Business Strategy and IT-enabled Business Capabilities: Fits, Misfits and Firm Performance

1. Business Strategy and IT-enabled Business Capabilities: Fits, Misfits and Firm Performance Abhay Nath Mishra Visiting Assistant Professor David A. Tepper School of Business Carnegie Mellon University Seminar at American University March 24, 2008

2. Motivation • IT is the largest single component of capital investment in the US. • Businesses worldwide spend more than $2 trillion on IT every year. • Are organizations making their IT investment decisions judiciously? • Are these investments likely to impact firm performance? Business Strategy and IT-enabled Business Capabilities

3. Motivation • “IT Doesn’t Matter.” (Carr 2003) • Generic IT may not matter, but firm-specific IT capabilities do (Barua et al. 2004, Bhardwaj 2000, Gurbaxani 2003). • Only when IT investments are converted into IT capabilities and put to use that they add value (Soh and Markus 1995, Zhu and Kraemer 2005) • Are firms making IT investments on capabilities that are likely to have the highest impact on their performance? Business Strategy and IT-enabled Business Capabilities

4. IT Capabilities • The importance of IT capabilities widely acknowledged • Implicit assumptions in the literature: • “More” is better (Bhatt and Grover 2005, Bhardwaj 2000) • “All” IT capabilities are important (Bhatt and Grover 2005) • The significance of firm strategy in IT capability development and deployment Business Strategy and IT-enabled Business Capabilities

5. Research Questions • Are the requirements for IT capabilities likely to vary systematically among firms following different business strategies? • How should firms determine the right level of IT investment in various IT capabilities? • Does the “fit” between the business strategies followed by a firm and its IT capabilities impact performance? Business Strategy and IT-enabled Business Capabilities

6. Empirical Observations • Different flavors of strategy and IT capabilities • Wal-mart • Kmart • Zara Business Strategy and IT-enabled Business Capabilities

7. Research Model • Business Strategy • Prospector • Analyzer with Innovation • Analyzer without Innovation • Differentiated Defender • Low-cost Defender Firm Performance FIT • Business-oriented IT Capabilities • Entrepreneurial • Operational • Renewal • Customer • Vendor • Competitor • Visioning • Relational Business Strategy and IT-enabled Business Capabilities

8. Business Strategy Archetypes • The Miles and Snow (1978) typology • Prospector, Analyzer, Defender and Reactor • Extensions to the Miles and Snow typology • Prospector, Analyzer with Innovation, Analyzer without Innovation, Low Cost Defender and Differentiated Defender • The need for extension: more nuanced strategies observed in contemporary firms (Ruekert and Walker 1987, Burton and Obel 1998, DeSarbo et al. 2005) Business Strategy and IT-enabled Business Capabilities

9. IT Capabilities • Capabilities: “embedded” “routinized” “processes” that reflect “a firm’s ability to perform repeatedly a productive task which relates either directly or indirectly to a firm’s capacity for creating value” (Grant 1996). • IT Capabilities: the broad ability of firms to develop, diffuse, apply, and manage IT effectively to achieve firm objectives. • The focus in this study: business-orientedITcapabilities Business Strategy and IT-enabled Business Capabilities

10. The Classification of IT Capabilities (1) • Process-integration capabilities • Entrepreneurial IT capabilities (ENT) • Operational IT capabilities (OPR) • Renewal IT capabilities (REN) Business Strategy and IT-enabled Business Capabilities

11. The Classification of IT Capabilities (2) • Market orientation capabilities • Customer orientated IT capabilities (CUS) • Vendor orientated IT capabilities (VEN) • Competitor orientated IT capabilities (COM) Business Strategy and IT-enabled Business Capabilities

12. The Classification of IT Capabilities (3) • Strategy and IT vision alignment capabilities • Business and IT visioning capabilities (VIS) • Business and IT relational capabilities (REL) Business Strategy and IT-enabled Business Capabilities

13. Attributes for the Creation of Strategy Profiles • Based upon and an extension of Venkatraman’s (1989) STROBE instrument • Retain the five dimensions used in STROBE • Proactiveness (PR), Aggressiveness (AG), Risk orientation (RO), Analysis (AN) and Futurity (FT) • Disaggregate the defensiveness dimension • Cost reduction (CR) and Close alliances (CA) • Introduce a new dimension • Innovativeness (IN) Business Strategy and IT-enabled Business Capabilities

