Title: Alternative Knowledge Strategies, Competitive Environment, and Organizational Performance in Small Manufacturing Firms
Authors: Bierly, Paul E., Daly, Paula S
Subject: Knowledge management
Publish: 2007
Status: full text
Source: Entrepreneurship: Theory & Practice; Jul2007, Vol. 31 Issue 4, p493-516
Preparation: Scientific Database Management Journal Articles www.SYSTEM.parsiblog.com
Abstract: This study examines the relationship between knowledge strategy (exploration or exploitation) and performance, and the possible moderating role of external environment variables. Results from a sample of small manufacturing firms indicate that exploration and exploitation are distinct and complementary constructs. The relationship between exploration and performance is linear and positive, while the relationship between exploitation and performance is concave, indicating that there is a point at which focusing on exploitation leads to reduced returns. Additionally, we find that the competitive environment moderates the relationship between exploitation and performance, such that exploitation has a stronger impact on performance in stable and high-tech environments than in dynamic and low-tech environments. Exploration also has a stronger impact on performance in high-tech environments than in low-tech environments.

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Introduction
According to a knowledge-based view of organizations, the principal function of a
firm is the creation, integration, and application of knowledge (Conner & Prahalad, 1996;
Grant, 1996; Nonaka, 1994; Spender, 1996). From this perspective, the essence of strategy,
the development of sustainable competitive advantages, is the identification, development
and application of key resources, and ultimately the resource most likely to lead
to a sustainable competitive advantage is the firm’s unique knowledge base (Barney, 1991;
Grant, 1996; Peteraf, 1993). This knowledge base is comprised of the firm’s intellectual
capital, which can be defined as the tangible and intangible knowledge, experience, and
skills of employees in an organization. The set of strategic choices addressing knowledge
creation in an organization comprise the firm’s knowledge strategy, which provides the
firm with guidelines for developing intellectual capital and therefore creating competitive
advantage (Bierly & Chakrabarti, 1996; Zack, 1999). Two generic knowledge strategies
identified by March (1991) are (1) exploration, whereby firms strive to develop capabilities
to excel at the creation or acquisition of new knowledge, and (2) exploitation, where they
develop capabilities to excel at the ability to leverage existing knowledge to rapidly create
new organizational products and processes. Some researchers (Levinthal & March, 1993;
March, 1991) have conceptualized exploration and exploitation as two distinct strategic
options that involve trade-offs and require different organizational capabilities. However,
an empirical study by Bierly and Chakrabarti (1996) determined that some large pharmaceutical
firms have successfully pursued exploration and exploitation simultaneously.
Knott (2002) has extended this concept and argues that exploration and exploitation are not
substitutes at all, but are in fact complementary. Recent empirical studies have provided
initial support for this argument (He &Wong, 2004; Helfat & Raubitschek, 2000).
However, there are two large gaps in this literature stream on knowledge strategies.
First, the focus of research on knowledge strategies to date has been on larger firms and
has not addressed specific issues encountered by small- to medium-sized enterprises
(SMEs) (Harrison & Leitch, 2005; Ravasi & Turati, 2005; Sadler-Smith, Spicer, &
Chaston, 2001). This may be a major problem because SMEs are typically more resource
constrained and have less organizational slack than large firms, and therefore face greater
challenges in developing a knowledge base while managing the tensions and tradeoffs
associated with exploration and exploitation. Additionally, smaller firms differ from larger
firms in terms of their organizational structures, managerial styles, responses to the
environment, and how they compete (Chen & Hambrick, 1995; Man, Lau, & Chan, 2002;
Rangone, 1999). Large firms have competitive advantages based on their size because of
increased market power, economies of scale, reduced costs of inputs, and more abundant
resources for product development and advertising (Chen & Hambrick, 1995; Hambrick,
MacMillan, & Day, 1982; Prescott, Kohli, & Venkatraman, 1986). SMEs must overcome
size disadvantages by creating advantages in flexibility of production (Fiegenbaum &
Karnani, 1991), speed of attack (Chen & Hambrick, 1995), niche strategies focusing on
price and quality (Cooper, Willard, & Woo, 1986; Woo & Cooper, 1981), and disrupting
the status quo through innovation (Acs & Audretsch, 1990; Covin & Covin, 1990;
Rothwell & Zegveld, 1982).
