Innovation and Dynamic Capabilities among Traditional Market
Traders: How it Affect Business Performance
Moh Farid Najib, Deddy Saefuloh and Iwan Mulyawan
Business Administration Department, Bandung State Polytechnic, Indonesia
Keywords: Innovation, Dynamic Capabilities, Business Performance.
Abstract: The purpose of this paper is to report research on dynamic capabilities and innovation-how it affects business
performance. The author also examines how the effect of innovation on both dynamic capabilities and
business performance, and how dynamic capability impacts on business performance, also as well as how
dynamic capabilities as the moderating effect of innovation on business performance. The data collected from
an original survey of 840 respondents of the trader in 69 traditional markets around West Java, Indonesia.
This research was developed using a survey and literature review as the basis for its development. Structural
Equation Modeling was used to evaluate the finding, which means that two stages were used; the first was
checking the construct reliability and validity for measuring the model. The second stage was a full model of
structural equation modeling to test the hypothesis developed. The finding of these researches described the
innovation of traditional market trader has a significant positive effect not only on dynamic capabilities but
also on business performance, another finding shows that the dynamic capabilities have a significant positive
effect on business performance.
1 INTRODUCTION
Traditional market traders that are categorized as
Small and Medium Enterprises (SMEs) face
challenges from the growing modern markets as well
as from competition among the traditional market
traders themselves. This is indicated by the
development of modern retails such as mini markets,
which are considered to threaten the existence of
traditional markets in Indonesia
(https://bisniskeuangan.kompas.com). One reason is
the service quality of the traditional market far
inferior to the modern market (Najib and Sosianika,
2018). Hanna and Walsh (2002) suggest SMEs must
adapt to industrial changes, such as technological
progress and the creation of new products so they can
survive to operate. Therefore, SMEs must be more
innovative in serving their customers, due to the
changing preferences of their customers, and the
competitors who keep improving their capabilities in
the business.
Therefore, the challenge of developing a
competency level the dynamic capabilities of
traditional market traders is required to be high. Hitt
et al. (2001) and Helfat et al. (2007) state that the
dynamic capabilities of a company can make a
positive contribution to company performance.
Dadashinasab and Sofian (2014) confirm that
dynamic capability, in principle, is to reconstruct and
enhance the core capabilities of the company in
responding to dynamic markets to maintain
competitive advantage and maintain performance.
Giniuniene and Jurksiene (2015) suggest that the
concept of dynamic capabilities is very important in
today's research because dynamic capabilities can
improve a company's business performance. The
main implication of the dynamic capability concept is
that the company has competency not only to
distribute the utilization of available resources within
the organization but also to renew and develop
themselves, especially in traditional markets.
On the other hand, in today's competitive business
and market environment, Lazonick and O'Sullivan
(2000) and Brem and Voigt (2009) argue that the need
to continue to innovate and provide new products and
services that are better recognized for all company
sizes. Because successful innovation is recognized as
one of the factors that contribute to the company's
competitive advantage (Gunasekaran et al., 2000;
How, 2008; Sanz-Valle and Jimenez-Jimenez, 2011),
and ultimately has an impact on business performance
(Zahra et al., 1999; How, 2008; Talke et al., 2011).
Najib, M., Saefuloh, D. and Mulyawan, I.
Innovation and Dynamic Capabilities among Traditional Market Traders: How it Affect Business Performance.
DOI: 10.5220/0009959801490157
In Proceedings of the International Conference of Business, Economy, Entrepreneurship and Management (ICBEEM 2019), pages 149-157
ISBN: 978-989-758-471-8
Copyright
c
 2020 by SCITEPRESS – Science and Technology Publications, Lda. All rights reserved
149

Previous studies related to the relationship
between innovation and business performance some
mentioned having positive and significant
relationships, but others found that there were no
positive and significant relationships and even no
relationships at all (Geroski and Machin, 1992; Freel,
2000b: Al-Ansari et al.., 2013). Freel (2000a)
emphasized that he did not find this relationship.
