How to develop sustainable competitive advantage
What makes your business truly unique? Excellent leadership, the brand, well-managed processes, a strong financial position or a global presence? It can be one or the other, but some resources can be imitated by competitors – making it non-sustainable in the long run. In this post, I will give you tools to work with the VRIO framework in order to locate and develop a sustainable competitive advantage in the marketplace.
#VRIO #BusinessStrategy #Competition #Resources
Developing sustainable competitive advantage
Many business leaders believe that the purpose of strategy development is to help them compete to be the best. It really isn’t. It’s about finding ways to be unique and differentiate yourself from the competition. More on that here.
To understand the source of competitive advantage in the organization, we use a variation of different tools to analyze both external (e.g. Porter’s 5 Forces) and internal (Value Chain Analysis) environments.
A tool to work on the internal parts of the organization is Barney’s VRIO analysis. The VRIO framework helps us analyze the internal resources and capabilities of the organization in order to understand whether they generate a competitive advantage or not. In doing so, it also allows us to uncover unused competitive advantage.
What is a resource?
To use his framework, we first need to establish what a resource is. A resource is the productive assets – the means to complete a task – that a company own, e.g. manpower. They are often mixed with capabilities, which are something that people, organization and technology bring together to drive business results, e.g. project management.
Additionally, resources can be tangible, i.e. based on what is observable and quantifiable. For instance, production equipment, manufacturing facilities or distribution centers. They might also be intangible, which means that they are unobservable to competitors. These are rooted deeply in the company’s history and have accumulated over time. The more intangible a resource is, the more valuable that resources are to create organizational capabilities, as they are harder to imitate. E.g. capacity of innovation, knowledge and brand name.
I created the below overview for reference:
The VRIO Framework
According to Barney, a company’s resources must be valuable, rare, costly to imitate and organized in the right way to capture value (forming the acronym VRIO).
A resource that passes through these four dimensions of the framework, can bring sustained competitive advantage for the organization. Looking at it as a flow. In examining a particular resource, you should be able to tick every box.
Examining resources in this way is referred to as a resource-based view and these work on the premise that resources and capabilities are fundamental to superior performance for an organization.
I’ll get into what the different types of advantage mean for you, but for now, let’s break down each of the four elements in the VRIO framework.
How valuable is the resource?
A resource is considered valuable if it enables the company with some sort of benefit. An opportunity to exploit. It might also be that the resource is able the increase the perceived customer value in the market by either increasing the willingness to pay or by reducing cost.
A valuable resource might be something like your Research & Development team. They allow you to constantly innovate, so you don’t fall behind the competition.
How rare is the resource?
A resource that is uncommon and can only be acquired by one or a few companies is seen as rare. Think about Google. They have the most used search engine in the world and that scale is rare and difficult for competitors to beat.
Is the resource difficult to imitate?
If the competitors cannot just directly duplicate the resource, substitute it with a comparable product/service or buy it, a resource is costly to imitate. Think about Coca Cola. The famous Coca Cola recipe is secret and therefore difficult to imitate – even if competitors have made similar tastes, they cannot say that they are using the actual Coca Cola recipe.
There are a number of reasons why resources can be hard to imitate. Barney emphasizes three:
Historical conditions: Resources developed over long periods of time are hard to imitate, e.g. if the company was a first-mover.
Casual ambiguity: If the competitors cannot determine, what is leading to competitive advantage.
Social complexity: Resources and capabilities, which originate from the organizational culture, e.g. a specific company culture that has been developed over time.
A resource may also be hard for an organization to imitate if it's protected by legal means, such as patents or trademarks. And remember that efficiency is not a sustainable source of advantage, as every company can be efficient.
Is the company organized to exploit the resource?
A resource on its own can be useless if it’s not organized in a way that creates value. And a resource can only create value if it’s supported by the processes, organizational structures or culture of the company.
Again if we take Coca Cola as an example, their secret recipe is valuable, rare and hard to imitate for competitors, providing them with a competitive advantage, and the company is organized in a way that allows them to take advantage of it: The recipe is a closely guarded secret and Coca Cola advertise around the fact that they have their own unique and secret recipe.
Types of competitive advantage in the industry
With these clarifications, we can put a resource into the framework to determine what type of advantage it can lead to.
Competitive disadvantage: Starting off, if you are unable to find any resources that are valuable (or able to add value) within the company, you are at a competitive disadvantage. Not having valuable resources and capabilities will eventually hurt the company, as they are essential for staying in the market. An ever-changing internal environment could be a determining factor, as they make resources less valuable.
