Competitive advantage in SMEs: towards a conceptual framework

Tags: competitive advantage, competitiveness, firms, influence, government, competitive strategy, Oxford, learning, owner-managers, Journal of Small Business Management, Economic Development Administration., Journal of Business Entrepreneurship, International Journal of Bank Marketing, Journal of Marketing Management, Academy of Management Review, market performance, existing products, SMEs, supply chain management, professional managers, human resource management, Michael Porter, Long Range Planning, Innovation Management, subjective factors, Journal of Service Marketing, Competitiveness Research, organisational learning, managerial services, tacit knowledge, managerial skills, dynamic capabilities, product innovation, service sectors, entrepreneurial firms, competitive strategies, factors, successful innovation, absorptive capacity, Entrepreneurs need, managerial processes, International Small Business Journal, Strategic Management Journal, business environment, firm, organisational capabilities, capabilities, Organisational innovation, International Journal of Business Performance Management
Content: Chapter 2 competitive advantage in SMEs Towards a Conceptual Framework In O. Jones and F. Tilley Competitive Advantage in SMEs Organising for Innovation and Entrepreneurship
Competitive Advantage in SMEs Towards a Conceptual Framework Introduction This book is concerned with ways in which small and medium-sized enterprises (SMEs) create and sustain competitive advantage. All contributors have had considerable experience of working directly with SMEs and therefore have detailed insights into the strengths and weaknesses of such companies. The editors have drawn on that knowledge to help provide a better understanding of why competitive advantage is important to smaller firms as well improving understanding of mechanisms by which owner-managers can improve the performance of their firms. At the same time, this is not a practitioner-oriented `how-to-do' book but rather it represents an attempt to reconceptualise some of the key factors, such as human resource management and innovation management, which contribute to the competitiveness of any organisation. The basic thesis which underpins this book is that many `large firm' concepts such as HRM, strategic management and supply chain management are directly relevant to owner/managers trying to improve their firms' competitiveness. Although, as discussed below, the nature of strategic management or supply chain management will be very different in SMEs than in large, well-resourced companies. Equally, SMEs are not homogeneous and differences between owner-managed small firms with 10 or 20 employees and medium-sized, limited companies with 230/240 employees will be greater than differences between the latter and large, multi-divisional organisations. Those companies at the upper-end of the sizeband (249) will tend to have adopted U-form (unitary) structures with professional managers in each of the key functional areas, be accountable to a board of directors and ultimately to shareholders. Therefore, it would be wildly ambitious to claim that this book can answer all the questions about how to improve management practices
in SMEs. Rather, concepts outlined in the chapters of this book are appropriate to a wide range of smaller firms although the way in which ideas are implemented will be contingent on a range of factors including the skill, knowledge and motivation of the owner-manager and his/her workforce as well as the competitive environment in which firms are actually operating. There are likely to be substantial differences between small and large firms in terms of what competitive advantage actually means. According to Fletcher (2000) 75% of SMEs are owner-managed and therefore not under pressure from shareholders to increase profit and turnover. At the same time, it is widely acknowledged that one of the key reasons for lowlevels of UK productivity is the `long-tail' of badly-managed and under-performing small firms. Our starting point is that the competitiveness of these firms can be improved by managerial recognition of the need for higher-quality products and services. In other words, improved competitive advantage for owner-managed firms need not necessarily be linked to increases in profits or turnover but rather focus on supplying better value to customers. The essence of our argument is that owner-managers of SMEs have to create an environment which encourages both individual and organisational learning. As pointed out by Gibb (1997) perhaps the most original definition of the learning organisation is that of Senge (1990): `A learning organisation is a place where people are continually discovering how they create their reality. And how they can change it.' Gibb (1997:17) then goes on to say that this definition fits `with the currently popular concept that the root cause of competitive advantage is a company's relative ability to learn'.This is a view shared by the editors of this book because it seems unlikely that competitive advantage can be created or sustained in the longer term without commitment to learning across the organisation. 2
Competitive Advantage in SMEs The work of Michael Porter is the starting point for any discussion of the term competitive advantage. As he himself points out (Porter, 1985:xvi) the idea of competitive advantage, directly or indirectly, underpins many business books. Managers in all types of organisations are under increasing pressure to control costs, as well as seeking to differentiate products and services from those of their competitors. Furthermore, Porter (1985:33) argues: `Competitive advantage.... stems from the many discrete activities a firm performs in designing, producing, marketing, delivering, and supporting its product. Each of these activities can contribute to a firm's relative cost position and create a basis for differentiation.' The basic tool for understanding links between various activities within the firm and their contribution to competitive advantage is the Value Chain. The value chain provides a systematic way of `disaggregating' the firm into its relevant units so that managers are better able to understand the nature of costs and potential sources of differentiation. Porter, like most other writers on corporate strategy, concentrates his attention on large, multi-divisional firms rather than SMEs. A key distinction between the organizations which are the focus of this book and those which gurus such as Porter write about is that smaller firms are unlikely to have a sophisticated divisionalised structures. In many SMEs either one individual or a very small team are responsible for the whole range of functional activities. Clearly this has advantages and disadvantages as far as managers are concerned. The advantages are that issues of coordination should be less of a problem in SMEs because regular face-to-face interaction provides many opportunities for communication between members of the management team. The disadvantages are that because such firms lack managerial resources and functional specialists many activities are poorly managed (Buratti and Penco, 2001). 3
