ENHANCING COMPETENCES FOR COMPETITIVE ADVANTAGE
ADVANCES IN APPLIED BUSINESS STRATEGY Series Editors: Ron Sanchez and Aime´ Heene Recent Volumes: Volume 5:
Turnaround Research: Past Accomplishments and Future Challenges Series Editor: Lawrence W Foster Volume Editor: David Ketchen
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(a) Theory Development of Competence-based Management (b) Research in Competence-based Management (c) Formulating and Implementing Competencebased Strategies Volume Editors: Ron Sanchez and Aime´ Heene Competence Perspectives on Managing Internal Processes Volume Editors: Ron Sanchez and Aime´ Heene Competence Perspectives on Managing Interfirm Interactions Volume Editors: Ron Sanchez and Aime´ Heene
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Competence Perspectives on Resources, Stakeholders and Renewal Volume Editors: Ron Sanchez and Aime´ Heene Volume 10: Competence Perspectives on Learning and Dynamic Capabilities Volume Editors: Aime´ Heene, Rudy Martens, and Ron Sanchez Volume 11: Competence-Building and Leveraging in Interorganizational Relations Volume Editors: Rudy Martens, Aime´ Heene, and Ron Sanchez
ADVANCES IN APPLIED BUSINESS STRATEGY VOLUME 12
ENHANCING COMPETENCES FOR COMPETITIVE ADVANTAGE EDITED BY
RON SANCHEZ Copenhagen Business School, Denmark and National University of Singapore, Singapore
AIME´ HEENE Ghent University, Belgium and University Antwerp Management School, Belgium
United Kingdom – North America – Japan India – Malaysia – China
Emerald Group Publishing Limited Howard House, Wagon Lane, Bingley BD16 1WA, UK First edition 2010 Copyright r 2010 Emerald Group Publishing Limited Reprints and permission service Contact:
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CONTENTS LIST OF CONTRIBUTORS
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INTRODUCTION
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LOBBYING: STRATEGIES TO MAKE A FIRM’S COMPETENCES GENERATE VALUE Martin Gersch, Christian Goeke and Jo¨rg Freiling COMPETENCE-BASED STRATEGIES OF SERVICE TRANSITION Tim Kessler and Michael Stephan ENHANCING THE INFLOW OF KNOWLEDGE: ELABORATING THE ABSORPTIVE CAPACITY CYCLE IN SMES Roberto Filippini, Wolfgang H. Gu¨ttel and Anna Nosella TOYOTA’S COMPETITIVE ADVANTAGE: PATH DEPENDENCY, DYNAMIC CAPABILITIES, AND SOURCES OF INIMITABILITY – A CONTRASTIVE STUDY WITH NISSAN Evelyn Anderson TOWARD THE THEORY OF TEMPORARY COMPETITIVE ADVANTAGE IN INTERNATIONALIZATION Petri Ahokangas, Anita Juho and Lauri Haapanen v
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RELATIONAL QUALITY, ALLIANCE CAPABILITY, AND ALLIANCE PERFORMANCE: AN INTEGRATED FRAMEWORK Koen H. Heimeriks and Melanie Schreiner
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HOW TO BUILD ALLIANCE CAPABILITY: A LIFE CYCLE APPROACH Kim Sluyts, Rudy Martens and Paul Matthyssens
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MODELING ENTREPRENEURIAL ACTION CHOICE: FROM INTENT THROUGH RHETORIC TO ACTION Janice A. Black, Richard L. Oliver and Lori D. Paris SELF-ORGANIZATION OF COMPETENCY DEVELOPMENT AND THE ROLE OF MANAGERS Martin Kro¨ll
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LIST OF CONTRIBUTORS Petri Ahokangas
Department of International Business, Faculty of Economics and Business Administration, University of Oulu, Oulu, Finland
Evelyn Anderson
School of Arts & Sciences, Australian Catholic University, Brisbane, Australia
Janice A. Black
Department of Management and Marketing, School of Business and Public Administration, California State University, Bakersfield, USA
Roberto Filippini
Institute of Management and Engineering, University of Padua, Vicenza, Italy
Jo¨rg Freiling
LEMEX – Chair for Small Business and Entrepreneurship, University of Bremen, Bremen, Germany
Martin Gersch
School of Business & Economics, Freie Universita¨t Berlin, Berlin, Germany
Christian Goeke
School of Business & Economics, Freie Universita¨t Berlin, Berlin, Germany
Wolfgang H. Gu¨ttel
Institute of Human Resource and Change Management, Johannes Kepler University, Linz, Austria
Lauri Haapanen
Department of International Business, Faculty of Economics and Business Administration, University of Oulu, Oulu, Finland
Koen H. Heimeriks
Rotterdam School of Management, Erasmus University, Rotterdam, Netherlands vii
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LIST OF CONTRIBUTORS
Anita Juho
Department of Marketing, Faculty of Economics and Business Administration, University of Oulu, Oulu, Finland
Tim Kessler
Department of Technology and Innovation Management, Faculty of Business Administration and Economics, Philipps-University Marburg, Marburg, Germany
Martin Kro¨ll
Institute of Applied Work Science, Ruhr University of Bochum, Bochum, Germany
Rudy Martens
Department of Management, University of Antwerp, Antwerp, Belgium
Paul Matthyssens
Department of Management, University of Antwerp, Antwerp, Belgium
Anna Nosella
Department of Industrial Engineering, University of Padua, Vicenza, Italy
Richard L. Oliver
Department of Accounting and Information Systems, College of Business, New Mexico State University, Las Cruces, USA
Lori D. Paris
Department of Management and Marketing, School of Business and Public Administration, California State University, Bakersfield, USA
Melanie Schreiner
Department for Politics and Management, University of Konstanz, Konstanz, Germany
Kim Sluyts
Department of Management, University of Antwerp, Antwerp, Belgium
Michael Stephan
Department of Technology and Innovation Management, Faculty of Business Administration and Economics, Philipps-University Marburg, Marburg, Germany
INTRODUCTION This volume of Advances in Applied Business Strategy (AABS) presents a collection of studies exploring different ways in which an organization’s competences can be enhanced to create competitive advantage that is enduring or intendedly transitional. In their study ‘‘Lobbying: Strategies to make a firm’s competences generate value,’’ Martin Gersch, Christian Goeke, and Jo¨rg Freiling look beyond lobbying’s usual political domain to assess the ways in which lobbying may help firms extract greater value from their current or contemplated competences. By lobbying for laws and regulation favorable to a particular set of competences or competence trajectories, firms may be able to influence the business environment in ways that extend the viable lifetime of current competences or assist the building of new competences. The authors develop and validate several propositions related to the predicted effects of lobbying in the context of the German Health Care industry. ‘‘Competence-based strategies of service transition’’ by Tim Kessler and Michael Stephan examines the potential for manufacturing organizations to grow through expansion of their service offerings. Arguing that strategies focused on cost reduction are unlikely to enable manufacturing firms to achieve a sustainable competitive advantage today, the authors propose that manufacturing firms instead focus on expanding their service activities as the path to sustainable success. They also assess the challenge of building new competences that such a strategic shift will represent for most manufacturing firms. In their paper ‘‘Enhancing the in-flow of knowledge: Elaborating the absorptive capacity-cycle in SMEs,’’ Roberto Filippini, Wolfgang H. Gu¨ttel, and Anna Nosella address the possibilities for small and medium enterprises (SMEs) to increase the knowledge flows they enjoy across the boundaries of the firm. They explore the potential of knowledge management projects to stimulate the search for and implementation of new knowledge flows from firm-addressable resources in the environment of a firm. They argue for the adoption of explicit knowledge management routines for absorbing knowledge during projects, rather than relying on haphazard knowledge absorption. ix
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In her study ‘‘Path dependency, dynamic capabilities and sources of inimitability in competitive advantage: A comparative study of Toyota and Nissan,’’ Evelyn Anderson undertakes a historical analysis of the differential impacts of Japanese postwar industrial policy on Toyota and Nissan. Anderson suggests that important differences in the resource and competence bases of the two firms after the Second World war resulted in different strategic logics and governance structures being adopted by the two firms – and as a result the two firms responded differently to government policy initiatives. Observing that significant performance differences between the two firms did not emerge until the 1960s, the author suggests that the governance structure and management processes adopted by Toyota resulted in significant causal ambiguity that prevented Nissan from emulating Toyota’s trajectory of postwar success. Taking a track less followed, Petri Ahokangas, Anita Juho, and Lauri Haapanen analyze the potential importance of temporary forms of competitive advantage when firms undertake growth through internationalization. Their paper ‘‘Toward the theory of temporary competitive advantage in internationalization’’ suggests that internationalizing firms may go through several evolutionary stages, during which a convergence of managerial selection, market dynamism, and resource evolution will select the resources and competences that will become longer-term, sustainable sources of competitive advantage. Koen H. Heimeriks and Melanie Schreiner’s paper ‘‘Relational quality, alliance capability, and alliance performance: An integrated framework’’ examines the role of a firm’s alliance capability and its ability to maintain good relationships with alliance partners affect a firm’s dyadic alliances. The authors also suggest firm-level mechanisms that can be used to improve the quality of a firm’s dyadic alliances. A second paper on alliances, ‘‘How to build alliance capability: A life cycle approach’’ by Kim Sluyts, Rudy Martens, and Paul Matthyssens, surveys the concept of alliance capability as developed in the competence literature. The concept of alliance capability is analyzed and argued to consist of five subcapabilities, each of which is related to a specific stage in the life cycle of an alliance. The authors also suggest a number of structural, technological, and human-related tools and techniques for improving relevant subcapabilities at each stage of the alliance life cycle. Focusing on the key process of entrepreneurial action undertaken by managers in firms, the paper ‘‘Modeling entrepreneurial action choice: From intent through rhetoric to action’’ by Janice A. Black, Richard L. Oliver, and Lori D. Paris develop an agent-based model to evaluate how
Introduction
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environmental factors, organizational inertia, entrepreneurial cognitive traits, learning potential, and opportunity identification influence entrepreneurial action choices. The authors evaluate the likelihood of entrepreneurial action taking under various combinations of these factors. In his paper ‘‘Self-organization of competence development and the role of managers,’’ Martin Kro¨ll examines the role of individual competency development as a condition for building and maintaining organizational competences. He investigates different conditions deemed necessary for successful self-organization of competency development in large versus small and medium enterprises, as well as the potential for combining selfmanaged and externally provided competency development initiatives. Ron Sanchez Aime´ Heene Editors
LOBBYING: STRATEGIES TO MAKE A FIRM’S COMPETENCES GENERATE VALUE Martin Gersch, Christian Goeke and Jo¨rg Freiling ABSTRACT Extant work on lobbying primarily focuses on who is lobbying and is lobbied as well as strategies of how to exert influence. More fundamentally, we address (1) what drives firms to engage in lobbying activities at all and (2) what factors determine the alignment of corporate lobbying. More concrete, we investigate why and also how firms do lobbying. Another intention is to further anchor this highly relevant instrument of business practice in the scientific discourse of strategic management. It turns out that the dynamic, systemic, cognitive, and holistic rationale of the competence perspective is a very strong contributor of fresh thoughts to the debate on lobbying as a strategic means. We adopt this perspective by specifically making use of the Competence-based Theory of the Firm (CbTF) in order to scrutinize this issue in theoretical terms. Especially path-dependent developments when building and leveraging a firm’s resources and competences as well as resource/competence specificity cause organizational inertia and limited adaptability to Enhancing Competences for Competitive Advantage Advances in Applied Business Strategy, Volume 12, 1–22 Copyright r 2010 by Emerald Group Publishing Limited All rights of reproduction in any form reserved ISSN: 0749-6826/doi:10.1108/S0749-6826(2010)0000012004
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changing environmental conditions. Instead of passively adapting to changing environmental conditions, lobbying activities directly aim at entrepreneurial and goal-oriented attempts to exert influence and to steer changes in the relevant business environment, basic conditions underlying every market process, or institutional migration paths at points of inflection. Acknowledging their discretionary potential to act, agents seek to achieve a strategic fit between market requirements and the output they are able to render based on their competences by using the lever of manipulating their environment. Empirically, propositions are derived and validated with an integrated set of qualitative empirical methods applied in the German healthcare system between 2004 and 2008.
INTRODUCTION It is undisputed that a firm’s competitiveness and competitive advantages do not only rely on mastering transaction-related market processes alone, but on ‘‘nonmarket phenomena’’ in the context of the actual markets, as well. Economic activity is embedded in and funneled by its institutional environment. This institutional environment is made up of industry regulation, governmental agencies, law, decisions of courts, technical norms and standards, just to mention some facets (Dahan, 2005). In varying degree, codified restrictions apply in every industry and not only in highly regulated ones like utility, telecommunication, or healthcare. Regulating intervention can take many different forms and might affect a variety of firm, industry, or market parameters, while particular firms typically consider some scenarios of industry parameters more favorable than others. Moreover, a certain scenario may represent a threat to one firm but can constitute an opportunity for another. The less similar firms are in an industry, the stronger the idiosyncratic effects of an exogenous threat (Sadrieh & Annavarjula, 2005). In particular those parameters, which are man-made and codified, are typically fixed by a delimited number of decision makers (e.g., politicians and standard setters) who decide about cornerstones of future business environments in particular industry sectors. Theory of regulation and political economy is clear about the fact that those decisions are always made with incomplete information and under uncertainty. On a general level, an economic approach to political behavior assumes that actual political choices are determined by the efforts of individuals and groups to
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further their own interests (Becker, 1983). Models applied in theory then typically consist of government decision makers, firms, and – sometimes – special interest groups (Lyon & Maxwell, 2004). Firms’ public affairs strategies are applied in order to influence parameters of the relevant business environment. These strategies are useful to create and/or maintain the firms’ sources of competitive advantages or to erode or destroy the sources of competitive advantages of competitors. One way of doing so is ‘‘lobbying’’ as any attempt by agents or interest groups to influence the decisions of decision makers in a goal-oriented and beneficial way (Encyclopaedia-Britannica, 2007), which must not necessarily be limited to aim at government authorities. It is argued that a firm’s use of political strategies such as lobbying is an underplayed topic in strategic management theory (Schuler, 1996; Jacobides, Knudsen, & Augier, 2006). Apart from rent-seeking behavior, i.e., opportunistic seeking for government-given advantages without a compensation (Tullock, 1967), lobbying can easily be traced back to a simple assumption: there are some scenarios in the relevant business environment that are more favorable for a firm and there are others where it is not so. An emphasis in the motivations for lobbying must therefore be looked for in the idiosyncratic potentials inherent in a firm, which coincides with the perspective of the resource-based and competence-based view of the firm (Sanchez & Heene, 2004; Barney, 2001; Freiling, Gersch, & Goeke, 2008). This is why we consider this stream of strategic management theory as a fertile anchor point to integrate ‘‘lobbying’’ into the theory-based strategic management toolkit. As a very first step, this paper addresses the research question of what drives firms to engage in lobbying activities from the dynamic, systemic, cognitive, and holistic angle of competence-based management (Sanchez & Heene, 2004) and especially a Competence-based Theory of the Firm (CbTF) (Freiling et al., 2008). Additionally, we try to get first insights of how the firms do lobbying from a competence-based perspective and what mechanisms they assume to work in order to conduct effective lobbying. For this purpose, first the research gap in the intersection of extant literature on lobbying and resource-based/competence-based theory is clarified. With the help of an interactive qualitative research framework, the research question is explored within the German healthcare sector. Validated results are formulated in first propositions. Due to the interactive nature of the research design, it turns out that the constructs to explain the common base of lobbying activities are very close to the explanation of the foundation of special interest groups.
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THEORY There is a huge body of research and analyses on lobbying in social sciences – with a strong emphasis on the economic perspective. Extant work primarily focuses on the lobbying process comprising who is lobbying and who is lobbied, how to get access to decision makers, strategies of exerting influence and information transmission, or organizational forms of lobbying (Dahan, 2005; de Figueiredo & Silverman, 2006). The common bases for lobbying activities are only treated quite superficially: without further detailing, it is typically argued that due to some organizational inertia, firms are not able to react on or to master all environmental conditions with the same result. Additionally, a set of environmental conditions that is favorable to one firm does not need to be equally beneficial to another. Thus, expecting differential consequences, firms are more likely to have diverging and/or conflicting interests that they might want to enforce by political action. Oftentimes it is argued that, for these purposes, firms may join forces to form subgroups in an industry, each coalition adopting a differentiated position (Sadrieh & Annavarjula, 2005). As already stated above, a main reason for lobbying seems to lie in firm heterogeneity and idiosyncrasy combined with a limited adaptability to new or changing environmental conditions. Competent firms in one area simply face fierce restrictions on resource and competence gaps in other areas that they cannot overcome quickly, thereby leading to dependency on external resources (Pfeffer & Salancik, 1978; Freiling, 2008). Although these issues are not fundamentally connected in research, they are vital cornerstones of the resource and competence perspective in strategic management. This stream of research puts an emphasis on firm heterogeneity and unique organizational potentials. It refers to firms as distinct bundles of resources and competences (Penrose, 1959) that have evolved over time and are embedded in their relevant business environment. Within an organization, homogeneous assets, which can typically be procured in markets, are subject to a firm-specific upgrading process in order to develop ‘‘resources’’ (Barney, Wright, & Ketchen, 2001; Sanchez & Heene, 2004). This process is primarily made of (re-)bundling and/or learning processes. Permanently required upgrades finally contribute to the actual and future competitiveness of the firm. Furthermore, competences comprise the repeatable ability to render competitive output with these resources, based on knowledge and usually nonrandomly managed by rules and channeled by routines (Becker, 1983). They enable goal-oriented processes to arrange future readiness for
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action and the potentials to render concrete input to the market. Competences cater to a conservation of competitiveness and, if so, even competitive advantages (Freiling et al., 2008). However, such upgrading processes follow idiosyncratic paths, are uncertain, and take time. Moreover, an existing resource and competence endowment of a firm can also lead to organizational inertia concerning the adaptation to external changes (Leonard-Barton, 1992). Boddewyn and Brewer (1994) identify the potential to connect the resourcebased/competence-based view with the subject area of lobbying. They find it ‘‘strange’’ that there is ‘‘relative silence of the now popular resource-based theory of strategic advantages’’ about ‘‘nonmarket phenomena’’ such as lobbying, and that means of this theory acquired and used to gain rents are purely ‘‘intraeconomic.’’ In particular, Boddewyn and Brewer point out the neglected so-called ‘‘political resources.’’ Meanwhile, there is some literature using the term ‘‘political resource’’ (Frynas, Mellahi, & Pigman, 2006). In this sense, lobbying is understood as an effort to build such political resources (Sadrieh & Annavarjula, 2005), as for example access to and credibility with decision makers. However, typically the interpretation of the term ‘‘resource’’ does not meet the above-outlined meaning that is typical for resource and competence theory (Dahan, 2005). For consistently analyzing the interplay of firm potentials with the evolution of the market and/or the industry environment, it is necessary to complement the resource and competence perspective with a market theory, as well. This is deemed essential to understand the role of nonmarket phenomena in the course of organization/environment coevolution as well. While the idea has existed for a long time that the competence perspective can very well be integrated into the process-oriented framework of the Austrian School, especially some very recent research emphasizes the compatibility of the resource-based and competence-based views with the Austrian School market process theory, even in terms of philosophy of science (Freiling et al., 2008; Foss & Ishikawa, 2007). These works even claim that the resource-based and competence-based views have the potential to fill the ‘‘missing chapter’’ of a theory of the firm in the Austrian School. This is why we subsequently will be referring to a ‘‘Competence-based Theory of the Firm.’’ In a nutshell, the Austrian School considers entrepreneurship and agents’ alertness as driving forces for economic development and changes, founding their school of thoughts on the core basic assumptions of (1) methodological individualism, (2) subjectivism, (3) relevance of time, (4) radical uncertainty,
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(5) ‘‘acting man’’ as the model of man, and (6) non-consummatory approach combined with moderate voluntarism (Vaughn, 1994; Freiling et al., 2008). The agents’ knowledge is incomplete and asymmetrically distributed. Economic agents gain new knowledge through every market process. To be precise, while traditional competence theory has its focus on ‘‘market input processes,’’ these have to be distinguished from ‘‘market processes,’’ which at least comprise the collection and diffusion of knowledge about offered or desired bundles of goods, services, and property rights (as the category ‘‘object of market’’) and negotiations that precede the exchange of these bundles and agreements on the transfer of property rights, but also the actual transaction (Gersch & Goeke, 2007). Market processes take place embedded into existing market rules, i.e., the ‘‘constitution’’ of markets, which contains ‘‘codes of conduct’’ and legal norms for the sell-side as well as for the buy-side. Market processes themselves can be arranged according to the market structure (e.g., the number and size of competitors and potential customers). Particular features of the market structure are – from an evolutionary point of view – not only results of players’ action but also factors that influence their future conduct (and therefore market processes). In this sense, even ‘‘small events’’ in the market process can be meaningful. On the basis of new knowledge accessed, they build new expectations and revise their plans as well as market offerings, always seeking to enhance the competitiveness, creatively destroying old ideas or concepts (Schumpeter, 1934) and using competition as a discovery process (Hayek, 1978). According to market process theory’s basic rationale, entrepreneurial action is viewed as the primum mobile of any kind of change process. There are unforeseeable points of inflection (Sanchez, 1997) and windows of opportunity continuously opening during the market process for alert and entrepreneurial firms to create new alternatives to future market offerings (Christensen, Sua´rez, & Utterback, 1998). The so-called ‘‘triggers’’ for change, which are often highlighted in literature (Porter & Rivkin, 2000) – and, if of a regulative nature, can surely be induced by lobbing – thereby work as ‘‘window openers’’ and ‘‘window controllers’’ on basically endless, irreversible, and idiosyncratic paths. These paths are formed accidentally to a large extent and as a sequence of decisions (which sometimes also restrict decisions-to-come) and events. Together, CbTF and the Austrian School form the theoretical framework for the analysis of common bases for lobbying activities in order to master the coevolution of organization and environment as interdependent levels of analysis.
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METHOD Generally, market process theory applied in this work is connected with particular challenges as to empirical research and methodological possibilities. Facing the subjectivist nature and the positioning of market process theory as a part of the interpretative paradigm (Burrell & Morgan, 1979), the traditional anchor point of critical rationalism – as formulated by Popper (1945) – does not fit. The reason for this is the limited possibility to generalize findings when idiosyncrasies occur. Given the above-mentioned basic assumptions, formalized quantitative empirical work does not seem to be appropriate. For this reason, we found it adequate to borrow qualitative methods from social sciences. They finally enable us to follow Hayek’s (1964) remedy to identify patterns within evolutionary development processes. This way, the set of qualitative methods of empirical research we apply is basically embedded into Maxwell’s (2005) interactive approach to qualitative research designs. Fig. 1 gives a survey on cornerstones of our research visualized in Maxwell’s framework. In the context of this framework – and embedded in a more comprehensive longitudinal study to explore features, entrepreneurial challenges, and conceived solutions to master organization/environment coevolution in transforming industries – the research question is addressed. To ensure a comprehensive analytical understanding of the subjects of analysis, we followed the recommendation to focus on one industry sector in this study (Charmaz, 2006), namely the German pharmaceutical industry. Because of the early stage of research, we adopted grounded theory ideas (Charmaz, 2006; Glaser, 1978; Strauss & Corbin, 1998) in combination with case study research (Eisenhardt, 1989; Leonard-Barton, 1990; Yin, 2003b) to perform data collection and analysis as an interrelated process. In doing so, our initial research objective, why firms do lobbying, was enriched by second objective during the research process, namely to gain insights on how they do it and what general mechanisms they assume to apply when lobbying. For economic research questions and through the abovementioned Maxwell framework, we opted to follow Strauss’ interpretative approach rather than Glaser’s positivistic one. This allows us to conduct the fieldwork following the Austrian School and the competence-based theory (which we are seeking to enrich) and to use our industry background in the sector under investigation. Starting point is existing theory in the conceptual framework (Austrian School, CbTF) as a lens through which phenomena observed in the fieldwork are interpreted and used in a precise manner.
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WHY– Common bases
Protect specific investments or assets
Steer development paths and trajectories
Create own or destroy competitors’windows of opportunities
Accelerate or slow down external changes depending on one’s own relative flexibility
Contribute to draft laws
Collaborate in various forms Manage campaigns and opinion making Influence expectations and decisions selectively and indirectly
(to use self enforcing paths and positive feedbacks)
HOW-Awareness of mechanisms
Fig. 1.
Framework of an Interactive Research Design (Adapted from Maxwell, 2005).
We chose the German healthcare sector – in particular the pharmaceutical market – as the context for the analysis. Besides the fact that this sector is especially a domain of lobbying activities, these could be observed very well and analyzed in times of the comprehensive healthcare system change in 2004 (of which the results were revisited for reasons of robustness in the context of another reform in 2006/2007). In order to ‘‘catch reality in flight’’ (Pettigrew, Woodman, & Cameron, 2001) when addressing the underlying research question, we set up a panel of 14 upper management executives from relevant value chain stages and special interest groups in the German healthcare for longitudinal analyses. This panel has been meeting about quarter-annually since the year 2004. Our research was backed up by using multiple sources of data, comprising nine focus group workshops, several expert interviews, a Delphi analysis, two further written inquires and written primary and secondary documents (memos, newspaper articles, analyst reports, internal documents), as well as direct observations for the purpose of triangulation (all for the purpose of addressing further research questions of our longitudinal study of organization/environment coevolution, too).
