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Towards a Dynamic Theory of Strategy

Author(s): Michael E. Porter
Source: Strategic Management Journal, Winter, 1991, Vol. 12, Special Issue:
Fundamental Research Issues in Strategy and Economics (Winter, 1991), pp. 95-117
Published by: Wiley

Stable URL: https://www.jstor.org/stable/248643

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 Strategic Management Journal, Vol. 12, 95-117 (1991)

— TOWARDS A DYNAMIC THEORY OF STRATEGY

MICHAEL E. PORTER
Graduate School of Business Administration, Harvard University, Boston, Massachu-
setts, U.S.A.

This paper reviews the progress of the strategy field towards developing à truly dynamic
theory of strategy. It separates the theory of strategy into the causes of superior performance
at à given period in time (termed the cross-sectional problem) and the dynamic process by
which competitive positions are created (termed the longitudinal problem). The cross-
sectional problem is logically prior o à consideration of dynamics, and better understood.
The paper then reviews three promising streams of research that address the longitudinal
problem. These still fall short of exposing the true origins of competitive success. One
important category of these origins, the local environment in which a firm is based. is
described. Many ‘questions remain unanswered. however. and the paper concludes with
challenges for future research

INTRODUCTION theory of the firm and an associated thcory of

strategy. While there has been considerable
The reason why firms succeed or fail is perhaps progress in developing frameworks that explain
the central question in strategy. It has preoccupied differing competitive success at any given point
the strategy ficld since its inception four decades in time. our understanding of the dynamic
ago. The causes of firm success or failure processes by which firms perceive and ultimately
encompass all the other questions that have been attain superior market positions
raised in this collection of essays. It is inextricably developed. Worse yet. some recent
bound up in questions such as why firms differ. tended to fragment or dichotomize the important
how they behave, how they choose strategies parts of the problem rather than integrate them,
and how they are managed. While much of the as L will discuss later.
work in the ficld has been implicitly domestic, it My purpose in this essay is to sketch the
has become inercasingly apparent that any scarch outlines of a dynamic theory of strategy. Drawing
for the causes of firm success must confront the on recent research, some parts of the outline can
reality of international competition. and_the be filled in. Many unanswered questions remain.
striking differences in the performance of firms however. and I will try to highlight some of the
in a given industry based in different nations. most important of them.
Yet, the question of why firms succeed or fail As à starting point for building a dynamic
raises à still broader question. Any effort to theory of strategy. we must step back from
understand success must rest on an underlving specific hypotheses or models and look broadly
at the literature in both strategy and economies.
1 will begin by describing the traditional rationale
Key words: Strategy formulation. dynamic theories. for company success that emerged in the earlv
competitiveness literature on strategy. This reflected an orien-

0143-2095/91/100095-23811.50
© 1991 by John Wiley & Sons, Ltd.

