LINKING INTANGIBLE RESOURCES TO WAYS OF COMPETING*
Knut Haanes and Øystein Fjeldstad
Associate Professors
NORWEGIAN SCHOOL OF MANAGEMENT BI
PO Box 580
1301 Sandvika
NORWAY
Tel.: (47) 67.55.70.00
Fax: (47) 67.55.76.77
July 26, 1999
Forthcoming in European Management Journal
This is an extended version of a paper which was presented at the
18th Annual International Conference of the Strategic Management Society, Orlando, 1998.
1
ABSTRACT
Recent strategy literature suggests that intangible resources—in particular competencies and
relationships—are critical drivers of competitive advantage. However, there seems to be a
lacking understanding of when certain types of competencies and relationships are most
critical. This paper introduces a framework consisting of three fundamental levels of
resource-competition. The framework is illustrated through the pharmaceutical industry. We
argue that (1) biotech firms mainly engage in entrepreneurial competition; (2) traditional
pharmaceutical firms, here referred to as big-pharma, increasingly undertake contractual
competition and, finally, (3) generic drug makers compete predominantly operationally. The
paper argues that intangible resources contribute differently to competitive advantage
depending on level of competition.
2
INTRODUCTION
Lately, there has been an increasing stream of strategy literature declaring the importance of
intangible resources in explaining firms’ competitive advantage (e.g., Itami, 1987; Barney,
1991; Normann and Ramirez, 1993). A review of this literature concludes that competencies
and relationships are increasingly considered to be the most critical firm-specific resources,
but also finds a lack of elaboration of which types of competencies and relationships are most
important (Haanes and Fjeldstad, 1999). In this paper we link these observations to a
framework consisting of three fundamental levels of resource-competition, each respective
level requiring specific types of competencies and relationships. Then, we link our
framework to the pharmaceutical industry. This industry is suitable for illustrating the three
levels of resource-competition due to several factors, in particular the important role of
patents as an isolating mechanism (Rumelt, 1984) which protects technical innovations from
instant diffusion.
The paper argues that intangible resources contribute differently to competitive advantage
depending on level of competition. By elaborating the competitive nature of intangible
resources this approach may help managers better understand their firms’ resources, and
thereby align competitive moves with the firm’s dominant logic (Prahalad and Bettis, 1986).
We draw attention to the idea that all competencies and relationships are not equally
important, and that the importance to a large degree depends upon how it supports the way of
competing. For instance, according to this approach, a firm with competencies and
relationships that support efficiency (e.g., facilitating the flow of goods, «just-in-time»
delivery of supplies, etc.) should be careful about competing to create wholly new
technologies. Conversely, a firm with competencies that support innovative behavior is often
well advised not to take its new product ideas to the point where they compete head-on with
specialized manufacturers. Developing appropriate resources is an expensive and timeconsuming effort (Dierickx and Cool, 1989), and the extant stock of resources largely
decides how the firm can compete in the short and medium term (Penrose, 1959). Our
arguments thus follow the path dependent assumptions of the resource-based view (Barney
1991).
3
THEORETICAL BACKGROUND
Two perspectives in strategic management are particularly relevant for understanding how
firms deploy scarce resources to create superior value. These are the resource-based
(Wernerfelt, 1984; Barney, 1991) and the activity-based (Porter, 1985; 1996; Stabell and
Fjeldstad, 1998) views. These perspectives are complementary in that the resource-based
view focuses on what the firm has, whereas the activity perspective focuses on what the firm
does. The essence of strategy is to combine the two foci, namely to create and appropriate
value with scarce resources. Below, we will look at each perspective in-turn and then at
possible ways of bridging them.
The resource-based view
The underlying approach of the resource-based view is (1) to see the firm as a bundle of
tangible and intangible resources, and (2) to see some of these resources as costly to copy
and trade. According to Barney (1991), a firm’s resource position can lead to sustained
competitive advantage if it allows the firm to create value; if the resources are rare and
imperfectly imitable, and if the advantage is not subject to substitution. In order to become a
source of sustained competitive advantage, the resources also have to be organized,
combined and deployed appropriately. Resources may be difficult to imitate due to isolating
mechanisms such as historical conditions, time compression diseconomies, ambiguity in the
relation between the resources, or simply because the value created with the resource is
socially complex (Dierickx and Cool, 1989). This stream of research is influenced both by
previous work illuminating firm heterogeneity (e.g., Barnard, 1938; Selznick, 1957; Penrose,
1959) and by an economics-based reasoning: firms are seen as rent seekers (Rumelt, 1984).