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For improving the quality of the research, a number of procedures were adopted throughout the study. To justify the robustness of the results, we reviewed numerous sets of criteria (Flint, Woodruff, & Gardial, 2002; Miles & Huberman, 1994; Yin, 2003a) being oriented on the research process. Like other authors in the field of management science (Beverland & Lockshin, 2003), we adopted the results of the Flint et al. (2002) review on relevant criteria for evaluating the trustworthiness of our work. They took credibility, transferability, dependability, conformability, and integrity from interpretive research (Hirschman, 1986) as well as the criteria of fit, understanding, generality, and control from grounded theory (Strauss & Corbin, 1998). For details on how these criteria were addressed, cf. appendix.
RESULTS During our fieldwork and data analysis it became obvious that lobbying, its motivations, and ways of conducting are manifold. Especially given the above-elaborated fact that from a competence-based management perspective research more or less starts on a green field, the results section is divided into two parts, allowing to comprehensively cover the observed phenomena as well as testable results. First we summarize the insights from the exploratory part of the study, reflecting broad categories as responses to our research question. The intention of that part will primarily be to demonstrate the richness of the phenomenon and to outline the research arena, which opens up when analyzing lobbying from a competence-based management perspective. Where possible within the scope of the study the second part goes more into detail with some of the findings and presents selected results that could be formulated in the form of iteratively derived propositions as cause–effect relations.
Richness of the Phenomenon In the iterative framework of theory-driven analysis on details of organization/environment coevolution as described above, we addressed mainly the question of what drives firms to engage in lobbying activities from the angle of competence-based management and CbTF. We also got first ideas concerning how the agents realize lobbying. On analyzing this rather broad research question in the German healthcare in the context of its
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Understand details of organization/environment co-evolution
Austrian School, Competence-based Theory of the Firm, Healthcare Sector
as overall objective
as conceptual contexts
Why drives firms to engage in lobbying activities? as research question
Longitudinal case study research
ROBUSTNESS OF RESULTS
as method applied
Fig. 2.
Common Bases and Mechanisms Used When Engaging in Lobbying Activities.
2004 and 2006/2007 reforms, quite a lot of patterns as common bases for lobbying activities could repeatedly be observed. Even if they differ in detail and execution, as a pattern (Hayek, 1978) on a high level of abstraction the following explications all fulfill the validity and trustworthiness criteria according to the appendix. Fig. 2 gives an introductory overview on common bases (‘‘why’’) and the diverse mechanisms (‘‘how’’) of lobbying analyzed during the study and that will be explained subsequently. In one way or another – but without explicitly labeling it with such terms themselves – firms mainly use their lobbying activities to steer development paths and trajectories, which they identify as or assume to be advantageous to them, at least by improving their relative competitive position. This happens, for example, in the form of selective provision of information to government decision makers (as it is the typical textbook subject of lobbying, cf. Baron, 2006) in order to influence the ‘‘rules of the game’’ (i.e., laws, industry regulation, etc.). Within the scope of the case study, nearly every interest group within the German healthcare industry had its lobbyists at least being in contact with politicians when the healthcare system reforms
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were negotiated. In extreme, lobbyists were also delegates to ministries in order to help formulating draft laws. However, according to the above-given definition of lobbying, politicians need not be the only target of lobbying – and in fact they are not. Likewise, but in a wider sense, the direct (through communication) or indirect (through action) provision of information or signaling also aims at other market participants and especially their expectations. Agents are then more or less seeking to achieve a ‘‘selffulfilling prophecy,’’ including the initiation and enforcement of information campaigns and opinion making. In such cases, we observed that opinion leaders with smart lobbying strategies are able to manage other market participants to follow them like ‘‘lemmings.’’ That means that single players or small groups of players (opinion leaders) show a strong commitment (at least in their communication, but also by investing) to specific scenarios in the future. The majority of players (the ‘‘lemmings’’), however, take the inevitability of such scenarios for granted without challenging it and seeing that there are alternatives with basically an equal probability. During our study this opinion leader and ‘‘lemming’’ constellation was observable several times, often when a firm’s (opinion leader) own development depends on or at least is fostered by complementary action of other players (in healthcare, for example, when it comes to settle the acceptance of new forms of care provision, e.g., mail-order pharmacies, chains of pharmacies). Firms do lobbying on a stand-alone basis, but very often also in collaboration with other organizations that have similar steering objectives. One crucial point in the context of lobbying is the existence of so-called ‘‘special interest groups’’ or ‘‘lobbying groups’’ in which firms join forces to represent and/or manage their interest together (Lyon & Maxwell, 2004). They are typically defined as agents who consider similar actions or directions of taking influence on their relevant business environment as adequate to foster the achievement of their individual goals. However, in the fieldwork it turned out that these similar interests are quite often also rooted in resource- and competence-oriented phenomena, i.e., firms with similar resource/competence profiles or gaps have rather equal general lobbying interests. Thus, lobbying groups can rather be considered as ‘‘strategic groups’’ of agents (Hunt, 1972), sharing similar interdependencies (in terms of positive feedbacks as well as resource and competence specificity) with a set of parameters of environmental conditions. Going deeper into the fieldwork, the healthcare sector belongs to those industries that necessitate large (and uncertain) investments before launching innovations to the market. This is, for example, true in the case of the pharmaceutical industry doing research and development for new
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agents or drugs, but also for business model innovations. An example for such a business model innovation in our study was a company that developed a business model production site for industrially re-packing pharmaceuticals from their retail boxes and blisters to individual daily blisters for patients in order to enhance compliance and avoid misuse. In both cases, the extent of firms’ revenue from the investments depends particularly on the regulatory environment, for R&D at least concerning patent regimes, pricing schemes, etc., and for business model innovations more fundamentally regarding their legal feasibility and their acceptance by, for example, patient benefit managers (PBMs) and/or insurances as group purchasers. In this context, one common base for firms’ or organizations’ lobbying is the protection of specific investments or assets, either in form of fostering their first-best use, or intending to build up second-best uses. In the case of the German healthcare industry with its groundbreaking reforms there is a lot of environmental munificence which opens strategic windows for innovative and alert entrepreneurs. In the cases under investigation there were many of such windows of opportunities for several groups of agents. As one example, the combination of the diffusion of the internet, patients’ changed lifestyle, and a regulatory change made it possible to found mail-order business models for pharmacies in Germany, what several players with necessary competence profiles considered as an opportunity for a new venture (Gersch, 2004). In situations like that the potential innovators or new entrants lobbied for the regulative change to open the window of opportunities whereas incumbents did so to destroy or avoid such strategic windows of others. Furthermore lobbying is applied to accelerate or slow down external changes depending on one’s own relative flexibility or adaptability to changes. We could especially observe this in the context of the introduction of a nationwide health telematics infrastructure (‘‘Die Gesundheitskarte’’). Due to enhanced efficiency and effectiveness, it is undoubted that the net benefits of such e-health infrastructures are positive. However, as it requires some groundbreaking changes in process structures and IT design of all healthcare organizations, not all players in the sector buy into this project at an equal extent. We observed highly professionalized groups of agents (e.g., hospital chains) for whom an introduction and connection was a logical consequence of their own business reengineering. They made lot of efforts (vis-a`-vis the government decisions makers and other complementary groups in healthcare) to accelerate the introduction – also in order to leave other players in the dust, which were expected to lose competitiveness or competitive advantage through a fast introduction due to their structural
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inertia. Consequently and vice versa, these were the groups whose lobbying activities aimed at slowing down the specification and rollout of the health telematics infrastructure. The cases we studied allowed us to go beyond these exploratory results when we observed single occurrences of the patterns quite similarly in different contexts. If that was the case – and according to the trustworthiness criteria in the appendix – we formulated propositions as cause–effect relations on lobbying out of our findings. Both their level of detail and their emphasis differ due to the fact that we only formulated those findings as propositions, which we considered to be a robust representation of our data. We interpret these findings against the theoretical background of the CbTF and will therefore present them in a way going beyond the case and connected to the existing literature of the respective contexts. Propositions Starting point for this deeper analysis and axial coding and categorizing (Charmaz, 2006) of the qualitative data was the basic idea that is also mentioned in the extant literature on lobbying: due to organizational inertia, firms are not able to react on or to remain competitive in all conceivable scenarios of environmental conditions and especially paths of change. Therefore, they engage in lobbying. Embedded in evolutionary developments of relevant markets and industries, points in time can be identified which are characterized by their importance for the direction of future developments (e.g., due to fundamental decisions or even by accident). At these so-called ‘‘points of bifurcation’’ for relevant institutional contexts (Arthur, 1989), a positioning of future cornerstones appears to be vital. ‘‘Forecasting the future or shaping it?’’ (Simon, 2002) – Instead of passively adapting to changed environmental conditions, lobbying activities directly aim at goal-oriented attempts to exert influence and to steer changes in the relevant business environment, basic conditions underlying every market process, or institutional migration paths at these points of bifurcation. Acknowledging their discretionary potential to act, agents seek to achieve strategic fit this way (Morgan & Hunt, 2002; Volberda & Lewin, 2003; Zajac, Kraatz, & Bresser, 2000). Proposition 1. When agents assume a ‘‘point of bifurcation’’ in their relevant business environment, they will evaluate and take measures to influence further developments for the sake of their own (relative) competitiveness.
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Aggregating directions of lobbying activities – as observable in the fieldwork in the German healthcare sector – to a very high level, drivers that engage in such lobbying activities can very well be traced back to basic mechanisms inherent in the evolutionary CbTF. The first of these mechanisms comprises path dependencies: one main characteristic of path dependency in the narrow sense is the existence and effectiveness of self-enforcing development processes. So-called ‘‘positive feedbacks’’ (increasing returns) are one reason for self-enforcing developments (Arthur, 2000; David, 1994; Sterman, 2000) when they initiate a kind of automatism of further development. Starting with increasing returns and ‘‘asset mass efficiencies’’ (Dierickx & Cool, 1989) (e.g., by learning curves or secondary benefits of usage or complementarity), self-enforcing development processes emerge more or less automatically and without any further impulse or intervention, or rather initiated by small decisions and events. This can typically not be anticipated or planned. Self (re-)enforcing processes can apply to every level, the environmental, the institutional, and the firm (here, for example on resource and competence development). The stronger these effects are on the level of resources and competences, the less likely there will be danger of imitation on the one hand, however, on the other hand, more limitations will be placed on the freedom to explore them (Jansen, van den Bosch, & Volberda, 2005). In this context, motivations for lobbying activities to initiate, break, or steer environmental/institutional paths can particularly be found in the so-called ‘‘complementarity effect,’’ leading us to derive the following propositions mirrored in the fieldwork. Proposition 2. Firms will engage in lobbying activities when their own resources’ and competences’ value relies on complementarities and positive feedbacks with elements of their relevant environment within trajectories. Inertia through temporally interconnected events and decisions can also be initiated through economic rigidities, without any self-enforcing effects. However, through limited transferability diverse forms of rigidities can also have an effective impact on players’ decisions-to-come. In this context, specificity is of high importance. The understanding of specificity as, for example, in transaction cost economics is usually a comparative static one, comparing alternative usage of one or two users in one or two points in time. This then leads to an understanding of specificity as net value difference between first-best and second-best usages of investments or created assets (cf. the definition of quasi-rents by Klein, Crawford, & Alchian, 1978).
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Interpreting specificity in an evolutionary way, numerous effects are to be considered which have the potential to change an evaluation once conducted for resources and competences over time. Exemplary effects in this respect are, for example, changes in the (institutional) environment, new knowledge on alternative uses, or qualitative changes of the assets over time. Hence, players’ strategies of ‘‘(de-)specification’’ can lead to an extension or narrowing of available alternatives for action and corridors of development. Thereby, also resources and competences necessary to render a competitive output on the firm level generally show a more or less high specificity concerning partners and/or usages (Ghemawat & del Sol, 1998; Ghemawat, 1991). A change in market requirements or environmental conditions that is accompanied with a changing first-best and/or second-best alternative for use can therefore also be considered as a threat of invalidation of available resources and competences. Seeking competitiveness, agents therefore force those environmental development paths, which allow a continuous first-best usage of their potentials. This can mean a goal-oriented stabilizing of existing environmental conditions as well as intended destabilizing. The latter is especially forced by those with superior reactivity compared to competitors. Again and again, they try to surprise other (competing) market participants through forced discontinuities. Proposition 3. The higher the specificity of resources and competences from an agent’s point of view and the more likely environmental conditions are subject to changes, the more intensive agents will engage in lobbying activities. On the other hand, lobbying activities can also be embedded in flexibility strategies in order to ‘‘de-specify’’ resources and competences by paving the way for their exploitation and the creation of new ‘‘second-best’’ usages. Proposition 4. The higher the assumed uncertainty of the future value of a firm’s existing resource and competence base at one point in time, the more lobbying activities it will undertake to either settle the first-best use or in order to create valuable second-best alternatives. Compared to ‘‘constructive lobbying’’ in order to enhance one’s own ‘‘fit,’’ ‘‘destructive lobbying’’ is of at least the same importance. ‘‘Destructive lobbying’’ can be observed when firms try to hamper the competitors. This on the one hand comprises the evasion of evolving individual ‘‘windows of opportunity’’ for potential competitors, as well as to impede lobbying engagement of competitors as described in Propositions 2 and 3.
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Proposition 5. When agents assume individual ‘‘windows of opportunity’’ of potential competitors, they will engage in lobbying activities in order to close these windows. Proposition 6. When agents assume to have a superior adaptability to environmental change compared to their competitors (e.g., due to less positive feedbacks on a narrow pathway or less specificity of their resources), they will engage in lobbying activities in order to increase environmental dynamics in their favor.
SUMMARY AND OUTLOOK Quite fundamentally and on a high level of aggregation, this paper does a first exploration on the question of what drives firms to engage in lobbying activities. Second, it offers first ideas on how agents operate from a competence-based perspective. Another cornerstone of the research was to derive findings that fit state-of-the-art concepts of strategic management. It turned out that the evolutionary CbTF as part of market process theory is especially applicable to this venture. The phenomenon of lobbying can be explained very well with the competence theories’ rationale, as especially path dependencies and resource/competence specificity cause organizational inertia and limited adaptability to (all conceivable or) changing environmental conditions. This is the common ground for lobbying activities, since interfering in the evolution of such conditions is the aim of lobbying. The exploration and the propositions presented in this paper represent a first step in the endeavor to anchor lobbying more than before in the academic discussions or strategic levers and into the rationale of resourcebased and competence-based strategic management. The aspects of each of the propositions seem to be a fertile ground for subsequent and in-depth research, as well as a deeper view into organizations, exploring how they are built and renewed for different lobbying purposes.
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APPENDIX. CHECK OF TRUSTWORTHINESS BY APPLYING THE CRITERIA OF FLINT ET AL. (2002) Trustworthiness Criteria Credibility: Extent to which the results appear to be acceptable representations of the data
Method of Addressing in This Study Conducted interviews and market
observation continually for 4 years, with the panel-experts for 1, 5 years Third persons involved in categorizing Findings and milestones presented for discussion and adjustment of the executive panel (which provided the majority of data) Protocols with interpretations regularly returned to participants Extraction of results through a research team of three with mutual justification of the results
Result: Emergent findings and propositions were altered and expanded
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APPENDIX. (Continued ) Trustworthiness Criteria Transferability: Extent to which findings from one study in one context will apply to other contexts
Method of Addressing in This Study Theoretical sampling Weakness, that results were generated
exclusively with data from the healthcare sector was tackled through the abstract development of findings consistent to market process theory basic assumptions. Additional discussions with representatives from the steel, music, and education sector, who basically confirmed the findings for their industry, as well Result: Findings were represented by multiple data sources and all panelists
Dependability: Extent to which the Design as longitudinal analysis (including findings are unique to time and interviewees focus groups members) place; the stability or consistency Panelists and interviewees reflected on of explanations current and recent events and experiences Results not anchored in ‘‘fixed real-world events’’ Result: Found consistency in the phenomena for multiple points in time; consistency in the participants’ stories Confirmability: Extent to which interpretations are the result of the participants and the phenomenon as opposed to researcher bias
Milestones of research also presented and
discussed with other researchers on conferences and interdisciplinary research workshops at our university Comprehensive industry image through participants from every value chain stage in the German healthcare sector Result: Findings and propositions were altered and expanded
Trust built with longitudinal participants Integrity: Extent to which interpretations are influenced by (interviewees, panelists) Nonthreatening nature of interactive misinformation or evasions by elements, motivation to achieve ‘‘win–win’’ participants situations with the participants Always numerous sources of data
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APPENDIX. (Continued ) Trustworthiness Criteria
Method of Addressing in This Study Triangulation with comprehensive
secondary data When nonconfidential, protocols were
returned to all panelists with the request to comment irregularities Eyes open for participants trying to evade the issues being discussed Result: Participants were very open about issues being discussed; no evidence for missing integrity Fit: Extent to which findings fit with the substantive area under investigation
Through interactive approach always
having in mind research goal and research question Through interpretative approach always having in mind the conceptual/theoretical framework Result: Findings were more deeply described, also backed with extant literature on the topics
Understanding: Extent to which participants buy into results as possible representations of their world
Written survey on importance and relevance
with the panelists after concluding focus group workshop confirmed relevance of the three motives to ally Ongoing presentation of findings and interpretations with colleagues, participants and in industry forums Result: Colleagues and practitioners bought into the findings
Generality: Extent to which findings discover multiple aspects of the phenomenon
All interactively generated data (interviews,
focus group workshops, questionnaires) gave explicit opportunities for new facets of phenomena Repeated (longitudinal) interviews with numerous key informants Result: Captures multiple aspects of the phenomenon
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APPENDIX. (Continued ) Trustworthiness Criteria Control: Extent to which organizations can influence aspects of the theory
Method of Addressing in This Study Panelists and interviewees would have some
degree of control over their organizations’ lobbing strategies (strategic intention), not however on detailed outcome Result: Involvement of the participants in the issue exists
COMPETENCE-BASED STRATEGIES OF SERVICE TRANSITION Tim Kessler and Michael Stephan ABSTRACT As an answer for the limited growth potentials of diversification and internationalization, services became increasingly important for industrial firms in recent years. Based on existing and established business concepts, companies explore new segments in their traditional value chains beyond traditional market penetration strategies: they pursue service transition strategies to open up new sources for growth, even in markets that do not promise great expansion potential. Our paper addresses the issue of economies of scope of service transition. In this context, we first explore the question, to what extent the insights about product diversification strategies from physical goods sectors can be transferred to the service sector. Using competence-based considerations on diversification we focus on dynamic economies of scope, whose central idea is exploration and development of new resources rather than the static exploitation of existing ones. Furthermore, we integrate the largely neglected issue of how the phenomenon of service diversification depends on the industry’s life cycle stage. In a small empirical study of the German mechanical engineering industry we demonstrate that diversification steps into services require a shift in the resource and competence base of firms. Enhancing Competences for Competitive Advantage Advances in Applied Business Strategy, Volume 12, 23–61 Copyright r 2010 by Emerald Group Publishing Limited All rights of reproduction in any form reserved ISSN: 0749-6826/doi:10.1108/S0749-6826(2010)0000012005
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Using a dynamic perspective, we construct a conceptual framework for analyzing and explaining the advantages of service transition strategies. The developed model describes a service diversification trajectory and points out that the establishment of a profitable service business requires the exploration and development of competences and adequate organizational structures.
1. THE RELEVANCE OF SERVICES FOR MANUFACTURING FIRMS: SERVICE TRANSITION AS A SOURCE OF GROWTH AND COMPETITIVE ADVANTAGE The world’s largest multinational firms (MNCs) are actively engaged in a multitude of businesses and geographical markets, cooperate with a plethora of external partners and usually leverage on a broad resource and competence base. MNCs use these strategic directions of corporate action to realize growth as a major trigger of profits and value creation. However, contemporary management research on corporate growth has predominantly focused on appropriate growth modes, i.e., the issue of how growth should be realized and implemented. The polar extremes in this context are internal versus external modes of growth. Internal, organic modes of corporate growth aim at the internal accumulation of resources, whereas external growth modes refer to the acquisition of resources in organized forms via mergers or acquisitions of other firms. Beyond the issue of internal versus external growth modes, companies face the question: in which direction should corporate expansion be targeted? Firms have the choice to either intensify or expand their activities along several strategic dimensions. First of all, firms can grow by intensifying their activities in existing businesses. This approach to growth is widely known as market penetration (or market development) strategy: in other words, increasing sales volumes in existing markets with existing products. At the same time companies may reduce cost by realizing economies of scale. A penetration strategy may have some merit in the short run if the market is growing, but the firm is likely to encounter intense competition as the market matures. Slywotzky and Wise (2003) use the metaphor of ‘‘back-and-forth jockeying,’’ where the advantage of one competitor is undone by a slight improvement and incremental innovations of the other. The resulting minor competitive advantage does not promise sustainability. Thus, the growth
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effect of market penetration strategies is limited (Sanchez & Heene 2004). Long-term growth can only be achieved by expansion of the firm’s (business) activities (Gerybadze & Stephan, 2003, 2004). Perhaps the most prominent strategic dimension of a firm’s expansionary activities is product diversification. Ever since the work of Penrose (1959) and the empirical investigations of Rumelt (1974), product diversification has received plenty of attention. Literature on product diversification (and its effect on corporate performance) has been a mainstay of strategic management research. Various lines of theoretical explanations have been put forward to explain the diversification phenomena as corporate growth strategy. Starting in the United States right after the Second World War and in the rest of the Triad countries in the 1960s and 1970s, many companies diversified their product base widely and followed conglomerate growth strategies. One justification of conglomerate diversification was risk reduction by pooling together unrelated businesses. However, since the end of the 1980s a change took place when companies started to refocus on a few related core product lines (Markides & Williamson 1996). The desired positive growth and performance effects, namely economies of scope and risk reduction, were not realized by most of the corporations. At the latest, when capital markets started to grant a conglomerate discount on product diversification strategy, most firms refocused and divested a large number of non-core businesses (e.g., Gerybadze & Stephan, 2003, 2005a; Markides & Williamson, 1994, 1996). Instead, firms in the 1990s started to bet on another expansion strategy – internationalization. Over the past two decades, firms have intensified their efforts to internationalize their sales (and production) and entered foreign markets through exports, foreign direct investment, or cooperative market entry strategies. The geographical expansion or internationalization of the markets in which the company is active leads to an increase in output and allows for economies of scale. The trend toward globalization of business has been observed in firms across all industries and Triad countries. However, it has also been observed that firms focus their internationalization strategies on their core products in which their superior competitive advantage allows for the successful expansion into foreign markets. At the same time, most firms also concentrate their expansion efforts not only on a small set of core products but also on a limited set of foreign markets which are either closely related to their home markets (by small cultural distance, etc.) or instead offer large growth potentials. However, since the beginning of 2000, the undamped internationalization fever has come to a halt in many industries. For most firms, the growth potential in the attractive markets and product lines has
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obviously become saturated (Beyer & Stephan, 2006). With global oligopolistic competition (‘‘global back-and-forth jockeying’’) in their core businesses and core foreign marketplaces, MNCs must look for new avenues of future growth. Since the beginning of the 2000s, in most OECD countries industrial firms have been banking on a new growth dimension to answer the limited growth potentials of diversification and internationalization. Based on existing and established business concepts they explore new segments in their traditional value chains beyond traditional market penetration strategies: companies diversify into product-related and unrelated services. They develop new service offerings which resolve the problems of their customers and help to improve their customers’ performance. With diversification into services (we will use the terms service diversification and service transition as equivalents), industrial firms open up new sources for growth, even in markets that, due to their maturity, do not promise great expansion potential. Beyond its growth potential, service diversification also tends to have a positive performance impact. First of all, service diversification is regarded to have a positive impact on the risk performance of firms. Services, it is argued, are less cyclical than the hardware business and help to smooth revenue and profit fluctuations. Especially in recessive periods, firms tend to cut investments into new equipment and rely on maintenance, replacement and repair services, etc. Consequently, diversification in industrial services reduces the firm-specific risk (Monitor Group, 2004). Beyond risk performance service diversification is also considered to have a positive impact on profits and enables firms to realize superior growth (Skaggs & Droege, 2004). Both resource- and market-based arguments are put forward to substantiate the positive growth and performance impact: (1) The market-based view (‘‘industrial organization’’ theory) argues that especially in the service segments of an industry’s value chain the competitive forces are much weaker due to the specific characteristics of services. Services feature more immaterial elements and components than physical products and are, in most cases, more customer specific and cannot be standardized. This makes it more difficult for customers to compare between the various service offerings of competitors. Information asymmetries create switching costs, customer loyalty and barriers to change the service (and product) provider. Customer loyalty and barriers to change are further reinforced by the direct contact with the service provider due to the need for ‘‘integration of the external factor’’ in most service businesses.
