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Dynamic Capabilities

by Si-ho Park, Reporter

pnshse05@naver.com

      Dynamic capabilities are the abilities needed in the changing business environment to reorganize capabilities within a company and acquire new capabilities. Recently, the business environment has been changing so rapidly that it is difficult to predict and cope with change. As changing capabilities are so important when the environment changes, dynamic capabilities are emerging as an essential keyword nowadays. According to David J. Teece, a Doctor of Business Administration who has studied dynamic capabilities in-depth, dynamic capabilities are the firm’s ability to integrate, build, and reconfigure internal competence to address, or in some cases to bring about, changes in the business environment.

Dynamic Capabilities Framework

      To accurately understand dynamic capabilities, it can be compared with the existing 5 forces theory and resource-based perspectives. Michael Porter's 5 forces theory is a framework that analyzes the structure of a stable industry without competition, and the resource-based perspective analyzes differences in the capabilities of companies in the same industry. While a resource-based perspective is a theory that analyzes "core competencies," the "dynamic capabilities" theory focuses on changes in competencies in a rapidly changing environment. Dynamic capabilities differ in that they have a higher degree of premised crisis and uncertainty compared to the two existing theories, and their goal is to analyze corporate disruption. In addition, in this theory, the factor that determines the success or failure of a company is viewed as the company's management system and the ability to reconstruct business models.

      There are three abilities required for companies to gain dynamic capabilities. The first is “sensing,” the ability to clearly detect and grasp the dynamically changing threats in the business environment and to properly understand their essence. The second ability is “seizing,” which refers to the ability to capture and create opportunities. The third ability, “transforming,” is the ability to quickly reorganize and execute resources and core competencies. Meanwhile, “organizational agility” is also required to accompany a strategy for companies to demonstrate dynamic capabilities. In other words, dynamic capabilities fundamentally require agility, which means that all organizations in a company need a strategy to quickly and wisely rearrange their capabilities. This is because dynamic capabilities are required for each process handled by organizations that are each subject to the process of properly establishing and executing strategies.

Figure 1. Simplified schema of dynamic capabilities, business models, and strategy

Dynamic Capabilities of Netflix

      To analyze Netflix based on the dynamic capability framework, Netflix's chronology can be divided into three stages to distinguish major events: cycle 1 to cycle 3.

      The first cycle runs from 1997 when Wilmot Reed Hastings, Jr., began devising a business model with Marc Randolph, his co-founder at the time, to May 2002 when Netflix was listed on Nasdaq to unveil the company. At that time, Netflix focused on a business model that rented DVDs by mail while also selling them to customers who wanted to purchase DVDs. Netflix was concerned about the stability and speed of delivery, which were the factors that determined the rise and fall of the DVD business. Thus, Netflix successfully built a fast DVD mailing process, with 50 distribution centers that would enable same-day processing and next-day delivery.

      The second cycle is from May 2002, when the company launched its company on NASDAQ, to 2009. Netflix faced a major challenge due to the new expansion of online DVD rental businesses by major retailers such as Walmart and Amazon. Netflix not only felt a sense of crisis but also realized that the competitive environment was difficult. Netflix realized that the longer the competition for DVD rental through mail delivery was prolonged, the less secure the future would be, so it explored the technological potential of video streaming, which many of its competitors thought was premature, and turned the crisis into an opportunity through a successful transition.

      The third cycle corresponds to the period from 2010 to 2020 when it started to target overseas markets. Instead of providing content that reminded people of the past, Netflix began to provide new content including dramas and movies that it outsourced in 2013, which served as a driving force for Netflix to secure a competitive advantage in the OTT market. In addition, around this time, Netflix entered the overseas market beginning with Canada in 2010, Korea in 2016, and lots of other countries. As a result, Netflix has provided services all over the world except for North Korea, Syria, China, and Crimea. Since then, Netflix has experienced COVID-19 and a change in the business environment. In this cycle 3, Netflix is facing fierce competition with emerging entertainment companies.

      Netflix accurately detected when the market had shifted from a DVD-centered market to an online streaming market and from content distribution to content production, captured the changing business environment, and quickly reorganized its core competencies throughout the three cycles. Therefore, Netflix was able to achieve great success by constantly differentiating its company from other operators and taking a position that no one could match in a rapidly changing environment.

      Dynamic capabilities are necessary not only for companies but also for all individuals living in this changing environment. Recently, the environment surrounding us has been changing very rapidly, and we should design our future career paths and reorganize our own capabilities by adapting to the emergence of AI, technological advances, and changes in ethical concepts. This might be an essential way for us to live a good life. Then, through what kind of effort could you be equipped with dynamic capabilities and live a good life? You should also try to gain dynamic capabilities according to the changing environment.

Sources:

Jang-soon Kim (2021), A Case Study on the Strategy of Netflix: Dynamic Capabilities of Global Companies, Korean Management Consulting Review, 21:1, 387-397

David J. Teece (2018), Business models and dynamic capabilities, Long Range Planning 51, 40-49