The literature generally distinguishes between tangible and intangible resources (Itami, 1987).
Tangible resources are concrete and tradable, and include physical entities such as factories,
technology, capital, raw material and land. Intangible resources are more difficult to define
and measure, and includes skills, knowledge, relationships, culture, reputation and
competencies. Intangible resources are generally more difficult to transfer than tangible
4
resources, as the value of intangible resources is difficult to measure. Although both tangible
and intangible resources may be scarce and represent the input needed to create economic
value (Lippman and Rumelt, 1982), competencies have received particular attention as
potential sources of sustained competitive advantage in this literature. Competencies are the
means by which a firm deploys resources in a characteristic manner in order to compete.
Thus, competencies are integrations of skills and knowledge, and organizational
competencies include the firm’s knowledge, routines and organizational culture. In different
ways, several authors have identified competence as the crux to superior organizational
performance. In particular Prahalad and Hamel’s (1990) notion of core competence is
important. Here, competence is seen as competitively important due to three factors. First, a
core competence potentially provides access to a wide variety of markets. Second, it may
make a significant contribution to the perceived customer’s benefits of the end products, and
third, it is difficult for competitors to imitate or otherwise substitute. In addition, the value of
competencies does not depreciate with use—the way raw materials and other more tangible
resources do—but rather increases. Competencies may lead to increasing returns and sustain
long-term economic growth. Other contributions that add to our understanding of
competencies in competition include the notions of absorptive capacity (Cohen and Levinthal,
1990), architectural knowledge (Henderson and Clark, 1990), distinctive competencies
(Selznick, 1957) and dynamic capabilities (Teece, Pisano and Shuen, 1997).
The activity-based view
The activity based perspective was for a long time mainly concerned with seeing firms as
value chains (Porter, 1985), i.e. as systems where value is created by transforming a set of
inputs into more refined outputs. The strategic challenges associated with managing a value
chain are related to manufacturing products with the right quality at the lowest possible cost.
The ways to reduce costs—or increase value—are primarily found through economies of
scale, efficient capacity utilization, learning effects, product and information flows, and
quality measures. Critical drivers of value creation in chains also include the
interrelationships between primary activities, on the one hand, and product development,
marketing and service, i.e., support activities, on the other hand.
5
Today, this approach has been extend to also explain other ways of creating value, such as
through networks (Normann and Ramirez, 1993) and value systems (Porter, 1996). Stabell
and Fjeldstad (1998) formalized three types of value creations into a ”value configuration”
framework. In addition to the value chain, they introduced the value network and the value
shop. Value networks create value by mediating products or services between customers. The
value is found in how the specific network gives buyers access to sellers of what they want,
and vice versa. The value shop creates value by solving unique problems for customers.
Value
is
created
by
mobilizing
resources
(Haanes,
1997)—essentially relevant
competencies—to solve particular problems. Problem solving involves developing solutions
tailored to problems that the clients will not—or more often cannot—solve themselves. In
order to determine which type of value creation takes place in a given firm, we need to look
at what the firm gets paid for by their customers.
 Value chains sell products that are the outcome of a transformation process. The
customers pay for the total quality of the product. Examples of firms that create value as
chains include producers of automobiles, clothing, electronics, food, computers, furniture
and pharmaceuticals.
 Value networks sell mediation between customers. The customers pay for access to and
interaction with other customers. Examples of companies creating value as networks
include commercial banks, airlines, postal agencies, insurers, brokers, stock exchanges
and overnight delivery companies.
 Value shops sell competencies and approaches to help solve certain unique problems.
The customers pay for solutions of—or effort spent on—their problems. The latter
reflects the fact that problem solving is uncertain, and that customers in many cases are
willing to pay for expected rather than realized value (Levitt, 1981). Examples of
companies that create value as «shops» include accountants, academics, investment
bankers, physicians, designers, lawyers, business consultants and consulting engineers.
Bridging the two perspectives
Resources per se do not create value (Penrose, 1959; Porter, 1991). Rather, value creation
results from the activities in which the resources are applied. Strangely, there is not yet an
6
explicit link between these two perspectives. Although researchers today have a deeper and
more sophisticated understanding of competencies and activities separately, there is still a
need for a more developed understanding of how and when certain competencies are most
appropriate to obtain competitive advantage. One may make some general observations about
the current status of these two complementary perspectives:
 Resources are generally agreed to represent an appropriate unit of analysis for explaining
competitive advantage (Wernerfelt, 1984; Barney, 1991);
 Competencies and relationships are often considered to be the most critical types of
resources (Itami, 1987; Normann and Ramirez, 1993).
