Model of National Competitive Advantage of Porter - Essay Example

Contents Introduction 2 Key concepts and critiques 2 The role of advanced factor creation in competitiveness 3 Factor conditions 4 Mixed evidence for local diamonds in assessing performance 4 Demand conditions 5 Related and supporting industries 6 Firm strategy, structure and rivalry 7 Porter’s model as an assessor of characteristics and performance 8 Introduction In 1990, Michael E. Porter proposed a ‘Diamond Framework’ to explain how businesses can develop and sustain competitive advantage. The framework consists of four determinants – factor conditions, demand conditions, related and supporting industries, and firm strategy, structure and rivalry – that interact with the government, as well as chance factors, to build competitive advantage into industries. This essay looks at the role of all four determinants, to evaluate how well they explain the characteristics and performance of business systems in five major economies – the US, the UK, Germany, Japan and China. It uses examples from Apple, CyberPower UK, Sennheiser, Sony and Lenovo to reach the conclusion that the framework is not a good assessor of business characteristics or performance in major economies, in an era of rapid globalization. Determinants of National Competitive Advantage (Porter 1990) Key concepts and critiques Porter’s work focuses on home economies, leveraging home diamonds to create competitive advantages; he advocates entrepreneurship and innovation as drivers of advantage, rather than inherited endowments such as land, raw materials and size of labour pool, the lack of which he believes can be overcome (Grant 1991). He further argues that factor creation is supported by the quality of consumer demand, rather than its size; the extent of relevant clustering and knowledge-sharing; and competition in the economy. Researchers have found cross-country evidence for all of these concepts (Beije & Nuys 1995; Wong, Maher, Wang & Long 2001; Oz 2002). However, Porter’s concept of national competitiveness has also been criticized. Krugman (1994) argues that nations do not compete, like companies; and the idea of national competitiveness can be used to drive inefficient policies into play. Other researchers have criticized Porter’s methodology, arguing that global export shares are not a well-rounded measure of international competitiveness (Dunning 1993; Rugman & Verbeke 1993). Gray (1991) and Oz (2002) critique Porter’s narrow focus, which ignores macroeconomic environments and government policies, while Lazonic (1993) advocates that rivalry can lead to price-wars, decreasing the drive to innovate. In addition to this, Rugman & D’Cruz (1993) have created a Double Diamond Model, designed to fill in the gaps present in Porter’s model, which does not factor in the role of multi-national enterprise. The role of advanced factor creation in competitiveness Perhaps the most case-based evidence in support of Porter’s Diamond framework, emerges from his proposition on factor creation. There is case-based evidence to support his emphasis on ‘how, not what’ – the significance of how a nation or firm develops and leverages its capabilities, rather than the base it begins with, in developing competitiveness. Factor conditions Porter (1990) argues that competitiveness arises from the rate at which specialized factors are created, rather than the amount of natural endowments a state inherits. The cases of Japan, China and the US provide insight into this. In traditional terms, China is labour-rich, Japan resource-scarce, and the US resource-rich (Zussman 1983; Wright & Jesse 2007). The US and Japan have been global players in the consumer electronics industry since its emergence, while China has become a global player in recent times. Yet all three are successful global players: in 2014, Apple and Sony earned sales revenues of USD 182 and 76 billion respectively,1 while Lenovo proved to be the largest PC vendor by unit sales (Gartner 2015). Furthermore, differences in annual sales of global players are correlated to R&D spend: at USD 6 billion R&D investment in 2014, Apple is the most aggressive innovator, while Sony is a close second and Lenovo lags behind, with USD 732 million being spent on R&D in 2014. This suggests that advanced factor creation is a much more important determinant in creating and maintaining competitiveness, than inherent endowments. However, it leads to the question of what provides impetus to advanced factor creation. Mixed evidence for local diamonds in assessing performance Beyond Porter’s perspective of factor conditions, it is argued here that little evidence exists for the relevance of local diamonds in assessing the characteristics or performance of national competitive advantage. Demand conditions Porter argues that the quality of local demand is more significant than its size, with local demand providing impetus and direction to companies. However, comparing the cases of the US, Japan and China provides mixed evidence. China