Profiting with Innovation: Building (firm level and national) Competitiveness

Amidst new economy forces in a “semi-globalized” world, traditional sources of competitive advantage are stripped away. Scale and scope advantages are of limited value on such environments.

Tacit knowledge and intangibles become the bottlenecks, and Dynamic Capabilities reflect the firm's capacity to develop, deploy and orchestrate value creation and capture.

A new framework is needed for competitive analysis, at a time when knowledge assets and capabilities have become relatively more strategic.

Learn more in this detailed and example-filled presentation from Professor David Teece, the pioneer of the Dynamic Capabilities framework.

1. David J. Teece
Director, Institute for Business Innovation
Haas School of Business
University of California, Berkeley
March 4, 2013
M.M.C. Athenaeum
Claremont McKenna College
Heresies from a heterodox
economist/entrepreneur
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3. Traditional sources of competitive advantage stripped away
Decreased cost &
increased speed of
information flow
Dispersion in the sources of innovation
Natural time & distance protections eroded; markets more open
Increased ease of organizing / accessing complementary assets and big data sets
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4. Decreased cost
(and increased
speed) of
information flow
Expansion of
(intermediate
product)
markets
Easier access
to many
complementary
assets
Erosion of old
bases for
differentiation
Tacit knowledge
and intangibles
become the
bottlenecks
Dynamic Capabilities
reflect the firm's
capacity to develop,
deploy and
orchestrate value
creation and captureProfits
Resources
Dynamic
Capabilities
THE BASIS OF (FIRM LEVEL) COMPETITIVE ADVANTAGE IN THE AGE OF
ADVANCED INFORMATION TECHNOLOGY, UBIQUITOUS MARKETS, AND
DEEP MARKETPLACE UNCERTAINTY
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5. The Nation: “The increase in the stock of useful knowledge and
the extension of its application are the essence of modern
economic growth”
(Kuznets, 1966)
The Firm: Competitive advantage today is built and defended not
in product markets, but “upstream” – in markets for know-
how and other intangibles
(Dynamic Capabilities perspective)

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6. “Innovation is about much more than new products. It is about
reinventing business processes and building entirely new
markets that meet untapped customer needs.”
-
Samuel j. Palmisano, CEO of IBM (Business Week, 4/24/2006, p. 64)
“We must begin the important work of developing a framework capable of
analyzing the growth of an economy increasingly dominated by
conceptual products.”
- Alan Greenspan, Former US Federal Reserve Chairman
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7. 1. Technological know-how
2. Intellectual property
3. Business process know-how
4. Customer relationships “resources” that matter today
5. Reputations
6. Capabilities
None of these assets are on balance sheets; they often lie “upstream” from the product market.

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8. Foundation for product and process improvement
Hard to build and difficult to manage and possible to buy
Inherently not as easy to access as some other assets
(markets for know-how are incomplete and imperfect)
Hold certain “strategic value” (price ≠ value in use); illiquid
markets
Legal barriers to imitation
Strengthened in some industries in some countries, e.g.,
pharmaceuticals, electronics
Undermined in others, e.g. digital music and video
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9. The market for know-how has characteristics that
complicate exchange
Property rights poorly defined
Utility unclear
Few buyers and sellers
High transaction costs
These complications create imperfections which
impair imitation, but potentially support quasi rent
generation (“strategic value”)
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10. Defined as how a firm can generate
“supernormal” profits, longer run.
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A business ecosystem contains a number of firms and other institutions that work
together to create and sustain new products, and markets
Co-evolution of the system depends on the technological leadership of one or two
firms that provide a platform
Co-creation and co-evolution are two key characteristics of business ecosystems
A platform exists when the elements of the ecosystem depend upon common
standards

12. suppliers and
complementors
regulatory &
standards bodies
financial
institutions
research and
educational
institutions
customer
markets
media
government and
judiciary
human capital
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Business
Ecosystems occupied by
competitors & complementors
and ecosystem
managers