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96 M. E. Porter

tation of the strategy field that has differed however, and this essay will conclude with some
in important respects from that which has challenges for future rescarch.
characterized most rescarch in cconomics, argu-
ably the discipline with the most obvious connec-
Determinants of firm succes: The early answers
tion to strategy. The strategy field's traditional
answer to why firms succeed or fail was als Any discussion of the determinants of firm
based on a set of largely implicit, but crucial success must begin with à clear definition of what
assumptions about the nature of firms and the success means. For purposes of this essay. 1 will
environment in which they operate. assume that firm succe manifested in attaining
Although these assumptions grew out of à decp a competitive position or series of competitive
understanding of practice, they raise profound positions that lead to superior and sustainable
challenges for à theory of strategy. 1 will outline financial performance. Competitive position is
some of the most important challenges and the measured, in this context, relative to the world's
trade-offs they raise in both theory and empirical best rivals. Financial success derived from govern-
testing. Taking these challenges as à starting ment intervention or from the closing of markets
point, 1 will then describe my own answers to is excluded. A successful firm may ‘spend’ some
the causes of superior firm performance at à of the fruits of its competitive position on mecting
given point in time, which can be framed as à social objectives or enjoying slack. Why à firm
chain of causality. This problem, which ! term might do this. however, is treated as à separate
the cross-sectional problem. logically prior question.
to a consideration of dynamics and better To explain firm success, the carly literature on
understood. A body of theory which links firm strategy defined three essential conditions.! The
characteristics to market outcomes must provide first is that a company develop and implement
the foundation for any fully dynamic theory of an internally consistent set of goals and functional
strategy. Otherwise. dynamic processes that result policies that collectively defined its position in
in superior performance cannot be discriminated the market. Strategy is scen as a way of
from those that create market positions or integrating the activities of the diverse functional
company skills that are worthless. departments within a firm, including marketing.
I will then move to the dynamic process by production, research and development. procure-
which positions are created. which 1 term ment, finance, and the like. An explicit and
the longitudinal problem. To understand the mutually reinforcing set of goals and functional
dynamics of strategy. we must move further back policies is needed to counter the centrifugal forces
in the causality chain. I will explore three recent that lead functional departments in separate
streams of research that begin to address it: game directions. Strategy. in modern language. is a
theoretic models. models of commitment under solution to the agency problem that arises because
uncertainty. and the so-called resource-based senior management cannot participate in or
view of the firm. While illuminating important monitor all decisions and directly ensure the
characteristics of the dynamic processes by which consistency of the myriad of individual actions
advantage is created and sustained. however, this and choices that make up a firm’s ongoing
research still falls short of exposing the true activities.” If an overarching strategy is well
origins of advantage. and I will discuss the understood throughout the organization, many
reasons why. One important category of these actions are obviously ruled out and individuals
origins, that has emerged from my recent work. can devise their own ways to contribute to the
is the nature of the ‘local’ environment in strategy that management would be hard pressed
which the firm is based. We observe striking to replicate.
concentrations of successful firms in a particular The second condition for success is that this
industry in particular locations, which suggests internally consistent set of goals and policies
that something about these locations is fundamen- aligns the firm's strengths and weaknesses with
tal to creating and sustaining advantage. 1 will
summarize some of my findings about these
* See Learned et al. (1965). See also Andrews (1971).
issues. Many questions remain unanswered in n the absence of à strategy. the narrow motivations and
our search for a dynamic theory of strategy. logisties of cach functional area will guide behavior

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 Towards a Dynamic Theory of Strategy 97

the external (industry) opportunities and threat Yet firms were scen as possessing considerable
Strategy is the act of aligning a company and its ability to build on their strengths and overcome
environment. That environment, as well as the their weaknesses. latitude in influencing or
firm's own capabi are subject to change. altering their environment. and the ability to
Thus, the task of strategy is to maintain a influence change over time, not merely respond
dynamic. not a static balance. to it. Indeed, the recognition that industry
The third condition for success is that a firm's structure and other exogenous conditions affect
strategy be centrally concerned with the creation performance and constrain choices had to await
and _ exploitation of its so-called ‘distinctive further work.
competences’.* These are the unique strengths a
firm possesses, which are scen as central to
competitive success. The recent interest in the The challenges for a theory of strategy
notion of firm resources or competences is
interesting in light of this heritage.* I will return The view of the world that guided the carly
to this stream of work later. efforts to formulate a theory of strategy raises
The early strategy literature contained only profound challenges for research. The complexity.
broad principles governing firm success. It is situation specificity. and changing nature of the
instructive to understand why these authors. firm and its environment strains conventional
coming as they did from a heritage that stressed approaches to theory building and hypothesis
the administrative point of view and the study testing. Indeed, the early research offered no
of in-depth cases, chose to approach the question theory for examining the firm and its competitive
in this way. There were two principal reason environment at all: instead strategy formulation
The first was that their orientation, and that of took place through applying the broad principles
many in the strategy field, was to inform business and fit to individual case studies.
practice. À theory that sought to explain part of Four principal issues emerge from the nature
a phenomena, but which left out important of actual economic competition as one contem-
elements that precluded the offering of credible plates a theory of strategy:
guidance for individual companies. was scen as
inadequate to the task.
A second reason for the early formulation was Approuch to theory building
the recognition, indeed the preoccupation, with
the fact that competition was complex and highly First. there is a fundamental question about the
situation-specific. The early scholars in the approach to theory building that will most
strategy field, especially those at Harvard, recog- advance both knowledge and practice. The broad
nized that firms were composed of numerous alternatives are represented in Figure 1.
functions and subfunctions, and that many diverse
aspects of a firm and its environment could be
important to success in particular cases. Indeed. MODELS FRAMEWORKS
it was the act of achieving consistency of action
in the many parts of the firm that was scen as
erucial to competitive success. Scholars such as Figure 1. Approaches to theory building
Andrews saw each company as unique. with its
own history, personali apabilities. and set of On the one hand. one might approach the ta
current policies. Every industry was also unique, of developing a theory of strategy by creating a
with its own circumstances and critical success wide range of situation-specific but rigorous (read
factors. Finally, every period of time was seen mathematical) models of limited complexity
as unique. because both companies and their Each model abstracts the complexity of compe-
environment were in a state of constant change. tition to isolate a few key variables whose
interactions are examined in depth. The norma-
tive significance of each model depends on the
* This notion is due origin ly to Sclznick (1957)
* Sce. for example. Wernei felt (1984) and Prahalad and fit between its assumptions and reality. No one
Hamel (1990) model embodies or even approaches embodying

