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Core competencies is one of the most used and abused phrases in business strategy. But a proper understanding of the idea behind the jargon is essential

Core competencies is one of the most used and abused phrases in business strategy. Nowadays, it has simply become a pretentious phrase for activities – things a business does do, or would like to do.

The disease has even struck my own company. Last week I picked up a sheet that proudly proclaimed that the competencies of London Economics include economic knowledge, business experience, analytical skills, problem solving, industry knowledge, innovation, project management and customer focus. That list is a terrible muddle. It conflates the organisation’s resources – its economic knowledge and business experience, with things the organisation does – problem solving and project management, and with characteristics we need, but probably don’t have – innovation and customer focus.

But it is a list not very different from the list generated by most companies. One firm I know claimed to have no less than forty three core competencies. It’s time to think more clearly – in your firm as well as mine.

The phase “core competencies” seems to be due to an influential Harvard Business Review article by CK Prahalad and Gary Hamel. That article is a popularisation of what has become known over the last decade as the resource-based theory of strategy. The term resource-based theory, in turn, seems to originate in a 1984 article in the Strategic Management Journal by Bo Wernerfelt; and in turn the ideas it describes was first effectively expounded twenty years earlier in a jewel of a volume called The Theory of the Growth of the Firm by Edith Penrose. I mention this history partly to emphasise that the best ideas in management are rarely the newest and also to stress that what really matters is not the words we use but the thinking that lies behind them. We can debate for ever whether something is or is not a core competence but unless we know why the answer matters the debate is a waste of everyone’s time.

We need to start by distinguishing what the firm is – the resources it has, like economic knowledge and business experience – from the things it does – like problem solving and project management. The reason is that the key strategic question for any firm is how well what it is matches what it does, and if you muddle the two you can’t even begin to answer that question effectively. The resource based-theory of strategy emphasises that each firm is characterised by its own individual collection of resources.

But in looking at these resources, the vital step in understanding the nature of the firm is to draw a line between those resources which are quite idiosyncratic to that firm and those which can be readily bought in the market place. The Coca-Cola brand is unique to the company, but fizzy drink technology is available to anyone. I have called this the difference between distinctive capabilities and skills, but the terms are not important: what is important is the different ideas they express.

The reason this dichotomy matters so much is that any but the most transitory of competitive advantages has to be based on distinctive capabilities. A competitive advantage based only on skills – those resources of the firm which others can go out and buy – will quickly be eliminated. If it yields profits, others will go out and buy the same resources. So Coca-Cola’s competitive advantage is based on its Coke brand, not its fizzy drink technology. You can buy the skills incorporated in Marks & Spencer (others have, by poaching their employees), but you cannot attack the company’s competitive advantage because you cannot buy its distinctive capabilities – its structure of relationships and its reputation with customers. And correspondingly, when Marks & Spencer wants to apply a distinctive capability – its reputation with customers – in a new market, it can go out and buy the financial services skills it needs. There is no shortage of people who know how to design a personal equity plan or process a life insurance policy.

So what is needed in defining a firm’s strategy is to identify the markets and activities in which the firm’s distinctive capability is relevant, and then put together the skills needed to capture these markets and perform these activities. Now no firm will ever have forty three distinctive capabilities. It is rare for any company to have more than one or two. Sometimes a firm may have none at all. In that case, it is not going to have any competitive advantages and it will do well to make an average return on capital. That hard but obvious truth is often difficult to accept.

London Economics’ distinctive capability is its technical skills in economics, and an established position, especially in the recruitment market, which makes it quite difficult for others to replicate that stance. That means we should only try to sell work which could only be done by someone with exceptional abilities in economics. Other reasons offered for pursuing new lines of business – that market is growing, this market is very profitable, we could do it – should all be rejected. Even if we could do these things, if they don’t match our distinctive capability we won’t make money in them for long. And because its hard to reproduce our distinctive capability, I don’t mind telling readers of the Financial Times what it is.

And when Oxford establishes its business school, the distinctive capability it enjoys is the Oxford brand. That brand immediately implies an intellectual, relatively academic, positioning; because that is what the brand conveys and that is the market in which it carries weight. The job of its Director is to put together the resources which complement the distinctive capability in achieving that market position. For other business schools, with different distinctive capabilities – or none – the strategy should be different.

That is why there will never by any successful generic strategies for companies. The real competencies of firms are their distinctive capabilities and these are few in number and individual in nature. An any effective strategy is specific to the firm that deploys it.

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