13.  First and foremost, they are organizations, not production functions
 Second, people inside them cooperate… to some degree
 Third, decision makers aren’t hyper rational… they make mistakes
 Fourth, there is some degree of path dependency in what firms do
 Learning is essential to all activity
 Organizations develop capabilities which are malleable… to some degree.
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14. The production function and the Marhallian cost curves are a “side show” and
deflect attention from what firms are about:
1.Assumes common technologies and homogenous firms
2.Assumes prices know
3.Assumes product and factor markets already exist
4.Assumes optimization
5.Assumes faceless markets
6.The neoclassical firms of the textbook has no need for managers or
entrepreneurs
The real world firm is characterized by:
1.Heterogeneous firms and proprietary technologies
2.Prices unknown: often need to be discovered
3.Markets need to be created
4.Mistakes get made; decisions not always fully “rational”
5.Relationships matter and managers and entrepreneurs play critical roles in
building and managing firms
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15. Managers and entrepreneurs build
organizations… They drive learning
activities and rarely optimize anything.
Most tools from economics and
management are not designed for a world
of rapid change and extreme uncertainty.
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16. R. Glenn Hubbard & Anthony Patrick O’Brien, Economics, pg. 332
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17. The way forward is to learn to see every startup in any
industry as a grand experiment. The question is not
“Can this product be built?” In the modern economy,
almost any product that can be imagined can be built.
The more pertinent questions are “Should this product
be built?” and “Can we build a sustainable business
around this set of products and services?” To answer
those questions, we need a method for systematically
breaking down a business plan into its component
parts and testing each part empirically.
Eric Ries, The Lean Startup
, 2011, p. 55
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18. Organizational and technological capabilities – lie at
the core of corporate success, and learning is at the core of
capability building
Strong ordinary capabilities (operations, administration,
governance) are necessary but not sufficient for long-run
(financial) success
Strong dynamic capabilities are both necessary and
sufficient for long-run (financial) success
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19. Routines / standard operating procedures are key
to ordinary capabilities
Ordinary capabilities reflect technical efficiency
“Best practices” are strong ordinary capabilities
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20. Ordinary capabilities in autos are diffused:
The operations portion of the automobile business has been thoroughly
optimized over many decades, doesn’t vary much from one automobile
company to another, and can be managed with a focus on repetitive process. It
is the “hard’ part of the car business and requires little in the way of creativity,
vision or imagination. Almost all car companies do this very well, and there is
little or no competitive advantage to be gained by “trying even harder” in
procurement, manufacturing or wholesale.
Accordingly, competitive advantage requires the auto companies to build dynamic
capabilities:
 Where the real work of making a car company successful suddenly turns
complex, and where the winners are separated from the losers, is in the long-
cycle product development process, where short-term day-to-day metrics and
the tabulation of results are meaningless.
Bob Lutz, former vice chairman at General Motors
Wall Street Journal, June 11, 2011
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21. “Yet if the fundamental goal of entrepreneurship is to
engage in organization building under conditions of
extreme uncertainty, its most vital function is learning.
We must learn the truth about which elements of our
strategy are working to realize our vision and which
are just crazy. We must learn what customers want,
not what they say they want or what we think they
should want. We must discover whether we are on a
path that will lead to growing a sustainable business.”
Eric Ries, The Lean Startup
, 2011, p. 38
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22. “I’ve come to believe that learning is the essential unit
of progress for startups. The effort that is not
absolutely necessary for learning what customers
want can be eliminated. I call this validated learning
because it is always demonstrated by positive
improvements in the startup’s core metrics”
Eric Ries, The Lean Startup
, 2011, p. 49
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23.  They rarely become infatuated with setting MR =MC… though
every so often technical and financial support personnel may
perform such calculations.
 Rather, in real life… a lot is happening simultaneously…
acquiring new customers and serving existing ones, raising
capital, building capabilities, trying to improve the product,
improving operations, deciding if and when to pivot.
Eric Ries, The Lean Startup
, 2011, p. 24
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24.  Ordinary capabilities involve “tuning the
engine”… a process of optimization.
 Dynamic capabilities often involves a
change in strategy or in business models.
This is called “pivot”
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25. “The ability of an organization and its management to integrate, build, and
reconfigure internal and external competences to address rapidly changing
environments” (Teece et al., 1997:516)
Managerial competencies involving sensing, seizing and reconfiguring
capabilities (Teece, et al, 1997); [15,000 Google citations]; [Teece, 2007];
[1,500 Google citations]
Made practical through excellence in:
Sensing
Identification of
opportunities&
threats at home
and abroad
Transforming Continued renewalSeizing Mobilization of
effective resources
deliver value to shape
markets, customers and
shareholders
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26. >“Balance sheet” view of assets and
capabilities
>Little emphasis on “orchestration” as the
key success factor
Old approach
>Heavy emphasis on soft assets which assist in orchestrating deployment and redeployment
>Rapid deployment and equipping forces
New approach
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27. “There is no system. That doesn't mean we don't have process... Process
makes you more efficient. But innovation comes from people meeting up
in the hallways... It's ad hoc meetings of six people called by someone
who thinks he has figured out the coolest new thing ever and who wants
to know what other people think of his idea. And it comes from saying no
to 1,000 things to make sure we don't get on the wrong track or try to do
too much.”
- Late Apple founder Steve Jobs
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28. “Apple remains ahead of its rivals in the ability to innovate and
“create magic” despite tougher competition in key sectors
like smartphones and tablets… Apple still has strong growth
opportunities because of its ability to work simultaneously
on hardware, software and services… Apple has the ability
to innovate in all three of these spheres and create magic…
This isn’t something you can just write a check for. This is
something you build over decades.”
-Tim Cook, Apple CEO on Apple’s dynamic capabilities,