 Activity-based—or more precisely value configuration—analysis is a widely accepted
tool for determining on which basis the firm may build a competitive advantage (Porter,
1985; Stabell and Fjeldstad, 1998).
 There is a need for a more developed understanding of the nature of resources in action
(Black and Boal, 1994; Haanes, 1997; Majumdar, 1998).
Hence, one may argue that the current perspectives in strategic management have the
shortcoming that intangible resources, such as competencies and relationships, are not yet
linked to how firms create value and to how they compete in their industries. Consequently,
there is not yet a distinction explaining when certain competencies and relationships are most
critical.
THREE LEVELS OF RESOURCE-COMPETITION
The study of how firms compete is the essence of the academic field of strategy. This
framework helps better understand how resources can be mobilized to compete. There are
many other useful dimensions of competition in addition to the one presented here, such as
price competition, technology competition, service competition, etc. We will, however, argue
that this specific approach complements and extends other approaches by specifically linking
types of resources to ways of competing.
7
Resource-competition may be classified into three different levels. First, operational
competition is concerned with efficiency in the production process (Porter, 1996). This can
be gained through scale and experience, as well as by substituting capital for labor. At the
other extreme of the competitive spectrum lies entrepreneurial competition. This implies the
more Schumpeterian sources of performance advantage, which result from the formation and
implementation of entirely new combinations (Schumpeter, 1934). Both the operational and
the entrepreneurial level of competition are well captured by the activity-based perspectives
in strategy (e.g., Porter’s distinction between cost leadership and differentiation), and by
other organizational theories (e.g., the distinction between exploration and exploitation
[March, 1991]). Moreover, the resource-based perspective (e.g., Wernerfelt, 1984; Barney,
1991) helps us distinguish a third type of resource-competition. This implies the effective
appropriation and mobilization of certain imperfectly traded resources. We here label this
contractual competition. This level of competition has previously been alluded to by Miles
and Snow (1978) as the activities associated with the “analyzer”, a type of firm that screens
the environment for interesting ideas and then moves relatively early to realize these
commercially. However, whereas the approach of Miles and Snow was to create a typology
of firms, our focus is to identify levels of competition and types of intangible resources.
The three levels of resource-competition are distinctly different:
 Entrepreneurial competition implies performance in the creation of new technologies or
entirely new solutions;
 Contractual level competition implies performance in expanding the available set of nonfreely traded resources that can be applied to a given technology;
 Operational competition implies efficiency in the actual transformation of freely traded
input factors into products and services.
At each level of resource-competition, distinct categories of associated competencies
contribute to superior performance. However, the differences between the three levels are a
matter of degree, and we do not pretend that the boundaries between these can be easily
8
defined. Most firms will to some extent engage in resource-competition on all three levels.
Nevertheless, one level will often be dominant.
Entrepreneurial level competition
At the entrepreneurial level, the creation and modification of technologies and products
departing from past solutions is the meta-activity. This implies exploration (March, 1991).
Exploration is associated with the long-term, and implies experimentation and search for new
opportunities, technologies, strategies and competencies. The returns to exploration are
distant in time and space. It takes time to create value with a new exploration, and even if a
new product is realized the value may be appropriated by other organizations (Teece, 1986).
Applying a short time perspective to exploration makes all new ideas look bad, whether they
are good or bad. A firm that only explores puts itself at a short-term risk, as it neglects
present opportunities. Entrepreneurial level competition changes the pattern of resource
deployment on two levels simultaneously. An emerging industrial logic is formed on both a
new architecture and new components (Henderson and Clark, 1990). The architecture refers
to the way components are put together in the industry, whereas the components refer to each
specific portion of the product. Both change dramatically in the early stages of the industry,
as different companies experiment with new combinations. As noted by Mansfield (1977),
products in an emergent industry do not emerge fully developed. Neither do the commercial
aspects of the industry, as experimentation with different business models takes place.
Hence, it may eventually create great difficulties for established firms (Utterback, 1994)
which offer close substitutes. Entrepreneurial competition is made difficult by the “failure
trap”. The firm comes up with new ideas, but does not have the necessary patience to wait for
the payback. This may lead to a vicious circle, where the firm continuously creates new
concepts but where the ideas spill over to competitors who manage to appropriate their value.
