Business Strategy: Understanding Strategic Fit, VRIO, and Porter’s Diamond
What is a Strategy?
Strategy is “the dynamics of the firm’s relation with its environment for which the necessary actions are taken to achieve its goals and/or to increase performance by means of the rational use of resources”.
Reasons for Strategic Failure
- A poor analysis or diagnosis of the problem: Due to the complexity and uncertainty associated with strategic decisions, the limited rationality of the people making the decisions may lead to a wrong diagnosis or to the failure to identify or properly evaluate the different possible options.
- Mistaking objective for strategy: Strategy implies some kind of action or response to the challenge posed by the environment. Defining a strategic objective without specifying how it is to be achieved does not automatically lead to success, however challenging or motivating it might be.
- Poor definition of strategic objectives: Either by establishing overly obvious objectives that lead nowhere or by defining such a sweeping array of objectives to please different stakeholders that it becomes impossible to set a clear and specific heading for focusing the organisation’s efforts.
- Organisational inertia: This stops the firm from adapting to the necessary changes. In addition, the fear of losing power among influential groups may put a hold on the necessary solutions.
- The Icarus paradox: Highly successful firms that have reached a dominant position in their industry are sometimes reluctant to change their strategy because they might lose that status, and they are ultimately unable to stop other firms doing so successfully, and ousting them from the market.
- Identifying the strategic process with a formal process of simply doing the paperwork, yet without any real strategic thought process for identifying challenges, ways of resolving them, and specific actions for overcoming them.
When we speak of a strategic fit, we are referring to the necessary match between the context in which the strategy is to be developed and the chosen strategy itself. The context is defined by the environment, a firm’s own specific characteristics in terms of resources and capabilities, and the strategic goals defined by management.
This means there is also a need for organisational fit, referring to the match between the chosen strategy and the organisational characteristics of the firm in which that strategy is to be implemented.
Corporate Governance
Indeed, top managers’ interests, derived from their own utility function, have monetary components –remunerations– and non-monetary ones – prestige, power– (Williamson, 1964), besides actual security or permanence in management. Consequently, the interests of top managers may easily come into conflict with shareholders’ objectives. In this situation, managers’ broad discretional approach in decision-making may have an impact on shareholders’ interests, whereby the maximisation of their wealth will be replaced by objectives that are more meaningful to managers, such as corporate growth or the generation of sufficient funds to ensure the company is not dependent on the capital markets.
Faced with these possible sources of conflict, the issue arises of the control of management by shareholders in order to avoid the former acting alone when setting the company’s objectives and without suitably catering for the latter’s objectives, which means there is a need to seek compatibility between shareholder and management interests. The issue of shareholder control over management and the mechanisms available for exercising that control are referred to as corporate governance.
Firm Strategy, Structure, and Rivalry
The national context in which companies operate largely determines how companies are created, organized, and managed: it affects their strategy and how they structure themselves. Moreover, domestic rivalry is instrumental to international competitiveness, since it forces companies to develop unique and sustainable strengths and capabilities. The more intense domestic rivalry is, the more companies are being pushed to innovate and improve in order to maintain their competitive advantage. In the end, this will only help companies when entering the international arena.
Factor Conditions
Factor conditions refer to the natural, capital, and human resources available. Some countries are, for example, very rich in natural resources. With human resources, we mean created factor conditions such as a skilled labor force, good infrastructure. Porter argues that especially these ‘created’ factor conditions are important opposed to ‘natural’ factor conditions that are already present. It is important that these created factor conditions are continuously upgraded through the development of skills and the creation of new knowledge. Competitive advantage results from the presence of world-class institutions that first create specialized factors and then continually work to upgrade them. Nations thus succeed in industries where they are particularly good at factor creation.
Demand Conditions
The home demand largely affects how favorable industries within a certain nation are. A larger market means more challenges, but also creates opportunities to grow and become better as a company. The presence of sophisticated demand conditions from local customers also pushes companies to grow, innovate, and improve quality. Striving to satisfy a demanding domestic market propels companies to scale new heights and possibly gain early insights into the future needs of customers across borders.