Penrose (1959), Ansoff, (1965) and Andrews (1971) all used the concept of competitive advantage prior to Porter. In fact, Klein (2001) argues that the term did not appear in Porter's work until 1985.Other authors, Barney (1986), Caves (1984), Day (1984) and Spence (1984), also used the term around the same time as Porter (see Flint, 2000). Klein (2001) suggests that Porter's attempts define `competitive advantage' are tautological because the concept is simply equated with a `firm's performance in competitive markets' (Porter, 1985:xv). In fact, none of the definitions discussed by Flint (2000) appear to add much to our understanding of competitive advantage. According to Knights and Morgan (1991) although rational managerialists such as Porter and Ansoff have tried to legitimate corporate strategy more critical writers have `challenged the orthodoxy' (Mintzberg (1978); Mintzberg and Waters (1985); Pettigrew, 1987; 1988). These authors all regard corporate strategy as a political process which is socially constructed rather than an unproblematic aid to rational decisionmaking. In essence, Knights and Morgan(1990) see strategy as a `discourse of power' which does little more than legitimate hierarchical social relationships. Jones and Tang (1996) analysed two `mid-corporate' manufacturing companies using Whittington's (1993) four conceptions of strategy: Classical (rational), Evolutionary (fatalistic), Processual (pragmatic) and Systemic (relativistic). Whittington's model is based on two dimensions: the outcomes of strategy (profit-maximising versus pluralistic) and the process of strategy formulation (deliberate versus emergent). It was found that strategymaking in the two companies most closely followed the pattern described by Whittington as `systemic'. Systemic strategy retains the classical school's (Ansoff, 1965; Porter, 1980; 1985) 4
faith in the ability of senior managers to analyse the environment and plan effective responses. But systemic theory is based on a rejection of profit-maximising because social networks weaken the possibility of rational economic behaviour. Economic activity is embedded in a complex network of social relations including: family, state, educational and professional background, religion, gender and ethnicity (Granovetter, 1985). Strategy is not restricted by cognitive bounded rationality but by the cultural rules of local society. `the systemic perspective challenges the universality of any single model of strategy. The objectives of the strategy and the modes of strategy-making depend on the strategists' social characteristics and the social context in which they operate' (Whittington, 1993:38). Some industrial economists have focused on competitive advantage in smaller firms especially in North America (Audretsch, 2001). Fiegenbaum and Karmani's (1991) analysis of secondary data confirmed output flexibility as a viable source of competitive advantage for smaller firms in industries typified by large fluctuations in demand and low-levels of profitability. A questionnaire survey of CEOs in 445 Quebec-based SMEs (200 or less employees) was used to investigate links between innovativeness and competitiveness (Lefebvre and Lefebvre, 1993). Using principle components analysis the authors identified three competitiveness factors: quality, diversity and cost which accounted for 72.9% of total explained variance. These results are `consistent with dimensions that have previously been identified as important to the competitiveness of the smaller manufacturing firms (Lefebvre and Lefebvre, 1993:300). The authors then identified three groups of firms: `worst', `niche' and `best' based on mean values for each of the three competitiveness dimensions. Hence, firms in the `worst' category appeared to have no identifiable strategy because they `lagged' on all three dimensions (Lefebvre and Lefebvre, 1993:301). The second group focused on quality and diversity with high prices while the third group combined quality and diversity with relatively low-cost products. Furthermore, this hierarchy was confirmed by the financial 5
performance of each group. The results for innovation were similar in that the `worst' group made little effort on either R&D or patents while the `best' firms scored highest `which may explain why they can maintain low costs and high product diversity (Lefebvre and Lefebvre, 1993:303). In the UK, Reid et al (1993) use competitive strategy (Porter, 1980) and competitive advantage (Porter, 1985) to investigate the activities of small firms. The detailed fieldwork over a three-year period was based on structured interviews of owner-managers in 73 Scottish SMEs. According to the authors strategy in small firms should be based on Porter's (1980) five forces which are `the essential determinants of industry structure' (Reid et al, 1993:121). Despite an extremely detailed analysis of extensive data there is little real insight into the way in which the owner-managers of small firms create competitive advantage. Man and Chan (2002) argue that competitiveness is concerned with factors that contribute to firms being competitive as well as with ways in which it can be achieved. According to Oral (1986) competitiveness is a function of a firm's industry mastery, its cost superiority and the broader political-economic environment. To illustrate the multidimensional nature of competitiveness Man and Chan (2002) draw on the work of Buckley et al (1988) and the World Competitiveness Report (IMDWEF, 1993). Buckley et al (1988) posit three measures of competitiveness: competitive performance, competitive potential and management processes. Within the small firm context it is more appropriate to discuss entrepreneurial processes rather than management processes. The approach adopted by Man and Chan (2002) is to emphasise the dynamic nature of competitiveness by focusing on the entrepreneur's behaviours and actions. By examining a wide range of literature associated with competitiveness the authors identify six competency areas which are briefly described in 6
