Leading through turbulence

A capability is simply a firm’s ability to do something. If that thing is non-discretionary and creates no relative advantage, such as legal compliance, we call it a hygiene capability. If the thing we can do is discretionary and improves our competitiveness, such as product development, we call it a differentiating capability. Self-evidently, success depends on having all necessary hygiene capabilities and some differentiating capabilities that are superior to those of our competitors.

This view of how firms compete is useful but static: it explains why firms succeed or fail at a moment in time but not why competitiveness changes over time. To respond well to VUCA environments, we need to grasp the dynamics of competitiveness. Enter Professor David J Teece and his followers (see box 1). They identified a third category, dynamic capabilities: the ability to change other capabilities. While hygiene and differentiating capabilities explain success in a static environment, dynamic capabilities explain sustained competitiveness in VUCA environments.

Dynamic capabilities can seem obvious: to survive change, one must change. The concept’s real value comes from understanding the mechanisms that underpin dynamic capabilities, because that comprehension allows firms to adapt to VUCA environments better than their rivals. And to understand dynamic capabilities, you must grasp two ideas: they have three stages and they are built on routines and their microfoundations.

As their research developed, Teece and his followers discovered that dynamic capability actually consists of three capabilities: the capabilities to sense; seize and reconfigure (see box 2). This was and is important because it helped explain why some firms are more dynamically capable than others. The more effective firms have all three capabilities and apply them all well, while their less effective rivals neglect one or more of them.

Teece’s three-part elucidation is necessary but not sufficient to allow leaders to build their firms’ dynamic capabilities. It leaves unanswered the question of how some firms are good at sensing, seizing and reconfiguring while others are not. The answer to that question was gradually uncovered by two further decades of research. It is that they have superior organisational routines and the superiority of their routines rests on their microfoundations (see box 3).

This discovery matters because is important, as it informs leaders about the specifics of what they must do. It is not enough, for example, to set up a new process for new product development or expect it to deliver a superior new capability. Leaders must first define which organisational routines are needed to enable the seizing, sensing and reconfiguring elements of the capability. Then they must characterise the microfoundations those routines need. Then they must build those microfoundations.
The discoveries of the mechanism of dynamic capabilities (three-part, routine-driven, microfoundation-based) transform the academic concept into a real-world, actionable strategy tool.

For decades, researchers have pointed to two explanations of competitiveness: Barney and others as to what a firm has (its resources) and Nelson, Winter and others as to what a firm does (its routines and processes). Both views provided useful but incomplete accounts for how a firm’s competitiveness changed in the context of a dynamic market. In the 1990s, David J Teece and others blended these two perspectives into the concept of dynamic capabilities, which explains sustained competitiveness as the routines needed to develop, adapt and renew resources. Since then, Teece, along with Eisenhardt, Zollo and many others, have elaborated on the organisational activities and factors that underpin a firm’s dynamic capabilities. The concept is now central to the discipline of strategic management.

Dynamic capabilities involve three equally essential component capabilities:

1. Sensing: the ability to notice change early
Sensing requires understanding how different elements of the market interact and create new patterns – what I have elsewhere described as emergent properties. Organisations that sense well can interpret the market environment as a whole rather than as disconnected parts.

2. Seizing: the ability to act on what has been sensed
Seizing requires evaluation of emergent properties to identify opportunities and threats when the full picture is still forming. Organisations that seize well can combine multiple perspectives to resolve ambiguity and integrate complexity before their competitors do.

3. Reconfiguring: the ability to adjust how the organisation works as conditions evolve
Reconfiguration requires changes in how resources are allocated and how teams collaborate. Organisations that reconfigure well can move resources.

Organisational routines are repetitive patterns of actions by teams. They are how smaller tasks are done and they combine into organisational processes that perform larger tasks. Segmenting the market, making strategic decisions and designing value propositions are all examples of organisational routines that combine in the strategic planning process.