Taipei Times, Feb 14, 2013 - Page 5
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29. Winning in business is like winning a war against insurgents.
The enemy is:
1.Scattered
2.Committed
3.Well “armed”
How do you win a war today?
“Raids need to be married to a counterinsurgency strategy.”
“Find information, pull it in, empower, use.”
“Old model: push information up to the top level where all major discussions
are made.”
“New model: the information required to garner a conceptual understanding is
shared, and discussions are decentralized.”
And so it goes in business.
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30. “ We had a culture in our forces, of excellence. It was how
good can I be at my task? How good can I be at flying an
airplane, dropping bombs, locating an enemy target? But
that’s not as important as how well those pieces mesh
together.”
“The real art is [in] cooperating with civilian agencies, it’s
cooperating with conventional forces, it’s tying the pieces
together. That’s the art of war, and that’s the hard part.”
-Quotes from General Stanley McChrystal “Generation Kills”, Foreign Affairs
;
(interview March/April 2013)
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31. The British Navy at the
Battle of Jutland, 1916
“There seems to be
something wrong with our
bloody ships today.”
Admiral John Jellicoe
“The real deficiency, however, was the loss of [Vice Admiral Horatio Lord] Nelson’s touch. It was not the bloody ships that were principally at fault. It was the inadequate doctrine of command and control.”
Frank Hoffman, “What we can learn from Jackie Fisher,”
Proceedings of the Naval Institute, April 2004, p. 70.
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32. •Strategic “fit”; shaping
the environment as
necessary
•Sensing, seizing, shaping
and transforming
•Difficult ; inimitable
•Technical efficiency in basic business functions
•Operational, administrative, and governance
•Relatively easy; imitable
Ordinary
Capabilities
Dynamic
Capabilities
Doing things “right” Doing the “right” things
Purpose
Tripartite
schemes
Imitability
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Growth in an innovation-driven company requires managers
to solve two related problems.
(1)
In the short term
,
operations must be perfected and costs minimized.
(2)
In the medium-to-long term, management must direct innovative
activity toward addressing new technological, market, and
business model opportunities, which frequently requires
transforming the organization’s structure and strategy.
Put differently, in the short run it’s about doing things right;
in the longer run it’s about doing the right things. Traditional
managerial economics helps a lot with the first challenge but
obfuscates the second.
-Teece, “The New Managerial Economics of Firm Growth: The Role of Intangible Assets and Capabilities”,
Christopher R. Thomas and William E. Shughart (Ed.) in The Oxford Handbook of Managerial Economics,
(Oxford University Press, forthcoming)

