanding the era of ferment and demonstrates that interlinked individual firms forming networks are responsible for the birth of individual innovations and the creation of technological regimes or trajectories. So far, we have examined emerging networks or innovation environments from the macro perspective, identifying relevant structural and process aspects. We now adopt a ‘‘moremicro’’ perspective, examining the characteristics of an individual innovation and how these drive networking.

Synthesis of the Environment of Emerging Business Networks Based on the previous discussion, we suggest the framework shown in Fig. 1 as a summary of two key aspects, which influence the formation of collaborative networks. This Systemic Innovation Space (SIS) is based on the number of capabilities required by an innovation, and on the level of autonomy or embeddedness of the innovation in relation to the existing infrastructure. Four propositions can be derived from Fig. 1. First, the more capabilities that an innovation requires, the more probable it is that its creation and business realization will be carried out by an intentional net of organizations. Second, the higher the number of new supporting systems (i.e. specific infrastructure) required for the innovation to be commercialized, the more probable it is that its creation and realization will be carried out by an intentionally developed net of organizations, and that these processes will probably involve several networks. Third, the less the innovation requires capabilities and new supporting infrastructure, the more probable it is that a single organization can create it. Fourth, the higher the number of capabilities required by the innovation and the more it needs the co-development of new infrastructure for commercialization, the more probable it is that it will be developed by an intentionally developed net of organizations, and that the process will involve several networks.

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MANY CAPABILITIES MULTIMEDIA HOME ENTERTAINMENT ENTERTAINMEN` DIGITAL CAMERA BLUETOOTHCOALITION HIGH COMPA TIBILITY WITH USER SYSTEMS FAX

COPIER

NEW SYSTEMS/ INFRASTRUCTURE NEEDED COMPACT DISC

SONY WALKMAN

FEW CAPA BILITIES

Fig. 1.

Systemic Innovation Space (Adapted from Normann, 1995).

The diagonal vector describes the move from autonomous and simple innovations to embedded and complex ones, and indicates both increasing uncertainty in estimating the potential success of an innovation and an increasing need to mobilize a dispersed group of specialized actors to exploit the innovation. The value of an innovation and its appropriation by the engaged actors will only become evident in the future and will be influenced by actors and forces that probably cannot be recognized at the outset of the innovation process (Ford & McDowell, 1999; Mo¨ller & To¨rro¨nen, 2003). A final characteristic in our description of the innovation environment is the variety of actors who are related to the creation and commercialization of an innovation. Institutional theory suggests that company behavior is embedded in a broader setting of political, educational, and social institutions: as the deregulation and globalization of the telecommunication industry suggests (DiMaggio & Powell, 1991; Lundvall, 1992; Nelson, 1993), these play an often vital role in the emergence and shaping of new business sectors. A variety of agencies often play key roles in the formation of technological standards. We suggest that the more embedded an innovation is with current infrastructure and the greater the amount of the new infrastructure needed for the commercialization of a new innovation, the more

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Managing in Emergence Environment characteristics * Complexity -Types of resources -Types of capabilities -Types of actor

* Novelty -Share of new resources and capabilities -Uniqueness in relation to existing alternatives

From Exploration to Focus Identification

Exploring forfor Future Expl ring Business Future Business

Fig. 2.

*Embeddednes -Level of connectedness -Number of nets

* Dynamics -Pace of change -Number of activities

Design and Application Competition for Production Competition and Distribution

Mobilization for Applications

Mobilization for Dissemination

Landscape of Emergent Business Networks.

innovating firms will have to develop relationships with political and social actors. This is even more obvious if, instead of individual innovations, companies are participating in the creation of technological systems or the emergence of new paradigms (Freeman & Perez, 1988). Pulling together our discussion, we offer a framework, which synthesizes the characteristics describing the environment of emergent business networks (see Fig. 2). Following Lundgren (1995), we frame emergence using the three phases shown in Fig. 2. The Exploration for Future Business phase is characterized by competition between the actors and collaboration in the exploration and making sense of the application potential for emerging technologies. The Mobilization for Applications phase concerns actors competing and collaborating in constructing dominant designs and applications. The Mobilization for Dissemination phase covers actors competing and collaborating in scaling up production and distribution networks in the competition to create markets. The increasing size of the ellipses reflects the expanding networks required to transform an idea into an innovation and to turn an innovation into a viable business. We suggest that the degree of complexity, novelty, embeddedness, and dynamics, shown at the top of the framework in Fig. 2, influence the execution of the ‘‘meta tasks’’ which constitute the phases of new business

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networks emergence. The interlocked and overlapping nature of the three phases is symbolized by the over-arching ellipses. When considering this framework, we are much in dept to Lundgren’s work and to Tushman and Anderson’s technology cycle. Our exploration phase represents an early stage of the era of ferment, with the latter part represented by mobilization for applications and for dissemination. The intellectual relationship between this scheme and the classical evolutionary paradigm of variation-selectionretention (Nelson & Winter, 1982; Zollo & Winter, 2002) should be noted. In more managerial terms, the first two phases represent pre-market competition (and cooperation), while activities in the third phase are already addressing market competition.

FIRMS IN EMERGING BUSINESS NETWORKS: TASKS AND CAPABILITIES We now shift the focus of attention to the company level to consider how organizations initiate and carry out the activities, which result in new business networks. Key issues here are how the actors that are involved perceive the emerging network, how they try to influence and adapt to it, and the capabilities they need to survive and prosper. These questions are addressed in each of the three phases of emergence using the perspective of dynamic capabilities, and special attention is paid to the role of knowledge and learning (cf. Mo¨ller & Svahn (2002, 2003) for a discussion of dynamic capabilities and learning in a network context).

Early Emergence: Exploration for Future Business Options It is usually firms that are carrying out their existing businesses through well-established networks that make up the early emergence landscape. Most of the actors and strategic nets are also engaged in incremental, local development activity aimed at improvement of their products and business processes. These activities take place under traditional technological paradigms. On the other hand, actors that are sowing the seeds of change also populate this landscape. The seeds are created by research activities in universities and public research centers, in the research units of corporations, and by small innovative science- and technology-driven firms.

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This mixture of old and new, stability and change forms a complex system of partly transparent and non-transparent sub networks exemplified by the combination of traditional food production networks and the emergence of biotechnology, and by the landscape of ICT convergence. We suggest that the tasks of sense making and focus identification are essential in this phase, and now discuss these from the perspective of a large incumbent firm. ‘‘Sense making’’ refers to an actor’s capability to perceive and interpret the emerging business landscape (Weick, 1995). This is a demanding task because of the tacit and dispersed nature of new ideas. Ideas refer to beliefs about how emerging knowledge can be utilized. They are often fuzzy, and there is ambiguity about the possible cause-and-effect relationships between existing and emergent knowledge. Vague ideas may not yet present a heuristic picture of how to pursue them. Ideas may also be held uncertainly – the holder cannot articulate either the roots of the idea or its logic, but feels that it captures something important about the emerging reality. Scharmer (2000) discusses this kind of knowledge and views it as ‘‘not-yet-embodied’’ tacit knowledge, based simultaneously on the inner experience and interpretation of the actor concerned, and on the perceived ‘‘outer’’ reality. It is a reflection of, or an idea about, ‘‘not-yet-enacted reality’’. The wide dispersion of ideas and technological knowledge is another characteristic of early emergence. Actors exploring new technologies and advancing novel business ideas generally come from several different fields (Ha˚kansson & Waluszewski, 2002; Lundgren, 1995). The creation of new mobile Internet-based banking services, for example, involves expertise in Internet-related software solutions, Internet-related wired technology, mobile terminals, mobility software, radio technology, secure-over-net payment technology, financial services, and database management. Each actor has a specific view of the emerging opportunities, which is based on his own specialization and technology base and a position in the emerging network. This cognitive representation of the network forms the actor’s network theory (Johanson & Mattsson, 1992) that guides his behavior in the network and also influences his on-going sense making (Spender, 1989). As specialization, especially when driven by the search for higher efficiency, leads to a narrow outlook, actors have difficulties in developing a wide or systematic perspective on emergence and its opportunities. On the other hand, by increasing the variety of knowledge within a macro network, this tendency supports the likelihood of the creation of radically new knowledge (Nelson & Winter, 1982; Zollo & Winter, 2002). This reflects the relevance of recognizing the influence of the characteristics of the network(s) in which the firm is embedded in to both the

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Fig. 3.

Three Types of Networks (Barabasi, 2002).

new-knowledge-creation and sense-making processes. This situation is highlighted using the diagrams of centralized, decentralized, and distributed networks shown in Fig. 3 (Barabasi, 2002, p. 145). A centralized network contains relatively little variety: its members are united under a single technology–business mode that is best understood by the hub with its knowledge of the network architecture. Mutual learning between specialist members, which could lead to new ideas is greatly restricted by the centralized architecture. A decentralized network consists of several sub-networks, some of which can be strategic nets, linked by ties between the central actors in each subnetwork. This type of network contains much more heterogeneous resources and capabilities, which – when connected through communication and joint learning – can lead to radically novel ideas and knowledge creation. The actors’ sense-making and learning opportunities obviously depend on their location. Most of the actors are only connected to the central firm in their subnetwork, while the best-connected hub has access to all the other central actors. All the second-order hubs are, however, connected via second-order ties, which thus form weak but important links for the exchange of ideas. The distributed network form, which probably does not describe any real business network, represents a landscape with multiple relatively equal actors, most of them well connected via direct and indirect relationships. This structure – which has some similarity to large groupings of science- and technology-driven small firms – exhibits great variety and its high degree of connectivity could make it a ‘‘hot spot’’ for innovative knowledge creation. For a more detailed discussion on change in networks, see Halinen, Salmi,

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and Havila (1999), Ha˚kansson and Lundgren (1995), Ha˚kansson and Waluszewski (2002). Faced with this kind of complex network landscape, how should a company wanting to be at the forefront of capitalizing opportunities offered by various emerging technologies behave? In other words, is it possible to create learning and ‘‘knowledge-management’’ solutions that match the ambiguous and uncertain character of emerging business networks? Two key issues are involved here: how to recognize widely dispersed and vague ideas in the first place, and then how to make sense of them. One aspect is exposure, or access to ideas and stimuli. It appears that actors located in nodes which connect multiple actors and create different types of new knowledge have a better chance of recognizing emerging technological and business opportunities than actors who are highly specialized (Ha˚kansson, Havila, & Pedersen, 1999; Kogut, 2000; Powell et al., 1996). Since they are involved in several interlinked but different strategic nets, major corporations have increased exposure to ideas emerging from other actors. Furthermore, Granovetter’s (1973) and Uzzi’s (1997) findings suggest that weak ties with many actors form an important source of information about ideas that originate outside an actor’s more-immediate network environment. Utilization of this ‘‘exposure potential’’ is not, however, without its problems. There must be motivation for transition from on-going routines, which exploit a firm’s current knowledge base to activities involving exploration and discovery. Many authors observe that this transition is not an automatic one, but a result of major internal or external shocks that lead to the questioning of current practices and to critical self-evaluation of an existing worldview (e.g. Cyert & March, 1992; Fiol & Lyles, 1985; Holmqvist, 2003; March, Schulz, & Zhou, 2000). In a sense, it is a question of whether an organization can pursue exploitation and exploration simultaneously (March, 1991). This is not easy as these behaviors are based on different learning modes. In ‘‘adaptive’’ learning, actors utilize their existing cognitive framework or recipe for the business and other network actors. ‘‘Generative’’ learning presumes that the actor is able to subject the framework to critical examination and not only create radically new knowledge but also reconstruct the business recipe (Argyris, 1977; Argyris & Scho¨n, 1978; Senge, 1990; Slater & Narver, 1995; Spender, 1989, 1996). In this sense, the actor’s learning culture plays an important role in shaping sensemaking capability. Organizations are becoming sensitive to this ‘‘exploitation trap’’. Several multinational corporations have established formal knowledge-management functions and empowered boundary personnel to scout for even weak

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signals of new emerging technological breakthroughs and business opportunities (Baghai, Coley, & White, 1999; Doz, Santos, & Williamson, 2001; Normann, 2001; Ramirez & Wallin, 2000; Seufert et al., 1999). In brief, the sense-making capability entails, besides being open to new information and knowledge, a capacity to learn, or an absorptive capacity, as Cohen and Levinthal (1990) called it, which depends on the knowledge base of an organization, the learning skills of its boundary-spanning personnel and their motivation for discovery-type search behavior (all of which are dependent on the learning goals and learning orientation of the actor); and whether it has been able to create an organization which enables knowledge transfer and creation (Zahra & George, 2002; Zollo & Winter, 2002). We suggest that actors who hold relevant positions in several networks or nets can be expected to have better absorptive capacity, since they must have developed learning and communication capabilities in order to make sense of, and exploit, the different types of knowledge possessed by their network partners. In sum, network positions offering extensive exposure and proactive scouting combined with a strong sense-making capacity provide an actor with a pool of ideas about emergence. The next question is whether some or one of these ideas can be prioritized and developed further.

Focusing and Selecting Many organizations collect vast amounts of information and even transform part of it into knowledge and ideas without being able to turn this ‘‘experience accumulation’’ (Zollo & Winter, 2002) into any radical breakthroughs. A critical threshold is the capability to select and thus provide focus for further development activities. Zollo and Winter (2002) include both evaluation and legitimization processes in this capability; in learning theory, it is considered to be part of the assimilation process of a firm’s absorptive capacity (Zahra & George, 2002). Even with established assessment routines, the activity of selection can be a very difficult one as many ideas are in embryonic form and at too early a stage to allow evaluation of their future potential. To circumvent or postpone this selection problem, proactive incumbent corporations are deliberately exploring the potential of several emerging technologies by acquiring tens or even hundreds of small technology companies. This is a very costly but effective way of increasing the variety and richness of one’s learning environment and to attempting to ensure that one is not locking-in too early. Similar results can sometimes be achieved by having an extensive alliance net, including a pool of R&D

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projects involving interesting SMEs (Blomqvist, 2002; Dyer & Singh, 2000; Kale, Dyer, & Singh, 2002). Several network-related aspects influence both an actor’s selection situation and their selection capability. First, if an emerging idea has a high level of embeddedness and its realization is related to several different technologies and business networks (see Fig. 1), the difficulty of evaluation is increased. Second, being involved in different networks and their development projects enhances an actor’s evaluation and selection capability by providing access to different learning experiences and perspectives. In today’s decentralized corporations (which are themselves networks) these experiences are, however, often dispersed within several companies and business units where local boundary spanners have the best opportunities to observe and participate in the creation of new knowledge and value-activities. The essential problem in the corporate context is how to collect, evaluate, and potentially integrate these fragmented ideas and partial visions. Integration presumes, in addition to the possession of a good information system, the use of not only cross-functional but also cross-business-unit teams and the existence of an open corporate culture that is conducive to exploration. Even extensive resources do not guarantee this sense-making and selection capability, something that is illustrated by IBM’s failure to anticipate the breakthrough of personal computers and the changing role of the operating system owned by Microsoft in the computer industry’s value system (Fine, 1998). This phenomenon can be explained by von Krogh and Grand’s (2000) propositions on the justification of new knowledge/ideas in a corporate context, i.e. if new interpretations, made locally in a corporation, or proposed by other net members, are contradictory to the corporation’s dominant logic, they will not be accepted or acted upon. This finding emphasizes the crucial role played by corporate culture in fostering generative learning and legitimizing risk taking. We conclude discussion of the challenges, tasks, and capabilities involved in the exploration phase of radical emergence with a brief synthesis. First, a position in multiple different business networks and having many weak links provides a company with extensive exposure to new ideas and emerging knowledge. Second, experiential learning achieved through multiple network positions and several partner relationships with different perspectives enhances a firm’s sense-making capability. This is manifested in its absorptive or learning capacity, and includes the abilities to focus, assess, and select. A core internal driver of these dynamic capabilities is an organizational culture, which creates and maintains a generative learning orientation, encouraging both experimentation and risk taking. We contend that mutually, these

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positional advantages, cultural values, and capabilities lead to a framing capability. This is the cognitive capacity to form a holistic or architectural understanding of emergence, and also involves the mental flexibility to reframe as and when the need arises. Framing capability is the secret behind visioning, i.e. sensing future potential before most of the other actors, a truly complex capability which is difficult to create as the IBM example shows.

Mid Emergence: Mobilization for Designs and Applications The core issue in the mid-emergence phase is how to turn a strong vision manifested in an articulated technological or business concept into a realized business or technology. The exact nature of this phase depends a great deal on whether there is more than one actor sharing similar concepts. We assume a competitive situation, i.e. one which concerns the influencing and mobilization of actors who command attractive current resources and capabilities, as well as the co-creation with specific actors of new resources and capabilities that the initiating firm is not able to handle. The final goal is to develop and commercialize an application or design that becomes dominant in the emerging industrial system. This mobilization demands several interlinked networking capabilities. Actors who will have important roles in the emerging network must first be identified. Second, these actors must then be convinced of the viability and earning potential offered by the new value system, and finally, an architecture and organization for network collaboration must be created. This is the phase where a balanced appreciation of both the creation of new knowledge and its exploitation is required, and where the emerging value-system architecture takes shape and influences the roles, functions, and learning potential of the major actors included in it. In this respect, it concerns both value creation and value appropriation. In emerging value systems, actors face great uncertainty in connection with the relative value of embryonic new knowledge. There is also ambiguity about which actors master what kinds of knowledge and value activities. In this setting, framing capability allows the development of a systematic view of the emerging field and the envisioning of its architectural development with different types of actors, with their roles and business models representing critical capabilities as they enable the core actor to reduce perceived uncertainty and provide direction for taking action. Visioning is, however, not enough, since mobilization of an emerging business network requires the possession of a strong position in the field providing both credibility and resources.

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An impending hub firm should have specific resources and knowledge that make it an attractive mobilizer for potential partners and the field in general, including the institutional actors who establish rules for the emerging business. A mobilizer should be able to develop and communicate an agenda for influencing the field in a preferred direction. Agenda setting involves communicating one’s beliefs and visions and providing direction by sharing one’s technological knowledge and suggesting potential business models for various actors in the emerging value system. A prominent position in the current network or networks and a strong reputation for technological and business leadership enhances credibility in agenda setting. Recent evidence from the flat-panel-display industry suggests that firms sharing their technological knowledge in the pre-commercial phase of emergence were not only able to influence the institutional environment in favor of their technological solution, but that higher performance in terms of innovation was also achieved (Spencer, 2003). In addition to influencing an emerging larger-business network to adopt its technological solution and to hasten potential lock-in, a mobilizer must simultaneously create a specific strategic net responsible for producing and marketing commercial applications of the technology. Once again, the stronger an actor’s resources and the more credible its technology and business vision, the easier it is to attract and select strong partners to participate in a strategic net that covers the new value system from customer care to component and service supply. In this early phase, still dominated by the technological development of applications and production processes, the emphasis is on sharing technical knowledge and the joint creation of working solutions. This demands, in addition to a clear and systematic view of the value-activity architecture (Parolini, 1999), the ability to create a collaboration system for the sharing and co-creation of knowledge and capabilities with other net actors who represent different communities of practice, each of whom has their own knowledge articulations and working cultures embedded in people and routines. The core capability is to bridge different communities of practice. Bridging is essential when creating new specialist knowledge which results in product and process improvements, etc. (Dyer & Nobeoka, 2000), and requires the ability to cross the professional language and cultural barriers embraced by, for instance, experts in product and process technologies, software developers, and marketing and business managers (Blomqvist, 2002; Dougherty, 1992; Happonen, 2001). Being able to understand specialist knowledge domains requires a sphere of jointly held knowledge that provides the people representing different communities of practice with a base they can exploit

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to initiate the mutual learning and combining of their specialist knowledge constructs (Nonaka & Takeuchi, 1995). In sum, net mobilization requires an organization-wide network-player orientation, with key personnel sharing and supporting the achievement of joint goals. The mobilizer must be able to create an organizational forum for sharing the work and responsibilities between actors, to establish coordination mechanisms for net cooperation, and to instill a network identity (Dyer & Nobeoka, 2000; Gadde & Ha˚kansson, 2001). As most joint development work is carried out through multi-actor/-functional teams, team management and bridging capabilities are at the heart of the process. The role played by boundary personnel is crucial in this process. Their knowledge base and their understanding of the cultures involved should enable them to bridge at least two communities of practice. In brief, net mobilization capability requires the ability to organize multi-level and -functional contacts and teams in general, involves several actors and must be supported by an integrated information system. This ‘‘macrocultural’’ aspect remains quite unexplored (Jones, Hesterly, & Borgatti, 1997). The previous discussion focused on value creation and mobilization in a new strategic net. A different aspect, but an equally important one, is the appropriation of value. The mobilizer should carefully attempt to assess both the future value-creation potential of the key value tasks in the new net and their ownership. In doing this, a RBV provides some suggestions. An actor that commands resources through which it can carry out activities that are valuable, rare, inimitable, and non-substitutable (i.e. the so-called Valuable, Rare, Inimitable, Non-tradable (VRIN) attributes; Eisenhardt & Martin, 2000; Wernerfelt, 1984) has a very strong power position in a strategic net and can often appropriate the largest share of the revenue that is created by that net. Valuability itself is determined by the relative importance of the task to the final offering made by the net. Utilizing its architectural knowledge, the mobilizer should attempt to forecast or to ascertain that it commands the key value activities in the emerging business field. This is not easy, as illustrated by IBM’s surrendering one of the strongest positions in the PC field to Microsoft, its originally much-smaller partner.

From Emergence to Market Competition: Mobilization for Dissemination The last phase in our emergence framework represents the transition to market competition from a situation of pre-market competition with an

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emphasis on exploration, sense making and the creation of new solutions. This phase is characterized by competition between the strategic coalitions that have emerged or nets formed for market creation and gaining market share. It involves time-to-market competition, emphasizing speed, and – in the case of rapid growth in demand as in the mobile phone sector in the late 1990s – escalating production and distribution. As these types of networks and nets, especially supplier nets, have already been the subject of considerable research (see the discussion in Mo¨ller & Svahn, 2003; Mo¨ller, Rajala, & Svahn, 2002) only a limited discussion is offered here. In the application and process development phase, the core task is to create a winning application design through both technological cooperation and influencing the emerging business and institutional network via agendasetting practices. In the dissemination phase, the emphasis is on the creation of a highly efficient demand–supply value system by exploiting the specialist capabilities of a variety of component and service suppliers and distribution channel members. Since the emphasis has so far been on co-development activities and culture development, but assembly and distribution activities require capacity and efficiency derived from strong coordination capabilities, this may require reorganization of the strategic net. The net-management capability in this kind of primarily vertical value net is manifested in the information and management systems that combine the business processes of each actor and monitor the efficiency of production, logistics, customer delivery, and service. It is essentially a coordinating capability requiring knowledge of the architecture of the value system, which constitutes the complete business process represented by the net. In an advanced case, this would lead to the coordinated management of a complete value system ranging from customer care to component production, and would require that tools from Supply Chain Management, Enterprise Resource Planning, and Customer Relationship Management be combined (see, for example, Means & Schneider, 2000; Lambert & Cooper, 2000). This shift requires that roles be determined in a very careful manner and that they are supported by a set of matching contractual arrangements. Other core issues are the reexamination of potential shifts in value appropriation and attempts to influence the value architecture of the net so that it remains competitive without the hub firm losing its dominant position. In terms of knowledge and learning, the mobilization and management of vertical, efficiency-seeking strategic nets emphasize the capability of exploiting current actor capabilities through effective knowledge transformation and sharing (Boisot, 1998; Dyer & Nobeoka, 2000; Levinthal & March, 1993; March, 1991; Mo¨ller & Svahn, 2002). Knowledge codification (see

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Zollo & Winter, 2002) is considered to be an essential part of this process, forming a prerequisite for the coordination of business processes and logistics among key members of the net. The picture presented in the above is, however, too simple. In many emergent fields, technological development continues strongly even after first-generation solutions have been created, as exemplified by the competition between technological solutions such as UMTS, CDMA, PDC in third-generation mobile handsets. On occasions, there is also competition between different technological paradigms, as illustrated by Microsoft’s attempts to move into mobile technology and business applications and by countermoves from the mobile business community through initiatives such as the Bluetooth and Symbian coalitions. This kind of transition context requires the strong network-level mobilization capability discussed in the previous section. Nokia Corporation’s announcement at the Comdex fair in Las Vegas on November 12, 2001 that it would provide open access to some of its mobiletelephony source code is an example of agenda setting resulting in wide network mobilization. The announcement was only made place following after the careful mobilization of an alliance of 18 key players in the mobilephone field who endorsed their commitment to ‘‘open mobile architecture enabling a non-fragmented global services market’’(press release, http:// www.symbian.com/pressoffice). This agenda-setting move led to the establishment of the Open Mobile Alliance (OMA, June 2002, http://www. openmobilealliance.org), which aimed at the more-rapid development of the global market for 3G mobile services, such as multimedia messaging through Internet applications. The goal of OMA members (approximately 300 companies in November 2002) is to ensure their end-customers of complete interoperability between systems: this is expected to benefit all players through more rapid growth in both demand and available applications. OMA is an example of successful network mobilization, which also aims to stall Microsoft’s efforts to take a stronger role in the mobility network. It is a case, which shows the value of being able to influence or ‘‘orchestrate’’ a whole emerging sector. For an example from the agrochemical sector, see Hinterhuber (2002). In sum, the transition period which concludes emergence requires that the mobilizer is able to shift the emphasis from R&D to the creation of an efficient dissemination net, or in more managerial terms, a ‘‘production and distribution machine’’. As our mobile telephony community example suggests, mobilizers must, however, simultaneously maintain their R&D capability and be prepared to orchestrate even the larger new business sector.

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DISCUSSION This chapter contains several theoretical contributions. First, it increases our current understanding of the emergence of new business sectors by proposing a framework for describing the environment of emergent business networks. This is achieved by linking the theory of technological cycles (Tushman & Anderson, 1990) to the three phases of network emergence articulated by Lundgren (1995): we therefore synthesize the core propositions from two different research fields. Second, we offer detailed descriptions of the sub-processes, which constitute each of the proposed phases (exploration for future business options, mobilization for applications, mobilization for dissemination). In doing this, we show how the characteristics of a network environment influence the behavior of the actors, and vice versa, how actor behavior characterizes the emerging network. This interactive construction process has not been examined in such detail in the extant literature. Finally, using the perspectives of dynamic capabilities, organizational-learning theory, and an industrial-network approach, we identify the core company-level tasks in each phase of emergence and suggest the type of dynamic organizational capabilities, which will allow these to be addressed with the emphasis on network management capabilities. As noted in the introduction to this chapter, Eisenhardt and Martin (2000) argue that the RBV breaks down in a high-velocity context because the competitive advantage gained by a current resource pool becomes unpredictable, and dynamic capabilities are themselves unstable. Based on our analysis we are more hesitant about imposing a clear boundary condition. Although many dynamic capabilities lose part of their relevance, there are signs that firms that have both strong learning and network capabilities are able to learn more quickly and from a larger pool of experience and competence than is available from the strategic nets and partnerships in which they are involved. This means they are able not only to survive change, but also to create it and even influence new path dependence via network orchestration. In other words, we argue that both learning and network capabilities differentiate firms and nets in their ability to manage and utilize change. What does our analysis suggest about the ‘‘managing networks’’ dilemma? First, that generic management systems and capabilities for operating and surviving in an emerging network environment do not exist. Our phase analysis suggests that the capabilities required are highly dependent on the specific context, and that the creation of capabilities is highly conditioned by the network positioning of each actor. It appears that deliberation,

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serendipity, and collective interaction, i.e. creating spontaneous emergence, are all important factors in shaping the emergence of business networks. In spite of this complexity, it is also evident that in an emergent situation, an individual actor who masters the types of network capability we have identified can strongly influence not only its own destiny, but also the emergence process.

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THE RELATION BETWEEN FIRMS’ STRATEGIC ORIENTATION AND CAPABILITIES: WHAT DO THEIR STRATEGIC MARKETING PLANS TELL US? Paul Ingenbleek, Ruud T. Frambach and Theo M. M. Verhallen ABSTRACT This chapter analyzes a unique data set of over 200 strategic marketing plans to examine firms’ competences (with emphasis on identifying key capabilities and assets), their perceived opportunities and threats, and recent strategic choices. These factors are also appraised to determine firms’ respective strategic orientations. Results of this exercise suggest that a firm’s strategic orientation clearly affects the type of competences and contributing capabilities and assets that a firm obtains, creates, and/ or develops. We observed that the majority of firms in our sample had largely internal strategic orientations, and that there were nearly virtually no truly market-oriented firms in our rather large sample. The strong competences that we observed were typically those involving capabilities developed through learning-curve effects (experience), such as production

Research in Competence-Based Management, Volume 1, 99–119 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01005-4

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and quality management. Relatively weaker competences were more likely to be based in market-related activities, like marketing and sales. We also observed that, if challenged competitively, the firms in our sample with weak competences were more likely to opt for a strategic retreat from their markets, rather than to fight to defend their market positions.

INTRODUCTION Consider Virgin Atlantic Airways (VAA). Their competence in providing innovative and entertaining air transportation of high quality while maintaining tight cost control gives VAA the opportunity to obtain competitive advantages in a saturated and highly competitive market (Virgin, 1995). Their strong strategic orientation1 toward customers helped VAA to overcome service problems in the start-up phase. After the market introduction stage, VAA’s strategic orientation shifted more inwards and focused on building new competences based on capabilities like providing high quality passenger services. By contrast, the continental European division of Virgin Airways’ business, Virgin Express, operates short-haul routes within Europe from its Brussels hub. Virgin Express’ different strategic orientation required it to build a different kind of competence based on providing lowcost, no frills air transportation for passengers who are satisfied with cheap, safe, reliable air transportation. Accordingly, competences built at Virgin Express are based on both tight process and financial controls. Passenger service operations at Virgin Express are efficient and plain, unlike the emphasis in VAA’s operations on providing an entertaining flight experience. The example illustrates how firms with different strategic orientations, seeking different sources of competitive advantage in their markets, seek different types of resources and try to develop different kinds of capabilities in building their own distinctive competences. Although research on the resource- and competence-based views of the firm has provided us with much insight into the role and effect of firms’ competences in competition, our understanding of the type of resources and capabilities that seem to underlie the competitive positions of organizations with different types of strategic orientations is still limited. Proponents of the competence-based view suggest that the relationship between resources and strategy is a key feature of competence-based theory (Hunt & Lambe, 2001; Lewis & Gregory, 1996; Sanchez & Heene, 1996, 2004). A competence-based view complements and extends a resource-based view, because it explains how firms develop strategies by exploiting resources, recognizing not only the

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idiosyncratic nature of resources, but also the ways in which resources are coordinated and deployed in the activities that utilize them (Rumelt, 1984; Sanchez, Heene, & Thomas, 1996). The relationships between firms’ resources, capabilities, competences, and strategies are therefore key in the competence-based view of the firm. In managerial practice, the relationship between competences and strategic choices is already implicitly present in Strengths, Weaknesses, Opportunities, Threats (SWOT) analysis, a concept commonly used in formal strategic planning. SWOT analysis assesses a firm’s major strengths and weaknesses with respect to perceived threats and opportunities in its business environment. The term distinctive competence was used by Andrews (1971) in the context of SWOT analysis to refer to a firm’s major strengths – ‘‘what an organization could do particularly well, relative to its competitors’’ (Hunt & Lambe, 2001, p. 22). In this chapter, we report the results of our study of SWOT analyses obtained from 208 Dutch firms – an unusual set of data that enabled us to identify the firm’s implicit or explicit strategic marketing plans and thereby provided us with a unique look into the ‘‘kitchens’’ of a large sample of firms. We applied inductive research methods to explore three issues of interest. First, what role do current competences play in a firm’s SWOT analyses? Second, to what extent do firms with different strategic orientations – as evidenced by their strategic marketing plans – also tend to develop different kinds of competences? Third, how does a firm’s current strategic orientation and competences influence its perception of opportunities and threats and its subsequent strategic choices? Before we address these issues, we briefly discuss the concepts that underlie our study and describe the methodology that we used. We conclude this chapter with a discussion of our findings and their implications.

A COMPETENCE-BASED PERSPECTIVE ON STRATEGIC MARKETING PLANS Strengths and Weaknesses Strengths and weaknesses identified in a strategic marketing plan indicate what capabilities an organization believes it has relative to competitors (i.e., what it can or cannot do particularly well compared to competitors) and what resources it has or lacks compared to competitors. Thus, strengths and

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weaknesses identified in SWOT analyses may encompass a broad range of types of capabilities and resources. Following the terminology of Sanchez et al. (1996), resources are assets that are available in detecting and responding to market opportunities and threats. Assets are anything tangible or intangible the firm can use in its processes for creating, producing, and/or offering its products and services to a market. Capabilities are repeatable patterns of action in the use of resources. Because capabilities coordinate and operate on other kinds of resources, they are considered a special kind of resource, and it is therefore common in the competence perspective to recognize both capabilities and (other kinds of) resources in any analysis. Competence is the ability of an organization to sustain coordinated deployment of assets in a way that helps it achieve its goals, including marketing goals. All assessments of strengths and weaknesses to be found in strategic marketing plans are therefore rooted in assessments of a firm’s specific capabilities and resources (both of which are considered assets) within its overall competence. Carrying out strategic marketing plans that exploit strengths and overcome weaknesses require using and improving a firm’s capabilities and resources in processes for creating, producing, and/or offering products and services to a market (Sanchez et al., 1996). Distribution provides a good illustration of how an important firm’s strength or weakness depends on its capabilities and resources. Distribution involves the use of knowledge (an intangible resource) in the deployment of tangible resources like trucks and depots to deliver goods to customers. Distribution may be a strength if a firm can use these resources in ways that enable it to deliver goods faster, to better locations, and more securely than its competitors. Since a firm’s distribution system uses both tangible and intangible resources in repeatable patterns of action, distribution is a capability within a firm’s overall competence. Other capabilities that are typically important in a firm’s overall competences include marketing, R&D, production, and cost management. Specific resources that managers may include in their analysis of strengths and weaknesses include market positions, brand names, and financial resources. Thus, in an analysis of strengths and weaknesses, we can distinguish between strengths and weaknesses in specific kinds of capabilities and resources that contribute to a firm’s competences.

Opportunities and Threats The opportunities and threats identified in strategic marketing plans are likely to be directly related to the perceived strengths and weaknesses of a

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firm’s marketing capabilities and resources. Moreover, in a firm’s strategic marketing plans, managers are likely to recognize and analyze most closely those environmental changes that affect their firm’s unique set of capabilities and resources. Environmental changes that may erode the firm’s ability to successfully deploy its assets will be seen as threats, and those changes that provide chances to deploy its assets in new ways that may lead to greater market success will be seen as opportunities. Strategic Choices Comparing a firm’s perceived strengths and weaknesses with perceived opportunities and threats through a SWOT analysis helps a firm identify strategic issues that are likely to drive its strategy formulation. Major choices to be made in formulating a strategy include the ways in which an organization will compete, whether it will try to grow, and if so, how it will try to grow. According to Porter (1980), for example, a competitive strategy may be based on differentiation or cost leadership. In a cost leadership strategy, a firm will follow a strategy of delivering the lowest costs to its customers, while in a differentiation strategy, a firm will try to deliver the highest perceived value to its customers. To this categorization we can add a category of what we call mixed flexibility – the ability to deliver either lowest cost or highest perceived value, depending on the customer’s preference. An organization must also choose whether it will retreat from a market, defend its current market position, or try to grow its market share. Ansoff (1984) further distinguishes four forms of market growth strategies: (1) growth through existing products in currently served markets (market penetration); (2) growth through new products in currently served markets (new product development); (3) growth through existing products in new markets (market development); or (4) growth through new products in new markets (diversification). With respect to a firm’s choices about how to achieve its market goals, Johnson and Scholes (1997) distinguish three development strategies: (1) growth based on the organization’s own resources (internal development); (2) growth through takeovers (acquisition); and (3) growth by collaborating with one or more other organizations (joint development). Strategic Orientation Given the behavioral emphasis in Gatignon and Xuereb’s (1997) concept of strategic orientation, which we adopt in this discussion (see footnote 1), a

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firm’s strategic orientation may not be formally defined in a strategic marketing plan, but rather must often be inferred from it. However, a firm’s strategic orientation is likely to heavily influence its identification of strengths/weaknesses and opportunities/threats included in its strategic marketing plan, and thus to provide rich ground for inferential identification. Strategic orientation is likely largely to determine, for example, the directions in which a firm scans its external environment for opportunities and threats, as well as what the firm tries to learn internally over time and the type of competences it seeks to develop. A firm’s overall strategic orientation includes a number of possible orientations toward various aspects of a firm’s competences. For example, an orientation of particular interest in this study is a firm’s market orientation – defined by Hunt and Morgan (1995) as a firm’s external orientation toward customers and competitors. Another potentially important component of a strategic orientation may include a strong focus on internal processes – i.e., a focus on internal efficiency, procedures, and task division (Verhallen, Frambach, & Prabhu, 1998). Doyle and Hooley (1992) have also distinguished a financial orientation to long-term growth in market share versus short-run improvements in financial performance. Gatignon and Xuereb (1997) introduce a fourth dimension of technological orientation in which a firm may be strongly oriented toward its R&D activities, new product development activities, and technological changes in its environment. Finally, we add a fifth dimension in the form of a human resources orientation – i.e., an orientation that includes maintaining a pleasant working climate and good interpersonal relations. According to Lewandowski and MacKinnon (1992), for example, an important contributor to the overall success of the Saturn division of General Motors Corporation is its strong human resources orientation and resulting working climate. The overall strategic orientation of an organization is likely to include significant representation of more than one of these orientations. In our study, we therefore addressed this possibility by categorizing firms according to their primary and one or more secondary orientations.