Competitive parity: If your resource is valuable, but also very common, it is likely that competitors already have access to this resource or will be able to acquire it easily. This makes competing in the marketplace harder. The situation is referred to as competitive parity, wherein the companies use identical resources to implement the same strategies, without anyone being superior in performance. This is not a desired position for the organization, but resources that are valuable but common should, nonetheless, not be undermined.
Temporary competitive advantage: If your resource is valuable and rare, but easy to copy for competitors, you find yourself in a situation where you have a temporary competitive advantage. This advantage is usually short-lived, as competitors will quickly identify it and imitate the resource without too much trouble. E.g. having a highly specialized engineer team might be both a valuable and rare resource, but it is not sustainable, as competitors can offer the employees a higher paygrade, removing the sense of advantage.
Unused competitive advantage: If you have ticked all the boxes until now and your answer is no, then you possess a resource that is valuable, rare and inimitable, but your company isn’t yet organized to realize it’s potential. Having an unused competitive advantage is, therefore, a good thing, as you just need to exploit its potential within your organization. Think of it as the integration between what the resource can do and how you handle it. E.g. having a rare and valuable player like Messi (who is undoubtedly hard to imitate) on your football team might generate competitive advantage in the short term, but it is the system in which he plays that makes it sustainable, as it is harder for competitors to deal with.
Sustainable competitive advantage: Having a resource that is both valuable, rare, hard to imitate as well as being exploited by the right organization can achieve sustained competitive advantage.
Nike’s source of sustainable competitive advantage
To give you an example, let’s take one of Nike’s sources of sustained competitive advantage in the market – their strong brand – and compare it to another of their resources: Their partnership with athletes.
Starting with the brand, it’s valuable, because it can be used to drive revenue directly. You can’t really copy Nike’s patents, which makes it very rare too. It’s also very costly to imitate, as it would cost billions of dollars in advertising over many, many years for a new and competing brand to build up the same brand equity as Nike has. The organization is also structured around this resource so that it can be a continued source of competitive advantage.
On the other hand, the company’s partnership with athletes is a very powerful advantage, but it is just not as sustainable in the long term as the brand, because it can be imitated by competitors.
How to use the VRIO framework
Now you have the tools to work with the framework, but how exactly are you to identify the resources that can lead to competitive advantage? Use the following questions.
Ask these questions to find valuable resources:
Does your company perform any tasks better than your competitors?
Has your company been recognized as the best in something? (Most innovative, best employer, highest customer retention or best exporter etc.)
Does your company have employees with unique skills and capabilities?
Does your company have a strong brand reputation?
What activities lowers your cost of production without decreasing the perceived customer value?
Which activities increase product differentiation and perceived customer value?
Ask these questions to find rare resources:
Could the resource be easily bought by your rivals and/or are they able to obtain it in the near future?
How many other companies own your resource or can perform capability in the same way in your industry?
Ask these questions to find resources that are costly to imitate:
Can other companies easily duplicate your resource?
Can they easily develop a substitute resource?
Is it patent protected?
Is it hard to find out the processes or other factors that form the resource?
Ask these questions to discover if your company is organized to exploit the resources:
Is your organizational structure designed to use a resource?
Does your company’s culture reward innovative ideas?
Do you have effective motivation and reward systems in place?
Do you have excellent management and control systems?
You have identified your resources, now what?
When you have located a resource that surpasses the four elements of VRIO and you have the right organizational structure to support that resource, you should focus on protecting it. Be sure to always think about how you can make it even more costly to imitate, as it will make the rare for much longer.
To my earlier point, find out how the resource can be used to either lower costs (Cost Leadership Strategy) or increase the willingness to buy your products or services in the market (Differentiation Strategy).
VRIO is an ongoing process and you should treat it accordingly. So make sure to involve top management and think of the long-run implications of constantly reviewing the value of your resources.
Disadvantages of the VRIO framework
Every model has its downsides, and you should be aware of these when working with it. For one, the framework can be difficult to apply on smaller companies or startups as they might not yet have enough resources and capabilities to be able to identify any competitive advantage.
Also, you should remember that the model doesn’t consider factors such as how demand in the marketplace is constantly shifting. Some resources might become obsolete, for instance, if human capital is outsourced to robotics.
Finally, we must take into consideration that the world is changing all the time, so you could question whether we can ever achieve a truly sustainable competitive advantage? With the VRIO framework, the best we can do is to give an insight into the foreseeable future – you cannot say that an advantage is forever.
I hope this walkthrough of the VRIO framework – and the understanding of the value that it can bring to organizations – found you well.
If you are into the topic of competitive strategy, check out my post on the role of strategy in business. You might also like the post on how to work with strategic insights.