boasts the world’s largest PC market, as well as one of the largest middle classes in the world, with 54% of its population falling in the mass middle class category in 2012 (Savitz 2011; Barton, Chen & Jin 2013); accordingly, Lenovo has focused on building and marketing affordable personal computers that ‘bring cutting-edge features at reasonable prices’ (Ahrens & Zhuo 2013). In similar vein, US demand conditions show a class of consumers with high income per capita, access to credit, and high consumer sophistication: hence Apple’s strategy of building innovative consumer electronics, with a keen focus on the design, works well in the US market. However, Sony was unable to foresee and transition into the rapidly growing market for smartphones, table and portable computers, despite catering to what is seen as one of the world’s most sophisticated consumer bases, in terms of awareness of and reception to technological product s (Cheng 2012). Japan’s consumers are now turning to tablets and portable computers – from foreign players. Hence an in-depth analysis shows that demand conditions do not capture the performance of business systems. Porter’s proposal also assumes demand conditions to be inherent. Heller (1976) believes that Japan’s high consumer sophistication comes from Japan’s historical emphasis on education, led via government education policies. Ahlstrom & Bruton (2009) highlight the Japanese consumer electronics industry’s decision to automate processes, in response to rising wage rates, which has helped the industry become cutting-edge in the country, creating consumer awareness. Hence to take demand conditions as an assessor of business characteristics is a superficial view: a more nuanced view shows evidence that demand conditions could in fact be results – rather than causes – of other determinants, including government policies, international competition, and firm strategy, structure and rivalry. This is exemplified by the case of the UK, which is the largest European market for high-end consumer electronics according to gov.uk (2014), yet has not been able to produce a nationally competitive player despite the availability of ICT clusters and government support. Related and supporting industries Porter(1990) believes that the presence of competitive supplier and related industries within the home economy, is essential to creating competitiveness; in a 1998 research paper, he further advocates the importance of clustering of related and supporting industries, in creating national competitiveness. Yet while evidence for the importance of clustering in driving national advantage exists (see for example, Oz 2002), the role of clusters has become less important in the context of globalized supply chains, and supplier absence is no longer a fatal issue. According to Charles and Benneworth (2000), the UK boasts of three ICT clusters, at present: in Silicon Glen, Thames Valley, and Cambridge; yet local players such as CyberPower UK have negligible market shares, with the market being dominated by US-based players. Meanwhile, while the US has developed a well-known cluster to support its consumer electronics, over 90% of Apple products are manufactured and assembled in China, by Taiwanese firm Foxconn. In a more nuanced argument, the ICT cluster developed by Foxconn through vertical integration, including the acquisition of related and supporting firms in Shehzen, becomes important to Apple’s competitiveness (eds. Jager & Sathe 2014, p. 184). Extending this argument, The Economist (2012) advocates the importance of two clusters for Apple’s success: Silicon Valley, which provides the specialized human resources and infrastructure to design high-end electronics and cutting-edge software, and Shehzen, which contains a network of related and supporting firms that provide low-cost production facilities, engineering skills and supply chain solutions. This evidence weakens Porter’s argument for local clustering, but provides support for the Double Diamond Model, with national competitiveness being driven by a combination of complementary local and foreign diamonds. Firm strategy, structure and rivalry Evidence for Porter’s argument for local firm strategy, structure and rivalry also turns out to be mixed, once again due to the sole focus on national diamonds. Contrasting the cases of Japan and the US, it is seen that Japan was able to drive the US out of certain segments of the industry, by strategizing process automation and continuous process improvement; this enabled Japanese firms to solve the problem of rising labour costs, while decreasing product costs and increasing product quality (Ahlstrom & Bruton 2009). On the other hand, according to the same authors, US firms chose to outsource to cheap-labour countries, resulting in a quality drop that made them uncompetitive. Yet today, Apple is succeeding not just in the US, but globally, due to an aggressive innovation strategy, driven by powerful competitors – its main competitor, Samsung, was the top-ranked brand in