Table 1. Table 1 Here In developing a conceptual model of SME competitiveness (Figure 1) the authors argue that these six `entrepreneurial competencies' comprise the process dimension. Task 1 involves the entrepreneur establishing the firm's competitive scope by scanning a range of external factors which include market heterogeneity, technological sophistication, market attractiveness, product/industry life cycle, market demand and competitive concentration. In carrying out Task 2, the entrepreneur focuses attention on the firm's internal capabilities which include: innovation, quality, cost effectiveness and organicity (creating flexible organization structures and systems). Finally, Task 3 involves the entrepreneur setting goals for firm performance by ensuring that there are effective linkages between the external environment and the firm's internal competencies. Competitiveness is the means by which entrepreneurs can improve their firms' performance (Herron and Robinson, 1993; Hofer and Sandberg, 1987; Horne et al, 1992)which can be measured according to a number of dimensions including market share, profit, growth and duration. At the same time Man and Chan (2002:130) stress the importance of links between competitiveness and performance as having a long-term rather than a short-term orientation. The authors conclude by acknowledging that their theoretical framework is complex and therefore difficult to operationalise but is `higher level and closer to performance' than lower level variables such as the entrepreneur's age, education, experience and background. Equally, the framework has broader implications for supporting SMEs: `A policy implication is that developing competent entrepreneurs in the longterm seems to be a more important issue than directly providing them with more resources or a positive environment' (Man and Chan, 2002: 138). Figure 1 Here 7
Resource-based theories of strategy (Grant, 1998; Foss, 1997) have become increasing influential in recent years and most writers take their inspiration from the work of Penrose (see Lubit, 2001; Rangone, 1999; West and DeCastro, 2001). Generally, as firms grow new managerial services are created through the acquisition of personnel and by the redistribution of existing employees. Increasing experience gained across the firm shows in changes in knowledge and in the ability to use that knowledge (Penrose, 1995; Bamberger, 1989; Chaston and Mangles, 1997; Chawla et al, 1997; O'Farrell et al, 1992). A recent study of SMEs in the Netherlands adopted a resource-based approach to identify the source of competitive advantage in a sample of 63 firms representing manufacturing and service sectors (Cobbenhagen, 2000). As this work is discussed in greater detail elsewhere (Innovation chapter) a brief summary of the findings is provided here. According to Cobbenhagen (2000) `front runners' were distinguished from `pack members' by the way in which they combined three sets of competencies: market, technological and organizational. Elements of these three competencies included: market focus and customer links (market), R&D expenditure and absorptive capacity (technological), multi-disciplinary project teams and timing of company policy (organisational) (Cobbenhagen, 2000:244). Resource-based theory, particularly the work of Kay (1993), also influences Wickham's (2001) analysis of competitive advantage in entrepreneurial firms. Four points of `strategic contact', costs, knowledge, relationships and structure, are central to the creation of competitive advantage (Table 2). Table 2 Here It has been increasingly recognised that the competitiveness of small firms is strongly influenced by the extent of inter-firm collaboration (Rosenfeld, 1996). Links with other organisations are important for SMEs because of increased opportunities for external economies of scale, greater market strength and a wider ability to exploit new opportunities. 8
Networks in which three or more SMEs join together to co-produce, co-market, co-purchase or co-operate in new product development are defined as `hard' while `softer' linkages involve the sharing of information or acquisition of new skills. Rosenfeld (1996) goes on to argue that the economic regeneration of northern Italy was the catalyst for interest in the way in which inter-firm collaboration influences the competitiveness of small firms (see Pyke et al, 1990). Others such as Bagchi-Sen (2001) claim that research interest in SMEs increased as a result of the influential work of Birch (1979;1987) who claimed that that such organisations were primarily responsible for the creation of new jobs. Bagchi-Sen (2001) carried out a questionnaire survey of 54 mature SMEs (response rate 24%)in the Niagra region of Canada. The research was designed to investigate two factors: first, the relationship between innovation and business performance and, secondly, the association between competitive strategy and product innovation. Firms were classified as either `high' or `low' innovators according to the number of new or revised products introduced in the previous five year period. It was found that innovators performed `better in terms of sales and exports' and that there were direct links between increased R&D expenditure and `innovativeness' in terms of the introduction of new products and in higher levels of export intensity (BagchiSen, 2001: 48/9). In terms of their respective competitive strategies both low and high innovators regarded process improvements as very important. However, `non-price' factors such as quality, specialisation, speed of delivery and after-sales' were regarded as much more important in terms of improved competitiveness by innovators in comparison to noninnovators who tended to concentrate on low-price/cost leadership strategies (Bagchi-Sen, 2001:50). High innovators also placed far more emphasis on a wide range of network linkages to access services such as market research, advertising, software, legal, banking, insurance as well as technical support. 9
