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Business-domain definition and performance: an empirical study.

Introduction

An explicit business-domain definition, or, in other words, a statement identifying the competitive boundaries of the organization, may contribute to better performance because it improves competitor analysis, allows timely detection of threats and opportunities, and aids the development of appropriate strategic responses (Abell, 1980; Sidhu, Nijssen, and Commandeur, 2000; Weinstein, 1998). Drucker (1974) went so far as to say that managerial neglect of the "what business are we in?" issue is the number one cause of organization frustration and failure.

In recent years, the business-domain discipline has acquired additional significance because of fundamental technological changes. These have complicated the task of identifying competitors and defining the business-domain by blurring the boundaries between industries. Consider for example the difficulty of demarcating market boundaries in the case of firms operating in converging industries such as cable television, computers, and telecommunications. Unfortunately, empirical research has not kept pace with changes in the business environment. Indeed, only a handful of studies to date have focused on the issue of how organizations delineate their business domain and the consequences thereof (e.g., Feeser and Willard, 1990; Frazier and Howell, 1983). Further, much of this research has been in the context of relatively larger American companies. Very little is known about how smaller companies, especially those outside the United States, deal with the challenge of defining the business domain meaningfully in order to guide strategy formulation and implementation in the current turbulent times.

This study looks into the performance implications of explicit business-domain definition in the context of small and medium-sized companies. While past work has reported widespread use of written business-domain statements (e.g., Klemm, Sanderson, and Luffman, 1991) as well as the practical problems encountered in developing one (e.g., McTavish, 1995), it remains an open issue whether such a statement confers any tangible performance benefits on an organization. The multi-media sector in the Netherlands, which includes firms in the information technology, office equipment, printing and publishing and telecommunication industries, is the setting for the present study. This sector is interesting because of technological and market uncertainties facing multi-media companies. Environmental uncertainty may be expected not only to make the task of business-domain definition more difficult but also to make explicit business-domain definition potentially more rewarding. A distinguishing feature of this study is that the comprehensiveness of the strategy planning process as well as the strategy content (i.e., what strategy is followed) variables are explicitly included in the research design. Including these variables allows the model to control for the possibility that the business-domain variable does not merely operate as a surrogate for effective strategy and that it has an independent effect on performance. Moreover, scholars suggest that empirical studies should be more comprehensive and include both strategy process and content variables to avoid spurious findings (e.g., Powell, 1992).

Theory and Hypothesis

The business-domain concept refers to how an organization draws competitive boundaries. It describes a company's competitive arena in terms of the customers it wants to serve and the technologies to be used. Described thus, the business-domain concept is an essential part of the larger construct of mission but is not isomorphic to it. A mission statement may also include a description of the organization's vision or purpose and its competencies and values (see Campbell and Yeung, 1991; David, 1989; Davies and Glaister, 1997).

With the focus here specifically on the business-domain aspect, it is important to note that an organization's view of its competitive arena is likely to differ from the arena implied by market and industry definitions (Gripsrud and Gronhaug, 1985; Porac and Thomas, 1994). Whereas organizations typically delineate competitive boundaries subjectively and creatively to facilitate the formulation of strategy, economists' objective market and industry definitions based on past and current patterns of competition are intended as analytical tools for researchers (see Hamel and Prahalad, 1994; Curran and Goodfellow, 1989; Geroski, 1998). In his seminal work Levitt (1960) urged railroad companies to define their business domain as the "transportation business" rather than the railroad industry. By virtue of being broader than the industry definition, the business-domain definition would provide a more comprehensive picture of the threats and opportunities facing a company, and, therefore, would provide a more solid foundation for strategy formulation (Levitt, 1960). Abell (1993) and others have suggested that the customer needs and groups served as well as the technologies employed by a company should be reference points for identifying the relevant competitive arena and defining the business domain.

How a company defines its business domain is likely to affect its perception of strategic choices. To illustrate, airlines are now facing increasing competition from video-conferencing technology. In view of this, although airlines such as KLM (Holland's main airline) could define their business domain as "transport of passengers," they could also define it as say "facilitation of business communication." Unlike the former definition, the latter one exposes video-conferencing firms as rivals that could erode airline market shares and profitability. It also uncovers a potential opportunity. Airlines may find it easier than others to establish a foothold in the emerging video-conferencing market by transferring their marketing skills and goodwill (in the form of brand name recognition and loyalty). Airlines have already arguably eliminated some of the costs of entry into the video-conferencing market because of their relationships with business travelers and understanding of their needs. The "facilitation of business communication" definition would imply that the companies adopting it earmark substantial resources for investment in new technologies. The company would also have to alter its structure to accommodate a new unit specializing in business communication. Clearly, the subsequent evolution of such a company is likely to differ markedly from that of airlines with other business-domain definitions. This may underlie Xerox's fundamental redefinition of itself as the "document solutions company" rather than a company supplying copying machines.