Related and Supporting Industries
The presence of related and supporting industries provides the foundation on which the focal industry can excel. Companies are often dependent on alliances and partnerships with other companies in order to create additional value for customers and become more competitive. Especially suppliers are crucial to enhancing innovation through more efficient and higher-quality inputs, timely feedback, and short lines of communication. A nation’s companies benefit most when these suppliers themselves are, in fact, global competitors. It can often take years (or even decades) of hard work and investments to create strong related and supporting industries that assist domestic companies to become globally competitive. However, once these factors are in place, the entire region or nation can often benefit from its presence.
Government
The role of the government in Porter’s Diamond Model is described as both ‘a catalyst and challenger‘. Porter doesn’t believe in a free market where the government leaves everything in the economy up to ‘the invisible hand’. However, Porter doesn’t see the government as an essential helper and supporter of industries either. Governments cannot create competitive industries; only companies can do that. Rather, governments should encourage and push companies to raise their aspirations and move to even higher levels of competitiveness. This can be done by stimulating early demand for advanced products (demand factors); focusing on specialized factor creations such as infrastructure, the education system, and the health sector; promoting domestic rivalry by enforcing anti-trust laws; and encouraging change.
Chance
Even though Porter originally didn’t write anything about chance or luck in his papers, the role of chance is often included in the Diamond Model as the likelihood that external events such as war and natural disasters can negatively affect or benefit a country or industry. However, it also includes random events such as where and when fundamental scientific breakthroughs occur. These events are beyond the control of the government or individual companies. Discontinuities created by chance may lead to advantages for some and disadvantages for other companies. Some firms may gain competitive positions, while others may lose. While these factors cannot be changed, they should at least be monitored so you can make decisions as necessary to adapt to changing market conditions.
Strategic Management Process
Firms’ future orientation
- External analysis
- Internal analysis
- Design strategic options
- Strategy assessment and selection
- Implementation and strategic control
Diagnosis
- Vision, mission, value, and strategic goals
- SWOT
- Corporate and competitive strategy
- Suitability, feasibility, and acceptability
- Organisational medium and strategic planning
- Review of the strategic decision-making process
Strategic analysis (1, 2), strategic formulation (3), and strategic implementation (the rest).
What is the VRIO Framework?
The VRIO framework is a tool to help you understand the elements of your business that give you a long-term competitive advantage. It might be resources or capabilities, partnerships or products, whatever gives or is going to give you an advantage can be framed within the VRIO framework.
Valuable
A resource is deemed as Valuable if it adds value to the company, either allowing it to take advantage of opportunities or mitigate the threats. Within a SWOT Analysis, Valuable resources may be mentioned under Strengths and relate to the Opportunities and Threats. It could be a particular feature that differentiates you, a department that performs well.
How do you judge Valuable in the VRIO framework?
- Does the resource add value for your customers?
- Does the resource result in you winning sales?
- Does it help take opportunities or remove threats from your SWOT?
Rarity
A resource is judged on the rarity, which is often the easiest and least subjective part of VRIO. It can come down to simply if this resource is easily acquired by competitors, by yourself, or if it’s easy to replace completely.
How do you judge Rarity in the VRIO framework?
- How did you obtain the resource?
- How easy is it to replicate?
- Are there alternatives on offer to the resource?
Inimitable
If a resource can be imitated comes down to how easily an organisation can substitute or copy out a resource.
How do you judge Imitability in the VRIO framework?
- What is your cost of the resource?
- How expensive is it to replace?
- Is it easily understood in order to replace?
Organised
This area is around organising the company to maximise the potential from the resource.
How do you judge Organised in the VRIO framework?
- Is there a management system in place for the resource?
- How do you measure the output of it?
- Is there a benchmark, either internally or externally, to compare?