Contractual level competition
On the contractual level, firms compete on the appropriation of scarce resources used by a
given technology in an imperfect resource market. In order to mobilize imperfectly traded
resources, the contractual challenges are to identify and understand market potential where it
is not yet developed and then to fast build a commercial structure. Contractual competition is
9
about building systems to commercialize new technologies, many of which have been
introduced outside the company. Contractual competition consists of two main activities.
First, screening the environment for interesting novelties with a commercial potential, and
second, establishing a set of contracts to actually commercialize the selected novelties. In
order to develop contractual level competitive advantage, support activities such as
procurement, human resource management and marketing can be critical. Performance
advantage is not related to superior implementation and execution of the given technology,
but rather to its extension to a larger market domain than the initial innovators. This means
finding a market potential that has not yet been realized. For instance, it is well known that
many of the basic concepts of Apple’s Mac computer (such as the mouse and the user
interface) first originated in Xerox Parc, but that Xerox were not capable of commercializing
these (and many other) ideas. The ability to build a commercial structure upon the
introduction of a new technology is a competence that may be more difficult to imitate and
substitute than the ability to develop fundamentally new technologies. The contractual
competitors can build a sustained competitive advantage through their ability to see
commercial opportunity and construct the system where value is created and appropriated.
This requires that the firm has an ability to contract and mobilize resources that at that time
tend not to be widely available. Thus, if a commercial system can be built the resources
cannot easily be copied or substituted by other firms (Barney, 1991).
Operational level competition
In operational level competition, firms are seen to obtain competitive advantage through
superior execution of activities, based on established technologies. We distinguish two such
sources of superior execution. The first deals with intrinsic properties of the technology.
Performance differences related to scale and scope are intrinsic and relate to the domain of
application of a technology. The second deals with the procedural implementation of an
established technology. Drivers of the latter include learning effects, capacity utilization,
vertical integration and links between activities (Porter, 1985). Whereas the fundamental
activities in entrepreneurial and contractual competition were exploration and expansion,
respectively; it is exploitation in operational competition (March, 1991). Exploitation refers
to the short-term improvement and refinement of present knowledge, opportunities and
10
technologies. A firm that puts too much emphasis on exploitation risks not surviving in the
long-term, because it neglects building knowledge to seize new opportunities. The success
trap is associated with too much exploitation, i.e., the firm being satisfied with the returns on
exploiting present knowledge and technologies. Present recipes will easily lead the firm to
continue exploiting at the neglect of exploration, which is necessary in the long term.
The figure below is meant to illustrate the three levels, not to suggest that all firms fit neatly
into one. Some firms actually succeed in all three. Intel in microprocessors in an example of
this, having gone from the early discovery to today also being the most efficient producer.
INSERT FIGURE 1 HERE
The three types of resource-competition will tend to have a chronological sequence for a
given technology. A new industry emerges through entrepreneurial action, implying
experimentation and the discovery of a technological opportunity. Often, many competitors
with similar motives—but with different technologies—emerge at the same time. These firms
are often small and purely technology oriented, and incumbents often overlook them. Their
competencies are often more advanced when it comes to the possibilities with the technology
than when it comes to grasping the commercial opportunity—or more correctly;
understanding how to develop the commercial opportunity. Then, contractual activity
develops the commercial industry, which often results in a dominant design (Abernathy and
Utterback, 1978), both in terms of technology and markets. Finally, when the industry is well
defined and a factor market established, there is room for operational activity. This is about
winning the head-on competition through lower costs and efficiency.
For the purpose of this paper it is important to note that the competencies required to
compete efficiently varies with level of resource-competition. This has important
implications for strategy.
COMPETITION IN THE PHARMACEUTICAL INDUSTRY
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The pharmaceutical industry provides a interesting illustration of this framework for several
reasons. First, this is an intensely competitive and global industry with a strong focus on
innovation. The fundamental challenge in the industry is to create patented drugs that can be
commercialized internationally. The companies in the industry average R&D investments of
more than 20%, and the total research and development investment is expected to hit $ 24
billion in 1999 (Hess, 1999). Second, the patent protection and the required medical approval
create well defined isolating mechanisms. These make each product imitation difficult, but
on the other hand facilitate technology diffusion. Finally, this is an industry with extensive
competition and cooperation between both small and large companies. This article merely
presents an overview of the industry for illustrative purposes. For a richer and more detailed
description of the pharmaceutical industry, see Thomas and Bogner (1996). For more indepth accounts of the research and development processes in the industry, see Henderson and
Cockburn (1994) and Cockburn and Henderson (1998).