Asecond gap in the literature is that research on knowledge strategies has inexplicably
failed to consider the environmental context of firms. A core concept of strategic management
is that certain strategies are more effective in certain environments (Porter, 1980;
Prescott, 1986). However, no research has been conducted that evaluates the success of
different knowledge strategies in different environmental contexts. This is particularly
important for SMEs, which are usually more vulnerable to external influences than larger
firms since their competitive advantages tend to be less sustainable as the environment
changes (Man et al., 2002). Clearly, studying the effects of the competitive environment
on SMEs’ knowledge strategies and performance is required.
Thus, the ives of this study are to examine the relationship between an SME’s
knowledge strategy (exploration or exploitation) and performance, and the possible moderating
role of external environment variables. More specifically, we intend (1) to determine
if the knowledge strategies of exploration and exploitation are distinct constructs for
SMEs; (2) to clarify whether exploration and exploitation are complementary and mutually
reinforcing, or are substitutes; (3) to delineate the nature of the relationships between
exploration and performance, and between exploitation and performance; and (4) to
determine whether these relationships are moderated by industry factors such as dynamism
and munificence.We tested our hypotheses on data collected from multiple respondents
at 98 small and medium-sized manufacturing firms in a variety of industries.

knowledge Strategies
A knowledge strategy can be viewed as a firm’s set of strategic choices regarding
two knowledge domains: (1) the creation or acquisition of new knowledge (exploration),
and (2) the ability to leverage existing knowledge to create new organizational
products and processes (exploitation). The most crucial element of a firm’s knowledge
strategy is resource allocation, more specifically, the degree to which the firm focuses
its resources on either generating radically new knowledge or incrementally enhancing
the existing knowledge base. In addressing these tradeoffs, March (1991) argued that
the continuous and incremental exploitation of current knowledge maximizes profits
in the short run, and the exploration of radically new knowledge is more likely to
maximize long-term firm success. Pursuing a strategy of exploration entails higher costs
and increased risk for a firm, but is more likely to lead to a sustainable competitive
advantage. However, concentrating resources too heavily on exploration may prevent
firms from reaping the benefits that come from developing these knowledge breakthroughs.
Focusing on exploration tends to slow down the developing and the refining
of skills and processes associated with the firm’s current competencies. A strong commitment
to an exploitation strategy entails trade-offs as well. According to March
(1991), organizations that focus on incremental knowledge gain may find themselves
experts in areas that have become obsolete, getting better and better at things that
customers no longer value.
According to Levinthal and March (1993), few firms are successful at simultaneously
developing both radical and incremental knowledge, primarily due to limited resources
within the firm. Explicitly focusing on either exploration or exploitation as a means of
enhancing the knowledge base generally implies not focusing on the other approach. As
researchers (e.g., Hedlund, 1994; Schildt, Maula, & Keil, 2005; Volberda, 1996) have
pointed out, focusing on radically new knowledge and focusing on incrementally enhancing
a current knowledge base often require very different types of organizational cultures,
capabilities, and structures. Once a firm creates a competence in either exploration or
exploitation, it is usually more efficient for the firm to continue on that particular path
(Levinthal & March, 1993).
