Knowledge Integration

Unstable market conditions caused by innovation and increasing intensity and diversity of competition have resulted in organizational capabilities rather than served markets becoming the primary basis upon which firms establish their long-term strategies. If the strategically most important resource of the firm is knowledge, and if knowledge resides in specialized form among individual organizational members, then the essence of organizational capability is the integration of individuals' specialized knowledge. This paper develops a knowledge-based theory of organizational capability, and draws upon research into competitive dynamics, the resource-based view of the firm, organizational capabilities, and organizational earning. Central to the theoiy is analysis of the mechanisms through which knowledge is integrated within firms in order to create capability. The theory is used to explore firms' potential for establishing competitive advantage in dynamic market settings, including the role of firm networks under conditions of unstable linkages between knowledge inputs and product outputs. The analysis points to the difficulties in creating the "dynamic" and "flexible-response capabilities" which have been deemed critical to success in hypercompetitive markets. (Knowledge; Organizational Capability; Competitive Advantage) Introduction The growing intensity and dynamism of competition across product markets has had profound implications for the evolution of strategic management thought during the 1980s and 1990s. Increasing turbulence of the external business environment has focused attention upon resources and organizational capabilities as the principal source of sustainable competitive advantage and the foundation for strategy formulation. As the markets for resources have become subject to the same dynamically-competitive conditions that have afflicted product markets, so knowledge has emerged as the most strategically-significant resource of the firm. This paper seeks to extend our understanding of the determinants of competitive advantage in dynamicallycompetitive market environments by analyzing the role of knowledge in organizational capability. Building upon four major theoretical streams: competition as a dynamic process, the resource-based view of the firm, organizational capabilities and conipetences, and organizational knowledge and learning, this paper establishes the rudiments of a knowledge-based theory of the firm. At the heart of this theory is the idea that the primary role of the firm, and the essence of organizational capability, is the integration of knowledge. The paper explores how knowledge is integrated to form organizational capability, and goes on to identify characteristics of capabilities which are associated with creating and sustaining competitive advantage in dynamically-competitive markets, including the achievement of flexible integration across multiple knowledge bases. Finally, I consider the relative merits of internal versus external knowledge integration and the benefits of firm networks in coping with hypercompetitive market conditions. Background The displacement of static theories of competition associated with neoclassical microeconomics and the "structure-conduct-performance" school of industrial economics by the more dynamic approaches associated with the Austrian school of economics, especially with Schumpeter's concept of competition as a process of "creative destruction" (Schumpeter 1934), has had profound implications for strategic management thought (Jacobsen 1992). During the early part of the 1980s, strategy analysis was focused upon the quest for monopoly rent through industry and segment selection and the manipulation of market structure to create market power (Porter 1980). However, if market structure is in a state of flux, and if monopoly rents quickly succumb to new sources of competition, approaches to 1047-7039/96/0704/0375/$01.25 Copyright ? 1996. Institute for Operations Research and the Management Sciences ORGANIZATION SCIENCE/VO1. 7, No. 4, July-August 1996 375 ROBERT M. GRANT Dynamically-competitiveEnvironments strategy based upon choices of product markets and positioning within them are unlikely to yield profit advantages that are more than temporary. The impact of the resource-based view of the firm on strategic management thinking can be attributed to two factors. First, given the lack of evidence that monopoly power is an important source of profit (Rumelt 1991), Ricardian rents (returns to resources over and above their opportunity costs) appear to be the primary source of interfirm profitability differences. Second, if external markets are in a state of flux, then the internal resources and capabilities of a firm would appear to be a more stable basis for strategy formulation than the external customer focus that has traditionally associated with the marketing-orientation to strategy (Levitt 1960). This emphasis on the "supply-side" rather than the "demand side" of strategy has been closely