THE STUDY Data Collection and Sample We randomly selected from a larger database 209 strategic marketing plans of Dutch organizations that were written by (marketing) executives as part

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of a centralized examination of accredited executive courses offered throughout the country. Plans are written for the executive’s own organization and are intended to be implemented subsequently. Thus the plans were subject to certain quality standards. The plans have comparable formats since they are all based on the format presented in the textbook used in the course. They were written on the level of either the entire organization or a strategic business unit; the time frame related to the second half of the 1990s. One of the plans was later removed from the sample as it contained insufficient information to categorize the strategic orientation of the organization. Thus, 208 usable plans remained for analysis. In comparison to the population of Dutch organizations (as registered by the Chambers of Commerce and Industries), industrial, building, and installation firms are over-represented in our sample, and banking and insurance firms, businessto-business services, trading firms, hotels, catering firms, and repair companies are under-represented. Also large- and medium-sized companies are over-represented in the sample. These statistics might suggest that the under-represented categories may be less likely to carry out strategic marketing management activities. This may especially be true for small companies from the trading, repair, and hotel and catering industries.

Content Analysis The strategic marketing plans were content-analyzed by two researchers. We constructed and used coding schemes for each of the different stages of the strategic marketing planning process. For example, we identified all potential strengths and weaknesses that were mentioned in the internal analyses of the plans, combined similar items, and grouped them into different categories. These categories were used as coding schemes in the analysis of the plans. In so doing, we kept as close as possible to the original text of each strategic marketing plan, preserving as much of the data as possible for inductive interpretation. In using this approach, we acknowledge a potential bias inherent in using strategic marketing plans, as opposed to some other kind of functional plans, in characterizing the firms in the study. However, considering the importance of capabilities and resources creating, producing, and offering products and services to the market in a firm’s overall competence (Sanchez et al., 1996; Sanchez & Heene, 2004), strategic marketing plans seem to be highly relevant as well as valuable sources of information about firms.

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In order to assess and check the reliability of our analysis, the contents of 100 out of the 209 available plans were analyzed and encoded by both researchers. Comparison of the double coded results showed reliabilities between 80 and 100%, which was considered satisfactory. Differences were solved in mutual discussion between the researchers. The variables of interest to this study included: (1) firm capabilities and resources, which were identified based on the internal analyses of the plans; (2) perceptions of firm environment, which were obtained in the external analyses; (3) strategic choices, which were explicitly mentioned in the plans; and (4) strategic orientation, which was inferred from the plan as a whole. Most variables were coded as categorical variables. With respect to categorization for strategic orientation, a potential limitation is that firms’ strategic orientations may not be neatly one-dimensional. For this reason, we also noted a secondary strategic orientation for those firms for which a second orientation could be inferred. We also included variables on market share, company size, and industry.

FINDINGS Before we discuss our research questions in order, we first present the general findings on the strategic orientations in our sample.

Strategic Orientations Table 1 presents the results on the different strategic orientations that firms pursue according to our sample. The large number of firms that have an internally directed strategic orientation is quite noticeable. More than onethird of the firms in our study were found to have a predominantly financial Table 1.

Strategic Orientations.

Strategic Orientation (Primary) 1 2 3 4 5 6

Financial orientation Internal processes orientation Technological orientation Competitor orientation Customer orientation Human resources orientation

Frequency

Percent

70 48 38 33 19 0

34 23 18 16 9 0

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orientation. This is followed in prevalence by an internal-process and technology orientation, respectively. The number of organizations that can be categorized as market-oriented toward competitors and, especially, customers is surprisingly low. No firm within the sample could be categorized as primarily having a human resources orientation; this orientation appears only as a secondary orientation, which might suggest that it is more supportive to other orientations. The number of customer-oriented companies is surprisingly low, while only one market-oriented company (i.e., exhibiting both a customer- and a competitor-orientation) was observed. This number is much lower than generally found in research on customer and market orientation of firms (see, for instance, Alsem & Hoekstra, 1994). This difference from prior studies might be explained by the fact that we used a different method to analyze a firm’s orientation. Market orientation is generally measured with self-reporting data, a method that is vulnerable to social response patterns. In other words, managers might give high scores for market orientation in a questionnaire, but if we look at in-company documents, we may find that they actually follow different orientations. The range of industries and company sizes is broad within all strategic orientations. An exception may be the customer- and competitor-oriented companies in our sample, which are generally either large (more than 100 employees) or small (less than 50 employees). A relatively large proportion of the companies in services, catering, and retailing follows a customer- or competitor-orientation, whereas an orientation toward internal processes is most commonly found among production companies with more than 100 employees. Overall, our findings suggest that strategic orientation should not be used as a proxy for an industry.

Strengths and Weaknesses Does the strategic orientation of a firm influence the capabilities and resources it tries to create, develop, or acquire? Table 2 provides an overview of strengths and weaknesses for the different strategic orientations observed. In four strategic orientations, as well as in the total sample, distribution is the saliently strong competence. In the case of more internal-processoriented firms, this probably suggests a capability in supply chain management, while in more externally oriented companies, it may relate more to retail management. Overall, marketing is the most prevalent weak capability, no matter the strategic orientation. Specific capabilities related to

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Table 2.

Strong and Weak Capabilities and Resources in Strategic Orientations.

Strategic Orientation: Elements Strategic Plan

Internal Processes (n ¼ 48)

Technology (n ¼ 38)

Finance (n ¼ 70)

Competitor (n ¼ 33)

Customer (n ¼ 19)

1–20 (42%) 2–16 (33%)

2–13 (34%) 2–13 (34%)

1–26 (37%) 2–20 (29%)

1–11 (33%) 2–9 (27%)

1–11 (58%) 2–8 (42%)

3–13 (27%)

4–9 (24%)

4–15 (21%)

2–9 (27%)

3–6 (32%)

4–12 (25%) 4–12 (25%)

1–19 (50%) 5–8 (21%)

5–14 (20%)

Strengths Capabilities Distribution Quality management Production/ operations R&D Relationships with customers Marketing Flexibility Cost management Other resources Know how/ expertise Financial resources Market position/ share Assortment/ portfolio Corporate image Brand name Competitive position Brand image

5–3 (16%)

3–16 (23%) 5–14 (20%)

4–4 (21%) 2–9 (27%) 2–9 (27%)

1–23 (48%)

3–14 (37%)

4–21 (30%)

3–9 (27%)

2–19 (40%)

1–16 (42%)

1–28 (40%)

2–12 (36%)

3–18 (38%)

2–15 (39%)

2–26 (37%)

1–14 (42%)

3–18 (38%)

4–10 (26%)

3–23 (33%)

3–9 (27%)

5–9 (19%)

2–6 (32%)

2–6 (32%) 1–8 (42%) 4–5 (26%)

5–8 (21%) 5–14 (20%)

5–8 (24%) 4–5 (26%)

Weaknesses Capabilities Marketing Market-driven management Sales Distribution Organizing

1–21 (44%) 2–19 (40%)

1–16 (42%) 4–9 (24%)

1–32 (46%)

1–13 (39%)

1–9 (47%)

3–18 (38%) 4–15 (31%) 5–11 (23%)

2–12 (32%)

2–30 (43%) 3–22 (31%) 5–14 (20%)

3–8 (24%)

2–4 (21%) 2–4 (21%)

3–11 (29%)

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Table 2. (Continued ) Strategic Orientation: Elements Strategic Plan

Internal Processes (n ¼ 48)

Production/ operations Management (in general) Cost management R&D Other resources Assortment/ portfolio Margins/price/ performance Brand name Financial resources Market position/ share Know-how/ expertise Competitive position Personnel

Technology (n ¼ 38)

Finance (n ¼ 70)

4–9 (24%)

Competitor (n ¼ 33)

Customer (n ¼ 19)

2–11 (33%)

2–4 (21%)

4–7 (21%)

2–4 (21%)

4–15 (21%)

5–5 (15%) 1–13 (27%)

2–7 (18%)

1–31 (44%)

1–14 (42%)

4–4 (21%)

1–13 (27%)

2–7 (18%)

3–14 (20%)

2–10 (30%)

2–5 (26%)

3–10 (21%) 4–9 (19%)

2–7 (18%)

4–12 (17%)

2–10 (30%) 2–10 (30%)

5–8 (17%)

1–10 (26%)

2–17 (24%)

2–10 (30%)

1–6 (32%)

5–6 (16%) 5–10 (14%)

4–4 (21%) 2–5 (26%)

Note: Columns display ranking order of top five items by appearance, frequency, and relative frequency, respectively; cumulative frequencies for each orientation may therefore exceed 100%.

marketing, such as sales, are also often considered a weakness in all strategic orientations. Overall it appears that the externally oriented capabilities that typically relate the organization to its markets are considered weak, whereas in all strategic orientations, the most frequently mentioned strong capabilities are those developed through learning-curve experience in an internal environment, like production, operations, and quality management, and to some extent distribution. Table 2 also suggests that the more a firm is externally oriented, the more it may be able to compensate for a generally weak market orientation by building strong internal resource positions. In firms with internal orientations, however, internal resources are more often identified as weaknesses instead of the strengths. In this regard, different

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strategic orientations seem to result in different profiles of assessments of strengths and weaknesses. Companies oriented toward internal processes tend to be more mature firms that compete on the basis of knowledge and other resources they have accumulated over time (including experience and financial resources) and internally oriented capabilities (such as quality management and production/operations). These firms tend to have strong distribution capabilities and perhaps strong influence in their distribution channels, both of which enable them to maintain their external connections to customers. Technology-oriented companies also reflect this capabilities and resources profile to a large extent, with the exception that they are the only category of companies in which R&D is the salient strong competence ahead of distribution. Brand name and market position are also considered stronger resources by these firms than is the case with internal-process-oriented firms, suggesting that technology-oriented firms are to some extent more outerdirected than internal-process-oriented firms. Organizations displaying a financial orientation proved to be a large and diverse group balancing between internal and external orientations. This is reflected in their reported strengths and weaknesses. On the one hand, they reflect weaknesses in capabilities and resources that are characteristic of more internal-oriented companies, while on the other, a large number of financially oriented companies also identify strong market-related capabilities such as marketing and flexibility. This last group of more outer-directed financially oriented firms also frequently displayed a secondary orientation toward competitors. Many competitor-oriented companies were also secondarily financially oriented, suggesting a somewhat porous border between the two groups. As one might expect, competitor-oriented firms, being more externally oriented, report weaknesses in internal capabilities such as production/operations and cost management relatively more frequently. Considering that their marketrelated capabilities like marketing and sales are even more frequently characterized as weak, competitor-oriented companies appear to lean more toward an internal orientation than toward a real market orientation. The finding that competitor-oriented companies lean more frequently toward a financial orientation than toward a full market orientation is consistent with their tendencies toward low market share and weak market positions and portfolios. Finally, customer-oriented companies more frequently consider their market-related competencies to be strong compared to appraisals by firms with other orientations, and they more frequently rate their internal capabilities

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as weaknesses than other firms. They tend to have accumulated relatively more market-related resources than capabilities and to rate their corporate image as their most important resource. Firms in the customer-orientation category therefore had a markedly stronger external orientation than competitor-oriented companies.

Opportunities and Threats What influence do strategic orientation and related capabilities have on the opportunities and threats identified in strategic marketing plans? Our findings to this question are based on the data shown in Table 3. There are no large differences in our sample in how companies with different strategic orientations perceive opportunities in their environments. Major opportunities are significantly perceived by all orientations in both new and currently served markets, and new markets are likely to refer to international markets. In currently served markets, customer-oriented companies more often identify qualitative market changes as an opportunity, while internal-oriented companies seem to perceive quantitative changes as opportunities. However, these differences between the different strategic orientations are relatively small, which may be caused by the rapid economic growth during the period in which the strategic marketing plans were prepared (second half of the 1990s) and a resulting perception across the board of ample growth opportunities of both types in that environment. With respect to threats, competition in all its different forms is considered a major threat by all companies. All forms of competitive forces are found in the strategic marketing plans, with the increasing intensity of competition most frequently identified as the leading threat. Externally oriented companies often felt threatened by changes in the power balances within their distribution channels, which reflects the finding that these companies often believe they compete largely on the basis of their externally oriented capabilities. Competitor-oriented companies were especially concerned that the intensity of competition could erode their margins and net profitability. This concern may be accentuated by the previously noted finding that competitor-oriented companies also generally have weak market positions. Legislation and politics is the only frequently mentioned threat that does not directly relate to market competition, and they are seen as relatively most threatening by technology-oriented companies, perhaps because of the impact of environmental laws and government policies on the acceptance of certain new technologies. Finally, the more mature character of firms with

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Table 3.

Perceptions of the Environment and Strategic Choices by Strategic Orientations.

Strategic Orientation: Elements Strategic Plan Opportunities Market development Increase in demand (quantitative) Increase in demand (qualitative) Differentiation possibilities Market size Change in demand Change in customer behavior Technological development Threats Competition intensity Substitutes/new products Decrease in demand New entrants Legislation/politics Concentration/ power of distribution Margins/ profitability Change in demand Competitive strategy Cost leadership Differentiation Mixed flexibility Growth strategy Retreat Consolidation

Internal Processes (n ¼ 48)

Technology (n ¼ 38)

Finance (n ¼ 70)

Competitor (n ¼ 33)

Customer (n ¼ 19)

1–29 (60%)

1–23 (61%)

1–42 (60%)

1–19 (58%)

1–11 (58%)

2–19 (40%)

2–18 (47%)

2–30 (43%)

2–13 (39%)

2–9 (47%) 3–8 (42%)

3–14 (29%)

5–9 (24%)

4–13 (27%) 5–12 (25%)

4–12 (32%) 3–13 (34%)

3–12 (36%) 5–14 (20%) 3–26 (37%) 4–15 (21%)

5–5 (26%) 4–7 (37%)

4–10 (30%)

5–8 (24%)

1–32 (67%)

1–24 (63%)

1–52 (74%)

1–21 (64%)

2–18 (38%)

5–10 (26%)

2–25 (36%)

2–10 (30%)

3–17 (35%) 4–16 (33%) 5–14 (29%)

1–12 (63%)

3–9 (27%) 2–19 (50%) 3–16 (42%) 4–13 (34%)

3–19 (27%) 5–18 (26%) 3–19 (27%)

3–9 (27%)

2–9 (47%) 3–8 (42%) 4–7 (37%)

3–9 (27%) 5–5 (26%) 2–5 (10%) 1–40 (83%)

2–3 (8%) 1–34 (89%)

2–3 (4%) 1–65 (93%)

2–2 (6%) 1–31 (94%)

3–3 (6%)

2–1 (3%)

3–2 (3%)

3–0 (0%)

2–0 (0%) 1–19 (100%) 2–0 (0%)

4–3 (6%) 3–10 (21%)

5–1 (3%) 4–4 (11%)

5–1 (1%) 3–11 (16%)

5–0 (0%) 3–5 (15%)

6–0 (0%) 4–1 (5%)

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Table 3. (Continued ) Strategic Orientation: Elements Strategic Plan Market penetration Market development Product development Diversification Development strategy Internal Acquisition Joint development

Internal Processes (n ¼ 48)

Technology (n ¼ 38)

Finance (n ¼ 70)

Competitor (n ¼ 33)

Customer (n ¼ 19)

1–31 (65%) 5–2 (4%)

1–23 (61%) 3–6 (16%)

1–46 (66%) 4–5 (7%)

1–23 (70%) 5–0 (0%)

1–13 (68%) 3–2 (11%)

2–16 (33%)

2–11 (29%)

2–24 (34%)

2–15 (45%)

2–7 (37%)

6–1 (2%)

5–1 (3%)

5–1 (1%)

4–1 (3%)

4–1 (5%)

1–41 (85%) 3–1 (2%) 2–8 (17%)

1–32 (84%) 3–1 (3%) 2–9 (24%)

1–56 (80%) 3–1 (1%) 2–14 (20%)

1–26 (79%) 3–0 (0%) 2–7 (21%)

1–16 (84%) 3–1 (5%) 2–3 (16%)

Note: For opportunities and threats, columns display ranking order of item by appearance, frequency, and relative frequency, respectively. For strategic choice variables, frequency and relative frequency of item appearance are shown. Cumulative frequencies for each orientation may therefore exceed 100%.

an internal-process orientation may be reflected in their perceptions of threat of decrease in demand in their markets.

Strategic Choices The number of active product differentiators in our total sample is very large, suggesting that most companies in our sample compete on the basis of creating highest perceived value for customers, not lowest cost. Firms with an internal orientation, however, tended to choose cost leadership and mixed flexibility strategies relatively more often than others. The percentage of differentiation strategies chosen increases as a firm’s orientation becomes more externally directed. Most companies decided to grow by penetrating currently served markets with either existing products or new products. The number of market development strategies (taking existing products into new markets) is low in all orientations, especially considering the high percentage of firms that perceived market development as an opportunity. It is also remarkable that internally oriented firms were more likely to choose a retreat or consolidation strategy than externally oriented companies. This is consistent,

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however, with their mature profiles reported in the discussion of capabilities and other resources. Most companies decide to attain their formulated goals through internal development. The level of acquisition strategies is surprisingly low, especially when we take the strong financial positions of many of the companies into account, especially among those who are financially oriented. The relatively weaker financial positions and greater frequency of perceived threats of low profitability reported by competitor-oriented organizations is consistent with the finding that none of these firms in the sample intended to grow by acquisition. Joint development (with strategic partners) is the most frequent choice of growth strategy by technology-oriented firms, perhaps reflecting the desire to reduce the high cost of technology development by making joint investments.

Capabilities versus Other Kinds of Resources We analyzed our data to develop insights into how important managers generally consider capabilities as compared to other kinds of resources in their strategic marketing plans. In our sample, 49% of firm strengths and 55% of firm weaknesses identified in our analyses of strategic marketing plans pertain to relative capabilities rather than relative resource positions. How does a firm’s strategic orientation affect these findings? In Table 4, the relative contribution of capabilities versus resources to a firm’s competitive position is shown for different strategic orientations. The percentage of capabilities regarded as strengths in the strategic marketing plans is somewhat higher for customer- and competitor-oriented organizations than for firms with stronger internal orientations. The data also show that firms with strong customer and competitor orientations judge fewer capabilities as actual weaknesses in their strategic marketing plans, but that they also tend to have relatively weak market positions, as shown in Table 4 by low average market shares. This may suggest that market-oriented firms with weak market positions may need to assess more carefully their need to improve capabilities in order to improve their market positions. The higher the market share shown in Table 4, the lower the ratio of strong capabilities to strong resources tends to be, and the higher the ratio of weak capabilities compared to weak resources. This suggests that market leaders tend to defend their market positions more on the basis of resource positions than capabilities, while market followers or challengers tend to try to increase their market shares through developing capabilities. Since we did

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Table 4.

Percentages of Capability Ratings Compared to Ratings of other Resources.

Strategic orientation

Strengths Weaknesses Average market share

Internal Processes

Technological

Financial

Competitor

Customer

48% 55% 27%

48% 62% 32%

49% 55% 19%

52% 43% 16%

51% 53% 21%

Market share

Strengths Weaknesses

0–10% (n ¼ 71)

10–30% (n ¼ 53)

30–50% (n ¼ 24)

50–70% (n ¼ 4)

70–100% (n ¼ 16)

49% 51%

48% 53%

45% 59%

39% 84%

40% 66%

not formally measure the degree to which competitive positions are built on capabilities, the evidence in Table 4 only suggests such a relationship, but this suggestion is consistent with our findings in our analysis of strengths and weaknesses.

WHAT DO STRATEGIC MARKETING PLANS TELL US? Based on a content analysis of over 200 strategic marketing plans of firms in various industries, this study explored the relative importance of capabilities to firms with different strategic orientations. More specifically, we set out to answer three questions. First, what roles do capabilities play in SWOT analyses undertaken in developing strategic marketing plans? Second, to what extent do firms with different strategic orientations also develop different capabilities? Third, how do strategic orientation and related capabilities affect the perception of opportunities and threats and influence firms’ strategic choices? The Role of Capabilities in SWOT Analyses What roles do various capabilities and resources play in achieving a competitive position? Both capabilities and resources are frequently mentioned

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in the SWOT analyses studied. Distribution capability was the most frequently mentioned strength and marketing capability the most frequently mentioned weakness in the strategic marketing plans we analyzed. Capabilities that were more frequently judged as strengths were capabilities that can typically be enhanced through internal learning-curve effects like production and quality management, whereas capabilities judged as weak more frequently related to a firm’s markets, like marketing and sales. This distinction is reflected in Day’s (1994) conceptualization of ‘‘inside-out’’ capabilities (relating to a firm’s internal environment) and ‘‘outside-in’’ capabilities (relating to a firm’s external environment).

Strategic Orientation and Strength and Weaknesses The strategic marketing plans we analyzed suggest that firms with a strong internal orientation build their distinctive market positions using resources that they have accumulated and capabilities that they have optimized over time. These are often mature companies with strong market and financial positions and highly optimized production techniques. Companies with a relatively strong external orientation, however, seem to base their competitive advantage more often on outer-directed resources rather than capabilities, but also show many similarities with their internally focused counterparts. Thus, in spite of significant observed differences in strategic orientations of the firms in our sample, we also observed a substantial overlap in the perceived importance of these basic kinds of capabilities and resources among firms with the different strategic orientations represented in our sample. We should note again, however, that our sample of 208 firms included only one firm that we regarded as fully market-oriented (combining both customer- and competitor-orientation). Although this negligible representation of market-oriented firms could be an indication of a sampling bias, it is also possible that adoption of a full market orientation is still quite challenging for firms. This provides some evidence for Hunt and Morgan’s (1995) argument that it is precisely because a market orientation is rare, that it may lead to truly distinctive and advantageous competitive positions.

Opportunities and Threats and Strategic Choices With respect to managers’ perceptions of the opportunities and threats in their respective environments and to the relations of those perceptions to the

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strategic choices made by the firms in our study, even greater similarity between companies with different strategic orientations was to be observed. Irrespective of strategic orientation, all firms in our sample saw competition as a serious threat, especially creative new forms of competition from substitutes and new entrants. Opportunities are perceived to exist in both firms’ current markets and new markets. Compared to the number of firms that reported seeing market development as a significant opportunity, however, the number of companies that actually choose to pursue a market development strategy is low – a phenomenon for which we have as yet no convincing explanation. In contrast to their externally oriented counterparts, internally oriented firms see more opportunities in quantitative changes than in qualitative changes within their currently served markets. They also are more likely to choose an entrenchment strategy or a strategic retreat, rather than a strategy of growth through market development. Our results suggest that a firm’s strategic orientation affects the type of capabilities and resources it chooses to create, otherwise obtain, or develop. A firm’s choices in this regard in turn affect to some extent the opportunities and threats it perceives in its environment and the strategic choices it makes. Our interpretation of these findings are depicted in Fig. 1. Our findings appear to be consistent with and thus may be explained at least in part by the model of the organizational lifecycle developed by Hurst (1995). In this model, new firms often enter a market without many resources, usually competing on the basis of new but immature capabilities. These new entrants are usually opposed by firms that defend their market positions and larger market shares using the resources that they accumuFinancial orientation Technological orientation Internal processes orientation

Resources

Fig. 1.

Competitor orientation Customer orientation

Market orientation

Capabilities

Approximate Distribution of Firms in the Sample by Emphasis on Resources versus Capabilities and by their Strategic Orientations.

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lated and the capabilities they have developed in the past. Over time, to survive, a new entrant must invest in accumulating resources and developing more and better capabilities in order to capture a larger share of the market. As a new entrant grows and its organization becomes more complicated, however, it may be forced to become more internally oriented and may begin to shift its focus to internally developing capabilities and accumulating more resources. It then begins to become vulnerable to, and to fear, new entrants and the qualitatively new kinds of capabilities they bring to a market, often causing destabilization of the market. After responding to this new competition by entrenching its position for a period of time, the now mature firm may finally choose a strategic retreat, or perhaps a radical change of strategic orientation, after which it must begin again the cycle of accumulating new resources and developing new capabilities.

NOTES 1. In this chapter, we adopt the definition of strategic orientation as ‘‘ythe strategic directions implemented by a firm to create the proper behaviors for the continuous superior performance of the business’’ (Gatignon & Xuereb, 1997).

ACKNOWLEDGMENTS The authors thank Henk Roest for his contribution in obtaining the data for this study.

REFERENCES Alsem, K. J., & Hoekstra, J. C. (1994). The market orientation of Dutch businesses. Research Memorandum OM94301, Research School Systems, Organization and Management (in Dutch). Andrews, K. R. (1971). The concept of corporate strategy. Homewood, IL: Irwin. Ansoff, H. I. (1984). Implanting strategic management. London: Prentice-Hall. Day, G. S. (1994). The capabilities of market-driven organizations. Journal of Marketing, 58(October), 37–52. Doyle, P., & Hooley, G. J. (1992). Strategic orientation and corporate performance. International Journal of Research in Marketing, 9(1), 59–73. Gatignon, H., & Xuereb, J.-M. (1997). Strategic orientation of the firm and new product performance. Journal of Marketing Research, 34(February), 77–90.

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Hunt, S. D., & Lambe, C. J. (2000). Marketing’s contribution to business strategy: Market orientation, relationship marketing and resource-advantage theory. International Journal of Management Reviews, 2(1), 17–43. Hunt, S. D., & Morgan, R. M. (1995). The comparative advantage theory of competition. Journal of Marketing, 59(April), 1–5. Hurst, D. K. (1995). Crisis and renewal: Meeting the challenge of organizational change. Boston, MA: Harvard Business School Press. Johnson, G., & Scholes, K. (1997). Exploring corporate strategy, text and cases. Boston, MA: Prentice-Hall. Lewandowski, J. L., & MacKinnon, W. P. (1992). What we learned at Saturn. Personnel Journal, 71(12), 30–32. Lewis, M. A., & Gregory, M. J. (1996). Developing and applying a process approach to competence analysis. In: R. Sanchez, A. Heene & H. Thomas (Eds), Dynamics of competence-based competition: Theory and practice in the new strategic management. London: Elsevier. Porter, M. E. (1980). Competitive strategy, techniques for analyzing industries and competitors. New York: The Free Press. Rumelt, R. P. (1984). Toward a strategic theory of the firm. In: R. Lamb (Ed.), Competitive strategic management. Englewood Cliffs, NJ: Prentice-Hall. Sanchez, R., & Heene, A. (1996). A systems view of the firm in competence-based competition. In: R. Sanchez, A. Heene & H. Thomas (Eds), Dynamics of competence-based competition (pp. 39–62). London: Elsevier. Sanchez, R., & Heene, A. (2004). The new strategic management: Organization, competition, and competence. New York & Chichester: John Wiley & Sons. Sanchez, R., Heene, A., & Thomas, H. (Eds) (1996). Dynamics of competence-based competition: Theory and practice in the new strategic management. London: Elsevier. Verhallen, T. M. M., Frambach, R. T., & Prabhu, J. (1998). Strategy based segmentation of industrial markets. Industrial Marketing Management, 27(4), 305–313. Virgin Atlantic Airways 10 Years After, INSEAD Case #595-023-1 (1995).

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MOBILISING CONSUMER COMPETENCE TO CREATE TECHNOLOGY TRANSITION PATHS: THE EXAMPLE OF THE NORDEA INTERNET BANK Staffan Hulte´n, Anna Nyberg and Karl-Olof Hammarkvist ABSTRACT The Nordic bank Nordea is today considered to be a world leader in Internet banking and has moved a significant part of its customers’ transactions to Internet banking. This chapter identifies and analyses the ways in which Nordea engaged its customers in developing its Internet banking initiative and induced its customers’ adoption of new Internet banking technology. We focus on understanding two elements of Nordea’s strategy: timing and the identification of a transition path that built on customers’ accumulated skills and experiences when moving from the old to the new banking technology. Our analysis develops Normann’s ((1991) Service management. Strategy and leadership in service business (2nd ed.) New York: Wiley) model of an enabling service innovation to derive an evolutionary model of customer-centric technology transition

Research in Competence-Based Management, Volume 1, 121–144 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01006-6

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in a service industry. We also explain how Nordea created and borrowed new capabilities to help manage the transfer of consumers to Internet banking, while carefully allowing customers to continue patterns of behaviour developed while using earlier home banking technologies like telephones, personal computers, Internet-enabled information services, and WAP. We trace the stepwise development of Nordea’s Internet banking initiative through to its focus today on increasing the average number of periodic e-banking transactions made by its customers.

INTRODUCTION Internet banking is an enabling service innovation (Normann, 1991) that results in both greater value creation for customers and increased cost efficiency due to consumer co-production. Today, Internet banking is rapidly becoming the dominant channel for interaction between banks and customers in the Nordic region. The adoption of Internet banking varies from market to market and from bank to bank. In the Swedish market, Internet banking has expanded from 33,700 private Internet accounts at the end of 1996 to more than 5 million in early 2004. This means that Sweden, with a population of 9 million inhabitants, has an Internet bank penetration of 55% . Table 1 shows the growth of Internet banking in Sweden. While small banks1 played an important role initially, they rapidly lost market share to the four big Swedish banks. Internet banking is the latest step in the development of distance or home banking. Gro¨nroos and Ojasalo (2004) regard Internet banking as a way to

Table 1.

Growth of Internet Banking in Sweden (1996–2003). 1996

1997

1998

SEB 91,000 230,000 Fo¨renings-sparbanken 65,000 170, 000 SHB 10,000 100,000 Nordbanken 10,000 15,000 50,000 Small banks 13,700 27,000 84,000 No. of Internet bank 33,700 218,000 634,000 accounts

1999

2000

2001

2002

2003

270,000 540,000 630,000 690,000 720,000 290,000 850,000 1,100 000 1,350,000 1,410,000 150,000 320,000 349,000 530,000 620,000 110,000 707,000 1,039,000 1,300,000 1,470,000 163,000 418,000 600,000 630,000 880,000 983,000 2,835,000 3,718,000 4,500,000 5,100,000

Note: The measures for the small banks are partly based on estimates. Sources: Svenska bankfo¨reningen, Nordea, annual reports SEB, Svenska Handelsbanken, and Fo¨reningssparbanken for the year 2001.

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cut costs while producing as much as before. But, we argue, Internet banking gives more than only cost savings. The bank’s principal benefits are: (1) a new channel to interact with customers, (2) increased customer retention, and (3) lower costs owing to the transfer of work to the customers. The customers’ most important benefits are: (1) increased accessibility to the bank account and other bank services, (2) lower service charges, (3) more attractive interest rates, and (4) avoiding waiting to be helped by a teller. The Internet is more than a new distribution channel for the bank sector because it also modifies the bank sector’s competitive landscape. New competitors, for example, specialised share traders on the Internet, specialised mortgage services on the Internet, and Internet banks without bank branches, have attacked the banks by promising to provide a more rapid and cheaper service. The increased accessibility to the bank system that ICT give clients has forced the banks to reconsider the bank sector’s value chain. In this chapter we identify and analyse the factors that were crucial to the successful introduction of Internet banking in two parts of the Nordic bank Nordea, eventually creating the world’s highest rate of Internet banking traffic, the world’s largest accumulation of e-banking experience, and a high degree of customer adaptation.2 We explore how the bank managed the transition to Internet banking and later expanded Internet banking by using consumer learning, consumer experiences, and consumer habits to develop new competences necessary for Internet banking. Nordea was in a position to use previous experiences from distance banking over electronic media. Merita, the Finnish part of Nordea, had a telephone bank and PCs connected over the telephone network, and Nordbanken, the Swedish part of Nordea, had a full-service telephone bank. Distance banking over electronic media already appeared in the 1980s – telephone banks, videotext bank services, connections using PCs, and minitel. Pennings and Harianto (1992) found one US bank that adopted videotext banking in 1981, and by 1985 they found that 37 out of the 152 studied US banks had adopted videotext banking. The first commercial inhome banking system in the UK was launched in 1983 using a videotext system. The early systems using a microcomputer or other terminals linked by telephone or videotext had limited success owing to very high costs and narrow services (Wright & Howcroft, 1995) or regulation (Pennings & Harianto, 1992). The Minitel bank was qualified as an ‘‘astounding success’’ by Pennings and Harianto (1992, p. 44) but reached only a small percentage of the private bank customers and locked in the French banks in the minitel technology when banks in other European nations had already adopted Internet banking (Hulte´n, Nyberg, & Chetioui, 2005).

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RESEARCH QUESTIONS Internet banking in the Nordic region is an example of the introduction of a disruptive technology in a service sector that challenged established competences of service providers, while leaving the prior market structure fundamentally unchanged. Our first research question is, therefore, how did incumbent banks manage to build new competences and keep their market positions despite the fact that many entrants tried to take away their market shares? Major innovations have an impact not only on the firm that initiates them, but also on the whole system of actors and ‘‘firm-addressable resources’’ surrounding it (Sanchez & Heene, 1996, 2004). For that reason, innovators’ success typically involves the support and even participation of these actors, be they suppliers, customers, regulators, or competitors. This leads us to our second and third research questions: What was the role played by external actors, particularly consumers, in the development of new competences and the eventual competitive success of Nordea’s Internet banking initiative? In particular, how did the participation of Nordea’s customers in this new service initiative contribute to the success of the bank’s Internet banking innovation?

METHODOLOGY To explore the role of external actors in the transition to Internet banking we have carried out a case study of the two banks, Nordbanken and Merita, that merged and became Nordea in 1997. The adoption of the Internet bank started before the banks merged, and even after the merger, the banks were permitted to pursue different strategies for the Internet bank and other distant bank services. Empirical material for the case studies was collected through interviews with bank managers, the collection of bank internal documents, and the consultation of other secondary sources. When we collected data on the Internet bank we had two goals. The first was to establish a description of the historical development of the Internet bank, including data on the number of Internet bank customers. The second was to get information on the involvement of different actors and their roles in accomplishing this service innovation, including internal actors, competing banks and financial institutions, suppliers, regulators, and customers.