terms of global R&D spending in 2014, according to PWC’s Strategy& (2014). On the other hand, Japan’s Sony did not strategize innovation, with rivals such as Toshiba, Sharp and Panasonic shutting down product lines instead of fighting to stay competitive against foreign rivals, which has led to Sony’s downfall (Cheng 2012). An entirely different perspective emerges from the case of the UK, wherein the home economy has 18000 players in the consumer electronics industry according to gov.uk (2014), yet the big players are all foreign, with even CyberPower UK being a US-based offshoot. A similar case can be made for Germany, where Sennheiser has stuck to accessories such as headphones and headsets, rather than competing head-on in more lucrative consumer electronic categories. This pinpoints that firm strategy, structure and rivalry arising from local diamonds is not enough to remain competitive. Cheng (2012) shows that while Sony was doing well within its local diamond, it was the foreign diamond – driven by Apple and Google’s firm strategy, structure and rivalry – that led to the drastic decrease in Sony’s performance. Porter’s model as an assessor of characteristics and performance Bringing together the evidence from research and cases, it can be concluded that Porter’s model is not a well-rounded assessor of national business characteristics and performance in the globalized economy. Its strongest point lies in its argument for advanced factor creation – it is seen that firms can overcome traditional resource challenges through advanced factors, and are able to sustain a national advantage only in cases where they continue to create and implement specialized knowledge, as exemplified by Sony’s rise against US brands, and then downfall in front of Apple. Demand conditions are not a fair predictor of firm characteristics or performance either: the UK’s high income per capita and consumer sophistication have not given rise to a competitive national player in the consumer electronics industry, while Sony is struggling to stay relevant in the market, despite a sophisticated, future-oriented and highly technology-receptive consumer base. The role of related and supporting industries is important, but no longer in the context of local diamonds – foreign diamonds now play an important role in the development of competitive advantage on the international front. The very same applies to firm strategy, structure and rivalry, with firms that hope to stay competitive having to take global players into active consideration. What becomes most apparent from the above discussion, is the Diamond framework’s inability to take current globalization trends into account. It does not capture the rise of the multinational, the development of global supply chains, or the opening up of international markets. It is because of this that its focus on home economies fails to provide a well-rounded explanation of national business characteristics or performance – as advocated by Dunning (1993), with the rise of multinational enterprise, exports can no longer be a significant measurement of global competitiveness; and home factors no longer determine customer needs and business strategies. While Porter’s framework can still be applied to small players in home economies, these players are not competitive at a national level; a small player that can leverage a home diamond to perform well, cannot succeed at a larger level until it interacts with and responds to foreign diamonds. The research conducted for this essay also raises another salient point: the differentiation between cause and effect, in all four determinants. Porter assumes that local diamonds are causes of competitiveness; yet there is evidence here that they may well be results. A large competitive player could generate rivalry, which could in turn generate clustering, which could lead to the generation of specialized skills and R&D investment in the sector, resulting in innovative products that raise consumer sophistication levels, as can be argued has been the case with Apple’s iPhone. There is also the case of India’s ICT industry, one of the world’s leading ICT hubs, which emerged despite a weak local diamond that had none of Porter’s four determinants to rely on (Smith 2010). Porter provides little explanation on both these lines of thought, assigning a disproportionate amount of responsibility to ‘chance’. Linked to this is the role of the government, which is assumed to be minimal. However, this limits the framework to the developed world, making it less relevant to developing countries such as China, where the government plays an active role in defining and creating business systems. In conclusion, it can be said that Porter’s Diamond framework is an important tool for gaining a better understanding of national competitiveness in major economies. However, in today’s globalized world, its ability to assess business characteristics or predict business performance is limited at best. 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