According to Gadenne (1998) most studies of `success' in small firms concentrate on single factors such as `marketing strategies' (Bharadwaj and Menon, 1993), `management competence' (Martin and Staines, 1994) or `good management practice' (Yusuf, 1995). While some authors (Keats and Bracker,1988; Cragg and King, 1988) have tried to conceptualise the factors which influence small firm performance Gadenne suggests that it is important to investigate the way in which different types of factors interact to help create competitive advantage. In a questionnaire survey of 1500 small firms (response rate 24.7%) in Queensland (Australia) Gadenne (1998:39) used return on investment (ROI) as the measure of success as `this more accurately reflects the efficiency with which resources have been allocated'. Principal components analysis was used to select the factors which had most influence (statistically significant at 5% level) on ROI in three different sectors, retail, service and manufacturing (Table 3). Table 3 Here In all three sectors, financial leverage (use of external funds and search for cheaper finance) were negatively related to ROI. This, according to Gadenne (1998:42) indicates that firms which rely on large amounts of external finance (high levels of gearing) perform worse in the shorter term than those which generate funds internally. That other factors, such as innovation, business growth, customer service and marketing were not common, was related to different competitive environments across the three sectors (see Reid et al, 1993). Gadenne also examined links between the personal characteristics and objectives of owner-managers and business success. The `surprising' result was that `personal characteristics' had no influence on firm success which apparently contradicts earlier research (Chell, 2001; Chell et al, 1991). This lack of accord is explained by the fact that previous studies were `invariably' based on univariate links between individual characteristics and firm success. Furthermore, 10
`enterprise objectives' were only found to be related to success in those firms operating in service industries. Gadenne (1998:48) summarises his findings in the following manner: `The fact that there was a common success factor (financial leverage) for all three industry groups, indicates that small enterprises in general tend to be more successful if there are sufficient financial resources either contributed by the owner or generated through profits and cash flows from operations'. Variation across sectors (Table 3) indicates the importance of avoiding simplistic solutions which are intended to improve competitive advantage in any SME regardless of size or industry. In addition, Gadenne's work helps shift the focus of attention from the ownermanager's characteristics to the importance of wider managerial practices within the organisation. It is noted by Jennings and Beaver (1997) that independence may be a more important measure of success for owner-managers of small businesses than financial criteria such as growth in sales, profits and cash-flow or by the number of jobs created. Additionally, management processes in such firms `bears little or no resemblance to management processes found in larger firms' (Jennings and Beaver, 1997:64). In large firms, strategic decisionmaking shapes competitive advantage through policies designed to emphasise Porter's distinction between cost, focus or differentiation. But in smaller firms, competitive advantage is more likely to arise as a result of `accidental circumstances'. In other words, ownermanagers are much less able to influence the competitive environment than larger firms. While it would be unrealistic to suggest that strategic management is an entirely rational process in larger firms (Ansoff, 1965) the subjective judgement of owner-managers will have a stronger influence over the smaller firm's strategic direction. Not least of all because owner-managers will be performing a range of functions which in large firms are carried out by professional managers with substantial organisational support. 11
`Organisation structures, in so far as they exist, are likely to develop around the interests and abilities of the key players. Such organisation structures are likely to be organic and loosely structured rather than mechanistic and highly formalised (Jennings and Beaver, 1997:65). The authors summarise what they describe as `essential management activities' which have been identified by `a long history of management research'(Figure 2). The distinction is that in smaller firm all these roles will either be performed by one person or by a very narrow range of managers who may have been appointed because they are family members or friends rather than on the basis of ability or education. Figure 2 Here Entrepreneurship, Learning and Networks One common way of examining success in the small firm sector is to study so-called `supergrowth companies'. An early example (Ray and Hutchinson, 1983) used the growth in stockmarket value to identify firms with unique characteristics. Such companies were defined by a strong emphasis on forecasting financial data such as cash-flow, profit and sales. At the same time, the business environment is dynamic and, therefore, successful small firms must possess the managerial capabilities to remain flexible and adaptive (see Greiner, 1972). This, according to Jennings and Beaver focuses attention on managerial competences which combine entrepreneurship and professional management (Figure 2) but at the same time must be transferrable to other managers. There have been few other detailed studies of fastgrowing small companies. The IRDAC () committee of the EC considered a sample of 30 SMEs from seven European countries identified as R&D intensive and technological leaders (Dodgson and Rothwell, 1987; 1990). More recently Steward and Gorrino (1997) carried out a study of twenty-two innovative fast-growing SMEs in six European countries. According to the small firm literature, there are three key resources necessary for growth: financial, technological and human (Steward and Gorrino, 1997:18). The availability of financial 12