associated with recent work on organizational capabilities. Prahalad and Hamel (1990) argue that sustainable competitive advantage is dependent upon building and exploiting "core competences"-those capabilities which are fundamental to a firm's competitive advantage and which can be deployed across multiple product markets. Porter's recent work emphasizes the need for firms and countries to broaden and upgrade their internal advantages in order to sustain and extend competitive advantages (Porter 1991, 1992). While extreme forms of dynamic competition (termed "hypercompetition" by D'Aveni 1994) are characteristic of product markets, dynamically competitive conditions also are present in the markets for resources. Indeed, competitive conditions in product markets are driven, in part, by the conditions of competition in the markets for resources (Barney 1986). Thus, the speed with which positions of competitive advantage in product markets are undermined depends upon the ability of challengers to acquire the resources needed to initiate a competitive offensive. Sustainability of competitive advantage therefore requires resources which are idiosyncratic (and therefore scarce), and not easily transferable or replicable (Grant 1991). These criteria point to knowledge (tacit knowledge in particular) as the most strategically-important resource which firms possess (Quinn 1992). Thus, this paper's focus upon knowledge and its integration is justified by two assumptions about the success in dynamically-competitive market environments: First, under dynamic competition, superior profitability is likely to be associated with resource and capability-based advantages than with positioning advantages resulting from market and segment selection and competitive positions based upon some form of "generic strategy"; Second, such resource and capability-based advantages are likely to derive from superior access to and integration of specialized knowledge. The literature on organizational knowledge and learning has explored the role of organizations in the acquisition, processing, storage, and application of knowledge (Argyris and Schon 1978, Levitt and March 1988, Organization Science 1991, Starbuck 1992). The primary emphasis of this literature is on the acquisition of information by organizations. Nonaka (1994) proposes a theory of knowledge creation built around dynamic interaction between two dimensions of knowledge transfer: transformations from tacit to explicit knowledge and vice-versa; and transfers between individual, group, organizational, and interorganizational levels. However, as Spender (1992) recognizes, firms are engaged not only in knowledge creation but also in knowledge application. The distinction between these two processes is crystallized in Demsetz's (1991) observation that efficiency in the acquisition of knowledge requires that individuals specialize in specific areas of knowledge, while the application of knowledge to produce goods and services requires the bringing together of many areas of specialized knowledge. Much of the research into the management issues concerning the integration of different types of specialized knowledge has been within the context of new product development (Nonaka 1990, Clark and Fujimoto 1991, Wheelwright and Clark 1992). While some innovations are the result of the application of new knowledge, others result from reconfiguring existing knowledge to create "architectural innovations" (Henderson and Clark 1990, Henderson and Cockburn 1995). This ability of the firm to "generate new combinations of existing knowledge" and "to exploit its knowledge of the unexplored potential of the technology" is what Kogut and Zander (1992, p. 391) describe as "combinative capabilities". The theory of organizational capability which follows represents an extension and synthesis of these contributions, based upon the idea that the essence of organizational capability is the integration of individuals' specialized knowledge. The Model: Organizational Capability as Knowledge Integration My model of organizational capability rests upon basic assumptions regarding the characteristics of knowledge 376 ORGANIZATION SCIENCE/Vol. 7, No. 4, July-August 1996 ROBERT M. GRANT Dynamically-competitiveEnvironments and its deployment. From these assumptions I develop propositions concerning the nature of organizational capability, the linkage of capability to organizational structure, and the determinants of competitive advantage. Assumptions The focus of this paper is upon a single resource: knowledge. This emphasis is justified by the assumptions that, first, knowledge accounts for the greater part of value added,1 second, barriers to the transfer and replication of knowledge endow it with strategic importance. I define knowledge broadly to include both "explicit" knowledge which can be written down, and "tacit" knowledge which cannot. The emphasis is on tacit knowledge since, in the form of "know-how", skills, and "practical knowledge" of organizational members, tacit knowledge is closely