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(2) The resource-based view (RBV) of the firm focuses on the idiosyncratic resources and competences that are required to deliver customer-specific solutions and services (Barney, 2007; Teece 2009). The RBV’s line of argumentation centers primarily on knowledge-intensive business services (KIBS). It is argued that in contrast to the production of physical goods, which is based primarily on standardized and marketable manufacturing resources, such as raw materials, standard processing machinery, or blue collar labor, the production of KIBS relies primarily on idiosyncratic resources and competences (Miles, 2003). KIBS are tailored to the individual customer’s needs. Thus, KIBS production requires the deployment of specialized technological resources (e.g., IT), highly qualified labor and elaborated organizational know-how (e.g., about customer processes). Altogether, such an integrated bundle of specialized resources is difficult to imitate. Furthermore, the repeated deployment of this idiosyncratic bundle of resources to develop customer-specific solutions builds firm-specific competences in developing and delivering customer-specific high-quality services. In the view of the RBV, these competences provide the basis for a sustainable competitive advantage, not only in the service business itself but also in service-related products. According to these arguments, with service diversification firms leave behind the ruinous price competition and develop new growth potentials even in traditional mature industries. Fig. 1 illustrates the different avenues of corporate growth discussed above. If industrial services are indeed such a prospective growth area, then the question arises as to whether this kind of services business is open for all kinds of companies (including pure service providers) or whether it is restricted to firms with a business stake in the underlying hardware. More specifically, in our paper we will address the issue of economies of scope of service diversification, i.e., the types of advantages that industrial firms can realize over pure service providers (or nondiversified industrial firms) when they diversify into (product-related) services. In this context, we first explore the question: to what extent the insights about product diversification strategies from physical goods sectors can be transferred to the service sector. Which peculiarities and idiosyncrasies of services must be considered in the context of service diversification? A critical synopsis of traditional diversification literature and economies of scope arguments leads us to view diversification into product-related services by means of a Schumpeterian diversification process. Using competence-based considerations on
Fig. 1.
Step 2
Market Penetration Step 1
Step n
Step 2
Service Diversification Step 1
Core Business of the Company
Product Diversification Step 1
Step 2
Step n
New Focus of Corporate Growth Strategies in the 2000s
International Expansion Step 1 Step 2
Step n
Focus of Corporate Growth Strategies in the late 80s, 90s & early 2000s
Service Transition as a New Avenue of Growth. Source: Modified from Gerybadze and Beyer (2003).
Step n
Focus of Corporate Growth Strategies in the 60s, 70s & early 80s
28 TIM KESSLER AND MICHAEL STEPHAN
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diversification, we focus on dynamic economies of scope, whose central idea is exploration and development of new resources rather than the static exploitation of existing ones (Bjurklo, Edvardsson, & Gebauer, 2009). Our paper adds to the (small) body of literature on service diversification as it presents new insights into dynamic economies of scope effects with regard to service diversification. Furthermore, we integrate the largely neglected issue of how the phenomenon of service diversification depends on the industry’s life cycle stage: in other words, what role do (related) services play at different stages of an industry’s life cycle? Consequently, our framework combines elements of the competence-based view on dynamic scope effects of diversification with insights from evolutionary economics on industry life cycles concepts. Finally, in a small empirical study of the German mechanical engineering industry we demonstrate that diversification steps into services require a shift in the resource and competence base of firms. Existing resources have to be aligned to changing fields of application. The possibility of transferring answers from existing goods or service sectors to new service business areas advances the company’s flexibility and broadens its service horizon. Companies develop competences to realize economies of scope also in the diversification into unrelated service areas. In this context we also make the case that successful service transition follows a certain trajectory. It can be shown (i.a.) that especially the incremental development, i.e., the use of existing competences from previous diversification steps, creates successful service models and businesses. The article concludes with a critical discussion of the conceptual framework and suggestions for future research.
2. A RESOURCE-BASED VIEW OF SERVICE TRANSITION 2.1. Neoclassical Arguments for Related Product Diversification Why do manufacturing companies diversify into industrial services? What kind of advantage do diversified firms that operate in physical goods production and in the industrial services sector have over firms that are not diversified? The theory on related product diversification represents the starting point for the creation of a conceptual framework for the explanation of diversification into the industrial services business. At the outset of our theoretical reflection stands the notion that the service diversification of physical goods manufacturers constitutes a special form of related product
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diversification. Economic research, especially strategic management research and the theory of the firm, have intensively dealt with product diversification and its determinants. A central impetus for product diversification is the increase of profits. Profitability is reached via horizontal diversification into related business areas and by realizing economies of scope. Following this argument, related horizontal diversification leads to an increase of earnings: first via the profitability of the new business area and second via economies of scope – achieved by the interaction of old and new business areas. Related diversified companies have an advantage compared to other companies because the integrated production of related offerings leads to reduced costs and/or performance improvements as opposed to separate, isolated production (Stephan, 2005b, 2003). In the neoclassical view, economies of scope arise because of the common use of sharable ‘‘inputs’’ in several product lines of the diversified company. In this traditional perspective, economies of scope result from the conjoint use of sharable input factors in related business areas of the firm. According to Panzar and Willig (1981), economies of scope prevail, when it is less expensive to produce two or more product lines in one company instead of producing these product lines separately. Two conditions must be met to realize economies of scope in the neoclassical sense: there must be two or more product lines in which these inputs can be used, and there should be no rivalry in use; in other words, the common use of these input factors in the production of output A should not cause any bottlenecks in the production of output B. Once provided for the production of product A, the inputs are available for the production of product B (and others) without any significant additional costs. Panzar and Willig (1981) distinguish four types of common use: 1. Time-lagged use of production capacities in several product lines sequentially; 2. Simultaneous use of overcapacities in equipment investments, assets, or buildings in the production processes of several product lines; 3. Secondary use of residuals of production factors that are only partly bailed out in the primary production process in the first product line; 4. Use of by-products of the original product line by other product lines. The prerequisite for the shared use of the input factors in the second product line is, of course that the first product line cannot make full use (of the capacity) of the input factors at hand. At this point it is important to distinguish between ‘‘consumption factors’’ such as fossil fuels and ‘‘deployment factors’’ such as machine tools. With ‘‘consumption factors’’
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a surplus emerges if inputs are only partly used for the primary usage and a secondary use is possible. In the examples of Panzar and Willig (1981) the secondary use can refer to by-products or residuals of the primary use. The joint use continues until the physical exhaustion of the input factor. In production theory this phenomenon is called joint production. The case is slightly different with the ‘‘deployment factors.’’ A surplus of deployment factors stems from an unused capacity, i.e., the output of the primary product line cannot be stretched until full use of its capacity is achieved and the deployment factor itself is inseparable or not completely separable. In this case the factor has a fixed capacity that cannot be adjusted to the output quantity, and vice versa. If there is only a single product line, the free capacity is vacant. In case there is a second product line, the surplus capacity can be used without additional cost. Unfortunately, this neoclassical concept of scope economies (which is deeply rooted in the production theory of physical goods) and the corresponding typology of production factors cannot be applied for the explanation of diversification into industrial services. Two considerations block the unmodified transfer of arguments: 1. Due to the constitutive characteristics (Campbell & Verbeke, 1994; Clark, Rajaratnam, & Smith, 1996; Cloninger & Oviatt, 2006) inherent to most services, the explanation of economies of scope by using surplus physical input factors is not applicable – or only partly applicable. Three characteristics must be considered in particular: Intangibility: In contrast to the production of physical goods commonly usable consumption factors (by-products or residuals) play a subordinate role in the production of services. Admittedly, services consist of both physical and immaterial components, but the physical components usually play a subordinate role (Burr & Stephan, 2006). Immaterial inputs that are of critical relevance in services production cannot really be ‘‘used up.’’ Perishability: An isolation of sales and production and therefore inventories to buffer fluctuations in demand are impossible with services. Offers that are produced, but not directly sold are lost (Maleri, 1997). This characteristic particularly limits the possibility of a time-lagged use of production capacities. Unused capacities of deployment factors are lost. Simultaneity and integration of the ‘‘external factor’’: Most service outputs are consumed as they are produced. Simultaneity limits the potentials of economies of scope based on the common use of
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surplus input factors because most services cannot be delivered with a time lag. 2. The neoclassical, production-theoretic view does not provide any valid explanations for sustainable scope advantages and, consequently, competitive advantages from diversification into related products or services. Diversified companies stand out from nondiversified rivals because their activities in the service sector let them realize efficiency and cost advantages. However, the scope economies described above can be easily realized by all competitors in the industry. Thus, due to imitation, the competitive advantage will not be sustainable. In contrast to the static neoclassical view of scope economies, we will take on a dynamic perspective which centers on immaterial factors in order to explain long-term advantages of diversification. For the explanation of service transition, elements of the RBV of the firm are introduced. The RBV considers the firm as an accumulation of a complex combination of specialized productive assets (Amit & Shoemaker, 1993; Barney, 1986; Markides & Williamson, 1994; Penrose, 1959; Rumelt, 1984; Wernerfelt, 1984). The competence-based theory enlarges this perspective and allows for a dynamic view of economies of scope and related diversification advantages (Foss, 1993; Hagstro¨m & Chandler, 1998; Hodgson, 1998; Loasby, 1998; Prahalad, 1993; Sanchez, Heene, & Thomas, 1996). On the grounds of this resource- and competence-based view, the subsequent sections center on the question: which combination of immaterial input factors provides the basis for the realization of sustainable scope advantages and how can these advantages, in turn, lead to a sustainable competitive advantage?
2.2. Resource- and Competence-Based Views in the Analysis of Service Transition The subsequent discussions are grounded in the RBV of the firm and the competence-based view (CBV) of the firm. In contrast to the neoclassical discussion of diversification benefits, the RBV gives up on that input factors are homogeneous and, instead, emphasizes their firm-specific nature. In this view, the notion of resource includes anything tangible or intangible that is useful and available to an organization in pursuing its goals for value creation and distribution. A central concern of our analytical framework deals with the question of what kinds of resources (‘‘sharable inputs’’) enable firms to economize on diversified businesses on a sustainable basis.
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Basically, the resources that an organization can use can be either firm specific or firm addressable. Firm-specific resources are those that are internal to an organization – the employees, its production equipment, its real estate, and its intellectual property. Firm-addressable resources are resources that an organization does not own but that it can access through market transactions or other means when needed. In addition to resources, we differentiate between assets, capabilities, and skills, and competences according to the CBV (Durand, 1998; Markides & Williamson, 1994, 1996). An asset is generally something that contributes in a clearly definable way to a firm’s value-creating activities. Assets can be either tangible or intangible (Barney, 1991). Tangible assets are physical, touchable objects such as real estate, equipment, and of course financial resources. The intangible asset base includes the media firm’s reputation, relationships to customers and suppliers, and ideas and intellectual or technological property rights (e.g., patents and brands). The tangible assets of a firm are usually easy to trade, whereas most intangible assets are characterized as being hard to trade. Of course, a number of intangible assets such as intellectual property rights could also be subject to market transactions. Strategic assets are assets that underpin a firm’s differentiation or cost advantage in a particular market and are imperfectly imitable, imperfectly substitutable, and imperfectly tradable. When referring to our above discussion of scope effects it becomes clear that the neoclassical view of economies of scope primarily focuses on material assets that are easy to trade and, thus, do not provide the basis for a sustainable competitive diversification advantage. In contrast to assets, capabilities and skills are action-based resources. In other words, as knowledge provides the foundation for every action that an organization undertakes, capabilities and skills could also be termed knowledge-based resources. At the most fundamental level, individuals have skills, which represent the actions an individual knows how to perform reliably in carrying out a given task. Capabilities arise in an organization when groups of individuals are able to coordinate their skills in carrying out a process of importance to an organization’s overall value-creating activities. For example, the capabilities of a mechanical engineering firm are displayed when its engineering staff develops and produces customerspecific processing equipment. Capabilities are a mechanical engineering firm’s repeatable patterns of action in the use of assets and skills. Like in any other business organization, capabilities of engineering firms involve managerial, organizational, and technical knowledge related to development, production, and delivery processes. In mechanical engineering, the
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critical skills and capabilities consist of, for the most part, knowledge of technical staff, such as mechanical engineers and product developers. Finally, competences go beyond the notion of capabilities in that they refer to the competitiveness of the organization as a whole. On the one hand, competences relate to the ability of the organization to sustain coordinated deployments of assets and capabilities in ways that help the organization achieve its goals (Sanchez et al., 1996). From this perspective, competence is an organizational characteristic that arises when strategic assets and the capabilities of the various teams and groups of people in the organization can be coordinated to work together in a way that enables the organization to achieve its goals. Prahalad and Hamel (1990) describe this view of competence as a collection of organizational abilities as: the collective learning in the organization, especially how to coordinate diverse production skills and integrate multiple streams of technologies.
In the mechanical engineering firm example, competences are at work when the product developers, together with the production engineers, the marketing people, and the field service manage to develop and produce innovative, high-quality and multi-technology machinery that perfectly fits the customers’ needs. These competences underpin a firm’s cost or differentiation advantage in a particular market. However, Sanchez et al. (1996), Teece, Pisano, and Shuen (1997) and others have made the point that in this view competences are still ‘‘static’’ concepts, which do not allow for a sustainable competitive advantage since they do not enable companies to adapt to changing industry conditions. In contrast, in a more dynamic perception competences, then also referred to as dynamic capabilities, should concern the learning capacity of the organization and denominate the ability to create new assets (or expand the stock of an existing one) and deploy new capabilities (see also Eisenhardt & Martin, 2000; Zollo & Winter, 2002). For example, the competence of the German mechanical engineering firm Voith in successfully developing and producing couplings and gear systems for industrial applications enabled the company to diversify its business into drive train components for wind turbines. The company has learned to use its strong strategic asset base and capabilities in the mechanical engineering field of turbo transmission in order to diversify not only into wind energy creation but also into rail, automotive and marine applications businesses. From this perspective, competences are the pool of experience, knowledge, and assets that exist elsewhere in the same corporation and can be deployed to reduce the cost or time required either
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to create new strategic assets and capabilities or to expand the stock of existing ones. The next section returns to the notion of economies of scope and extends the neoclassical concept to a resource-based framework of the firm. Based on the differentiated view of the company’s resource base, we develop a more precise understanding of economies of scope in the context of service diversification. A twofold view of scope economies is presented: (a) traditional (static) economies of scope that grant the company a shortterm competitive advantage over its competitors when diversifying into services and (b) dynamic scope effects that contribute to a sustainable competitive advantage in the service and product business.
2.3. Service Transition and Dynamic Scope Effects Within the RBV and CBV, corporate assets no longer have the nature of homogeneous input factors as in the neoclassical view; they rather represent company-specific, i.e., idiosyncratic resources. We suggest that the traditional view of economies of scope as a source of competitive advantage suffers from a serious limitation: it does not consider whether the assets (or services of assets) being shared could be obtained at equivalent or even lower costs by nondiversifiers. Relatedness that is based on sharable assets does not necessarily underpin superior performance. Whether it does so depends on whether single-business firms can access the relevant assets in some other way. For example, a non-service-diversified mechanical engineering firm could outsource services production to a specialized service provider and realize similar production costs as the firm that diversified into services. Basically, if a single-business competitor can efficiently buy, imitate, or substitute the benefits a business unit receives from other units within a diversified group, the diversifier has no long-run advantage. Diversification will only enhance performance when it allows a firm to exploit resources that are unavailable to its rivals at a competitive cost (Markides & Williamson, 1994, 1996; Stephan, 2005a). Not every sharable resource in a service-diversified industrial firm is, thus, a potential source of competitive advantage. Diversification will support sustained superior returns if it allows a business to obtain preferential access to resources that cannot be purchased by nondiversifiers in a competitive market or cannot be replaced by some other resources that can be purchased competitively. Such resources, which are characterized by imperfect tradability, imperfect
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substitutability, and imperfect imitability, are either strategic assets or knowledge-based (action-based) resources, such as skills and capabilities (Barney, 1991; Dierickx & Cool, 1989). Consequently, service diversification will be a successful strategy for manufacturing firms, if they can exploit strategic assets or skills and capabilities that are unavailable to other competitors, e.g., to pure service providers. These strategic assets will typically be hardware-bound resources, such as outstanding technological know-how of the engineers and product developers, a good (brand) reputation with innovative and high-quality products, simply a large installed base in the market or a widespread and trained sales force that is familiar with the hardware solutions of the firm and has the specific know-how about customer problems and processes. These strategic assets, skills and capabilities stem from the hardware business and can be used and applied for a variety of product-related services. In fact they are a precondition for rendering these specific services. Such ‘‘product-related services’’ are, e.g., Spare parts services: provision of replacement components for the physical product; Repair services: restoring physical product to sound condition after damage; Performance upgrade: replacement or addition of one or more hardware and/or software components of the physical product, which provide better overall performance; Inspections: periodical examination of physical product for flaws; Maintenance: day-to-day tasks required to keep the physical product in proper condition; Technical support: provision of advice to users of the physical product via hotline, helpdesk, etc. (e.g., the global call center of an automation machine producer); Technical consulting: offering of technical expertise such as engineering skills and IT tools to solve a specific problem related to the physical product; Operation: day-to-day running of physical product/plant including all related services; Customer training: after-sales customer training or activities to familiarize customers with the use of hardware and software; Financing: supplying funds for purchase of the physical product. The notion of ‘‘product-relatedness’’ (‘‘hardware-bound’’) specifies the concept of coupling between the (strategic) assets, skills, and capabilities
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Resource bundle 1
Resource bundle 2
Resource bundle 3
Resource bundle 4
Physical & immaterial resources
Physical & immaterial resources
Physical & immaterial resources
Physical & immaterial resources
Hardware Business HBB
Fig. 2.
Hardware Business HBA
Related Service Business SBA
Scope Economies with Product-Related Services.
that have been accumulated in the hardware business and the resources the firm must command to successfully diversify into the services business. In the short-run and medium-run, a pure service provider without any stakes in hardware cannot imitate or otherwise access these resources that would be necessary to render the product-related service at similar cost, technological sophistication and quality. These hardware-bound resources promise a competitive advantage when entering the market of productrelated services (GraXy, 1993). Fig. 2 illustrates the concept of common use of resource bundles in the context of service diversification. Here resource bundle 3 is principally bound to the hardware product A (HBA), but also serves as basis for the diversification into the product-related service business SBA. The combined offer of hardware and related services will also provide a competitive advantage over non-service-diversified hardware suppliers. Customers might prefer a complete solution package over the isolated offer of hardware only. However, as other hardware providers realize this type of service advantage they will start to imitate the strategic move and also diversify into product-related services. Since these competitors command similar hardware-bound resources they will be able to offer comparable product-related services. Thus, for the medium term the competitive advantage and lead over other hardware competitors will erode, due to imitation and substitution of competitors. In such a dynamic competitive environment, a competitive advantage based on existing resources will not be sustainable. Perceiving economies of scope purely from such a static
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perspective, however, ignores the potential of service diversification for the creation of a long-term competitive advantage. Diversification into product-related services and the continuous service delivery will have a positive impact on the firm’s existing resources, in the medium and long terms. Service delivery presupposes frequent communication and interaction with the customer. In the case of Voith, product-related service delivery (e.g., repair services, on-site maintenance of machinery, or technical consulting) requires frequent customer interaction not only of the sales force but also of technicians, engineers, and product developers. This close integration enables the mechanical engineering firm to become more sensitive to the customer’s problems since it grants deeper insights into the daily operations and processes of the customer, preferably directly at his site. At first, this closer interaction and integration may help to improve the quality of the product-related service itself, but indirectly, it may also help to eliminate bugs and flaws of the existing machinery products and thus improve the quality of the hardware offering. It might also be the case that the intensified customer dialogue helps to bring up new ideas for product innovations; especially with KIBS, customers are the most important and valuable external source of new ideas for new products (Burr & Stephan, 2006). Taken together, the mechanical engineering firm might develop a selfconception as an integrated one-stop solution provider for its customers. In summary, the close customer interaction and integration in the course of the service delivery can help to refine the skills and capabilities of the firm not only for the service delivery itself but also for the traditional hardware production and development business. Fig. 3 visualizes the refinement and enlargement of the traditional hardware-bound resources as a consequence of the diversification into product-related services. The refinement and enlargement of the traditional hardware-bound resources as a consequence of the diversification into product-related services transforms the static scope effect into a dynamic scope advantage. To maintain or expand their initial competitive advantage, in the face of rivals attempting to close this gap by accumulating resources, diversifiers must permanently replenish and increase their resource base that underpins the advantage by creating new strategic assets and by deploying new capabilities and skills. The process of replenishing and increasing the strategic asset and knowledge base of the corporation is subject to various types of frictions. If resource accumulation processes were frictionless and pure service providers or non-service-diversified hardware firms could speed them up at little cost, then it would be difficult for a service-diversified firm that gained an initial advantage with respect to a set of strategic assets, capabilities and skills
Competence-Based Strategies of Service Transition
Fig. 3.
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Dynamic Scope Effects due to Improvement and Refinement of the Serviceand Hardware-Bound Resource Base.
to maintain this lead (Markides & Williamson, 1994, 1996). In practice, there are many impediments that prevent laggards from replicating or surpassing the resource positions of the leaders. Dierickx and Cool (1989) have identified four separate categories of these impediments to resource accumulation: (a) time compression diseconomies, or the extra cost associated with accumulating the required resources under time pressure; (b) mass efficiencies, when adding increments to an existing resource base is facilitated by possessing high levels of that stock (‘‘success breeds success’’); (c) interconnectedness of resources, when adding increments to an existing stock of resources may not just depend on the level of that stock, but also on the level of other, complementary resources; and (d) causal ambiguity, when it is impossible to fully specify which factors play a role in the process of accumulation. These impediments impose higher costs on later entrants to a product-related and hardware-integrated service business, making it more difficult for them to catch up with the first movers and established firms that have had longer time and experience to accumulate these nontradable strategic assets, skills and capabilities deployed in the diversified hardware and services business. What exactly does this mean for service diversification? A servicediversified firm can overcome some of these frictions. A service-diversified
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firm may draw on the experiences and knowledge it has accumulated in establishing and operating its other services businesses to reduce the frictions it would otherwise face in accumulating new resources for the diversification into new services. Such experience and knowledge refers to our notion of ‘‘competences’’ as the learning capacity of the organization. We defined competences as the pool of experience and knowledge that exists elsewhere in the corporation and can be deployed to reduce the cost and time required to create new strategic assets, skills, and capabilities. A competency accumulated in one service business line acts as a catalyst in building new resources for other services. The mechanical engineering firm Voith, for example, with an established product-related service business in hardware repair and maintenance, commands a separate service unit and a specialized sales force, and has sensitized its technicians, engineers and developers for the concerns of services. The knowledge and experience of the staff also became crystallized in professional services-bound organizational structures and processes. Together, the organizational capabilities of the firm and the experience and knowledge of the staff, both in the hardware and services businesses, accumulate the competences that enable Voith to diversify into new product-related services. Starting with (simple) repair and maintenance services for its hardware products, Voith managed to quickly diversify into more sophisticated technological support and consulting services. The company now even offers customer training and delivers operation services for its customers, i.e., day-to-day running of the (Voith) machinery at customer’s site. The observation that service-diversified manufacturing firms are able to overcome the illustrated barriers easier than competitors that are not diversified into the service business is the second source of dynamic scope effects associated with (service) diversification. Fig. 4 illustrates the use of dynamic economies of scope for the accumulation of new resources for new services businesses. The competences acquired in the traditional hardware business HBA and in the well-established product-related service businesses SBA1&2 are used for the diversification into the new product-related service business SBA3.
2.4. From Related to Unrelated Diversification: The Transformation of Manufacturing Firms into Service Companies In the RBV and CBV perspectives, traditional manufacturing firms can realize three different types of scope effects from diversification into
Competence-Based Strategies of Service Transition
Fig. 4.
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Dynamic Scope Effects due to Reduced Barriers and Frictions in the Accumulation of New Resources for New Services Businesses.
product-related services. From a static view they rely on a resource exploitation strategy, i.e., economizing on existing (strategic) resource bundles (assets, skills and capabilities) of the traditional hardware businesses for the diversification into related services (Chatterjee & Wernerfelt, 1991; Stephan, 2003; Very, 1993). The two basic requirements for this type of diversification are – first, that there is excess capacity and second, that the resources of the hardware business are related to the corresponding service business, i.e., the resources must be applicable without any greater adjustments or refinements for the new service business (Sanchez & Heene, 2004). In a dynamic perspective, the second and third sources for scope effects describe the basis for a sustainable competitive advantage. We argued that diversification into product-related services also improves and refines the quality of the existing hardware (and service) businesses. Services improve the skills and increase the capabilities of the firm. Furthermore, the diversification process itself also creates a competence platform for accumulating new resources and exploring new and perhaps more sophisticated product-related services. The latter dynamic scope effect does not center on resource exploitation but rather on resource exploration.