14. Theoretical Underpinning: Configurational Theory • Basic tenets of Configurational theory • Organizational configurations are multidimensional constellation of distinct attributes that commonly occur together (Ketchen et al. 1993, Sabherwal and Chan 2001) • Configurational approach takes a step beyond the contingency approach by adopting a holistic stand • The identification of ideal profile types is central to the configurational theory • The closer a firm is to an ideal profile type and the better is the fit between different attributes, the better is firm performance (Doty et al. 1993, Meyer et al. 1993) • The concept of equifinality (Drazin and Van de Ven 1985) Business Strategy and IT-enabled Business Capabilities

15. Inductive and Deductive Approaches to Configuration Analysis • Inductive approach • Uses multivariate data analysis techniques to uncover patterns for top performing firms • These patterns are chosen as ideal profile types • Deductive approach • Uses theoretical perspectives to define ideal profile types and hypothesizes the relationship between configurations and performance • The extant literature has used the inductive approach predominantly Business Strategy and IT-enabled Business Capabilities

16. The Strategy Typology -1: Low; 0: Medium; 1:High Business Strategy and IT-enabled Business Capabilities

17. Ideal IT Capability Profiles of Strategy Archetypes -1: Low; 0: Medium; 1:High Business Strategy and IT-enabled Business Capabilities

18. Research Model • Business Strategy • Prospector • Analyzer with Innovation • Analyzer without Innovation • Differentiated Defender • Low-cost Defender Firm Performance FIT • Business-oriented IT Capabilities • Entrepreneurial • Operational • Renewal • Customer • Vendor • Competitor • Visioning • Relational Control Variables: Firm size, industry, diversification, other variables Business Strategy and IT-enabled Business Capabilities

19. Hypotheses • The equifinality hypothesis (Drazin and Van de Ven 1985, Miles and Snow 1978) • H1: Firms classified as Prospectors, Analyzers with Innovation, Analyzers without Innovation, Differentiated Defenders, and Low Cost Defenders perform equally well. Business Strategy and IT-enabled Business Capabilities

20. Hypotheses • The strategic fit hypothesis (Venkatraman 1989, Sabherwal and Chan 2001, Vorhies and Morgan 2005) • H2: The greater the fit between a firm’s realized business strategy profile and that of its corresponding ideal type, the better its performance. Business Strategy and IT-enabled Business Capabilities

21. Hypotheses • The IT capability fit hypothesis • H3: The greater the fit between a firm’s realized business-oriented IT capability profile and the theoretically determined ideal profile for business-oriented IT capabilities corresponding to its strategy archetype, the better its performance. Business Strategy and IT-enabled Business Capabilities

22. Hypotheses • The IT capability fit hypotheses • H4:The greater the fit between a firm’s realized business-oriented IT capability profile and the empirically derived ideal profile for business-oriented IT capabilities corresponding to its strategy archetype, the better its performance. Business Strategy and IT-enabled Business Capabilities

23. Hypotheses • The total fit hypotheses • H5a:The greater the total fit of a firm’s strategy profile and its business-oriented IT capability profile with its theoretically determined ideal archetype, the better its performance. • H5b: The greater the total fit of a firm’s strategy profile and its business-oriented IT capability profile with its empirically derived ideal archetype, the better its performance. Business Strategy and IT-enabled Business Capabilities

24. Data • Survey data from 2000 largest firms in the US • Surveys answered by a top business manager • 13 industries represented in the sample • Both public and private firms represented in the sample • Performance data obtained from secondary sources Business Strategy and IT-enabled Business Capabilities

25. Data Issues • Response rate = 3.35% • Reasons for low response rate • Long questionnaire • Involved questions • Sample profile over-surveyed • Final sample size = 67 • See Rajagopalan (1997), Droge et al. (2004) and Anderson et al. (1994) Business Strategy and IT-enabled Business Capabilities

26. Non-response Bias : Across Different Sampling Rounds Business Strategy and IT-enabled Business Capabilities

27. Non-response Bias : Respondents and Non-respondents Business Strategy and IT-enabled Business Capabilities

28. Sanity Checks on the Data • Adequate reliability and validity • PCA: items loaded as expected • Variance extracted estimate >0.5 for every construct Business Strategy and IT-enabled Business Capabilities

