strategic planning

Order Description

Answer the following question with regards to Rashid Hospital in Dubai.

1. Select two most appropriate characteristics against which you can map strategic groups in your service area (e.g. price, product differentiation, Research and Development, patient cantered care, continuity of care, etc) and explain why did you choose those characteristics

2. After reading the research article “Understanding competitive advantage in the general hospital industry: evaluating strategic competencies”. What is the association between Strategic competencies and hospital financial performance? from your point of view, does the association revealed in the study seems logic? (look at the attachments)

3. Give your suggestions for adding value in any selected Integrated Practice Unit (medical condition).

Strategic Management Journal

Strat. Mgmt. J., 24: 333–347 (2003)

Published online 20 January 2003 in Wiley InterScience (www.interscience.wiley.com). DOI: 10.1002/smj.301

UNDERSTANDING COMPETITIVE ADVANTAGE IN

THE GENERAL HOSPITAL INDUSTRY: EVALUATING

STRATEGIC COMPETENCIES

THOMAS J. DOUGLAS1 and JOEL A. RYMAN2*

1 Department of Management, Clemson University, Clemson, South Carolina, U.S.A.

2 Cameron School of Business, University of North Carolina at Wilmington,

Wilmington, North Carolina, U.S.A.

This study examines the drivers of competitive advantage within the hospital industry. Specifically,

we examine both the direct and joint effects of market structure, firm-level competencies,

and interorganizational relationships on organizational performance. The results of this approach

indicated that managers, through their strategic actions related to the capabilities and relationships

they develop and deploy, can establish advantageous competitive positions and influence the

negative effects of market structure by developing important strategic competencies. Copyright

? 2003 John Wiley & Sons, Ltd.

During the 1990s a number of works appeared in

the strategic management literature that reviewed

the development of this field of study. Each offered

insightful suggestions concerning its future directions

(e.g., Hoskisson et al., 1999; McGahan and

Porter, 1997; Porter, 1991; Rumelt, Schendel, and

Teece, 1994). The authors called attention to the

importance of both external and internal environments

to organizations and the potential for success

or failure of firms based on the decisions made by

senior executives in dealing with positioning the

firm in its industry.

Porter (1991) identified two key components of

firm success as industry structure and firm core

competencies. Thus, a firm must not only develop

competencies that allow it to successfully position

itself within its industry, but a firm must also be

active with respect to ‘influencing industry structure’

(Porter, 1991: 101). Hoskisson et al. (1999)

reviewed both the I/O theory focusing on industry

structure (Bain, 1959) and the resource-based view

Key words: resource-based view; I/O economic; relational

view; competitive advantage; hospital industry

*Correspondence to: Joel A. Ryman, Cameron School of Business,

The University of North Carolina, 601 South College Road,

Wilmington, NC 28403-3297, U.S.A.

(RBV) of the firm (Penrose, 1959; Barney, 1991;

Wernerfelt, 1984), stating that, while these theories

are the cornerstones of future research in strategic

management, few studies have accomplished the

integration of the two.

One complementary concept to both the external

and internal venues that may help explain

today’s complex relationships is that of ‘cooperative

strategies,’ first introduced by Thompson

(1967). While the RBV focuses on the use of

internal organizational resources and capabilities

(Barney, 1991) to achieve competitive advantage

in a selected environment, it doesn’t consider the

use of strategic alliances that allow the combining

of resources across organizational boundaries in

pursuit of competitive advantage. Recently, Dyer

and Singh (1998) presented the relational view,

which incorporates the concept of resources shared

across cooperating or networked organizations.

These combined resources are potential sources of

competitive advantage and aid a firm seeking an

effective position in its industry.

The purpose of our research is to evaluate

the ability of firms to select and use valuecreating

internal and shared resources to gain competitive

advantage and to mitigate the pressures

Final revision received 7 October 2002

334 T. J. Douglas and J. A. Ryman

that industry structure puts on firm profitability.

According to Priem and Butler (2001), studies

that utilize this type of contingency approach are

important in order to clarify the role and contributions

of the RBV and to inform practitioners

concerning resource decisions. Since the value

of resources is directly related to industry and

market (Amit and Schoemaker, 1993; Combs and

Ketchen, 1999), it is important to focus on a

single industry (Hoskisson et al., 1999). We use

the general hospital industry since the health care

field represents many unique markets, maintains

detailed data, and continues to undergo significant

change, making it a ‘fertile ground for testing

theory’ (Dranove and White, 1994). In studying

the hospital industry, we will use concepts

from the I/O economic, resource-based, and relational

views.

THEORETICAL DEVELOPMENT

Industry structure

Important to an understanding of competitive advantage

in the hospital industry is an evaluation

of its industry environment. Each hospital should

consider the relevant industry forces as it positions

itself competitively and evaluates the resources

and capabilities necessary to achieve competitive

advantage. Much work has been completed in this

area in both the economic and strategy literatures.

Hoskisson et al. (1999) identified one of the

most significant theoretical contributions to strategic

management literature as the incorporation of

industrial organization economics, primarily the

structure–conduct–performance (SCP) paradigm.

According to this important I/O economic model,

a firm’s performance is related to the strength

of forces that define the structure of the industry

environment. Building on the foundational work

of Bain (1959), Mason (1939), and others, Porter

(1980) introduced the five forces model, which

provided an important conceptual framework for

understanding and analyzing the various effects of

industry structure on the profit potential of firms

within an industry.