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Resource exploration denominates the process of firms tapping into new terrains and accumulating new and increasingly unrelated resources. In the line of argumentation above, the service horizon of diversification was bound to the hardware business of the firm. However, companies can also realize economies of scope by diversification into new and hardwareunrelated service areas. When a firm diversifies into new but still hardwarebound services it must adapt its existing resources and accumulate new ones. This adaptation and accumulation becomes manifest in learning processes within individuals and on a collective, organizational level. These competences in adapting and accumulating new resources will enable the firm over time to dissociate the services from the traditional hardware business. In the case of our mechanical engineering firm, Voith over time managed to diversify into more sophisticated service areas such as technical consulting. As a first step, the firm decoupled the service from the fixation to its own ‘‘Voith’’ machinery. As a technical consultant, the firm (‘‘Voith Consulting’’) also started to offer services for customers who do not possess and operate Voith machinery, but machines of its competitors. Voith Consulting has applied the technical skills and capabilities that it originally developed for Voith hardware also to problem solutions targeted to the hardware of competitors. The transfer of problem solutions, experience, and know-how out of its own hardware domain into the general domain of mechanical engineering increased the firm’s flexibility and broadened its service horizon. The new service area of Voith became increasingly dissociated from hardware. Today, Voith Consulting offers technology consulting and support services independent of its hardware machinery business. The consulting unit has evolved to an autonomous service unit that offers consulting services for both external and internal customers. The example of the mechanical engineering firm Voith illustrates the transition from resource exploitation to resource exploration. With the consulting business, the firm has, step by step, entered the non-hardwarebound consulting business. The step from a technical consulting service provider to a pure management consulting firm with a special focus on the mechanical engineering industry might be only a minor one. A generic observation not only in mechanical engineering but also in other types of industrial KIBS is that hardware firms start with more or less simple hardware supportive services, such as maintenance and repair. They then back the service bundle with more sophisticated support services that take on a more holistic approach to the customers’ problems, such as technical
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consulting and training. The focus on customer-specific problems marks an important step away from mass production of standardized hardware toward services that are not targeted on the customer’s hardware products but on his value-added processes. Process supporting services comprise preventive maintenance, operation services, remote (control) services and process consulting. Customer support services are in large parts dissociated from any kind of hardware and are exclusively focused on the business of the customer. Engineering and consulting services, financing services, requirements and market analyses, or general operator models and turnkey solutions are illustrative examples for steps into the non-hardwarebound service business that is focused on the problems and value added processes of the customer. Taken together, the service diversification sequence can be interpreted as a trajectory that starts with the exploitation of existing resources for hardwarebound services and then, as the service horizon broadens, traverses to resource exploration for non-hardware-bound services. With the diversification into non-hardware-bound services, firms explore and accumulate new and unrelated types of assets, skills and capabilities (for similar arguments beyond the service domain see Foss, 1993; Hagstro¨m & Chandler, 1998; Loasby, 1998; Nelson, 1991; Teece, Rumelt, Dosi, & Winter, 1994; Teece, Pisano, & Shuen, 1997). The sequence of diversification into non-hardwarebound services is a good illustration of what is meant with dynamic capabilities and competences; especially in dynamic environments, firms must be able to constantly renew and replenish their resource base. For example, in the long run Voith may divest its hardware business and evolve into a pure service provider. Service diversification broadens the horizon of the firm in the search for prospective growth avenues and therefore provides the basis for a sustainable competitive advantage (Sanchez et al., 1996). Finally, it must be noted that diversification into services, and especially into non-hardware-bound services, must not necessarily result in the abandonment and divestment of the hardware business itself. The skills and capabilities that permanently arise out of the hardware business, especially from product innovations, mark an important ingredient for the successful development and rendering of industrial services. According to Cohen and Zysman (1987) , the retreat from the hardware business will eventually lead to a competence loss for the industrial services business of firms: Over time [y] firms will not be able to control what they cannot produce.
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3. THE ROLE OF SERVICES IN THE INDUSTRY LIFE CYCLE In the first section, we have detailed out that the industrial services business is a prospective growth area, especially for firms in mature industries. In the second section, we have analyzed in great detail how industrial firms may benefit from the diversification into hardware-bound and non-hardwarebound services. In the current section, we will take a closer look at the industrial setting that surrounds diversification into product-related services. What kind of industry context makes service diversification a fruitful strategy? The importance of product-related services may vary over the industry life cycle: is service diversification only advantageous in the mature phase or are there also windows of opportunity in earlier life cycle stages? In general, the industry life cycle model is an attempt to characterize an ideal evolution of an industry over time. The structural parameters of an industry, such as size, competition dynamics, number of competitors, complexity of the products, the role of innovation, the extent of the division of labor between firms, etc. vary over time (Dosi, Malerba, Marsili, & Orsenigo, 1997; Klepper, 1997; Malerba & Orsenigo, 1996). Another structural parameter of an industry, which is indeed closely linked to the division of labor between the firms, is the type and importance of product-related services. Unfortunately, the role of (product-related) services has received only little attention, both in management science and in industrial and evolutionary economics. The introduction stage of an industry’s life cycle is characterized by low market volume and a high level of uncertainty, both for firms and (potential) customers. So far, no dominant design has emerged in the industry. In the initial phase there are quite a number of competing product and process design concepts. Little is known about the new product and about what is desired by the customers. A major challenge in this early phase is therefore to understand the market demand and to break customer resistance (Hoeck, 2005). Since the competitive strategy and especially the innovation efforts are primarily product oriented, there is still a tight link between the primary product and its surrounding services. From this perspective, especially secondary services, such as information services, marketing and sales promotion, play an important role in this early life cycle stage (GraXy, 1993). Product-related services can help to reduce customer uncertainty as they arouse interest for the industry and create market transparency. For the firm, product-related services also help to identify the customers’ true problems and needs and thus devise decisive information for
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product development. In order to make the products fit the new market, the offer of consulting and training services seems rewarding (Sanche, 2002). However, due to the tight link between the primary product and the related services, services are understood as integral part of the final product as it is sold to the customer. Customers will not consider the services as an additional offer. Therefore the service offerings can only be partly charged, if they are brought to account at all. The companies’ add-on or give-away strategy acts as a selling instrument and therefore does not represent an additional source of income (Sanche, 2002). The emergence of a dominant design marks the beginning of the growth stage of the industry and provides the major prerequisite for the ‘‘takeoff ’’ of the market (Christensen, Sua´rez, & Utterback, 1998). In the course of the growth stage, product differentiation plays an important role, which at first is achieved by product innovation. However, as the rate of product innovation decreases because production processes become more refined and specialized machinery is used, the critical differentiation and success factors shift over time toward process innovation and product quality (Utterback & Abernathy, 1975). Following this line of reasoning, the company has to provide offers that secure and improve product quality. Since customers usually still do not differentiate between the product and the service provided, a lack in services will have a negative impact on the whole product offer. It thus seems meaningful to predominantly use the product-related services to improve the customer– supplier relationship. So-called ‘‘distinguishing’’ services, e.g., production optimization, test production, service hotlines, and customer care, prove to be suitable (Speth, 2001). In the growth stage, the offer of related services promises primarily a differentiation potential. The product is still in the foreground and services are primarily used to support the market penetration of the primary product range. Product-related services act as differentiation premium. Similar to the initial stage of the industry’s life cycle, services act as a differentiation and selling argument that can only be charged partly, if at all. However, the integrated offer of product and customer-tailored services may justify a price premium over competitors. In the mature stage, the market and output growth slows down as the limit of technical opportunities for product and process innovations is reached (Klepper, 1997). Due to declining technological differentiation possibilities, industrial services fundamentally gain in importance compared to the previous stages (Speth, 2001). Also with regard to the increase in competition, customer commitment becomes even more relevant. In this
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mature stage, no sustainable competitive advantage can be achieved with the isolated offer of the primary product (Sanche, 2002). While services were closely bound to the product, both in the initial and in the growth stage, they now become more independent and decoupled from the primary offer. Therefore, the potential to market and offer the services independently from the product increases. In consequence, it is no longer sufficient to provide standard services such as maintenance, consulting or requirement analyses. The way toward a future-oriented and autonomous service offer has to be paved. In this context, remote services, the buildoperate-transfer (BOT) model, personnel services, and also financial services have to be considered. Services of this kind offer ‘‘real’’ differentiation potential and long-term advantages in the mature industry setting. Admittedly, to build up such services requires commitment and great expenses (Speth, 2001). However, with regard to the quality of the resource base of incumbent manufacturing firms, diversification efforts into more sophisticated and/or less hardware-bound services should fall on a fertile ground; in the mature stage firms usually command all the strategic assets, skills and capabilities that have been discussed in the preceding sections and which provide the basis to successfully diversify into services – the longstanding core business know-how can be extended to the service sector (Zook, 2007). Toward the end of the life cycle – in the decline stage – the aggregate sales volume drops, the industry’s relevant market is shrinking. As the rivalry between competitors heats up, the entry rate becomes negative and the number of competitors decreases. Now, the establishment of services becomes a strategic imperative for the incumbents (Zook, 2007). In this stage, the external pressure to diversify from hardware-bound into autonomous services areas increases (To¨pfer, 1996). Product-related services such as constant maintenance, comprehensive training, modernization and upgrading prolong the life cycle of the primary product. Beyond the prolongation of the life cycle of the primary product, product-unrelated services immunize the company against the structural decline in the core business. To sum up, management in the declining stage becomes increasingly service focused. This shift in focus is triggered by the fact that the service business is more profitable than the original core business in the declining stage (Gottfredson, Schaubert, & Saenz, 2008; Gadiesh & Gilbert, 1998). Appropriate cost accounting and result accounting structure should be established in order to be able to make precise statements about profitability. Fig. 5 summarizes our proposed service transition model over the industry life cycle.
47
Competence-Based Strategies of Service Transition
information and sales promotion
differentiation
profit, differentiation and development of new business areas
diversification, establishment of (new) service business areas and markets
product related and hardwarebound secondary services
distinguishing services (production optimization, service hotlines, test production, etc.)
increasingly independent and unrelated services (remote services, BOT model, fin. services, etc.)
non-hardwarebound and unrelated services
t Introduction
Growth
Maturity
Decline
Fig. 5. The Role and Kind of Services in Different Stages of the Industry Life Cycle.
4. SERVICE TRANSITION IN THE GERMAN MECHANICAL ENGINEERING INDUSTRY The German mechanical engineering association (VDMA) recently announced that the orders received in the German mechanical engineering industry increased by 10 percent compared to the last year (Wiechers, 2008). Due to lively demand, the German mechanical engineering industry reached revenues of about h 190 billion in 2007 (VDMA, 2008). With its 6,000, mainly small- and medium-sized firms and about 914,000 employees, the mechanical engineering industry is one of Germany’s most important industrial goods sector, right after the automotive and electrical engineering sectors. According to official statements, the service proportion has been rising constantly in the industry. However, there are no concrete figures that precisely quantify the service intensity in terms of revenues or employees. The reasons for this vague picture must be located on two different levels. First, the collection of statistical data concerning the exact service proportion of the revenues of diversified industrial firms entails many methodological and conceptual problems. These problems negatively distort the picture of the micro- and macroeconomic relevance of services, both within macroeconomic and sector-specific national and supra-national statistics. Second, firms are not obliged to publish financial data about their service activities in the financial reports. Even public stock corporations are
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not obliged to do so. Sometimes they report on their service activities on a voluntary basis, usually in the segment reporting of their annual reports. However, the data at hand lacks in accuracy and is inconsistent over time (Kessler & Stephan, 2008; Mo¨dinger & Redling, 2004; Opfermann, 2004; Pilat & Wo¨lfl, 2005). In the subsequent empirical study of the German mechanical engineering industry, we take a snapshot of the current status and service relevance in twelve firms. The data and information are based on semi-structured depth interviews with company executives and insights from the analysis of the annual reports of the respective companies. The sample firms are operating in different subsectors of the mechanical engineering industry, namely in food processing and packaging machinery, in propulsion technology, robotics, and printing and paper technology. As all of the sample firms have their traditional roots in hardware manufacturing, we will analyze the sequence of diversification steps into services in more detail. Will the empirical study confirm our theoretical reflections and proposition about the sequence from hardware-bound steps into non-hardware-bound unrelated services? To what extent have the diversification steps into services required a shift in the underlying resource base of the firms? Does hardware-bound service diversification go along with resource exploitation? And does the diversification into non-hardware-bound services really require the exploration of new resources and competences? A recent survey conducted by the VDMA gives an initial overview of the importance of different types of service in the industry. As can be seen in Fig. 6, traditional hardware-bound services, namely spare parts, installation and maintenance still account for the largest percentage of the service revenues. Three of our sample firms are operating in the food processing and packing machinery sector. With a production volume of h 10.6 billion, 650 enterprises and about 60,000 employees the food processing and packing machinery industry is one of the largest subsectors of the German mechanical engineering industry (VDMA, 2008). Krones AG is the world market leader in beverage and packing technology. Revenues accounted for h 2,156 million in 2007. Due to the increasing relevance of (related) services, the company enlarged its service offer in the after-sales business, which is already more profitable than the traditional core business. Krones provides a product life cycle-oriented fullservice offer which is organized in an own business division called Life Cycle Services (LCS). With 1,100 of its total 9,500 employees being employed in the services business, the company commands a considerable amount of servicespecific resources and plans to further develop its service competences.
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Competence-Based Strategies of Service Transition
Others Leasing, Financing
0.3%
Disposal
0.3%
Consulting Training Second Hand Machines BOT Model Remote Service Maintenance Contracts Maintenance Installation Spare Parts
Fig. 6.
3.2%
1.4% 2.0% 1.3% 0.4% 1.2% 5.9% 15.9% 17.3% 50.1%
Percentage of Sales by Type of Service in Mechanical Engineering. Source: VDMA (2002).
The service spectrum offered by the company is quite diverse and includes productivity optimization, maintenance, training, remote services, packaging design studies, spare parts, retrofitting (upgrading), and reselling. Krones does not publish any financial information on its service operations. In contrast to Krones, Koch Abfu¨ll- und Verpackungstechnik is a niche player in the industry. The company supplies the food and dairy industry with packaging machines. According to the company, customers in the food processing industry do not buy machines but rather their use, i.e., the services of the machines. Consequently, hardware-related services are of strategic relevance of the company. Services are offered along the whole product life cycle and include engineering and development, maintenance and repair, reconstruction and modernization, production optimization and analysis, spare parts, and maintenance contracts. The company provides its service range since its early beginnings and since then has developed a great competence base. Because customer demand has changed over the life cycle, the company has put an even greater focus on services. At Koch, the service business is organized in an own service segment, which accounts for 40 percent of the total revenues. Tetra Pak Processing GmbH is a German subsidiary of Tetra Pak. With 20,250 employees and revenues of h 8,533 million in 2007, Tetra Pak is the only provider of integrated foods processing, packaging and distribution systems. According to Tetra Pak, besides innovative technology the major success factors in the business are plant availability, longevity, and
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customer-optimized production. In order to meet these criteria, the company has centered management attention on services. However, in contrast to the management statements, the service offer of Tetra Pak entails only the average spectrum of hardware-bound services. The services provided by Tetra Pak include concept development and system design, installation, training, spare parts, maintenance, upgrading and production optimization. Like Krones, Tetra Pak does not report any financial information about its services operations. Three other companies of our sample – A. Friedrich Flender AG, SEW-EURODRIVE and Baumu¨ller Nu¨rnberg GmbH – are major competitors in the propulsion technology industry. Propulsion technology manufacturers usually act as suppliers for other engineering industries. Propulsion technology products range from simple elements over components and modular subsystems to complete aggregates and systems that are in the machines of many other industries. In 2006, the German propulsion technology sector had a sales volume of h 13.3 billion and 76,600 employees. A. Friedrich Flender AG (Flender) is one of the leading producers of components for the mechanical and electrical propulsion technology. The product range contains single components as well as complete propulsion systems. In 2005 the company had 6,700 employees and generated revenues of h 1,226 million. In its business, Flender has made the experience that maintenance contracts and rapidly available spare parts will significantly increase systems reliability. In order to fulfill customer requests, the company bundled its service competences in an own service division. Founded in 1990, FLENDER Service GmbH has access to the groups’ know-how and resources and has developed its own engineering and processing competences. Besides technical services, FLENDER Service GmbH offers a rather standard service package including maintenance, monitoring, hotline, spare parts and project management and planning. Working in a mature market, Flender does not market the services together with the product. However, customers are not always willing to pay for additional services, so (related) services do eventually lead to additional profits. The company does not disclose its service revenues. Established in 1931, SEW-EURODRIVE today has 12,000 employees and revenues of about h 1.8 billion. The company is one of the market leaders in propulsion automation products. According to SEW-EURODRIVE, products in the market have become increasingly standardized, so services are the major differentiating factor in competition. Organized in a separate business unit, the company has so-called service competence centers that provide a quite comprehensive service range. Besides spare parts, a service
Competence-Based Strategies of Service Transition
51
hotline, and maintenance, these service competence centers offer training, condition monitoring, consulting, modernization, maintenance management, and application programming. Especially with the software related application programming, it becomes obvious that the company developed skills and capabilities that go beyond the traditional hardware-bound service business. The company does not disclose any financial details about its service operations. With its 1,900 employees, Baumu¨ller Nu¨rnberg GmbH produces electrical propulsion systems and generates a sales volume of about h 200 million. The service business is managed independently by the subsidiary Baumu¨ller Reparaturwerk GmbH & Co. KG. The company considers this separated organizational solution as important, since services are a major growth area which should be operated as individual profit centers. The services offered by Baumu¨ller comprise engineering, assembly and installation, maintenance, retrofitting, spare parts, disposal, training and remote monitoring. The company also provides most of its services for the machines of other competitors, which clearly demonstrates that Baumu¨ller has developed the competence to apply its service skills and knowledge also beyond its own product range. This marks a first step in becoming a pure service provider. However, the company does not disclose its service revenues. The printing and paper technology sector includes machines for the paper production and processing and printing machinery of all kind. Again, three firms of our sample – WinklerþDu¨nnebier AG, Ko¨nig & Bauer Group and MAN Roland Druckmaschinen AG – are operating in this segment. The sales volume of the sector reached h 8.8 billion in 2007 which accounts for 20 percent of the world market. The sector is dominated by the companies Heidelberger Druckmaschinen, MAN Roland, and Koenig & Bauer which together have a market share of about 70 percent. WinklerþDu¨nnebier AG (WþD) manufactures specialized machinery for the production of envelopes and tissues and holds about two thirds of the world market in this niche. WþD employs 765 people and had revenues of h 90.6 million in 2007. The company divides its services into four groups: technical service, business service, technical improvement program and spare parts. These four groups include maintenance, remote diagnosis and control, a telephone hotline, maintenance, online spare parts ordering, financial services (external, in cooperation with banks), engineering, retrofitting and upgrading, testing, and training. In 2007, the company generated between 36 and 40 percent of its total revenues with services, of which 90 percent have been billed separately. Their service-to-totaloperations ratio (STO ratio) has been increasing steadily over the past
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years. However, the majority of the service revenues still accrue in traditional hardware-bound segments; the spare parts business alone stands for more than 50 percent of the revenues. The Ko¨nig & Bauer Group (KBA) is one of the largest press manufacturers and has the broadest press range in the industry. The company’s product range includes machines for newspaper printing, offset printing, and digital offset. By the end of 2007, the company had 8,250 employees and revenues of h 1,703 million. The broad product range indicates KBA’s competences in fulfilling individual customer needs and its unique know-how in various areas of printing technology that can be transferred to other application areas. The KBA service offer is manifold: the firm provides a 24/7 hotline service, spare parts (also online), maintenance, retrofitting and upgrading, machine removal, individual maintenance and full-service contracts, consulting and general technical support, remote diagnosis, and training. The service activities are growing rapidly. Within the past eight years KBA doubled its service offers and revenues. In 2007 services accounted for about 20 to 25 percent of the firm’s total revenues. More than half of these revenues were billed separately. However, also with KBA the spare parts business stands for more than 50 percent of the service revenues. MAN Roland Druckmaschinen AG employs 8,726 people and had revenues of h 1,936 million in 2007. The company’s major competence is the design and production of printing systems for publishing and printing firms. MAN Roland supports its customers with integrated services along the whole machinery life cycle. The firm offers process analysis and optimization services, consulting, investment planning, engineering and design of production systems, layout planning, financial services and insurances, full-service contracts, maintenance, project management, the BOT model, machine removals, training, remote services, and upgrading. Out of its total sales, MAN Roland generates about 15 percent with services. It is estimated that from the total services sales about 60 percent are strictly hardwarebound, whereas 40 percent mark autonomous service offers, either for competitor’s hardware products or for other engineering-related applications beyond the printing machinery business. Finally, the robotics sector is the fourth and last segment of our empirical study of the mechanical engineering industry. The sample firms KUKA Roboter GmbH, AseaBrownBoveri (ABB) Ltd and FANUC Robotics Deutschland GmbH are major competitors in this field. The robotics sector is a rather new segment in the mechanical engineering industry that deals with the controlling and development of production robots. The major customer of the German robotics sector has traditionally been the
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53
automotive industry which accounts for about 54 percent of total industry sales. Due to this mono-customer structure, robotic firms now try to enlarge their customer spectrum and diversify into other manufacturing industries. In total, the German robotics sector generated sales of h 2.1 billion in the fiscal year 2007. With revenues of h 413 million and 2,023 people employed, KUKA Roboter GmbH is one of the leading manufacturers of industrial robots. The products are used for material processing, loading and packing, palletizing, and spot-welding. KUKA’s service offers include hardwarebound and non-hardware-bound services. The firm offers a broad services spectrum including engineering and consulting services, offline simulation, project management, software applications, robot programming, production optimization, training, technical support (24/7 hotline), maintenance, remote diagnosis, spare parts, upgrading, and retrofitting. Since 2001, the services are managed in a separate service department. KUKA generates between 20 and 25 percent of its total revenues with services, though, most of it with spare parts. A remarkable percentage of 90 is billed separately. Headquartered in Zurich/Switzerland, ABB Ltd is a diversified energy and automation technology group with total revenues of h 19.8 billion in 2007. Approximately, the robotics division accounted for four percent of the total revenues, which totals to h 952 million. The robotics division employs about 4,900 people in about 100 countries. ABB is one of the leading providers of industrial robots; robotic software are modular production cells. ABB’s service and support area is divided into process and application consulting, training, and maintenance. In detail these subareas include planning and consulting, productivity analysis, project management, retrofitting and modernization, real-time data collection and analysis, production optimization, full-service contracts, second-hand robots, training, documentation, maintenance and technical support, spare parts (also online), and remote services. According to company information, ABB will further develop its service competences and shift toward more active and new services. Services account for 20% of the total revenues. Most of the services are charged separately. FANUC Robotics Deutschland GmbH is a subsidiary of the Japanese FANUC Ltd. In 2007 the company had revenues of h 2.2 billion, but in Germany it is a mere sales and service company. The products are manufactured in Japan and the United States. The company provides industrial robots, single components, and integrated process solutions. The robots can be used for all kinds of applications, from assembly to welding. FANUC Robotics provides primarily hardware-bound services such as a
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24/7 hotline, remote diagnosis, individual maintenance contracts, repair, robot programming, retrofitting, production optimization, spare parts, and training. In 2007, the service proportion was 18 percent of total revenues. FANUC Robotics Deutschland plans to increase this proportion to 25 percent over the next years. Table 1 provides an overview of the 12 engineering companies in the four different sectors of the German mechanical engineering industry. The empirical study clearly exemplifies that all 12 sample firms, which operate in different sectors of the engineering industry, apply their existing skills and knowledge base from traditional hardware manufacturing for the service transition. In every single case, the sample firms have increased their services efforts over the last decade. With regard to the types of services offered, the variety is rather limited. Although the examined industry Survey of the Presented Companies.
Table 1. Subsector
Food processing and packing machinery
Propulsion technology
Printing and paper technology
Robotics
Company
Revenues (in million euros)
Service Ratio %
Service Organization
2,156
n.a.
n.a.
40
Independent business division Own service segment
8,533
n.a.
No independent business division
Flender AG SEW-EURODRIVE
1,226 1,800
n.a. n.a.
Baumu¨ller Nu¨rnberg GmbH
200
n.a.
Own subsidiary Independent business division Own subsidiary
Ko¨nig & Bauer AG
1,703
20–25
MAN Roland
1,936
15
WinklerþDu¨nnebier AG
90.6
36–40
Kuka Roboter GmbH
413
20–25
19,800
20
n.a.
18
Krones AG Koch Abfu¨ll- und Verpackungstechnik Tetra Pak Processing GmbH
ABB Ltd FANUC Robotics Deutschland GmbH
Independent business division Independent business division No independent business division Independent business division Independent business division Independent business division
Competence-Based Strategies of Service Transition
55
segments within mechanical engineering are very heterogeneous, the service spectrum of the companies is quite homogeneous. Basically all companies offer 24/7 hotline services, consulting, maintenance, spare parts, training, etc. Yet, it can also be observed that each company offers one or two services (in a way) that provide the basis for differentiation. Obviously the firms have realized that the service offer helps them to stand out in competition, as products become standardized. The services that serve as the basis for differentiation of the product offer are largely hardware bound. With regard to the organizational implementation of the service business and the establishment of organizational competences it is quite obvious that the majority of the sample firms, including the smaller ones, made considerable efforts. Most of the firms established separate organizational units for rendering the service. With regard to the service accounting, most of the sample firms have switched over to charge the provided services separately in order to be able to make additional profits. Together, this illustrates that the companies began to understand that the exploration of organizational and technical competences and skills is essential for a successful service transition (Bjurklo et al., 2009; Young, 2008). To sum it up, we can conclude that (related) services play an increasingly important role within the (German) mechanical engineering industry. Companies have started with traditional hardware-bound services and later on use additional more sophisticated services as a means for differentiation in competition. In a few cases, the firms already stepped into non-hardwarebound business. What remains unclear and irritating is the fact that only 7 out of the 12 sample companies report about the financial relevance of their service business. On the one hand, this can be explained with segmentspecific factors such as oligopolistic reaction and nondisclosure (e.g., in the food processing and packaging machinery sector and in propulsion technology). On the other hand, this may also indicate that the companies not yet have implemented a fully functioning internal service-oriented reporting system, which not only serves as a prerequisite for external reporting but also for the fortification of the service business.