29. Data Analysis: Determination of Ideal Profile Types • Step 1: Cluster analysis to uncover strategy configurations - Two-step approach (Punj and Stewart 1983) • Hierarchical clustering using Ward’s algorithm • Two stopping rules – Calinski and Harabasz pseudo-F index and Duda Hart rule • Partitional clustering using K-means algorithm • Use centroid values from hierarchical clustering as seeds in the iterative K-means algorithm • Distance measures • Euclidean distance (√ ∑ (xi – yi)2) • Manhattan or city block distance (∑ |(xi – yi)|) • Chebychev distance Max(xi – yi) • Power distance (∑ |(xi – yi)|p)1/r Business Strategy and IT-enabled Business Capabilities

30. Data Analysis: Classification of Firms into Ideal Profile Types • Step 2: assessing deviation from ideal strategy profiles • Deviation = √ ∑ (xsj – Xij)2 • xsj = the mean score for cluster s in the study sample on the jth strategy dimension (j = 1 to 8), and Xij = the score for the ideal profile for strategy archetype i (i= 1 to 5) on the jth strategy dimension Business Strategy and IT-enabled Business Capabilities

31. Data Analysis: Calculation of Strategy and IT Capability Fit/Misfit • Step 3: Calculating strategy profile deviations from the theoretical ideal profiles • Deviation = √ ∑ (xsj – Xij)2 • where xsj = the score for a firm s within cluster i on the jth strategy dimension, and Xij = the theoretically determined score on the jth strategy dimension for the strategy archetype that cluster i is classified as • Step 4: Calculating IT capability profile deviations from the theoretical/empirical ideal profiles • Deviation = √ ∑ (xsj – Xij)2 • where xsj = the score for a firm s within cluster i on the jth IT capability dimension, and Xij = the theoretically/empirically determined score on the jth IT capability dimension for the strategy archetype that cluster i represents Business Strategy and IT-enabled Business Capabilities

32. Data Analysis • Step 4: Regression Analysis • Regress performance on strategy deviation, capability deviation, sum of strategy capability deviations and control variables • Assumptions regarding normality of residuals, multicollinearity and homoscedasticity of error terms not violated Business Strategy and IT-enabled Business Capabilities

33. Regression Analysis: Controls • Firm size (# employees) • Lagged sales • Number of industries count • Age • Industry size • Industry competition (# of other firms in the 4-digit SIC segment) • Industry concentration (C8, C4, C20, C50) Business Strategy and IT-enabled Business Capabilities

34. Results • Equifinality hypothesis tested by ANOVA ((F4,59) =0.56; p=0.70)) • The fit hypotheses are tested by OLS results Business Strategy and IT-enabled Business Capabilities

35. OLS Results

36. Robustness Checks • Three sets of models estimated • Across strategy top 1 overall performer • Across strategy top 5 overall performers • 5 random performers • Deviations from non-ideal calibration profiles do not impact performance significantly • Provides a power analysis for hypothesis testing Business Strategy and IT-enabled Business Capabilities

37. Limitations • Modest sample size • Cross sectional data • Dimensions of strategy and IT capability weighed equally • Lack of generalizability Business Strategy and IT-enabled Business Capabilities

38. Theoretical Contributions • Conceptualization of a key and multi-dimensional set of IT capabilities to support business strategies • Demonstration of the nuanced alignment of business strategy and IT capabilities • Examination of the alignment between business needs with business capabilities fostered by IT • Extension of Venkatraman’s STROBE instrument • Development and empirical validation of the extended Miles and Davis typology • The use of both deductive and inductive approaches to study profile deviations Business Strategy and IT-enabled Business Capabilities

39. Managerial Implications • The development and deployment of IT capabilities and IT investments should be contingent upon the business strategy • Select a few critical areas and invest in IT selectively to build capabilities • Focus on the profile of the strategy leader and not the industry leader; benchmark IT capabilities accordingly • Pay close attention to IT capabilities at the disaggregated level Business Strategy and IT-enabled Business Capabilities

40. Future Research in IT Strategy • Complementarity and substitutability of IT resources, capabilities and investments • Do certain IT resources, capabilities and investments provide higher benefits in association with other resources, capabilities and investments? How and why? • Can certain IT resources, capabilities and investments substitute for other resources, capabilities and investments? How and why? Business Strategy and IT-enabled Business Capabilities

41. Thanks!!