34. “A good strategy is a ‘specific’ and ‘coherent’ response to—and
approach for overcoming—the obstacles to progress.”
“A bad strategy is a list of blue sky goals or a fluff-and-buzzword
infected ‘vision’ everybody is supposed to share.”
- Strategy Kernel
(Rumelt, 2009)
Diagnosis Guiding policyCoherent action
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Strategy Kernal
Related Dynamic
Capabilities Clusters
Primary Managerial
Style Required
DiagnosisGuiding Policy Coherent Action
Sensing Seizing/TransformationSeizing/Transformation
Entrepreneurial;
Managerial
Administrative/ManagerialLeadership; Managerial
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Political, economic, social institutions
Tangible assets Human capital Intangible assets
Operational Administrative;
Governance
Ordinary Capabilities:
(Resources:
Internally Sourced/
Externally Sourced)
Dynamic
capabilities
Strategy
Firm-level
performance
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37. “You have to be fast on your feet and adaptive or else a strategy
is useless.”

Charles de Gaulle, French general and statesman
“Strategy without tactics is the slowest route to victory, tactics
without strategy is the noise before defeat.”
Sun Tzu, Ancient Chinese military strategist
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38. Ordinary capabilities are not usually enough to yield
sustained competitive advantage; but dynamic
capabilities coupled with a validated strategy
enable an organization to change in a manner
that supports evolutionary fitness and sustainable
advantage.
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39. Source: Yum! Brands
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YUM Illustrations:
KFC Japan: “It was the intuition, fortitude, and perseverance of one man,
Shin Okawara, that saved The Colonel's Japanese foray from an ignominious failure.”
KFC China: “The main reason that Yum became so successful in China is thanks to one
man, Sam Su.” - A former KFC director, echoing a sentiment widely held by industry
insiders
General Principal:
Strong influence of top management on firm response to changing
environments (Rosenbloom, 2000; Tripsas and Gavetti, 2000)

41. Ordinary capabilities define “technical” or “best practice” type
fitness and are necessary but not sufficient
Dynamic capabilities are of particular importance to the business
enterprise as it adapts knowledge in time and space and
responds to (and shapes) changing environments.
Good strategies help enable dynamic capabilities while dynamic
capabilities also play a role in determining good strategies.
Taking interaction effects (between strategy and capabilities) into
consideration should help to reduce the unexplained variance in
the performance of firms.
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42. Example: 787 Dreamliner: capabilities or contractual problems?
Economic Theory
“But because it had less control over it’s supply line, Boeing couldn’t adapt as
quickly and flexibly to the changes and problems that invariable arose within a
project as complex as the Dreamliner, Boeing has taken much of the
Dreamliner’s production back in-house.”
-Tadelis, WSJ, October 2009
(applying Williamson
transaction cost economic
framework)
Capabilities Theory
The Dreamliner debacle was due to inability of suppliers to master the
technology (capabilities factor).
Above problem amplified by “offsets” requires to sell planes (“political
economy” factor).
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Resources /capabilities approaches to
the theories of the firm “have mouth
watering potential implications.”
Gibbons, JEBO, 2005
“The relation between competence
and governance is both rival and
complementary- more the latter than
the former.”
Williamson, 1999