The creation and manufacturing of drugs has become one of the largest and most profitable
industries worldwide. The annual sales of medical drugs total $ 300 billion, with a profit
margin that has been estimated at 30% (Economist, 1998). The traditional actors in the
industry, namely the integrated pharmaceutical firms, have been undergoing large changes
during the last decade as a consequence of (1) increased buyer pressures (particularly from
Governments and HMO’s), (2) harder price competition from generic drug makers, and (3)
innovative pressures from biotech companies. The industry is here divided into three levels
of competition, that undertaken by: (1) traditional pharmaceutical firms, (2) biotech firms,
and (3) generic drug makers. This division into different ways of competing is not clear-cut
with regards to all firms, however, as many corporations undertake all three forms of
competition. For instance, the big-pharma firm Roche owns over 80% of Genentech, a major
biotech firm. Similarly, both Novartis and Merck, large traditional pharmaceutical
companies, are also producers and distributors of generic drugs. In addition, there are
numerous alliances between biotech firms and big-pharma firms. These collaborations seem
to affect innovation positively, and there is often a mutual dependency between these two
types of firms (Shan, et. al., 1994).
12
Time pressures have accelerated the division of labor in the industry for at least two reasons.
First, it takes a long time to develop a new drug and second, once developed, the company
needs to break even fast in order to be profitable before the patents run out. On average it
takes fifteen years to develop a new drug, and it costs more than $400 million. Although
firms that produce a successful drug are protected through their patents (normally for 20
years), there is a high pressure to save time in commercialization. Only 30% of all drugs
introduced ever break-even (Gilmartin, 1998). High R&D investments—as well as marketing
costs—have to be recouped before a given drug becomes profitable. Hence, most biotech
firms simply do not have the time or resources to grow organically, even if they have
developed a drug with a high market potential. It often turns out that traditional
pharmaceutical firms—which often themselves face declining returns to scale in terms of
innovation (Graves and Langlowitz, 1993)—have competencies and relationships that make
them better suited for efficient commercialization. Below, we will look at the three types of
competition in the pharmaceutical industry.
Entrepreneurial competition – Biotech firms
Biotechnology can be defined as the integration of natural science and engineering science in
order to develop products and services based on the application of organisms, cells and
molecular parts. Biotechnology is, however, not a narrowly constituted technology. It is
comprised of many interdisciplinary skills and techniques, with wide-ranging applications.
Biotechnology can also be described as an enabling technology capable of affecting many
areas of industrial, medical, and agricultural activity. The term biotechnology is often used
for «genetic engineering», which has emerged during the last decades. This includes
recombinant DNA techniques, established enzyme technology, monoclonal antibodies, as
well as instrumentation technology for the automated sequencing of DNA, proteins and the
synthesis of peptides. The biotech industry has from its inception been closely linked to the
pharmaceutical industry, and there are today more than 2,000 «biomedicine» firms. As of
1999, more than 2,200 biotech-based medicines are in various stages of clinical testing, and
some 350 drugs are in the process of seeking approval by the U.S. Food and Drug
Administration (FDA). Of these, 30% are in the late stages of this process. Biotech firms are
important technical innovators. They are generally smaller than traditional pharmaceutical
13
companies, and they are often spin-offs from universities and research entities (Powell, et.
al., 1996). Only three biotech firms—Amgen, Chiron and Genentech—have turnovers that
exceed $1 billion. Many biotech firms function almost as basic research labs, utilizing their
small size and targeted competencies to develop new ideas and to produce technical
breakthroughs.
Producing innovation requires certain competencies, such as an advanced understanding of
the basic technology underlying the respective biotech firm’s area of activity. Successful
biotechnology firms live on the innovation edge, and need to master the state-of-the-art in
their chosen activity. Furthermore, they need the ability to learn from formal and informal
collaboration. Typically, many such partnerships are found with universities. As seen by the
manager of a biotechnology company we studied: «We were really very fortunate because
we could start cooperating with researchers on the cellular applications for the future. In this
way we evolved with our customers.»
Biotechnology firms typically have the willingness to experiment with new designs. Their
raison d’etre is prototyping entirely new concepts. In essence, the competence that
distinguishes a successful biotechnology firm is its ability to grasp and diagnose new, unique
problems and to come up with solutions. Advanced problems are often accessed through the
research network. Participating at the frontier of research provides the biotech firms leverage
to access, assimilate, and exploit additional ideas and information. R&D collaboration is both
an admission ticket to an information network and a vehicle for the rapid communication of
news about opportunities and obstacles (Kreiner and Schutz, 1993). Hence, successful
biotech firms have intangible resources that assist in the identification of—and inquiry into—
new problems, including a network to access relevant technological competencies and access
to advanced know-how.