5. CONCLUSION: TRANSFORMATION TRAJECTORY FROM HARDWARE MANUFACTURERS TO SERVICE PROVIDERS In our contribution titled ‘‘Competence-based strategies of service transition’’ we have constructed a conceptual framework for analyzing and
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explaining the advantages of the diversification strategy into services. In the beginning we have identified the service business as a major avenue of growth for manufacturing firms. With diversification into services, industrial firms explore new sources for growth, even in markets that, due to their maturity, do not pledge great expansion potential. Beyond the growth potential, service diversification also tends to have a positive performance impact. We applied market- and resource-based arguments to substantiate the positive growth and performance effect of services. In the main part of the paper we have dealt with the issue of economies of scope of service diversification, i.e., the types of advantages that industrial firms can realize over pure service providers (or nondiversified industrial firms) when they diversify into (product-related) services. In this context, we have explored the question as to what extent the theoretical insights about product diversification strategies from the physical goods sector can be transferred to the service sector. We came to the conclusion that only some of the arguments are transferable. Due to the constitutive characteristics and idiosyncrasies of services, namely intangibility, perishability and the integration of the external factor (simultaneity), traditional neoclassical arguments for related diversification cannot be transferred to service diversification. Furthermore, the inherent static nature of the neoclassical argumentation on scope economies prevents the explanation of a sustainable competitive advantage. In contrast to the neoclassical view of scope economies, we have adopted a dynamic perspective that rather focuses on immaterial factors in order to explain long-term advantages of diversification. For the explanation of service diversification, elements of the resource-based and competencebased views were introduced. In the RBV and CBV perspectives, traditional manufacturing firms can realize three different types of scope effects from diversification into product-related services. From a static view they rely on a resource exploitation strategy, i.e., economizing on existing (strategic) resource bundles (assets, skills and capabilities) of the traditional hardware businesses for the diversification into related services. The two basic requirements for this type of diversification are – first, that there is excess capacity and second, that the resources of the hardware business are related to the corresponding service business, i.e., the resources must be applicable without any greater adjustment or refinements for the new service business. In a dynamic perspective, the second source and third source of scope effects mark the basis for a sustainable competitive advantage. We have detailed out that diversification into product-related services also improves and refines the quality and innovativeness of the existing hardware (and service)
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business. Services enlarge the skills and capabilities of the firm. Beyond this issue, the process of diversification also creates a competence platform for accumulating new resources and exploring new and more sophisticated product-related services. Especially the latter dynamic scope effect does not center on resource exploitation but rather on resource exploration. Resource exploration denominates the process of firms tapping into new terrains and accumulating new and increasingly unrelated resources. All in all, our model of diversification into (related) services describes a service diversification trajectory. Diversification steps of manufacturing firms into services can be interpreted as a sequence that starts with the exploitation of existing resources for hardware-bound services. The firm starts with traditional services which are closely linked to the hardware, such as repair, spare parts or maintenance. As their service horizon broadens, firms start to offer more sophisticated but still hardware-bound services: services bound to their own hardware but also to the products of competitors. In the long run, this diversification turns from being pure resource exploitation into resource exploration for non-hardware-bound services. With the diversification into non-hardware-bound services, firms explore and accumulate new and unrelated types of assets, skills and capabilities. However, we clearly pointed out that the transformation into a pure service provider should not eventually lead to the complete divestment of the hardware business. Complementing the RBV and CBV analyses of diversification, we took a closer look at the industrial setting which surrounds the diversification steps into product-related services. To find answers for the question when service diversification is fruitful, we have applied the industry life cycle concept. The findings suggest that the diversification trajectory stemming from our RBV-based diversification considerations neatly coincides with the ideal evolution of an industry along its entire life cycle. In the initial stage of the life cycle firms start with the offer of secondary hardware-bound services. As the industry grows, hardware-bound services become important to differentiate the product offers from competitors. Over time these hardwarebound services become more sophisticated and as the industry’s hardware business matures the service offers turn from hardware-bound into nonhardware-bound services. In summary, both theoretical conceptions – the RBV and the industry life cycle view complement each other and lead to the proposition of the described service diversification trajectory. Finally, in our explorative empirical study we have analyzed the service offers and strategies of 12 German firms from four subsectors of the mechanical engineering industry. Basically, the findings support our
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theoretical considerations. However, it became clear that only a few companies really have managed to diversify into more sophisticated hardware-bound and or even non-hardware-bound services. The empirical study has also revealed some shortcomings of our conceptual framework. The empirical findings clearly indicate that the diversification into services and the establishment of a profitable service business also requires adequate organizational structures. To simply add the services business to the existing organization like an appendix will not be enough, especially as the service business gains in relevance. An appropriate organizational setting also requires adequate internal accounting and reporting systems. Without internal financial transparency, the service business will not gain enough recognition and top management support. Future research on service diversification should therefore also address the issue of organizational capabilities that manufacturing firms must develop to provide a fertile ground for the service business.
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ENHANCING THE INFLOW OF KNOWLEDGE: ELABORATING THE ABSORPTIVE CAPACITY CYCLE IN SMES Roberto Filippini, Wolfgang H. Gu¨ttel and Anna Nosella ABSTRACT Small- and medium-sized enterprises (SMEs) often do not have slack resources with which to develop internally a broad spectrum of capabilities and to observe in depth the firm’s environment. Therefore, they need to carefully develop abilities to absorb knowledge from outside the firm’s boundaries so as to have access to cutting-edge knowledge in spite of limited resources. One strategy is to establish knowledge management (KM) projects for this purpose. In this paper, we describe how KM projects and subsequently emerging KM routines in SMEs facilitate the enhancement of the firm’s absorptive capacity (AC; i.e., the ability to recognize, capture, and assimilate external knowledge). Our results indicate the importance of recognizing potential knowledge providers prior to any absorption of knowledge from external sources. Furthermore, we emphasize the relevance of routines for absorbing knowledge and we distinguish between KM routines that are deliberately developed for Enhancing Competences for Competitive Advantage Advances in Applied Business Strategy, Volume 12, 63–86 Copyright r 2010 by Emerald Group Publishing Limited All rights of reproduction in any form reserved ISSN: 0749-6826/doi:10.1108/S0749-6826(2010)0000012006
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absorbing knowledge and KM projects where knowledge absorption happens unconsciously. Finally, we point out that different stages of an AC process follow different logics (exploration vs. exploitation) and, thus, a skilful management of the AC cycle is necessary to leverage externally absorbed knowledge.
1. INTRODUCTION In any organization, increasing market globalization, competitive pressure, and the reduced amount of time for product development make it more and more important to improve and innovate continuously in order to gain and sustain competitive advantage. This need is particularly acute in small- and medium-sized enterprises (SMEs) where the lack of resources – human, financial, time, etc. – and capabilities make leverage of external partners key in order to gain access to cutting-edge knowledge. Competitive pressure on SMEs is often similar to pressure experienced by bigger companies, but in SMEs, resources, capabilities, and related options to gain new information and knowledge from outside are scarce. One difficult task faced by SMEs is to establish networks to potential knowledge providers and to absorb knowledge from external sources and thus keep pace with environmental dynamics (Muscio, 2007; Liao, Welsch, & Stoica, 2003; Valkokari & Helander, 2007). The concept of absorptive capacity (AC) was initially developed by Cohen and Levinthal (1990) and recently discussed and adjusted by Zahra and George (2002), Lane, Koka, and Pathak (2006), and Todorova and Durisin (2007). The main idea is that organizations need to develop an AC to identify external knowledge, to capture it, and to use it for internal purposes. Muscio (2007) and Jones and Craven (2001) demonstrated how important AC and external collaborations are for SMEs in gaining access to knowledge outside the firm and leveraging it internally. The ability of firms to recognize opportunities (sensing) and then to seize them for further developing the capability base and for dynamically adapting to changing market conditions is also investigated in the research on dynamic capabilities by Tripsas (1997), Zahra and George (2002), Wang and Ahmed (2007), and Teece (2007). However, research on the entire absorption process and on AC in the context of dynamic capabilities is scarce (Wang & Ahmed, 2007, p. 38). We fill this gap by focusing on a particular aspect of the topic related to the way SMEs recognize, capture, and absorb knowledge from external actors. In this paper, we do not focus on the SMEs’ AC, but
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on knowledge management (KM) projects and subsequently emerging KM routines that are directed at creating new knowledge and/or to subsequently transferring the newly generated knowledge within the firm. Therefore, we pose the following research question: How do KM projects in SMEs contribute to advancing the firm’s AC, i.e., the organization’s capabilities with regard to recognizing, capturing, and assimilating new knowledge from the external environment? Our paper makes three contributions to literature. First, we indicate the importance of recognizing potential knowledge providers prior to any absorption of knowledge. Second, we emphasize the role of routines for absorbing knowledge from external sources. Third, we discuss the different learning logics (exploration vs. exploitation) resulting from recognizing, capturing, and assimilating, as well as the strategies implemented by SMEs to manage this AC cycle. The paper is structured as follows. In the next section, we analyze the state-of-the-field in AC research by drawing attention to the specific situation of SMEs. After describing our methods, we present our case study results. In the subsequent section, we discuss our results and draw conclusions to the existing research in the field of AC.
2. ABSORPTIVE CAPACITY IN SMES: STATE OF THE FIELD Cohen and Levinthal (1990, p. 128) define AC as ‘‘an ability to recognize the value of new information, assimilate it, and apply it to commercial ends.’’ They perceive outside sources of knowledge as being critical to innovation processes (Cohen & Levinthal, 1989, 1990) and discuss the role of firms in sensing external knowledge and in seizing it for internal purposes. In particular, Cohen and Levinthal (1990) emphasize the role of previous, related knowledge that is necessary at individual and at organizational level for absorbing knowledge from the firm’s environment. Therefore, research on AC fits in with the emerging knowledge-based theory of the firm (Kogut & Zander, 1992; Grant, 1996; Nonaka, Toyama, & Nagata, 2000), where knowledge is perceived as the foundation for gaining competitive advantage, and learning prepares the ground for achieving and sustaining an advantageous market position. Following the seminal contribution of Cohen and Levinthal (1989, 1990) and Zahra and George (2002) reconceptualized the AC construct and linked
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this issue to the dynamic capabilities approach more broadly than Tripsas (1997) with her focus on dynamic technical capabilities. Zahra and George (2002) distinguish between potential and realized AC. They argued that firms focusing on the acquisition of new external knowledge are able to constantly renew their knowledge base (potential AC) but they suffer from the costs of acquisition if they are not able to subsequently exploit this newly acquired knowledge (realized AC). Nevertheless, both types of AC are necessary for adapting to a dynamic environment. Therefore, Zahra and George (2002) address the distinction between exploration and exploitation (March, 1991; Levinthal & March, 1993; Gupta, Smith, & Shalley, 2006) as well as between sensing and seizing (O’Reilly & Tushman, 2008; Teece, 2007) in order to emphasize that a firm needs to strive for a balance of both (Tushman & O’Reilly, 1996; Raisch & Birkinshaw, 2008). Firms need to develop the ability to sense opportunities and threats and, subsequently, to seize them in order to reconfigure their knowledge base, as proposed in the dynamic capabilities approach (Savory, 2006; Teece, 2007; Wang & Ahmed, 2007). Todorova and Durisin (2007) distinguish between four components of AC: recognition of the value of knowledge, acquisition, assimilation (or transformation), and exploitation. In the recognition stage, they emphasize that prior knowledge is necessary to recognize and to evaluate the potential use and value of external knowledge. The firm’s knowledge base sets the potential but also the value limitations of knowledge from outside the firm’s boundaries. Subsequently, firms acquire knowledge; the newly acquired knowledge can either be integrated into the existing knowledge base, or stimulates its transformation in order to enable an accommodation of new knowledge. According to Lane et al. (2006, p. 856) Absorptive capacity is a firm’s ability to utilize externally held knowledge through three sequential processes: (1) recognizing and understanding potentially valuable new knowledge outside the firm through exploratory learning, (2) assimilating valuable new knowledge through transformative learning, and (3) using the assimilated knowledge to create new knowledge and commercial output through exploitative learning.
Based on these considerations, we define AC as a firm’s ability to develop an AC for recognizing and understanding, capturing, and assimilating new knowledge. Recognition and understanding refers to the ability to identify knowledge gaps, necessary knowledge, and know-how suppliers. Firms need to be able to make such knowledge available (capturing) and to transform the newly acquired knowledge for internal purposes in order to apply it (assimilation). Lane et al. (2006) emphasize that firms absorb different
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types of knowledge. They elucidated in their literature review that the higher the complexity of absorbed knowledge the more important is tacit knowledge (know-how) compared to codified knowledge (know-what). ‘‘Simpler knowledge is easier to absorb than complex knowledge’’ (Lane et al., 2006, p. 846). Empirical research on AC primarily discusses the role of knowledge transfer with regard to the advancement of the firm’s technology. Based on a study of 122 best-practice transfers, Szulanski (1996) identified a lack of AC as a major barrier to internal knowledge transfer. Jansen, Van Den Bosch, and Volberda (2005) distinguished between potential and realized AC. Their quantitative empirical results indicate that organizational structures, such as cross-functional interfaces, participation in decision making and job rotation, enhance a unit’s potential AC. The unit’s realized AC is associated with connectedness and socialization tactics. However, they also propose a negative relationship between AC and organizational routines as routinization limits the firm’s scope and thus the organization’s AC. This result undermines the argument within the dynamic capabilities approach, where routine-based dynamic capabilities serve as a suitable mechanism for absorbing strategically valuable knowledge from external sources. Hongwu (2008) identified empirically a positive relationship between a firm’s AC to enhance knowledge transfer and technology sourcing modes. Soo, Devinney, and Midgley (2007) indicate that creativity and the firm’s subsequent learning behavior with regard to the absorption of knowledge is necessary in order to leverage AC in problem-solving activities. In the context of alliances, Mowery, Oxley, and Silverman (1996) emphasized the role of AC in acquiring capabilities. These researchers’ empirical results showed that experience in related technological areas between both alliance partners facilitates the firm’s ability to absorb knowledge from the respected alliance partner. The role of AC in R&D cooperation was also empirically analyzed by Kastelli, Caloghirou, and Loannides (2004). They identified that the firm’s AC is the key enabler for the use of external knowledge from R&D alliances. Based on a sample of 2,464 innovative firms, Fosfuri and Tribo´ (2008) showed that firms which are involved in R&D collaborations develop a stronger ability to absorb knowledge and, as a result, experience with knowledge search is a key antecedent of AC. Therefore, the researchers emphasize the path-dependent nature of AC. Experience also plays a vital role in the arguments of Bergh and Lim (2008) who in a quantitative study investigated the restructuring behavior of 205 firms and found out that cumulative and repetitive experience with sell-offs was related to the adoption of an ensuing sell-off
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and to higher performance. Lane and Lubatkin (1998) found out that similarities (e.g., concerning their partner’s basic knowledge, degree of formalization, research centralization, compensation practices, and research communities) between alliance partners positively influence the firms’ AC. Tripsas (1997) accomplished case studies on how firms survive radical technological changes. She found out that external integrative capabilities and geographically distributed research sites contribute to necessary dynamic technical capabilities. Internal investments in R&D, which develop AC, and an external communication infrastructure facilitate the transmission of external knowledge, i.e., they identify and integrate knowledge from outside the firm’s boundaries. Soosay and Hyland (2008) present a case study in which they show that the dynamic capability of absorbing knowledge can foster greater leverage of exploration potential which leads to radical innovation and reconfiguration of exploitable knowledge for incremental improvements. Based on a quantitative study, Tsai (2001) demonstrates that AC, in terms of R&D investment, significantly affects business units’ innovation, as well as their performance. In a similar vein, Nicholls-Nixon and Woo (2003) conducted a longitudinal quantitative study of 26 biotech firms and found out that the ability to generate novelties in a regime of technological change involves both internal and external R&D investment, as well as involvement in a variety of equity and nonequity alliances. The importance of integrating knowledge leverage activities into the scientific community for acquiring cutting-edge knowledge for the business environment was also found in the case studies of Verona and Ravasi (2003) and Gu¨ttel and Konlechner (2009). A handful of papers investigate the development of a firm’s AC by going beyond mere consideration of the investment in R&D (Lane et al., 2006). Lenox and King (2004) analyzed the managerial strategies for developing AC, which is built on prior knowledge and experience. Their quantitative study showed that managers can directly affect the firm’s AC by giving information to potential adopters within the organization. However, Lenox and King (2004) also highlighted the role of prior experience that cannot be fully replaced by information provision. Firms can also acquire necessary knowledge via specialist knowledge providers. Tether and Tajar (2008) discovered that firms with open approaches to innovation, with high levels of AC and with greater social capital and networking capabilities are more likely to engage such knowledge providers. These firms use specialized knowledge providers to complement the firm’s own internal innovation activities. Hitherto, very few studies have discussed the role of AC in SMEs. Muscio (2007) presented survey data of 276 SMEs and showed that the SME’s AC
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has a relevant impact on the ability of firms to establish collaborations with external organizations (e.g., universities and technology transfer centers). More generally, Valkokari and Helander (2007) perceive strategic cooperation and networks in their theoretical paper as a means that enable SMEs to compete in dynamic business environments. They distinguish between traditional supply networks, enhancing networks (with the purpose of problem solving), and innovation networks. Jones and Craven (2001) identified in a case study the role of boundary spanners and the development of specific routines (e.g., for new product development) that facilitate the firm’s ability to extract knowledge from outside the company. Based on a case study research strategy in SMEs, Salvato, Lassini, and Wiklund (2007) identified three steps to create acquisition AC. After the firms created acquisition knowledge, they systematically accumulate experience by developing organizational routines and managerial practices. In the final step, they create structures and practices to recall experience. Barrett and Sexton (2006) identified in seven case studies that innovation behavior in SMEs is closely linked to operational activities, because resources are very scarce. The SMEs tend to take up established technologies, which is also a result of the style of decision making where owners dominate decisions whether new opportunities are seized or not. In conclusion, there is some theoretical and empirical advancement in the field of AC. However, the development of AC is only addressed by few studies and often it is assumed that investments in R&D broaden the firm’s AC (Lane et al., 2006). Furthermore, the role of AC as routines in the context of a firm’s dynamic capabilities is rarely addressed, though it is perceived as a major component of dynamic capabilities to recognize systematically opportunities or threats and to seize them in order to advance the firm’s knowledge base. Finally, we lack knowledge on the role of AC in SMEs, as only a few studies have hitherto investigated this issue. We seek to fill this research gap by analyzing KM projects in SMEs. KM projects can address various topics that are connected to the existence or development of a firm’s AC. Accordingly, KM projects can be established to develop routines that allow a firm to systematically analyze the firm’s environment (e.g., competitor behavior, customer demands, and technological trends). Such KM projects support the recognition of valuable external information. Another group of KM projects can be initiated to stimulate the generation of innovations in regard to product offerings, as well as to change structures or processes in order to increase efficiency or effectiveness. KM projects are perceived as a set of aims, rules, and
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guidelines that are introduced by a firm in order to structure the practices of knowledge managers. Thus, the KM project builds the cornerstone for the development of KM practices that are based on specific routines aiming at knowledge absorption, innovation, and knowledge transfer.
3. METHODS We took a case study approach (Yin, 2003) for analyzing the use of KM projects in SMEs for recognizing, capturing, and assimilating external knowledge for internal purposes. This study aimed at theory development (Eisenhardt & Graebner, 2007) because we perceive a lack of integrative understanding of AC. We studied institutionalized (e.g., in terms of clear procedures, participants, and objectives) KM initiatives that were established with different intentions, such as knowledge transfer, structured problem solving (optimization), knowledge acquisition from customers, or external experts. As every firm has at its disposal, concurrently, several external relationships which could potentially serve as know-how sources, we selected for our analysis one specific KM project that facilitates the recognition and/or capturing and/or assimilation of external knowledge, on the basis of which we identified similarities and differences in the KM project-specific ACs’ characteristics. Table 1 provides information about the companies and the KM projects analyzed. The case study research strategy was based on interviews and on an analysis of reports and documents (Yin, 2003; Creswell, 2007). Face-to-face interviews with key actors in each firm were carried out by several members Table 1. Companies Industry Annual turnover Company age No. of employees KM project focus a
Carr
Characteristics of Firms and KM Projectsa. Cy-North
Green1
Liberty Wines
NBG
RSI
Refrigeration ICT h75 million h3 million
Solar-energy h73 million
Food h10 million
Consulting h5 million
Food h 150 million
38 years 650
20 years 31
19 years 234
59 years 100
25 years 13
152 years 150
Knowledge transfer
Optimization Knowledge transfer
We use fictional names for the firms.
Knowledge Knowledge Customer acquisition acquisition Feedback
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of the research team in order to gather information about the company’s history and, in particular, about the KM projects’ development and current characteristics of the KM practices. The interpretation of the data was based on the framework of Becker (2004, 2005) for analyzing routines and observable practices. Based on his (2005, pp. 819–823) methodological reasoning, we dismantled the KM project and routines in detailed microactivities. We extended Becker’s considerations by combining two approaches for the re-construction of routines. First, we drew on the analysis of formal rules that are embedded in standard operating procedures, in ICT systems, or in the formal structure of the project. Second, we tried to identify recurrent patterns of action (informal work practices) in order to identify the social rules, which guide the KM behavior of employees. The first thing we asked our interviewees to do was to give us a short description of the company and the most important challenges they have to face. We then focused on the KM projects and practices, in order to identify both the history and the main characteristics in terms of the usage of ICT tools and of the social practices implemented. Further, we analyzed reports and documents, as well as exemplary applications of the KM practices in terms of project-specific descriptions and records. The interviews were conducted between 2005 and 2008, following a longitudinal approach that is needed to analyze the development of the KM projects and subsequently emerging KM practices. The first sets of interviews were carried out in November 2005. Two subsequent follow-up interview stages took place between 2006 and 2008, to collect further data about the evolution of the projects and practices, as well as on the results obtained. These semi-structured interviews with managers and employees lasted approximately 90–120 min. We additionally used workshops and participant observation for data collection. After we transcribed the recorded interviews, we discussed our preliminary findings with interviewees for verification, both personally and in workshops. Subsequently, we adapted our case study reports in the light of any additional information obtained. This process of interaction provided an opportunity to validate our findings. Thus, we improved the validity of our case studies continuously, according to Yin’s (2003, pp. 33–39) suggestions. Responses from the interviews were used to develop a case study database that included tables to record data. These tables were helpful in guaranteeing that the data collected were based on the research questions, and that the same information was available for all cases.
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4. CASE STUDY RESULTS: KM PROJECT AS A MEANS TO FACILITATE AC In the following section we present our case study results. After a short description of the firm and the KM project, we present our analysis of how the KM project and the emerging KM practices facilitate different aspects of AC: recognition, capturing (acquisition), assimilation, and the management of the complete AC cycle. Subsequently, we accomplish a cross-case analysis, in order to generalize from individual cases. 4.1. Case Study Descriptions 4.1.1. The AC Cycle at Carr The main business of Carr, a firm in the refrigeration industry, is the implementation of large air conditioning systems with very elaborate control software. The initial idea at Carr for establishing an ICT-based KM project, called knowledge sharing area (KSA), was the result of an endeavor to facilitate knowledge transfer between internal software developers. Over the course of time, KM practices were developed in order to allow Carr to integrate network partners (beta-testers) to test and to further develop software for controlling the air condition systems, and to make the novelties accessible to Carr. Additionally, Carr enables their clients to make suggestions for new software development activities in a pre-defined ICT space. Carr uses a software tool to structure the inflow of newly developed software components and to collect incoming new ideas. Carr is able to use advanced software solutions provided by their clients quickly; i.e., they are easily absorbed by the software development department. However, capturing completely new ideas from their clients is difficult, as there are no templates available for systematizing these ideas (Table 2). 4.1.2. The AC Cycle at Cy-North Cy-North is a small, but innovative and entrepreneur-driven firm that provides software solutions. They implemented a KM project called ‘‘Kaizen weeks’’ (KW). The core idea of the methodology is to increase efficiency in operative business processes. In Cy-North, KW is essentially organized as a project, where a team of approximately three employees has the objective of solving a clearly defined problem (ranging from business process reengineering to innovation) within one week on a full time basis. Cy-North uses one to five KWs in parallel at each event with an average of
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Table 2. Recognition
Capturing Assimilation AC cycle management
Capturing
Assimilation
AC cycle management
AC Cycle at Carr.
Internally established routines where clients can send novel software solutions and make suggestions for improvements; limited recognition capacity as the space for search is predefined by ICT tool. Established routines make it possible to treat external knowledge as internal. Test routines of internal software designers to evaluate the appropriateness of externally suggested improvements and novelties. Self-organizing AC cycle management as internally established routines are enlarged for integrating external clients; focus on a limited fragment for capturing knowledge as the space for providing new ideas is limited.
Table 3. Recognition
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AC Cycle at Cy-North.
Established practice to use ties with universities for gaining access to novel solutions. Pressure on project team to develop new solutions facilitates the use of external problem-solving ideas; established routines for problem solving by which new knowledge can be processed internally. Solutions that are based on newly acquired knowledge are presented to the top management and to all employees routinely in interim and final presentations. Project team and the formal structure for Kaizen weeks serve as a means to recognize, capture, and assimilate new knowledge.
three events a year. The execution of every KW follows a defined and stable procedure. The KW teams work usually 12–14 h a day and they regularly report their progress and results to the top management. During the execution of the KW, the teams resume social ties with universities in order to extract knowledge for solving specified problems. The reestablishment of these ties facilitates the absorption of external knowledge and its immediate application at Cy-North. On the last day, the teams present their results to the top management team and to all other employees in a formal session, which stimulates visibility and knowledge transfer to the staff (Table 3).