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THEORETICAL FRAMEWORK Innovation in Services In services as in other industries, innovation draws on both firm internal and external resources.3 Among studies of innovation, the view of the relative importance of external and internal resources in service innovation varies. External sources of innovation may be (interactions with) suppliers or customers, or from drawing on new or existing technologies in the environment in general. The degree of influence that the service firm is seen to have can also vary from its being portrayed as a passive adopter of a finished innovation, to being seen as taking an active part in its development and/or adaptation. Pavitt (1984) portrays service innovation as driven primarily by supplier industries, with the service firms seen as passive adopters of already developed innovations. Normann (1991) presents quite an opposite view, emphasising both the role of the service firm in developing innovations and of the clients as important sources of external resources. In the empirical case we will see a variety in terms of both which external resources are important, and in the relative importance of internal resources in driving innovation. The introduction of service innovations typically involves a reshuffling of tasks between providers and customers. Normann (1991) distinguishes between two types of innovations – relieving and enabling. Relieving innovations are those where the consumer is relieved of performing a certain task, which can profitably be performed by a commercial provider. Readycooked meals are an example of a relieving innovation, increased service content of the food product relieving consumers of the need to perform much of the task of food preparation. Enabling innovations, on the other hand, provide the consumers with the tools and knowledge to perform the task themselves. Internet banking is a good example of an enabling innovation. By giving the bank clients access to their own accounts and to many financial services, the clients can take on tasks for which they had previously needed the help of bank employees. Normann (1991) claims: ‘‘A typical case [of enabling customers to perform the service] is the explosion of securitization in the financial markets. As business companies have increased their level of competence and their information about the markets, they have tended to issue securities on their own rather than go to the bank to get loans. To keep some of their business and the customer relationships, banks have often redefined their business, helping their customers to access the capital markets by selling them services and advice on how to do this.’’

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Enabling innovations inevitably involve consumers as co-producers, or prosumers, to use the term coined by Toffler (1980). Customer co-production is typically rationalised in terms of cost savings. Because the scope for productivity gains is relatively smaller in service industries than in manufacturing, it is argued that consumer involvement is an alternative way to lower the costs of service production. From the consumers’ point of view, they are able to save on the price by contributing some of their spare time to co-production. Two typical examples from the retail trade sector would be the IKEA furniture distribution system and the self-service store format. According to Normann (1991) the client can participate in six different ways in the service industry: (a) specification of the service, (b) pure coproduction, (c) perform quality control, (d) development of the service, (e) marketing of the service, and (f) maintenance of ethos by providing employees in terms of interesting experiences. There are several methods to induce the client to participate in the service production Normann (1991) distinguishes four such methods: (a) the most important inducement is costs, (b) the client can be educated, (c) the client can be given different tools, and (d) the service provider can create constellations of clients that are beneficial to the service delivery system.

Self-service Technologies Internet banking belongs to the rapidly developing group of self-service technologies (SSTs). They allow market space transactions in which no interpersonal interaction is required between buyer and seller. SSTs typically give advantages to customers in that they help customers save time and money, avoid service personnel, and are accessible anytime and anywhere. The disadvantages with SSTs are related to technology failure, process failure often involving the translation of an electronic message into a physical delivery, poor design which results in confusion, and customer-driven failure, for example, a client forgets a PIN code to a bank card. (Meuter, Ostrom, Roundtree, & Bitner, 2000) (Fig. 1). Internet banking as it has been designed also involves significant elements of customer involvement in the innovation process. Similar examples of customer involvement in innovation have become a trademark of the Internet and software industries (Thomke & von Hippel, 2002). We would like to emphasise that customer co-production often entails an important valuecreation potential in addition to possible producer cost and consumer price savings. Such value creation may take place both from the consumer’s and

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Interface

Telephone/inter Online/Internet active voice response

Interactive Kiosks

Telephone banking Flight information Account information Telephone banking Prescription refills Information telephone lines

Package tracking Account information

ATMs Hotel checkout

Retail purchasing Financial transactions Internet information search Distance learning

Pay at the pump Hotel checkout Car rental

Video/CD

Purpose Customer service

Transactions

Self-Help

Fig. 1.

Blood pressure machines Tourist information

Tax preparation Television/CDbased training

Categories and Examples of SSTs in Use. Source: Meuter et al. (2000).

the producer’s point of view. In the case of Internet banking, the cost savings come from reductions among teller personnel, and fewer bank branches. Some of these savings are passed on to Internet bank customers in the form of lower fees and better interest terms. In addition, consumer value is created in Internet banks by the ability of Internet banks to offer 24-h banking, a higher degree of privacy in banking, an increased sense of control, and perhaps also positive feelings related to being a ‘‘modern’’ person (Fig. 2). One example of how Internet banking can create value for the bank is by allowing it to live up to institutional demands of what a modern bank should be. Providing Internet banking also builds up a customer base comprising experienced users who, if satisfied with the service, can recruit and teach potential new users. Interaction with the first users, such as through problem solving, also enables the bank to learn and improve its services.

Adopting the Internet Bank The creation of an Internet bank is a major undertaking for most banks. The banks are confronted with a new technology that is accompanied by a new competitive situation in which the old cost advantages and customer relations are changing. According to Tidd, Bessant, and Pavitt (2001, p. 181)

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Producer

Client

Cost /price savings

Personnel, offices, etc.

Lower fees, better interest rates, etc.

Value creation

“Image” benefits, higher client retention, learning,

Flexibility, more privacy

Fig. 2. The New Cost–Benefit Equation of Internet Banking.

neither the technology nor the market is well defined or understood in such complex markets. The technology and markets co-evolve over time, as developers and users interact. There exist opportunities for incumbents in such complex markets. They can for example use their historical market position to develop market segments where the advantage is more sustainable. ‘‘Companies slow to accept the inevitability that new technologies will force lower prices for basic information may find themselves losing market share rapidly on all fronts. Competitive advantages based on access to raw information are under siege; the trick is to migrate incumbency and scale advantages into value-added aspects of information, where advantage is more sustainable.’’ (Shapiro & Varian, 1999). We have identified two key strategic problems for an incumbent bank that launches an Internet bank. In general terms, this is a question of adopting a radical innovation that will constitute a break from the firm’s historical path. The first problem is timing the launch of the new technology and the second problem is managing the co-evolutionary process.

The Problem of Timing ‘‘Learning and adjusting structure enhance the chance of survival only if the speed of response is commensurate with the temporal patterns of relevant environments. Indeed, the worst of all possible worlds is to change structure continually to find each time upon reorganization that the environment has already shifted to some new configuration that demands yet a different structure’’ (Hannan & Freeman, 1989, p. 70). But an important threat to extant organisations is entrepreneurial organisations designed specifically to take advantage of some new set of opportunities. If the new competitors can grow faster than the extant organisations the relative inertia is greater (Hannan & Freeman, 1989, p. 71). In the case of technology innovation and adoption the firm wants to negotiate between the error of adopting too early or too late. In the first case the firm selects a design that becomes

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unsuccessful, in the second case the laggard will face an uphill battle against the first-mover who enters with a right design at the right time (Pennings & Harianto, 1992, pp. 44–45). In short, the bank has to negotiate a transition from one technology to another under the threat that other banks will make this move faster and be successful in adopting the new technology, thereby gaining a first-mover advantage. Since in most industries the Internet lowers the barriers to entry, the threat from new competitors is a very real one (Porter, 2001). The bank is confronted with the threat of inertia – economic, cognitive, or cultural – inhibiting it from responding correctly to technological change – ‘‘structures of organizations have high inertia when the speed of reorganization is much lower than the rate at which environmental conditions change’’ (Hannan & Freeman, 1989, p. 70). Another important source of inertia according to many writers is the firm’s own customers (see, for example, Christensen’s (1997) discussion of innovation).4 Since inertia can originate in different ways it is not possible to find one remedy for the problem. The other side of the coin is of course that inertia or friction is normally beneficial for a firm. Repeat buys from satisfied customers, successful technology adoption, and other impediments to imitation and barriers to entry are the cornerstones of a successful strategy. ‘‘Inertia is often a product of successful adaptation to earlier innovations, as a firm develops ways of operating that appear to be so well suited to its internal and external environment that is sees no reason to change’’ (Robertson & Langlois, 1994).5

The Problem of Managing the Co-Evolutionary Process through the Construction of a Transition Path This process includes the concurrent creation of a new technology or system and the gradual dismantling of an old technology. This can be a case of creative destruction Schumpeter (1943) if the dismantling appears when the old technology continues to function well. Normally, an organisation’s past provides it with the adequate set of capabilities and resources to handle technological change. But, complex innovations that question the core activities of the organisation often demand changes in firm’s strategy, capabilities, and resources. One strategic option is to merge with or acquire another organisation that has the required resources that are distinct from the firm’s own resources (Karim & Mitchell, 2000). The need to respond to change in volatile environments can justify adoption of commercially doubtful technologies if these experiences can preserve and enhance an organisation’s

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competitive edge in building and acquiring new skills (Pennings & Harianto, 1992, p. 45). Sheth (1984) suggests that firms can modify customer behaviour either by giving them incentives to do what the firms want or disincentives to not do what they want, or demand that the state change the regulation. In Garud and Rappa (1994), one of the most important conclusions was that markets are unlikely to select out complex technologies that are difficult to evaluate. Independent institutions are therefore necessary to develop evaluation procedures. In the case of Internet banking, issues such as security and consumer acceptance were critical for a rapid roll-out. The bank should consider the following four issues to construct a successful transition path from bank branch operations to Internet Banking: (a) It must question historical investments in bank branches and other interfaces with customers, where the consequences may range from closures to the reshaping of existing structures. (b) It must learn to make new cost and revenue calculations.6 The weight of the investments in bank branches and the skills of the bank personnel to manage service interactions face-to-face with clients compared with the completely new service delivery system of Internet banking consisting of home banking and machine-to-machine interactions. (c) It also has to make decisions on the marketing and pricing of the Internet bank service, because the increased involvement of the customers in the banking services gives both a higher value added for the customers (faster and more certain service delivery) and lower marginal costs for the bank. This new equation (see Fig. 2) opens avenues for entrants to attack the position of incumbents.7 (d) It must decide on how to organise and govern/control the new channel in relation to the existing parts

DISTANCE AND INTERNET BANKING AT NORDEA Nordea is the biggest bank in the Nordic region with 10 million private customers, 1.1 million corporate customers, 3 million private e-clients, 1,260 branch offices, and 40,000 employees (Nordea, 2002b). Nordea is the result of the merger in 1997 of the Swedish bank Nordbanken and the Finnish bank Merita. In 2000, the resulting bank acquired Kreditkassen in Norway and Unibank in Denmark. Nordea also own banks in Estonia and Poland. This case study will focus on the building of an Internet bank service at Nordbanken and Merita. Together, these two banks had more than

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2 million internetbank customers in December 2001 – an increase of 25% in 2001 from 2000. These customers made 53 million log-ons in 2001 and carried out 71 million Internet payments. In early 2002, 10 million e-transactions were carried out in the Nordea banks. According to Nordea, it has the biggest electronic banking traffic, and the longest e-experience. Unibank and Kreditkassen also offer Internet banking and the Estonian bank has a small Internet bank that uses the Internet bank model from Merita. At the time of writing, Nordea is in the process of merging the different Internet models that have developed in the four different banks. In 2003, a common platform will be launched for the Danish, Finnish, Norwegian, and Swedish bank operations in Nordea. The platform will first appear in Merita and then move to Nordbanken and the Danish and Norwegian partner banks. The development of Internet banking at Nordea is too a high extent the outcome of activities at Merita and Nordbanken. Merita started with electronically mediated bank services in the early 1980s, while Nordbanken, relatively early, developed an advanced telephone bank in the late 1980s. The following sections describe the development of distance banking in Nordea, and its two constituent parts. Table 2 (below) summarises this development path. An inherent problem in the construction of distance banking is the importance of a high security level. The banks face two important problems:

Table 2.

Main Steps in the Development of Distance Banking in Nordea.

Year

Service

1982 1984 1990 1991 1992 1996 1997 1998 1998 1998 1998 1999 1999 2000 2002

IVR telephone service (Merita) PC bank (Merita) Full service telephone bank (Nordbanken) The Brand Solo is introduced (Merita) Mobile telephone bank service (Merita) First internet services (Merita and Nordbanken) IVR equity trading Improved web pages at Nordbanken Card solution at Norbanken Internet equity trading Introduction of CTI SMS service WAP service PDA service Chip services

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(1) the possibilitythat a non-authorised person may enter the bank’s internal accounts, and (2) the possibility that one person may enter another person’s account. To avoid these problems the banks have constructed different security systems. The banks have tried many different ways of protecting their internal system from unwanted infringements. One solution is that the bank decides to use an asynchronic system in which the client interacts with an intermediary system, which later transfers information to the bank. A drawback of this system is that it cannot handle operations that require transactions in real time, for example, share trading. Another solution is that the bank uses a synchronic system that, after security checks, gives the customer direct access to the internal bank system. The banks’ have tried many different security solutions, as we will see in the following cases. As the telephone bank and the Internet bank have matured, the security systems have become more sophisticated.

MERITA Distance banking started in 1982 in Merita with a telephone bank service. In 1984, Merita opened the possibility for its private customers to connect a PC over a telephone line to the bank’s payment system. The reason for this was that Merita’s customers used a cumbersome system with payment machines installed in bank branches and in shopping centres. In 1984, very few people had a PC at home, but they had access to one at the office. Therefore, Merita launched ‘‘workplace banking’’ in 1985–1986. Merita approached its biggest corporate clients and suggested that they should allow their personnel to use the office PCs to connect to the bank service.8 The early start created a willingness at Merita to continue to be a firstmover in electronic banking. In 1988, the bank started to offer equity dealing. In 1992 appeared a mobile telephone bank service. In 1996, the bank launched its ‘‘Internet bank’’ consisting of a number of products/services that could be accessed through the Internet: bank account balance, payments, bank transfers, equity dealing, and e-shopping. Two years later the bank added e-loans, e-billing, and e-signatures. In 1999, it became possible to make foreign payments and for students to get their student loans. In 2000, came e-salary and the first WAP services. In parallel, the bank had added and continued to add new distribution channels: telephone bank in 1982, PC connection in 1984, Internet in 1996, web-television in 1998, and enhanced mobile services in 1999 and 2002. In all connections the customer used the same access method and the same

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access codes. As stated in a document (Nordea, 2002a) ‘‘One service agreement covers all channels – customers can use any device.’’ The bank regarded the strategy of adding services, channels, and access devices as a value-adding strategy. The Internet bank business follows three stages: create the habit, interconnect the customers, and customise and personalise. The bank regarded habit as a key resource. By allowing the customer to use habits learnt in earlier stages (telephone bank, PC connection, etc.) it could with relatively low friction export customers to new banking channels, new devices and public sector services.9 In early 2002, Nordea in Finland ran a substantial part of its total banking activity over the Internet: 80% of equity orders, 60% of mutual funds, 45% of student loans, 45% of private small payments, nearly 100% of larger corporate payments, 29% of consumer credits, 22% of foreign exchange, and 15% of car financing.10 The next step at Nordea in Finland and in Sweden will be to use the installed base of customers to create attractive market places with what Bo Harald calls ‘‘critical sub-masses’’ for the bank’s 1 million corporate customers.

NORDBANKEN The 1980s was a decade with many mergers and acquisitions in the Swedish bank industry. Nordbanken emerged as the result of two merger steps. First Sundsvallsbanken merged with Upplandsbanken to become Nordbanken. This bank was merged a few years later with the formerly state-owned bank PK-banken to form a bigger Nordbanken. The Swedish branch of Nordea, ‘‘Nordbanken,’’ had in April 2002, 1,093,000 Internet clients and a total installed base of 1.5–1.6 million active bank customers. For the clients, access to the Internet bank costs from 8– 16 SEK (9 SEK ¼ 1h) per month, depending on the customer’s relationship with the bank. Employees of the bank are given access to the Internet channel free of charge, partly as a way for the bank to build up the user base more rapidly. The stronger the customer–bank relationship the lower the charge. The Internet service can be combined with Internet share trading, and that service costs an additional 15 SEK per month. The charge for the basic Internet bank service is comparable with the charge the bank demands for a mailing service for paying bills through the Swedish Bankgiro and Postgiro. The cost for paying a bill at the bank branches have increased from 10 SEK in the 1980s to 30–50 SEK in 2002.

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The Telephone Bank at Nordbanken Distance or home banking at Nordbanken started in 1988 with a project aiming at a complete telephone bank service. Before 1988, Nordbanken offered different types of distance banking: for example, the possibility of paying bills through the Swedish banks’ ‘‘giro’’ system and a simple telephone bank where the customer could check his balance and the latest movements on the account. The origin of the telephone bank project was that many clients called their bank branches to ask questions. One problem with this was that the bank couldn’t offer full service since it was difficult to be certain about the identity of the caller; another problem was that calling customers were kept waiting because of too many incoming calls. The problem was particularly pressing in Stockholm where Bo Eriksson was appointed project manager of a project to solve the problem. He first designed a system, with the help of the Swedish telecommunication operator Televerket, that brought together six bank branches in central Stockholm to one switch. This solved the problem of keeping customers waiting but the customers still could not get an attractive bank service over the telephone. During study trips to the US, two managers had looked at American telephone banks. These inputs resulted in a decision in 1988 to launch a project aiming at the creation of a complete telephone bank. The project was rapidly conducted under the direction of Bo Eriksson and a plan was put forward in 1989. The decision to launch the bank was difficult because the costs were considered to be high, amounting to a total of 15–20 million SEK. The costs were due to investments in switches, marketing, and a new office in Uppsala – 70 km north of Stockholm. The new telephone bank commenced operation in 1990. The technique was taken from the former PK-bank, while the bank personnel came from the former Upplandsbanken. This created some minor problems in the beginning when the personnel had to learn how the machines and the system worked. Bo Eriksson was appointed manager of the new telephone bank and he and the management of Nordbanken decided that the telephone bank should recruit a new type of bank personnel to the call centre. Bo Eriksson recalls: ‘‘We sought social competence only.’’ This resulted in a group of employees with a completely new type of background for the bank. They employed people from diverse backgrounds, such as as nursing and bartending. The location in the university town of Uppsala gave access to a large pool of university students who were willing to work part-time and who could come in on short notice to help cut peaks in the traffic.

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Nordbanken became the first bank in Europe to offer a telephone bank that integrated an automatic service with a personal service. The telephone bank, called ‘‘Plus Direkt’’, was from the start organised as a separate bank within Nordbanken. The audiotel system made it possible to identify the customer. After calling the ‘‘Plus Direkt’’ number the client dialled their personal number (all Swedes have a unique number consisting of their birth date and four extra digits), which is the check account number in Nordbanken.11 Then the caller dialled a four-digit PIN code. This gave access to some bank services, for example, checking the balance on the bank account and transferring money between the customer’s own accounts. If the customer wanted more advanced services, for example, credit, or equity trading, dialling 91 connected the caller to a person at the call centre. Further identification consisted of giving a one-time PIN code, which could be obtained from a list of codes that the bank had sent. These codes were printed on a paper with 20 PIN codes that were sent in a recommended letter. After a code had been used, the customer barred it on the paper. This system was later changed to a system with cards with 50 numbers hidden under a thin film. The customer uncovered the codes stepwise. The first year of the telephone bank was difficult. The bank branches were supposed to promote the telephone bank but they were unwilling to do so because the transactions of telephone bank customers were not accounted for at the bank branch. The plan was that the telephone bank should have 30,000 clients after 1 year, but it only had 3,000 customers after 8 months. In the first months the office with 15 employees got 15–20 calls per day. To improve the enrollment of new clients it was decided that in the future, the customers should stay in the internal accounts as customers of the branch office and that the profit of the telephone bank activities should be transferred back to the respective branch office. The name of the telephone bank service was changed to ‘‘Nordbanken Direkt.’’ The slow growth continued for a couple of years and the management at the telephone bank had to fight hard for the survival of the telephone bank. Nordbanken Direkt was introduced at a time when Sweden was in a severe financial crisis and Nordbanken faced big economic difficulties. When the telephone bank was questioned it got support from managers supervising the new activity and good forecasts convinced top management that telephone banking had come to stay. Eventually, the new bank service started to grow faster than the projections. The telephone bank service improved gradually over the first few years. In the begining the call centre operator had to ask the client for his name and account number. The security check proved that the client was a telephone

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bank customer. At this time the work environment was not fully computerised – this was also the case in a normal bank branch. If a client wanted to buy or sell shares the call centre operator had to type the order on a typewriter. These types of problems led to the conclusion that the telephone bank needed its own system to manage transactions and customers. When the bank developed such a system in 1992–1993, it came to include items that we find in a market database or what we today call a customer-relationmanagement database. The database included information on the mailings to the customer and whether the customer had responded to these, the latest transactions, and the customer’s overall connections to the bank. When this type of system was developed at Nordbanken little expertise was available outside the organisation. Therefore, Nordbanken developed the stategy of connecting a telephone operation with a customer database in-house. Competitive pressure from the Swedish bank rival SEB forced Nordbanken in 1992 to offer a 24-h telephone bank service.

The Internet Bank at Nordbanken In 1995, the telephone bank manager Bo Eriksson in co-operation with the information manager decided to move the telephone bank service to the Internet. They did this on their own initiative without any formal budget. They took some of the services of the telephone bank and created web pages for each option. The security level was not the highest possible. They kept the system of issuing one-time PIN codes on a piece of paper. Nordbanken asked the Swedish Bank Inspection about the rules for Internet banking and got the answer that the inspection had no objections since the Internet service only covered transfers between a customer’s accounts.12 The demand for an increased security level came from within the organisation. It was the head of security with the support of internal accounting that demanded that the bank switch to a system with card readers connected to the PC. When the client wanted to connect to the Internet bank he had to swipe the card through the card reader. According to the projections in early 1996 the card reader solution should become an industry standard in a couple of years. Contacts with Microsoft indicated that all PCs should be equipped with card readers in 1997–1998.13 In the meantime Nordbanken offered its Internet bank customers that they could install a card reader with their home computer. In early 1996, Nordbanken had approximately 10,000–12,000 Internet customers. However, the card reader solution demanded three communication portals while a PC normally only had two

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communication portals. Despite these problems a high percentage of the Internet customers were willing to install a PC card reader. Because of the lack of standardisation among PCs, softwares, and browsers, Nordbanken had to create a support service that the customers could call and ask about the installation of the card reader. The launch of the card reader system coincided with the take-off of Internet banking in Sweden. Nordbanken got more customers but lost market shares in comparison with the competitors. The smart card solution delayed the bank many months compared with the competing Swedish banks, which opted for a less-advanced technical solutions. After the merger of Nordbanken and Merita in 1997 the banks cooperated in the development of the Internet and distance bank, but the Finnish bank remained more advanced. The solution to the problem with the card reader came from the merger with Merita. The Finnish bank also used a system with one-time PIN codes but these codes had a higher level of security, as the codes came with seals. Nordbanken instead used cookies as a protection device.14 After discussions with the security organisation at Nordbanken it was agreed that the solution with one-time PIN codes gave a sufficiently high security level. On the other hand, it was found that the Swedish bank had a better solution for the web pages and the presentation of the commercial offer, and these were adopted by Merita. In March–April 1999, the new security system for Internet banking was launched at Nordbanken. This resulted in a dramatic increase in the number of Internet clients. From 1996 to December 1998, Nordbanken with the help of the card reader system, had moved from approximately 10,000 to 38,000 Internet clients. Less than 1 year after the introduction of the one-time code cards the bank counted 330,300 Internet clients; in December 2000, the bank had 707,000 Internet clients and in December 2001, 1,039,000 Internet clients. In April 2002, the bank had 1,093,000 Internet clients, which means that by that time, Nordbanken in Sweden had surpassed Merita in terms of the number of Internet bank customers. These figures can be compared with the total of 1.5–1.6 million active clients at Nordbanken (See Table 3).15 The first generation of the Internet bank, derived from the telephone bank, offered only consultation of the balance, transfers between own accounts, and payments over the ‘‘Postgiro’’ and ‘‘Bankgiro’’ systems. One year later in 1997, together with the smart card, Nordbanken presented a new improved Internet bank service. The web pages were better designed and the number of services increased. It included, in addition to the earlier services, loan applications, automatic control of the account numbers

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Table 3. Number of Internet Clients at Nordea from 1996 to 2001 (End of Year Figures). Bank

1996

1997

1998

1999

2000

2001

Nordea (Nordbanken and Merita) 240,000 340,000 570,000 1,070,000 1,800,000 2,200,000 Nordbanken 10,000 15,000 50,000 110,000 707,000 1,039,000 Source: Teldok Yearbook (2001) and Nordea.

when payments were made, and the possibility of having an automatic system for repetitive payments.16 When the web pages were developed in 1997 a group at Nordbanken tested the designs and the manner of phrasing questions to selected customers. The tests were carried out on papers representing the planned screens. The customers were asked if they understood the questions and what kind of follow-up questions they would like to have. Additional services have since been added to the structure launched in 1997. More complicated loan applications like mortgages came in 1998, in 1998–1999 came the possibility to buy and sell shares in trust funds, and in 1999 the possibility of buying and selling shares.17 In 1999 an e-marketplace called Solo, originally developed by Merita, was attached to the Internet bank. The principal advantage for firms using Solo is that the bank can guarantee that the client has paid the bill before the purchase is finalised. In 2000 came e-billing and e-salary. In 2003 Nordea in Sweden will integrate the service of foreign payments, which has been offered in Finland since 1999. At the end of 1998, Nordea had 570,000 Internet clients who made 2,000,000 e-transactions. In early 2002, Nordea had 3,000,000 clients, who made 10,000,000 e-transactions. This means that as the number of clients increases the average number of transactions per month is stable or decreases slightly. This is the case regardless of the fact that Nordea has augmented its offer of e-services from the launch in 1996. We can recall that the Finnish bank in Nordea had the following shares of bank transactions on Internet: 80% of equity orders, 60% of mutual funds, 45% of student loans, 45% of private small payments, 29% of consumer credits, 22% of foreign exchange, and 15% of car financing. By comparison, the Nordea group as a whole conducted only 17% of its mutual fund transactions and 20% of its credit transactions on the Internet. The challenge for Nordea in 2002 is to increase the depth of its relationships with its customers using all the channels and all the services. The market potential is immense if we look at the Internet bank services on offer (see Table 4).

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Table 4.

E-transaction Potential of Internet Bank Services.

Service

Transactions Per Year and Client

E-commerce (Solo) Bank account balance Payments Bank transfers E-loans Foreign payments Internet equity trading Student loans E-salary

4100 10–20 10–20 10–20 2–3 1–10 410 2–4 12

DISCUSSION – ADOPTION OF THE COMPLEX INNOVATION INTERNET BANKING When the Internet bank was introduced, the two founding banks of the future Nordea group had reached 3–5% of their customers with distance banking. Nordbanken had a full-service telephone bank. Merita had a telephone bank and home or office banking using PCs connected over the telephone network. Nordea is today considered to be a world leader in Internet banking. The adoption of the multi-channel strategy seems effectively to have blocked the advance of start-up Internet banks and traders. Nordea is working on creating new markets and new channels and the number of transactions on the Internet bank is steadily increasing, but the number of e-transactions per Internet client remains stable at 3–3.5 e-transactions per month. The case of Nordea, a clicks-and-mortar operation, provides insights into what types of advantages are relevant when established banks enter the Internet business. As is shown in the case study , the previous experiences of Nordbanken and Merita differ considerably in terms of providing the sort of self-service banking that forms a basis for Internet operations. Table 5 summarises some of the potential benefits of the existing technology for the introduction of Internet banking.

CONSTRUCTION OF A TRANSITION PATH From the point of view of inertia we find that in the Nordea case inertia played a relatively insignificant role in the actual Internet bank. Nordbanken was captured for some time in a type of cognitive inertia

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Table 5. Value Comparison of Previous Experiences in Distance Banking for the Introduction if Internet Banking. Benefits of Telephone Bank (Nordea) Access procedures developed Internal knowledge of how to create customer co-production system Customer base of users experienced in self-service banking and in the specific procedures used by the Nordea telephone bank

Benefits of PC Bank (Merita) Internal knowledge of how to create customer co-production system Internal knowledge of how to develop computerised customer interface Customer base of users experienced in selfservice banking and in the specific procedures used by the Merita PC Bank Long-term users strengthen customer trust in the system

when the security organisation demanded a very high level of security. However, other potential sources of inertia were avoided. First, the telephone bank had been affected by inertia before the decision on how to register the profits from the telephone bank was made. The existence of this model for transferring profits to the branch office helped to avoid potential inertia in the case of the Internet bank. Inertia was also largely avoided because the Internet bank project was carried out by a small group, that took small incremental steps and had a modest outward aim and budget. Nordea regarded the Internet service from a cost perspective, therefore, the pricing of the Internet services has been aimed at covering cost. Nordea’s strategy is based on the experiences of both Nordbanken and Merita. The Merita bank had the most evident transition path strategy. It consciously used the idea of customer habit as an institution (norm) to move customers to the Internet bank. The bank did not provide any positive monetary incentives for the bank clients to move to Internet bank. The gradual increase of charges for using services at the bank branches was a disincentive that supported the transfer of bank services towards all types of distance banking: telephone, letters, and Internet. The cost-focus of Nordbanken can be traced to their telephone bank first being started mainly as a way to divert costly balance-questions away from the branch offices. As other services were added, the value creation for both bank and customers became evident, but the cost focus remained a guiding force. Theoretically, Nordea could have chosen to launch the Internet channel as a premium channel, charging the customers a high price for access to this high-value chain. With the benefit of hindsight, the bank’s choice to remain true to its cost-conscious origins appears to have been a wise one. Together,

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these backgrounds led Nordea to adopt a high-growth and rapid-penetration strategy, which ultimately resulted in its present leadership position. The Nordea case demonstrates that transferability of capabilities can facilitate the transition from one technology to another. For example, the simple method of issuing an access code on a sheet of paper could be used in the early phase to get the Internet system up and running. Later on, it was replaced with a more secure system, but in the meantime, Nordea was able to launch the Internet bank and enable joint learning through customer use. Similarly, building the Internet bank by transferring ‘‘modules’’ from the telephone bank was a cost-efficient construction method, but more importantly it allowed Nordea to benefit the value constituted by a customer base used to a similar design and pedagogy.

TIMING Timing seems not to have been critical. The window of opportunity was fairly long. The growth of the Internet bank at Nordbanken commenced nearly 2 years after the other three big Swedish banks. The small banks and new Internet banks had a strong presence in the early years of the Internet bank market but they are losing market shares as the big banks advance their Internet services.

A REVISIT OF NORMANN’S MODEL – FROM ADOPTION TO COMPETENCE CO-EVOLUTION Providing Internet banking builds up a customer base of experienced users who, if satisfied with the service, can recruit and teach potential new users. Interaction with the first users, such as through problem solving, also enables the bank to learn and improve its services. According to Normann (1991) the productivity of the service client can be improved in four different ways: (a) inducement through costs, (b) educating the client, (c) providing the client with different tools, and (d) to createing constellations of clients who are beneficial to the service delivery system. In Normann’s model of client participation in the service industry the client can perform six tasks and that the productivity of the client can be enhanced in four different ways (see the discussion in the theoretical framework). If we reflect on how far Nordea has advanced in this model we

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Steps in Co-evolution Process

Add Channels

Add Services

Innovate

Develop

Expansion Word-of-mouth

Evaluation Quality control Procedures Evaluation Learning Tools Co-production New Adoption Service

Time

Fig. 3.

Co-construction of the Internet Bank by the Bank and its Customers.

can note that the bank clients apparently have performed many of the tasks in the model: they perform pure co-production, they perform quality control, and they help market the service. Specification of the service was done by the bank, partly influenced by customer behaviour and demand. As this is an SST without personal interaction, maintenance of ethos is not an issue. The next step targets development of the service, basically moving from three e-transactions per month to many more. From a dynamic point of view we can note that the customers’ involvement in and influence on the Internet service have grown in steps. See Fig. 3. The bank has provided learning in many different forms as well as tools to aid Internet bank clients. No cost inducement was provided, but the charges were on par with the earlier model for paying bills. Nordea is presently at the stage where the bank tries to create constellations of clients who are beneficial to the service delivery system by interconnecting customers.

NOTES 1. Including niche and other small banks offering Internet service as well as pure Internet banks. 2. Interview with Bo Harald. 3. For a review of sources of service innovations, see Tether (2002).

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4. An opposite view holds that customers can in fact drive innovation (Thomke & von Hippel, 2002). 5. See also Hannan and Freeman (1989, p. 67). ‘‘Nevertheless, we hold that selection processes tend to favour organisations whose core structures are difficult to change quickly.’’ 6. Tang (1988) discusses the problem of comparing the return on investment of an old technology protected by massive fixed investments and a new technology in which no investments have been made. 7. We have a case in which an entrant could get an advantage both by a perceived benefit strategy or a lower cost strategy (Besanko, Dranove, & Shanley, 1999). 8. Interview with Bo Harald. 9. Interview with Bo Harald. 10. Nordea (2002a). 11. The history of this is that the two Swedish state-owned banks: Pk-banken and the post office after they started to co-operate used the personal number as the client’s check account number. 12. Interview with Bo Eriksson. 13. Interview with Kurt Gustavsson. 14. Interview with Bo Eriksson. 15. Interview with Anders Tholander. 16. Interview with Kurt Gustavsson. 17. Interview Anders Tholander.

REFERENCES Besanko, D., Dranove, D., & Shanley, M. (1999). Economics of strategy (2nd ed.). New York: Wiley. Christensen, C. M. (1997). The innovator’s dilemma. Cambridge, MA: Harvard Business School Press. Garud, R., & Rappa, M. A. (1994). A socio-cognitive model of technology evolution: The case of cochlear implants. Organization Science, 5, 344–362. Gro¨nroos, C., & Ojasalo, K. (2004). Service productivity. Towards a conceptualization of the transformation of inputs into economic results in services. Journal of Business Research, 57, 414–423. Hannan, M. T., & Freeman, J. (1989). Organizational ecology. Cambridge, MA: Harvard University Press. Hulte´n, S., Nyberg, A., & Chetioui, L. (2005). Consumers and suppliers as co-producers of technology and innovation in electronically mediated banking. The cases of Internet banking in Nordbanken and Socie´te´ Ge´ne´rale. In: K. Green, M. Miozzo & P. Dewick (Eds), Technology, knowledge and the firm: Implications for firm strategy and industrial change. London: Edward Elgar. Karim, S., & Mitchell, W. (2000). Path-dependent and path-breaking change: Reconfigurating business resources following acquisitions in the US medical sector, 1978–1995. Strategic Management Journal, 21, 1061–1081. Meuter, M, Ostrom, A, Roundtree, R, & Bitner, M (2000). Self-service technologies: Understanding customer satisfaction with technology-based service encounters.. Journal of Marketing., 64(July), 50–64.

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Normann, R. (1991). Service management. Strategy and leadership in service business (2nd ed.). New York: Wiley. Pavitt, K. (1984). Sectoral patterns of technological change: Towards a taxonomy and a theory. Research Policy, 13, 343–373. Pennings, J. M., & Harianto, F. (1992). The diffusion of technological innovation in the commercial banking industry. Strategic Management Journal, 13, 29–46. Porter, M (2001). Strategy and the internet. Harvard Business Review, 79(March), 63–78. Robertson, P. L., & Langlois, R. N. (1994). Institutions, inertia and changing industrial leadership. Industrial and Corporate Change, 3, 359–378. Sanchez, R., & Heene, A. (1996). A systems view of the firm in competence-based competition. In: R. Sanchez, A. Heene & H. Thomas (Eds), Dynamics of competence-based competition (pp. 39–62). Oxford: Elsevier Pergamon. Sanchez, R., & Heene, A. (2004). The new strategic management: Organization, competition, and competence. New York and Chichester: Wiley. Schumpeter, J. A. (1943, 1976). Capitalism, socialism and democracy. New York: George Allen & Unwin Ltd. Shapiro, C., & Varian, H. R. (1999). Information rules. Cambridge, MA: Harvard Business School Press. Sheth, J. N. (1984). Winning back your market. New York: Wiley. Tang, M.-J. (1988). An economic perspective on escalating commitment. Strategic Management Journal, 9, 79–92. Teldok Yearbook (2001). Tether, B. (2002). The sources and aims of innovation in services: Variety between and within sectors, CRIC Discussion Paper No. 55, November, 2002. Thomke, S., & von Hippel, E. (2002). Customers as innovators. A new way to create value. Harvard Business Review,, 80(April), 74–81. Tidd, J., Bessant, J., & Pavitt, K. (2001). Managing innovation. Integrating technological, market and organizational change (2nd ed.). New York: Wiley. Toffler, A. (1980). The third wave. New York: Collins. Wright, M., & Howcroft, B. (1995). Bank marketing. In: C. Ennew, T. Watkins & M. Wright (Eds), Marketing financial services (2nd ed., pp. 212–235). London: Butterworth Heinemann.