resources are central to fast growth and a range of different types are used by entrepreneurs: retained profits, grants, loans and equity obtained from a range of sources including self, banks, venture capitalists, government agencies and `business angels'. Steward and Gorrino found that the most common source of finance was retained profits (50%).Equity investment and government bodies accounted for funding in 30% of firms with bank loans accounting for 25% (most firms used a combination of sources). Rothwell (1989) believes that the innovative advantage of small firms are derived from their flexible managerial structures which are more responsive to changes in the market-place (see Vossen, 1998). However, smaller firms generally have little commitment to R&D and are `information constrained' which makes them highly dependent on external knowledge sources. Over 75% of the companies surveyed by Steward and Gorrino drew on external sources for new technology including suppliers, customers, competitors and research organisations. In some cases acquisition was tightly defined by means of legal contract whereas in other cases arrangements were more informal. Few of the twenty-two companies relied on codified legal protection (patents) to retain control of their technological innovation. Instead, the majority placed more emphasis on tacit knowledge and their ability to maintain a `fast-mover' position through continuous technological development (Steward and Gorrino, 1997:56). The availability of skilled human resources is perhaps the factor which is the main restriction on the ability of firms to grow rapidly. This may be an especially intractable problem for firms operating in relative geographic isolation or in `mature' sectors in which it may be difficult to attract employees with the appropriate technical skills (particularly IT). Generally it was possible to identify one individual responsible for initiating change: `It is evident that a critical role is played in all the cases by entrepreneurial individuals in establishing both the technical and managerial capabilities of the 13
IFSMEs' (Steward and Gorrino, 1997:65). In 75% of cases `change agents' were either individual entrepreneurs or `the team' who had originally founded the firm. In the remainder of the cases, change was initiated by a member of the managerial team or by a newly acquired manager. Effective mobilisation of managerial capabilities was linked to the nature of organisational structure. In the majority of the sample, entrepreneurs retained `a reasonably flat, communicative and participative organizational style throughout the period of growth' (Steward and Gorrino, 1997:76). Although, at the same time, there was some evidence of formalisation in terms of the functional division of labour and some element of divisionalisation. A common feature of `fast-growth' was that the firms adopted an `offensive strategy' involving a proactive search for technical or market leadership. Two distinct approaches were identified by Steward and Gorrino: first a `starter strategy' in which growth was important from the firm's foundation. Secondly, a `shifter strategy' involved a conscious move from a `non-offensive' to an `offensive' strategy by identifying both market and technological opportunities. IFSMEs were able to exploit opportunities because of their ability to respond more rapidly to market opportunities or customer requirements than their larger rivals. Many writers on entrepreneurship in smaller firms focus on personality types (extrovertintrovert) and traits (need for control, achievement etc) as the explanation for organisational success (Chell et al, 1991; Chell, 1999). Generally such types and traits are regarded as biologically or genetically determined although occasionally some degree of environmental influence is acknowledged. It is now accepted that there is very little evidence to suggest that any particular trait leads to successful entrepreneurship (Wickham, 2001:16). Rather, as Drucker points out, entrepreneurial capabilities can be acquired in the same way as other 14
managerial skills and competences. `Innovation is the specific tool of entrepreneurs, the means by which they exploit change as an opportunity for a different business or a different service. It is capable of being presented as a discipline, capable of being learned, capable of being practised. Entrepreneurs need to search purposely for the sources of innovation, the changes and their symptoms that indicate opportunities for successful innovation. And they need to know and to apply the principles of successful innovation' (Drucker, 1985:17). According to Chandler (1990) `organisational capabilities' encompassing both physical resources (raw materials, plant and equipment) and human resources (financial, managerial, technical knowledge and skills) are critical to the ability of firms to develop competitive advantage. Chandler's work is important because as well as distinguishing between scale and scope he identifies strategic and functional capabilities. The latter, which include training, motivation, coordination and integration, are central to the exploitation of cost-saving economies which are critical to improved competitiveness (Davies and Brady, 2000). Teece et al (1997) argue that the creation of `dynamic capabilities' which represent a firm's ability to respond to a changing business environment are dependent on its business processes. Organisations which are confronted with changing markets or changing technologies have to develop new sets of capabilities to avoid the creation of `core rigidities' (Leonard-Barton, 1995). The term `dynamic capabilities' refers to the ability of managers to create innovative responses to a changing business environment. Teece et al (1997) identify three organisational and managerial processes with the creation of dynamic capabilities: 1. The coordination and integration of both internal and external activities. 2. Learning, seen as `social and collective', is defined as the `repetition and experimentation which enable tasks to be performed better and quicker'. 3. Reconfiguration and transformation which is based on surveillance of market and technological environments and, according to the authors, `the more frequently practiced, the more easier accomplished'. Knowledge and learning networks are central to the transfer of information which occurs through data, documents, softwares and standards (Simmie, 1997) . Such transfers are 15