Despite its importance, many organizations simply do not think about their business domain. This is unfortunate. By clarifying the competitive arena, an explicit statement streamlines intelligence gathering, thereby improving the quality of competitor analysis. In its absence, decision-makers may be confronted with large amounts of data collected ad hoc. As translation of voluminous data into useful, applicable information is likely to be difficult, ad hoc analysis constitutes inefficient use of limited organizational resources, with negative implications for the bottom line. In contrast, an explicit statement increases the odds that significant threats and opportunities will be detected on a timely basis. These threats may include those from foreign competition, product substitution trends, and changing technology (e.g., Day, Shocker, and Srivastava, 1979). An explicit statement provides a better basis for the formulation of appropriate short-term tactics and long-term strategy, as well as fostering organization-wide awareness and shared understanding of the competitive arena. To summarize using the language of the resource-based view of competitive advantage (e.g., Barney, 2002), an explicit business-domain statement may be viewed as a valuable resource capable of providing greater competitive advantage relative to organizations lacking an explicit statement. Therefore, we offer the following hypothesis.

HI : The performance of organizations with an explicit business-domain definition is likely to be higher than that of organizations without an explicit definition.

Methodology

* The sample

Data were collected from firms in the information technology, office equipment, printing and publishing, and telecommunication industries in the Netherlands. Questionnaires were mailed to chief executives, who are generally considered the most qualified to provide valid responses to organization-level questions. Prior to actual data collection, the instrument was pretested with the chief executives of five companies in the research population. One hundred fifty questionnaires were sent to firms selected at random from the membership lists obtained from VIFKA (trade association of information technology, office equipment and telecommunication companies) and KVGO (trade association of printing and publishing companies). The membership lists included 721 small and medium-sized companies with at least 20 employees. Smaller firms were not targeted because the trade associations hinted that they were unlikely to have explicitly articulated their business domain and, therefore, were unlikely to respond. A cover letter promised confidentiality and a summary of the research results. An additional letter from the trade association encouraged participation in the research and a quick response. These procedures led to a response rate of 26% (38 usable responses), somewhat higher than the response rates of 20% or less usually reported for similar surveys. The median and the modal size of the responding firms was in the 50-99 employees interval. Non-response bias was analyzed by comparing the size (in terms of employees) of responding and non-responding firms. The mean of the size variable in the two groups was not significantly different.

* The variables

Explicit business-domain definition. Respondents were asked whether an explicit business-domain statement had been formulated. The statement was described as highlighting the competitive arena of the firm in terms of the specific customer needs and groups to be served and the technologies with which to serve them. Affirmative responses were validated by asking respondents to furnish either a photocopy of the statement or to write it down in the space provided in the questionnaire. Firms were categorized into two groups--those having an explicit statement (n = 19) and those not having one (n = 19). The latter group included three firms that claimed to have business-domain statements but whose statements did not conform to the definition used in this study. In response to a further question, respondents in all firms having an explicit statement indicated that their statements had been developed more than three years ago.

Strategy-planning comprehensiveness. Literature suggests that a more comprehensive planning process may benefit performance (see, Grant, 2003; Powell, 1992). Following past studies (e.g., Bracker, Keats, and Pearson, 1988; Rhyne, 1986), the self-typing paragraph approach was used to classify firms as short-range, long-range, or strategic planners. Further, short-range, long-range, and strategic planners may be placed on a continuum with short-range planners having the least comprehensive process and strategic planners the most comprehensive. Short-range planners were described to respondents as those formulating most operational plans for only the next year. Long-range planners were described as those with a formal planning process to develop annual operational plans as well as written plans for the next three-to-five years. Finally, strategic planners were described as long-range planners whose organizational climate fostered planning efforts and whose planning system was very flexible and included continuous evaluation. These three categories captured not only the formulation and implementation dimensions of strategy process but also the time horizon for which plans are developed.

Strategy content. Extant work suggests that more innovative firms are likely to outperform others (e.g., Qian and Li, 2003). Two instruments were used to measure the innovation orientation of firms: a self-typing paragraph approach and a single-item scale. Responses on both were used to classify firms as prospectors, analyzers, defenders, or reactors (Miles and Snow, 1978). Prospectors are the most innovative type and try to be first-in with new products and markets. Analyzers attempt to maintain a stable line of products but, by following actions of competitors, try to be second-in with a more cost-efficient offering. Defenders are less innovative than the previous two and focus on maintaining a niche by providing higher-quality and superior service. Lastly, reactor organizations are the least innovative and less aggressive in defending their product line. The descriptions were taken from James and Hatten (1995). The single-item scale focused on speed of entry into a market, with respondents having to indicate whether their firm was first-to-market, a fast-follower, a slow-entrant, or a late-entrant. Firms were placed on an innovation continuum starting with prospectors and followed by analyzers, defenders, and reactors contingent on their responses on both instruments. In case of tied answers on the two instruments, following Conant, Mokwa, and Varadarajan (1990), two related decision-rules were used. In case of a tie involving the prospector, defender and/or analyzer response-options, a firm was classified as an analyzer. Any ties involving the reactor response-option led to a firm being classified as a reactor.