4.1.3. The AC Cycle at Green1 Green1 is a medium-sized company in solar-tech industry. Their innovation process is subdivided into two parts. In the first part, the firm tries to find new ideas (e.g., technologies, solutions for customers) by using multiple sources of information (customers, R&D alliance partners, competitors, and
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Table 4. Recognition Capturing
Assimilation AC cycle management
AC Cycle at Green1.
High sensitivity to external information resulting from different sources; broad spectrum for potential information inflow. Detailed procedure at the beginning of the second stage of the innovation process for formally evaluating the potential of the external generated knowledge; these routines facilitate the discussion on new ideas, but they run the risk of excluding promising ideas too early. Detailed routines govern the way how new knowledge is transformed into new products or used for an optimization of the production process. Two different stages, which are not easily managed, characterize the AC cycle: exploratory search and subsequent exploitative innovation generation; top management attention supports the integration of the two different process stages.
to the political system) in a loosely structured way. The second part of the innovation process was optimized by the use of a KM project. A detailed procedure defines steps, methods, and roles for completing the innovation process (tight structure). They use a formalized procedure to continuously evaluate selected novel ideas and to decide on the funding of the implementation process (Table 4). 4.1.4. The AC Cycle at Liberty Wines Liberty Wines is a winery in an underdeveloped wine-growing area that uses intensively a variety of partners for developing their wines and their marketing strategy. The KM project at Liberty Wines is dedicated to establish ties with different experts (universities and research institutes) in order to extract knowledge from outside. The cooperation is based on formal contracts. Nevertheless, it is a climate of trust and clear responsibilities, which is the foundation of the collaboration’s success, that makes learning possible. Liberty Wines uses a team approach to cooperate with external knowledge providers. They found project teams where employees intensively work together with external experts. At Liberty Wines, the R&D department and the top management are responsible for absorbing the newly acquired knowledge and for implementing (or revising) the suggestions from external experts (Table 5). 4.1.5. The AC Cycle at NBG NBG is a small-sized consulting firm. The main objective of the KM practice, called ‘‘innovation center,’’ is to identify new opportunities for the development of their consulting methods. Therefore, NBG regularly conduct
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Table 5. Recognition
Capturing Assimilation
AC cycle management
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AC Cycle at Liberty Wines.
Long and stable ties with some experts and their deep integration into operative processes create awareness of external developments; employees in the R&D department have a similar professional background as the external experts have. Teamwork facilitates capturing knowledge from external partners with elaborated expertise; top management attention to seize external ideas. Network-orientated culture and teamwork lead to the identification and the use of external information; preemptive acceptance of external suggestions facilitates implementation. R&D unit and top management attention keep the AC cycle together; network-orientated culture and established routines for absorbing knowledge from outside.
two-day workshops approximately twice a year. They invite academics from different research fields and clients who possess a diverse background, with the aim of identifying future trends for their consulting business. After a workshop is completed, NBG consultants evaluate the results in an internal workshop and try to capture interesting aspects for subsequent development of consulting products. A few months later, they usually accomplish another workshop on the same topic. They invite a new mix of participants, but a core group of three to four practitioners and two to three consultants remain. At the beginning of the new workshop, the consultants present parts of their reflection and they discuss various (and new) facets of the selected topic with the new group of participants. Then another phase of reflection and discussion within the consulting firm follows. Frequently, the workshop series on a particular topic ends up with the publication of a book as a trigger to codify knowledge and to support canvassing activities for the newly developed consulting product (Table 6). 4.1.6. The AC Cycle at RSI RSI is a firm operating in the food industry. After completing internal new product development activities, RSI tested their innovations under real market conditions in cooperation with one large supermarket chain. They set up a KM project where the interaction between RSI and the supermarket chain serves as a means to receive qualitative and quantitative data with regard to customer behavior. The results of the trial period were easily channeled into RSI’s knowledge base via a series of workshops at which the consequences of the data gathered in cooperation with the supermarket chain were discussed (Table 7).
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Table 6. Recognition
Capturing
Assimilation
AC cycle management
AC Cycle at NBG.
Routines to integrate experts and clients with regard to valuation of future trends (knowledge); workshop series enables a ‘‘principle of dialog’’ for evaluating whether or not the received knowledge is understood correctly (‘‘active listening’’). Routines to discuss the received knowledge internally in a series of internal meetings; established formal frame in terms of a ‘‘research group’’ who is responsible for storing (capturing) the externally generated knowledge. Routines to embed knowledge generated by the use of this KM practice in consulting products; continuous internal discussion of received knowledge and within the workshops to broaden the understanding of new information; codification in terms of a book as a formal completion of a workshop series on a certain topic, and to offer a newly developed consulting method. Continuous interplay between exploratory stages (workshops with academics and clients) and internal meetings (exploitation), in order to discuss the results, serves as a means to keep the whole process integrated; a stable core team of two to three consultants govern the process.
Table 7.
AC Cycle at RSI.
Recognition
Established routines to extract knowledge from the trials at the supermarket chain; the scope for search is predefined on a small-scale test field. Capturing Routines for analyzing the data internally in a workshop design; cooperation between R&D unit, marketing/sales and top management for drawing conclusions out of the externally gathered data. Assimilation Integration of different departments in the data analyzing process facilitates the subsequent use of novel information; innovation-driven culture enables the use of new information for innovation processes. AC Cycle Self-organizing AC cycle management are performed regularly as established Management routines to analyze the data and to draw conclusions; focus on a limited fragment for capturing knowledge as the quantity and quality of the data is predefined.
4.2. Cross-Case Analysis 4.2.1. AC and the Role of KM Projects The focus of the KM projects ranges from knowledge acquisition (in the cases of Liberty Wines, NBG, RSI) to internal knowledge transfer (CyNorth, Green1, and Carr). Liberty Wines, RSI, and NBG explicitly established KM projects for gaining information from experts and clients. Cy-North, Green1, and Carr tried to enhance their internal knowledge transfer in order to leverage existing knowledge more effectively. With
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regard to Liberty Wines, RSI, and NBG, the explicit intention to capture knowledge from outside shapes the routines and practices throughout different stages of recognition, capturing, and assimilation in all three firms. There is a constant flow of knowledge from the external environment as firms follow internal practices, which allow newly recognized knowledge to be grasped. In contrast, Cy-North, Green1, and Carr, use the KM project in a structured way only in domains of capturing and assimilation but abandon it when it comes to systematically monitoring the firm’s environment. Another difference among the six KM projects emerges concerning the type of knowledge they seek to absorb. In contrast to the primary focus of the AC concept on technological knowledge, in our case studies, only one firm (Liberty Wines) explicitly uses KM projects to absorb this kind of knowledge. In the cases of Cy-North and Carr, knowledge on technologies also plays a vital role but the firms also pay attention to knowledge on markets and customers. The other three firms (RSI, NBG, Green1) are primarily interested in gaining knowledge from customers. 4.2.2. AC: Recognition Strategies Comparing these cases reveals two distinct processes: establishing access to knowledge bases outside the firm and the absorption process itself. In the first stage, firms recognize potential knowledge providers and establish loose or tight ties with them. In a second stage, they observe deliberately, or unconsciously, regularly, or spontaneously, the potential knowledge providers in order to identify valuable knowledge. These types of collaborations serve as a means for knowledge acquisition. We identified two types of collaborations. On the one hand, Liberty Wines, NBG, CyNorth, and RSI identified experts as potentially valuable knowledge providers and they strengthened their ties with them. On the other hand, customers are also perceived as sources of new ideas, as is the case at Carr, NBG, and Green1. Experts are identified for having access to cutting-edge knowledge or specialized information, whereas customers provide valuable market-knowledge in terms of new ideas, expectations, and the competitive situation. Interestingly, we do not identify any relationship between the form of collaboration and the degree of the knowledge’s complexity. In Liberty Wines, the close relationship between experts and employees facilitate the transfer of complex knowledge, as we expected. However, at RSI and Carr, a long-lasting relationship is necessary to increase trust between the firms, even if the transferred knowledge is of low complexity. On the contrary, NGB and Green1 use sophisticated methods to integrate
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customers and experts into their KM projects, which are aimed at creating access to their knowledge bases. These methods serve as a functional equivalent to a long-lasting collaboration because the development of a common frame of reference between knowledge provider and knowledge receiver is enhanced. A common frame of reference without a close collaboration functions also as a knowledge-bridge between employees at Cy-North and researchers at the university, where most of Cy-North’s employees completed their studies. RSI, NBG, and Carr possess routines that enable firms to recognize knowledge systematically in the firms’ environment in a pre-defined mode. The organizational foundation of these routines are legal contracts (RSI), ICT tools for an easy transmission of new knowledge from clients to the firm (Carr), or social structures (workshops) that function as a means to integrate external experts and customers in a structured way (NBG). However, we observed that in cases where the communication channels between knowledge providers and knowledge receivers are narrowly structured, firms run the risk of excluding valuable knowledge from outside that does not fit these transmission channels (RSI, Carr). To avoid such difficulties, Green1 and Liberty Wines use multiple channels to identify valuable external knowledge. A specific form of evaluating the value of external knowledge is developed by NBG. They use a series of workshops to gain external information, to discuss it internally, and to present the results of the internal discussion to the external participants in the next workshop. Thus, they receive feedback from outside on their reflections about the value of the information they gained in a previous workshop. Another way of estimating the value of external information emerges from using employees with a similar frame of reference compared to the external knowledge providers’ frame of reference, which is the case at Liberty Wines, Cy-North, and Carr. Cy-North uses the established social ties with universities, where most of the employees completed their studies, to extract valuable information free of charge. Likewise, long-lasting relations between knowledge providers such as experts (Liberty Wines) and lead users (Carr) and knowledge receivers characterize their social relationship and serve as a means for the development of a similar frame of reference that guides the valuation of knowledge. 4.2.3. AC: Capturing Strategies In all cases we found that firms establish organizational routines in order to process and leverage received information. NBG conducts internal workshops for discussing ideas, suggestions, and observations submitted by
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clients in the previous workshop. RSI likewise interprets the data of client preferences received via the supermarket chain in a series of workshops where members from different departments participate. Green1 defines a formal procedure as to how project teams should discuss and evaluate external information. Carr does not distinguish between internal or external information that is fed into the ICT systems. They use the same routines to deal with new information provided either by internal software developers or from their external clients. Cy-North also uses established routines in their problem-solving activities to capture useful information from internal or external sources. Finally, Liberty Wines cooperates intensively with external experts (consultants and academics) and has implemented several routines that govern their cooperation. However, the routines in turn define expectations on the characteristics of information and, therefore, filter out knowledge that does not fit.
4.2.4. AC: Assimilation Strategies In all cases, assimilation strategies are based on routines that are developed in the course of the KM project. In NBG, RSI, and Green1, knowledge that is regarded as valuable and captured by the organization in a routinized way and is subsequently assimilated as the KM project is part of the entire new product development process. Liberty Wines, Cy-North, Carr, and also Green1 embed new knowledge in problem-solving activities to advance processes, technologies, and practices. At Liberty Wines and RSI the foundation of routines are formal contracts, while at Carr and RSI, in addition to the formal contract, a software solution functions as a guideline for knowledge acquisition. Methods based on formal descriptions are used at Cy-North, NGB, and Green1 to govern the KM routines, and, thus, the acquisition of new knowledge. Therefore, we find a formal web of rules that can be activated to perform routines for absorbing knowledge from outside. Formal procedures (e.g., investment planning) and workshops are predefined for transforming new knowledge into products and optimization projects. Captured knowledge is routinely transformed into innovations or enters into optimization activities as long as an immediate utilization is perceived. The other side of the same coin (routine) is characterized by filtering out knowledge that has no immediate use. Consequently, firms tend to emphasize in their assimilation strategies through the use of KM routines exploitative innovations (i.e., preferring new knowledge that is close to the shape of the existing knowledge base) rather than exploratory innovations (i.e., radical innovations that are based on completely new knowledge).
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4.2.5. AC: Strategies for Managing the AC Cycle We distinguish three strategies for managing the AC cycle. First, an integrative strategy is performed by NBG and Liberty Wines, where a continuous interplay between knowledge provider and knowledge receiver is enabled. Both firms use a stable team as an interface to the external environment. Furthermore, top management attention is high, as members of the top management team are integrated into the entire process. Second, the different components of AC can be structurally divided, as it is the case at Green1, RSI, and Carr. In these firms, the process of recognition is distinct from capturing and assimilation activities. Ideas and data are gathered in a pre-defined structure from partners (RSI) or delivered by clients (Carr). One department collects the data and in a subsequent separate process another group of employees analyzes them. Third, another form of absorbing knowledge from outside is performed by Cy-North. They only temporarily perform the KM routine through which they use their ties with external knowledge providers (universities). However, they use an integrated routine in these cases, including top management attention and the use of a project team.
5. DISCUSSION AND CONCLUSION KM projects contribute to the advancement of the firm’s AC. As resources are scarce in SMEs, one KM project can initiate the development of KM practices for acquiring knowledge or for transferring knowledge in a systematic manner, where otherwise in larger companies investment in the R&D department are perceived as the common mode for increasing AC (Tripsas, 1997; Tsai, 2001; Nicholls-Nixon & Woo, 2003). Table 8 gives an overview of our findings and serves as transition to our contributions. The foundation of the collaboration in the context of KM projects, which also serves as a means for absorbing knowledge from external knowledge providers, ranges from a tight relationship, based on long-lasting cooperation, to loose ties with clients or experts who provide information infrequently. Trust between knowledge provider and knowledge receiver sometimes plays a critical role. Long-lasting relationships can be characterized as trustful. In other situations, where a trustful relationship is necessary to transfer complex knowledge, the KM routine makes a method available (e.g., a workshop design) where knowledge receiver and knowledge provider interact intensively that facilitates an increase of trust. The KM routine’s method serves also as facilitating force for transferring
Explicit and codified knowledge; low complexity Tightly related to existing software solutions ICT-based Capturing: Integration of new software solutions into existing one
Type of knowledge
Relationship to existing knowledge base AC-mode Dominant AC stage
Loose but longlasting clients (trustful)
Foundation of collaboration
Carr
Loose and relationship depends on topic Explicit knowledge; medium complexity Tightly related as questions to experts are predefined Social Assimilation: Integration of new knowledge into problemsolving solution and presentations
Cy-North
Table 8.
Social Recognition: Identification of new ideas from various sources
Loose and tight relationship depending on the content Social Capturing: Integration of new suggestions and recommendations from experts
Tight: Formal contract and longlasting relationship to experts Explicit and tacit knowledge; high complexity
Loose: Changing clients
Explicit knowledge; medium complexity Loose and tight relationship feasible
Liberty Wines
Green1
AC in SMEs: An Overview.
Social Capturing: Collective sense-making of acquired knowledge during workshop series
Tight and long lasting (trustful)
Loose: Changing participants (clients and experts) Tacit at the beginning; joint codification; high complexity Loosely related at the beginning
Tightly related as data results from test trials of products ICT-based Capturing: Interpretation of data during workshop sessions
Explicit knowledge; low complexity
RSI
NGB
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complex knowledge, as the content as well as the background knowledge have to be transmitted in order that firm members understand the meaning in an interactive process of collective sense-making. The use of a sophisticated method can be omitted in those cases where a common frame of reference between knowledge provider and knowledge receiver function as a basis for interpretation and understanding of medium or complex knowledge. Our case studies also show that the relationship between the absorbed knowledge to the existing knowledge base can be either loose or tight. In the latter case, the receiving firm often predefines criteria which knowledge is expected, whereby the search scope is limited. KM routines that use an ICT infrastructure as their core method channel the absorbed knowledge directly into the existing knowledge base, where a social foundation of the KM routines implies a higher degree of openness for novelties. Finally, we found out that the case study firms differ in their emphasis at a certain AC stage, but the capturing stage is the most important; this is the phase between the recognition of valuable knowledge and the assimilation into the existing organization: the point of time where potential AC passes over into realized AC.
5.1. Recognition of Knowledge Providers and Different Types of Knowledge The distinction between potential and realized AC also refers to a recognition of the social structure underlying the absorption of knowledge. Therefore, we endorse the studies of Tether and Tajar (2008) and Muscio (2007) who emphasize the role of knowledge providers for receiving valuable knowledge. They propose a higher degree for AC makes the finding of knowledge providers more likely. Our case studies indicate that the establishment of a social network, either through a long-lasting relationship or by using a method in the KM routines that facilitates the development of a trustful environment, is a prerequisite for absorbing knowledge from an external environment. On the one hand, SMEs use KM projects to integrate external partners on a formal contractual basis for providing essential information that is not accessible inside the firm. On the other hand, SMEs establish KM projects that only provide an informal framework for leveraging ties with external knowledge providers. Furthermore, our results show that SMEs not only absorb technological knowledge, as it is commonly perceived in AC literature (Cohen & Levinthal, 1990; Tripsas, 1997;
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Hongwu, 2008), but also identify new market trends and changes in the customer behavior as it is assumed by discussing the role of AC in the dynamic capabilities approach (Verona & Ravasi, 2003; Teece, 2007).
5.2. Routinized Absorption of Knowledge KM projects enable the establishment of routines for capturing and assimilating newly acquired knowledge (Jones & Craven, 2001; Salvato et al., 2007). We can therefore perceive AC as a dynamic capability because the processes are routinized, i.e., they follow a learned and stable pattern (Zollo & Winter, 2002). Our cases demonstrate that, these routines facilitate the absorption of new knowledge. We therefore put forward a counterargument to Jansen’s et al. (2005) finding that routines harm the absorption of knowledge. In our complex analysis of the case studies, we identified the KM routines as a double-edged sword, but also with positive consequences with regard to the absorption of knowledge. On the one hand, routines function as a stabilizing force for absorbing knowledge from external sources. They increase predictability and provide a mode how the transfer of new knowledge and ideas can happen. On the other hand, and in keeping with the research by Jansen et al. (2005), routines limit the search scope for identifying new knowledge. Consequently, routines reduce the potential AC by restricting the search scope, but increase the realized AC by stabilizing the assimilation of new knowledge. We also found evidence for Barrett and Sexton’s (2006) concern that such routines in SMEs are more dedicated to exploitation than to exploration. Therefore, knowledge that is outside the firm’s frame of reference will not be integrated into the organization, as the probability is high that capturing and assimilating routines will filter it out.
5.3. Skilful Management of the AC Cycle Our empirical findings also indicate that the vital task of SMEs is to skillfully manage the AC cycle, which consists of recognizing, capturing, and assimilating new knowledge. Recognition, capturing, and assimilation follow different logics and require diverse structural and cultural solutions as assumed by Zahra and George (2002) and Lane et al. (2006). While recognition of threats (knowledge gaps) and opportunities (new knowledge and knowledge providers) demand openness in the search process, capturing calls upon a firm’s ability to make a clear selection. In the final stage,
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assimilation, the fit of the captured knowledge to the firm’s frame of reference and to existing routines, is important with regard to the organization’s ability to leverage knowledge. All three aspects of AC are necessary to gain information from the external environment and to use it internally. However, as these stages follow the different learning logics of exploration (recognition) and exploitation (capturing and assimilation), firms have to deal with resulting contradictions as proposed by exploration/ exploitation research (March, 1991; Gupta et al., 2006). Based on our research, we identified three modes how firms balance exploration and exploitation in their activities of absorbing knowledge from external sources in the course of KM initiatives. They can perform an integrative AC strategy for managing the AC cycle where all three stages are performed (in parallel) by the same group of employees who alternate between exploration and exploitation. A structured AC strategy results in a clear separation of parallel AC processes to different departments where the top management team or a project team seeks to integrate results along the AC process. A temporal AC strategy implies the enactment of different AC routines in the course of the KM initiative separately and sequentially. The structural and temporal distinction makes the processing of the three AC stages (recognizing, capturing, and assimilation) easier but the integration of results more difficult than in an integrative AC strategy as the same group of employees is responsible for all AC activities within a KM initiative. However, in any case, firms need to develop mechanisms to deal with contradictions resulting from the continuous performance of the entire AC cycle as they fully benefit from the inflow of knowledge only if the are able to manage the flow of knowledge across all AC stages.
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TOYOTA’S COMPETITIVE ADVANTAGE: PATH DEPENDENCY, DYNAMIC CAPABILITIES, AND SOURCES OF INIMITABILITY – A CONTRASTIVE STUDY WITH NISSAN Evelyn Anderson ABSTRACT Journal articles and books on Toyota’s competitive advantage abound. More recent analyses tended to focus on Toyota alone (Coriat, 2000; Liker, 2004) while earlier literature examined the competitive advantage of the Japanese automobile industry as a whole (Asanuma, 1989; Womack, Jones, & Roos, 1990; Fruin, 1992; Dyer, 1994, 1996a, 1996b). Intensive analysis on the Toyota Production System (TPS) notwithstanding, what exactly constitutes the system’s inimitability remains elusive. This paper contributes to existing literature by examining how a post-war industrial policy might have given rise to Toyota and Nissan adopting two different strategic logics (or governance structures) as each had a unique set of resources and competences. Different governance structures however, did not appear to contribute to inter-firm performance Enhancing Competences for Competitive Advantage Advances in Applied Business Strategy, Volume 12, 87–120 Copyright r 2010 by Emerald Group Publishing Limited All rights of reproduction in any form reserved ISSN: 0749-6826/doi:10.1108/S0749-6826(2010)0000012007
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variance between the two competitors for at least 15 years. What then could be the source of Toyota’s competitive advantage and its inimitability? This paper unravels how causal ambiguity might have confounded Nissan, Toyota’s only significant domestic rival for the second half of the last century.
INTRODUCTION For half a century since the end of World War II, two auto assemblers fought relentlessly for the top position in Japan’s automobile industry. Both assemblers – Toyota and Nissan – were perceived to have similar governance structure based on relation-specific contracts with a large network of components (keiretsu)1 suppliers (Asanuma, 1992, p. 102). Both had similar market shares and operating profit well into the 1970s. By the 1990s however, Nissan and many of its keiretsu members were saddled in bad debt. Nissan abandoned its keiretsu network in 1999 under the firm’s first ever foreign chief operating officer (Ghosn, 2002, p. 39, 2005, p. 109). An organizational structure that was once considered a source of competitive advantage for the whole Japanese auto industry was no more for Nissan. How could similar (keiretsu or inter-firm) governance within the same industry be the source of competitive advantage for one firm (Toyota), yet the cause of financial demise for another (Nissan)? This paper documents the evolution of the Toyota and Nissan core keiretsu, with a focus on the differences between the two. It explores the nature of Toyota’s inimitability in the context of path dependency, causal ambiguity and the development of competences.
THE JAPANESE AUTOMOBILE INDUSTRY IN THE EARLY POST-WAR YEARS Up until the early 1950s, motor vehicle manufacturers such as Toyota and Nissan conducted business with suppliers in ways that were very similar to American practice (Cusumano, 1985, p. 377). Industry statistics (Table 1) indicate that Toyota internalized 82% of its production in 1951. Toyota had the highest in-house production ratio of 82% among the car assemblers at the time. The equivalent ratio for Nissan was 71% and 69% for Isuzu (Nihon Jidousha Kaigisho, 1955, pp. 81–82). The Toyota in-house
Toyota’s Competitive Advantage: A Contrastive Study with Nissan
Table 1.
In-house (%) Outsourcing (%)
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Toyota Shifting to Outsourcing 1951–1954. 1951
1952
1953
1954
82 18
76 24
78 22
71 29
Source: Nihon Jidousha Kaigisho (1955, pp. 81–82).
production ratio declined to 71% in 1954, and eventually to 30% by 1959 (Daiyamondosha, 1959, p. 292). This shift in strategic direction seemed to coincide with government policy changes that culminated in the enactment of The Provisional Act for the Promotion of the Machinery Industry 1956– 1970 (to be abbreviated as The Provisional Act in subsequent references). The changes that prompted the legislation of this industrial policy first surfaced in 1952. Due to the rapidly deteriorating balance of payment position that Japan was experiencing in the aftermath of a nation defeated, the Ministry for International Trade and Industry (MITI), the Bank of Japan (BOJ), and the Ministry of Finance (MOF) began to increasingly favor components manufacturers over automotive assemblers in their directives, leading eventually to the passing of The Provisional Act in 1956 (Yamazaki, 2003, pp. 18–25). In MITI’s assessment (MITI Heavy Industry Division [Tsuushou Sangyoushou Juukougyouka]2 1956, pp. 16–37), the major problem confronting both the assemblers and the parts makers was dilapidated capital equipment, which left Japan behind its US and European counterparts in global competitiveness. In addition, the components suppliers had specific problems, such as low productivity, inefficient small-lot production methods, and their over-reliance on the chassis makers for technological training and customs. To solve the first problem, MITI could persuade Japan’s central bank (BOJ) and MOF to permit the import of foreign machinery and technology, yet a severe foreign reserves shortage meant that such scarce resource had to be allocated on a priority basis. In order to satisfy the BOJ and MOF constraint, MITI gave preference to the parts suppliers over the assemblers. The Ministry believed that a strong upstream industry equipped with modern, state-of-the-art, imported technology would underpin the ultimate international competitiveness of its downstream industry. Moreover, in its quest to modernize the manufacturing process, each assembler in a small overcrowded domestic market would merely be duplicating the import of foreign capital equipment, thus wasting valuable foreign exchanges.