generally associated with the role of `gatekeepers' who are responsible for the collection, evaluation and dissemination of information (Allen, 1971). Organisational innovation and learning depends on creating mechanisms for the translation of tacit knowledge into codified knowledge (Nonaka and Takeuchi, 1995). Tidd (1997) argues that different network types provide different opportunities for learning and therefore collaboration is an important mechanism for the acquisition of new organisational competences and capabilities. Dussauge et al (2000) adopt a resource-based approach to suggest: `that firms's competitive advantages derive from their preferential access to idiosyncratic resources, especially tacit knowledge'. Results from the study indicate that firms are better able to acquire new capabilities when they have competence in similar areas (Dussauge et al 2000). This confirms earlier work by Cohen and Levinthal (1990:102) who argue that `absorptive capacity' depends on having related knowledge and skill which `confers an ability to recognise the value of new information, assimilate it, and apply it to commercial ends'. Jones and Craven (2001) utilise the concept of absorptive capacity to illustrate ways in which small firms can become more innovative and entrepreneurial by developing links with external sources of knowledge. This Case study of a TCS (teaching company scheme) concentrates on how introducing new `organisational routines', such as regular management meeting and a new product development committee, can improve both absorptive capacity and competitive advantage measured by objective factors such as increases in turnover as well as subjective factors including greater employee involvement and changing customer perceptions of the firm (more innovative and forward-thinking). As discussed in Chapter One recent government small firm policy, as well as EU initiatives, have been aimed at improving the competitiveness of small firms. Gibb (1997) examines the 16
many training initiatives designed to improve skills of owner-managers and their employees concluding there is very little research evidence of any direct impact on organisational performance. This failure of training to improve the competitiveness of smaller firms is attributed to a perception of learning which emphasises a separation of knowledge-creation and context. `Learning better from experience implies bringing knowledge, skills, values and attitudes together to interact on the learning process; it therefore fundamentally demands an action-learning approach' (Gibb, 1997:16). Gibb goes on to argue that viewing the firm's business networks (links to customers, suppliers, bankers, accountants, regulatory authorities, family, peers etc) as a `learning environment' is central to performance improvements. Network interactions provide opportunities for `subjective' learning as various actors within small firms make adaptions to operating activities in response to environmental change. The advantage smaller firms have is that there should be fewer communication barriers to sharing knowledge about such activities which help link operational change and the organisation's broader strategic direction. Summary: Productivity and Competitive Advantage As pointed out in a recent HM Treasury Report (2001) the government's objective of achieving high levels of growth and employment are hampered because the UK is seen to have `a substantial productivity gap with other major industrialised economies'. The five areas which government believe to be key drivers of productivity are investment, skills, innovation, enterprise and competition. British companies certainly spend far less on capital equipment than their international competitors (Kitson and Michie, 1996) although business investment has risen from 10% of GDP in 1995 to over 14% in 2000 (Treasury, 2001:16). There is still a need for smaller companies to invest more particularly in the area of ICTs 17
(information and communication technologies). Lack of investment in education and training has also limited productivity growth, for example, 55% of the UK workforce are classified as `low-skilled' compared to 23% in Germany (Treasury, 2001). Government has initiated a number of changes, including Individual Learning Accounts (ILAs) and the University for Industry, learndirect, designed to improve workforce skills. It should be noted that ILAs were discontinued on November 2001 due to widespread fraud by training providers (Kingston, 2002). Although levels of literacy still rank amongst the lowest in Europe they are improving and the proportion of adults with no formal qualifications fell from 18.4% in 1996 to 15.1% in 2000. The third `critical input' to productivity is innovation and again this is an area in which UK companies are laggards. Recent evidence indicates that levels of R&D (research and development) expenditure are beginning to increase but closing the gap with our main rivals will be difficult (Jones, 2000). According to the Treasury (2001:26): `the evidence shows... that spending on R&D is associated with higher levels of innovation and productivity growth'. One of the key government initiatives in this area has been the introduction of R&D tax credits for SMEs. Encouraging smaller firms to be more innovatory through investment in R&D is seen as an important way of improving competitiveness in individual companies and productivity in the economy as a whole. In the other two areas which are linked to productivity, enterprise and competition, there have been a number of government strategies to improve UK performance since New Labour were first elected in 1997. Attempts to create a more entrepreneurial culture include changes to capital gains tax to encourage investment in business assets, modifications to bankruptcy law, the Ј96 million Phoenix Fund (business support for socially excluded) and introduction of the Small Business Service (SBS) to ensure 18
