Internal analysis internal diagnosis – definition

 “Internal analysis is the process by which the strategists examine the

firm’s marketing and distribution, research and development,
production and operations, corporate resources and personnel, finance
and accounting factors to determine where the firm has significant
strengths and weaknesses.
Internal diagnosis is the process by which strategists determine how to
exploit the opportunities and meet the threats the environment is
presenting by using strength and repairing weakness in order to build
sustainable competitive advantage.
Internal analysis
• Internal analysis is the process of reviewing organizational resources
(resource audit), scanning organizational activities and linking them with
creation of value to the organization (value chain analysis) and
identifying the unique strengths and capabilities (core competences).
As is obvious from the above words, that the internal analysis involves
three steps as shown in Figure 7-1:
1. Resource Audit.
2. Value Chain Analysis
3. Core-competence Identification. 
1.Resource audit -

This audit reviews the resources of an organization for the purpose of assessing the inherent
strengths of those resources. Resources include physical, financial, human and intangible assets of
an organization,
a Resource is an asset, competency, process, skill or knowledge controlled by an organization”. It
can be a positive strength if competitors do not possess it or negative when a firm has lesser
strength than competitors”.
 
Physical Resources The physical resources include plant and machinery, land and building,
vehicles, stock, etc. Their numbers and book values are not as important as their expected
benefits are. Therefore an assessment is made in terms of their potential benefits by examining
their age, condition, location, capabilities, etc.
Financial Resources - Financial resources include cash, bank, debtors, marketable securities, etc. In
assessing the financial resources, the various sources of finance like equity shares, retained
earnings, long – term and short term loans are considered. Their cost of capital, availability and
their effect on the overall liquidity and solvency of the firm is examined.
Human resources
• Human resources are the most valuable assets of the
organization, especially in the present business scenarios – where
we find people competing than corporations. Traditionally top
management were grand strategists, junior managers were
implementers and middle managers the administrators of the
strategy. Now the trend has been changed. Top managers are
creators of vision for the organization and expect others to
deliver. Therefore emphasis has shifted from ‘strategy, structure
and systems’ model towards ‘purpose, process and people’
model.
Intangible assets
• Intangible Assets In the contemporary business world, organizations
stress on building intangible assets such as brand, customer
relationship, etc. Why so? Earlier capital, technology etc., were scarce
and were difficult to obtain. Therefore, they were considered as
competitive advantage. Now they are available and tradable.
Something is of competitive advantage is to be hence created. It
should be not openly available; not easily leverageable across
businesses and not easily substitutable. Intangible assets meet all the
three requirements, for example employee commitment or
relationships are difficult to imitate.”
Approaches for internal analysis

•Approaches for internal analysis

We will now consider the three approaches to internal analysis

 
•1. VRIO framework
•2. Grant’s approach
•3. Continuum of sustainability
A.VRIO: from firm resources to competitive advantage

• The VRIO Framework or VRIO Model is part of the Resource-Based View (RBV), which is a perspective that

examines the link between a company’s internal characteristics and its performance. RBV is therefore

complementary to the Industrial Organization (I/O) perspectives that look more at external factors such as

competitiveness in order to determine performance and profit potential .The supporters of RBV argue that

organizations should look inside the company to find the sources of competitive advantage instead of looking at

the competitive environment. The key concepts within this view are therefore Firm Resources and Sustainable

Competitive Advantage.

• Firm resources can be defined as ‘all assets, capabilities, organizational processes, firm attributes, information and

knowledge controlled by a firm that enables it to improve its efficiency and effectiveness’.

• Resources are often classified into categories such as tangible (e.g. equipment, machinery, land, buildings and cash)

and intangible (e.g. trademarks, brand reputation, patents and licenses) or physical, human and organizational

resources. In order for companies to transform these resources into sustainable competitive advantage, resources

must have four attributes that can be summarized into the VRIO framework.
1.VALUABLE (VRIO)

• First and foremost resources must be valuable. According to the RBV, resources are seen as

valuable when they enable a firm to implement strategies that improve a firm’s efficiency

and effectiveness by exploiting opportunities or by mitigating threats. Another way to

assess whether a resource or investment is valuable is by looking at its Net present value

(NPV), meaning that the costs invested in the resource should be lower than the expected

future cash flows discounted back in time. If non of the resources possessed by a firm are

considered valuable, the focal firm is likely to have a competitive disadvantage.