A number of empirical studies have added to our

knowledge of the significance of the relationship

between industry structure and firm performance

(Schmalensee, 1985; Rumelt, 1991). Especially

pertinent to our study of hospitals, McGahan and

Porter (1997) found that the portion of variance in

business unit performance explained by industry

effects was larger for service industries than for

manufacturing industries.

With respect to the general hospital industry,

major changes in its structure have occurred in

recent decades. Managed care, introduced in the

early 1980s as a way to address the exploding

growth in health care expenditures, has encouraged

the creation of large purchasers of health

care services who then coordinate with hospitals

and other relevant organizations (Teisberg,

Porter, and Brown, 1994). Consequently, managed

care has had a profound impact on the structure

of the health care industry as these empowered

health care buyers have stimulated intense

competition with and between hospitals. Scholars

have described and studied significant changes in

the make-up and power of the payers of health

care services (Dranove and White, 1994; Dranove,

Simon, and White, 1998; Ozcan and Luke, 1993),

in the level of competition within the local markets

(Dranove, Shanley, and Simon, 1992; Manheim,

Bazzoli, and Sohn, 1994), and in the degree of

partnering with inter- and intra-industry organizations

(Burns et al., 2000; Dranove and Shanley,

1995; Luke, Ozcan, and Olden, 1995). Managed

care and hospital rivalry are the two primary competitive

forces that are transforming the structure

of the health care industry and having a significant

impact on the profitability of hospitals. Therefore,

we will explore in more detail the impact of these

competitive forces.

Managed care buyer power

Managed care has been defined on a broad basis as

the organized efforts that began in the early 1980s

to control costs (Burns et al., 2000) or improve

quality (Dranove et al., 1998) in the health care

industry. These efforts can be in the form of selective

contracting (e.g., HMOs, PPOs), utilization

reviews (Dranove et al., 1998), or other mechanisms

that organizations across this industry use

to achieve these objectives.

Pressure on the industry to control costs while

maintaining reasonable, consistent levels of quality

(Dranove and Shanley, 1995) has come from both

the private and public sectors. These forces materialized

in the form of increasing enrollments in

managed care systems (MCS) like health maintenance

organizations (HMOs) or preferred provider

Evaluating Strategic Competencies in the Hospital Industry 335

organizations (PPOs) (Burns et al., 2000) that

attempt to negotiate favorable contracts with hospitals

in order to meet their employee or customer

needs (Dranove and White, 1994). From the public

sector, federally funded programs like Medicare

and Medicaid, where the ratio of payments to costs

has been declining over time (Dranove and White,

1994), again apply downward pressure on profits.

In essence, managed care is predicated on the

concept of enhancing buyer power relative to

health care service providers such as hospitals. The

effectiveness of this buyer power, however, may

vary widely across the industry due to significant

differences in the percentage enrollments in MCS

and in the percentage of patients covered by Medicare

and Medicaid payments in the various hospital

markets. However, a negative relationship between

buyer power and hospital profitability is expected.

Hospital rivalry

Managed care has succeeded not only in enhancing

the market power of health care buyers; it has also

stimulated increased rivalry between hospitals that

are vying for managed care patients. One would

suspect that in an environment of increasing rivalry

organizations must increase the value of their products

or services by increasing quality or reducing

costs to maintain profit margins (Teisberg et al.,

1994). However, historical depictions of the hospital

industry have painted a different picture, with

costs and prices thought to be positively related to

hospital competition (Dranove and White, 1994;

Manheim et al., 1994). The recent shift of responsibility

of payment to the large, highly informed

MCS has seemingly put this industry back under

the umbrella of standard economic theory (Dranove

and White, 1994).

Contradictory evidence still exists, however. For

instance, Gapenski, Vogel, and Langland-Orban

(1993) found no relationship between increasing

hospital rivalry and lower profitability. Other studies

have found that markets characterized by higher

levels of competition had lower rates of cost inflation

(Melnick and Zwanziger, 1988; Robinson and

Luft, 1988; Robinson and Phibbs, 1989). A more

recent study by Rivers and Asubonteng (1999)

found that rivalry has been associated with higher

not lower costs, supporting the results of studies

completed prior to significant implementations of

managed care. This result may be due to the fact

that rivalry has pushed hospitals to try to differentiate

themselves by investing in expensive hightechnology-

based services (Anderson and Steinberg,

1994).

One of the characteristics of the majority of

these studies is that they focus on the singular relationships

between competition and price or competition

and costs. Given the conflicting pressure on

hospitals to provide additional value in the form

of higher quality, lower costs, or a combination

of the two, the relevant question with regard to

industry structure is whether hospitals striving to

increase value are less profitable in markets that

are more rivalrous. It may be that the focus on

providing increased value results in both higher

prices and higher costs in increasingly rivalrous

markets, with the question of changes in relative

profits within the market providing the critical

information. Assuming that current hospital markets

function as described by Bain (1956) in his

discussion of the strategy–structure–performance

relationship within industries, we would expect

that markets exhibiting higher levels of rivalry

would also display relatively lower levels of profits.

Individual firms in market areas with relatively

smaller firms (less concentration) will have a more

difficult time recouping the additional costs of differentiation.