government support for smaller firms is `simpler and more coherent'. The most important element of government's approach to competition has been introduction of the Competition Act which came into force in March 2000 and is intended to `tackle anti-competitive practices and abuses of a dominant market position' (Treasury, 2001). The attempt to discourage monopoly should provide increased opportunities for smaller firms to compete more effectively with their large, domain rivals. In his review of UK industrial policy (Wren, 2001) discusses a number of government initiatives designed to improve the productivity of SMEs including an additional Ј10 million for Foresight LINK awards which support partnerships between industry and the research base as well as a doubling of DTI funding to encourage technology transfer through TCS (previously known as the Teaching Company Scheme). Contributors to this book recognise that improving management practices in small firms is an important element in improving national productivity. Furthermore, regardless of the individual owner-manager's motivation a commitment to innovation through the modification of existing products, the introduction of new products and process improvements designed to reduce costs and improve quality will enhance the firm's longerterm competitive position. However, to be effective any SME change programme must begin with the owner-manager (or management team) establishing a broad strategic framework for the company (Figure 3). This planning process should help ensure that change is linked to existing skills and knowledge within the company while simultaneously identifying those areas of weakness which require training of existing staff or recruitment of new employees. At the same time, strategy-makers should guide the innovation process by identifying markets in which new products or services are expected to compete. Ideally, setting the 19
strategic framework should be based on a process of wide consultation across the organisation. This is important for accessing new ideas and for ensuring all employees are committed to the shift in organisational strategy. Change agent: the change process should be guided by the owner-manager (or senior management team) but day-today responsibility could be delegated to a relatively junior change agent (Jones and Craven, 2001). It is possible that in smaller firms the owner manager would act as change agent but given the operational pressures of managing such organisations this is not desirable. According to Day (1994) initiators of intrapreneurial actions can adopt one of three roles: top-down champion, bottom-up champion or dual-role champion. Even though change must be a team effort there will generally be one individual who acts as champion taking on responsibility for building and motivating `collective Transformational Leadership' (Day, 1994). What is more important than status is that the change agent should have access to adequate resources and the unambivalent support of senior managers. Change agents (intrapreneurs) should have the necessary interpersonal skills to build both internal and external networks to help identify, access and disseminate new knowledge and skills. Intrapreneurs need autonomy to operate effectively but at the same time their activities must be guided by requirements set out in the strategic plan. External networks: key actors within the organisation must recognise the importance of being open to external influences. Smaller firms cannot possibly have internal access to all the knowledge and skills required to remain competitive. Therefore, a willingness to draw on external knowledge sources is a sine qua non of the change process as conceptualised here. In other words, the intraprenuer must adopt a `boundary spanning' role to make a wide range of 20
external links. These links will include better communications with customers, suppliers and even competitors but should also include HEIs, TCS, SBS, the local Chamber of Commerce as well as utilising the Internet which is an essential information source for smaller firms. Internal networks: identifying, and acquiring new knowledge must be accompanied by the creation of mechanisms for the dissemination of that information within the organisation. An SME's absorptive capacity is a central element in improving organisational competitiveness by ensuring new information is rapidly disseminated to managers, technical staff, first-line supervisors as well as shopfloor employees (Jones and Craven, 2001). Intrapreneurship is not based on the activities of a single individual but it is essentially a collective effort which demands high levels of collaboration to achieve successful transformation (Denis et al, 1996). Flexibility: a defining features of SMEs is that they are unable to influence their operating environment in the same was as larger firms. In addition, one of the major advantages such firms have over their large rivals is the ability to respond more rapidly to changing signals from the market-place. Therefore, it is essential that in introducing new routines (working activities) into the firm emphasis is placed on the importance of flexibility (Figures 2 and 3). This encompasses managerial activity associated with constantly scanning the environment for threats and opportunities and employees willingness to develop new skills. Hence, the company's HRM policies, in terms of both recruitment and reward, should be designed to reinforce appropriate attitudes and behaviours. Figure 3 Here Innovation: as Freeman (1982) points out, innovation is the range of organisational activities which are associated with moving from idea conception to a product or service offered for 21