2.RARE (VRIO)

• Secondly, resources must be rare. Resources that can only be acquired by one or

few companies are considered to be rare. If a certain valuable resource is possessed

by a large amount of players in the industry, each of the players has a capability

to exploit the resource in the same way, thereby implementing a common strategy

that gives non of the players a competitive advantage. Such a situation is indicated

as competitive parity or competitive equality. In case a company does possess a

large amount of resources that are valuable and rare, it is likely to have at least

temporary competitive advantage

3.INIMITABLE (VRIO)

• Although valuable and rare resources may help companies to engage in

strategies that other firms cannot pursue since the other firms lack the
relevant resources, it is no guarantee for long-term competitive advantage.
It may give the focal company a first-mover advantage but competitors
will probably try to imitate these resources. Another criteria that resources
should meet is therefore that they should be hard and costly to imitate or
substitute
4.ORGANIZATION-WIDE SUPPORTED (VRIO)

• The resources themself do not create any advantage for a company if the company
is not organized in way to adequately exploit these resources and capture the value
from them. The focal company therefore needs the capability to assemble and
coordinate resources effectively. Examples of these organizational components
include a company’s formal reporting structure, strategic planning and budgeting
systems, management control systems and compensation policies. Without the
correct organization to acquire, use and monitor the resources involved, even
companies with valuable, rare and imperfectly imitable resources will not be able
to create a sustainable competitive advantage.
• When all four resource attributes are present, a company is safe to assume it has a
distinctive competence that can be used as source of sustainable competitive
advantage. Below is a diagrom that sums up the four VRIO attributes and the
resulting advantages the company has in different situations
VRIO FRAMEWORK- The framework help raise the following
questions.

1.VALUE: Does it 2.RARENESS: Do

provide other  
competitive competitors posses
advantage? it?

4.ORGANISATION:
3.IMITABILITY: Is Is the firm
it costly for others organized to
to imitate? exploit the
resource? 
B.Value chain analysis
The resources audit provides an understanding of an organization’s
capabilities. The next step is to identify how the organizational
activities contribute to the value - the price the customers are
willing to pay for the goods and services of the organization. If this
value exceeds the costs of performing those activities, company is
said to be profitable, otherwise it is a loss making company.
Therefore to achieve the long run objective of maximization of
wealth and short –run goals of generating reasonable profits, it is
imperative that the company should gain a competitive edge over
its competitors.
• 
“To gain a competitive advantage, a company must either
perform value – create functions at a lower cost than its
rivals or perform them in a way that leads to differentiation
and a premium price. To do either, it must have a distinctive
competence in one or more of its value – creation functions.
If it has significant weaknesses in any of these functions, it
will be at a competitive disadvantage”
Michael porter concept of “value – chain”
• Michael Porter suggested the
concept of “value – chain” that
sequences the activities related with
creation of value (figure 7-3). These
activities can be divided between:
1.Primary activities
2.Support activities.
Value chain analysis: an internal assessment of competitive advantage

• A company is in essence a collection of activities that are performed to design,

produce, market, deliver and support its product (or service). Its goal is to
produce the products in such a way that they have a greater value (to customers)
than the original cost of creating these products. The added value can be
considered the profits and is often indicated as ‘margin’.
• A systematic way of examining all of these internal activities and how they
interact is necessary when analyzing the sources of competitive advantage. A
company gains competitive advantage by performing strategically important
activities more cheaply or better than its competitors. Michael Porter’s value chain
helps disaggregate a company into its strategically relevant activities, thereby
creating a clear overview of the internal organization. Based on this overview
managers are better able to assess where true value is created and where
improvements can be made
1.Primary activities