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An ideal solution was to grant the right to import to only the components makers in the general machinery industry. Small- and medium-sized firms (SMEs) with the potential to reap economies of scale through the supply of standard and common parts to all domestic car manufacturers were to be given such privilege. Hence, The Provisional Act mandated that MITI’s approval be sought before foreign machinery could be imported (MITI, 1956, p. 58). In addition, SMEs capitalized at 100 million yen or below (Odaka, 1996, p. 342) had access to low-interest financing through a competitive bidding process (see Diagram 1). This combination of incentives had altered the payoff structure for both the chassis manufacturers and SME components makers alike, and might have given incentives for Toyota to form a collaborative relationship with a number of its key suppliers. Its relationship with Denso in particular later developed into an important strategic alliance.
RESOURCE HETEROGENEITY: TOYOTA VERSUS NISSAN Denso was once housed within Toyota. It was spun-off to become an independent entity in 1949. Toyota’s spin-off history started in 1941. Fruin (1992, pp. 265–266) noted that Toyota’s spin-offs were not driven by strategic considerations; rather they were responses to the financial strife that the firm had found itself in throughout the 1940s. In this respect, Toyota’s spin-off actions were not deliberate internal corporate venturing (Elfring & Foss, 2000). Toyota had spun-off a total of nine divisions in order to ensure its own financial viability during World War II and the difficult early post-war years (Diagram 2). Industry observer noted that ‘‘this Toyota style of management stood out within the automobile industry as being unique’’ (Kousei Torihiki Kyoukai, 1959, p. 77). Nissan Motor Corp. was part of the Nissan Conglomerate and it was better endowed with capital than Toyota.3 It did not have the same financial constraints that Toyota had and it did not have a need to spin-off divisions during this period. One of Nissan’s strategic logics was to absorb foreign technology at the assembler level (Cusumano, 1985, p. 375). The automaker had a technology tie-up with Austin. Toyota, in contrast, positioned itself as a company taking pride in ‘‘100% domestic technology,’’ and reliance on domestic technology was favored by the government in the 1950s.
Toyota’s Competitive Advantage: A Contrastive Study with Nissan The problems confronting the automobile industry in the 1950s:
MITI Solutions
1. Dilapidated capital equipment for both the chassis makers & parts suppliers
Import foreign technology and machinery
Supplier-specific Problems:
91
BOJ & MOF Constraints: Insufficient foreign reserves to pay for imported equipment for each chassis maker. Scarce resource would be more efficiently allocated if all chassis requirements were pooled together.
2. Low Productivity
3. Small-lot Production
4. Dependence on the chassis makers
MITI’s Ultimate goal (Stage 2):
Give chassis makers incentives to (Stage1) nurture subcontractors so they could (Stage 2) become independent parts suppliers with economies of scale.
Incentive and check: Independent Specialised Components Makers e.g. Denso, Aisin, others
Low interest loans for parts suppliers capable of specialisation and economies of scale. MITI approval required for machinery import.
Toyota
Nissan
Diagram 1.
Isuzu, etc.
Toyota Sharing MITI’s Ultimate Goal.
As mentioned earlier, Japan had developed a persistent balance of payment deficit, and that was a grave concern for the BOJ. The industrial policy designed by MITI had two goals (Amagai, 1982, pp. 160–161). The first goal, or stage one, was to provide an incentive infrastructure (lower than market interest rates and the privilege to access
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Toyoda Auto Loom
TMC
Toyota Motor Corp (TMC) 1937 Toyoda Engineering Spun-off in 1941
Toyoda Engineering
Aichi Industries Spun-off in 1943
Aisin Seiki
Toyoda Auto Loom
Sinkawa Industries merged with Aichi Industries in 1965
Aichi Enamel Spun-off in 1949
Aichi Steel Works Spun-off in 1940
Nisshin Finance Spun-off in 1949
Toyota Auto Body Spun-off in 1945
Toyota Auto Body
Nippon Denso Spun-off in 1949
Denso
Toyoda Spinning & Weaving Spun-off in 1950
Toyoda Spinning & Weaving
Toyota Motor sales (TMS) Spun-off in 1950
Toyota Motor Sales (TMS)
Aichi Steel Works
Toyoda Trading
Diagram 2. Toyota’s Spin-off History. Sources: Modern Business Research (1976, p. 132), Kousei Torihiki Kyoukai (1959, pp. 76–77), Fruin (1992, pp. 265–266), and Miyoshi (1996, pp. 22–23).
foreign reserves for payment of imported technology) for auto assemblers to ‘‘nurture’’ SME suppliers. Auto assemblers were encouraged to provide technological training and management know-how in order to raise the productivity of the suppliers. The second goal, or stage two, was to allow
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capable SME suppliers to attain economies of scale and to ultimately become independent of their assemblers. Stage two was the ultimate goal of MITI. The Ministry believed that a strong and competitive machinery industry was essential to support the international competitiveness of its downstream industry, of which the automobile industry was one. Stage two, however, would present a dilemma for some assemblers. They were to invest their time and energy in cultivating a keiretsu supplier relationship, only to have their members become independent later. Nissan lost its special status from the government in the early 1950s because it was not a company with ‘‘pure domestic technology.’’ It had been denied both an allocation of foreign reserves (1952) and subsidized domestic credit (1953). Both were to fund essential purchases of imported technology, and other capital equipment (Nihon Jidousha Kaigisho, 1954, p. 303, 1957, pp. 321–323). It is plausible that Nissan valued the accumulation of physical assets with embedded foreign technology. Nissan might have preferred to retain its investment and technology in their wholly owned subsidiary keiretsu firms instead of allowing them to become independent as per MITI design. Mintzberg, Lampel, Quinn, and Ghoshal (2003, p. 7) considered strategy as both a position and a perspective. As a position, strategy involves locating a firm within its environment and providing a match between the organization and the environment. As a perspective, a firm’s strategy is based on an ‘‘ingrained way of perceiving the world.’’ With differing perspectives, come differing managerial cognitions. Sanchez, Heene, and Thomas (1996, p. 31) pointed out that managerial cognitions affect firm strategies and industry structures. The incentives provided in The Provisional Act were the same for both Nissan and Toyota, yet the opportunity costs perceived by the two assemblers could be different. For Nissan, the opportunity cost of subcontracting to independent firms could be lower than integration initially, but it might prove to be high should keiretsu suppliers resort to opportunistic behavior once The Provisional Act expired. Nissan was better endowed with financial resources and it might have preferred to use wholly owned subsidiaries as SME suppliers to qualify for MITI’s special credit and foreign reserves allocation. The Provisional Act was meant to be a temporary measure, and was originally intended for a mere five-year period.4 For the capital-constrained Toyota, which had narrowly escaped insolvency only six years earlier, outsourcing from its former divisions including Denso could be a better alternative for preserving the firm’s capital. Pre-existing ties with spun-off divisions were a unique Toyota asset made valuable by an industrial policy.
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THE TOYOTA KEIRETSU AND THE NISSAN KEIRETSU – SIMILAR BUT DIFFERENT Asanuma (1989), in his seminal article on the use of relational contracts as a common business practice in the Japanese automobile industry, did not make a distinction between the Toyota keiretsu and the Nissan keiretsu. He suggested that the governance structure of the Japanese automobile industry as a whole was different from the governance structure adopted by the Big Three (i.e., GM, Ford, and Chrysler) at the time of his writing. The US automakers were far more vertically integrated than the Japanese auto assemblers as a group. US automakers on average internalized 70% of its production as opposed to 30% in Japan. Subsequent analyses on the Japanese automobile industry drew upon Asanuma’s observation and the assumption was that both Toyota and Nissan had adopted an inter-firm governance structure based on trust and long-term relationships (e.g., Dyer, 1994, 1996a, 1996b). This paper submits that coinciding with the Provisional Act period (1956–1970), the Toyota governance structure was based on inter-firm collaboration, whereas Nissan’s strategic logic was to integrate its core keiretsu members. Analysis at the core keiretsu level is important because the Toyota and Nissan core keiretsu firms constituted approximately 15% of their lead firm’s total value added. Since Toyota and Nissan produced 30% of their total value added in-house, the contributions made by their core keiretsu firms were half as much as the lead firms’ share. The core keiretsu firms were therefore important suppliers for both automakers in their value chains. Denso and Aisin Seiki (to be abbreviated as Aisin) constituted the Toyota core keiretsu. Aisin was a merger between Aichi Industries and Sinkawa Industries in 1965 (see Diagram 2). Atsugi Motor Parts (to be abbreviated as Atsugi), Kanto Seiki, and Nihon Radiator constituted the Nissan core keiretsu (Nihon Jidousha Buhin Kougyoukai & Ooto Toreido Jaanaru, 1971, pp. 101–102). Although Denso was commonly referred to as a Toyota keiretsu member (which has in Japanese language the connotation of being a subsidiary and being lower in status than its ‘‘parent’’ firm), Denso was clearly an independent legal entity in its transaction relationship with Toyota during the 15-year period between 1957 and 1971 (Table 2). In 1957, Toyota held 8.39% of shares in Denso, and 19.62%5 in Aichi Industries. Denso manufactured electrical components for Toyota and Isuzu initially. In the assessment of Mr. Kiichiro Toyoda (founder of Toyota), electrical components commanded proprietary technology, which was critical to the quality of the final product, the car itself. Mr. Toyoda was instrumental in forging a technology tie-up agreement between Denso and Bosch. Denso
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Table 2.
Relationship between Toyota and Core Suppliers in 1957 and in 1971.
Toyota’s Stake in Core Suppliers
Denso Aisin
Toyota Group’s Share in Core Suppliers’ Sales
1957
1971
1957
1971
8.39% –
15% 18%
50% –
53% 65%
Sources: Ohkurasho. (1971). Yuuka Shouken Houkokusho [Company Annual Report]. Ohkurasho [Ministry of Finance], Tokyo; Kousei Torihiki Kyoukai. (1959). Jidousha Kougyou no Keizairyoku Shuuchuu no jittai. Tokyo: Kousei Torihiki Kyoukai; Nihon Jidousha Buhin Kougyoukai & Ooto Toreido Jaanaru. (Eds). (1971). Nihon no Jidousha Buhin Kougyou [Japanese Automotive Parts Industry]. Tokyo: Ooto Toreido Jaanaru.
Table 3. Nissan’s Relation with Its Three Subsidiaries in 1956 and in 1971. Nissan’s Stake in Subsidiary
Atsugi Kanto Seiki Nihon Radiator
Nissan Group’s Share in Subsidiary’s Sales
1956
1971
1956
1971
100% 100% 60%
70% 93% 62%
100% 100% 100%
100% 88% 86%
Sources: Ohkurasho. (1956, 1971). Yuuka Shouken Houkokusho [Company Annual Report]. Ohkurasho [Ministry of Finance], Tokyo; Jidousha Buhin Kougyoukai & Jidousha Jaanaru. (Eds). (1956). Nihon no Jidousha Buhin Kougyou [Japanese Automotive Parts Industry]. Tokyo: Jidousha Jaanarusha; Nihon Jidousha Buhin Kougyoukai & Ooto Toreido Jaanaru. (Eds). (1971). Nihon no Jidousha Buhin Kougyou [Japanese Automotive Parts Industry]. Tokyo: Ooto Toreido Jaanaru.
supplied Toyota with 50% of its total production output on average and the other 50% of the components firm’s production was distributed among all other auto assemblers with the exception of Nissan.6 In contrast, three supplier firms in the Nissan keiretsu, which manufactured similar lines of products as Denso and Aisin, were in effect ‘‘true’’ subsidiaries of Nissan according to Mr. Ohta, who was the Managing Director for Nissan during the Provisional Act period. They were Atsugi, Kanto Seiki, and Nihon Radiator. Both Atsugi and Kanto Seiki were 100% owned by Nissan at inception. Nissan had a 60% stake in Nihon Radiator in 1956 (Table 3). All three keiretsu firms supplied exclusively to its parent company. The value added of the three wholly owned subsidiaries amounted to approximately 15% of Nissan’s total production value. Nissan’s in-house
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production ratio was commonly understood to be 30% (which was comparable to Toyota’s). However, according to Mr. Ohta’s estimation, Nissan’s in-house production ratio was actually 45–55% when the contributions of the three subsidiaries were added (Nihon Jidousha Buhin Kougyoukai & Ooto Toreido Jaanaru, 1971, pp. 101–102). Since both Nissan and Toyota had similar gross sales between 1956 and 1970, and Toyota’s in-house production was 30% of its total value-added, one may conclude that Nissan was 1.5–1.8 times (45%/30% and 55%/30%) more integrated than Toyota during that 15-year period. Atsugi, like Denso, also began as an internal division within Nissan. Unlike Denso, however, the nuts, bolts, and screws division was not spun-off in economic hard times. It became a subsidiary in May 1956 (Nissan Motor Corp. Company History Committee, 1975), just prior to the enactment of The Provisional Act. Again, unlike Denso, the firm’s initial product lines did not command proprietary technology. However, they conformed to MITI’s guidelines, as nuts, bolts, and screws were good candidates for reaping economies of scale. This Nissan subsidiary won many of MITI’s competitive grants and rapidly diversified into technology-embedded components. It manufactured components in the same groups of technology as Aisin, namely, areas relating to pistons, clutches, steering, and pumps. Kanto Seiki was also incorporated in 1956, and the firm manufactured electrical parts including odometers and tachometers. Nihon Radiator, as the firm’s name suggests, manufactured radiators and related products (see Table 6). Under The Provisional Act, low-cost financing and more importantly, foreign currency allocation were made available to SME components suppliers through a competitive bidding process (Odaka, 1996, pp. 342– 343). Denso was successful 12 times. The three Nissan subsidiaries were also competitive, with Atsugi and Nihon Radiator receiving special funding nine times each, and Kanto Seiki eight times (Anderson, 2004, 2007). The standard of quality achieved by both core keiretsu networks also seemed comparable. Nihon Radiator won the Deming Prize in 1959 while Denso was awarded the same prize in 1961. Kanto Seiki was designated by MITI in 1958 as a model factory, showcasing modern imported equipment and best practice management process (Anderson, 2003, 2007).
COMPETITIVE ADVANTAGE: PATHS, PROCESSES, AND INIMITABILITY Teece, Pisano, and Shuen (2000, p. 341) argued that ‘‘the competitive advantage of firms lies with its managerial and organizational processes, its
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present position, and the paths available to it.’’ These constitute dynamic capabilities, which as the name suggests, is not a static concept. It had its origin in Schumpeter’s idea of ‘‘creative destruction.’’ In a world of Schumpeterian competition, a strategic challenge is to identify difficult-toimitate internal and external competences that are likely to support valuable products and services. Learned et al. proposed that the real key to a company’s success or even to its future development lies in its ability to find or create ‘‘a competence that is truly distinctive’’ (Teece, Pisano, & Shuen, 1997, p. 510). The analysis in this section draws upon the framework of dynamic capabilities and competences. It will address the issues of paths, processes, and inimitability.
Path-Dependency To Teece et al. (1997, p. 522) history matters, and ‘‘(t)he importance of path dependencies is amplified where conditions of increasing returns to adoption exist.’’ One source of increasing return to adoption is found in scale economies in production. The works of Donaldson (2000) and Lamarque (2005) are also relevant in analyzing the source of Toyota’s competitive advantage, and how it was gained initially through path dependency. Both authors stress the importance of matching strategy to organization structure and organizational structure to resources. They are supportive of the proposition put forward by Learned, Christensen, Andrews, and Guth (1969) that ‘‘(e)very organization has actual and potential strengths and weaknesses; it is important to try to determine what they are and to distinguish one from the other’’ (as cited in Teece et al., 1997, p. 513). In other words, these authors suggest that an organizational structure that facilitates the development of unique assets, competences, and skills will contribute to superior profit and a competitive advantage for the firm. Extant literature (Asanuma, 1989) took the Toyota and Nissan organizational (governance) structure as the same. This paper submits that the Toyota keiretsu was different from the Nissan keiretsu in governance structure in the early post-war years. The Toyota keiretsu was based on inter-firm collaboration; whereas Nissan’s strategic logic was vertical integration in its relationship with its core keiretsu members. The Toyota and Nissan management adopted two different strategies in response to the competitive and regulatory context that prevailed in Japan in the post-war period during the 1950s. Each assembler negotiated its own strategic logic based on the firm’s unique resources and capabilities.
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Toyota Nissan
Sales in million yen
8000000 7000000 6000000 5000000 4000000 3000000 2000000 1000000
19 50 19 52 19 54 19 56 19 58 19 60 19 62 19 64 19 66 19 68 19 70 19 72 19 74 19 76 19 78 19 80 19 82 19 84 19 86 19 88 19 90 19 92 19 94 19 96 19 98
0
Year
Graph 1.
Comparative Sales of Toyota versus Nissan 1956–1999. Source: Ohkurasho (Various Years).
Although Toyota and Nissan took two different paths by adopting two different organizational structures during the enactment of The Provisional Act, the performance of the two auto assemblers during this period did not appear to be significantly different from each other. The results of Toyota and Nissan’s structuring endeavors can be traced in the following graphs. Graph 1 compares the market shares of Toyota and Nissan between 1956 and 1999. Graph 2 shows the operating profit of the two firms in the same period. The two assemblers had about equal market shares up until 1974, from there the divergence began and the divergent trend became particularly pronounced from 1983 onward. Likewise Toyota and Nissan were equally profitable at the operation level during the 15 years that the legislation was enforced, and again divergent performance began around 1982–1983.7 The rest of this section examines how the seeds of performance differences in the long term might have been sowed during The Provisional Act period. Path-dependency as one source of Toyota’s competitive advantage is discussed. The two assemblers’ performance measured in terms of sales and operating profit was very similar between 1956 and 1970. During this period, Toyota outsourced critical technology to Denso while Nissan internalized the
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Toyota's Operating Profit Nissan's Operating Profit
12.00 10.00 8.00 6.00 4.00 2.00
56 19 58 19 60 19 62 19 64 19 66 19 68 19 70 19 72 19 74 19 76 19 78 19 80 19 82 19 84 19 86 19 88 19 90 19 92 19 94 19 96 19 98
0.00 19
Operating Profit as a Percentage of Sales
14.00
-2.00 -4.00
Year
Graph 2.
Comparative Operating Profits 1956–1999. Source: Ohkurasho (Various Years).
production of key components that embodied proprietary technology. Each automaker has chosen an organizational structure that matched their respective resources, competences, and capabilities. As Graphs 1 and 2 indicate, both firms had achieved similar market shares and operating profit. Governance in the first 15 years did not seem to contribute to inter-firm performance difference. Toyota’s initial competitive advantage was not apparent; it was embedded in its collaborative relationship with Denso. The assembler reaped the benefits of scale economies, not within Toyota itself (for Toyota and Nissan had equal market shares), but through Denso. When Denso was ‘‘spun-off’’ from Toyota in 1949, the survival strategy for the newly ‘‘independent’’ electrical parts supplier was customer diversification. Isuzu was Denso’s other major customer besides Toyota. The relationship between Denso and Toyota was never exclusive (Anderson, 2003). Denso grew rapidly during the first 10 years of The Provisional Act period; achieving economies of scale as its customers were not restricted to Toyota alone. By 1975, Denso supplied to all auto assemblers, except Nissan (Anderson, 2003, p. 23). In contrast, the relationship between Nissan and its core keiretsu parts
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suppliers was exclusive. Table 3 shows that Nihon Radiator, Atsugi, and Kanto Seiki supplied exclusively to Nissan in 1956. The ratios declined to 86% for Nihon Radiator, 88% for Kanto Seiki, while Atsugi remained unchanged at 100% in 1971. In MITI’s paradigm, Nissan had achieved the Ministry’s first goal, while Toyota achieved the second (ultimate) goal. Customer diversification (in the case of Denso) per se is not normally considered a source of competitive advantage. However, achieving economies of scale at a time when one’s competitors (Nihon Radiator, Atusgi, and Kanto Seiki) pursued an exclusive relationship with only their ‘‘parent’’ company might have created a path-dependency strategy that was difficult for rivals in the industry to emulate later. This first mover advantage gave rise to time compression diseconomies, and the first to learn by doing became an industry leader, leaving imitators months if not years behind. Denso was spun-off in economic hard times. Its survival strategies were customer and product diversification. Denso’s strategic logic gave rise to economies of scale and scope, and the firm’s subsequent performance was beyond the match of its technology competitors (Table 4). Nihon Radiator, Atsugi, and Kanto Seiki remained small by comparison; and unlike Denso, they were never listed on the First Board of the Stock Exchange. The policy to encourage parts suppliers to achieve independence from Toyota through economies of scale (by means of customer diversification) was part of Toyota’s deliberate strategy during the period of The Provisional Act (Anderson, 2003, pp. 21–22). Neither Denso nor Aisin was Toyota’s subsidiary. In contrast, Nissan’s strategy was to ‘‘nurture’’ parts suppliers Table 4.
Denso’s Rapid Growth 1956–1965.
Kishinho Rounds
Year
Denso Sales (in Million Yen)
No. of Employees at Denso
First round
1956 1957 1958 1959 1960 1961 1962 1963 1964 1965
3,364 4,680 4,757 6,779 11,039 14,066 15,104 19,761 25,429 27,919
1,745 2,422 2,389 2,823 3,875 4,968 5,260 5,569 6,697 7,182
Second round
Source: Nippon Densou Kabushiki Kaisha Shashi Henshuu Iinkai. (Ed.) (1984). Nippon Densou 35 nen shashi [Nippon Densou Thirty Five Year Company History]. Nagoya: Nippon Densou, p. 58.
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but it stopped short at allowing them ‘‘independence’’ lest that might incur contingency loss on the ‘‘parent’’ company. The three core keiretsu firms (Nihon Radiator, Atsugi, and Kanto Seiki) were in effect Nissan’s subsidiaries. Furthermore, Nissan had sufficient controlling interest8 of over 33% in its extended keiretsu,9 and a minimum controlling interest of 25% in the rest of its extended keiretsu10 during the Provisional Act period. All of Nissan’s core and extended keiretsu firms were recipients of MITI’s special low-cost credit. They had an exclusive relationship initially with Nissan but later they diversified their customers to include the Nissan Conglomerate (the Nissan-ken).11 They did not achieve the same level of economies of scale as Denso, nor Aisin of the Toyota keiretsu, as they were bound by their exclusive relationship with its ‘‘parent’’ company. Both Toyota and Nissan took actions that were consistent with the implementation of their strategies. Toyota rejected an offer to merge with Prince Motors in 1964. Instead, the assembler encouraged a merger between Aichi Kogyou and Sinkawa Kougyou to form Aisin in 1965 (Toyoda, 1985, pp. 130–134 and Aisin Seiki Company History Editorial Committee, 1985, p. 7). Like Denso, Aichi Kogyou was one of several companies spun-off from Toyota. After separating from Toyota, Aichi Kogyou also diversified into other lines of products, such as sewing machines, knitting machines, other household electrical appliances including washing machines, refrigerators, vacuum cleaners, and bedroom coolers. Aisin grew rapidly after 1965, attaining both economies of scale and scope. Toyota’s decision was consistent with the firm’s strategy of compliance with MITI’s ultimate goal, rather than the accumulation of physical assets (i.e., MITI’s first goal). Nissan, in contrast, acquired the insolvent Prince in 1966 (Toyoda, 1985, pp. 130–134). Nissan’s action was also consistent with its strategic logic of vertical integration. In summary, ‘‘history’’ did matter when analyzing Toyota’s competitive advantage. This paper contributes to existing literature of the Japanese automobile industry by identifying the historical and regulatory context that gave birth to two strategic logics. Both Toyota and Nissan were consistent in choosing an organizational structure that matched their firms’ resources and capabilities. However, Nissan’s strategic logic of vertical integration, asset accumulation, and technology contingency loss considerations might have prevented its subsidiaries to grow, and eventually they lost their battle of economies of scale and scope to Denso, an independent firm. Denso was once an internal division within Toyota. The supplier became a unique Toyota resource that was made profitable through MITI’s industrial policy design. Toyota seemed to be aware of the value of its resources for it
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leveraged its existent competence by encouraging Aichi Industries to merge with Sinkawa Industries to create Aisin. Aisin also had a history of customer and product diversification, which led to the development of two important competencies: economies of scale and economies of scope.
Managerial Process of Learning Teece et al. (2000, p. 342) noted ‘‘the way production is organized by management inside the firm is the source of differences in firms’ competence in various domainsyHow efficiently and effectively internal coordination or integration is achieved is very important (Aoki, 1990). Likewise for external coordination. Increasingly, strategic advantage requires the integration of external activities and technologies. The growing literature on strategic alliances, the virtual corporation, and buyer-supplier relations and technology collaboration evidences the importance of external integration and sourcing.’’ How production is organized in general by Toyota management inside and outside the firm is well documented (Clark & Fujimoto, 1991, 1999). This paper contributes to existing literature by exploring how Toyota managed its external resources and competency development, using Denso as an in-depth case study. Hannes and Fjeldstad (2000) have identified three types of competency, and each responds to a different type of competition. The first one is entrepreneurial (or exploration), which is the equivalent of Porter’s differentiation. The second one is contractual, which exploits existing technology. The third one is operational (or exploitation), which is the equivalent of Porter’s cost strategy. Tallman and Fladmoe-Lindquist (2000) studied how global firms explored and exploited technical capabilities and managerial competence using subsidiaries and alliances. Driver and Cashman (2000) regarded learning as a key for both competence development (exploration) and maintenance (exploitation). There are two distinctive learning roles. They are operational adaptation and entrepreneurial innovation. Both types of learning roles will result in the development of organizational competency. However, low trust leads to adaptive learning, while high trust leads to innovative learning (pp. 54–55). Quynh and Martens (2008) examine three levels of capability: ordinary capability which is the ability to produce, implementation capability is the ability to improve, and evolutionary capability is the ability to create new products and/or services. All three levels of capabilities are vulnerable but inter-firm knowledge transfer is one way to reduce vulnerability.