In fact, biotech firms need to build relationships that support entrepreneurial competition.
These relationships include (1) access to leading customers, and (2) access to technical
knowledge. These relationships are usually of both a formal and an informal nature. Both
types of networks facilitate new idea generation, in terms of new market solutions or new
14
technical solutions. For instance, having links to other knowledge-intensive firms may help
the firm pick up new ideas and stimulate to think in new ways (Porter, 1990). Such
relationships might include cooperation with research centers, etc. This requires that the firm
is open to learn from customers and suppliers. As argued by Powell, et. al., (1996: 121) in a
study of inter-firm collaboration between biotech firms:
“…once a firm begins collaborating, it develops experience at cooperation
and a reputation as a partner. Over time, firms develop capabilities for
interacting with other firms. Experience with collaborative networks proves a
fertile ground for both further formal partnerships and an expanding array of
informal relationships. A broader range of collaborative efforts provides
greater opportunity to refine organizational routines far cooperating and
render them more versatile.”
The relationships of successful biotech firms generally include links to «idea rich»
surroundings, such as research institutions, other biotech firms and advanced pharmaceutical
companies. These allow the firms to pick up new ideas, to think in new ways, and to put an
intense research commitment behind new technological innovations. In addition, they
represent «reservoirs» of available competencies that may be mobilized when new
opportunities are seen.
Contractual competition – (Big Pharma”) Traditional pharmaceutical firms
The traditional pharmaceutical industry has been very profitable and R&D intensive, and this
trend is predicted to continue due to ongoing advances in technology and an aging population
in the largest markets. The traditional pharmaceutical firms (here called “big-pharma”)
encompass some of the world’s largest and most profitable firms altogether. For instance,
Merck, Roche, Glaxo and Novartis each has a turnover exceeding $7 billion. The high risks
and increasing costs of product development, nevertheless, does affect how the large
pharmaceutical companies organize innovation. Although they still undertake extensive
research and development internally, increasingly the discovery of entirely new solutions
originate in biotech firms and research laboratories. Therefore, we see more joint ventures
with biotech companies with interesting technologies. In fact, many large pharmaceutical
companies seem to prefer cooperation to acquisition, even if the take-over price is no
15
hindrance (Bower, 1993). This is partly due to the fact that biotechnological innovation is
foreign to pharmaceutical firms, which have traditionally based their research on organic
chemistry.
The current focus of big-pharma firms is to identify promising discoveries and then to take
these through testing and approval onto the market. The approval process requires a large
investment, where the big-pharma firms possess internal laboratories, links to clinical
hospitals and experience in managing the FDA approval procedure. These are critical
resources in the commercialization process. Once a drug is accepted, the big-pharma firms
use their global sales and marketing networks to commercialize it. Increasingly, the bigpharma firms also have a contracting approach to leverage their know-how in generic drugs
towards the end of the patent life-cycle. The critical competencies for big-pharma firms
include their ability to screen and understand potential commercial breakthroughs (often
made in research-intensive companies, e.g., biotech firms). This requires competitive
intelligence and a blend of technological and commercial knowledge, i.e., an absorptive
capacity (Cohen and Levinthal, 1990). Contractual competition requires an understanding of
the potential market and an ability to organize a web of internal and external contracts. The
relationships that are important for big-pharma firms include a large set of contacts into
research settings in order to screen new opportunities. Moreover, it is an advantage to have
an established reputation as a serious collaborative partner. Finally, in order to sell and
market new products, the big-pharma firms need good relations to physicians, pharmacies
and other large customer groups, as well as a brand name that facilitates the introduction of
new products. In sum, two important resources of big pharma firms are contactability, an
ability to access and manage contacts in many areas, and contractability, a reputation for
trustworthiness.
Operational competition – Generic drug manufacturers
Generic drug manufacturers produce generic drugs. A generic drug is called by its basic
chemical name instead of a registered brand name, which are usually held by big-pharma. In
general, generic drug makers do not undertake R&D themselves. Rather, they start producing
“me too” products once the patents of original products have run out. Generic drugs have the
16
same active ingredients as brand-name drugs. If a physician prescribes a generic drug instead
of a brand-name product, good standard practice and most countries’ laws require that it be
therapeutically equivalent. In addition to not having a brand name, the generic drugs are
often priced much lower. Today, managed care organizations affect the pharmaceutical
business in every significant market segment. As those organizations have continued to grow
in size and influence, they have increasingly demanded discounts from pharmaceutical
companies. This has provided the generic drug makers, such as Mylan Laboratories, Teva
Pharmaceuticals, Barr Laboratories, Ivax, etc. with a market opportunity. Also, in many
countries the generic drug makers have been helped by an increasing reluctance by
Governments to pay high prices for original drugs. Moreover, some big-pharma firms have
also entered into generic drug manufacturing in order to expand their volumes and capitalize
on already incurred plant investments.