Meanwhile, other opinions state that business
performance is positively influenced by innovation,
and the correlation between innovation and business
performance depends on the type of innovation it
develops (Otero-Neira et al. 2009; Forsman and
Temel, 2011). North and Smallbone (2000) found that
there is a relationship between innovation and
business performance that is interdependent and
mutually. Therefore, the role of dynamic capabilities
becomes very important as a mediation that mediates
the relationship of innovation with business
performance. Research on issues that contribute to the
characteristics of SME innovation includes several
things, namely; environmental and cultural issues,
market strategy issues from the process and type of
product, source of ideas, drivers and platforms, and,
research and development (Sebora et al., 1994;
Hadjimanolis, 1999; Guan and Ma, 2003; Blumentritt
and Danis, 2006; Kenny and Reedy, 2006; Laforet
and Tann, 2006).
The purpose of this study is to explore the
relationship of innovation to dynamic capabilities and
business performance. Therefore, this research is
organized as follows. First, background and
theoretical study are presented, and then a description
of the methodology was used. Second, data analysis
that followed with a discussion of test results. The
final part of this study is the presentation of
conclusions.
2 LITERATURE REVIEW
2.1 Innovation
Innovation is a process that can be repeated in various
forms (Damanpour & Schneider, 2006; Dobni, 2008;
Goffin & Mitchell, 2010; Norman & Verganti, 2012).
According to Freeman and Soete (1997), innovation
is related to the involvement of various problems,
including; knowledge, capabilities, activities, and
organizational processes. Kanter (1983) defines
innovation as a form of accepting and implementing
the new ideas of the processes, the products, or the
services. It basically means that innovation occurs
when new elements or new combinations of old
elements are introduced. Therefore, the aim of
innovation is to take advantage of the latest
conditions and opportunities, formed in the
environment and used to frame new values and gain
competitive advantage (Porter, 1990; Nonaka &
Kenney, 1991; Damanpour & Schneider, 2006;
Dobni, 2008).
Several types and activities of innovation include
product innovation, process innovation, and market
innovation (Sundbo, 2003). Furthermore, Sundbo
also (2003) describes product innovation as the
introduction of new products to the market; and the
process innovation is the introduction of new
production processes using new technologies or new
work processes; and market innovation is related to
the new market behavior of the companies such as
new strategies, new marketing, new alliances, and
others
.
2.2 Dynamic Capability
The rise of a dynamic capability view is a reaction
response to the not yet covered resource-based view
and action-based view as a result of the development
of new economic notions and innovations (Mintzberg
et al., 2003). On the whole, dynamic capabilities can
be built from strategic and operational processes
(Güttel & Konlechner, 2009). Strategic processes are
mostly related to the ability to feel and take advantage
of new opportunities in a vibrant environment (Teece,
2007). Hence, this process determines the
establishment of corporate strategies (Güttel &
Konlechner, 2009). While in the operational process,
more dynamic capabilities relate to reshaping internal
or external competencies and establishing operational
practices within the company (Güttel & Konlechner,
2009). The study of Hou (2008), Pavlou & Elsawy
(2011), Zheng et al. (2011), Wang & Shi (2011),
Gathungu & Mwangi (2012), Nedzinskas et al.
(2013), and Tiantian et al. (2014) respectively show
some similarities and differences in dimensions used
in measuring the dynamic capabilities of an
organization/company. Lin & Huang (2012) suggest
that dynamic capabilities facilitate a company in
improving its performance, innovation in products,
and the use of sophisticated technology and preparing
the company to survive in an ever-changing business
environment. Furthermore, Najib et al. (2017) state
that dynamic capabilities can be built through
sensitivity capability, absorptive capacity, integrative
capability, and innovative capability.
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2.3 Business Performance
Performance is a construct commonly used to
measure the impact of strategic orientation. Voola &
O'Cass (2010) states that business performance is a
major consequence of the responsive market
orientation (RMO) and proactive market orientation
(PMO). Furthermore, Wheelen & Hunger (2012)
argue that performance is the final result of the
activities. Thus to measure the dimensions of
business performance can be based on the concept of
developing dimensions, as suggested by Najmabadi,
Rezazadeh & Shoghi (2013) through using
performance measurement dimensions consisting of
sales growth, return on investment, operating profit
margin, return on equity and customer retention.
Hussin, Thaheer, Badrillah, Harun, & Nasir (2014)
use the dimensions of measuring business
performance covering average net profit growth,
work value received, the number of contracts
received, and the number of contracts renewed.
Hyung & Dedahanov (2014) include four aspects of
measuring performance, i.e., market share, average
growth, success, and profitability. Najib et al. (2017)
the dimensions used to measure business
performance in measuring business success,
including sales growth, market share growth, and
profitability.