Microfoundations are the elements of organisational routines. They include the people that are part of that routine’s team, their skills and attributes, how teams are related to each other and how conflict between teams is managed. Each organisational routine requires a specific set of microfoundations.

Slow sensing in advanced therapies
A mid-sized company developing a cell therapy monitored competitor pipelines closely but treated payer signals as a downstream issue. When two major European payers signalled a shift towards outcomes-based reimbursement, the organisation noticed the news but did not integrate it into its early planning. By the time the implications were fully understood, the clinical programme had advanced in a direction that made later adaptation difficult.

Hesitant seizing in a rapidly evolving oncology market
A large oncology franchise identified an emerging opportunity to combine its asset with a novel diagnostic platform. The science was promising and early regulatory conversations were encouraging, but the organisation hesitated because the commercial model was unfamiliar. Multiple teams ran parallel analyses, each waiting for greater certainty. A competitor moved first with a similar approach, capturing the narrative and shaping payer expectations.

Reconfiguring too slowly in response to payer pressure
A company with a strong rare disease portfolio recognised early that payers were tightening evidence requirements for high-cost therapies. Leadership agreed that the organisation needed to integrate health economic thinking earlier in development, but resource allocation remained unchanged. This effectively prevented any meaningful reconfiguration of how medical, market access and marketing routines were integrated.

The value of dynamic capabilities is demonstrated when it is applied in two ways: to explain failure and to enable success. My own work, focused exclusively on the pharma, medtech and related sectors, has provided innumerable examples of dynamic capabilities as a useful tool for strategists (see boxes 4 and 5).

Dynamic capabilities are an effective tool for strategising in our VUCA environment, which raises a pressing question for leaders: How dynamically capable are we? This isn’t a question that can be answered with a simple benchmark; leaders must paint a rich picture of how their organisation currently stands. This can be done by asking pertinent, probing questions. Over the years, I have developed a diagnostic tool that helps leaders in our sector do exactly that (see box 6).

Like any diagnostic tool, this only works if used honestly and rigorously. But if its results are mostly positive, your firm has well-developed dynamic capabilities and will likely succeed even in the most VUCA environment. If your results are mostly negative, however, that implies your leadership must work to develop its dynamic capabilities, building them upwards from organisational routines and their microfoundations.

Our industry is built on theories from biology, chemistry and other branches of the natural and physical science. But our industry’s leaders are much more sceptical of theories about strategic management, such as dynamic capabilities. This unbalanced scepticism is understandable and limiting.

Dynamic capabilities are a fine example of Lewin’s aphorism that there is nothing so practical as a good theory. To lead through turbulence, our leaders would do well to understand and use this important strategic management tool.

Effective sensing and seizing in a competitive immunology landscape
A smaller biotech noticed subtle changes in competitor trial designs and early regulatory commentary suggesting a shift in what would count as clinically meaningful differentiation. Rather than waiting for definitive guidance, the company convened a cross-functional group to interpret and act upon the pattern, resulting in an adaptation of the trial design.

Full cycle adaptation in response to geopolitical disruption
A global company with a complex supply chain detected early signs of geopolitical instability affecting a key manufacturing region. Instead of treating this as a supply chain issue, leadership brought together regulatory, commercial and medical teams to understand the broader implications and develop timely contingency plans, which later proved necessary.

Adaptive portfolio shift in response to regulatory acceleration
A mid-sized company developing therapies in neurology recognised early signals that payers were becoming more receptive to real-world evidence in areas of high unmet need. Instead of waiting for formal guidance, the organisation got a cross-functional team to interpret the implications. Within weeks, they reshaped their development plan, reallocating resources to generate the types of evidence that would convince payers. The shift allowed them to move earlier, reduce uncertainty and position the asset ahead of competitors who waited for clearer direction.

This series is written by Professor Brian D. Smith, a leading authority on strategy in our industry. He welcomes comments and questions at brian.smith@pragmedic.com