Documents from Nordea Nordea, 2002a (22 February), From e-banking to e-business, presentation by Bo Harald. Nordea, 2002b (7 March), Will Money Talk, presentation by Bo Harald.

Interviews at Nordea Mr Bo Eriksson, Head of Private Retail Banking at Nordbanken, 7 March, 2002. Mr Bo Harald, Executive vice President Nordea, 6 March, 2002. Mr Kurt, Gustavsson, Head of the Telephone and Internet Bank at Nordbanken, 25 January, 2002. Mr Anders Tholander, Product Manager Internet Services, Nordea Bank Sweden AB, 24 May, 2002.

COMPETENCE-BASED MANAGEMENT OF CO-LOCATION ARRANGEMENTS Jo¨rg Freiling ABSTRACT In order to master complex problems of coordination, close (vertical) cooperation is an adequate response in many cases. The close asset ties in cases of co-location arrangements and in particular ‘‘insourcing’’ represent an innovative and promising mode of close vertical integration. This chapter explains co-location and insourcing, and describes two insourcing projects in the form of case studies in the automotive component and software industries. The competence-based view is useful in order to explore the key success factors of insourcing projects.

INTRODUCTION During the last few years, industrial services have become a central marketing instrument in business-to-business settings. They have contributed to the fact that many classical product offerings have turned into service-dominated businesses. This can be seen very clearly in many industrial marketing settings, such as the marketing of components, mechanical engineering, and plant

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engineering. The corresponding transactions can be described as follows: (1) Plants can only be marketed if many pre- and after-sales services are provided. This is especially true in the case of providing tailored financial offerings, which can be called – in analogy to the technical engineering performance – financial ‘engineering’ (Backhaus, 1999), but also in regard to numerous services in the areas of consulting, training, maintenance, and repair (Engelhardt, 1993; Noch, 1995). (2) The cited businesses resemble more and more the classical service business, disregarding the duration and complexity. The service delivery is mainly based on customer requirements. The customer also participates in many ways in the process of service delivery, and therefore the literature speaks about ‘integrativity’ (customer integration) (Engelhardt et al., 1993) or co-production (Marion, 1997). The connected extensive interaction processes between supplier and customer contribute to the creation of individual and customer oriented performance bundles in which the product itself often does not dominate anymore. Such close and intensive interactions between a single supplier and a single customer enable the tailoring of the supplier’s comprehensive offerings to the specific needs and wants of a customer related to a specific event or problem. This strategy of full-service provision (Stremersch, Wyts, & Frambach, 2001) requires the supplier’s ability and willingness to thoroughly understand the customer’s problem, and to effectively manage the customer–buyer relationship over time. Therefore, satisfaction or dissatisfaction cannot be separated from the management of customer relationships. Satisfaction and dissatisfaction are constantly present in everyday customer–supplier interactions and have to be understood and managed from that viewpoint (Tikkanen, Alajoutsija¨rvi, & Ta¨htinen, 2000). Due to this fact, closeness to the customer and their problems has become one of the key topics in Industrial Service Marketing. There are many ways to achieve closeness to the customer:
Openness for advice and complaints: After the first critical incidents driving the customer’s dissatisfaction, the supplier has to be able to respond to them effectively. He has to aim at creating more positive incidents of satisfaction to balance the possible tense atmosphere in the relationship.
Readiness to communicate: The success or failure of close customer–supplier relationships also depends heavily on the ability of the involved parties to openly discuss problems, to regularly review milestones, and to constantly inform each other about changes that might affect the relationship.

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Empathy: The readiness to communicate with the personnel involved is not enough to thoroughly understand customer needs. The supplier must also take into consideration both situational and environmental factors in explaining customer satisfaction. The supplier should try to achieve a more holistic, contextual view of customer satisfaction.
Flexibility: The level of customer satisfaction is, at least in the long run, essentially affected by how the supplier responds and adapts to changes in the customer’s goals due to organizational or environmental shifts. The willingness to adapt to changed situations and the readiness to help the customer in difficult settings are key for a lasting relationship. From this point of view, spatial closeness does not seem to play a major role in supporting closeness to the customer. Moreover, the virtual nature of modern communication systems seems to make spatial closeness obsolete. Today, many customer–supplier relationships can be managed without personal presence at the customer’s site due to the help of efficient communication and information systems. Spatial closeness often appears to be too expensive to the service supplier as a way to provide full-service offerings and is regarded as one cause of inefficiency in the customer–supplier relationship. In sum, spatial closeness often tends to be considered ‘out of fashion’ in the context of closeness to the customer. Although spatial closeness to the customer might not seem to be very attractive, the objective of this chapter is to obtain enhanced insight into the factors and conditions that underlie the concept of spatial closeness. The research question is whether spatial closeness – despite the fact that it seems to be out of fashion – is also out of relevance to the marketing of industrial services. Even if the chapter cannot give a general answer to this question, the following theses are the starting point for discussing the relevance of spatial closeness in marketing of industrial services:
Spatial closeness will still be a promising means of service marketing.
In particular settings spatial closeness makes more sense than ever before. As a consequence, in this chapter we will 1. examine recent developments in industrial service marketing to realize spatial closeness, 2. analyze pilot projects as case studies with special focus on their contents and results, 3. explain the effects of spatial closeness with economic theory, and 4. discuss the implications of spatial closeness for service marketing.

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ROLE OF SPATIAL CLOSENESS IN INDUSTRIAL SERVICE MARKETS Virtually all service suppliers are keenly aware that the key to binding customers is excelling in tailoring one’s offerings to the specific needs of each customer while maintaining low costs and prices (Anderson & Narus, 1995). However, instead of tailoring their packages of service to customers’ individual needs in order to win, retain, or increase the amount of their business, many suppliers add layer-upon-layer of services to their offerings. In their research, Anderson and Narus (1995) point out that suppliers typically provide customers with more services than they want or need at prices that often reflect neither the value of those services to customers nor the cost of providing them. Many suppliers do not even know which services individual customers or groups of customers with similar needs really want. A supplier has to understand which services should be offered as a ‘standard package’ accompanying either a product or a core service and which can be offered as options because individual customers value them so much that they will pay extra for them. Most suppliers do not even know the cost of providing many of their services (Fig. 1). These findings clearly show that closeness to the customer does not always guarantee efficient service offerings. Closeness to the customer can go along with low efficiency, especially if the service package is over-sized. To avoid the pitfalls of an over-sized service offering, the following two methods become important:
Adoption to the customer’s needs and wants: Service suppliers must learn to structure their service offerings to specific customer needs and to use services more effectively to meet customers’ requirements.

Closeness to the customer

Effectiveness Performance

? Efficiency

Fig. 1.

Closeness to the Customer and Performance.

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Integration between customer and supplier: To understand industrial customer satisfaction, it is necessary to understand the complex net of social bonds between the members of the two interacting parties, since these bonds inevitably affect individual perceptions of supplier performance (Tikkanen et al., 2000). Therefore, we can argue that a high level of integration and the resulting increase in interaction between customer and supplier will reduce the risk of inefficient service offerings. In this setting, spatial closeness could play an important role by customizing the service offering to the specific customer needs, while learning on a daily basis from the customer and its problems. Permanent presence at the customer’s site is a basic supposition in order to strengthen customer ties and to guarantee a quick response when problems arise.

THE CONCEPT OF CO-LOCATION Implementing spatial closeness is an extreme method: it means pooling customer–supplier facilities. Therefore spatial closeness to the customer, which we define as co-location, means the durable unification of a customer’s and a supplier’s facilities in – at least – one of the three following ways (see Fig. 2):
The supplier erects value-adding facilities at the customer’s site: spatial supplier integration.

"neutral" site

‘

customer supplier

Spatial customer integration

‘

supplier s site

customer s site supplier

supplier customer

Spatial facility merger

customer

Spatial supplier integration supplier expected to erect a factory within the factory at the customer's site ("in-plant")

Fig. 2.

Three Different Ways to Realize Co-Location.

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Inversely, the customer integrates himself at the site of the supplier: spatial customer integration.
The two parties decide to erect facilities at a new site: joint new construction activities. Obviously, co-location – as a specific kind of outsourcing very close to hierarchy – makes sense in cases of intensive vertical coordination which can be found in business-to-business markets, and if there are considerable resource gaps to be closed by vertical partnerships. In a certain way co-location can be useful in order to achieve substantial advantages of bilateral coordination by avoiding some of the most important drawbacks. Co-location arrangements can be described more precisely by the following four elements:
The subject of co-location is the institution integrating other external parties. Original equipment manufacturers (OEMs) in particular are potential subjects.
The object of co-location is the performance to be provided by the spatially integrated suppliers. Arnold (2000, p. 24) points out that the objects can also be defined in terms of the underlying processes to be performed.
The partners of co-location arrangements are those firms erecting a resource network at an external site.
The co-location design is the specific mode of cooperation that needs to be implemented by customer–supplier negotiation. With regard to the design of the co-location agreement, a distinction between part-time integration and durable integration is necessary. In business-to-business settings, co-location often takes place in cases of project coordination, for instance in plant construction as well as in operation concepts based upon license/cross-license or leasing agreements. This kind of part-time integration usually does not belong to co-location as it is defined in this chapter unless a permanent cooperation takes place. Co-location can be characterized with the following criteria:
Kind of cooperation: Co-location involves very close and long-term customer–supplier relationships. The arrangement should cause synergies from a close customer–supplier collaboration. Such a cooperation can be useful in order to develop key resources, capabilities, and competences of the partners.
Resource interdependence: As already mentioned above, co-location entails merging a customer’s and a supplier’s facilities on a particular site.

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Sharing a particular site between customer and supplier enables a close integration of the parties involved (spatial integration).
Kind of integration: The concept of co-location refers only to durable or quasi-permanent customer–supplier integration. It does not refer to project-related relationships or relationships which are limited in time.
Principle of exchange: Normally, co-location is organized in the way of performance contracting. Due to specifically determined conditions per performance unit, co-location offers a relatively secure basis for cost planning to the customer in the long run. We turn now to the ‘logic’ behind co-location. Spatial closeness to the customer as a new form of cooperation for the marketing of industrial services seems to work due to the following: (1) Know-how shift: Especially attractive for the customer is the chance to get improved products and services, because of the accumulated experiences of the supplier, the high degree of individualization, and the access to new technological solutions. This fast and comprehensive access to supplier specific know-how offers the customer substantial advantages regarding the allocation of scarce resources. (2) Quality control: Co-location – as a specific kind of outsourcing very close to hierarchy – makes sense in cases of intensive vertical coordination, which can be found in business-to-business markets and if there are considerable resource gaps to be closed by vertical partnerships. Safeguarding a very high level of vertical control and a very close cooperation assures that the services offered correspond to customer expectations. Thus, co-location can be useful in making use of the typical advantages of outsourcing while avoiding some of the most important drawbacks. Fig. 3 summarizes the typical advantages and drawbacks of outsourcing solutions. (3) Performance guarantee: Co-location increases on the one hand not only the effectiveness of the service offerings due to a close and intensive collaboration between customer and supplier. It also provides on the other hand, a high level of efficiency by avoiding any kind of activity that does not generate value to the customer, and by developing improvements over time due to shared knowledge (see Fig. 4). In the face of these advantages, more and more customers are looking for new ways of inter-firm cooperation that benefit from the strengths of the suppliers and avoid the disadvantages of outsourcing arrangements. Such new modes should help prevent becoming too dangerously dependent on

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152 ... making use of the advantages to cooperate with external suppliers, such as:

... while avoiding some of the most important drawbacks of typical outsourcing solutions, such as:

• causing synergies by a very close cooperation, • learning one from another, • making use of valuable firmaddressable resources, • safeguarding better supply conditions.

• degree of customization being too low, • limited control of the supplier, dependency on external suppliers, • lack of reliability, • insufficient way of coordination, • erosion of customer's know-how and competencies in the outsourced areas.

Fig. 3.

Advantages and Drawbacks of Outsourcing Solutions.

Effectiveness Spatial integration

Performance Efficiency

Fig. 4.

Co-Location and its Impact on Performance.

key suppliers, while simultaneously safeguarding a high degree of closeness to the customer. Moreover, the arrangements should cause synergies from a close supplier/customer collaboration. Such a cooperation can even be useful in order to develop key resources, capabilities, and competences of the partners. Applying the co-location concept is one important way to respond to the challenges outlined above. With regard to co-location the question is whether the expectations are indeed realistic. They should be subject to a closer analysis. As research on this close customer–supplier cooperation is just emerging, two well-fitting pilot cases have been selected to gain empirical insights.

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EMPIRICAL OBSERVATIONS IN BUSINESS-TO-BUSINESS MARKETS The intention of the empirical work was to understand how co-location arrangements work and to examine the performance effects of co-location. In addition, the different ways of making spatial closeness to the customer work were analyzed. Therefore, it has to be stressed that the intention of the study was not to deliver a representative impression about co-location in different industries. This could be a subject of further research. As a starting point, some case studies were selected in order to understand ways that co-location can be implemented. Data were collected from several in-depth and telephone interviews based upon explorative, non-standardized surveys in order to guarantee an extensive collection of information and opinions. One delicate question was about focusing upon one single industry or choosing case studies from different ones. It appeared useful to gather information from different industries in order to get an impression about the different ways in which this kind of co-location can be implemented. As a result, two prominent case studies were selected: the first one examines the Industrial Park ‘Smartville’ of Micro Compact Car (MCC) GmbH, which produces the ‘smart’ in Hambach, France; the second concerns the modular software solutions from Oracle Switzerland in Bottmingen, Switzerland.

Case Study 1: MCC’s Industrial Park ‘Smartville’ Although there are other examples of co-location arrangements in the automotive industry (Freiling & Sieger, 1999), the cooperation between MCC, a DaimlerChrysler subsidiary, and five component manufacturers seems to be the most delicate example of co-location. MCC established an industrial park called ‘smartville’ in Hambach-Sarregemuines, where component suppliers and MCC work together closely in order to improve the concept of the city car ‘smart’ and to manage production. The industrial park represents an innovation in three ways: – Product innovation: The ‘smart’ itself represents a product innovation in the new segment of micro cars. After serious problems while launching the product in the market, MCC is still facing substantial buyer resistance and has missed several sales targets. – Process innovation: MCC established a process innovation by implementing a modular approach to manufacturing the car that is new to the

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automotive industry. The architecture of the car consists of a few highly integrated modules and systems. – Organizational innovation: MCC’s co-location represents an organizational innovation, because MCC developed a completely new design of cooperation between the OEM on the one side and the part-supplying component manufacturers (‘system partners’) on the other. MCC worked out life-cycle contracts with every partner, following a single source approach, and gave full responsibility for specific modules to particular first-tier suppliers. MCC’s role in the project was as a central coordinator (‘hub firm’) to define production standards, to improve process flows, to foster product development, and to facilitate coordination in order to establish an efficient network. Less than 20% of the value-adding activities are performed by MCC itself. More recently, Pfaffmann (2001, p. 37) reports that MCC’s portion of value-adding activities ranges about 20% in research and development and 10% in producing parts and providing services. The cornerstones of MCC’s industrial park can be described as follows: (1) MCC intents to play the role of a ‘hub firm’ by giving the responsibility for developing and delivering single ‘smart’ modules completely to the system partners. (2) MCC wishes to control the suppliers by a high degree of customer integration:
MCC defines the surrounding infrastructure of the ‘smart’ production in the industrial park. Fig. 5 contains a blueprint indicating where the facilities of the system partners have to be located.
MCC defines the quality standards and price targets of the modules to be delivered.
MCC expects the system partners to deliver just-in-time. (3) MCC wishes to benefit from supplier’s capabilities more or less exclusively by a high degree of spatial supplier integration:
at the Hambach site with regard to producing modules and providing services, and
at the Remmingen site with regard to research and development where the corresponding facilities have been erected. Keeping the innovative facet of the project in mind, it is not surprising that the partners were facing substantial problems in implementing the industrial park. The basic problems can be summarized as follows: – Relationship between the system partners and MCC: With regard to the cooperation with MCC, the most important problems were: matching the

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Brakes Front axles Front module

Assembly Drivetrain

Drive module

Cover-Parts Assembly Interior/ Exterior

Meeting Point

Assembly Cockpit

Doors

Quality Control, Ignition of the completed vehicle's engine

Delivery

Production Preparation Center

tasks to be performed by MCC

Tridion-Frame

Fig. 5.

Painting

tasks to be performed by MCC's system partners

MCC’s Industrial Park (Pfaffmann, 1998).

high-quality standards of MCC, arranging the high level of flexibility MCC expected from their system partners, being actively engaged in new product development, creating an atmosphere of mutual trust to deliver confidential information to MCC, and arranging close adaptations to MCC’s facilities. The reason why all those adaptations were necessary was that MCC determined exactly the assembly process and the location of every system partner within the plant in order to guarantee an efficient process of value creation. This approach enables MCC to produce cars in about 4 h. – Relationship between the system partners and their suppliers: The system partners had to take responsibilities they never had before. In particular, it was hard for them to manage the supply chain consisting of many lower ranked component suppliers (second- and third-tier suppliers) in almost every respect (quality, logistics, development of new concepts, cost efficiency, trust). – Relationship among the system partners: Due to the spatial closeness between the system partners, even bilateral adaptations between these

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parties were necessary in order to arrange a well-fitting workflow. As a consequence, even during the start-up phase substantial coordination was necessary. With regard to recent developments, the partners reported getting many of the initial problems fixed. During the interviews, the following achievements were noted: – MCC became an efficient network coordinator after all. This means that MCC was able to keep in touch with recent important developments in the automotive component industry by being in permanent contact with the system partners. Of course, MCC is not in the position to accumulate component-specific know-how in a comparable way as in the case of a ‘make’ decision. Nevertheless, MCC is well informed about important trends in the supply industry and was therefore successful in extending the knowledge base in a particular way. – Moreover, MCC is in an excellent position to achieve an amount of product specificity matching internal requirements. The work of the system partners can be ‘co-managed’ by MCC; MCC is able to define framegiving specifications without undermining the autonomy of the system partners who are free to choose their individual response. – MCC’s industrial park experience indicates that co-location goes along with a state of close interdependence. It needs to be stressed that it is a state of dependence without significant power asymmetries that makes it easier to cooperate in an atmosphere of trust, which is not at all a representative state in component manufacturing. With regard to typical performance measures, the most important outcomes are: (1) realizing a level of product quality which compares to good practice in world-class automotive component manufacturing, (2) arranging a very low level of lead times, and (3) matching the target prices and the target costs in a satisfying way. It is worth mentioning that all the achievements went along with significant transaction costs due to the necessity of bilateral adaptations between the system partners and MCC and among the system partners. For all the partners of the industrial park, those transaction costs can be regarded as investments in a close relationship. The pay-off depends on the other parties’ behavior and the duration of cooperation. With regard to the system partners in particular, they reported to improve their market position by (a) being single source, (b) arranging life-cycle contracts, and (c) gaining

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reference potential and reputation. The results correspond with findings of other studies (i.e. Bolton, 1998).

Case Study 2: Oracle’s modular software solutions Software firms are working in rather dynamic market conditions. In many situations, the business is technology-driven and most of the customers are not aware of the various opportunities new software solutions are offering. Moreover, there are many customers in business markets demanding specific software applications as well as additional services around the software. With regard to the fast-developing opportunities of using software and the permanently changing market situation, customers often perceive substantial risks in software buying decisions. It is possible to state that the search and experience qualities in software purchasing are decreasing, while credence qualities (Nelson, 1970; Darby & Karni, 1973) are increasing in such a way that the business turns into a one of ‘‘credence transactions’’ from the customer’s point of view. More and more customers need full-service offerings. Therefore, many software firms decided to provide more sophisticated software solutions, even moving toward co-location. However, the projects largely differ from those in the automotive industry (Freiling & Sieger, 1999). Oracle Switzerland is one example. There are some key accounts of Oracle which demand specific software applications to turn traditional process management into a computer-aided one or to manage computer-aided processes in a better way. Among other suppliers, Oracle realized that in some cases only a close collaboration at the customer’s site could be an adequate response to learn about the customerspecific software solution. Therefore, software engineers were sent out to the customer in order to acquire customer-specific know-how. To meet customer requirements, it is important to know exactly how the customer’s processes work and what kind of problems the customer’s staff have. The workflows and routines of the customer in particular need to be considered when comprehensive customer-specific IT solutions are to be developed. Without a precise understanding of the customer’s requirements, software engineers are not able to make the right decisions. Therefore, implemented solutions often need to be adjusted because of non-conformance to certain internal process requirements of the customer. In other words, the personnel must know the customer’s processes almost as well as the customer’s staff do. The role develops in a certain way from software engineering to business process consulting.

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In this respect, spatial supplier integration is a useful means to arrange closeness to the customer and improve customer satisfaction. Furthermore, permanent or quasi-permanent presence of a team at the customer’s site provides a base from which to strengthen customer ties by providing software-related services. When a quick response by the software provider is needed, the supplier’s task force usually faces serious problems because its engineers are not fully aware about the customer’s specific hardware/ software configuration. Usually, it takes precious time to analyze the specific situation. Such problems can be solved by making use of spatial supplier integration. Staff members of the software supplier are assigned to the key account and quite often they spend predominant parts of their working time at the customer’s site. Their job is about providing the following software-related services: software consulting, process consulting, implementation, education of customer’s staff, troubleshooting, and maintenance. Oracle decided to establish a modular system of ‘support service offerings.’ Different contract modules (see Fig. 6) enable Oracle to match standard requirements of non-key customers on the one hand and highly-specific

extent of the service package

Oracle Bronze Oracle Silver Oracle Gold degree of closeness to the customer

Expert Online Expert Packages Expert Onsite

Oracle's philosophy: "... a dedicated full-service support center at your site"

Expert Satellite

Fig. 6.

Oracle’s Modular Contract Approach.

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requirements of key accounts on the other hand more precisely. Such a co-location is part of Oracle’s support service offerings, promoted by the slogan ‘a dedicated Oracle support center at your site’ and combined by selecting service modules as demonstrated in Fig. 6. A core element of Oracle’s co-location solution is support account management in which one or more service people work at the customer’s site with the only task of managing the key account’s software-related problems. This support account management is the subject of service contracts between Oracle and some very special key customers. In the case of permanent presence, usually an atmosphere of trust in the Oracle staff emerges. This is useful to the customer-specific team of Oracle engineers because this way they are able to gain a deeper understanding of the customer’s problems and to use the co-location opportunity for product and service improvements, deepening the relationship. This close and trustful cooperation not only causes increasing customer loyalty but also proves to be very useful when Oracle is trying to gather information about competitors. Customers are willing to give information about Oracle’s position in the market compared to relevant competitors. Another interesting opportunity is the chance to manage so-called ‘business migration’ projects. These business migrations represent the switch of a customer from one software supplier to another. When these switches occur, Oracle is able to analyze the former software solution and to install a completely new one. As a result, Oracle learns a great deal about the way competitors implement customer-specific software applications. All these factors clearly indicate that spatial supplier integration can be an instrument to achieve competitive advantage. However, Oracle recognized that this ambitious way of co-location is only appropriate in the case of ‘major’ key accounts. With regard to the two case studies discussed above, we can distinguish between bilateral agreements between one supplier and one customer (Oracle) and network-like arrangements (MCC). Especially in case of substantial resource gaps, it is more likely that a group of suppliers will fill these gaps in an adequate way. Moreover, a distinction is possible with regard to the degree of cooperation. On one hand, the cooperation can be organized as resource pooling without substantial knowledge transfer processes between the partners. On the other hand, the opportunities for knowledge accumulation and competence building can be the central reason why customer(s) and supplier(s) cooperate. Therefore, a combined resource and competence perspective can be an appropriate theoretical background for a closer analysis of co-location.

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A COMBINED RESOURCE AND COMPETENCE PERSPECTIVE ON CO-LOCATION When aspects of vertical coordination are to be addressed in theoretical terms, very often researchers favor the transaction-cost approach (TCA) developed by Coase (1937) and Williamson (1985). However, the TCA is an approach with some major deficiencies, as many researchers have pointed out (i.e. Blois, 1990; Sydow, 1992). In particular, the problem of inconsistencies in argumentation and the limited ability to analyze evolutionary aspects lead to the conclusion that theoretical alternatives should be considered. A combined resource and competence perspective represents a promising approach in addressing some of the most important aspects of spatial supplier integration (see Fig. 7). The combined resource and competence approach tries to put forward the question of how sustaining competitive advantage can be achieved. The relevant basics can be summarized as follows1: – Uncertainty in economic decision-making and incomplete markets cause asymmetries concerning the dispersion of information and knowledge between economic actors as well as long-lasting differences between firms with regard to firm-specific resource endowments. – Making economic decisions leads to irreversibilities and commitment to a specific organizational path (Ghemawat, 1991; Ghemawat & Sol, 1998). – Therefore, firms are heterogeneous in their markets because they have distinctive competences based on different endowments of resources and capabilities. In particular, firm-specific capabilities and derived competences are dominant variables if sustainable competitive advantage of single firms in the market process is to be explained (i.e. Hamel & Prahalad, 1994).

Resources

Inputs

refining

Fig. 7.

Competencies

ability to acitivate according to market requirements

Activities

concrete activation

Performance

effect

Reasoning of the Resource-Based View.

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According to Sanchez, Heene, and Thomas (1996, pp. 7–8), capabilities can be understood as ‘‘repeatable patterns of action in the use of assets to create, produce and/or offer products to a market,’’ whereas competences reflect the ‘‘ability to sustain the coordinated deployment of assets in a way that helps a firm achieve its goals.’’ – The accumulation of idiosyncratic knowledge and the use of this knowledge in the market process help to create new market-relevant knowledge and to foster competence building. Competitive advantages resting upon unique resources and especially capabilities are difficult for competitors to tackle, as there are usually forces protecting imitation and sometimes even substitution of critical resources and capabilities. In the literature, these forces are termed ‘isolating mechanisms’ (Rumelt, 1984). These mechanisms – described more detailed in the literature (i.e. Lippman & Rumelt, 1982; Rumelt, 1984; Dierickx & Cool, 1989; Teece, Pisano, & Shuen, 1990; Barney, 1991; Mahoney & Pandian, 1992; Sanchez & Heene, 1996; Eriksen & Mikkelsen, 1996; Oliver, 1997) – are usually tacit knowledge, interconnectedness/social complexity, asset mass efficiencies, time compression diseconomies, and causal ambiguity. The existence of asymmetrical resource endowments between firms is a basic reason why firms are engaged in interfirm collaboration in general and in outsourcing issues in particular. Sanchez et al. (1996, p. 7) use the term firm-addressable resources to stress that there are important assets outside the firm ‘‘which a firm does not own or tightly control, but which it can arrange to access and use from time to time.’’ Firm-addressable resources and capabilities are the basic reasons why firms make use of co-location. Spatial supplier integration helps to ensure that the acquisition of firmaddressable resources will be put forward in a more goal-directed way from the customer’s point of view. Interfirm cooperation in general does not guarantee that the external assets of the partner firm can be used in the way the firm wants to use them. In the case of spatial supplier integration, some assets of the supplier will be dedicated to the customer for a longer period of time, usually matching customer requirements well. According to the Sanchez et al. (1996, p. 7) distinction between firm-specific resources (‘‘those which a firm owns or tightly controls’’) and firm-addressable resources (‘‘those which a firm does not own or tightly control, but which it can arrange to access and use from time to time’’), co-location leads to the following situation: The site specificity of the resources usually has no consequences concerning ownership. However, arrangements such as colocation cause a state of more or less tight control. The MCC case study

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clearly demonstrates the substantial opportunities of MCC to make use of the resources of the system partners. Therefore, co-location causes an interesting intermediate state between firm-addressable resources and firmspecific ones for a long time. This situation appears due to the state of ‘‘defacto vertical integration’’ described by Monteverde and Teece (1982) and Teece (1982) in another theoretical context. This hybrid state of critical resources helps to explain why it is possible for firms to make use of outsourcing benefits while avoiding its pitfalls when co-location takes place. With regard to co-location in a combined resource and competence context, there are two main reasons why such a close cooperation makes sense: – The spatial supplier integration is gap-oriented: The gap, caused by missing or underdeveloped resources of the customer, needs to be closed by the help of one or even more suppliers. There are integration arrangements with only one supplier working at the customer’s site and networks of suppliers collaborating according to the customer’s requirements in ways such as the industrial park highlighted above. The pooling of resources is the key to partnership success. – The spatial supplier integration is learning-oriented: It is not enough to pool a supplier’s and a customer’s resources at the customer’s site. It is also necessary to arrange their integration. The production of partnershipspecific knowledge is perhaps the most crucial and difficult part in competence building. In both cases there is one main question to be answered: How well do the resources of the partners fit together? This problem of asset complementarity in an inter-firm context needs to be considered carefully, because closing existing resource gaps as well as triggering learning advantages can only be achieved if a resource fit is achieved. However, in business practice there are usually no perfect fits. Partner-specific adaptations are necessary. These adaptation processes help to arrange partner-specific knowledge. Nevertheless, not every situation of partner-specific adaptations leads to the expected results, and sometimes they fail. Moreover, adaptations are costly. This stresses the need for a careful assessment of potential partner firms with regard to their resource endowments before co-location takes place (to assess the synergistic potential of technical and social resource complementarity). MCC had the chance to make use of the considerable purchasing experience of DaimlerChrysler and negotiated with several eligible suppliers intensively in order to select their system partners. Oracle’s customers managed the situation similarly. Summing up the examples of co-location as

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resource pooling, it becomes evident that the way the suppliers specialize their resources forms a basis for the customer’s decision to make use of spatial integration. If there are critical tasks of the customer to be performed where their own resource endowment is not strong enough, and if there are well-fitting partner firms accessible, co-location as a resource gap-closing arrangement becomes a viable alternative. Whereas the general resource-based view is an adequate reference point for analyzing co-location in terms of resource pooling, learning partnerships need a more focused theoretical background. Using the competence perspective appears to be appropriate, because organizational learning can be used to foster competence-building activities as major goal of these partnerships. Competence building can be defined according to Sanchez et al. (1996, p. 8) as ‘‘(...) any process by which a firm achieves qualitative changes in its existing stocks of assets and capabilities, including new abilities to coordinate and deploy new or existing assets and capabilities in ways that help the firm achieve its goals. Competence building creates, in effect, new options for future action for the firm in pursuing its goals.’’ Learning partnerships are founded in order to create synergies. The cooperation, again, is based upon pooling different resources. However, one decisive difference is that competence building by interorganizational learning becomes the main underlying target of such partnerships. This means that the principle of a more or less strict way of partitioning work, well known from gap-closing arrangements, will be substituted by a close collaboration represented by mutual exchange of knowledge between the participating firms. Knowledge management is centered around the two closely interconnected tasks of knowledge accumulation and knowledge integration. Sharing knowledge between organizations can be understood as a basis for developing distinctive competences in competition (Leonard-Barton, 1995; Pierick & Beije, 1996). Leonard-Barton (1995) points out that competence-building activities of knowledge creation are based upon (1) shared problem-solving, (2) implementing and integrating new technologies and methodologies, (3) constant formal and informal experimenting, and (4) pulling in expertise from outside. The Oracle case study clearly indicates that a supplier’s technological skills and capabilities need to be combined with customer know-how about managing internal processes. Only if such knowledge integration takes place is it possible to make use of the various opportunities of IT systems. With regard to knowledge accumulation, the partners together are able to absorb a higher level of knowledge than each on their own. In this context, the notion of ‘absorptive capacity’ put forward by Cohen and Levinthal

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firmspecific resources

absorptive capacity

routines performance

firmadressable resources

interconnectedness asset mass efficiencies

Fig. 8.

Resource- and Competence-Based Determinants of Co-Location Success.

(1990) is useful in explaining the advantages of spatial supplier integration (see Fig. 8). Absorptive capacity means the ‘‘(...) ability of a firm to recognize the value of new, external information, assimilate it, and apply it to commercial ends’’ (Cohen & Levinthal, 1990, p. 128). Obviously, a spatial supplier integration is able to expand this capacity, as the case studies reveal. Whereas Oracle tries to exploit the enhanced absorptive capacity, MCC’s industrial park could be improved by making use of this potential, especially if the corresponding firms will collaborate more closely. Both knowledge integration and knowledge accumulation help to acquire and create knowledge, the most important driving forces of competence building. However, the question is still open of how knowledge management in the case of spatial supplier integration is to be practiced in order to foster competence building. One important suggestion is made by Nonaka (1994), who promotes four different kinds of knowledge conversion according to the epistemological and ontological dimension of knowledge: socialization, combination, externalization, and internalization. Indeed, there are certain requirements to be satisfied when achieving competitive advantage based upon competences. As Krogh and Roos (1992) point out, knowledge is only useful to competence management if it is on the one hand not bound to a single person and on the other hand not generalized in a way that almost everybody is able to access it. Transforming knowledge in a way that a limited group of persons shares it seems to be the most promising way to foster competence building, because competitors are confronted with serious problems when trying to acquire it. Organizational knowledge is group-specific and not dependent on a single person who could be hired away. This makes acquisition almost impossible and, therefore, safeguards critical resources.

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Routines The case studies reveal that co-location fosters the emergence of group-specific knowledge as usually only parts of a supplier’s and a customer’s staff work together closely. Besides this ontological aspect, knowledge management must consider epistemological matters. In particular, there is an ongoing debate in the literature (see Sanchez, 1997, pp. 163–174) whether knowledge should be explicit or tacit in the face of the threat of imitation by competitors. The case studies reveal that the development of organizational and especially interorganizational routines (Nelson & Winter, 1982) plays a key role when co-location success is to be explained. Grant (1991) defines routines as ‘‘regular and predictable patterns of activity which are made up of a sequence of coordinated actions by individuals.’’ Therefore, routines determine how different assets will be put together. But routines not only structure the activities of a firm but also the activities of a network. The more the partners are able to develop such routines and to embed specific knowledge, the more increases of efficiency and effectiveness were observed. MCC’s problems in the start-up phase were in particular a problem of a lack of routines and of badly developed routines. Routines are basic in order to make use of the third isolating mechanism: interconnectedness. Interconnectedness/Social Complexity Of course, it is usually impossible for competitors to get a complete impression about rival’s resource endowment and its development over time because of the complexity of resource ties in resource networks (Dierickx & Cool, 1989; Reed & DeFillippi, 1990; Eriksen & Mikkelsen, 1996). With regard to interorganizational resource networks, the problems of complexity are even more substantial. Interconnectedness means connecting the resources of the partner firms in a both effective and efficient way to establish a structure that can hardly be imitated or substituted by competitors – the basis of any sustainable competitive advantage. Especially in the case of a complex resource network like MCC’s industrial park, it is very hard for ‘outsiders’ to find concrete ways of imitation. Asset Mass Efficiencies As mentioned above, every kind of spatial supplier integration is based upon the pooling of resources (i.e. Dierickx & Cool, 1989; Markides & Williamson,

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1994). Such pooling usually makes sure that critical gaps in a customer’s resource endowment can be compensated. Having arranged this, the coordination will be much more effective. The asset mass is growing, and in learning partnerships the complementarity of pooled resources sometimes produces critical mass effects (Dierickx & Cool, 1989). Knowledge is accumulated in a way that new ideas may be generated when supplier and customer personnel work together hand in hand. The MCC case study reveals that after aligning production and R&D facilities of both MCC and system partners, the collaboration was gaining effectiveness and efficiency due to the fact that important knowledge could be transferred between the partners. Moreover, the emergence of interorganizational routines appeared to be fundamental in explaining such asset mass efficiencies. All in all there are some final conclusions to be drawn: – In order to explain the success (or failure) of co-location arrangements, it is useful to analyze the isolating mechanisms of the resource-based view. The more the firms are able to make them work, the more likely we can observe success such as achieving customer satisfaction, increasing customer loyalty, and sustaining competitive advantage. – Moreover, it is necessary to not only analyze single isolating mechanisms but the interplay among the mechanisms as indicated in Fig. 8. However, it is sometimes difficult to recognize how the mechanisms are intertwined. More empirical research is necessary to gain deeper insights into the isolating mechanisms. – If the customer has a competence to manage supplier networks (see Gemu¨nden & Ritter, 1998) in a goal-oriented way, he is able to enhance the potential of co-location arrangements – although there is no empirical evidence of network superiority. However, the discussion of co-location indicates (again) the necessity to gain further insights into developing capabilities in managing organizational networks.