The focus of generic drug manufacturers is on efficiency (in order to compete on price). The
competencies required to compete operationally are mainly linked to efficiency in
production. This includes the ability to identify a scope for economies of scale and capacity
utilization, as well as for better linkages between the different activities. They are also
connected to an efficient flow of goods. This implies the ability to gradually improve the
logistics connected to a very complex flow of people, technologies and materials. Another
critical competence is negotiations skills, allowing the firm to continuously reduce the costs
of suppliers by (1) making sure they reduce costs, and (2) reducing both transaction and
linkage costs. Furthermore, the relationships needed for generic drug makers to compete
operationally include a set up with suppliers and customers that facilitate an efficient flow of
information and products. Also, close contacts to customers and a limited number of
suppliers may limit transaction costs. The relationships developed by successful generic drug
makers are largely aimed at cutting cost and improving flows. This may imply reducing the
number of suppliers and increasing the business with the remaining partners.
We will argue that the three ways of competing, as illustrated above, require different
competencies and different relationships. These are summarized in the table below.
17
INSERT TABLE 1 HERE
DISCUSSION AND CONCLUSION
To summarize, how competencies and relationships may contribute to competitive advantage
differs with the competitive level. With respect to competencies we distinguish the
exploration-related competencies needed for successful entrepreneurial action; the
expansion-related competencies needed for successful contractual action, and finally; the
exploitation-related competencies needed for successful operational action.
Developing the market commercially is done through contractual competition (here by “bigpharma” firms), often undertaken by larger firms diversifying into the industry or the new
market. These are not usually first movers, but rather early movers, who have a different
focus than the one competing entrepreneurially (here biotech firms). Whereas companies
competing entrepreneurially explore product and technology opportunities, the company
competing contractually is concerned with developing the actual market. The companies that
are successful in contractual competition are innovators when it comes to understanding and
exploiting the market opportunity. This framework introduces contracting as a way of
competing that has not been discussed sufficiently in the literature. However, aspects of the
contractual competition has been discussed by Chandler (1990) and Miles and Snow (1978).
Chandler, for instance, found that the most successful industrial firms were the first to build
management (p. 131).: ”The dominant companies are those whose founders and senior
executives understood…the logic of managerial enterprise, that is, the dynamic logic of
growth and competition that drives modern industrial capitalism.” Similarly, Miles and
Snow identified the analyzer as a competitive archetype, alongside the defender (focused on
efficiency), the prospector (innovation) and the reactor (follower). According to Miles and
Snow (p. 68) the analyzer is: ”…an organization that minimizes risk while maximizing the
opportunity for profit, that is, an experienced Analyzer combines the strengths of both the
Prospector and the Defender into a single system”. These observation, in addition to more
recent studies documenting that the early movers—as opposed to first mover—are the most
successful (Tellis and Golder, 1996) seem to suggest that the contracting is a significant level
18
of competition. It undertaken by the company that understands the potential of resources that
are not yet commercially recognized. It is not the one that develops the technology, but often
the one to appropriate (Teece, 1986) much of its potential value.
This discussion has implications for our understanding of competition and competencies.
There are different ways of competing and, consequently, different types of competencies
that support each way of competing. This can be stated through a set of propositions about
resource-competition in the pharmaceutical industry.
Proposition #1:
There are systematic differences in the properties of competencies and relationships leading
to superior performance in the pharmaceutical industry. These depend on whether firms
compete to (1) create new technologies (potential products), (2) create new business systems
based on newly introduced technologies, or (3) compete on price/quality with established
technologies within established business systems. These ways of competing are closely
associated with the biotech firms, large pharmaceutical firms and generic drug makers,
respectively.
We will deal with these levels in turn below. First, entrepreneurial level competencies allow
the development of new solutions. This may include intimate knowledge of state-of-the-art in
basic research, or a deep knowledge about the market. Relevant competencies are correlated
with innovative efficiency (Cohen and Levinthal, 1990). This includes attracting creative
people, the ability to manage innovation, the ability to motivate people, and the will to take
risks on unproved solutions. One may create the following proposition about biotech firms:
Proposition #2:
Superior performance as a biotech firm in developing new product or process technologies
requires:
 Competencies and relationships that allow the firm to gain unique insights into a
technology, and to combine technological knowledge in new ways.