Within this industry framework, hospitals can

set strategies that attempt to mitigate some of

this pressure on profits (Porter, 1991). While the

SCP model suggests variables that may influence

industry performance, for example, raising entry

barriers or decreasing rivalry, the RBV focuses on

organizational choices concerning the acquisition

or use of resources and capabilities to generate

rents while recognizing these external pressures

(Conner, 1991).

Strategic competencies and hospital financial

performance

Consistent with the earliest works within the strategic

management field (Wernerfelt, 1984; Penrose,

1959), RBV provides a theoretical foundation

to test the relationships between organizational

resources, environmental context, and firm performance

(Barney and Zajac, 1994). In the general

hospital industry, the ability of a hospital in a specific

local market to develop capabilities relatively

superior to its competitors is critical for success.

In order to result in superior rents, the capabilities

336 T. J. Douglas and J. A. Ryman

utilized by the hospital must meet the RBV criteria

of value, rareness, and inimitability (Barney, 1995;

Black and Boal, 1994). Hospitals must focus on

meeting the needs of their customers with services

that have significant value within the industry

environment, are sufficiently different from other

hospitals in their local market, and require physical

and human assets that are difficult to imitate.

One important consideration within this industry

is that a ‘service’ is being delivered as opposed

to a product being manufactured. Most of the terminology

within the RBV literature has focused

on manufacturing. Within a service industry, many

of the capabilities in question work directly on or

with the customer to produce the service. The use

of the service occurs simultaneously with its production

(Bowen and Ford, 2002). Capabilities used

to deliver services in service industries, like the

general hospital industry, that result in superior

rents will be called strategic competencies. This

will distinguish them from similar terms used in

the literature that describe sources of competitive

advantage in manufacturing, such as core competencies

(Prahalad and Hamel, 1990) or distinctive

competencies (Grant, 1991; Snow and Hrebiniak,

1980). Strategic competencies pertain to

the services offered by an organization that are

superior in the marketplace and result in competitive

advantage.

For the hospitals capable of formulating and utilizing

strategic competencies, a competitive advantage

should be realized. In other words, the acquisition

and deployment of a set of valuable and distinctive

competencies, as represented by the medical

services offered, will enable a hospital to establish

a favorable reputation in the market, thereby

attracting physicians and their patients. The more

distinctive a hospital’s competencies are in a market,

the greater the competitive advantage. With

this in mind, the following hypothesis is offered:

Hypothesis 1: The value of a hospital’s strategic

competencies is positively related to hospital

financial performance.

Interorganizational strategic competencies and

hospital financial performance

The relational view (Dyer and Singh, 1998) has

been offered as an alternative perspective of competitive

advantage. Like the RBV, the relational

view notes that competitive advantage is derived

from unique and valuable resources. However,

while the RBV focuses on resources internal to the

firm, the relational view contends that resources

or capabilities that are needed by the firm may

reside outside the firm and are accessed or created

through building relationships with other firms.

Thus, by sharing resources firms are better able

to jointly position themselves in their environment

(Baum, Calabrese, and Silverman, 2000).

As noted above, managed care is forcing hospitals

to deliver health care services more efficiently

and effectively. In the U.S. health care

industry, hospitals, physicians, and insurance companies

have traditionally operated independent of

each other and, as a result, the provision of health

care has been very fragmented (Starr, 1994). However,

due to the growth of managed care (Dowling,

1995) and to rising uncertainty in the health care

environment, hospitals have reconsidered these traditional

approaches to health care delivery in favor

of more integrated and coordinated systems of care

(Zuckerman, Kaluzny, and Ricketts, 1995). Zuckerman

and his colleagues argue that these ‘integrative’

alliances are being formed to strengthen market

positions by effectively combining capabilities

in a vertical manner with the goal of enhancing

each organization’s competitive advantage.

One of the major developments in the production

of medical services is the integration of physicians

into larger organizations, like hospitals (Burns,

DeGraaff, and Singh, 1999; Goes and Zhan, 1995).

These newly formed group practices take advantage

of the larger scope of services that can be

offered, along with the cost efficiencies of locating

services centrally and sharing administrative

burdens (Zuckerman et al., 1995). As of 1996, 85

percent of hospitals in the United States had integrated

with physicians in some manner (Shortell

et al., 2000).

Based on the logic of the relational view, the

linkages between hospitals and physicians provide

both parties with the opportunity to combine

resources needed to establish advantageous competitive

positions. From the perspective of the hospital,

linkages with physicians essentially provide

access to patients. Access to patients is particularly

critical in an environment where cost control

efforts are focusing on reducing the usage of inpatient

hospital care and expensive medical services.

From the perspective of the physician, forming

relationships with hospitals gives physicians access

to a broad range of hospital services. Shortell

Evaluating Strategic Competencies in the Hospital Industry 337

et al. (2000) found that physicians are especially

attracted to hospitals that focus on innovation and

delivery of new services. Those physicians that are

linked to hospitals that offer the latest cutting-edge

medical technologies and/or have the strongest reputations

in the market will be able to attract the

most patients. Through these interorganizational

linkages, both the physician groups and the hospitals

are able to combine complementary resources

and offer an efficient and differentiated continuum

of care.