IMPLICATIONS CONCERNING THE MARKETING OF INDUSTRIAL SERVICES If it is understood that marketing should provide: 1. customer orientation, 2. an account of the circumstances in the business environment, and especially 3. sustained competitive advantage,

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Environmental scanning, benchmarking, influences of consultants and new managers Increasing causal ambiguity and time required to change system elements

Strategic Logic Management Processes

data

Intangible Assets

data

Tangible Assets

data

Operations

firmaddressable resources

Products Offerings Market data, revenues

Fig. 9.

Product Markets

Competing firms

The Open Systems View of the Firm (adapted from Sanchez & Heene, 1997, p. 17).

then the following conclusions may be drawn: (1) Service marketing must take the resource levels of a firm into account. According to Fig. 9, marketing activities do not have to start at the product level but may begin at ‘deeper rooted’ levels of the firm, such as strategic logic, management processes, and resources. Competencebased marketing acknowledges this necessity and especially in the case of co-location it becomes clear why resource management plays a particular role in successfully marketing industrial services. In this context, the necessary resource adaptations are an important foundation for arranging closeness to the customer. (2) Spatial supplier integration goes along with safeguarding resource adaptations. Marketers of industrial services within co-location arrangements have to be careful in order to trigger processes (‘operations’) that provide the right level of customer integration with regard to efficiency and effectiveness. This is only possible if the parties develop a competence to cooperate. Based on their resource- and process-oriented dispositions, the supplier may be able to reduce wasted resources on activities (increase efficiency) and to customize products and services according to the customer wants and needs (increase effectiveness). This means for the supplier offering full-service packages tailored to the customer’s

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individual needs to meet the customer’s requirements, while closely interacting with the customer to reduce the risk of inefficient service offerings due to over-sized service contracts. (3) Service marketing in industrial settings can substantially benefit from resource pooling. As shown in this chapter, co-location implies several resource adaptations between the partners, sometimes impacting the way a particular firm is managed. However, it is much more important that an adequate ‘playground’ for the partners be prepared if it is possible to pool the resources of different parties in a customized way. Moreover, service marketers in this particular setting have to be alert to find partners with a promising resource fit (Freiling, 2000). (4) Services marketing in business-to-business markets can benefit from learning in transactions. The case studies as well as the resource-based considerations above indicate that every single transaction bears opportunities for on-going improvements. Therefore, services marketers have to be alert in order to gather transaction-specific information and to learn about a customer’s problems to reconfigure their firmspecific resource endowment and to improve the co-location conditions over time. The feedback loop on the left side of Fig. 9 clearly indicates this. On the right side of Fig. 9, looking out for new, promising firmaddressable resources appears to be a continual challenge for successfully marketing industrial services.

NOTES 1. Founded primarily by Penrose (1959), Teece (1982, 1984), Rumelt (1984), and Wernerfelt (1984), there have been many follow-up publications making significant contributions to theory development, such as Barney (1986, 1991), Grant (1991, 1995), Dierickx and Cool (1989), Amit and Schoemaker (1993), Peteraf (1993), Hamel (1994), Sanchez et al.(1996) Sanchez, Heene, and Thomas (1996), and Sanchez and Heene (1997).

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STRATEGIC IMPLICATIONS OF A COMPETENCE-BASED MANAGEMENT APPROACH TO ACCOUNT MANAGEMENT Derrick Philippe Gosselin and Aime´ Heene ABSTRACT Account management has a rich tradition starting in the early 1960s. At the same time, the concept is still ill-defined and under-researched. Consequently, some basic research questions remain unanswered. Is account management a sales-, marketing-, or strategy-driven process? Should the primary focus be on the management of sales activities toward important customers or should account management focus on relationship building and value creation in order to create a competitive advantage? We take a new perspective and examine account management from a (strategic) competence-based point of view. We study the relationship between account management and competence leverage. The central thesis is that account management is more strategically oriented than sales- or relationship-oriented. Finally, we introduce the concept of strategic account and strategic account management and propose an agenda for further research in this domain.

Research in Competence-Based Management, Volume 1, 173–196 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01008-X

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INTRODUCTION Over the last 10 years, both marketing academics and practitioners have given widespread attention to relationship marketing (Day, 1999; Dwyer, Schurr, & Oh, 1987; Ha˚kansson & Snehota, 2000; Morgan & Hunt, 1994; Webster, 1992) and to competence-based management (Hamel & Heene, 1994; Sanchez & Heene, 1997, 2000, 2004). Consequently, one would expect to find a rich body of literature on theoretical developments and empirical research in the domain of building and leveraging customer relationships with important clients in business markets, also called account management. One can, however, observe that only limited academic research has been done from a relationship marketing perspective on account management (Gosselin, 2002; Homburg, Workman, & Jensen, 2002), and nearly no research has been undertaken on account management from a competencebased management perspective (Wilson & Millman, 1998). In spite of the recognition of the important link between competencebased management and relationship marketing in business markets and the importance stressed by scholars on the interaction between the buyer/seller dyads, theoretically driven research in the domain of account management in relationship to competence-based management is still in its early stages. It is only recently that quantitative research has been reported in leading academic journals (Arnold, Birkinshaw, & Toulan, 2001a; Birkinshaw, Toulan, & Arnold, 2001; Homburg et al., 2002; Workman, Homburg, & Jensen, 2003). The main objectives of this study are to: (1) synthesize the current body of knowledge on account management, (2) analyze the relationship between account management and competence-based management, and (3) suggest an agenda for further research on the relationship between account management and competence-based management.

CONCEPTS BEHIND ACCOUNT MANAGEMENT As a result of the impact of globalization, mature business markets in most developed countries, increased buying power of customers (McDonald & Rogers, 1999), information and communication technologies and mass customization (Pine, 1992), companies are faced with high levels of competition in a rapidly changing environment. In order to bring stability to their

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operations and to respond quickly and flexibly to accelerating change in technology, competition, and customer preferences, companies have tried to create new business organizations (Homburg et al., 2000). These new forms of organization emphasize partnerships and strategic alliances with customers and suppliers instead of putting the focus on market transactions (Day, 1999; Doz & Hamel, 1998; Webster, 1992). In situations where structural change is due to supply base rationalization, one type of seller-initiated strategic alliance is account management (Homburg et al., 2000; Millman, 1994). Due to the existing relationship between customer retention, customer satisfaction, and customer loyalty to company performance and shareholder value creation (Reichheld, 2001, 1993), marketing academics have turned their attention to account management as a way of implementing long-term buyer/seller relationships in business markets. Account management from this relationship marketing perspective occurs as the natural development of a customer-focused organization (Capon, 2001; Day, 1999; McDonald, Millman, & Rogers, 1997). The concept of account management, perhaps first proposed by Tosdal (1950), was supported by the founding of the National Account Management Association in 1965 to serve the interests of more than 250 companies practicing early forms of account management at the time, and subsequently gained prominence in marketing theory, research, and practice in the mid1970s (e.g., Shapiro, 1974; Lodish, 1976). Several market environment conditions contributed to this significant change in the way companies sold their products to large customers. Those conditions included (1) increased concentration of buying companies accounting for a large portion of the sales and increased pressure to improve services, (2) increased geographic dispersion of buyers of the same company, (3) increased pressure on cost and communication, (4) increased desire to develop partnerships, and (5) increased sophistication of buyers. To address these new pressures, some companies assigned one salesperson the responsibility to manage and develop a limited number of key clients. Very rapidly, it could be observed that these sales people did much more than just sell products. They increasingly became in charge of understanding the customer’s operations in order to increase the efficiency and productivity of these important customers. They took responsibility for selling, delivery, coordination of activities, monitoring progress of orders, monitoring inventory, assuring the installation, handling billing, and many other activities (e.g., Shapiro & Posner, 1976). These early attempts to address the needs of a limited number of key clients proved to be successful. Studies report benefits for both the customer

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as the suppliers. The customer would benefit from a single interface to resolve problems combined with uniform prices leading to better cost control, increased availability, reliability, and delivery. The supplier would benefit from insured, continued orders, and a reduction of selling costs (e.g., Pegram, 1972). The evolution of this new type of sales process resulted in two schools of thought that reflect the familiar but fundamental differences between the selling concept and the marketing concept (Leavitt, 1960), and between transactional and relational marketing (Jackson, 1985). The selling school focuses on the need of the seller to generate sales to convert its products into cash, and therefore focuses on a sales-driven transactional approach to the customer. Its proponents usually provide pragmatic, ‘‘how to do it’’ prescriptions for generating sales, but these often lack serious theoretical or empirical underpinnings. We refer to this school as the ‘‘Key Account Selling’’ (KAS) school. The marketing school focuses on understanding and satisfying the needs of the customer by providing the customer not only with a product, but with a broad set of supporting activities involved in creating, delivering, and consuming or using the product. Proponents of the marketing school tend to prescribe developing close, long-term relationships with key customers, and often offer theoretical and empirical support for such prescriptions. We refer to this school as the ‘‘Key Account Marketing’’ (KAM) school. Under KAS, the objectives are simple: sell more and make more profit with your existing customers who already represent a major part of the revenues of the company. Because of this primarily sales-driven approach, the emphasis toward key customers is operational and short-term sales driven. Relationship building in this case is a means to increase sales. The KAS approach does not focus on strategic objectives such as the creation of entry barriers. Key account selling started to appear in the research literature in the mid-1970s in the U.S.A. (Weilbaker & Weeks, 1997). When an industry or a company faces a growth decline, companies start to realize more than ever the benefits of customer loyalty; keeping existing customers is more cost-effective than systematically finding new ones (Reichheld, 1993). The globalization of the economy, the maturity of most business markets in the developed world, and the increased power of customers because of mature markets, have all contributed to a rethinking of the way companies approach and service their customers. Companies realize that not building a competitive advantage with key customers can have a dramatic impact on revenues and profitability if a key account decides to switch suppliers.

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The second school (i.e. KAM) takes a more relationship marketing approach. Its purpose is to create strategic alliances with key customers and suppliers in order to become the sole or primary supplier. Through these strategic alliances, companies want to create a competitive advantage and bring stability to their operations when faced with high levels of competition in a rapidly changing environment. The purpose of KAM is to create a longterm relationship with key customers by giving them special attention through better and more dedicated service and customer-specific solutions compared to other customers (McDonald & Rogers, 1999). The business logic behind this approach is that these key customers represent both a major opportunity for cost reduction and profitable growth and a major risk if they stop buying. As a result, companies allocate special resources to satisfy key customers in order to create entry and switching barriers. A company should therefore identify its key customers, set up a dedicated marketing and sales channel, and manage the interaction with the most important customer from a strategic point of view. KAS and KAM are marketing approaches found primarily in business markets (Capon, 2001). This is due to the special structure of the customer base in these types of markets. Business markets typically have a limited number of customers and the structure of the customer base follows a Pareto distribution: 20% of the customers generate 80% of revenues (Sheth & Parvatiyar, 2002). The account management concept is, however, not restricted to business markets. It progressively becomes possible to apply some of the concepts to consumer markets as well (Peppers & Rogers, 1997). The existence of the two schools of thought creates confusion as to what the nature, processes, and objectives of account management are. However, while being different, the terms KAM and KAS are used interchangeably. It should however been clear that KAS focuses on short-term company sales increases, while KAM has the ambition to create a competitive advantage through a well-established long-term relationship. What appeared to be a simple concept of keeping your most important customers and selling more to them turns out to be a very complex process requiring not only the implementation of a dedicated sales and marketing approach, but also the development of a well-defined company and marketing strategy as well. Ultimately, the challenge is to create a customerfocused organization implying all the complexities to build a market-driven culture (Day, 1999). When companies realize the difference between ‘‘selling more to important customers’’ and ‘‘rethinking the way to approach their main customer base from a strategic point of view’’, they are ready to move from KAS to KAM.

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WHAT IS A KEY ACCOUNT? The definitions of key account reflect the historical evolution of the concept over 30 years. This leads to multiple proposed definitions resulting in a series of different approaches and concepts behind the general terminology of key account. Both from an academic and a practitioner point of view, different words with different meanings are used to indicate an ‘‘important customer’’. Two terms commonly used today are ‘‘key account’’ and ‘‘global account’’ (Homburg et al., 2002; Montgomery, Yip, & Villalonga, 1998). For an overview of the terminology commonly used, see Table 1. We note as well that practitioners use the terms ‘‘key account’’ and ‘‘strategic account’’ increasingly as synonyms. One can observe that over the years there has been a shift in use of these terms. Publications from the 1980s refer to ‘‘national’’ or ‘‘major account’’ (Colletti & Tubridy, 1987; Shapiro & Moriarty, 1980). From the mid-1990s onwards, important customers have been called ‘‘global key accounts’’ (Millman, 1996; Yip & Madsen, 1996) or ‘‘strategic accounts’’ (Verbeke & Nagy, 2000). The adjective placed before the term ‘‘account’’ highlights two characteristics: (1) geographical spread (local, national, international, multinational, global), and (2) importance (large, big, major, key, strategic) of

Table 1.

Terminology Used for Key Account.

Terminology

Year

Reference

Large, big, or major account National account

1976 1980

Important account Key client International account Key account

1982 1992 1994 1995

Global key account Global account

1996 1996

Worldwide account Multinational account Global strategic account Strategic account

1998 1998 1999 1999

Barrett (1986); Colletti and Tubridy (1987); Shapiro and Posner (1976) Boles, Pilling, and Goodwyn (1994); Platzer (1984); Shapiro and Moriarty (1980); Weilbaker and Weeks (1997) Fiocca (1982) Pels (1992) Verra (1994) Homburg et al. (2002); McDonald et al. (1997); Millman and Wilson (1995); Workman et al. (2003) Millman (1999); Yip and Madsen (1996) Birkinshaw et al. (2001); Millman (1996); Montgomery and Yip (1999); Montgomery et al. (1998); Yip and Madsen (1996) Montgomery et al. (1998) Montgomery et al. (1998) Wilson (1999a) Verbeke and Nagy (2000); Wilson (1999a); Gosselin (2002)

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Strategic Implications of a Competence-Based Management GEOGRAPHY Global

SAM International

KAM

Local

Supplier

Customer

IMPORTANCE Sales Driven Relationship Marketing Driven

KAS

Strategy Driven

APPROACH

Fig. 1.

Characteristics of Key Accounts.

the customer for the supplier (Fig. 1). This evolution in terminology (i.e. from major account and national account previously to global key account and strategic account currently) is due to two reasons: firstly, the impact of globalization (Yip & Madsen, 1996) on the customer–supplier relationship during the last two decades, and secondly, the acceptance that a special marketing approach is required if suppliers want to enhance their competitive position toward strategically important customers. Key Account: Definitions Earlier definitions define a key account simply as being an ‘‘important customer’’ for the supplier (e.g., Barrett, 1986; Colletti & Tubridy, 1987; Fiocca, 1982). The problem of defining a key account on the sole basis of the customer’s characteristics is that one risks losing a major dimension. Indeed, key accounts can be both large and small, can be local, international or global, they may be prepared to establish a strategic relationship or may be of a highly opportunistic nature. Taking these considerations into account, Millman and Wilson (1995) define a key account with the sole condition that the supplier believes that the customer is of strategic importance to him (Table 2). As concerns the criteria used to consider a customer strategically important, they refer to the criteria mainly defined by Fiocca (1982) and Colletti and Tubridy (1987). These strategic criteria were either adopted as such or

Terminology Important account

Key account Global account

Overview of the Most Important Definitions for Key Account. Definition

‘‘Generally industrial sellers consider an account very important when its purchases or potential purchases are larger than those of other buyers. However other elements can define an account as an ‘important account’ When the account is particularly prestigious or market leader, industrial sellers may only marginally consider the amount of purchases. The factors by which the strategic importance of the account can be grouped are: volume or dollar value of purchases, Potential of the Account, Prestige of the Account, Customer Market leadership, Open new markets, Company’s Business Diversification, Improve Technological Strength, Improve or Spoil other relationships.’’ ‘‘A major account is a customer who typically Involves several people in the buying process before a sales takes place, Purchases a significant volume both in absolute dollars and as a percent of a supplier’s total sales, Buys centrally for a number of geographically dispersed organizational unit, desires a long term, cooperative working relationship as a means to innovation and financial success, expects specialized attention and service: information and reports about usage, logistic support, inventory management, favorable discounts, ideas for line extensions or new applications.’’ ‘‘A key account is a customer in a business-to-business market identified by a selling company as of strategic importance.’’ ‘‘A global account is a customer of strategic importance to the selling company which have/ are Extensive geographical reach, Integrated their manufacturing assembly and commercial operations across two or more regions or continents, Expectations of coordinated and consistent supply and service support world-wide, Potential for close relationship and joint investment via partnership for global expansion, Declared aspirations of global growth/development, Requirements for which the supplier value proposition can be maintained on a global basis, Potential for the supplier to increase his share of the customers purchase budget, Attempted to leverage their purchasing power world-wide, Strategic operational end cultural fit with the supplier, Receptive to being ‘account managed’ on a global basis, Globally minded top management, Acquired experience of setting up global sourcing partnerships with complementary suppliers.’’

Reference Fiocca (1982)

Colletti and Tubridy (1987)

Millman and Wilson (1995) Millman (1999)

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Major account

180

Table 2.

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extended by others: (Barrett, 1986; Campbell & Cunningham, 1983; Fiocca, 1982; McDonald et al., 1997; Millman, 1994; Turnbull & Valla, 1985). By defining a key account from only the perspective of the supplier, Millman and Wilson (1995) lose an important dimension of key accounts. We believe that both the position of the customer and the supplier must be considered, because no strategic relationship can be developed with a customer if the customer does not agree with it (Gosselin, 2002). This mutual acceptance condition is central to both the relationship marketing theory (Ford, 2002) and to the alliance and partnership theory (Doz & Hamel, 1998). Recently, proposals have been made to define the concept of global account on the basis of the key account definition put forward by Millman and Wilson (1995). Montgomery et al. (1998) claim that a global account is a key account in which the customer is present in various countries but not necessarily in all countries, and is a customer for various products or services but not necessarily for all of them. Millman (1999) goes further in his definition of a global account by listing the different criteria to identify possible global accounts (Table 2). It is striking that all definitions found in the literature focus on the supplier and not on the customer. This is surprising since already in 1982, in his research on characteristics of business markets, Ha˚kan Ha˚kansson (1982, p. 1) stated: ‘‘...understanding of industrial markets can only be achieved by simultaneous analysis of both the buying and selling sides of the relationship’’. We conclude that: (1) The literature gives an ambiguous definition for a key account. (2) A key account originates when markets are segmented by type of customer and by type of customers’ importance. The segment of very important or strategic customers is called key accounts. (3) Variables for customers’ importance are: (a) turnover or potential turnover, (b) profit margins or potential profit margins, (c) importance or potential importance of the market segment, (d) image or status provided by these customers, (e) innovation capacity of these customers, and (f) reference value for other markets. It is characteristic of the key accounts segment that not just one variable but usually a combination of variables are used. (4) The current definitions and approaches toward key accounts do not take into consideration the conditions under which the customer should be selected as a key account.

WHAT IS ACCOUNT MANAGEMENT? Although the literature gives ambiguous definitions of the concept of key account, there is some tendency to adopt the definition proposed by

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Table 3.

Terminology Used for Account Management.

Terminology

Year

National account marketing National account management Key account selling Major account sales management International account management Key account management Major account management Global account management

1979

Stevenson and Page (1979)

1981

Shapiro and Moriarty (1982); Stevenson (1981)

1983 1987

Coppett and Staples (1983); Millman and Wilson (1995) Colletti and Tubridy (1987)

1994

Verra (1994)

1992

Burnett (1992); Capon (2001); Millman and Wilson (1995)

1995

2001

Anderson and Narus (1999); Rangan, Shapiro, and Moriarty (1995) Arnold, Birkinshaw, & Toulan (1999a, b); Millman (1996); Montgomery et al. (1998); Wilson and Millman (2003); Yip and Madsen (1996) Arnold, Belz, and Senn (2001b)

1999

Verbeke and Nagy (2000); Wilson (1999a); Gosselin (2002)

Global key account management Strategic account management

1996

Reference

Millman and Wilson (1995). Regarding account management, however, no accepted definition has yet emerged. As was the case for terminology used for key accounts, we also find numerous terminologies for account management in literature and in corporate life. Terms used as synonyms for account management range from national account marketing in the early 1970s (Stevenson & Page, 1979) to national account management (Shapiro & Moriarty, 1982), major account management (Anderson & Narus, 1999), and more recently global account management (Arnold et al., 2001a; Montgomery et al., 1998), and strategic account management (Verbeke & Nagy, 2000). Table 3 summarizes synonyms for account management used in the literature.

Account Management: Definition Stevenson (1981) was one of the first to define account management (Table 4). It is important to note from his definition that account management consists of allocating corporate resources in relation to the importance

Definitions ‘‘Basically, it (account management) means that very large and/or important customers are afforded special treatment and special status by the National account marketer. Once designated as a national account, the customer will generally be called on by a special sales force, and may receive inventory concessions, better prices, and special service arrangements.’’ ‘‘The general objective of national account management is to provide incremental profits from large or potentially large complex accounts by being the preferred or sole supplier. To accomplish this goal, a supplier seeks to establish, over an extended period of time, an ‘‘institutional’’ relationship, which cuts across multiple levels, functions, and operating units in both the buying and the selling organization. Ideally, this institutional relationship transcends and is stronger than any of the individual relationships between the two companies.’’ ‘‘The process of allocating and organizing resources to achieve optimal business with a balanced portfolio of identified accounts whose business contributes or could contribute significantly or critically to the achievement of corporate objectives, present and future.’’ ‘‘Key account management is an approach adopted by selling companies aimed at building a portfolio of loyal key accounts by offering them, on a continuing basis, a product/service package tailored to their individual needs. To coordinate day-to-day interaction under the umbrella of a long-term relationship, selling companies typically form dedicated teams headed up by a key account manager. This special treatment has significant implications for organization structure, communications and managing expectations.’’

Reference Stevenson (1981, p. 119)

Shapiro and Moriarty (1982, p. 8)

Burnett (1992)

Millman and Wilson (1995)

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Table 4. Overview of the Most Important Definitions of Account Management.

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of the customer. This focus on resources is highlighted on the one hand by the allocation of a specialist sales team and on the other by the investment in major customers through price reduction, inventory management, and special services. His definition does not, however, refer to a payback effect on investment, to the justification for making these investments, or to the goal one seeks to achieve before setting up this type of organization. Stevenson’s definition differs from the definition proposed by Shapiro and Moriarty (1982). Their definition puts forward a series of important new terms, which indicate both the purpose and characteristics of the management of national (key) accounts. According to Shapiro and Moriarty, the purpose of account management is primarily to have current or potentially future major customers to yield higher profits. This must be achieved by creating an institutional relationship in order to become the main or sole supplier. Moreover, this institutional relationship is more than a personal relationship. The creation of an institutional relationship means that relationships are established at different levels, resulting in a relationship that is stronger than the sum of all individual relationships. Marketing literature refers to this type of relationship structure as ‘‘multilevel selling’’. Millman and Wilson (1995) propose a definition (Table 4) of account management later adopted by McDonald (1999). The notion of profit and turnover has not been included in their definition. They include concepts such as continuity, long-term relationship, dedicated sales teams, and special customer treatment as proposed by earlier authors. Apart from the issue of profit and turnover, we may conclude that over the years a consensus has emerged concerning most characteristics of account management. However, there seems to be no consensus as to the purpose of the process. This is surprising since we are dealing with an essential marketing process. This boils down to the differences between the two schools of thought mentioned earlier: KAS and KAM.

A COMPETENCE PERSPECTIVE ON ACCOUNT MANAGEMENT Our previous reviews of key account and account management definitions show similar business objectives for KAS and KAM (i.e. keep, sell, and make more profit). Nevertheless, the strategy to reach those objectives remain either short-term sales driven (KAS) or relationship marketing driven (KAM).

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However, in order to succeed, a firm must go beyond selling and must be able to create a competitive advantage. Because key customers are so crucial to the success of a company, resources must be allocated to make a distinctive value proposition based on specific and unique needs and preferences of the customer. It is through this distinctive and customer-specific value proposition that a sustainable competitive advantage is achieved. Indeed, in business markets, customers measure the effectiveness of products, services, or solutions by the efficiency increase they realize in their value chain or by the unique selling propositions that they can realize. The degree to which companies succeed in creating this sustainable competitive advantage with business customers depends on their competences in the fields of technology, process control, and skills and ability in establishing relationship networks (Wilson, 1999b). This assumes more than integration between marketing and other functions within the company. While coordinating internal processes is important, the theory of relationship networks argues that coordination should not be limited to internal processes but that, moreover, there should also be integration with both the resources and capabilities of all parties involved in the company’s environment. This approach supports the argument for the need to think systematically, which is at the core of the theory of competence-based management. Hamel and Heene (1994) put this even more clearly when they state, ‘‘Sustainability from a dynamic point of view requires that the theory of strategic management become a theory of process thought.’’ Research done by Millman and Wilson (1999a), Gosselin (2002), and Homburg et al. (2002) indicates that there is strong belief that the deployment of company-wide competences is one of the single most important elements in building a defendable competitive advantage with key accounts. By looking at KAM and KAS from the competence-based management view, it is possible to pinpoint the difference between the two concepts.

Competence Building and Competence Leveraging A relationship between competence-based and account management is established in two phases in this section. In the first phase, we introduce the definitions proposed by the theory of competence-based management (Sanchez, Heene, & Thomas, 1996, pp. 7–12) summarized in Table 5. In the second phase, we apply the concepts of account management to the ‘‘Firm Longevity’’ model developed by Sanchez and Heene (2004). We adapted this

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Table 5. Definitions Used in Competence-Based Management. Terminology Competence building

Competence leveraging

Competence Assets

Capabilities

Definition Is any process by which a firm achieves qualitative changes in its existing stock of assets and capabilities, including new abilities to coordinate and deploy new or existing assets and capabilities in ways that helps the firm achieve its goals. Competence building creates new options for future actions. The applying of a firm’s existing competences to current or new market opportunities in ways that do not require qualitative changes in the firm’s assets or capabilities. Competence leveraging is the exercise of one or more of a firm’s existing options for actions created by is prior competence building. An ability to sustain the coordinated deployment of assets in a way that helps the firm achieve its goals. Assets are anything tangible or intangible the firm can use in its processes for creating, producing, and/or offering its products to the market. Firm-specific assets are those, which a firm owns or tightly controls. Firm-addressable assets are those, which a firm does not own or tightly control, but which it can arrange to access and use from time to time. Capabilities are repeatable patterns of action in the use of the assets to create, produce, and/or offer products to the market?

model for the purpose of discussion of the relationship between competencebased management and account management (Fig. 2). Sanchez and Heene (2004) argue in their model that a firm creates value toward customers by selling products, services, or solutions. Through this value creation customers allow a firm to make a profit, to generate cash and to increase eventually the value of the firm. The amount of value a firm can capture or appropriate out of this transaction with the customer depends on the competitive forces between the firm and the customer, as defined by Michael Porter (1980). The objective of the firm is to appropriate or maximize the value in this interaction process. A part of the value it can appropriate or capture will be distributed to the stakeholders (customers, personnel, government, management, suppliers). Sanchez and Heene (2004) state further that the stakeholders allow the firm to increase its assets and capabilities. Through these assets and capabilities provided by the stakeholders, a firm can build up competences, which it can apply or leverage to new markets in order to create new value.

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C OMPETENCE B UILDING

Resources Structure Processes C OMPETENCE L EVERAGING

Stakeholders Development

Management

Key account

V ALUE D ISTRIBUTION

Selling Products Services Solutions

V ALUE C REATION

Fig. 2.

Profit Cash Flow Firm Value

Customer Value

V ALUE C APTURING

Competence Perspective on Key Account Management.

Applying KAS and KAM to the ‘‘Firm Longevity’’ model allows us to define the difference between the two marketing approaches from a competence-based point of view. KAS corresponds to the Value Creation and Value Capturing process in the model, while KAM is much more related to the strategic side of the model and corresponds to the Competence Building and Competence Leverage part of it. KAS in this model equals the classic sales activity. Based on the products, services, or solutions a company has developed and which represent a certain value, the role of KAS is to capture the most value from the transaction process with the customer. In this process, KAS is not involved in the building or leveraging of competences. KAM, however, is part of the competence leveraging, value creation, and capturing process. As such, we can say that KAS is a subactivity of KAM, where KAM is more strategically oriented than KAS. It is possible to extend

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the concept of KAM by linking it to the competence building activity. However, we believe that by doing this, the concept of KAM is extended to such a degree that it calls for a new definition: strategic account management (SAM). Strategic Account: Proposed Definition Based on our previous analysis and based on a competence-based management approach, we propose to define a strategic account as ‘‘potential or existing customers which are of strategic importance to the supplier and where the supplier is recognized as strategic for the customer’’ (Fig. 3). The difference with previous definitions of key accounts is that we define a strategic account not only by criteria used by a supplier but by criteria involving the customer as well. We believe that it is required for a key account to become a strategic account that the customer is not only of strategic importance to the supplier, but that the customer as well is committed to a long-term strategic relationship based on long-term investments. Recent research done by Gosselin (2002) and Homburg et al. (2002)

Non-Strategic Suppliers for the Customer Key Accounts

Potential Accounts

Existing/Potential Strategic Suppliers for the Customer Strategic Accounts SUPPLIER

CUSTOMER

Fig. 3. Strategic Accounts are Key Accounts and Potential Accounts Identified as Strategic by the Customer and the Supplier.

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indicates that strategic congruence (i.e. fit, alignment) between the supplier and the customer is a key variable in explaining the account management performance of the supplier.

Strategic Account Management: Proposed Definition We define SAM from a competence-based point of view by including competence-building in the process of account management. Therefore, we define SAM as ‘‘the process that identifies and selects strategic accounts and develops through competence-building and leveraging a set of specific and unique value propositions in partnership with a strategic account.’’ The purpose of SAM is to create a sustainable competitive advantage, which allows the firm to capture value and distribute or share a part of this value with the strategic account. In practical terms, this would mean that the supplier is able to remain on a customer’s shortlist and generate recurrent sales without going repeatedly through a competitive selection or bidding process, and that the customer no longer considers the competition as an alternative. Recent research shows that this can only happen with a selected number of customers based on elements of strategic congruence between supplier and customer (Gosselin, 2002).

Implications The proposed definitions of SAM and strategic account clearly define account management as a strategic process. We draw five implications from our definitions: 1. Strategic process: Our definition implies that SAM is involved in the process of building competence. Based on the needs of strategic accounts, decisions must be made to allow the development of new competences, which in turn can be used to create new services, products, or solutions. As such, SAM becomes an integral part of the resource allocation process within a company. 2. Business development process: It is not enough for SAM to be part of the strategy-making process; it must be involved in the business development process as well in order to leverage existing competences. To create a unique value proposition, a strategic account manager must be able to address all the existing competences of the company. Marriott Hotels

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demonstrated a clear example of this when they proposed a full automatic invoice-handling system integrated with expense reporting for employees of IBM staying at their hotels. By doing this, they leveraged their Electronic Data Processing (EDP) competences to create a unique value proposition beyond the rent of hotel rooms. 3. Skills of a strategic account manager: It is clear that the competences and skills needed to perform the task of a strategic account manager are far beyond those of a typical sales person. Wilson and Millman (2003) refer to this function as a ‘‘political entrepreneur’’, emphasizing the strategic, business developing side as well as the relational side of the function. We believe that in order to succeed in this function, a strategic account manager must have a background that includes sales, marketing, business development, strategy, and operational business management. He must be positioned and viewed in the company as a senior executive, responsible for participating in shaping the business strategy through his competence and knowledge of key customers. 4. Selection of accounts: It is obvious that, by definition, not all customers can be selected as strategic accounts. However, it remains a major strategic responsibility for the company to select its strategic accounts wisely. Research shows that only a small percentage of customers are responsible for the profitability of a company (Storbacka, Strandvik, & Gro¨nroos, 1994) and that only a few, called the future-oriented customers (Wiersema, 1997), drive the competitiveness of a company. Research by Gosselin (2002) shows that account management performance is significantly (po0,01) related to the selection process, which is a major factor explaining account management performance. 5. Organization structure: Strategic account management implies a strategic segmentation of the customer base. Dedicated resources should be allocated to strategic accounts in order to achieve competence building and leveraging. This means that a strategic focus and commitment is necessary. Research shows that this is only possible if there is a clear commitment from top management, which understands and supports this strategy (Gosselin, 2002; Homburg et al., 2002; Millman & Wilson, 1999b; Workman et al., 2003). A direct consequence of this is that the strategic account manager must be part of the executive decision process of the company. Solving issues related to measurement, remuneration, and management of strategic account managers are essential to succeed. Strategic focus implies as well that a strategic account manager should be responsible for as few strategic accounts as possible. The remuneration and measurement issues are particularly important since we believe,

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based on our experience, that this factor can drive SAM back to KAS if it is inappropriately designed.

CONCLUSION AND FURTHER RESEARCH A review of the definitions of key account and account management indicates that even today no consensus has been reached on basic definitions. From a practitioner’s point of view, this results in a great deal of confusion. We identified two generic types of approaches toward important customers: KAS and KAM. Both try to achieve more sales and profit but the first (KAS) is a more short-term sales-oriented process applied to important customers, whereas the second (KAM) is a more long-term relationship oriented approach (assuming implicitly that investments in customer relationships are profitable). It is, however, surprising to find that in neither the definitions of KAS or KAM is the importance of the role of the customer mentioned explicitly. We proposed in this article a definition for strategic account and SAM. Our proposed definitions emphasize the importance of the development of a strategic relationship based on mutual acceptance of the customer and the supplier. This implies a more strategic approach in selecting customers in order to create a competitive advantage. Introducing the notion of competence into the discussion of account management enabled us to make a distinction between KAS, KAM, and SAM. Important questions (Table 6) from an operational as well as strategic point of view remain and will need further research. Some of the questions mentioned in Table 6 are at the center of today’s research in account management. We believe that by introducing the concept of SAM, a different approach on account management can take place through the broader strategic and competence approach developed in this article. It is our conviction also that by focusing on SAM, companies will rediscover the strategic importance of a customer-focused organization. However, in order to capture the full benefits of SAM, companies will need to implement SAM from a strategic point of view, facing all difficulties and risks associated with strategic change programs. A strategic approach toward important customers will therefore imply a more integrated view on account management, balancing the relationship marketing approach with a more organizational and strategic competence-based approach. Due to the historical research tradition on account management from a marketing and sales-driven perspective, not enough attention has been given

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Table 6.

Questions for Further Research on Strategic Account Management.

Item

Questions and Open Issues for Further Research

1

What are the selection criteria for strategic accounts in order to increase account management performance? What are the key variables on which customers decide to recognize a supplier as strategic? How to proactively approach strategic accounts? What indicators should be used to measure strategic account manager’s performance? What are the key skills and competences needed as a strategic account manager? What strategic development methodology is applicable for strategic account managers? How to calculate Return on Investment (ROI) of competence build-up with strategic accounts? What is the role of top management in the strategic account management process? What elements create competitive advantage for suppliers towards strategic accounts? What are the key contingencies affecting account management performance with strategic accounts?

2 3 4 5 6 7 8 9 10

to the organizational, structural, and strategic perspectives of account management. We believe that this strategic perspective is at the center of the research question of how differences in account management performance can be explained. We believe this approach will lead to more quantitative research to complement the current qualitative research tradition in account management. This could ultimately lead to a better theoretical foundation of account management. Finally, we acknowledge the largely descriptive nature of the discussion in this paper, but also suggest that accurate, conceptually clear descriptions are the first step in laying the foundation for rigorous theory building, research, and (eventually) improvements in practice (Sanchez, Heene, & Thomas, 1996). We believe this paper contributes to this critical foundation-laying work in linking and integrating theory and research in marketing and the competence-based perspective on management.