Additionally, researchers in the field of management of technology have discussed the
difference between radical and incremental innovations (Damanpour, 1991; Dewar &
Dutton, 1986; Ettlie, Bridges, & O’Keefe, 1984), which can be viewed as outputs of
exploration and exploitation, respectively. Radical and incremental innovations usually
require different organizational structures, processes, and cultures (Damanpour, 1991),
and usually occur at different points of an industry’s evolution (Tushman & Anderson,
1986). Specifically, the punctuated equilibrium model of change describes industry evolution
as long periods of incremental innovation interrupted by brief periods of radical
innovation (Romanelli & Tushman, 1994; Tushman & Anderson, 1986). Tushman and
O’Reilly (1996) argued that firms should try to simultaneously excel at exploration
and exploitation, and identified a few examples of firms that are successful at both the
development of radically new knowledge and the exploitation of existing knowledge:
Johnson and Johnson, Asea Brown Boveri, and Hewlett-Packard. They labeled these rare
paradoxical companies that are successful at simultaneous exploration and exploitation as
“ambidextrous organizations” (Tushman & O’Reilly, 1996). Rather than typifying the
firm that excels at either exploration or exploitation, these exceptional firms possess
the seemingly contradictory skills and competencies of both, and have subcultures
within the organization that support each approach. These firms can be characterized as
being creative yet pragmatic, loose and tight, chaotic as well as efficient. They allow
substantial freedom yet maintain control. These companies have complex organizational
cultures and structures that not only accept conflict, but also use that conflict as an impetus
in the knowledge-creation process. Flexible organizational forms (Volberda, 1996),
modular organizational structures (Sanchez & Mahoney, 1996), and N-form organizations
(Hedlund, 1994) have been proposed to manage such paradox within an organization,
mostly by designing the organization to facilitate knowledge transfer and integration.
Large companies seemingly have an advantage over small companies in succeeding as
“ambidextrous” organizations because they typically have much broader access to the
multitude of resources required to create a complex organizational structure, manage
multiple subcultures, and sustain both exploration and exploitation capabilities within the
firm.

Hypotheses
The general argument made by many of the researchers mentioned previously is that
choosing between exploration and exploitation necessitates trade-offs, and therefore the
two strategies are substitutes, and thus, inversely correlated. According to this view, firms
that develop competencies in exploitation are likely to focus more of their resources on
further exploitation and less on exploration; likewise firms with competencies in exploration
will find it more cost effective to focus on further exploration than to engage in
exploitation (Levinthal & March, 1993). Basically, this view stresses the value of specialization
and efficiency of learning. We challenge this argument, and choose to test an
alternative perspective, proposed by Knott (2002), that exploration and exploitation are
complements rather than substitutes. Firms that develop the capabilities necessary to
foster exploration are also more likely to engage in exploitation, and vice versa. Even
though there are difficulties in simultaneously pursuing exploration and exploitation (as
described previously), there are also organizational systems and human resource practices
that support both. More specifically, team-based structures, an organizational culture that
values and promotes change, open communication channels, and human resource practices
that promote creativity and innovation will help to sustain both exploration and
exploitation (Bierly & Daly, 2002). Researchers who extol the trade-offs between exploration
and exploitation fail to also adequately consider the synergies associated with the
two knowledge strategies.
A few recent studies have provided initial support of exploration and exploitation
being complementary. The study most similar to ours is He and Wong (2004), who
studied manufacturing firms in Singapore and Malaysia and determined that the interaction
of exploration and exploitation is positively related to sales growth. Consistent
with this perspective, Helfat and Raubitschek (2000) argue that successful exploitation
(referred to as incremental learning) in the past can lead to and support exploration
(referred to as step-function learning); and that current exploration promotes future
exploitation. Similarly, Rothaermel and Deeds (2004), while analyzing alliances in biotechnology,
illustrated that exploration and exploitation are related, such that exploration
alliances increase products in development, which increases the propensity to use
exploitation alliances. Anecdotal evidence that relatively large companies can successfully
pursue exploration and exploitation is provided by Knott’s (2002) case study of
Toyota, Ichijo’s (2002) study of General Electric, Holmqvist’s (2004) study of a Scandinavian
software producer, and Helfat and Raubitschek’s (2000) studies of Sony,
Canon, and NEC. Whether or not this is also true for SMEs has yet to be addressed in
the literature...

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