As discussed above, capabilities utilized to deliver

services that result in superior rents are called

strategic competencies. Hospitals that integrate

with physician groups with the result of enhancing

their strategic competencies within the market can

potentially achieve competitive advantage. In fact,

Shortell et al. (2000) found that broadly defined

integrated health care systems that integrated with

physician groups experienced higher total revenues

and cash flows. With this in mind, we offer the

following hypothesis:

Hypothesis 2: Developing strategic links with

physician groups in a manner that enhances

strategic competencies will be positively related

to hospital financial performance.

Influencing the buyer power/performance

relationship

While the above hypotheses portray direct relationships

between constructs presented in the RBV,

relational views, and hospital financial performance,

it is important also to consider whether

these constructs interact in ways that mitigate the

forces associated with the SCP model presented

above. Porter (1980, 1991) prescribed the use of

strategic behavior by individual firms to influence

industry structure. The recent empirical study by

McGahan and Porter (1997) confirmed an interaction

between industry and company-associated

variables. One way that firms could enact their

environment is to identify and procure resources

that would mitigate important industry forces pressuring

organizational profits.

The RBV suggests that if an organization is able

to establish an advantageous position in the market

it will be less susceptible to buyer power. If a hospital

is able to establish a differentiated position

in the market by building strategic competencies

that few other hospitals in the market can match,

then the buyer (the MCS) will be more willing

to pay a premium for those services. Or, alternatively,

the MCS will be less willing to utilize

bargaining power to force the hospital to accept

lower prices for those unique and valuable hospital

services. Hospitals that are able to establish

an advantageous competitive position or a superior

reputation in the market will be better insulated

from increasing buyer power than their resourcedisadvantaged

counterparts. Based on the implications

of the RBV of competitive advantage, the

following hypothesized relationship is suggested:

Hypothesis 3: The relationship between industry

buyer power and hospital financial performance

will be less negative when the hospital possesses

strategic competencies.

An alternative method of establishing an advantageous

position in the marketplace would be to

gain access to important resources in other organizations

(Dyer and Singh, 1998). As proposed

above, the merging of capabilities between hospitals

and physician groups is expected to be positively

related to hospital financial performance.

This merging of capabilities may also have a mitigating

effect on the pressures exerted by industry

structure.

A merger or partnership between a hospital and

physicians group essentially represents a coordinated

set of complementary resource endowments.

This combination or ‘pooling’ of capabilities

enables the individual providers to build

joint strategic competencies that collectively are

valuable to the buyer. Since managed care has

created formidable buyers in this industry, utilizing

enhanced capabilities to deliver strategic

competencies should make a particular hospital

more attractive.

As outlined above, the potential ability of hospital/

physician group partnerships to lower combined

costs, share administrative duties, target referrals,

and deliver a broader range of valuable services

enhances their service line in a way that may move

them above industry standards. By providing these

shared strategic competencies, they are better able

to meet the needs of buyers with the result of lessening

this industry structure force. Therefore, the

following hypothesis is offered:

338 T. J. Douglas and J. A. Ryman

Hypothesis 4: The relationship between industry

buyer power and hospital financial performance

will be less negative when the hospital

has developed strategic links with physician

groups resulting in strategic competencies.

METHODS AND MEASURES

Research design and data collection

Much of the data were gathered on a secondary

basis for the 32 largest hospital markets in the

United States. While there is not a generally

accepted approach to measuring and defining hospital

markets (Dranove and White, 1994), hospitals

do compete within a limited geographic

region. Examples of approaches taken to derive

geographic-based market definitions include the

use of county designations (Irwin, Hoffman, and

Lamont, 1998), Health Service Areas, which account

for travel patterns within metropolitan areas

(Makuc et al., 1991), or simply all hospitals within

a designated distance of the focal hospital (Robinson

and Luft, 1988). In this study we utilized the

Metropolitan Statistical Area (MSA) to define the

hospital market. While this approach is not without

its weaknesses (Dranove and White, 1994), it

is the most common urban hospital market definition

designation (Dranove, Shanley, and Simon,

1992; Manheim, Bazzoli and Sohn, 1994; Ketchen,

Thomas and Snow, 1993). In addition to using

MSAs to define markets, this sample included only

general medical hospitals (Veteran’s Administration,

military-base, and specialty hospitals were

excluded). This resulted in a total sample size of

824 hospitals.

The second part of the data collection utilized

highly qualified industry experts to evaluate the

hospital and physician group resource endowments

with regard to their relative strategic value (see

the Appendix for a summary of the hospital and

physician group services included in this study).

The American Hospital Association (AHA) recommended

the six industry experts selected to

participate in this evaluation as the most highly

qualified and knowledgeable individuals. Two of

the industry experts were CEOs of large integrated

health care delivery systems. Three of the

experts were major or principal partners in firms

that specialize in consulting for the health care

industry. The final industry expert is a nationally

known scholar who has published extensively on

health care management issues. Subsequent to the

appraisal of the resource value survey, interrater

reliability between the six industry experts was calculated

which resulted in a reliability coefficient

of 0.712. Since this reliability coefficient indicated

sufficient agreement, the average of the six experts’

ratings for each hospital resource was calculated

and assigned as weights to each respective hospital

and physician group service endowments.

Variables and measures

The following section details the measures employed

in this study. The approaches used to operationalize

the relevant constructs are consistent with

methodologies used successfully in the literature.