Performance. This was measured in terms of sales growth, which is a particularly suitable proxy for long-term performance as it reflects how well an organization relates to its environment (Hofer and Schendel, 1978). Respondents were asked to indicate on a five-point scale whether their sales growth at the end of the last fiscal year was higher or lower than that of close competitors. Subjective performance data was used because small privately-held firms are reluctant to disclose actual financial figures. Although objective performance measures are always more desirable, past studies indicate that managerial assessments of relative performance are consistent with objective measurements (e.g., Covin and Slevin, 1988; Dess and Robinson, 1984).

Results

Regression analysis was used to test this study's hypothesis. While Table 1 shows the descriptive statistics and correlations between the independent variables, the regression results are in Table 2. This suggests that all three independent variables made a unique contribution toward explaining variance in the sales growth measure of performance. As predicted, an explicit business-domain definition appeared to be a positive influence on performance. The regression coefficient was significant at the p < 0.05 level, implying that the firms with explicit statements had a significantly higher mean sales growth than the group without statements. Further, in line with past research, greater strategy-planning comprehensiveness as well as a strategy of greater innovation seemed to have a positive effect on performance. Both the relevant regression coefficients are significant at the p < 0.05 level.

Discussion

Explicit business-domain definition is considered critical for achieving an organization-environment fit. It is posited to improve competitor and customer analysis, enable timely identification of threats and opportunities, and aid the development of suitable strategic responses. Moreover, it is thought to encourage different organizational parts to work in unison. In view of all this, an explicit business-domain definition is conjectured to affect bottom-line performance. The present study found empirical support for this thesis. In data collected from multi-media firms in the Netherlands, those with a written business-domain statement had significantly higher sales growth than others, after controlling for the effect of strategy-planning comprehensiveness and strategy content. This finding supported the idea that firms with an explicit definition are able to recognize earlier and better than others the implications of changing technology and demand-side patterns, and are able to translate this knowledge into a performance advantage.

In view of the small sample size, this research is best viewed as exploratory. Replication studies based on larger samples must corroborate the present findings. Other potential limitations of the study also present fruitful opportunities for future research. If possible, future work should verify the explicit definition--performance relationship using objective performance measures. Further, because data were collected only from firms in the multi-media domain, the current findings cannot be generalized to other industries. Future work could examine whether explicit definition also has an effect on firm performance in less uncertain environments and in other nations.

Given the encouraging results of this study, future scholars could go a step further and investigate the process and content of explicit business-domain definitions. An important process issue that should be addressed relates to who should be involved in the business-domain definition process? In particular, what role could different functional specialists play? As Day (1997) suggests, perceptions of business domain may be different at the business and marketing levels. What are the consequences and how can differences be reconciled? Another important issue to investigate is whether a formal business-domain statement carries any risk that the organization may become too rigid because it sticks to the formal statement. As a corollary, we need to enhance our understanding of circumstances in which the business domain should be redefined. Does it matter whether there is a greater emphasis on demand (customer needs and groups) or supply-side (product, technology and competencies) factors in defining the business domain? Further, longitudinal studies that focus on how statement content relates to strategic choices and the evolutionary path followed would enrich the literature.

Management Implications

What are the implications of the study for managers of small and medium-sized companies? It would seem that, like large firms, smaller firms would do well to think carefully about the boundaries of competition and to formulate a written domain statement. The competitive arena issue is too important to be neglected or taken for granted (McTavish, 1995). Indeed, by reflecting creatively on what the business domain is or could be, organizations may uncover significant innovation opportunities. As Geroski (1998) also argues, creativity in defining the business domain may lead to the creation of entirely new markets and industries as organizations discover and exploit opportunities that suit their resources and capabilities. In this regard, thorough attention to supply as well as demand aspects of the business is important when formulating a domain statement. Simultaneous analysis of technologies available for application, customer needs, and customer segments to be served provides an illuminating multi-dimensional picture of competition that could furnish valuable input for business-domain definition (see further, Abell, 1993).

Conclusion

Clearly, more systematic research into business-domain definition is needed. This would lead not only to an improved academic understanding of a key strategy concept but also should generate valuable insights for managers. We hope this study will spur additional work in this critical but under-researched area.

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Jatinder Sidhu teaches strategy formulation and implementation and focuses his research on the nature of competitive boundaries, exploration and exploitation behavior, and organization learning and innovation.
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Author:Sidhu, Jatinder S.
Publication:SAM Advanced Management Journal
Date:Sep 22, 2004
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