Competitiveness is both a multidimensional and relative concept which can be examined on a country-, industry- or firm-level. In the Global Competitiveness Report (GCR) published by the World Economic Forum, it is defined as the set of institutions, policies, and factors that determine the level of productivity of a country. The GCR, together with other similar competitiveness surveys (e.g., IMD World Competitiveness Yearbook), emphasizes the key role of private firms as a major contributor to a nation’s competitiveness. In other words, nations can compete only if their firms are competitive. Michael Porter even stresses, “it is firms, not nations, which compete in international markets.” In a general sense, nations are competitive if their firms are likewise competitive.
While there are also debatably many other factors that affect a firm’s competitiveness, the bottom line is still how they are able to create value through increased productivity (static component) and through its ability to innovate (dynamic component) its products as well as its processes and systems. In other words, the firm’s performance is both assessed operationally (i.e., profitability, price, cost) and strategically (i.e., sustainability).
If firms are able to adjust their resources and cost structures quicker than their rivals not only within their country but also globally, we can argue that they are able to compete better. Operational flexibility is how firms are able to adjust their cost levels to corresponding changes in activity levels. Ideally, if activity level increases by 1%, their costs should likewise increase by 1%, and if activity level decreases by 1%, firms should likewise adjust their costs downward by 1%. We could therefore draw on this symmetrical behavior of costs as an indicator of operational flexibility, which is the cost symmetry ratio (CSR). Using a panel data analysis of a log-model of the cost function derived from the Cobb-Douglas production function, we could compute the symmetricity of cost behavior of firms. This model was developed by Anderson, Banker, and Janakiraman in 2003 and is used by researchers in other countries. In academic literature, this is popularly called “cost stickiness.”
Applying this empirical model to Philippine data (e.g., selected listed firms over the 1999-2009 period), we find that Philippine firms exhibit asymmetrical cost behavior. More specifically, our results show that if activity levels (i.e., sales) increase by 1%, Philippine firms increase their costs (i.e., discretionary costs) by 0.53%, but when activity levels decrease by 1%, they only adjust their costs downwards by 0.03%. Our cost symmetry ratio therefore is 53:3 of 17.667.
While firms from other countries also exhibit similar asymmetrical cost behavior, we could observe that their cost symmetry ratios have higher values and are closer to 1. For instance, in Calleja et al.’s 2006 study, the cost symmetery ratio of US firms is 95:90 (1.057), UK firms 98:96 (1.02), German firms 98:90 (1.096), and French firms 99:90 (1.1). In a similar study by de Maderios and Costa in 2004, the ratio of Brazilian firms stand at 59:32 (1.83).
The higher values signify that firms are able to adjust quicker with both upward and downward changes in activity levels, while the ratio’s proximity to 1 signify the higher degree of symmetry. Thus, comparing the cost symmetry ratios we could infer two things from this. First, firms from other countries show greater operational flexibility in managing their costs than the Philippines. They adjust their resource allocations quicker than that of Philippine firms. Second, Philippine firms are not just slower but they are even more rigid in adjusting downward (0.03% for 1% decrease in activity vs. 0.90% by US firms). This could be caused by different economic (e.g., GDP), political (e.g., labor laws) and even cultural factors.
Empirically, the negative correlation of the cost symmetry ratio and the GCR score provides an alternative albeit partial explanation why the Philippines is less competitive than the other “more industrialized” countries in this study. However, the implications of this are tremendous. In a global economy where political and economic boundaries are fast disappearing, the degree of operational flexibility of firms could influence their long-term survival. Philippine firms should be cognizant of this and should develop mechanisms which could enable them to react or pro-act quickly to rapid and sometimes unpredictable changes in the market to remain competitive.
The author is vice-dean for Research and Graduate Studies of the Ramon V. del Rosario College of Business.
The views expressed above are the author’s and do not necessarily reflect the official position of De La Salle University, its faculty, and administrators.