Cash flow margin

The measure of hospital financial performance utilized

was cash flow margin (Gapenski et al., 1993;

McCue, 1991). Not-for-profit firms whose missions

are service oriented and not profit maximization

dominate the hospital industry. However, all

hospitals, whether for-profit or not, are necessarily

concerned with an adequate cash flow to sustain

operations. The cash flow margin (CFM) was calculated

as follows:

(Net income + Depreciation + Interest exp.)

(Net patient revenue + Total other income)

The cash flow margin measure of financial performance

for each hospital was calculated for the

years 1996 and 1997 and then averaged to eliminate

any single year anomaly. The data needed

to calculate this measure were obtained from the

1998 American Hospital Directory.

Strategic competencies

The strength of a hospital’s competencies is determined

by comparing the value of a hospital’s

service offerings to those of the competition. By

comparing the value of the bundle of services with

that of the competition, a measure of the distinctiveness

of each firm’s competencies can be

determined and competitor analysis can be conducted

(Chen, 1996). In order for a competency

to be considered valuable, it would have to either

help reduce costs or differentiate the firm relative

Evaluating Strategic Competencies in the Hospital Industry 339

to the competition (Porter, 1991). While certain

hospital services may help to reduce costs, the

primary function of adding hospital services is to

improve the desirability of the hospital in the eyes

of current and potential customers.

Following the approach taken by Irwin et al.

(1998), industry experts were asked to evaluate

the potential of each hospital service to enhance

the reputation or increase the attractiveness of the

hospital to physicians, patients, and insurance companies.

These competencies are only valuable if

deemed so by the participants in the external environment

(Priem and Butler, 2001). In this 5-point

Likert-type scale, ‘5’ designates a ‘high potential

to enhance a hospital’s reputation and attractiveness

to customers,’ while the ‘1’ represents a ‘low

potential to enhance a hospital’s reputation and

attractiveness to customers.’ The ‘0’ indicates no

strategic value whatsoever (Irwin et al., 1998).

Subsequent to the appraisal of the resource value

survey, the average of the six experts’ ratings for

each hospital resource was calculated and assigned

as weights to each respective hospital service and

an overall measure of the value of each hospital’s

service bundle was calculated. The measure was

calculated as follows:

[(Value, Service A) + . . . (Value, Service N)]

Total number of services

This measure represents the average value of each

hospital’s service offering. The practical significance

of this approach is that the number of services

a hospital provides (which may be indicative

of organizational size) may not be relevant.

Indeed, a hospital with only 20 service offerings

may have competencies that are, on average, more

valuable than the competencies of a larger competitor

that offers 60 services. Subsequently, in

order to reflect each firm’s relative position in the

market, the measure of the strategic value of the

hospital’s service offering calculated above was

standardized relative to the local market. This was

accomplished by transforming each observation

into a Z-score. The data related to hospital service

offerings were gathered from the 1998 American

Hospital Directory.

Physician linkages

As discussed above, the linkage of hospitals with

various types of physicians groups may have a

differential impact on the ability of a hospital to

create a competitive advantage vis-`a-vis rival hospitals

and powerful MCS buyers. Industry experts,

familiar with the development of integrated health

care delivery systems, were asked to evaluate on

a 5-point Likert-type scale the relative importance

of each physician service in building an efficient

and effective integrated delivery system. In this

Likert-type scale, ‘5’ denotes the particular physician

service as ‘critical to the effectiveness of an

integrated delivery system,’ while ‘1’ designates a

physician service as ‘not an important part of an

integrated delivery system.’

Subsequent to the appraisal of the strategic value

of each type of physician group, the average of

the six experts’ ratings for each type of physician

service was calculated and assigned as weights to

each respective physician service. This weighting

factor was then applied to the type of physician

services each hospital is linked to and was then

summed to derive a measure of the strength of

each hospital’s physician linkages. Data regarding

the integration of physician services were obtained

from the Integrated Healthcare Systems directory

(Health Strategies Group, 1996).

Managed care buyer power

The managed care market power measure is a

composite of two critical determinants of managed

care’s ability to influence the demand structure

in the market; managed care penetration, and

the percentage of managed care that is Medicaid

and Medicare related. Managed care market penetration

is the percentage of the MSA population

enrolled with an MCS in 1996. This variable is

calculated as the number of enrollees per MSA

divided by the total MSA population. The second

determinant, the percentage of Medicaid and

Medicare managed care, is important to include

because it is an indication of the level of government

involvement in managed care. Recent efforts

of governments at all levels to balance budgets

have provided significant impetus for government

buyers to wield their clout in the health care industry,

especially related to care for the poor. These

two measures were obtained from the 1998 American

Hospital Directory and then, using SPSS, were

factored together to produce a singular measure of

managed care buyer power. Principal components

were used to extract the buyer power factor and the

340 T. J. Douglas and J. A. Ryman

factor scores were generated using the regression

methodology.

Industry competitive rivalry

The variable used to measure the level of rivalry

in each general hospital market is a modification

of the Herfindahl index. The Herfindahl, which

considers both the magnitude and the relative differences

of market shares of competitors in a market,

is a measure of market concentration that has

been used extensively in the strategy literature as

a proxy for rivalry (Boyd, 1990; Melnick et al.,

1992). A measure of rivalry was calculated as

1 minus the calculated Herfindahl index, so that

higher values correspond to greater levels of hospital

competition in a particular market. Total revenues

for each hospital were obtained from the

1998 American Hospital Directory.

Tax status

Hospital tax status has been indicated as a significant

influence on performance (Graeff, 1980). A

for-profit hospital will likely have different organizational

goals from those of the not-for-profit

hospital (Zajac and Shortell, 1989). Therefore it

was important to control these different competitive

orientations and classify each hospital accordingly.