• The first are primary activities which include the five main activities. All
five activities are directly involved in the production and selling of the
actual product. They cover the physical creation of the product, its sales,
transfer to the buyer as well as after sale assistance. The five primary
activities are: 1.inbound 2.logistics, 3.operations, 4.outbound logistics,
5.marketing & sales and service. Even though the importance of each
category may vary from industry to industry, all of these activities will
be present to some degree in each organization and play at least some
role in competitive advantage
a-Inbound Logistics
• Inbound logistics is where purchased inputs such as raw materials are
often taken care of. Because of this function, it is also in contact with
external companies such as suppliers. The activities associated with
inbound logistics are receiving, storing and disseminating inputs to the
product. Examples: material handling, warehousing, inventory control,
vehicle scheduling and returns to suppliers
 b.Operations

• Once the required materials have been collected internally,

operations can convert the inputs in the desired product. This
phase is typically where the factory conveyor belts are being
used. The activities associated with operations are therefore
transforming inputs into the final product form. Examples:
machining, packaging, assembly, equipment maintenance,
testing, printing and facility operations.
c.Outbound Logistics
• After the final product is finished it still needs to find its way to
the customer. Depending on how lean the company is, the product
can be shipped right away or has to be stored for a while. The
activities associated with outbound logistics are collecting, storing
and physically distributing the product to buyers. Examples:
finished goods warehousing, material handling, delivery vehicle
operations, order processing and scheduling
d.Marketing & Sales
• The fact that products are produced doesn’t automatically mean that there
are people willing to purchase them. This is where marketing and sales
come into place. It is the job of marketeers and sales agents to make sure
that potential customers are aware of the product and are seriously
considering purchasing them. Activities associated with marketing and sales
are therefore to provide a means by which buyers can purchase the
product and induce them to do so. Examples: advertising, promotion, sales
force, quoting, channel selection, channel relations and pricing. A good tool
to structure the entire marketing process is the marketing funnel.
e.Service

• In today’s economy, after-sales service is just as important as

promotional activities. Complaints from unsatisfied customers are easily
spread and shared due to the internet and the consequences on your
company’s reputation might be vast. It is therefore important to have
the right customer service practices in place. The activities associated
with this part of the value chain are providing service to enhance or
maintain the value of the product after it has been sold and delivered.
Examples: installation, repair, training, parts supply and product
adjustment.
In summary- primary activities

• 
primary activities can be summarized as follows:
a. Inbound logistics (activities concerned with receiving, storing and
distributing the material, inventory control, warehousing, etc.)
b. Operations (activities concerned with transformation of inputs into
final product or service: for example, matching, packing, assembly testing
etc.) 
c. Outbound logistics (activities concerned with collection, storage and
physical distribution of finished goods to the consumers)
d. Marketing and sales (activities concerned with advertising, selling,
administration of sales personnel, etc.)
e. Service (activities that enhance or maintain the value of a product /
service, such as installation, repair, training, etc.)
2.Support activities
• The second category is support activities. They go across the primary activities
and aim to coordinate and support their functions as best as possible with
each other by providing purchased inputs, technology, human resources and
various firm wide managing functions. The support activities can therefore be
divided into procurement, technology development (R&D), human resource
management and firm infrastructure. The dotted lines reflect the fact that
procurement, technology development and human resource management can
be associated with specific primary activities as well as support the entire
value chain.
a.Procurement

• Procurement refers to the function of purchasing inputs used in the firm’s

value chain, not the purchased inputs themselves. Purchased inputs are
needed for every value activity, including support activities. Purchased
inputs include raw materials, supplies and other consumable items as well
as assets such as machinery, laboratory equipment, office equipment and
buildings. Procurement is therefore needed to assist multiple value chain
activities, not just inbound logistics
b.Technology development (R&D)

• Every value activity embodies technology, be it know how, procedures or

technology embodied in process equipment. The array of technology used in
most companies is very broad. Technology development activities can be
grouped into efforts to improve the product and the process. Examples are
telecommunication technology, accounting automation software, product
design research and customer servicing procedures.
c.Human resource management