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The Toyota–Denso partnership illustrates how high trust collaborations served as a vehicle for inter-organizational learning, which led to innovations. The incentives for the two firms to cooperate and to achieve complementary skills were provided in the 1950s in a regulatory environment that increasingly favored the suppliers. Mr. Kiichiro Toyoda, the founder of Toyota, noted how the engineers at Denso were struggling to acquire even the most basic technology. He introduced Denso to Bosch through a university contact he had. Bosch was looking for a licensee in Japan as part of its strategy to diversify the political risk that a Two-Germany policy posed. Through the recommendation of Dr. Mishima, a well-known magnetic steel scientist and a close friend of Mr. Toyoda, Bosch concluded a licensing agreement with Denso in 1953. Bosch was already a world-class company with superior technology and ‘‘scientific’’ managerial know-how. What Denso had learnt from Bosch was more than simply production technology. Bosch taught Denso an integrated system that gave birth to the ‘‘parts.’’ A well-known source of Toyota’s competitive advantage is found in the Toyota Production System (TPS), which encompasses Total Quality Control (TQC). TQC and its associated concepts of just-in-time (JIT) delivery, zero defect and fast inventory turnover gained world fame through the work of Womack, Jones, and Roos (1990). What was Denso’s role in delivering this world-class standard to its major customer in Toyota? Denso made two important contributions to building Toyota’s competitive advantage. The first contribution was the development of Toyota’s TQC program and the achievement of a groundbreaking technology that helped Toyota to take market shares from Nissan. The second contribution was causal ambiguity for Toyota’s success in TPS. Denso’s First Contribution: Inter-Organizational Learning and Technological Breakthrough Denso’s first contribution, in terms of inter-organizational learning and complementary skill development, was surprisingly less publicized. TQC was the brainchild of Denso. The components firm won the Deming Prize (a hallmark of quality) in 1961. The theme of Denso’s submission was Statistical Quality Control (SQC). Toyota embraced the concepts, and extended the application of quality control beyond the engineering department. Toyota called this extension of SQC Total Quality Control (TQC). Subsequently, Toyota also won the Deming Prize in 1965 based on its TQC practice (Anderson, 2003). Quality control alone, however, did not deliver a sustainable competitive advantage to Toyota in the early 1960s. The assembler’s archrival, Nissan also had a well-designed quality control
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program. In fact, Nissan preceded Toyota in winning the Deming Prize in 1960. Nor was Nissan far behind in inventory control in the early 1960s. Ironically, ‘‘just-in-time’’ was actually a phrase coined by Nissan in describing its inventory control system. Toyota had a less imaginative label; the ‘‘supermarket system’’ nevertheless described the essence of JIT delivery of car components (Yamazaki, 2003, p. 43). More importantly, Denso’s major contribution to Toyota’s success took place in 1983. Before that, in 1970, the Japanese government proactively required Japanese car manufacturers to comply with a series of progressively restrictive carbon emission standards. The final absolute compliance date was 1978. In 1968, Denso created an integrated circuit (IC) research center to focus on the development of an electronic fuel injection (EFI) system as a solution for carbon emission reduction. The L-EFI developed by Denso provided reliability and precise control of fuel injection for efficient combustion. The system was further perfected with the development of the O2 sensor, which was an important component identified by Toyota engineers. The integrated system of EFIþO2 sensorþthree element oxidation broke new ground. Not only did the subsequent patent of the Toyota Lean Combustion System comply with the world’s strictest standard imposed by the Japanese government in 1978, it also delivered the best fuel economy plus driving comfort, which were hitherto two paradoxical goals. L-EFI gained rapid market shares in 1983 as a result of falling unit price brought about by scale economies (Nippon Denso Company History Committee, 1984, p. 135). The complementary skill development of Toyota and Denso explained why Toyota took substantial market shares from Nissan in 1983 (see Graph 1). In summary, the Toyota–Denso alliance was bound by trust through a historical tie between the two firms. This led to innovative learning that gave rise to exploration and exploitation through inter-firm knowledge transfer. Normally, a negative relationship exists between exploration (differentiation strategy/entrepreneurial competence) and exploitation (low-cost strategy/ operational competence). However, Denso was able to deliver innovative (entrepreneurial) technology at low cost. Denso was an important partner for the development of Toyota’s competitive advantage.
TPS and Toyota’s Inimitability ‘‘The dynamic capabilities view of the firm would suggest that the behavior and performance of particular firms may be quite hard to replicate, even if
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its coherence and rationality are observable y . Thus far, we have argued that the competences and capabilities (and hence competitive advantage) of a firm rests fundamentally on processes, positions and paths (i.e., processes, positions and paths determine a firm’s competitive advantage). However, competences can provide competitive advantage and generate rents only if they are based on a collection of routines, skills, and complementary assets that are difficult to imitate’’ (Teece et al., 1997, p. 524). The TPS is a collection of routines, skills, and complementary assets. It holds one of the keys to Toyota’s sustainable competitive advantage – this is a well-known proposition (Womack et al., 1990). The TPS and its observable coherence and rationality have been subject to intense examination and analysis (Coriat, 2000; Liker, 2004; Morgan & Liker, 2006), yet Toyota’s success remains difficult to emulate. This section revisits the TPS and interprets the essential features of the system within the competitive context that prevailed at the onset of the system’s creation. The competition was between two strategic logics – inter-firm collaboration (Toyota) versus vertical integration (Nissan). Three types of inventory are involved in the manufacturing of motor vehicles (Lieberman & Asaba, 1997). The purchase of raw materials (RM) and components constitutes the inputs inventory. This reflects how efficiently inter-firm collaboration is being managed in the case of Toyota, which adopted strategic outsourcing. A vertically integrated firm that purchases parts from within the firm has less incentive to reduce RM inventory to the extent that zero inventory incurs coordination cost, such as frequent parts delivery. The second type of inventory is work-in-progress (WIP). These are the parts held internally by the vehicle assembler during the assembly process. This category reflects the operational efficiency of the assembler. The last category is finished goods (FG) held by the assembler for dispatch to its downstream distributors. Most researchers used either the average value of all three types of inventories or RM alone to evaluate the effectiveness of Toyota’s JIT program. Moreover, the focus was placed on how to improve inventory management, rather than how Toyota’s coordination costs were reduced. Graph 3 shows the breakdown of the average inventory into its three constituent categories for Toyota. Prior to 1963, the WIP and FG inventory were managed better than the RM inventory at times (e.g., 1952–1959 for FG and 1953–1960 for WIP). 1963 seemed to be an important year marking a possible policy change. From that point on, RM management improved dramatically. Likewise for FG, while improvements in WIP inventory were barely noticeable and only incremental at best.
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Inventory Turnover (Times)
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Final Goods (FG) Raw Materials (RM) Work-In-Progress (WIP)
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19 4 19 8 49 19 5 19 0 5 19 1 52 19 5 19 3 54 19 5 19 5 5 19 6 57 19 5 19 8 5 19 9 6 19 0 1961 6 19 2 6 19 3 64 19 6 19 5 6 19 6 67 19 6 19 8 69 19 7 19 0 71
0.00
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Graph 3.
Toyota’s Inventory Turnover 1948–1971. Source: Ohkurasho (Various Years).
Toyota’s governance structure was inter-firm collaboration during The Provisional Act period at both the RM and FG levels. Toyota’s supplier or keiretsu network involved inter-firm coordination at the RM level. At the FG or distribution level, Toyota also had an inter-firm governance structure. The automaker was forced by its bank to cleave off its distribution division in 1950, or risk losing a crucial credit extension at a time when the firm was teetering on the brink of bankruptcy. Toyota Motor Sales (TMS) was made into a separate entity that year (Toyota Motor Corps, 1987, pp. 232–234). Nissan, in comparison, was both backwardly (at the core and extended keiretsu levels) and forwardly integrated. The differences in RM and FG inventory turnovers during the 15 years of The Provisional Act can therefore be explained in terms of governance differences. Denso’s Second Contribution: Causal Ambiguity Extant literature marvels at Toyota’s inventory management. Toyota’s RM and FG inventory turnover post-1964 was indeed impressive. The Toyota inventory management system has been studied intensely, with
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characteristics of the Toyota management as the focus of analysis. To date, no research has been conducted on the role of Denso (and other Toyota suppliers) and how it might contribute to the extraordinary efficiency that Toyota’s lean production system (or TPS) delivered. This section examines Denso’s second contribution in the area of TPS. Denso’s role was subtle but nevertheless important in winning Toyota a sustainable competitive advantage possibly by way of causal ambiguity. Graph 4 compares the RM management of Toyota and Nissan. Interestingly, the two majors were equally efficient on balance in RM inventory control up until 1964. Toyota left Nissan far behind after 1964. What happened in 1963–1964? This question will be answered in light of Denso’s role. RM inventory turnover is obtained from dividing sales by inventory of purchased parts. Since the gross sales for both Toyota and Nissan were roughly the same in this period, the improvement in Toyota’s inventory turnover must be due to low or close to zero inventory kept on Toyota’s premise, the so-called JIT delivery. JIT delivery, as the name suggests, requires the components makers to deliver the right components (zero defect), in the right quantity (no more and no less than required) at the right
300.00
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Toyota RM Turnover Nissan RM Turnover
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19 4 19 8 4 19 9 50 19 5 19 1 52 19 5 19 3 54 19 5 19 5 5 19 6 57 19 5 19 8 5 19 9 6 19 0 6 19 1 62 19 6 19 3 64 19 6 19 5 6 19 6 67 19 6 19 8 69
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Graph 4.
Comparative RM Management. Source: Ohkurasho (Various Years).
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time. The assembler saves on inventory costs, but the parts suppliers incur coordination cost should they agree to pay for the cost of frequent deliveries. In a vertically integrated organization, such as Nissan, the improvement in inventory turnover beyond the required efficiency level was unwarranted, for frequent deliveries would incur coordination cost, which is eventually borne by the entity itself irrespective of how it is being distributed among the different subsidiaries. In Toyota’s case, however, the parts suppliers and specifically Denso had agreed to absorb the coordination costs (Table 5) in the second half of 1963. The rent appropriation in the collaborative partnership between Toyota and Denso appeared to be unfair at first glance. For example, Toyota’s sales were 10.5 times that of Denso. Toyota’s gross profit was 8 times that of Denso but its operating profit was 11.6 times that of its supplier. Toyota spent disproportionately less in some areas relating to coordination costs incurred in outsourcing. Denso absorbed the complete cost of patents usage, delivery costs, packaging, and returned goods. Toyota’s expenses in these four categories were zero. Toyota’s expenditure on advertising, bad debts provisions, executive expense account (entertaining guests and customers, etc.), and intercity/interstate/overseas travels were all proportionately lower than Denso, given the difference in the size of the two companies. Table 5. Denso’s Share of Toyota’s Coordination and Administration Costs in the Second Half of 1963 (Measured in Million Yen).
Gross sales Gross profit Operating profit Sales and general expenses Patents usage fees Transport costs Packaging Returned goods Salaries and wages Advertising/PR Bad debts provisions Executives expense accounts Interstate/overseas travels Consumables
Denso
Toyota
Toyota/Denso (Times)
10,348 2,584 1,230 1,354 185 76 57 39 161 151 61 37 37 16
108,754 20,720 14,297 6,423 0 0 0 0 504 298 200 66 41 175
10.5 8 11.6 4.7
3.1 2.0 3.3 1.8 1.1 10.9
Source: Jidousha Buhin Kougyoukai & Jidousha Jaanaru. (Eds). (1965). Nihon no Jidousha Buhin Kougyou [Japanese Automotive Parts Industry]. Tokyo: Jidousha Jaanarusha, p. 89.
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Why would Denso accept such seemingly unequal distribution of costs when it was Denso who was the innovator in quality control? Although Denso was the one that laid the foundation for the TQC program incorporating JIT and zero defects, it may be argued that the cost of patents usage, JIT delivery costs, packaging, and defective parts were part of the quality control program, and therefore such costs should be borne by the supplier. This arrangement would provide incentives for Denso to deliver JIT quality products at low cost – which was not only a Toyota requirement, but also of value to customers other than Toyota. As for the other costs, the ‘‘unfair’’ distribution may give the impression that Denso was a Toyota keiretsu ‘‘subsidiary,’’ contributing to confusion among Toyota’s competitor(s), who may want to emulate Toyota’s success by forming a ‘‘trust’’based keiretsu supplier network. From Denso’s perspective, the trade-off for a demanding customer may be the security of a long-term relationship with a significant buyer. Speculations aside, it is evident that Denso was competitively capable, for even after having factored in coordination and administration costs, some of which should normally fall due on the assembler, Denso’s operating profit was only proportionately slightly lower than Toyota’s in the latter half of 1963. Toyota and Nissan took very different approaches to how they handled coordination costs. Toyota seemed to understand the importance of coordination costs minimization when managing Denso and Aisin, which constituted its core technology. In contrast, Nissan seemed to have incurred coordination cost in its management of core technology among its keiretsu members, even though some of them were vertically integrated. Tables 6 and 7 show how Toyota and Nissan outsourced key components requirements from their respective networks in 1975. Nissan took a multiple sourcing policy; sometimes part of the order was produced in-house in order to stimulate competition.12 This incurred coordination cost. Toyota sourced 100% of its requirement from Denso and Aisin for many of its parts requirement, lowering coordination cost. Referring to Table 6,13 Denso was the sole supplier of 17 technology items and a cosupplier of 9 items. The corresponding numbers for Aisin were 10 and 3. Both firms have generated economies of scope. In contrast, Atsugi was the sole supplier to Nissan for only 1 item but 13 as a joint supplier (very often competing with another keiretsu member, e.g., Daikin). Nihon Radiator, Kanto Seiki, and Tsuchiya14 did not seem to have achieved economies of scope. Another example that serves to illustrate Toyota’s policy of coordination cost minimization is provided in Graph 5. Toyota’s FG inventory turnover fell sharply in 1982. In January that year TMS was re-absorbed into TMC.
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Table 6.
Economies of Scope Among Parts Suppliers.
Parts
Toyota
Nissan
Fuel pump
Denso
Fuel supply pump Injection pump Nozzles Nozzle keeper Gasoline filter
Denso Denso Denso Denso Denso Kyousan Denki Denso Denso Tokyo Roki Denso Kojima Press Maruhachi Kougyou Denso Denso
Mitsubishi Jidousha Kiki Not applicable (N/A) N/A N/A N/A Tsuchiya Kyousan Denki Tsuchiya Tsuchiya
Air cleaner Air cleaner element Air cleaner case
Oil cleaner Oil cooler Radiator Generator
Denso Touyou Radiator Denso
Starting Motor
Denso
Voltage regulator
Denso
Power supply/distributor
Denso
Spark coil
Denso
Spark plug
Denso Nihon Special Ceramic Denso
Glow plug Flusher unit Meters
Air conditioning
Denso Denso Yazaki Denso Yazaki Denso Yazaki Denso
Car heater
Denso
Odometer Cable casing
Tsuchiya
Tsuchiya Tsuchiya Nihon Radiator Nihon Radiator Hitachi Mitsubishi Hitachi Mitsubishi Hitachi Mitsubishi Hitachi Mitsubishi Hitachi Densoa Hitachi Nihon Special Ceramic Nihon Special Ceramic Eiko Denki Nairusu Kantou Seiki Kantou Seiki Kantou Seiki Hayashi Spring Hitachi Diesel Kiki Nihon Radiator Diesel Kiki
Toyota’s Competitive Advantage: A Contrastive Study with Nissan
Table 6. (Continued ) Parts
Toyota
Nissan
Exhaust gas cleaner
Denso Aisan Kougyou Aisin Art Piston Aisin
Hitachi Tokyo Sokuhan Atsugi Aato Metal Atsugi Aato Metal Atsugi
Piston Piston pin Water pump Oil pump
Aisin Aisan Kougyou Aisin
Timing gear case
Aisin
Cooling fan
Aisin Toyoda Tekko Ishikawa
Tie rod Steering knuckle Steering ball joint
Tokyo Tanko Toyoda Kouki Ishikawa
Steering ball joint ASSY
Ishikawa
Clutch
Aisin
Clutch disc
Aisin
Clutch facing
Aisin
Clutch pressure plate
Aisin
Clutch cover
Aisin
Clutch spring
Aisin
Clutch lever Exhaust pipe
Aisin Sango Futaba
Source: Nihon Jidousha Kaigisho (1975, pp. 221–237). This is the only part that Denso supplied to Nissan in 1975.
a
Atsugi Tochigi Fuji Hitachi Metal Sanwa Kougyou Fusou Keigoukin Nihon Radiator Ohi Atsugi Rizumu Atsugi Rizumu Atsugi Rizumu Atsugi Rizumu Atsugi Daikin Atsugi Daikin Atsugi Daikin Atsugi Daikin Atsugi Daikin Atsugi Daikin Fuji Tekko Nihon Radiator
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Table 7.
Nissan’s Multiple Sourcing Policy in Relation to Atsugi. Nissan
Nissan Diesel
Fuji Juuko
Piston
Atsugi Aato Metal
Atsugi Sakura Kogyou
Piston pin
Atsugi Aato Metal Atsugi Tochigi Fuji
Atsugi Riken Piston Izumi Auto Atsugi Hakuya tekkoujo Atsugi Tochigi Fuji Fuji Tekko Atsugi Rizumu Katakura
Oil pump
Tie rod
Atsugi Rizumu
Clutch
Atsugi Daikin Atsugi Daikin Hitachi Akebono Atsugi Daikin Atsugi Daikin
Clutch disc Clutch fencing Clutch pressure plate Clutch spring
Atsugi Daikin Atsugi Daikin Daikin Nikkou Seiki
Clutch lever
Atsugi Sakura Kogyou Atsugi Mikuni Kougyou Ishikawa Tekkou Kyouwa Sangyou Atsugi Daikin Atsugi Daikin Atsugi Daikin Atsugi Daikin Atsugi Daikin Atsugi Daikin
Source: Nihon Jidousha Kaigisho (1975, pp. 221–237).
Both Nissan and Toyota were forwardly integrated and their inventory turnover for FG became comparable again from 1984 onward. Summing up, Toyota is famous for its outstanding inventory management. Interestingly, Toyota and Nissan were comparable in their inventory management up until 1964. From then on, Toyota outperformed Nissan by a long margin in RM management. Toyota’s superior performance coincided with the year when Denso took on the coordination cost of Toyota’s JIT delivery. In Nissan’s case, since the automaker’s strategic logic was integration, redistributing coordination cost to its subsidiary suppliers would not lower the total cost of inventory minimization. There was no incentive for Nissan to keep up with Toyota’s remarkable track record. In 1982, Toyota forwardly integrated its distribution network, and Toyota’s FG inventory turnover fell to a level similar to Nissan’s. From 1982 onward, both Toyota and Nissan were forwardly integrated and the FG turnover for both became comparable. Toyota appeared to understand the importance of
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900.00 800.00
Nissan Toyota
Turnover %
700.00 600.00 500.00 400.00 300.00 200.00 100.00
70 19 72 19 74 19 76 19 78 19 80 19 82 19 84 19 86 19 88 19 90 19 92 19 94 19 96 19 98
19
19
68
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Graph 5.
Comparative Final Goods Turnover Before and After 1982. Source: Ohkurasho (Various Years).
coordination cost minimization in the management of both its RM and FG inventories. Denso bore the coordination cost of Toyota’s JIT delivery and the firm might have confounded Toyota’s competitors by giving them the impression that the supplier was Toyota’s ‘‘competitive’’ and ‘‘subordinate’’ subsidiary. Nissan might have incurred unnecessary coordination cost and diseconomies of scale by pursuing a multiple sourcing policy in 1975, in an attempt to create competition for its core keiretsu subsidiaries. Outsourcing in theory provides high power market disciplines and incentives compared with integration (Asanuma, 1989; Williamson, 1991). Nissan’s change in strategic orientation and organizational structure might have come too late, as Denso had already established a first-mover advantage initially in scale economies, followed by innovative technology development. This section illustrates that one of the sources of Toyota’s inimitability could be the causal ambiguity of Denso’s role in TPS. The TPS and its related concept of total quality management (TQM) has been the subject of vigorous analysis (Powell, 1995). Researchers could only describe the unobservable part of Toyota’s unique success in general terms, such as executive commitment and corporate culture (Donaldson, 2000,
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p. 41). The sources of Toyota’s inimitability remain unfathomable in concrete terms. This paper explored the origin of Toyota’s competitive advantage, how it evolved and the nature of Toyota’s inimitability in terms of its relationship with its key technology supplier – Denso. A contrastive study on Nissan, Toyota’s significant competitor for over 50 years, helped to shed light on how Toyota achieved its competitive advantage, and why it was difficult for Nissan to emulate. This paper supports the propositions put forward by competence-based literature and dynamic capabilities. Both Toyota and Nissan had distinctive resources and capabilities and each had observed the importance of choosing a matching strategic logic (Donaldson, 2000; Lamarque, 2005) in response to an exogenous government regulation. A firm may accumulate more assets than it can use, but not all of them become valuable resources (Sanchez et al., 1996, p. 54). Toyota had a unique asset in pre-existing ties with its spun-off divisions. This unique asset was made a valuable resource through a government industrial policy. Regulatory incentives provided a common interest objective for both Toyota and Denso to collaborate for at least 15 years during The Provisional Act period. Path-dependency (Teece et al., 2000) gave rise to Toyota’s partner firms (Denso and later Aisin) attaining economies of scale and scope which became difficult for Nissan’s subsidiaries to reverse. The merits of trust-based inter-firm transfer of knowledge are well documented in competence-based literature (Driver & Cashman, 2000; Tallman & Fladmoe-Lindquist, 2000). Collaborative learning between Toyota and Denso translated into operational cost efficiency and later a groundbreaking entrepreneurial technology that delivered both firms a competitive advantage (Hannes & Fjeldstad, 2000). The two different strategic logics (inter-firm collaboration vs. integration) could not have explained the divergence of inter-firm performance in inventory management but for the causal ambiguity of Denso’s role in TPS. Causal ambiguity might have confused Nissan management, and prompted the automaker to change its organizational structure to expose its subsidiaries to market discipline. This however might have incurred unnecessary coordination costs and diseconomies of scale. Nissan might have inadvertently positioned itself further to Toyota’s competitive advantage. To recap, Toyota’s initial competitive advantage are derived from at least two competence sources: the automaker’s ability to minimize coordination cost in its inter-firm relationship management at both the RM and FG levels, and economies of scale and scope embedded in the technology products of its collaborative partners such as Denso. The major contribution of this paper is in the unraveling of causal ambiguity of Toyota’s success.
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CONCLUSIONS AND FUTURE RESEARCH Two major assemblers in the automobile industry adopted different strategic logics in response to an exogenous shock created by a change in the regulatory environment in the 1950s. One assembler was capital constrained and had just survived a near-death (bankruptcy) experience. Conservation of capital was foremost in management’s mind, be it capabilities building, or managerial processes. The other had recently been refused a foreign reserve allocation required for the import of critical foreign technology. Fear of losing physical assets dominated management’s vision. The relevant Japanese regulatory authority wanted the ‘‘parent’’ assembler to ‘‘nurture’’ their subsidiary components suppliers with the ultimate goal of helping the suppliers to gain independence through the attainment of scale economies. The incentives offered by the government’s ministry were low-cost funding and an allocation of scarce foreign currency for modernizing fixed capital investment, which was essential for capabilities building. The only proviso was that assemblers need not apply; the competitive bidding process was open only to SME suppliers capitalized at below 100 million yen. The first firm saw opportunities whereas the second firm saw opportunity costs. The first firm complied with the ultimate bureaucratic directive by embracing inter-firm collaboration while the second firm stopped short at letting go of its suppliers (which was the government’s final goal) for fear of losing ‘‘valuable’’ fixed assets when the legislation expired. One set of incentives gave rise to two sets of strategic logics. The seeds of different resource strategies and management processes were planted in two organizations. Divergent paths ultimately led to divergent performances. The first firm is Toyota and the second firm is Nissan. The two firms, despite their different strategic logic, performed equally well, in terms of market shares and operating profit, for the entirety of The Provisional Act period. One major divergence during this period was in inventory control, remarkably pronounced in the management of raw materials and FG. Transactions of both types of inventory involved inter-firm coordination in Toyota’s case while on the other hand, Nissan transacted within the firm at the core level. Toyota’s organizational process in managing both its upstream and downstream relationships was consistent: the aim was coordination cost reduction for Toyota but not at the expense of quality. Nor was it at the expense of Denso the supplier, for the value distribution (measured as operating profit as a percentage to gross sales) to the supplier was similar to Toyota’s. Frequent coordination established perfected routines, confidence and trust in collaboration, leading to the
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development of complementary skills in higher levels of technological innovations. Mutual capability building ultimately delivered an industryfirst