Data on tax status were obtained from the

1998 American Hospital Directory.

Organizational size

Organizational size has been a significant predictor

of hospital financial performance in the literature

(Graeff, 1980). Therefore, this study controlled for

variations in performance due to differences in

organizational size. Organizational size was measured

as the average of 1996 and 1997 total assets.

These data were obtained from the 1998 American

Hospital Directory.

Indigent care

The service mission of most hospitals requires that

they serve patients that are unable to pay for the

services provided. However, the preponderance of

this burden often falls on a few hospitals within

a market, namely the public hospitals and health

centers that are located in economically distressed

areas (Cunningham and Tu, 1997). This obviously

represents a significant negative impact on hospital

profitability and must be accounted for in the

model. This variable, which is the number of

Medicaid-related hospital discharges, provides a

reasonable proxy for the level of indigent care each

hospital provides. These data were obtained from

the 1998 American Hospital Directory.

Teaching hospital

The dual missions of providing health care to a

market as well as providing graduate education

may put academic hospitals at a distinct competitive

disadvantage to their nonacademic counterparts

(Blumenthal, Campbell, and Weissman,

1997). Therefore, it is important to acknowledge

these different organizational missions and classify

each hospital accordingly. Data were obtained

from the 1998 American Hospital Directory.

Given the form of the model, moderated regression

was used to test the hypothesized relationships.

Support for the hypotheses was determined

by the statistical significance of each focal variable.

The following section summarizes the results

of the analyses.

RESULTS

Descriptive statistics

The descriptive statistics as well as the Pearson

correlation matrix are summarized in Table 1. As

Table 1 indicates, there is no significantly large

correlation that would indicate any concern over

multicollinearity (Hanushek and Jackson, 1977).

In addition, the variance inflation factors were

calculated and found to be less than 2 in all

cases. This is well below a level that would cause

concern of any excessive multicollinearity (Neter,

Wasserman, and Kutner, 1985).

Table 2 presents the results of the hierarchical

moderated regression analyses. Model 1 reflects

the inclusion of only the control variables; Model 2

tests Hypotheses 1 and 2, while Model 3 tests

Hypotheses 3 and 4.

Control variables

Some discussion of the control variables utilized in

this study is warranted since these factors have a

significant underlying impact on hospital financial

Evaluating Strategic Competencies in the Hospital Industry 341

Table 1. Descriptive statistics and correlations (N = 824)

Mean S.D. 1 2 3 4 5 6 7 8

1. Cash flow margin 0.06 0.09 1.00

2. Hospital rivalry 0.93 0.05 -0.13** 1.00

3. Buyer power 0.00 1.00 -0.13** 0.00 1.00

4. Strategic competencies 0.00 1.00 0.04 -0.01 0.01 1.00

5. Physician linkages 0.00 1.00 0.13** -0.21** -0.09** 0.05 1.00

6. Size 56.12 70.10 -0.07 -0.02 -0.03 0.20** 0.11** 1.00

7. Tax status 0.17 0.37 0.29** 0.00 -0.13** -0.03 0.10** -0.17** 1.00

8. Teaching hospital 0.36 0.48 -0.15** 0.08* 0.06 0.14** -0.02 0.40** -0.21** 1.00

9. Indigent care 1772 2826 -0.23** 0.07 -0.01 0.18** -0.06 0.40** -0.16** 0.37**

p < 0.05; **

p < 0.01

Table 2. Regression results

Independent variables Model 1

Controls

Model 2

Direct effects

Model 3

Interactions

ß t ß t ß t

Size 0.098 2.55** 0.058 1.49 0.057 1.45

Tax status 0.253 7.37*** 0.235 6.86*** 0.238 6.94***

Teaching hospital -0.071 -1.86t -0.055 -1.45 -0.056 -1.48

Indigent care -0.201 -5.35*** -0.201 -5.40*** -0.199 -5.36***

Rivalry -0.091 -2.69** -0.072 -2.06***

Buyer power (BP) -0.103 -3.11** -0.118 -3.47***

Strategic competencies (SC) 0.080 2.36* 0.093 2.71**

Physician linkages (PL) 0.053 1.56 0.062 1.78t

SC × BP -0.068 -2.07*

PL × BP 0.069 1.94*

Adjusted R2 0.119 0.145 0.151

F 27.85*** 17.86*** 15.18***

tp < 0.10; *

p < 0.05; **

p < 0.01; ***

p < 0.001

performance. The first control, organizational size,

is significantly and positively related to financial

performance. This finding is consistent with previous

research that has noted a positive correlation

between size and performance (Kimberly, 1976;

Judge, 1994). In addition to size, the tax status

of a hospital also had a significant impact on

its financial performance. Not surprisingly, forprofit

hospitals outperformed their not-for-profit

counterparts. This disparity in financial performance

perhaps stems from the differences in the

overall mission of the hospitals and the inherent

conflict between financial and social objectives

(Krawlewski, Guilford, and Porter, 1988). A

beneficial direction for future research would be

the inclusion of additional performance variables

that would be more closely linked to these alternative

objectives. Finally, the level of indigent

care a hospital provides is negatively related to

organizational performance. This result, while not

surprising, highlights the financial burden that

is unevenly shouldered by some hospitals (Fishman,

1997). Teaching hospital status demonstrated

only marginal significance with respect to financial

performance.