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98 M. E. Porter

all the variables of interest. and hence the In frameworks, the equilibrium concept is
applicability of any model's findings are almost imprecise. My own frameworks embody the
inevitably restricted to a small subgroup of firms notion of optimization, but no equilibrium in
or industries whose characteristics fit the model's the normal sense of the word. Instead there is
assumptions. à continually cvolving environment in which a
This approach to theory building has been perpetual competitive interaction between rivals
characteristic of economics in the last few takes place. In addition. all the interactions
decades.” It has spawned a wide array of among the many variables in the frameworks
interesting models in both industrial organization cannot be rigorously drawn.” The frameworks
and trade theory. These models provide clear however, scek to help the analyst to better
conclusions, but it is well known that they are think through the problem by understanding
highly sensitive to the assumptions underlying the firm and its environment and_defining
them and to the concept of cquilibrium that is and selecting among the strategic alternatives
employed. Another problem with this approach available. no matter what the industry and
is that it is hard to integrate the many models starting position.
into a gencral framework for approaching any These two approaches to theory building are
situation, or even to make the findings of the not mutually exclusive. Indeed. they should
various models consistent. While few economists create a constructive tension with each other.
would assert that this body of research in and of Models are particularly valuable in censuring
itself provides detailed advice for companies, logical consistency and exploring the subtle
these models. at their best. provide insights into interactions involving a limited number of vari-
complex situations that are hard to understand ables. Models should challenge the variables
without them. which can inform the analysis of included _ in frameworks and assertions about
à particular company's situation. their link to outcomes. Frameworks, in turn,
Given the goal of informing practice, the style should challenge models by highlighting omitted
of rescarch in the strategy field. including my variables. the diversity of competitive situations.
own, has involved a very different approach.® To the range of actual strategy choices, and the
make progress. it was necessary to go beyond extent to which important parameters are not
the broad principles in the early work and fixed but continually in flux. The need to inform
provide more structured and precise tools for practice has demanded that strategy researchers
understanding a firm's competitive environment such as myself pursue the building of frameworks
and its relative position. Instead of models rather than restrict research only to theories that
however. the approach was to build framework: can be formally modelled. As long as the building
A framework, such as the competitive forces of frameworks is based on in-depth empirical
approach to analyzing industry structure. research, it has the potential to not only inform
encompasses many variables and seeks to capture practice but to push the development of more
much of the complexity of actual competition. rigorous theory.
Frameworks identify the relevant variables and
the questions which the user must answer in
Chain of causality
order to develop conclusions tailored to a
particular industry and company. In this sense, A second fundamental issue in creating a theory
they can be seen as almost expert systems. The of strategy is where to focus the chain of causality
theory embodied in frameworks is contained in A stylized example will illustrate. We might
the choice of included variables, the way variables observe à successful firm and find that its
are organized. the interactions among the vari- profitability is due to a low relative cost position
ables, and the way in which alternative patterns compared to its rivals. But the firm’s cost position
of variables and company choices affect outcomes. is an outcome and not a cause. The question