2.4 Innovation, Dynamic Capabilities,
and Business Performance
A study has found that innovativeness has a positive
relationship with business performance, which
includes; profitability, market share, and sales growth
(Deshpande et al.,1993). Furthermore, Craig and
Dibrell (1994) have proven that innovation is a
crucial requirement for business performance, as well
as for competitiveness and economic wealth.
Similarly, Baldwin and Johnson (1996) show found
that innovation has a significant influence on various
measures of business performance, which include
such as ROI (return on investment) and the company's
market share. Furthermore, Salavou (2002), based on
asset returns, shows that product innovation is a
significant determinant for business performance.
Innovation helps companies economically, creates
competitive advantages, and can positively influence
on business performance (Fallah and Lechler, 2008;
Talke et al., 2011).
Likewise, there is also a relationship between
dynamic capabilities and business performance
(Teece et al. 1997; Eisenhardt and Martin. 2000;
Makadok 2001; Najib et al., 2017). Furthermore,
Mauludin et al. (2013) argue that dynamic
capabilities are needed in formulating strategies in
rapidly fluctuating and complicated environments,
high innovation demands, and efforts to improve
organizational capabilities in order to overcome
market dynamics. Dynamic capabilities are
organizational routines that must be obtained through
learning in a very high style, repetitive or repetitive
mastery (Tiantian et al., 2014). Then how far can
dynamic capabilities mediate innovation on business
performance? Based on the background and
theoretical study above, and considering the purpose
of this research, a conceptual model is proposed that
needs to be tested empirically. In this research, the
aim is to examine the relationship between innovation
and dynamic capabilities and the relationship
between innovation and business performance in
traditional market traders. Therefore, some
hypothesis can be derived from the research model,
as shown in Figure 1:
Figure 1: Research Model.
Hypothesis1: The dynamic capabilities of traditional
market traders are positively related by
innovation.
Hypothesis2: The business performance of a
traditional market trader is positively
related by innovation.
Hypothesis3: The business performance of a
traditional market trader is positively
related by with dynamic capabilities.
3 METHODOLOGY
3.1 Survey Design, Instrument and
Sample Characteristic
The purpose of this study is to explore innovative
characteristics in traditional market traders and
innovation relationships with dynamic capabilities
and business performance. Data was collected from
traditional market traders in West Java, Indonesia. A
five-point Likert scale is designed for questionnaire
after a literature review; therefore, the survey
instrument for constructing the first variable is an
innovation which is adopted from the research of Al-
Ansari et al. (2013). The second variable constructs is
Innovation and Dynamic Capabilities among Traditional Market Traders: How it Affect Business Performance
151

a dynamic capability that is developed and adapted
from Hou (2008) and Najib et al. (2017). The third
variable construct is business-performance, which is
adopted and developed from Hyung & Dedahanov
(2014) and Najib et al. (2017).
The sample size of this study was 840 respondents
of traditional market traders taken from 66 traditional
markets around West Java, Indonesia. Table 1 shows
the respondents’ profile.
Table 1: Respondent Profile
Description Freq % Description Freq %
Gender
Outlet
Ownership
Status
Male 477 56,8 own property 450 53,6
Female 363 43,2 Rent 390 46,4
840 100 840 100
Business
Experience
Business
license
More than 15 years 286 34,0 License 657 78,2
10 years - 15 years 191 22,7 No License 183 21,8
5 years - 10 years 185 22,0
840 100
Less than 5 years 178 21,2
840 100,0
3.2 First Order - Confirmatory Factor
Analysis (CFA)
The first order-CFA was carried out to adjust and
validate the structural model. The measurement
model was developed to see the relationship between
the variable constructs examined by using AMOS-22
(Byrne, 2013). After using the modification index to
determine the covariance between the variables
studied, the suitability of the model to build the
variables used in the study includes; innovation,
dynamic capability, and business performance. The
results show that the variables can be accepted
because they have the goodness of fit index, as shown
in table 2
.