19
 Competencies and relationships that allow the firm to learn continuously from
experimentation.
 Competencies and relationships that facilitate unique problem solving.
The competencies that are key to contractual level competition are those that allow the firm
to expand rapidly on the basis of existing technologies. To accomplish this the firm needs
superior resources that support procurement, resource management and marketing when
facing imperfect factor and output markets. The competencies that support contractual
competition encompass (1) the ability to see commercial opportunities in the market for
existing technologies, and (2) the ability to access the resources to seize the opportunities.
Accessing (imperfectly traded and imitated) resources requires both the ability to manage a
variety of contractual mechanisms simultaneously and a broad network reach. For instance,
when operating in imperfect output markets, the firm needs competencies to build brands,
trust and loyalty to all parties, including the suppliers of competence (i.e., the employees and
other contractual parties). These relationships must allow the firm an extensive reach within
the relevant domain.
Proposition #3:
Superior performance in the pharmaceutical industry for drug firms in terms of developing
new business systems requires:
 Competencies and relationships that allow the firm to understand the potential of a not
yet fully developed product (that may well have been developed elsewhere).
 Competencies and relationships that allow the firm to organize a nexus of contracts in
order to build the business system and develop the market.
 Competencies and relationships that allow the firm to access technologies and mobilize
the resources that allow commercial exploitation of the technology.
Finally, operational level advantages stem from the efficient implementation of primary
activities. The intangible resources that are key at this level facilitate resource acquisition
efficiency, with the aim of cost reduction. This requires competencies in manufacturing,
logistics, negotiations, as well as the ability to retain quality and improve incrementally.
20
Sustaining operational level advantages require competencies that optimize the use of
resources and, thus, give an advantageous cost position in the chosen segment (Porter, 1980).
Therefore, “the operator” (the firm that competes operationally) needs competencies to build
relationships to support operational level performance. Such relationships are linked to
efficient resource acquisition. Examples of such relationships include just-in-time set-up with
suppliers and customers, and the establishment of bargaining power vis-à-vis vendors.
Proposition #4:
Superior performance within generic drug production requires:
 Competencies that allow the firm to produce efficiently
 Competencies and relationships that allow the firm to get an optimal flow of inputs and
outputs.
 Competencies and relationships that minimize transaction costs.
Both contractual and entrepreneurial competition means combining resources in new ways
(Schumpeter, 1934). The company competing entrepreneurially combines resources to create
new products, whereas the company competing contractually takes these new product ideas
and develops new markets. Companies competing operationally (here generic drug makers)
take both products and markets for granted and focus purely on efficiency. They innovate in
terms of building a system that outcompetes the two others on costs (through economies of
scale, capacity utilization, flow of goods management, etc.). This requires competencies that
support efficient operations, and these types of competencies are different from both those
required for contractual and entrepreneurial competition.
This framework may have interesting implications for managers. First, it helps us better
understand which intangible resources are most critical for our firm. Second, it may help
managers clarify what kinds of competitive activities their firm is actually engaged in. It is
clearly important to distinguish creation (of new industries) from operational competition.
Finally, this framework helps us link the three main levels of strategy, namely competencies,
companies and competition. So far, most theories have been concerned with one of these.
21
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26
FIGURE 1: THREE LEVELS OF COMPETITION
Mobility of critical
resources
High
Low
Operational
competition
Contractual
competition
Entrepreneurial
competition
Time
Industry development over time
27
TABLE 1: THE COMPETENCIES AND RELATIONSHIPS RELATED TO LEVEL OF COMPETITION
Level of competition
Entrepreneurial
competition
Contractual competition
Operational competition
Supporting competencies
 Know-how in basic
technology
 Ability to learn
 Ability to experiment
 Ability to solve new
problems
 Understanding of
markets, actors and
resources
 Ability to see commercial
opportunity
 Ability to organize
contracts
 Ability to mobilize new
resources
 Efficiency
 Quality management
 Flow of goods
 Negotiation skills
Supporting relationships
 Networks to access
relevant technological
competence
 Network to access
advanced problems





Contractability –
reputation for
trustwortiness
Contactability – many
potential relationships
“Just-in-time”
Low transaction costs
High bargaining power
28