• HRM consists of activities involved in the recruiting, hiring (and firing),

training, development and compensation of all types of personnel. HRM
affects the competitive advantage in any firm through its role in
determining the skills and motivation of employees and the cost of hiring
and training them. Some companies (especially in the technological and
advisory service industry) rely so much on talented employees, that they
have devoted an entire Talent Management department within HRM to
recruit and train the best of the best university graduates.
d.Firm infrastructure

• Firm infrastructure consists of a number of activities including general

(strategic) management, planning, finance, accounting, legal, government
affairs and quality management. Infrastructure usually supports the entire
value chain, and not individual activities. In accounting, many firm
infrastructure activities are often collectively indicated as ‘overhead’ costs.
However, these activities shouldn’t be underestimated since they could be
one of the most powerful sources of competitive advantage. After all,
strategic management is often the starting point from which all smaller
decisions in the firm are being based on. The wrong strategy will make it
extra hard for people on the work floor to perform well.
Linkages within the value chain

• Although value activities are the building blocks of competitive advantage, the value
chain is not a collection of independent activities. Rather, it is a system of
interdependent activities that are related by linkages within the value chain. Decisions
made in one value activity (e.g. procurement) may affect another value activity (e.g.
operations). Since procurement has the responsibility over the quality of the purchased
inputs, it will probably affect the production costs (operations), inspections costs
(operations) and eventually even the product quality. In addition, a good working
automated phone menu for customers (technology development) will allow customers
to reach the right support assistant faster (service). Clear communication between and
coordination across value chain activities are therefore just as important as the
activities itself. Consequently, a company also needs to optimize these linkages in order
to achieve competitive advantage. Unfortunately these linkages are often very subtle
and go unrecognized by the management thereby missing out on great improvement
opportunities.
Linkages within the value chain
Value chain analysis in sum
• In the end, Porter’s Value Chain is a great framework to examine the
internal organization. It allows a more structured approach of assessing
where in the organization true value is created and where costs can be
reduced in order to boost the margins. It also allows to improve
communication between departments. Combining the Value Chain with the
VRIO Framework is a good starting point for an internal analysis. In case
you are interested in the entire supply chain, you could repeat the process
by adding the value chains of your company’s suppliers and buyers and
place them in front and behind your own company’s value chain.
3.Core competence identification - internal analysis

After identifying the resources and relating them to strategic purpose

through value chain analysis, the next step is identification of company’s
core competence.
The core competence refers to unique strength of the company that
competitors cannot easily match or imitate.
 

Core- competence can also be defined as a bundle of skills and

technologies that enables a company to provide a particular benefit to
customers.
Following are the examples of core-competence at global
level:
According to C.K. Prahalad and gary hamel,

 
“The diversified corporation is a large tree. The trunk and major limbs are
core products, the smaller branches are business units; the leaves, flowers
and fruit are end products. The root system that provides nourishment,
sustenance, and stability is the core competence. You can miss the strength of
competition by looking only at their end products in the same way you miss
the strength of a tree if you look only at its leaves.”
Core competence provides strategic advantage to the company. In the short

run, a company can achieve competitiveness from its price / Performance

attributes; but in the long run core competence will provide profitability.

With its core – competence, company can produce at lower cost and more

speedily than competitors and can differentiate. Thus the real strategic

advantage to a company comes from its core competence. Thus core-

competence is the bedrock of a company’s strategy.

Features of core competence

Core competence exhibits the following features:

1. Core competence does not reside in one particular product or business unit. It underlies
leadership in a range of products or services. “Core competencies transcend any single
business unit within the corporation. Core competences are also longer lasting than any
individual product or service.” Sony’s miniaturization competence is not only confined to
walkman, but also other products like portable CD player, pocket television, etc.
2. As Core – competence contributes to competitiveness as winning or losing the battle for
leadership is highly dependent upon it. “If Motorola lost its leadership position in wireless
competencies, a broad spectrum of business would suffer including pagers, two – way mobile
radios and cellular telephones.”
3. A Core – competence is not a single discrete skill or technology, rather a bundle of skills
and technologies. Thus a core competence “represents the sum of learning across individual
skill sets and individual organizational units unlikely to reside in its entirety in a single
individual or small team.” This Core-competence has to be nurtured through collective
learning of the team members.