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STANDARDIZATION STRATEGY IN MODULAR AND NETWORK MARKETS: CAPABILITIES AND CRITICAL SUCCESS FACTORS IN COMPETENCES$ Vittorio Chiesa, Raffaella Manzini and Giovanni Toletti ABSTRACT In recent years, standardization has become a strategic issue in many markets, and a firm’s capabilities in managing standardization issues can dramatically affect firm performance. This chapter addresses three questions: (i) What are the critical success factors (CSFs) in standardization strategies? (ii) What capabilities play a critical role in the definition and implementation of standardization strategies? (iii) How are identified CSFs and capabilities related in a firm’s competence to pursue a standardization strategy? To this end, 10 empirical cases in the multimedia and electronic industries have been studied. Building on compe-

$ The chapter is due to the joint work of the authors: however Giovanni Toletti wrote the introduction, the first and the third sections, Raffaella Manzini wrote the fourth and the fifth, and Vittorio Chiesa wrote the second section.

Research in Competence-Based Management, Volume 1, 197–235 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01009-1

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tence-based theory and the case studies, we provide a framework for identifying the CSFs and capabilities in defining and implementing successful standardization strategies.

INTRODUCTION In recent years, standardization has become a critical issue in technology strategy and management in several markets, such as multimedia, electronic, and automation that dramatically affects the performance of companies operating in such markets. Famous cases of standardization wars, such as the Video Cassette Recorder (VCR), the QWERTY keyboards, and the AM/FM radio bands have forced practitioners and academics to study how a standardization process can be successfully conducted. In this chapter, we adopt the competence perspective to investigate the development and implementation of market strategies based on standards and standardization in product markets in which modular products are developed and marketed by networks of firms engaged in ‘‘coopetition’’ – simultaneously cooperating in some ways while competing in others. Several important kinds of standards can be distinguished in a product market: reference standards (e.g., standard technical terms), measurement standards, minimum quality and performance standards, compatibility and interconnectivity standards, and standards for common components (David & Steinmueller, 1994; Sanchez, 2002). The aim of reference and minimum quality standards is to guarantee that products, systems, or services would satisfy certain defined characteristics, reducing the transaction costs of user evaluation. Compatibility standards ensure the users that a component or subsystem can successfully be incorporated and be interoperable with other constituents of a larger system of closely specified inputs and outputs (David & Steinmueller, 1994). In this sense, compatibility standards allow users to participate in a large interconnected system and to achieve ‘‘network benefits’’ from this participation. In this chapter, we have studied how companies operating in modular and/or network markets can shape a successful standardization strategy. More specifically, we undertake to explain the capabilities and associated critical success factors (CSFs) that are essential in creating organizational competences that can effectively support strategies incorporating significant standardization issues and initiatives.1 In modular and network markets, standardization is critical not only for the producers of the would-be standardized goods, but also for their customers and suppliers.

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From the producers’ point of view, standardization is important because it favors the creation of a modular architecture. Modular product architectures are created when the interfaces between components (both physical or service activity) are standardized, which concern both the characteristics and the ways of interaction (Sanchez & Collins, 1999). The standardization of product architectures may allow the exploitation of the advantages of modular product architectures, which (Langlois & Robertson, 1992; Sanchez & Collins, 1999; Sanchez, 1999):
serve as efficient platforms for leveraging families of products to meet market demands for product variety more quickly and efficiently;
give firms a low-cost way to proliferate variations for exploring customer preferences for product features and performance levels (in fact, new forms of marketing such as ‘‘real-time market research’’ become possible) (Sanchez & Sudharshan, 1992);
allow the leveraging of product variations quickly and at low cost by mixing and matching component variations within the modular architecture. In turn, a modular architecture may be used to discourage entry by competitors into the most profitable regions of a product space by saturating those regions with many closely related product variations;
allow the lowering of overall product line costs through increased use of some common ‘‘core’’ components;
allow the introduction of upgraded products as soon as improved components become available. From the customers’ point of view, standardization is particularly critical in network markets (i.e. markets in which the presence of network externalities increases the value both to buyers and vendors from using a technology as much as this technology is widely used in the market). In network markets, customers tend to buy the most widely adopted technology, pushing for the definition of a common standard on which all (or the majority) of the firms in the market can agree. The importance of standardization of a modular architecture for customers implies that firms who are able to impose their own architecture as a standard have the possibility to take leadership of the market and achieve initial extra profits (David & Greenstein, 1990; Liebowitz & Margolis, 1994; Katz & Shapiro, 1985, 1994). Finally, from the suppliers’ point of view, standardization may be very useful since it allows the autonomous production of standard components that can be used in the same modular product architecture characterizing several or all the products of the market (Langlois & Robertson, 1992; Sanchez & Collins, 1999).

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In conclusion, it can be argued that standardization is desirable in network and modular markets. As a consequence, firms operating in such markets should conceive standardization strategies aimed at: (i) imposing a standard in the market; (ii) imposing as a standard their proprietary technology or, at most, a ‘‘similar’’ one, i.e. a technology of which the development requires a ‘‘soft’’ and ‘‘easy’’ shift from the proprietary one. In the literature, many famous cases of standardization have been analyzed. Among them there are the cases of the VCR , radio broadcasting using FM bands, IBM Personal Computer, PC microprocessors, CD, and Internet browsers (David & Greenstein, 1990; Greenstein, 1997; Pistorius & Utterback, 1997; Faraoni, 1997; Grindley & Toker, 1993; David, 1992; Besen, 1992; Liebowitz & Margolis, 1994; Katz & Shapiro, 1994). In all of these cases, standardization represented, for the companies involved, a critical challenge, which dramatically affected (in a positive or negative way) their performance. As a consequence, defining a successful standardization strategy was a critical point. Such cases clearly showed that:
standardization strategy is very complex and implies several decisions, concerning the way the would-be-standard technology should be developed and sponsored, the way customers and suppliers are involved in the process, and the timing of the process;
the success of a standardization strategy is linked to several factors that should be monitored by the standardizing company(ies);
given that the CSFs may change over time, particularly in turbulent network and/or modular markets (such as the multimedia), companies need many different capabilities in order to be able to adapt themselves to such changes and to exploit the relative potential advantages (Hamel & Prahalad, 1994; Hamel & Heene, 1994; Heene & Sanchez, 1996, 1999; Sanchez, Heene, & Thomas, 1996). Such different capabilities cannot usually be possessed by a single company, but are frequently ‘‘dispersed’’ among different organizations; the locus of innovation may shift to customers, competitors, buyers, universities, or institutional bodies. As a consequence, for a successful standardization strategy, it is critical to effectively manage and coordinate a wide set of capabilities and create a network through which each company provides its distinctive capabilities and can exploit those of the other companies. This would create a ‘‘virtuous circle’’: standardization requires a network of capabilities and, in turn, such a network of capabilities can be coordinated through the use of a standard modular product architecture that simplifies the management of the interrelations between the providers of capabilities (Sanchez & Mahoney, 1996).

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The aim of the chapter is to deepen the analysis of the above three items, i.e. to understand
which are the CSFs in standardization strategy;
which capabilities play a critical role in the definition and implementation of the standardization strategy in the long run, i.e. ensure the ability of a company to recognize, over time, the CSFs and their evolution, according to the evolution of the internal and external context;
how the CSFs and capabilities are related to each decision of the whole standardization strategy. To this aim, we have studied 10 empirical cases, which involve companies operating in the multimedia and electronic industries. Such an empirical study obviously does not allow wide generalizations, but can give important insights on CSFs and capabilities in standardization strategy. The chapter is structured as follows. In the next section, we provide the basics on standardization and modularity and clarify the ‘‘dimensions’’ of standardization strategy considered in this paper. Then we describe the empirical study and discuss the results of the empirical study in terms of CSFs and capabilities for standardization. Finally, we draw conclusions and discuss managerial implications and also make suggestions for further research in this area.

THE DIMENSIONS OF STANDARDIZATION STRATEGY A standard can be defined as ‘‘a set of technical specifications adhered to by a producer, either tacitly, or as a result of a formal agreement’’ (David & Greenstein, 1990). Two different typologies of standardization have been identified: de iure standardization and de facto standardization (Axelrod, Mitchell, Thomas, Bennet, & Bruderer 1995; David & Steinmueller, 1994; David & Greenstein, 1990; Besen & Farrell, 1994; Lehr, 1996; Greenstein, 1997; Malerba & Orsenigo, 1997; Ehrnberg & Jacobsson, 1997; Faraoni, 1997; Besen, 1992). De iure standardization concerns the standards promulgated by legislative bodies or by order of governmental agencies in agreement with a regulatory authority (mandated standards), and the standards published by voluntary standards development organizations (SDOs) (voluntary standards) (David & Greenstein, 1990; David & Steinmueller, 1994; Lehr, 1996). De iure

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standards may be useful when there is a need to control industries considered ‘‘critical’’ by regulatory authorities (for instance, the case of the defense industry), or when there is a need to regulate specific sectors favoring the competition through the use of a standard modular architecture (this may happen in the electronic and multimedia sector). De facto standards emerge when a firm operates in a market where standardization is advantageous or necessary, but no legislative bodies or voluntary organizations are able to define (or are interested in defining) a standard. In such cases, the standard definition may arise from a struggle between different standards, each sponsored by a firm or a coalition of firms. This situation is typical of modular markets (i.e. markets characterized by the existence of modular architectures) (Sanchez & Collins, 1999) and of network markets (i.e. markets where users would like to buy products compatible with those bought by others) (Besen & Farrell, 1994). Quite often modular markets are also network markets because the advantages of modularity strengthen the importance of network externalities (Besen & Farrell, 1994; Katz & Shapiro, 1985; Lehr, 1996; Greenstein, 1997; Faraoni, 1997; Besen, 1992; David, 1992; Langlois & Robertson, 1992; Kogut, Walker, & Kim, 1995) that, in turn, push a de facto standard-setting of a modular product architecture. De facto standardization is far more challenging for companies, since the role they can play in the standardization process is more relevant than in de iure standardization. Indeed, several different strategies can be adopted in order to affect the final adoption of the desired standard, while in de iure standardization the strategy of companies is significantly limited by the action of a regulatory body. Furthermore, greater threats are connected with de facto standardization, and even surviving can be difficult if the standardization strategy fails (David & Greenstein, 1990; Chiesa, Manzini, & Toletti, 1998a). As a matter of fact, the loser of the standardization race loses the first mover advantage, i.e. the benefits of momentary monopolistic power, and must spend a lot of resources in order to bridge the technological and knowledge gap with the winner. Furthermore, the loser has to compete within the boundaries defined by the competitor who imposed his standard. On the one hand, it is a matter of fact that the standardization concept itself guarantees the possibility to compete in such boundaries, since it implies the adoption of a modular architecture available to all actors in the market (Sanchez & Mahoney, 1996). On the other, however, the developer of the standard technology could be able to maintain a clear and strong leadership in the ‘‘core’’ capabilities required by its technology.

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In light of these considerations, in this chapter, we will concentrate on de facto standardization. Several contributions in the literature have studied de facto standardization and the strategies companies may adopt to successfully lead the standardization process. Some studies analyze the tactics that can be used in order to sponsor the adoption of one’s own standard (Besen & Farrell, 1994; Farrell & Gallini, 1988; Besen, 1992; Mangematin & Callon, 1995; Langlois & Robertson, 1992; Katz & Shapiro, 1994), others concern the decision of whether or not to form a coalition in order to facilitate the adoption of a well-defined standard (Jorde & Teece, 1990; Axelrod et al., 1995; Weiss & Sirbu, 1990), and others analyze the definition of the appropriate timing of standardization (Teece, 1986; McWilliams & Zilberman, 1996; Ehrnberg & Jacobsson, 1997; David, 1992). All of these contributions help to clarify important aspects of standardization, but we believe that the analysis of standardization strategy requires an expansion of the focus of the discussion. Two questions have to be answered by the firm. Is some level of standardization needed? And if so, which level of standardization is needed, a system standardization or only components standardization? (see Fig. 1). It is worth to note that the standardization of an entire system (system standardization) requires different strategies than standardization of (some of) a system’s components. Indeed, the standardization of the system

Is standardization needed?

No

Yes Which level of standardization is needed?

System

System standardization strategy definition

Fig. 1.

Components

Components standardization strategy definition

The Road to the Standardization Strategy Definition.

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architecture requires the specification of (i) the way the overall functionalities of the product or process design are decomposed into individual functional components and (ii) the ways in which the individual functional components interact to provide the overall functionality of the system design (component interactions are generally described by component interface specifications that define the inputs and outputs that cross the interfaces between interacting components) (Sanchez, 1999). In contrast, the standardization of single components is much simpler because it does not require the definition of the overall architecture and of the interactions among components; it only needs the definition of the specifications of the functionality of the component. The standardization of single components usually happens in the context of a standard system architecture. In this case, developers of new components (that fit into the overall architecture) often struggle to impose their component as the standard for the system. In this chapter, we have chosen to focus primarily on standardization of the system and not specifically on the standardization of a system’s components (see Fig. 2). In any case, we believe that a systemic view of standardization strategy must be adopted. Indeed, decisions concerning tactics, timing, and form of cooperation have to be coherent and coordinated, since they are closely connected and interrelated with each other (Chiesa, Manzini, & Toletti, 1998b).

System standardization strategy

Tactics

Timing

Fig. 2.

Form of co-operation

The Standardization Strategy of a System.

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In the following discussion, each dimension of the system standardization strategy, i.e. tactics, timing, and cooperation, is analyzed separately. However, each dimension dramatically influences the other ones and, hence, the coherence among decisions about tactics, timing, and cooperation should be carefully checked. Tactics By ‘‘tactics’’ we refer to the different ways that a firm can press the market to adopt its own system technology as a standard. All the tactics are based on the idea that in network and modular markets, the value perceived by users increases with the number of users. Therefore, the aim of each competing firm is to lead as many people as possible to choose its specific technology or product, stimulating in this way a bandwagon effect not only among customers, but also among suppliers. From the analysis of the literature, six tactics seem to be the most common and useful (Axelrod et al., 1995; David & Greenstein, 1990; Farrell & Gallini, 1988; Langlois & Robertson, 1992; David & Steinmueller, 1994; Besen & Farrell, 1994; Grindley & Toker, 1993; Besen, 1992; Mangematin & Callon, 1995; Katz & Shapiro, 1994): 1. 2. 3. 4. 5. 6.

second sourcing; building an early lead; influencing forecasts of future sales; attracting the suppliers of complementary goods; product preannouncements; and price commitment.

Second Sourcing A company voluntarily facilitates the entry of competitors into the market, for instance by licensing a product at low royalties or by using an ‘‘open architecture’’ (Katz & Shapiro, 1994) that is a modular architecture in which interface specifications are shared with competitors (Sanchez & Collins, 1999). In this way, the company tries to increase the confidence of the market in the diffusion of the technology sponsored and, hence, its attitude to invest in such a technology. Two examples of successful second sourcing are the local area network product Ethernet and Sun Microsystems’ Unix. In the first case, Xerox (the Ethernet developer) was able to gain the trust of users by offering open licenses at a nominal charge, allowing some large and

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trusted competitors (like Intel) to enter the market (Farrell & Gallini, 1988). In the second case, Sun Microsystems offered a Unix-based open architecture for workstations that gave Sun’s customers interconnectivity, upgradeability, access to large numbers of competitively priced application programs, and widely available service and support (Sanchez & Collins, 1999). In contrast, the lack of a second sourcing tactic and the consequent fear of lock-in to a proprietary architecture eventually lead to the failure of Digital proprietary microprocessor architecture. Indeed, notwithstanding the superiority of its technology, Digital was compelled to shift to the open architecture of the de facto industry standard proposed by Intel (Sanchez & Collins, 1999). Building an Early Lead Given that network externalities stimulate users to adopt the most widely diffused technology, if a technology gains a large installed base it increases the possibility of it being adopted as a standard. This tactic is really effective only if the level of sales can be continuously known and monitored by users. To build an early lead, firms usually use ‘‘penetration pricing’’: selling products to early customers at low prices that could stimulate potential consumers to buy the technology, allowing a rapid growth of the installed base. Influencing Forecasts of Future Sales The expectations about the ultimate size of a network can affect the adoption of a specific technology as well. As a matter of fact, buyers’ purchase decisions are strongly influenced by their forecasts of future sales, and a technology that is simply expected to be the winner can actually become the standard. It is the typical situation in which there are self-fulfilling forecasts. If many users think that a technology will become a standard, it is very probable that it will. An example can be found in the success of MS-DOS which did not depend on any technical superiority, but on the fact that it was supported by IBM and hence, great future sales were expected (Besen & Farrell, 1994). One possible way to influence forecasts of future sales is, for instance, to claim that large users support a particular standard. Attracting the Suppliers of Complementary Goods The availability of complementary goods can further stimulate users to adopt a specific technology. To this aim, firms usually try to attract the interest of component suppliers. Firms proposing a modular architecture may be able to attract competent component developers worldwide to

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develop new components matching the modular architecture (Sanchez & Collins, 1999). As an example, IBM and Microsoft understood the importance of attracting suppliers of complements for the success of their standard and encouraged independent developers to write software applications for their operating systems (Besen & Farrell, 1994; Cusumano & Selby, 1995). The lack of complements, in contrast, limited the early diffusion of FM transmissions. When the possibility of FM transmissions appeared for the first time, producers did not succeed in attracting broadcasters, because there were very few potential customers and hence the expected payoff was very low. This obviously limited the number of users interested in the FM band (Besen, 1992). Product Preannouncements In order to discourage users from buying rivals’ products, it is possible to preannounce the launch of innovations to induce buyers to wait until the new product will enter the market. This tactic has been used in the past with success by IBM and Microsoft (Besen & Farrell, 1994). Price Commitment A firm’s strong commitment to guarantee low prices in the future can help to convince potential customers to adopt the firm’s standard, even if other companies currently have lower prices. Potential long-term users of a standard could forego a cost saving today in order to achieve greater savings in the future.

Timing Despite growing interest in the challenges of introducing new products (Von Braun, 1997; Utterback, 1994; Cohen, Eliashberg, & Ho, 1996; Chung, 1999; Vesey, 1991; Bryman, 1997; Kerin, Kalyanaram, & Howard 1996; Wood & Brown, 1998; Tellis & Golder, 1996; Crawford, 1992; Teece, 1998; Grindley & Toker, 1993), the issue of timing in standard-setting has not been deeply studied yet (David & Steinmueller, 1994; David & Greenstein, 1990; Teece, 1986; Ehrnberg & Jacobsson, 1997; Grindley & Toker, 1993; Bailetti & Callahan, 1995). Defining the standard-setting timing means deciding whether to standardize before or after the introduction of the technology in the market (ex-ante or ex-post standardization). Ex-ante standardization is closely connected with the need to collaborate with other firms (competitors, suppliers,

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suppliers of complementary goods, and so on). In general, it is not possible to achieve ex-ante standardization without an agreement with at least potential competitors. Ex-post standardization is usually feasible when a firm is able both to develop a new technology and to impose it as the market standard. In this case, no agreement with competitors is needed and an ex-post standardization (i.e. after the introduction in the market) allows the firm to exploit its monopolistic power, i.e. to achieve extra-profits and to secure its market share. For example, in the case of Netscape, its Navigator browser was available free of charge for the first users. The browser thus became widely adopted (almost as a standard), and Netscape achieved market leadership for several years. Eventually, the ‘‘golden age’’ of Netscape ended, but the advantages obtained allowed it to remain in the market as a major player, even as some strong competitors like Microsoft entered the market. Both ex-ante and ex-post standardization can achieve positive or negative results. Ex-ante standardization was a success in the case of the CD standard and a failure in the case of DVD standard. Ex-post standardization was a success in the cases of QWERTY typesetters and VHS video-recorders and a failure in the case of Minidisc and DCC.

Form of Cooperation The first question is whether or not to cooperate with other firms. It has been already said that in order to set a standard during the development phase, some form of cooperation is needed (Sanchez, 2004). More generally, the lack of resources and capabilities and the high risks of a stand-alone standardization push companies toward cooperation. Two main typologies of cooperation can be defined on the basis of their aim: developing alliances and sponsoring alliances. In developing alliances, two or more firms join together to develop a new technology architecture to be proposed as a standard. The collaborating firms have to define the characteristics of the technology architecture to be developed and the way it is to be followed in order to impose it as a standard. Developing alliances are stimulated by the need to reduce the high costs and risks involved in the standardization process, and by the need to find all the resources and capabilities needed to develop and then sponsor a standard. An example of developing alliances is the CD standard. Sony and Philips (the former previously hurt by the war between VHS and

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Betamax for the VCR standard) decided to jointly develop and define the CD standard. The agreement on a common product architecture between these two major producers persuaded Columbia and PolyGram to support the CD, providing a rich catalogue of titles that favored the diffusion of the technology and determined its success. In sponsoring alliances, two or more firms reach an agreement to sponsor a preexisting technology architecture as a standard. All the firms participating in the alliance may have developed their own technology, but they accept to shift their attention from the proprietary technology to the one that will be jointly sponsored by the alliance. The sponsored technology may be one of the proprietary technologies or a new architecture exploiting the best parts of the different proposals. Sponsoring alliances are stimulated by the opportunity to increase the installed base (by increasing the number of sponsors of a specific technology) and the confidence of consumers in the sponsored technology. The case of Minidisc (sponsored by Sony) and of DCC (sponsored by Philips-Matsushita) seems to confirm these considerations. The aim of both Sony and Philips-Matsushita was to replace cassette tapes with another product that did not allow rewriting. However, each firm sponsored its own technology, and record companies refused to supply them with their products because of the high risks related to the low market share that each could guarantee. This was the main reason for the market failure of both Minidisc and DCC. The success of the VHS standard for videocassette recorders is strongly related to the typology of partners that sponsored the technology. Sony’s Betamax gained a first advantage in terms of installed base but eventually lost the standardization race. This was mainly due to the different choices about alliances. Matsushita-JVC attracted as many partners as possible, whereas Sony tried to fight alone. The VHS sponsors sold their product under license, improved the capacity of their device in order to allow a recording time of 4 h (as required by RCA), and so on. By the mid-1980s the powerful network of alliances built up by Matsushita-JVC determined the success of the VHS standard and the failure of Betamax.

THE EMPIRICAL STUDY The empirical study involved companies operating in the multimedia and electronic industries. Some of the cases studied have already been widely analyzed, but in this chapter a rather different perspective is adopted, one that focuses on the

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CSFs and on the role of the companies’ capabilities in standardization strategy. Some other cases discussed in this chapter have not been studied in the literature yet and have been directly analyzed by the authors. Such analyses are based on qualitative interviews with managers directly involved in the definition of standardization strategy in their own firms. The multimedia and electronic businesses have been chosen as typical network markets. With reference to the empirical analysis, it should be noted that:
A standardization process involves several actors. In this chapter, the perspective of a single actor is taken, i.e. the case is analyzed from the point of view of a single company (denoted in bold text in the table) involved in the standardization process and engaged in defining a strategy aimed at achieving a standard favorable to its own interests.
As shown in Table 1, the sample includes successful and unsuccessful cases. A case is considered unsuccessful if the standard ‘‘desired’’ by the studied company did not emerge as the industry standard. However, as pointed out previously, even successful strategies have experienced ‘‘unsuccessful’’ steps. Here the overall process is conducted according to the definition of a standard sponsored by the company studied.
The standardization strategy followed by the reference company is described here according to the framework introduced previously, i.e. in terms of tactics, timing, and cooperation (see Table 2). The cases have been analyzed in order to understand which CSFs and capabilities determined the successful implementation of decisions regarding tactics, timing, and form of cooperation, thereby contributing to a successful standardization strategy. The strategies adopted by the analyzed companies is briefly summarized in Table 2.

CRITICAL SUCCESS FACTORS FOR STANDARDIZATION STRATEGY The analysis of the literature and the empirical study have allowed us to identify several CSFs affecting tactics, timing, and form of cooperation. Tables 3 and 4 summarize the main CSFs that emerged from the successful cases of standardization in the empirical sample. The most important CSFs are discussed in more detail below.

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Table 1. The Cases Studied. Case

Characters Involved

DVD

Sony, Philips, Matsushita, TimeWarner

VCR

Matsushita, JVC, Sony

CD

Philips, Sony

Brief Description

Result

The standardization of the DVD (Digital Video Disk) involves a new digital technology for the recording of videos. Several actors were involved in the process, including Sony, Philips, Matsushita, and Time-Warner. They continuously bargained among themselves in order to achieve the best possible compromise on the technology to standardize. Eventually, they were able to define a DVD standard before the launch of the technology in the market, but the continuous bargaining activity greatly delayed the standardization process, hence retarding the standard-setting and reducing the available market for the innovation. The standardization of VHS concerns the technology characterizing videocassette recorders. Different companies tried to impose their standard on the market, but the main actors were Matsushita and JVC (sponsoring VHS) on the one hand and Sony (sponsoring Betamax) on the other hand. In the early stages there was long and bitter competition in the market between the two alternatives. Eventually, however, the better capacity of the Matsushita-JVC alliance to attract suppliers of complements changed the inertia of the market in favor of VHS. Hence, in the end, VHS was able to push Betamax out of the market, remaining the only standard for videocassette recorders. The definition of a CD (Compact Disk) standard involves a new technology for audio recording.

Partial success

Success

Success

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Table 1. (Continued ) Case

Characters Involved

ACE

Microsoft, Intel and many others

DCC- Minidisc

Sony, Matsushita, Philips

Brief Description

Two firms actively participated in the standard-setting: Philips and Sony. During the development phase, they soon formed an alliance for the definition of the standard in order to combine their different and complementary technologies. This allowed them to jointly define and develop a CD standard before the introduction of the technology in the market. The introduction of a single technology reduced competition and allowed firms to gain the support of important partners such as Columbia and PolyGram that guaranteed the success of the innovation. ACE (Advanced Computer Environment) was an attempt at standard-setting in the RISC (Reduced Instruction Set Chip) sector. A consortium of firms, soon growing up to 250 partners, participated. They tried to define a standard able to mediate all the different proposals and the contrasting interests of participants. However, many contrasts characterized the activity of the consortium. Every time a compromise was proposed, as many firms disagreed as accepted it. The consortium was not able to mediate among the numerous different interests and, in a short time, it dissolved without achieving the proposed result. The failed standardization of the competing technologies of DCC and Minidisc involves a new digital technology for audio recorders. Sony and Philips were the main competitors proposing Minidisc

Result

Failure

Failure

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Table 1. (Continued ) Case

Characters Involved

MS-DOS

Microsoft, IBM

PC Software

Microsoft, Intel

Brief Description

and DCC, respectively. Initially, they developed two very different technologies. Fearing the incapacity of the market to receive both of them, they tried for some time to reach a compromise. In the end they were not able to reach an agreement and hence proceeded in launching both the technologies on the market. Despite the great amount of resources invested, the launch in the market of the two technologies resulted in a complete failure. The standardization of MS-DOS concerns computer operating systems. Microsoft developed MSDOS but at that time was not able to impose it as the standard for the market. However, co-operation with IBM allowed MS-DOS to achieve a great success among PC operating systems. Indeed, the support of such an important company let the users foresee a huge level of diffusion that fostered its adoption. The standard setting of Windows concerns its affirmation as the standard for PC software. Microsoft continuously improves its software products, thus requiring always more powerful microprocessors, while Intel constantly launches in the market new generations of microprocessors able to deal with Microsoft software. In the end it contributes to allow the de facto standardization of both Microsoft’s software and Intel’s microprocessors.

Result

Success

Success

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Table 1. (Continued ) Case

Characters Involved

Internet browser

Netscape, Microsoft

Modem 56K

U.S. Robotics/ 3 Com, IBM, Texas Instruments, Motorola, Rockwell, Lucent and others

Brief Description

Result

The introduction of Netscape’s Navigator can be considered an attempt at standard-setting in the Internet browser market. The main competitors in this arena are Netscape and Microsoft. Netscape initially succeeded in widely diffusing its browser Navigator, making it available at no cost and promoting new versions directly through the Web. This allowed Netscape to almost impose Navigator as a de facto standard. However, the market entry of Microsoft Explorer and the huge amount of resources that Microsoft invested in its diffusion in few years produced a struggle that eventually led to a different result with the two technologies bitterly competing with each other. The standardization of Modem 56k concerns the most innovative analogic modem technology. Several actors were involved in the standard war: the coalition headed by U.S. Robotics and the coalition headed by Motorola. U.S. Robotics initially launched its own technology (X2) for the Modem 56k, but soon it had to fight with a competitor: k56flex. The following war of standards greatly delayed the process of standardization of the Modem 56k. Eventually, the competing firms formed a standardization committee that was able to define a standard even if later than desired. The result achieved was a compromise between the competing technologies even if it is more similar to X2 than to k56flex.

In progress

Success

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Table 1. (Continued ) Case

Network Computer

Characters Involved Oracle, IBM, Microsoft and others

Brief Description

Result

The attempt of standardization of the NC concerns a new technology providing interactive services via the Internet through the utilization of shared resources generally identified as network computing. Oracle and IBM on the one hand and Microsoft on the other are the main competitors fighting this war of standards. Oracle and IBM were the first to launch the NC technology that was completely compatible with all the languages and the protocols used in the Internet. Soon Microsoft, fearing a weakening of its market position, proposed a competing and incompatible technology based on completely proprietary software. A war of standards followed and then a Standard Development Organization was formed in order to define a common proposal, but the process of standardization has not yet been concluded.

In progress

Critical Success Factors in Decisions about Tactics Second Sourcing The main CSF for successfully adopting second sourcing is the choice of important partners (usually competitors) to guarantee a high market share. The positive effect is twofold: second sourcing allows widespread diffusion of the technology and increases the trust of customers when there is strong competition on the same product architecture in the post-standardization period. The case of the network computer (NC) and the ‘‘battle of the bands’’ between AM and FM radios (Besen, 1992) illustrate the issues related to second sourcing. The network computer aims at exploiting existing technological infrastructures in order to offer interactive services. NC does not

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The Standardization Strategy Adopted in the Cases Studied.

Case

Reference Company

Main Aspects of the Standardization Strategy









DVD

Philips

VCR

Matsushita

CD

Philips

ACE

Intel

DCC- Minidisc

Sony






MS-DOS

Microsoft






PC Software

Microsoft






Internet browser

Netscape

Modem 56K

U.S. Robotics









Network Computer

Oracle














Timing: ex-ante; Form of co-operation: developing alliance; Tactics: all. Timing: ex-post; Form of co-operation: developing alliance; Tactics: attracting suppliers of complements; influencing forecasts of future sales. Timing: ex-ante; Form of co-operation: developing alliance; Tactics: all. Timing: ex-post; Form of co-operation: sponsoring alliance; Tactics: second sourcing; attracting suppliers of complements; influencing forecasts of future sales. Timing: ex-post; Form of co-operation: sponsoring; Tactics: building an early lead, influencing forecast of future sales. Timing: ex-post; Form of co-operation: sponsoring alliance; Tactics: building an early lead; attracting suppliers of complements; influencing forecasts of future sales. Timing: ex-post; Form of co-operation: stand-alone; Tactics: building an early lead; product preannouncement; attracting suppliers of complements; influencing forecasts of future sales; price commitment. Timing: ex-post; Form of co-operation: stand-alone; Tactics: building an early lead. Timing: ex-post; Form of co-operation: sponsoring alliance; Tactics: product preannouncement; attracting suppliers of complements; influencing forecasts of future sales; price commitment. Timing: ex-post; Form of co-operation: sponsoring alliance; Tactics: building an early lead; attracting suppliers of complements.

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Table 3. Critical Success Factors of Successful cases of Standardization. Case DVD

VCR

CD

MS-DOS

PC Software

Internet browser

Modem 56K

Critical Success Factors































Strong market power Lack of competitors sponsoring competing technologies High commitment of management in pursuing the final aim Sharing of long term goals with partners Appropriability of the technology Availability of complementary assets Mutual trust Market power, brand, productive/distributive capacity of the suppliers of complements Strong market power Lack of competitors sponsoring competing technologies Complementarity of partners’ R&D resources Appropriability of the technology High switching costs of users Quick, efficient, and widespread distribution channels Relations with important firms supporting the technology Appropriability of the technology High switching costs of users Availability of complementary assets Credibility Quick, efficient, and widespread distribution channels Low inertia of the market in choosing the technology Short time to market Low prices Quick, efficient, and widespread distribution channels Complementarity of marketing and distribution resources Low competition among partners High co-ordination of partners’ strategies and managerial approach able to simplify the achievement and the implementation of the strategy Credibility

require an installed, proprietary software, but uses resources shared on a web by several users. In this case, it is particularly important that several competitors adopt the same technology, since this ensures that, once the standard is defined, the sponsoring companies, being competitors, will continuously try to improve the technology and the products/services offered. Oracle and IBM constantly use second sourcing in order to guarantee such competition in the post-standardization period through proposing an open system. In contrast, the Microsoft NET PC uses a fully proprietary software.

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Table 4.

Critical Success Factors in Standardization Strategy.

Tactics Second sourcing
Licensees with famous and trusted brands
High market share
No real or perceived collusion between second sourcing partners Building an early lead
Short time to market
Quick, efficient, and widespread distribution channels
Low prices
Production capacity
Financial resources able to support strong competition
Excellent technology
Brand Influencing forecasts of future sales
Credibility
High productive and distributive capacity
Relations with important firms supporting the technology
Knowledge of the firm’s brand
Excellent technology Attracting suppliers of complements
Market power, brand, productive/distributive capacity of the suppliers of complements for the technology
High level of complements’ specificity
Brand
Great opportunities for future market and technology development Product preannouncements
Credibility
Short expected time between the pre-announcement and the real introduction of the technology on the market
The superiority of the preannounced technology Price commitment
Credibility
Productive capacity to guarantee a price reduction over time
Financial resources to guarantee a continuos development and improvement of the technology
Limited gap between the prices of the proposed and the concurrent technologies

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Table 4. (Continued ) Timing Ex-ante
High market power (in terms of brand, productive capacity, distributive capacity, marketing,y)
Ability to satisfy customers’ needs (in terms of price, quality, complements availability)
Lack of competitors sponsoring competing technologies
Negotiation power with institutions Ex-post
Appropriability of the technology;
Lack of concurrent technologies ready for exploitation in the near future
Uniqueness and low imitability of technology
Availability of complementary assets
Low inertia of the market in choosing the technology
High switching costs for users Form of Co-operation Developing
High market power
Sharing with partners tangible and intangible resources
Mutual trust
Complementarity of partner’s R&D resources
Sharing of long term goals with partners
High commitment of management in pursuing the final aim Sponsoring
High market power of the coalition
Partners’ brand
Complementarity of marketing and distribution resources
Similarities in the technologies sponsored by the different partners
Low competition among partners
High co-ordination of partners’ strategies and managerial approach able to simplify the achievement and the implementation of the strategy

The battle of the bands (see Besen, 1992) seems to demonstrate that only when there are many different sources of a technology (in the case the Frequency Modulation transmission) can customers be convinced to use it. If the technology comes from a monopolistic source, users fear the possibility of opportunistic behavior from the firm and avoid becoming committed to the technology. In the case of FM bands, users started to adopt the

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technology only when many sources of FM technology became involved in the standard setting process. Building an Early Lead Three factors seem to be particularly critical for the success of this tactic: short time to market; quick, efficient, and widespread distribution; and low prices. The case of Netscape provides an example. Netscape was the pioneer in developing an Internet browser and introduced its Navigator very quickly onto the market, gaining market leadership when competition was still very weak. Many reasons explain Netscape’s success. First of all, the very short time to market allowed Netscape to constitute a de facto monopoly. Then, the ability to expand its dominant position by giving away its browser at no cost and using the Internet for quick and widespread distribution. In the end, Netscape built an early lead that allowed it to remain a major player even when a more powerful competitor such as Microsoft entered the market. Influencing Forecasts of Future Sales The main factors influencing the success of this tactic refer to the credibility of the firm and to the network of partners supporting the technology. In order to make customers confident of the future opportunities of a particular technology, it is important to establish a network of relations with important firms that, even if not directly involved in the standardization process, offer the technology close support by explicitly declaring their confidence in the technology architecture. The case of Modem 56k illustrates the use of this tactic. Modem 56k represents the last standard-setting of an analog modem before the digital era. Two alliances competed to set this standard, the first guided by US Robotics2 and the second by a group of firms including Motorola, Rockwell, and Lucent Technologies. The competing technologies were quite similar but not compatible. Both alliances used several tactics in order to get ahead of one another and, during the process of standardization, all competitors used and abused the tactic of influencing forecasts of future sales, claiming the support of several actors in the market even when that was not the case. The number of different, changing, and in some cases contradicting statements about future sales dramatically reduced the companies’ credibility and, as a consequence, delayed the standardization process. In the case of PC operating systems, Windows was introduced by Microsoft when it was not an economic giant yet. The superiority of the

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embedded technology with respect to the competitors’ was not clear. However, Microsoft has been able to strongly influence the forecasts of future sales because its software was indirectly supported by IBM, perhaps the most important player in the computer market at that time. In few years, Windows became the standard operating system for PCs. Attracting Suppliers of Complementary Goods This tactic can be useful for the standardization process only when the suppliers of complements have strong market power, a well-known brand, or a strong production or distribution capacity. The case of Matsushita and JVC’s VHS standard provides an example of this tactic. Matsushita and JVC entered the VCR market when Sony’s Betamax had already created a mass market for videocassette recorders. Such a delay, however, did not prevent VHS from winning the standardization race. Matsushita and JVC closely collaborated with very important suppliers of complements, for instance RCA. This persuaded a growing number of customers that VHS was the most probable winner of the standardization race and stimulated them to adopt the technology. Product Preannouncements A first CSF needed for achieving success using this tactic is strong credibility. However, it is not enough. The expected time between the preannouncement and the actual introduction of the technology in the market should be reasonably short in order to be accepted by potential customers that otherwise could quickly adopt the concurrent technologies. In the case of AM/FM bands (see Besen, 1992), the preannouncement of new products was widely adopted, but it did not achieve the desired success because the expected lapse of time was too long and the excessive use of this tactic reduced the firms’ credibility. In contrast, in the software market, Microsoft continuously preannounces new versions of its software and punctually releases them with great success. It continuously improves its Windows operating system in order to make it more user friendly and to allow new applications and, more importantly, it punctually releases the new versions as announced. This behavior allowed Microsoft to develop strong credibility that, together with its dominant position in the software market, makes product preannouncement successful. Price Commitment CSFs for price commitment are the credibility of the firm and its actual capability to guarantee future reductions of prices.