“ Anterestingly, the carlier work in industrial cconomi . in * Frameworks can also be challenged because their compl
the MasonBain tradition. was much closer to strat makes it difficult to falsify arguments. Yet aseribing this
research in îts effort to capture complexity. property to models is also problematie i they omit important
* Sce examples such as Porter (1985) and Ghemawat (1991). variablés.

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 Towards a Dynamic Theory of Strategy 99

Why was the firm able to attain this Empirical testing

cost position? Some typical answers might be
that it is reaping economies of scale, or has A final important issue is how to test theories
moved aggressively down the learning curve. But of strategy empirically. Empirical testing is vital
again, the question becomes why? Some possible both for frameworks and models. Testing of
answers might include entering the industry early, models is difficult given the need to match their
or the firm’s ability to organize itself particularly assumptions. Given the myriad ol relevant
well for cost reduction. Once again, however. variables in frameworks and the complex interac-
the question becomes why? And we could tions among them over time, rigorous statistical
continue moving along such a chain of causality testing of frameworks is also difficult. to say the
even further. least. In my own research. I pursued cross-
Another way of framing the same set of issues sectional econometric studies in the 1970s but
is as the problem of drawing the boundary ultimately gave up as the complexity of the
betwcen exogenous and endogenous variables. frameworks ! was developing ran ahead of the
Should the environment be taken as gi en or available cross-sectional data. I was forced to
not? Is the firm’s scale an outcome or à cause? turn to large numbers of in-depth case studies
And so on. The literature in both strategy and to identify significant variables. explore the
economies addresses many different points in this relationships among them. and cope with industry
chain of causality. Indeed. many differences are and firm specificity in strategy choices.
less conflicts than theory positioned at different The need for more and better empirical testing
points in the chain. as we will see later. will be à chronic issue in dealing with this subject.
Any theory of strategy must grapple with how Academic journals have traditionally not accepted
far back in the chain of causality to go. The or encouraged the deep examination of case
answer may well be different for different studies, but the nature of strategy requires it.
purposes. A theory that aims very early in the The greater use of case studies in both books
chain may be intractable or lack operationality. and articles will be necessary for real progress
Also, aspects oË the firm that are variable in the at this stage in the field's development.
long run may be fixed or sticky in the short run.
Conversely. a theory oriented later in the chain
may be overly limiting and miss important TOWARDS A THEORY OF STRATEGY
possibilities.
To explain the competitive success of firms.
we need a theory of strategy which links
Time horizon
environmental circumstances and firm behavior
A third challenge for theory is the time period to market outcomes. My own research would
over which to measure and understand competi- suggest a chain of causality for doing so. outlined
tive success. Should we be building theories for in Figure 2.
explaining success over two or three years, over The basic unit of analysis in à theory of strategy
decades. or over centuries? Clearly. the likelihood must ultimately be à strategically distinet business
of significant environmental change will differ, or industry. While firms can redeploy or share
as will the exogenous and endogenous variable resources. activities. and skills across different
A theory that aims at explaining success over businesses, the competitive value of such actions
years will focus on very different variables. almost can only be measured in terms of some set of
inevitably more internal ones, than à theory that rivals delivering à discrete product or service to
addresses success over one or two decades. This some set of buyers. Mcaningful approaches to
is because industry and competitive conditions corporate-level strategy for diversified firms must
are likely to be wholly different over a half grow out of a deep understanding of how
century. placing greater emphasis on a firm's companies prosper in individual businesses. and
ability to transform itself. Time period relates the role of the corporate office and other sister
closely to position in the chain of causality. Over business units in the process.
long periods. theories aimed earlier in the chain At the broadest level. firm success is a function
would seem more appropriate. of two areas: the attractiveness of the industry

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