associated with production tasks, and raises the more interesting and complex issues regarding its transfer both within and between organizations. The key managerial issues arising from the characteristics of knowledge stem from the observation that tacit knowledge is acquired by and stored within individuals. Due to the cognitive limits of the human brain, knowledge is acquired in a highly specialized form: an increase in depth of knowledge implies reduction in breadth. Advances in knowledge tend to be associated with increased specialization. However, production the creation of value through transforming input into output-requires a wide array of knowledge, usually through, combining the specialized knowledge of a number of individuals. Integrating Knowledge to Form Organizational Capability These assumptions provide the basis for a knowledgebased view of the firm. If knowledge is a critical input into all production processes, if efficiency requires that it is created and stored by individuals in specialized form, and if production requires the application of many types of specialized knowledge, then the primary role of the firm is the integration of knowledge. But why are institutions called "firms" needed for the integration of knowledge? It is because the alternatives are too inefficient. An individual's ability to integrate knowledge is constrained by cognitive limits: it is not feasible for each individual to try to learn the knowledge possessed by other specialists. Integration across markets is difficult: in the case of explicit knowledge it is difficult to appropriate the value of the knowledge through market contracts; in the case of tacit knowledge, transfer is both difficult and necessitates transaction-specific investment. This view of the firm as an institution for knowledge integration establishes a view of the firm based upon close integration between organizational members implying stability, propinquity and social relationships, but it does not readily yield precision definition of the firm and its boundaries. For this reason, Demsetz (1991) refers to "firm-like organizations". Integration of specialist knowledge to perform a discrete productive task is the essence of organizational capability, defined as a firm's ability to perform repeatedly a productive task which relates either directly or indirectly to a firm's capacity for creating value through effecting the transformation of inputs into outputs. Most organizational capabilities require integrating the specialist knowledge bases of a number of individuals. A hospital's capability in cardiovascular surgery is dependent upon integrating the specialist knowledge of surgeons, anaesthetist, radiologist, operating-room nurses, and several types of technicians. L.L. Bean's order processing capability, Rubbermaid's new product development capability and McDonald's Restaurants' capability in preparing and serving hamburgers are all examples of organizational capabilities requiring the integration of specialized knowledge across quite large numbers of employees. The Architecture of Capabilities The integration of knowledge into organizational capabilities may be viewed as a hierarchy. This hierarchy is not one of authority and control, as in the traditional concept of an administrative hierarchy, but is a hierarchy of integration. At the base of the hierarchy is the specialized knowledge held by individual organizational members. At the first level of integration are capabilities which deal with specialized tasks. Moving up the hierarchy of capabilities, the span of specialized knowledge being integrated broadens: task-specific capabilities are integrated into broader functional capabilities-marketing, manufacturing, R & D, and financial. At higher levels of integration are capabilities which require wide-ranging cross-functional integration -new product development involves especially wideranging integration (Clark and Fujimoto 1991). Figure 1 illustrates this concept of hierarchy of capabilities by providing a vertical segment of the hierarchicallyarranged organizational capabilities of a manufacturer of private-branch telephone exchanges (PBXs). The wider the span of knowledge being integrated, the more complex are the problems of creating and ORGANIZATION SCIENCE/Vo1. 7, No. 4, July-August 1996 377 ROBERT M. GRANT Dynamically-competitive Environments Figure 1 Organizational Capabilities of a PBX Producer: A Partial Vertical Segment CROSSNew product Customer Quality FUNCTIONAL development support management CAPABILITIES capability capability capability BROAD Operations R & D and MIS Marketing Human FUNCTIONAL capability design capability and sales resource mgt. CAPABILITIES capabillty capability capability ACTIVITYManufacturing Materials Process Product Test RELATED capability management engineering engineering engineering CAPABILITIES capability capability capability |pblt (Operations-L related only) SPECIALIZED Printed Telset System CAPABILITIES circuit-board assembly assembly (Manufacturing assembly related only)