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Again the experience of US Robotics in the case of the Modem 56k standard-setting process can be used an example. US Robotics faced strong competition from the Motorola alliance and committed itself to future low prices. From the beginning, US Robotics demonstrated a constant attention to the satisfaction of customers’ needs. Hence, customers placed trust in US Robotics’ price commitment and this contributed to the success of the X2 sponsored by US Robotics for the Modem 56k market.

Critical Success Factors in Decisions About Timing Ex-ante Standardization Strong market power and the lack of concurrent technologies seem to be critical for ex-ante standardization. The case of the CD offers an example. In 1979 Philips, Telefunken, Sony, and JVC were developing incompatible technology for the compact disk. Philips, fearing strong competition following the introduction of different technologies in the market and having weak market power, preferred to cooperate with Sony in order to achieve ex-ante standardization. The combined market power of Philips and Sony and the annihilation of competition subsequent to their alliance (that pushed other competitors to give up) allowed the definition of a standard before the product introduction.

Ex-post Standardization Among the many CSFs characterizing ex-post standardization, the appropriability of the technology proposed3 and the low inertia of the market are among the most important. The standard-setting process of Modem 56k highlights in particular the importance of the market’s inertia. Indeed, US Robotics developed a technology highly appropriable, but it had some difficulties in winning the standardization race because of the high inertia of the market. For a long time, the coalitions competing for the definition of a standard for the Modem 56k technology had similar levels of market power and seemed unable to take the lead. Customers, not being able to foresee the potential winner of the standardization race, preferred to wait instead of acquiring one of the two technologies competing on the market. This reduced the overall market for 56k modem technologies and greatly delayed the achievement of the standard. Therefore, in the end, the standardization was barely able to

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achieve success because the market demonstrated a significant level of inertia that the coalitions’ strategies did not help to reduce.

Critical Success Factors in Decisions about Cooperation Developing Alliances The complementarity of partners’ R&D resources, their mutual trust, and strong market power of the alliance are all important success factors for developing alliances. In the case of CD standardization, the high level of complementarity between the R&D resources of Philips and Sony are the main reason for the success of the process. Indeed, Sony owned the better technology for the identification and correction of errors, and Philips used a core technology considered superior for the development of the compact disk By integrating these technologies, the coalition was able to develop rather quickly the CD, achieving excellent results. However, the technologies’ complementarity was not the only element of success of the coalition. Surely, the mutual trust between the partners was an important prerequisite to the final success and, in the commercialization phase, their strong market power greatly simplified the introduction.

Sponsoring Alliances A fundamental CSF for sponsoring alliances is the similarity between partners’ technologies, both from a technical and from an architectural point of view. Other CSFs are the presence of low competition among partners and the strong market power of the coalition. For example, the failure of Sony and Philips in finding an agreement on the technology to sponsor in the case of Minidisc and DCC was mainly due to the great differences characterizing the two technologies that made finding a compromise very difficult. Being unable to agree, the two companies went alone in the market. In contrast, the failure of the alliance headed by Motorola, Lucent Technologies, and Rockwell when competing with US Robotics for the standardsetting of Modem 56k was largely due to the fact that the partners were more interested in competing amongst each other than against US Robotics. Each partner tried to emerge as the leading actor in the coalition and, therefore, the alliance’s strategy was not well coordinated against its mutual competitor who eventually won the standardization race.

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CRITICAL CAPABILITIES FOR SUCCESSFUL STANDARDIZATION STRATEGY The empirical study has highlighted the critical factors for a successful standardization strategy. The next step is to understand which capabilities the company should possess in order to recognize all the CSFs described above and to exploit them adequately over time. Reference is made here to a concept of competence (Chiesa & Manzini, 1996) that identifies three kinds of capabilities at three respective ‘‘levels’’ of a competence that must all be in place to achieve the formation of an organizational competence: (i) The capability comprising the first level of a competence refers to the System View capability of the firm, which is the capability to envisage the evolution of the characteristics, boundaries, and actors of the competitive context and to promote and develop management criteria that coherently match the firm’s expectations. In other words, the system view consists of the capability to foresee the evolution of the firm’s context (industry foresight) and to view the firm as a coordinated and integrated set of resources (Sanchez & Heene, 1996, 2004). (ii) The capability comprising the second level of a competence is that of Distinctive Capabilities, which refer to the definition of repeatable patterns of action that allow the coordinated and integrated deployment of the firm’s knowledge and resources, aimed at attaining strategic goals. The practical result of distinctive capabilities is the definition of organizational routines that allow the firm to exploit the firm’s distinctive skills and knowledge to manage activities coherently with the firm’s goals. Organizational routines can concern any management processes (new product development, product distribution and sales, administrative processes, etc.). (iii) The capability comprising the third level of a competence refers to the ability to embody the distinctive capabilities of the firm into Core Outputs, that is into core components, core products, core production processes, and core services which are unique and inimitable, differentiate the firm from competitors, are sources of a potential extra-profit, and can be used across different end products. Applying this framework, we have extracted from the cases we have analyzed a number of specific capabilities that appear to be critical in the formation of competences that can successfully support standardization strategies. These capabilities are presented in Table 5 for each of the three posited levels of capabilities required for the formation of a competence.

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Table 5.

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The Critical Capabilities for Successful Standardization Strategy. Critical Capabilities for Successful Standardization

System view capability

– Clear identification of future opportunities for the desired standard in terms of market and technological development – Identification of potential different applications of the desired standard – Coherent strategic intent over time – Identification of future customers’ potential needs (unexpressed) – Global vision of the set of capabilities and complementary assets needed to manage the technological development of the standard (already possessed by the company, to be internally developed, to be externally acquired) – Global vision of the set of capabilities and complementary assets needed to manage the commercialization of the standard (already possessed by the company, to be internally developed, to be externally acquired) – Continuous financial, human, and managerial support to the standardization process

Distinctive capabilities

– Routines for managing relationships with partners for the technological development of the would-be standard (suppliers, customers, competitors, research centers, suppliers of technological complementary assets) – Routines for managing relationships with partners for the commercialization of the would-be standard (customers, competitors, media, institutional bodies, distribution channels) – Routines for the integration and co-ordination of different internal and external capabilities – Routines for brand management

Core output

– Flexibility and adaptability of the technology/product/component representing the basis for the standard – Technological superiority of the technology/product/component representing the basis for the standard – Brand

We also emphasize here that the capabilities shown in Table 5 must be well coordinated and integrated to achieve competence in pursuing standardization strategies. Table 6 elaborates how the capabilities at each level of competence identified in Table 5 interact and must be interrelated to create competence in carrying out a standardization strategy. As Table 6 suggests,

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The Critical Capabilities needed for different Tactics, Timing and Co-operation. – Clear identification of future opportunities for the desired standard in terms of market and technological development – Coherent strategic intent over time

– Identification of potential different applications of the desired standard – Global vision of the set of capabilities and complementary assets needed to manage the technological development of the standard (already possessed by the company, to be internally developed, to be externally acquired) – Global vision of the set of capabilities and complementary assets needed to manage the commercialization of the standard (already possessed by the company, to be internally developed, to be externally acquired) – Identification of future customers’ potential needs (unexpressed) – Continuous financial, human and managerial support to the standardization process Distinctive capabilities

– Routines for managing relationships with partners for the technological development of the would-be standard (suppliers, customers, competitors, research centers, suppliers of technological complementary assets) – Routines for managing relationships with partners for the commercialization of the would-be standard (customers, competitors,

Tactics: asc, pp Timing: ex ante Form of co-operation: dev Tactics: pp, pc timing: ex ante Form of co-operation: dev Tactics: asc timing: no Form of co-operation: dev Tactics: bel, asc Timing: ex ante Form of co-operation: dev

Tactics: bel, asc, ss Timing: ex ante, ex post Form of co-operation: dev, spon

Tactics. asc, pp, pc Timing: ex ante Form of co-operation: dev Tactics: bel, pc Timing: no Form of co-operation: dev Tactics: bel, pc, pp Timing: ex ante, Form of co-operation: dev

Tactics: ss, bel, iffs, asc, pp Timing: ex post Form of co-operation: dev, spon

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Table 6. (Continued ) media, institutional bodies, distribution channels) – Routines for the integration and coordination of different internal and external capabilities – Routines for brand management

Core output

– Flexibility and adaptability of the technology/product/component representing the basis for the standard – Technological superiority of the technology/product/component representing the basis for the standard – Brand

Tactics: ss, asc Timing: no Form of co-operation: dev Tactics: bel, asc, pc Timing: ex ante Form of co-operation: spon Tactics: asc, bel Timing: ex post Form of co-operation: spon Tactics: bel, pp, iffs Timing: ex ante, ex post Form of co-operation: spon Tactics: ss, iffs, asc, pp Timing: ex ante Form of co-operation: dev, spon

Note: ss ¼ second sourcing; bel ¼ building an early lead; iffs ¼ influencing forecasts of future sales; asc ¼ attracting suppliers of complements; pp ¼ product preannouncement; pc ¼ price commitment; dev ¼ development; spon ¼ sponsorings.

achieving excellence in any individual capability at one level is not sufficient to create overall organizational competence. Similarly, a deficient capability at any level can greatly limit an organization’s overall competence and the success of its strategic standardization initiatives. Four aspects of this systemic interrelationship among these capabilities deserve further comment: The above table clearly shows that, in order to define and implement a successful standardization strategy, a company should have developed capabilities at all three levels, i.e. a system view capability, some distinctive capabilities, and some core outputs. Being ‘‘excellent’’ in capabilities at one single level does not ensure success and, conversely, a lack of competence at one level can undermine the success of the strategy. The capacity of the company to consider the standardization strategy as a complex set of coordinated and coherent decisions concerning timing, tactics, and cooperation is critical. It is necessary to evaluate how decisions related to one dimension actually affect the other two in the long run. It is critical to understand whether and how such decisions are sustainable and

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suitable in the long run, according to the envisaged evolution of markets and technology. Finally, the capacity to recognize which specific capabilities are needed in the long term to implement a definite standardization strategy, i.e. a definite set of decisions about tactics, timing, and cooperation, is fundamental. In other words, the ‘‘system view capability’’, also referred to as the ‘‘know-why’’ of the company (Sanchez, 1997), represents the foundation for a successful standardization strategy. Given the need to exploit a wide set of capabilities, either internally developed or externally sourced, the firm’s ability in managing and exploiting such capabilities in a coordinated and integrated way is particularly relevant for the successful implementation of the standardization strategy. In other words, it can be argued that the ‘‘distinctive capabilities’’ or its ‘‘know-how’’ (Sanchez, 1997) are the necessary capabilities to successfully translate strategic decisions into actions. For a firm to have the overall competence that enables it to sustain leadership in a standardization process, it must possess specific, unique, difficultto-imitate capabilities and/or resources relevant to a specific technology, product, component, or market (e.g., distribution channels) that give it the bargaining power to influence the definition and adoption of a standard by other firms. In general, this requires that a firm have three forms of knowledge (Sanchez, 1997): (i) the ‘‘know-what’’ knowledge that enables a firm to identify the specific technology, product, component, or market resource that will endow it with bargaining power; (ii) the ‘‘know-why’’ knowledge that enables development of an identified technology and/or the design of an identified product, component, or market resource; and (iii) the ‘‘knowhow’’ to produce an identified product or component and/or to operate an identified market-related process. When these conditions are met, 4 a firm can use its bargaining power to influence the definition of standards that favor the firm’s strategic interests. The competences needed for successful standardization strategy should dynamically evolve according to the evolution of a firm’s external and internal context. Such an evolution could suggest modifications to decisions about the tactics, timing, and form of cooperation to be adopted and, as a consequence, the capabilities requiring change as well. According to the major contributions of the literature on the dynamics of capabilities (Chiesa & Manzini, 1996; Sanchez, Heene, & Thomas, 1996; Heene & Sanchez, 1996), research on standardization further shows that for a successful application of competence-based management, a continuous learning process should be sustained within a firm in which its capabilities accumulate, improve, and deepen over time in concert with the evolutions in its

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external environment and the development of its tangible and intangible resources.

CONCLUSIONS The standardization process represents a critical challenge for companies operating in modular and network markets. In most cases, the success or failure of the standardization strategy adopted by a company determines its possibility to survive and grow within the market. Hence, there is need for a better understanding of the capabilities and associated CSFs needed to build competences that can effectively support strategies that involve significant elements of standardization. This chapter provides a framework that could help companies in identifying the CSFs and capabilities they need for defining and implementing a successful strategy of standardization of modular architectures. The underlying logic of the framework is shown in Fig. 3: the success of a standardization strategy (defined in terms of tactics, timing, and form of cooperation) is affected by specific CSFs. In order to recognize and adapt to such CSFs in an effective way, a set of capabilities is required (Box 1). As an example, in the following table we link the strategy, CSFs, and capabilities in the case of Modem 56k. Table 6, which links critical capabilities with standardization strategy, can be used as a reference:
to understand which capabilities are needed to successfully define and implement decisions about the tactics, timing, and form of cooperation, and

Underlying competencies:

Standardisation strategy:

Systemviewcapability Distinctivecapabilities CoreOutput

Critical success factors

Fig. 3.

The Conceptual Framework.

Tactics Timing Form of cooperation

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Box 1. Critical Success factors and Competencies in the case of Modem 56k. The standardisation of Modem 56k concerns the modem technology. As described in Table 1, the winning standard was very similar to the 3Com technology, and 3Com was considered the real winner of the struggle. The standardisation strategy of U.S. Robotics/3Com can be briefly summarised as follows: TIMING: U.S. Robotics chose to introduce X2 on the market as soon as possible in order to precede competitors and exploit a monopolistic power. However, the quick reaction of its competitors forced U.S. Robotics to try an ex-post standardisation of X2 bitterly competing with k56flex. FORM OF CO-OPERATION: Despite its traditional stand-alone policy 3Com formed several collaborations in order to impose the X2 technology on the market. The network of collaborations created by 3Com was absolutely impressing. TACTICS: 3Com adopted several tactics: product preannouncement, attracting suppliers of complements, influencing forecasts of future sells and price commitment. Such a strategy was successful: 3Com was able to leverage effectively some important critical success factors. First of all the firm had a great credibility, its brand was known for the excellent customer service and for the attention that the company paid to its customers in terms of quality, price, and service. This made effective the tactics adopted. In particular, attracting suppliers of complements had been critical since it guaranteed the availability of those complementary assets that, in turn, constituted another important CSF. Other important CSFs allowed to effectively exploit the collaborations. Indeed, 3Com chose partners with a good complementarity of marketing and distribution resources and characterised by a low level of competition, and it was also able to achieve a high level of co-ordination among them. Finally, the high switching costs for users gave a great importance to the availability of complementary products that could steer the potential customers toward the choice of the technology.

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Underlying capabilities SVC: i) clear identification of market and technological opportunities; ii) coherent strategic intent; iii) global vision of the set of competencies needed; iv); identification of future customers’ needs. DC: routines for managing i) technological and ii) commercial relationships. CO: i) technological superiority of the system; ii) brand.

Critical success factors availability of complementary assets; high switching costs of users; low competition among partners; complementarity of marketing and distribution resources; high co-ordination of partners; credibility; brand.

Standardisation strategy Timing: ex-post. Form of co-operation: sponsoring; Tactics: i) product preannouncement; ii) attracting suppliers of complements; iii) influencing forecasts of future sales iv) price commitment.

Fig. 4. Linking Strategy, Success Factors and Capabilities: The Case of Modem 56k.

The underlying competencies, which allowed to successfully exploit the mentioned CSFs, can be summarised as follows: At the first level, 3Com was characterised by a clear and coherent strategic intent and has been able to identify both the technological and the market opportunities related to X2. From such a point of view 3Com was at the edge with respect to its competitors, that were not able to grasp the possibilities of Modem 56k until the announcement of the X2. 3Com had also a clear vision of the competencies needed for the successful development of the standardisation strategy. At a second level, a critical role was played by the routines for managing technological and commercial relationships. Finally, at a third level, the technological superiority of the system together with the effectiveness of the brand allowed 3Com to define and realise a product of which the characteristics and functionality was more appealing for the customers. The critical success factors and capabilities are summarized in Figure 4.

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to understand which strategies, in terms of tactics, timing, and form of cooperation, are suitable according to the capabilities possessed by the company. The framework confirms that standardization represents a very complex challenge for companies, and winning the standardization war requires a wide set capabilities and complementary assets relating to R&D, manufacturing, marketing, organization, etc. It is obviously very difficult for a single company to develop internally all necessary capabilities. As a consequence, selecting the most appropriate form of cooperation with other actors involved (or to be involved) in the standardization process becomes critical. The need to put in place an effective collaboration with other partners emphasizes the relevance of the second-level capabilities, i.e. all the routines developed by the company to manage relationships with external actors and to integrate and co-ordinate the various contributions (in terms of tangible and intangible resources) provided by each of them. In this chapter we focused on system standardization, as previously discussed. However, a more detailed analysis of the problems related to the standardization of individual components of a modular architecture could be useful in order to understand more in depth the features of standardization strategy. From this point of view, it is interesting to notice that when modular architectures are involved, firms tend to allow their customers to become active participants in deciding ‘‘the mix and match’’ of components that provide the bundle of product functions and performance levels each customer desires. Eventually, it leads to a fundamental shift in the locus of product differentiation and standardization decisions from producers to customers (Sanchez & Collins, 1999). As a result, it may be interesting to study the consequences on firms’ capabilities of the shift of the locus of innovation caused by the adoption of standard modular architectures. Indeed, such a shift fundamentally transforms the nature of competition in product markets, requiring firms to acquire new competences based on new capabilities in technology development, product design, outsourcing, distribution, and marketing, often greatly diminishing the strategic value of a firm’s prior competences (Sanchez & Collins, 1999).

NOTES 1. In our analyses we adopt concepts of capabilities and competences that follow the definitions of these terms in Sanchez et al. (1996) and Sanchez and Heene (2004). A capability is a repeatable pattern of action achieved through coordinated de-

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ployments of an organization’s resources. A competence is ‘‘the ability of an organization to sustain coordinated deployments of resources in ways that help the organization achieve its goals’’ (Sanchez & Heene, 2004, p. 7). Thus, a competence is an overall organizational property, while a specific capability within a firm is a contributor to creating and sustaining an organization’s overall competence. Thus, having specific kinds of capabilities relevant to standardization is a necessary (but not sufficient) condition for achieving overall organizational competence in pursuit of a strategy that incorporates significant elements of standardization. 2. US Robotics is now 3Com. 3. It could seem that a modular architecture could not allow a sufficient appropriability of the technology. However, exploiting its first mover advantage, the developer of the technology could maintain strong capabilities about the ‘‘core’’ aspects of the technology, gaining in such a way a strong appropriability. 4. To the extent that any of these forms of knowledge can be ‘‘bundled’’ into an intellectual property right that can be effectively traded in markets or transferred through alliances, a firm may not need to develop all of these forms of knowledge internally, but may be able to succeed in assembling the necessary set of knowledge by acquiring such intellectual property rights to supplement its own knowledge.

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MODULAR DESIGN AS A KEY CAPABILITY FOR CREATING FUTURE PRODUCTS UNDER UNCERTAINTY Umut Asan, Sec- kin Polat and Seyda Serdar Asan ABSTRACT Organizational environments are far from a steady equilibrium. Since competence-based theory aims to prepare organizations for the future and to contribute to long-term corporate prosperity, it is vital to develop ways to imagine possible futures and ways to respond to them. This chapter discusses a scenario-based approach to anticipating and responding to uncertain futures by developing modular products that increase a firm’s chances of succeeding in multiple alternative futures. After introducing the theoretical basis of this study, a structured approach to operationalizing the generation of future scenarios and the development of modular product designs is developed. The approach consists of four stages: (1) generation of scenarios about future market needs, (2) translation of those needs into goals for modular designs, (3) the modular design process itself, and (4) evaluation of the modular design process. The modular design process we discuss is a function-based design approach that is independent form and thus allows joint consideration of future market needs and product functions that can serve those needs. We illustrate our

Research in Competence-Based Management, Volume 1, 237–270 Copyright r 2005 by Elsevier Ltd. All rights of reproduction in any form reserved ISSN: 1744-2117/doi:10.1016/S1744-2117(05)01010-8

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proposed approach by applying it to generate scenarios and modular design criteria for the closed circuit television (CCTV) market in the security equipment sector in Turkey.

INTRODUCTION Today organizational environments are far from a steady equilibrium (Foster, 2000). Increasingly, organizational environments seem to be characterized by dynamism, complexity, uncertainty, ambiguity, nonlinearity, and a periodicity (Stacy, 1995; Black & Fabian, 2000). The fundamental strategic question that arises within such market environments is, ‘‘What must an organization do to create and/or maintain competitive advantage?’’ – a question that is increasingly a focus of strategy research and practice. To address this issue, researchers in the competence-based approach to strategic management have advocated a shift in the focus of strategy theorizing, research, and practice to the process of accumulating resources, developing capabilities, and building competences that enable a firm to respond to a range of future outcomes (Prahalad & Hamel, 1990; Hamel & Prahalad, 1994; Sanchez, Heene, & Thomas, 1996; Foster, 2000; Sanchez, 1996, 1999, 2001a).1 Two key perspectives in competence-based theory are the representation of a firm as an open system that competes and cooperates in both resource markets and product markets (Sanchez & Heene, 1996, 1997), and the objective to build strategy theory on the ‘‘four cornerstones’’ of a dynamic, systemic, cognitive, and holistic view of people, organizations, and environments (Sanchez et al., 1996). Competence theory seeks to create and maintain a dynamic fit between a firm and its environment (Foster, 2000). In pursuing this fundamental objective, a basic challenge to managers is anticipating changes in their environment. To do this, managers must find ways to imagine possible futures. Scenario planning has been developed to provide a disciplined method for imagining possible futures (Schoemaker & Amit, 1997). Scenario planning tries to interpret a complex and uncertain future in ways that enable managers to imagine specific kinds of alternative futures. In this chapter, we undertake to show an important way in which scenario planning can be integrated into the competence-based framework to help managers identify the nature of competences that would be robust across a range of multiple imagined futures (Schoemaker, 1992; Schoemaker & Amit, 1997; Polat & Asan, 2005; Sonne, Harmsen, & Jensen, 2002; Gausemeier, Fink, & Schlake, 1998).

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In essence, what we propose in this chapter is an approach to operationalizing a ‘‘self-perpetuating cycle’’ of competence analysis, competence building, and competence leveraging (Foster, 2000). In this effort, we draw on prior work on competence analysis (Klein & Hiscocks, 1994; Asan & Soyer, 2003), which is the evaluation of an organization’s skillbase and identification of its competences. Competence building is any process by which a firm achieves qualitative changes in its existing stocks of resources and capabilities, including new abilities to coordinate and deploy new or existing resources and capabilities (Sanchez et al., 1996). Competence leveraging is a process through which a firm applies its existing capabilities to current or new market opportunities in ways that do not require qualitative changes in the firm’s resources or capabilities (Sanchez et al., 1996). We also extend prior work by Polat and Asan (2005) that proposes a methodology for generating broad future scenarios, identifying specific product scenarios within alternative future scenarios, and then defining specific capabilities that will be strategically important under imagined product scenarios. In this methodology, product scenarios provide a useful way to think about the future in a more concrete way and in a way that directly links expectations about future market needs and the future competences a firm will need to serve those needs. More specifically, our study focuses on an increasingly important product design methodology based on modularity for translating future customer needs into future products under conditions of uncertainty (Sanchez, 1995, 1999; Sanchez & Mahoney, 1996). Modular product designs provide a way to prepare to respond to a range of possible future market needs by developing product with high levels of configurability and evolvability. Although explaining how to develop modular designs is beyond the scope of this chapter (see, however, Sanchez (2000) for a discussion of modular design processes), we do suggest why modular design is an important capability in the competence of any firm facing significant future market uncertainty.

MODULAR DESIGN CAPABILITY We now define the concepts design and modularity. Design is the process of inventing objects whose technical structures enable them to perform functions for customers and users (Alexander, 1964). The structure of a design describes how a product is constituted, how the design works as it does, and what it does in delivering a fundamental customer benefit (Baldwin & Clark,

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2000). The structure of a product design is described in turn by its architecture (Sanchez & Mahoney, 1996; Asan, Polat, & Serdar, 2004; Sanchez forthcoming), which describes the kinds of functional components in a design and the ways the components interact in the design as a system of components. Modularity enables the development of architectures that provide a way of interrelating components in a design so that some range of variations in each type of component can be substituted (‘‘plugged and played’’) into the design to configure product variations (Sanchez & Mahoney, 1996; Sanchez, 1999). The interface specifications (Sanchez, 1999) in a modular product architecture define how components interact in the design and thus determine the ways in which components can be substituted into the architecture. Interface specifications in a modular architecture thus provide a set of design rules (Baldwin & Clark, 2000) governing the ways in which product variations can be configured within the architecture. Modular architectures are increasingly being used to create ‘‘platforms’’ for leveraging product variations in markets for automobiles, consumer electronics, personal computers, software, power tools, household appliances, and other products (Sanchez & Mahoney, 1996; Sanchez, 2004). Because of their greater configurability, modular designs allow faster product evolution (O’Grady, 1999; Tsai & Wang, 1999), help to manage complexity (Baldwin & Clark, 2000), lower costs, increase product variety, and improve a firm’s strategic flexibility to respond to an uncertain future (Sanchez, 1995). A key premise for the arguments in this chapter therefore is that a capability in creating modular designs should be an essential aspect of the competence of any company facing dynamic, uncertain market environments (Sanchez, 1995; Worren, Moore, & Cardona, 2002). Several studies support our view that product design/development capability is an important part of a firm’s competence (Deutsch, Diedrichs, Raster, & Westphal, 1997; Ma¨kinen, 2000; Eisenhardt & Martin, 2000; Helfat & Raubitschek, 2000; Danneels, 2002). What we now undertake to add to this view is that modular design capability is an increasingly important form of design capability within a firm’s competence, because a competence based on significant modular design capability can bring a firm four important kinds of benefits (Javidan, 1998; Prahalad & Hamel, 1990):
helping to provide access to a wide variety of markets;
making a significant contribution to the perceived customer benefits of the end product;
providing a capability that is difficult for competitors to imitate; and

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Table 1. Categories

1

2

3

4

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Categories of Benefits of Modular Product Design Capability. Benefits from Modular Design Capabilities Increased variety in products. Increased ability to configure products to meet diverse customer needs by mixing and matching components (Sanchez 1999; Schilling, 2000). Reduced costs of product variety. Greater configurability of designs enables leveraging of products to support several product lines and businesses. Greater strategic flexibility (Sanchez, 1995) Providing customized products (Pine, 1993), greater variety and low costs, (O’Grady, 1999). Faster introductions of higher performing products (Sanchez, 2001b; Worren et al., 2002) Ability to reduce coordination cost and complexity of development process (Sanchez & Mahoney, 1996). Improved architectural knowledge (Sanchez, 2002). Hidden design rules that may be hard to imitate (Baldwin & Clark, 2000) Embedded hierarchical coordination of distributed component development teams (Sanchez & Mahoney, 1996). Accelerated technological learning (Sanchez, 2001b, 2002)


stimulating collective learning in the organization, especially about how to co-ordinate diverse production skills and integrate multiple streams of technologies. These categories of benefits of modular product designs are summarized in Table 1. Finally, we note that the creation of modular design capability can be quite challenging to firms. As a key capability in a firm competence, modular design requires the integration of a variety of individual skills (Hamel, 1994), architectural knowledge, interface design, standardization, integration of know-how, know-why, and know-what forms of knowledge (Sanchez, 1997), coordination skills, insights into customer preferences, and other organizational knowledge and capabilities (Sanchez, 2000).

RESEARCH QUESTIONS AND PROPOSED APPROACH Scenarios provide a managerial tool for imagining multiple alternative futures and the products that markets may want in alternative futures. What is needed now is a way of reasoning from imagined product scenarios to an understanding of the kinds of competences a firm will need to provide

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What?

Future Competences

Future Products

M

Future Needs (Scenarios) Modular Products

Modular Design

How?

Fig. 1.

An Integrative Framework Iinking Scenarios, Modular Design, and Future Competences.

imagined products in the future (Polat & Asan, 2005). Our first research question therefore is, ‘‘How can we identify the competences that a firm will need to be successful in alternative imagined futures?’’ This chapter also poses the further question, ‘‘How can modular design as a key capability in firm competence help to provide advantageous ways of responding to alternative imagined futures?’’ Fig. 1 illustrates the integrative framework that encompasses scenario generation, modular design capability, and firm competences and that forms the basis of our research questions and research design. In the figure, the question ‘‘What?’’ indicates the need to try to anticipate possible futures from the perspective of the present, while the question ‘‘How?’’ indicates the need to understand how to begin in the present to prepare for an uncertain future. We propose that using scenarios to help anticipate the ‘‘What?’’ and modular design capability to answer the ‘‘How?’’ will help significantly to sustain a continuous cycle of competence identification, competence building, and competence leveraging in the face of an uncertain future. After explaining in the next sections the theory that underlies this integrative framework, a structured approach is developed for implementing the framework. In the implementation of the framework, future market and technology scenarios are imagined, and future modular product concepts are defined that offer the greatest chance of success in the multiple imagined futures. Fig. 2 summarizes the specific steps in this implementation process.

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Appropriateness To Modularity

Degree Of Modularity

Future Scenarios Scenario 1 Scenario 2

…

Scenario n

Future Needs

Future Product Functions

Future Function Structure Diagram

Function Clustering by Heuristics

Modular Products Modular Design Process

Construction of the Product-Scenario Matrix

Fig. 2.

Steps in the Implementation Process.

In the first step, possible futures are imagined through a scenario-planning method, and these scenarios are transformed into ‘‘necessity scenarios’’ (Polat & Asan, 2005) that define the most likely future core needs of customers. In parallel with the first step, the need and potential for a modular design is assessed, and the modularity level of product concepts are evaluated. Future customer needs are then translated into future product functions, which are used to construct a function structure diagram. Applying some heuristics, sub-functions in the function structure diagram are clustered into modules. After all functional components (modules) in the product design are defined, a module-scenario matrix is constructed to help define future products. A consistency analysis is performed to select the possible future products that have the greatest potential to be successful products in multiple alternative futures. The following sections elaborate these steps.

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Constructing Future Scenarios A wide variety of methods can be used to generate scenarios; generally, the choice of methodology will depend on the problem, the resources, and the levels of sophistication of the planners and users (Raubitschek, 1988). In this study, a qualitative scenario planning method proposed by Godet (1994) is used. This qualitative method comprises two steps (Godet, 1994; Godet, Monti, Meunier, & Roubelat, 1999):
Building the base: This phase attempts to construct a base image of the past and present state of the firm as a system and its environment. The base image is constructed in three steps: (1) define the firm as a system and its environment; (2) determine the key variables; and (3) analyze the various actors’ strategies. Structural analysis is used to perform the first two steps. The third step aims to identify the mechanisms and the leading actors, which have influence on the development of the system.
Scanning the range of possible future images and reducing uncertainty: Possible future images of the firm and its environment are generated as a set of hypotheses based on the key variables and actors’ strategies. Morphological analysis is used to scan possible futures (possible combinations of variables and strategies). To reduce uncertainty and identify the most probable scenarios, expert methods are used to assist managers in estimating subjective probabilities of the possible future images generated. Finally, likely or necessary path was from the base image (present situation) to the future images identified are described. Analysis of Appropriateness of Modular Designs Although some researchers argue that modular designs constitute a new and superior paradigm for design of all kinds of products (Sanchez, forthcoming), others have suggested that modular designs may not be the solution to all design problems (Baldwin & Clark, 1997). Some studies have also argued that there are trade-offs between modular designs and integrated designs (Erens & Verhulst, 1997), usually focusing on posited trade-offs between greater product variety and higher performing products. In any event, we propose that a useful next step is to analyze whether and why a product or product family should have a modular design. Asan et al. (2004) developed a questionnaire based on the interfirm product modularity model proposed by Schilling (2000) to address this question. In the questionnaire, important external factors such as market and technology trends

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and internal factors such as component synergies and firm capabilities ¯ on a 100-point percentage scale. are assessed to derive an overall score (N A) The score derived indicates the appropriateness of a modular design for a given product concept. Product concepts and families with greaterthan-average scores will generally be judged appropriate for modular designs.

Evaluation of Degree of Modularity Modularity is not a dichotomous variable (Ulrich & Eppinger, 1995), and most product designs can be classified along a continuum from highly modular to highly integrated (Worren et al., 2002). The next step after determining the need for a modular product design in the future is to determine how modular a firm’s current design of such a product is. In the approach we present here, we adopt a questionnaire developed by Asan et al. (2004) to evaluate the degree of modularity of a product’s current design. The questionnaire assesses the degree of modularity directly by determining if any modular design rules have been used in creating the product design, and assesses modularity indirectly by evaluating design outputs (products). ¯ is calculated on a 100-point percentage scale to An overall score (N D) give the degree of modularity. Current product designs that score over an average score may be considered for revision or upgrading in their modular architectures if such changes could adequately configure products needed to serve future customers needs. A product design that scores low on its current degree of modularity but high in the degree of appropriateness for a more modular design to meet future market needs, may have its architecture converted from an integral design to a more modular design. (A firm’s current product design may also be benchmarked against competitors’ or best practice firms’ product designs on dimensions of degrees of modularity and appropriateness.) The four possible outcomes from applying this test for the degrees of current modularity and appropriateness for future modular designs are shown in Fig. 3. The four outcomes shown in Fig. 3 can be elaborated as follows: ¯  50% and N Do50%; ¯
If N A this combination is named ‘‘Perfect Modular,’’ and the architecture of the product or product family should be a modular one. ¯  50% and N D ¯  50%; this combination is named ‘‘Conditional
If N A Modular,’’ and in this case an additional constraint should be considered.