sale in the marketplace. In other words, innovation is a process rather than a single event and even relatively simple incremental changes to existing products and services require time and resources if they are to be successfully implemented. In a recent paper, Atherton and Hannon (2001:278) use Drucker's (1985) work as the basis of their definition: `innovation is a business process of managing a bundle of activities which create wealth, in the widest sense of the word, from existing resources'. It is also important to add that innovation does not necessarily involve the adoption of radical new technologies nor the introduction of major new products, services or processes. Rather, particularly for SMEs, concentrating on a range of incremental innovations based on ideas adopted from customers, competitors and suppliers to improve both products and processes is likely to be a more effective way of improving overall competitiveness. Competitive advantage: the broad strategic direction set by the owner-manager should provide the authority for the intrapreneur to begin the change process. This means creating both internal and external knowledge-based networks which provide the means for greater levels of organisational learning and flexibility. At the same time, the intrapreneur will begin the process or organisational change by encouraging the introduction of new ways of working, new (or modified) products which will strengthen the firm's longer term competitive position. It is important to stress that the model should not be seen as a linear process but rather that the various factors represent the `building blocks' of any SME's medium-term competitive strategy and longer-term `strategic health' (Afuah, 1998). As discussed above, the term competitive strategy is difficult to define particularly in term of owner-managed firms who may value independence more than growth in profits or sales (Jennings and Beaver, 1997). However, Tidd (2001) distinguishes between accounting 22
measures of performance (profits, share value, ROI) and market performance (market share and growth). According to Drew (1995) competitive success can be measured according to both objective and subjective criteria. Objective criteria include ROI (return on investment), ROA (Return On Assets), market share, sales revenue. Commonly used index of innovatory activity are based on revenues generated from new products: percentage of this year's revenue from products introduced in last 2 years; percentage of next year's revenue from products introduced this year and last year; percentage of revenue in 5 years from products introduced in next 5 years Subjective measures include improved reputation with customers, suppliers and competitors, improved service quality and better competitive positioning. A combination of objective and subjective factors should help senior managers judge the effectiveness of their strategic framework. Although, of course, it is important to stress that innovation is not the basis of a `quick-fix' for failing companies but something which needs commitment from senior managers over a substantial period of time (Cobbenhagen, 2000). It may be that the best measure of competitive advantage for SMEs is `value-added' rather than profits, ROI or market share. Improvements in value-added per employee would provide an indication of more effective internal processes (cost reductions) and stronger market performance (introduction of new or improved products). To summarise, organisational flexibility is the key source of competitive advantage for most SMEs. While the authors contributing to this book discuss individual factors ranging from innovation management to supply chain management all activities should contribute to a flexible, learning organisational and eventually to competitive advantage (Figure 4). Individual authors attempt to make direct links between their topic and these key issues but the concluding chapter summarises the way in which managers in SMEs can build more 23
dynamic and successful organisations. Figure 4 Here 24
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Table 1 Competence and Competitiveness (Man and Chan, 2002)
Competency Area
Behavioural Focus
Opportunity competencies recognise and develop market opportunities
Relationship competencies person-to-person, group-to-group interactions based on cooperation, communication and trust
Conceptual competencies conceptual abilities related to decision-skills, information absorption, risk-taking and innovativeness
Organizing competencies internal and internal activities associated with human, physical, financial and technological resources
Strategic competencies setting, evaluating and implementing strategy
Commitment competencies entrepreneurial drive to develop the business
Figure 1 SME Competitiveness (Man and Chan, 2002)
(Potential dimension External)
Competitive Scope
Task 1
(Process dimension)
Entrepreneurial Competencies Opportunity Competencies Relationship Competencies Conceptual Competencies Organizational Competencies Strategic Competencies Commitment Competencies
Task 3
Task 2
(Potential dimension ­ Internal)
Organizational Capabilities
Firm Performance (Performance dimensio
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Table 2 Establishing Competitive Advantage (Wickham, 2001)
Factor Costs Knowledge Relationships Structure
Potential Competitive Advantage Importance of price to customers, suppliers, distributors Extent of demand elasticity Stage of industry life-cycle Common or localised knowledge Tacit or codified knowledge Building links with customers, suppliers, distributors Position in network and relative power Creating appropriate organizational structures Ability to respond to market signals Leadership Styles (delegation or centralisation)
Table 3 Management Influences on ROI (Gadenne, 1998)
RETAIL Value for money Financial leverage
SERVICE Employee relations Financial leverage Working capital
MANUFACTURING Low price strategy Financial leverage Professional advice
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Figure 2 Small Firm Management (Jennings and Beaver, 1997)
ENTREPRENEURIAL SKILLS (adaptive & organic)
OWNERSHIP SKILLS (predictive & mechanistic)
Innovation Risk Taking Tactical Planning
STRATEGIC LEVEL Objective Setting Policy Formulation Strategic Planning
Common Core SKILLS
Decision Making Problem Solving Information Processing
MANAGERIAL SKILLS (Managerial level)
Negotiation Trouble Shooting Interpersonal
Organising Coordination Formal Communication Monitoring & Stabilising
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Figure 3 Conceptualising Competitive Advantage in Small Firms
External Networks
Strategic Framework Change Agent Organisational Flexibility
Internal Networks
Competitive Advantage
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Figure 4 Building Competitive Advantage Strategic Management Managing e-business
Corporate Governance Financial Management
Reward Systems Innovation Management
Flexibility & Learning
Competitive Advantage
HRM Managing Networks
Managing Sustainability
Supply Chain Management
Managing Creativity
Retail & Marketing
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