Industry structure variables

While no specific hypotheses were offered with

regard to the two key measures of industry

structure, namely managed care buyer power

and hospital rivalry, it is important to note

their impact on hospital financial performance.

The results of this study support the relevant

I/O model, as expected, which suggests that

powerful buyers and higher levels of rivalry will

342 T. J. Douglas and J. A. Ryman

in general result in lower levels of organizational

financial performance. As Model 2 in Table 2

indicates, the results of our study noted that both

managed care buyer power (t = -3.11, p < 0.01)

and hospital rivalry (t = -2.69, p < 0.01) are

negatively related to a hospital’s cash flow margin.

Hypothesis 1

Hypothesis 1 suggests that a hospital’s internal

capabilities can be used to deliver strategic

competencies that result in competitive advantage.

Specifically, Hypothesis 1 asserts that the strength

of a firm’s strategic competencies is positively

related to hospital financial performance. The

results of this study indicate support for this

assertion since the level of a hospital’s strategic

competencies is positively related to hospital cash

flow (t = 2.36, p < 0.05).

Hypothesis 2

Hypothesis 2 introduces the notion that interorganizational

linkages are the conduits that enable

physician groups and hospitals to combine resources

resulting in strategic competencies. Thus,

forming linkages with physicians was hypothesized

to have a positive effect on hospital financial

performance. The results of this study, however,

did not indicate a significant relationship (t = 1.56,

p < 0.15).

Hypotheses 3 and 4

Hypotheses 3 and 4 suggest that firms can interact

with their environments by implementing strategies

that can mitigate potential negative influences

of industry structure on performance. Specifically,

Hypothesis 3 asserts that hospitals can reduce the

negative effects of MCS buyer power by developing

and deploying valuable organizational capabilities,

while Hypothesis 4 suggests that forming

relationships with physicians can mitigate these

same influences. The results of the moderated

regression analysis indicate the presence of moderating

influences. As Model 3 shows, the relationship

between buyer power and performance is less

negative when hospitals engage in value-creating

interorganizational relationships with physicians

groups (t = 1.94, p < 0.05). Thus Hypothesis 4 is

supported.

The results related to Hypothesis 3 also indicated

that moderating influences exist. However,

the effect was opposite to the theoretical expectation.

Applying the RBV, we hypothesized that hospital

managers could alleviate the negative effects

of powerful buyers by building valuable, strategic

competencies. The results indicate that the effect of

managed care buyer power on hospital cash flow

was more negative (t = -2.07, p < 0.05) when

hospitals possessed strategic competencies. This is

a surprising result that warrants further discussion.

DISCUSSION

This study attempted to contribute to recent literature

in strategic management by evaluating the

ability of firms to select and apply both internal and

shared resources to gain a competitive advantage

and relieve competitive pressure related to industry

structure on firm profitability. The results extend

our understanding of the combined contributions

of industry structure and management strategic

actions on organizational performance within a

specific context. By concentrating on the direct and

combined effects of relevant theoretical variables,

we have contributed in several ways.

First, we established and tested configurations of

services to determine if they represented strategic

competencies in the hospital industry. The findings

supported the use of service-related strategic

competencies to create competitive advantage in

support of the RBV and relational view models.

Second, we tested these same competencies’ use

in mitigating industry structure forces indicated

by the SCP model, with the results suggesting

the value of combining internal and external organizational

variables in understanding competitive

advantage (Hoskisson et al., 1999). Third, the findings

highlight the importance of focusing on a

specific context when studying the impact of both

external and internal environments on competitive

advantage. The power of the forces related

to industry structure varies by industry, as do

the competencies necessary to achieve competitive

advantage (Priem and Butler, 2001). Finally, the

results of the study provide information for the

industry under study, practitioners, and instructors

of strategic management.

Evaluating Strategic Competencies in the Hospital Industry 343

Theoretical contributions

Findings with respect to the relationship between

each of the study industry structure variables

(buyer power and rivalry) and organizational performance

were consistent with prior findings in

the strategy literature. While many of the previous

findings were based on analyses across industries

(McGahan and Porter, 1997; Roquebert, Phillips,

and Westfall, 1996; Rumelt, 1991; Schmalensee,

1985), our study consisted of a single industry

with 32 unique market areas. Within these market

areas we found that the measures of buyer power

and rivalry varied, with higher levels of both variables

related to lower organizational performance.

While the literature in the hospital industry has

been inconsistent regarding the impact of rivalry

on financial performance, this study found support

for the effect predicted within I/O literature.

With respect to the competitive strategies of

individual organizations, based on our observations

of the services offered, hospitals have developed

differing strategic competencies. As predicted

by the RBV, those organizations that exhibited a

higher level of strategic competencies also performed

at a higher level. Priem and Butler (2001)

argue that little work has been done with respect

to evaluating the RBV in appropriate contexts. In

the case of hospitals, offering specific services that

are highly valued by their customers appears to be

rewarded. Future research should consider additional

service industries for similar evaluations.

Our study’s findings also indicate that industry

structure variables interact with the variables

related to the competencies owned or shared by

the incumbent organizations. In the case of the

complementary resources shared by partnerships

between hospitals and physician groups, the findings

showed that the stronger the valuable and

shared competencies are, the weaker the relationship

between buyer power and organizational performance.