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Fig. 3.

¯  ND ¯ Decision Matrix. TheN A

¯  N D; ¯ a modular architecture will still be appropriate in the future. If N A ¯  50%), an increase in Because the product is already modular (N D the degree of modularity of the current design should be considered. On ¯ ¯ then the current degree of modularity of the the other hand, if N AoN D design should be maintained. ¯ ¯
If N Ao50% and N Do50%; this combination is named ‘‘Exceptional Modular,’’ and an additional information on firm strategy and competitive conditions will be needed to make a decision. For example, depending on the firm’s strategy at different stages in the product life cycle (Sanchez & Heene, 2004, chapter 9), there may be advantages in changing ¯ ¯ the current arthe architecture into a more modular one. If N AoN D; chitecture may be sufficient in the future or perhaps changed into a more integral design. ¯ ¯  50%; this combination is named ‘‘Integrated.’’
If N Ao50% and N D Although the current architecture of the product or product family is to some degree modular, there would be advantages in having a more integral design in the future. In this case, the product architecture should be changed to be a more an integrated design.

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Identifying Future Needs Since a fundamental goal of modular design is to provide a firm with robust modular product designs that are robust in their ability to be used across as wide a range of future scenarios as possible, it is essential to clarify the future market needs that modular product designs must serve in each imagined scenario. For example, in scenario analysis in the security industry, future market needs can be explored by asking questions like ‘‘What specific security threats do we need to eliminate or prevent?’’ for each imagined scenario. It may therefore be useful to involve industry experts – especially customers – in such exercises.

The Modular Design Process The modular design process is used here to transform identified future market needs into a set of functions that can serve those needs and that can be offered to customers through a modular architecture. Possible approaches to defining and designing modular products include focusing on structure (Baldwin & Clark, 2000), function (Otto & Wood, 2000), customer needs (Yu, Gonzalez-Zugasti, & Otto, 1999), or sources of perceived product differentiation (Sanchez, 1999). In our study, a function-based approach to defining a modular architecture is used because it is form independent – independent from how the function is performed (Dahmus, GonzalezZugasti, & Otto, 2000) and therefore independent of the specific forms of future products that can be configured from the architecture.

Function-Based Design Functions are the operations or activities performed by a product (Otto & Wood, 2000). In function-based design methods, the functions of products or product families are represented schematically. Depending upon the nature of the system to be described, function trees, function structure, and other function-logic diagramming methods can be used to illustrate links among functions and sub-functions (Zamirowski & Otto, 1999). The function structure diagram shown in Fig. 4, for example, has proved to be an effective functional modeling method for electromechanical systems (Pahl & Beitz, 1996). The aim of this function diagramming method is to identify the

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System Boundary

Sub-function

Energy Information Material

Fig. 4.

A Product Function Structure Diagram.

types of components needed to provide a desired set of functions, and to identify common and idiosyncratic modules required to leverage a range of anticipated product variations within a product family. Determining all possible component variations needed to provide all desired functions and sub-functions can be quite a complex combinatorial problem; therefore some heuristic methods have been developed to help define modular product function structures (Zamirowski & Otto, 1999; Stone, Wood, & Crawford, 1998). The steps in a function-based design analysis are summarized below (Otto & Wood, 1998, 2000): 1. Create a black box model (identifying the global function of the overall product and the product’s input and output flows of materials, energy, and information). 2. Identify customer needs for such a product. 3. Develop an activity diagram (process description) to analyze the functions that must be delivered to the user by the product and to specify the development process through which the product design will be created and realized. 4. Using the process description and analysis of customer needs, formulate a hypothesized function structure for the product. 5. Combine various function structures generated to form the family function structure (for product families). 6. Apply function and variety heuristics to define the modular product structure and family function structures. 7. Select the most appropriate modular architecture(s) from among those generated through the preceding steps.

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Modularization Rules (Function and Variety Heuristics) Dahmus et al. (2000) have identified three types of heuristic methods that can be applied to defining modular product function structures: (i) a dominant flow heuristic, which analyzes flows through a product function structure, following flows until they either exit from the product as a system or are transformed into another flow; (ii) a branching flow heuristic, which examines flows that branch into or converge from parallel function chains; and (iii) a conversion-transmission heuristic, which examines flows to ascertain where one type of flow is converted to another. Stone et al.(1998) have proposed a heuristic approach to identifying component types in the function structure of a single product. When analyzing a product family, additional rules can be applied in defining components (Zamirowski & Otto, 1999). The product family heuristics help to identify (i) common functions with similar flows and functions that appear multiple times in the function structures of a portfolio of products (e.g., a product family), and (ii) variant functions that are unique to a single product variation or subsets of product variations. Through the application of such heuristic rules, various types of components can be identified and described and a desirable range of variations for each type of component proposed (Gonzalez-Zugasti & Otto, 2000; Sanchez, 2000).

Construction of the Product–Scenario Matrix Once component types and desired variations of individual component types are identified, to create a modular architecture, interfaces between components must be specified to allow the ‘‘mixing and matching’’ of component variations with the architecture to support the configuring of future product variations. Even in a product structure with relatively few component types and variations within each component type, the combinatorial set of future product variations can become very large.2 Of course, some product variations that could be configured within a modular architecture may not be commercially viable product variations because of imbalances among the performance characteristics of the component variations. For example, a personal computer with a high-capacity memory that is limited in its

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usefulness by a slow microprocessor may not offer a ‘‘package’’ of performance benefits that is attractive to consumers (Sanchez, 1999). Thus, the aim in this stage is to eliminate inconsistent combinations of component variations (modules) in order to reduce the actual number of product alternatives to those that appear to have the best chance of being commercially viable across all future product scenarios. To accomplish this, three steps are taken. First, a module-scenario matrix is developed to determine the range of possible modules that will actually be useful in meeting future market needs as defined through the scenarios generated. Then a consistency analysis is carried out to identify commercially feasible module combinations in possible future products. Finally, a product-scenario matrix based on the outputs of the previous steps is developed to identify the most robust future product variations (i.e., the product variations that appear commercially viable across all or the largest possible range of scenarios). In the module-scenario matrix, the columns represent future scenarios (bundles of imagined future market needs) and the rows represent the module variations available. A binary scale (0 or 1) may then be used to assess whether a given module variation would be viable in a particular scenario, where ‘‘1’’ means that a module variation would be viable in a given scenario, and a ‘‘0’’ indicates that it would not. Fig. 5 illustrates a hypothetical module-scenario matrix. Here yi refers to the ith module type, where i ¼ 1; . . . ; n; and y1i ; :::; yni i refers to the possible variations of the ith module type. The various scenarios included in the module-scenario matrix are displayed in the top row of the matrix (and are formally defined in our discussion below as xnihi ; where h indicates specific scenarios). The greater the number of scenarios that can be served by a given module variation, the more desirable it will be to include that module variation in the modular architecture to be used in configuring future product variations.

Module

Instance

Scenario 1

Scenario 2

Scenario 3

Scenario 4

1 1

1

1

0

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2 1

y

0

1

1

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y2

y 12

1

0

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0

…

…

…

…

…

…

ym

1 m

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y y1

y

Fig. 5.

A Hypothetical Module-Scenario Matrix.

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In the next step, we use the approach of Tietje (2005) to select the scenarios for which one or more modular architectures will be prepared. All possible future product variations under each selected scenario are then analyzed to determine the technical compatibility and commercial viability of the combination of component variations in each product variation (von Reibnitz, 1992; Gausemeier, Fink, & Schlake, 1995; Tietje, 2005). In this study, we apply a consistency analysis to select consistent and desirable future product variations (i.e., combinations of module variations). The consistency of a future product architecture as a whole can be estimated by assessing the consistency of the available variations of all pairs of module types. To assess pair-wise consistency, different scales have been proposed in the literature. We adopt here the non-negative 5-point scale defined by Gausemeier et al. (1995), in which the value 1 is assigned to totally inconsistent pairs of module variations, the value 2 to partially inconsistent pairs of module variations, the value 3 to component pairs that are structurally independent of each other, the value 4 to component pairs that effectively support each other, and the value 5 to component pairs that strongly support each other. (To facilitate this process, a symmetric matrix may be constructed to show consistency between all component pairs, but in the interest of brevity, we do not show such a matrix here). Given each of the n module types yi, i ¼ 1; . . . ; n; and possible variations of each module type y1i ; :::; yni i ; ‘‘k’’ can be defined as the combinatorial number of future product variations based on the ni numbers of each of n component type. In addition, a future product variation Pk can be repremn 1 sented by a vector Pk ¼ ðym 1 ; :::; yn Þ; where mi represents one variation of module type n (Tietje, 2005). We may then also define a consistency index ‘‘C’’ for a given module type, as follows: m

j i C :¼ cðym i ; yj Þi;j¼1;:::;n;mi ¼1;:::;ni ;mj ¼1;:::;nj

(1)

i where ym i denotes the mith variation of the ith module type, and ni the number of variations of the ith module (Tietje, 2005). We may then calculate an overall consistency index c* for each future product architecture Pk as follows (Tietje, 2005):

c  ðPk Þ ¼

n X i1   X mj i c ym ; y i j

(2)

i¼2 j¼1

Finally, to eliminate product architectures with extensive instances of inconsistent module combinations and thereby to reduce the number of

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alternative product architectures that must be evaluated in greater detail, the set of future product architectures may be filtered by their consistency values c*. Different criteria may also be defined to choose a subset of product architectures P* that meet some minimum consistency threshold value c*min. In this study, we generated a scenario-module matrix and a derived consistency matrix from which were selected 50 future product architectures with the highest level of consistency among component pairs and no pairs with total inconsistency. In the last step, to construct the final product-scenario matrix, the most robust future product architectures should be identified and the extent to which those architectures are capable of configuring product variations that can serve alternative market future needs (scenarios) should be assessed. These steps generate the inputs for the construction of the product-scenario matrix, which is illustrated in Fig. 6. Each product element in the productscenario matrix can then be calculated as X

zth ¼

xnihi =n

for each h ¼ 1; . . . ; H and t ¼ 1; . . . ; T

(3)

ði;ni Þ2R

where zth defines the average value of how well the hth scenario is met by the tth (t  50) future product. The set R then defines all the pairs (i*, ni*) of module types and variations, which are included in the tth final future product architecture vector (Pt*). Product architectures that would work well in serving all future scenarios are considered ‘‘robust’’ (e.g., P2* in Fig. 6). These product architectures are the most likely to be successful in the future. In addition, an index reflecting the extent to which all identified future market needs (scenarios) can be

Future Products

Scenario 1

Scenario 2

P*1 = ( y , y , y ,…, y )

0.5

1

P*2 = ( y12 , y 12 , y 32 ,…, y 1m )

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1 2

3 3

Fig. 6.

1 m

A Hypothetical Product-Scenario Matrix.

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served by a given future product architecture can be calculated as Sh ¼

T X

zth =T

(4)

t¼1

where Sh refers to the average value of satisfaction for the hth scenario. Fig. 6 shows that scenarios 2 and 3 can be significantly satisfied by the identified set of product architectures, but neither scenario 1 nor 4 would be well served by the identified architectures. In the latter case, either the identified modular product architectures need some modifications to their sets of component variations, or development of those architectures must be deferred until technological progress enables the achievement of greater technical consistency among the component variations proposed for each architecture.

APPLICATION OF THE METHODOLOGY We now demonstrate the application of the proposed methodology to the analysis of possible future closed circuit television (CCTV) systems in the security equipment market in Turkey. According to the research report ‘‘World Security Products and Systems,’’ the fastest growth for security equipment is forecast to be in the world’s developing regions, and CCTV will be one of the most rapidly growing electronic security products (Freedonia Research Group, 2002). At this point, it may be useful to give a short description of a CCTV system. CCTV is a television system that transmits signals over a closed circuit of electrical conductors, fiber optic cable, or wireless carrier. CCTV systems can overtly or covertly monitor a process or area from a remote location and can record video images of a scene for later viewing (www.interguvenlik.com/ cctv1.htm). Probably, the most widely known use of CCTV is in building security systems for retail shops, banks, government establishments, offices, etc. (Constant & Ridgeon, 2000). A CCTV system consists of several primary components: camera, lens, monitor, video recorder, combiner (switcher, quad, multiplexer), coaxial cable, system controller, and sensors. Our study analyzes CCTV product architectures at this high design level of primary components. Fig. 7 illustrates a basic CCTV system. Determining Appropriateness to Modularity and Degree of Modularity A questionnaire of the type previously described was sent to experts in this market (both engineers and academicians) and used to asses the

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Fig. 7.

A Basic CCTV System. Source: CCTV Systems Catalog 2001.

appropriateness of CCTV systems for modular designs. Based on this ques¯ ¼ 66:5% was obtained, which indicates a tionnaire, an overall score of N A fairly high level of appropriateness for modular designs. (We note that one factor that tended to lower this score was the concern of some of the experts about customers’ ability to evaluate, choose, and assemble the various available components for CCTV system.) A second questionnaire of the type previously described was used to determine the desirable degree of modularity. The overall degree of modularity based on our experts assess¯ ¼ 80%; indicating that a high degree of modularity would be ments was N D desirable in future product designs. ¯ ¼ 66:5% and N D ¯ ¼ 80%; positions The combination of the results N A CCTV systems in the Conditional Modular quadrant of Fig. 3. Addition¯  N D; ¯ indicating that it would be advantaally, we determined that N A geous to maintain the basic current architecture of the product, a result more or less to be expected because of the widespread success of the modular structure of current CCTV systems. However, our analysis also showed that the current modular architecture could be improved to serve better future market needs, suggesting the need for a modified modular architecture with a similar degree of modularity. Constructing Future Scenarios Scenarios developed by Polat and Asan (2005) concerning the security equipment sector in Turkey were used to identify potential future market needs. The scenarios are used to identify a range of possible security threats in the next 10 years. The scenarios – given the names ‘‘Biological Complexity,’’ ‘‘Provocative,’’ ‘‘Reign of Mechanics,’’ and ‘‘Tiny-Mini’’ – are presented below and are abbreviated versions of the original scenarios generated in the their study. Scenario 1: Biological Complexity One reason security threats can be expected to increase in the future, is the rapid development of technology. New kinds of biotechnologies will be

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developed and used in security products and systems to increase their reliability. Use of biosensors to identify individuals can be expected to become common in a few years. The widespread introduction of biosensor technology into security systems will change the way criminals prey on other people. In order to pass through security systems equipped with biosensors, we can imagine the rather grisly possibility that criminals will try to obtain the relevant organs or parts of the human body (fingers, eyes, and ears) that are unique to a given person and that will decode targeted security systems. This development will cause vital threats to people whose human organs can be used to gain access to secured areas, and raise the potential for security systems to be breached. As biosensor technology advances, security systems will become increasingly individualized. The trend will also be supported by increased use of computer technology in home security systems, transport systems, and communication technology. Travel and communication will become much more technologically complex. New uses of electronics in security systems will increase product complexity, which will in turn reduce product reliability (at least initially), increase product sensitivity to use conditions, and increase the difficulty of maintaining security systems. These developments can be expected to encourage efforts to breach security systems, as criminals seek systematically to discover the weaknesses of various security systems in use. Also, actions intending to breach or circumvent security systems will be more sophisticated and more organized. A technology race between developers of security systems and criminals interested in defeating security systems can easily be imagined. High rates of immigration into and high urbanization of the urban areas that are major markets for security systems will contribute to these problems. Buildings and roads will become more crowded, which will make carrying out robberies and other kinds of crimes to become easier. Security of streets, parks, and other public places will also become an important concern. Scenario 2: Provocative Terrorism can be expected to increase and to become an important security concern for governments, corporations, and private individuals, especially in crowded cities. Terrorists can be expected to find increasingly clever ways to alter their appearance and to try to conceal their identities, leading to new needs for better identity detection systems. This will lead to much more controlled environment in which all kinds of people will be subject to increasingly frequent and strict tests of identity.

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Scenario 3: Reign of Mechanics Mechanical means of increasing security will continue to be important because of their low cost and simplicity, but will become increasingly easy for criminals to overcome. Physical assaults on individuals may increase as the movement toward preservation of the natural environment and the greening of urban areas create more places where criminals can conceal themselves in urban areas. Scenario 4: Tiny–Mini Miniature electronics and tiny integrated systems of many types will become common. Criminals will begin to use programmed robots to breach security systems and carry out crimes. The worldwide availability of internet connections, especially through mobile telephony, will give criminals new means to control remote devices that will pose an array of new security threats.

Identifying Future Needs Using the scenarios given above, a group of experts was asked to identify (i) the needs (Ni) that the market will experience as a result of the desire to overcome these threats, and (ii) the product characteristics (Fi) of a CCTV system that could fulfill these needs. Thus, for each future need, a matching function-based characteristic of a CCTV system was identified. We list below a sampling of the market needs and corresponding functional characteristics identified by the panels of experts under each of the four scenarios: Market Needs and Corresponding Product Characteristics Emerging from Biological Diversity Scenario 1. The need for CCTV systems that are resistant to destruction by laser beams (a current means of disabling TV cameras and sensors). (N1) Future CCTV systems will therefore need to have functions of laser recognition, laser shielding, and laser-beam diffusion (neutralization). (F1) 2. So that a stolen human finger or other organ will not be sufficient to breach a security system, bio-sensing will need to scan an entire human being as a whole. (N2) Several modes of scanning rays based on a number of technologies will have to be used. (F2) 3. Security systems must be able to monitor a broad area, detect rapid motion, and react quickly. (N3)

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Future CCTV systems must be free rotating in all directions, have sensors capable of detecting high-speed of motion, and capture video images in all directions of rotation. (F3) 4. Precautions must be taken to counteract the increasing technical sophistication of criminals seeking to breach security systems. (N4) Product architectures must be designed to accommodate continuous technological upgrading to stay one step ahead of sophisticated criminals. (F4) Market Needs and Corresponding Product Characteristics Emerging from the Provocative Scenario 5. Security system users – especially governments–will need better ways to identify potential perpetrators of security breachs among people routinely observed by security systems. (N5) Future security system products must be able to quickly access a database with visual characteristics of people who are security risks, so that potential terrorists and other kinds of potential aggressors can be identified. (F5) 6. There will be a growing need to proactively discover hiding places of criminals and to track them as they move about. (N6) Future security systems must be able to receive data from satellites and transfer data to monitors and cellular phones. Surveillance systems will have to be able to communicate with surveillance satellites to facilitate rapid viewing of specified areas. (F6) 7. The need will grow to detect potential threats in open areas and take precautionary or pre-emptive actions to protect citizens. (N7) Future security systems should be able to deter criminals from perpetrating crimes by using loudspeakers to broadcast voice warnings from monitoring stations. To detect an observed person who may be preparing to commit a crime, security systems must be equipped with sensors capable of recognizing colors, body heat, sound, and other aspects of the human body that may signal when a person is preparing to commit a crime. (F7) Needs and Corresponding Product Characteristics Emerging from the Reign of Mechanics Scenario 8. Security systems must be effective in monitoring parks and forested areas in the city centres. (N8) Future security cameras must be capable of being hidden or camouflaged, and must have night-vision capabilities. (F8)

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9. Security systems must be able to monitor every point in a secured area at all times. (N9) Future CCTV systems must be able to detect motion, analyze the speed of motion, freely rotate in all directions to follow moving objects (people), and take pictures in all directions of movement. (F9) Needs and Corresponding Product Characteristics Emerging from the TinyMini Scenario 10. There will be a growing need to defend security systems from attacks by robots and other technological weapons developed by criminals. (N10) Future security systems will be capable of being frequently reconfigured to alter the way a system functions. Monitoring devices and software for interpreting visual and other data obtained by sensors must accommodate a changing array of sensing technologies to identify the form and interior constitution of objects so that sophisticated technological weapons can be identified. (F10) 11. There will be increasing need for reaction support systems to initiate further security precautions as soon as security threats are detected. (N11) Future CCTV systems must include expert systems that can proactively decide or recommend what kinds of reaction should be taken (where to zoom a security camera, which direction to rotate, etc.). Artificial intelligence software must be developed to help security systems learn from experience. (F11) 12. Future security systems should be able to monitor many sites at the same time and at lower cost. (N12) Future security systems will need to incorporate wireless communication and probably internet connectivity to link many sites in different parts of a city, so that a few security personnel in one monitoring centre can manage a network of secured sites. (F12) 13. There will be growing need to be able to trace people who have been kidnapped and to provide individuals with personal surveillance capabilities. (N13) Security systems must include compact miniature cameras for individuals to wear that can both provide individuals with surveillance of their immediate surroundings and transmit images to monitoring stations. (F13)

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The Modular Design Process Once the desirable functional characteristics of future CCTV systems have been identified, the next stage is to review the current design of a CCTV system to determine how new or improved components that can serve identified future needs could be incorporated into a future modular product architecture. In function-based modular design, a black-box model is constructed to provide a first mapping of the basic component inputs and outputs (material, energy, and signal flows) that will be needed in a future modular architecture (Otto & Wood, 2000). Fig. 8 illustrates a black-box model of a CCTV system. We then elaborate this black box into a more detailed representation of its interlinked functions and sub-functions to understand more fully the functional structure of the future architecture. In this process, we identify the types of functions and the inputs and outputs of each function in the future architecture. For a systematic transformation from the black-box model into a functional structure, an activity diagram is constructed. The activity diagram for our CCTV system, shown in Fig. 9, summarizes the activities that a CCTV system must perform and presents a high-level view of functions through a network layout showing sequential and parallel tasks (Otto & Wood, 2000). The first step is to map identified future needs to subfunction sequences by identifying associated flows. For example, consider the future need ‘‘monitor a broad area, detect rapid motion, and react quickly’’ (N3), which requires a product function in which special sensors detect speed of motion (F3). Such sensors require flows of electrical energy (inputs) and motion (outputs). Following the flows of electricity and motion through the function chains, we identify the sub-function ‘‘detect motion’’ as directly contributing to meeting need N3.

Electric, Light, Sound, Motion Cassette Change of light, noise, motion, Intervention, Error data, clearness, magnitude, time data, Event

Fig. 8.

Heat, Motion

The CCTV System

Recorded Cassette Video Signal, Control Signal, Alarm Signal, Images

A Black Box Model of a Future CCTV System.

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The CCTV system is active

Video signals are stored in the memory for a short while

Camera is monitoring and producing video signals

No

From other monitors

A

The data is processed to overcome loss of image in recording.

Are there any changes in the observed area? Yes

Yes

Is there any request?

A

Focus, zoom, light, adjustments (lens) No

Color, backlight, white balance adjustments (camera)

Change Monitor?

The organized video signals are transferred to the VCR

The organized video signals are transferred to the Monitors

No The video signals are recorded into a videocassette

Yes Synchronization adjustments

Display the image

C C

C

Transfer of the video signals to a combiner by means of coaxial cable

A

Fig. 9.

Activity Diagram for a CCTV System.

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Sensing module electrical energy

Detect Motion

Adjust Backlight

Adjustment module

Adjust White balance

motion electrical energy

electrical energy, light event

signal change of color, light

Capture Image

Adjust Color

Image converting module

adjustments

video signals

signals

Convert images into video signals

electrical energy

Transfer signals heat

Image capturing module

Adjust Light for lens

Connection module

electrical energy

adjustments

change of light and distance Adjust Zoom for lens

Adjust Focus for lens

Fig. 10.

Lens adjustment module

Partial Elaboration of the Function Structure Diagram of a Future CCTV System.

In the next step, function chains for all customer needs are combined to represent the entire product and to create an overall product function structure. Because of the large size of the resulting diagram, only a part of the function structure diagram for the CCTV system is represented in Fig. 10. In the last step, several of the function and variety heuristics previously discussed were used to identify module types and to modularize the function structure. The heuristics for shared function, branching flow, conversion-transmission, branching flow, variant function, and shared function were used in our analysis. Thirteen required functional modules were defined: image capturing, adjustment, image converting, lens adjustment, sensing, connection, combiner, reaction, learning intelligent database, remote control, recording, storage, and monitoring. Fig. 10 illustrates the first six of these modules.

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Module-Scenario Matrix With the participation of product experts, two alternative variations for each module type were developed to support configuration of useful future product variations. To identify a robust future product architecture, we constructed a module-scenario matrix to determine the adequacy of identified module variations to serve identified future market needs. All 13 module types, each with two variations, were arrayed against the four scenarios identifying future market needs and scored using a binary scale, as shown in Fig. 11. The data presented in the module-scenario matrix indicate the robustness of the identified future product variations and to meet the future market needs identified in the four scenarios. The module variations y11 ; y23 ; y14 ; y25 ; and y19 were identified as most robust across all four scenarios and thus will most probably be included in future products.

Consistency Analysis To identify a manageable number of future products capable of satisfying the broadest possible range of identified future needs, and to eliminate technically inconsistent combinations of module variations, a consistency analysis was carried out. In this example, 13 modules types with two variations each can configure 213 ( ¼ 8192) alternative future product variations, which may be too much product variety to realize and support in the market. A consistency matrix was therefore constructed to analyze consistency between the 26 identified module variations, which generate 312 ( ¼ (26  26–13  4)/2) pairs of component variations. We then determined the 50 product variations that have the highest level of consistency among their pairs of component variations and that have no pairs of inconsistent components. These 50 product variations with highest consistency ratings are shown in Fig. 12. The second column in Fig. 12 ranks the 50 product variations by overall consistency (c*) of each future product variation.

The Product-Scenario Matrix Finally, we constructed a product-scenario matrix to determine the most robust future product variations and to assess the extent to which they would meet the future market needs identified by the scenarios. Average satisfaction levels were calculated for each product variation (zth) for all

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Module

Instance

Scenario 1

Scenario 2

Scenario 3

Scenario 4

y11

1

1

1

1

y12

1

0

1

0

1 2 2 2 1 3

1

1

0

1

0

0

1

1

1

1

0

1

y 32

1

1

1

1

y 14

1

1

1

1

2 4 1 5

1

1

1

0

1

0

0

1

y 52

1

1

1

1

1. Image capturing module

y

2. Adjustment module

y y

3. Image converting module 4. Lens adjustment

module

y

5. Sensing module (e.g. biological, laser) 6. Connection module (e.g. cable, wireless) 7. Combiner module (e.g. switcher) 8. Reaction module (e.g. visual, verbal) 9. Learning intelligent database module 10. Remote control module

(e.g. satellite, internet)

y

y 61

1

0

0

1

y 62

0

1

1

1

y 71

0

0

0

1

y 72

1

0

1

1

y81

0

1

0

1

y82

0

1

0

1

y 91

1

1

1

1

y 92

0

1

0

1

1 y10

0

1

1

1

y102

0

1

0

1

1 11 2 11 1 12 2 12 1 13

1

1

0

1

y

11. Recording module 12. Storage module

13. Monitoring module

Fig. 11.

y

1

1

0

1

y

1

1

1

1

y

0

1

0

1

y

1

1

1

1

y132

0

1

0

1

The Module-Scenario Matrix.

scenarios, and an overall satisfaction index was computed for each scenario (Sh), as shown in Fig. 12. None of the proposed future product variations were found to perfectly satisfy all the scenarios, but several product variations were found to have satisfaction levels greater than 80%, as highlighted by bold type in the last column in Fig. 12. Thus, the future product variations that will most likely be successful in the future were identified as

y1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1

y2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 2 1 2

y3 2 2 2 2 2 2 2 2 2 2 2 2 1 1 1 1 2 2 2 2 2 2 2 2 1 2 1 2 2 2

y4 1 2 1 2 1 1 2 2 1 1 2 2 1 1 2 2 1 2 2 1 1 2 2 1 2 2 1 2 2 2

y5 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2

y6 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 1 1 1 1 2 2 2 2 2 2 2

y7 2 2 1 1 2 2 2 2 1 1 1 1 2 1 1 2 2 2 1 2 1 1 2 2 2 2 1 1 1 2

y8 1 1 1 1 2 1 2 1 1 2 1 2 1 1 1 1 2 2 2 1 1 1 1 1 1 1 1 2 1 2

Fig. 12.

y9 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 1 2

y10 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 1 1 1 1 1 2 1 2 2 2 2

y11 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1

y12 1 1 1 1 1 2 1 2 2 1 2 1 1 1 1 1 2 2 2 1 1 1 1 1 2 1 2 1 1 2

y13 Scenario 1 Scenario 2 Scenario 3 Scenario 4 Average 1 0.69 0.92 0.62 1.00 0.81 1 0.69 0.92 0.62 0.92 0.79 1 0.62 0.92 0.54 1.00 0.77 1 0.62 0.92 0.54 0.92 0.75 1 0.69 0.92 0.62 1.00 0.81 1 0.62 0.92 0.54 1.00 0.77 1 0.69 0.92 0.62 0.92 0.79 1 0.62 0.92 0.54 0.92 0.75 1 0.54 0.92 0.46 1.00 0.73 1 0.62 0.92 0.54 1.00 0.77 1 0.54 0.92 0.46 0.92 0.71 1 0.62 0.92 0.54 0.92 0.75 1 0.69 0.92 0.54 1.00 0.79 1 0.62 0.92 0.46 1.00 0.75 1 0.62 0.92 0.46 0.92 0.73 1 0.69 0.92 0.54 0.92 0.77 1 0.62 0.92 0.54 1.00 0.77 1 0.62 0.92 0.54 0.92 0.75 1 0.54 0.92 0.46 0.92 0.71 1 0.77 0.85 0.62 1.00 0.81 1 0.69 0.85 0.54 1.00 0.77 1 0.69 0.85 0.54 0.92 0.75 1 0.77 0.85 0.62 0.92 0.79 1 0.69 0.92 0.69 1.00 0.83 1 0.62 0.92 0.46 0.92 0.73 1 0.69 0.92 0.69 0.92 0.81 1 0.54 0.92 0.38 1.00 0.71 2 0.46 0.85 0.54 0.92 0.69 1 0.69 0.92 0.62 0.92 0.79 2 0.46 0.85 0.54 0.92 0.69

The Product-Scenario Matrix.

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c* 294 294 294 294 293 293 293 293 293 293 293 293 292 292 292 292 292 292 292 291 291 291 291 291 291 291 291 290 290 290

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P* 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30

c* 290 290 290 290 290 290 290 290 290 289 288 288 288 288 287 286 286 286 286 286

y1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 2 2 2 2 2

y2 2 1 2 1 2 2 1 2 1 1 1 1 1 1 1 2 2 2 2 2

y3 2 2 2 2 2 2 2 2 2 2 2 2 2 2 2 1 2 2 2 1

y4 1 2 1 1 2 1 1 2 2 2 2 2 1 1 2 1 1 1 1 1

y5 2 2 2 2 2 2 2 2 2 2 1 1 1 1 1 2 2 2 2 2

y6 2 2 2 2 2 2 2 2 1 2 2 2 2 2 2 2 2 2 2 2

y7 2 2 1 2 1 1 1 2 2 1 2 1 1 2 1 1 2 1 1 1

y8 2 1 2 1 2 2 1 2 1 2 1 1 1 1 1 2 2 2 2 2

y9 2 1 2 1 2 2 1 2 2 1 2 2 2 2 2 2 2 2 2 2

y10 2 2 2 2 2 2 2 2 1 2 2 2 2 2 2 2 2 2 2 2

Sh

Fig. 12.

y11 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1

y12 1 1 2 1 2 1 1 1 2 1 1 1 1 1 2 1 1 2 1 2

y13 Scenario 1 Scenario 2 Scenario 3 Scenario 4 Average 2 0.54 0.85 0.62 1.00 0.75 1 0.77 0.92 0.69 0.92 0.83 2 0.38 0.85 0.46 1.00 0.67 1 0.77 0.92 0.69 1.00 0.85 2 0.38 0.85 0.46 0.92 0.65 2 0.46 0.85 0.54 1.00 0.71 1 0.69 0.92 0.62 1.00 0.81 2 0.54 0.85 0.62 0.92 0.73 1 0.69 0.85 0.54 0.92 0.75 1 0.69 0.92 0.62 0.92 0.79 1 0.69 0.85 0.54 0.92 0.75 1 0.62 0.85 0.46 0.92 0.71 1 0.62 0.85 0.46 1.00 0.73 1 0.69 0.85 0.54 1.00 0.77 1 0.54 0.85 0.38 0.92 0.67 2 0.46 0.77 0.46 0.92 0.65 2 0.54 0.77 0.62 0.92 0.71 2 0.38 0.77 0.46 0.92 0.63 2 0.46 0.77 0.54 0.92 0.67 2 0.38 0.77 0.38 0.92 0.62 0.61 0.88 0.54 0.95

Modular Design for Future Products

P* 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 50

(Continued)

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having the following component compositions: P1 ¼ ðy11 ; y12 ; y23 ; y14 ; y25 ; y26 ; y27 ; y18 ; y29 ; y210 ; y111 ; y112 ; y113 Þ P5 ð¼ y11 ; y12 ; y23 ; y14 ; y25 ; y26 ; y27 ; y28 ; y29 ; y210 ; y111 ; y112 ; y113 Þ P20 ð¼ y11 ; y12 ; y23 ; y14 ; y25 ; y16 ; y27 ; y18 ; y29 ; y110 ; y111 ; y112 ; y113 Þ P24 ð¼ y11 ; y12 ; y23 ; y14 ; y25 ; y26 ; y27 ; y18 ; y29 ; y110 ; y111 ; y112 ; y113 Þ P26 ð¼ y11 ; y12 ; y23 ; y24 ; y25 ; y26 ; y27 ; y18 ; y29 ; y110 ; y111 ; y112 ; y113 Þ P32 ð¼ y11 ; y12 ; y23 ; y14 ; y25 ; y26 ; y27 ; y18 ; y19 ; y210 ; y111 ; y112 ; y113 Þ P34 ð¼ y11 ; y12 ; y23 ; y14 ; y25 ; y26 ; y27 ; y18 ; y19 ; y210 ; y111 ; y112 ; y113 Þ P37 ð¼ y11 ; y12 ; y23 ; y14 ; y25 ; y26 ; y17 ; y18 ; y19 ; y210 ; y111 ; y112 ; y113 Þ We note here that the module variations identified in the product variations judged to be most robust (y11 ; y12 ; y23 ; y25 ; y111 ; y112 ; y113 ) are not necessarily the same module variations used in the product variations identified as most robust in the module-scenario matrix (y11 ; y23 ; y14 ; y25 ; y19 ). This is the result of the differing selection criterion used in the two matrices. The last step in the application of our methodology was assessing the overall average satisfaction level of each scenario. Scenarios 2 and 4 were found to have high satisfaction indices (0.88, 0.95), whereas scenarios 1 and 3 had average satisfaction indices of 0.61 and 0.54. To increase the satisfaction levels for scenarios 1 and 3, it may be possible that a different product variation with a lower (technical) consistency value would yield a higher overall satisfaction index for these scenarios, pointing to possible trade-offs between satisfaction levels and consistency values. Finally, the results summarized in Fig. 12 suggest that the proposed set of future product variations has the ability to meet a large part of identified future market needs as determined from future scenarios. Through the ability of their common modular architecture to configure this set of product variations, the identified modular product architecture enables a rapid and flexible response to a range of imagined market needs in the future.

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CONCLUSION ‘‘Generally what we suffer in the future is the result of past actions. Similarly what we want in the future explains present action’’ (Godet, 2001). The goal of competence theory is to help firms understand how they might gain or sustain advantage in a dynamic competitive environment. In this chapter, we have suggested how a modular design capability can help firms prepare today for an uncertain future, and we have proposed a methodology for implementing modular design that integrates scenarios about future market needs into the modular design process. In effect, the methodology explained in this chapter shows how product innovations that could serve future market needs can be identified, evaluated, and translated into future product designs. Applying this methodology should help any firm to improve its product development capability, and to launch and sustain a continuous cycle of future competence identification, competence building, and competence leveraging.

NOTES 1. In the vocabulary of the competence-based perspective, resources are anything useful to a firm in the pursuit of its goals. Capabilities are repeatable patterns of action in a firm’s use of resources. Competence is the ability of an organization to sustain coordinated deployments of resources and capabilities in ways that help a firm achieve its goals. 2. For example, in a modular product structure with 10 component types, each of which are available in 10 variations, 10 billion product variations can be configured (Sanchez, 1999).

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