Hospitals, by engaging in valuable linkages

with physician groups, can mitigate some

of the power exerted by the MCS. While Porter

(1980) suggested that organizations take an active

role in positioning themselves in a manner that

insulates them from industry forces, little evidence

exists in the literature supporting this advice. Our

finding is also consistent with the conclusions of

Burns et al. (1999) that the multiple service capabilities

of hospital/physician group combinations

are valuable competitive attributes for organizations

in the health care industry.

The findings also contribute to the health care literature.

Following the predictions of Dranove and

White (1994), as purchasing power has migrated

from uninformed patients to highly competitive

and knowledgeable MCS, the hospital industry

has begun to respond to these threats. Increasing

buyer power and rivalry force incumbent hospitals

to consider ways to enhance the value that

they deliver (Teisberg et al., 1994) from the perspective

of their multiple stakeholders (Shortell

et al., 2000). In this data set it has been shown

that hospitals can reduce the power of buyers

by integrating with physician groups that possess

strategic competencies. In addition, hospitals that

possess higher levels of strategic competencies are

rewarded for the increased value provided. These

are important considerations for strategic planners

of integrated health care systems. Shortell et al.

(2000) have predicted that more emphasis will

necessarily be placed on ‘quality and outcome criteria’

in the coming years rather than on costs,

with the further development of continuous quality

improvement (CQI) providing the necessary

support. Higher levels of CQI have been recently

shown to have a positive impact on hospital profits

(Douglas and Judge, 2001). In this competitive

environment, as health care organizations focus on

developing and providing strategic competencies,

the overall value and quality of services provided

can be enhanced.

One surprising finding in our study raises additional

issues. In our data the relationship between

buyer power and organizational performance was

actually strengthened in the presence of higher

levels of hospital strategic competencies. We had

hypothesized that these valuable competencies

would lessen the pressure exerted by buyer power.

It may be that the specific forces working in the

health care industry are unique, causing an effect

quite opposite to the one expected. We chose to

operationalize a hospital’s strategic competencies

based on the strategic value of the bundle of services

offered by the organization. It may be that

the more valuable services offered by these hospitals

are ones that require a higher level of capital

investment (Anderson and Steinberg, 1994). While

patients may be better served by these services, an

MCS’s ‘dominant criterion in the value equation is

still cost’ (Shortell et al., 2000: 6). An MCS may

require the substitution of less costly alternative

344 T. J. Douglas and J. A. Ryman

services or may reimburse the subject hospitals at

a rate that is less than the respective cost of delivery.

1 Unfortunately, our data do not contain the

detail necessary to help us answer this anomaly. It

would be helpful to study this relationship further

in other industries and to engage in more in-depth,

qualitative research in the general hospital industry

to better understand this result.

Finally, studying the constructs from the various

theories in a specific context appears important.

The significant interactions that we found between

buyer power and owned or shared strategic competencies

may be unique to the industry that we chose

to study. How are these and other important constructs

suggested by these theoretical perspectives

related in other contexts? Studies in both manufacturing

and other service organizations would be

helpful as well as including global vs. domestic

environments.

Managerial implications

This study also has implications for administrators

in this industry. Since the need to control costs

while increasing the quality of service remains

a critical success factor in the hospital industry,

it appears that managers of these organizations

can strategically act to enhance their organization’s

well-being. Developing valuable competencies,

whether within the organization or in partnership

with other groups, can have a positive effect

on overall performance.

With respect to increased internal capabilities

of these hospitals, more information is needed.

However, even though hospitals with higher levels

of strategic competencies seem to allow an MCS

to denigrate profits from them based on these data,

the higher level of hospital profits associated with

these valuable capabilities more than offset this

potential loss. This may also be an area where the

hospitals and MCS can better partner to ensure

that the services offered best meet the needs of all

stakeholders.

Limitations

The results of this study must be viewed with

respect to a number of limitations. First, this

study was conducted within a single industry.

1 Thanks to a reviewer for suggesting this alternative.

While this lessens the generalizability of the findings,

it does enhance the literature in this area.

Most studies have been completed across multiple

manufacturing industries and have provided

important information with respect to key relationships

formulated in the strategic management

literature. The use of a single service industry

in this study allows for an in-depth analysis and

further contributes to the growing knowledge in

this field. Second, most of the data were gathered

at a single point in time. While the theory

implies causality in a number of the relationships

studied, this study could not verify the direction

of this causality. Future research should examine

these relationships using a longitudinal database.

Third, the measure of competitive rivalry across

hospitals in each MSA doesn’t account for interdependencies

that may exist given the proliferation

of local hospital systems (Luke, Ozcan, and

Olden, 1995). We did conduct an ad hoc test

adding system membership as a control variable,

but found that it was insignificant. It has also been

noted that the degree that member hospitals take

advantage of shared resources and processes is

still an unresolved question (Luke and Wholey,

1999).

CONCLUSIONS

This study examined the drivers of competitive

advantage within the hospital industry. Specifically,

we examined both the direct and combined

effects of market structure (I/O economics),

firm-level resources (RBV), and interorganizational

relationships (relational view) on organizational

performance. The results of this approach

indicated that managers, through their strategic

actions related to developing and sharing strategic