Table 2: Goodness of Fit Index
An
Acceptable
Level
Variable Constructs
Innovation
Dynamic
Capabilities
Business
Performance
CMIN/DF
≤ 3 2.672 2.783 2,630
RMSEA
≤ 0,08 0,054 0,076 0,064
GFI
≥ 0,90
0,91 0,905 0,921
AGFI
≥ 0,90 0,92 0,901 0,906
TLI
≥ 0,90 0,912 0,946 0,948
NFI
≥ 0,90 0,90 0,934 0,524
CFI
≥ 0,90 0,923 0,943 0,959
IFI
≥ 0,90 0,923 0,943 0,959
RFI
≥ 0,90 0,916 0,924 0,959
3.3 Validity and Reliability
Table 3 shows all loading factors for the constellation
of innovation variables. Table 4 for constructing
variable dynamic capabilities and Table 5 for
constructing business performance variables, all of
them were recommended a minimum threshold of
0.30 for our sample size of 840 (Hair et al., 2006).
Convergent validity and Average Variance Extracted
(AVE) are above 0.50 on all constructs, implying that
each construct explains more than 50 percent of the
variance in each variable indicator. The discriminant
validity was confirmed by the Fornell-Larcker
criterion by comparing the square root of the AVE of
each construct. The correlation between constructs
indicated that, on average, each construct was more
strongly related to its measures what the other
constructs measures (see table 3, table 4 and table 5
of AVE, Construct reliability and Discriminant
validity) (Hair et al., 2006). Pertaining to the model
reliability, the Cronbach's alpha and composite values
for each construct are above 0.7 of the thresholds
(Byrne, 2013).
Table 3: Validity and Reliability Construct Variable:
Innovation
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Table 4: Validity and Reliability Construct Variable:
Dynamic Capabilities
Table 5: Validity and Reliability Construct Variable:
Business Performance
4 RESULT AND DISCUSSION
Structural Equations Modelling (SEM) describes the
relationship between exogenous variables
(innovation) and endogenous variables (dynamic
capabilities and business performance). The results
presented in Figure 2 are the results after moving
through the procedure of evaluating the model with
first order-CFA.
The model of the structural equation as shown in
Figure 2 indicated as a perfect model, as CMIN / DF
resulted in 2,835, and also other fit indexes (GFI,
AGFI, TLI, NFI, CFI, IFI, and RFI) gave value over
90% that indicated excellent model, as well as the
RMSEA value of 0.073, is below 0.08 (Hair, 2006).
Consistent with the research objective, which is to
determine the effect of innovation and dynamic
capabilities on the business performance of
traditional market traders, as shown in Figure 2 and
Table 6, there is a significant positive effect of
innovation and dynamic capabilities on the business
performance of traditional market traders.
Figure 2: The SEM Diagram of the Effect of Innovation and
Dynamic Capabilities on Business Performance
Table 6: Hypothesis Testing Result
Hypothesis testing results in the effect of
innovation and dynamic capabilities on business
performance as Table 5 shows that: H
1
(innovation is
positively related to the dynamic capabilities of
Innovation and Dynamic Capabilities among Traditional Market Traders: How it Affect Business Performance
153

traditional market traders) indicates that the critical
value (CR) is 9,114 on the influence of innovation
with the dynamic capabilities, with P-Value
(probability) is significant with ***, it means that it is
significant by default. Therefore the regression
weight on dynamic capabilities foreseen by
innovation is significantly different from zero at the
0.05 level (two-tailed). Thus, it implies that Ha is
rejected, but Ho is accepted. These results conclude
that innovation affects dynamic capabilities. The
result shows that the capabilities of traditional market
traders which include sensing capability, absorptive
capability, and integrated capability must be
supported by innovation capability among traders,
which includes the ability to develop business ideas,
the ability to create various types of innovation, and
the ability to plan innovation strategies. Hou (2008)
confirms the result of this study that dynamic
capabilities are needed to support in dealing with
environmental changes, in the form of innovation
capabilities, as confirmed by Kim et al., (2018) that
innovation is needed in building dynamic capabilities.
However, in reality, the traditional markets, despite
facing a threat from modern markets, are still the
choice of their customers.
H
2
(an innovation of traditional market traders is
positively related to their business performance)
indicated that the critical value (CR) is 7,862 on the
influence of innovation with business performance,
and P-Value (probability) is significant with ***,
which means that by default is significant. In other
words, the regression weight for business
performance predicted innovation is significantly
different from zero at the 0.05 (two-tailed) level.
Thus, it was decided to reject Ha and accept Ho.
Based on these results, it can be concluded that
innovation affects business performance. By
innovating can drive business performance, in the
form of sales growth, market share growth, and
profitability. Therefore, traditional markets need to
innovate in the face of current business competition
and corporate environments that require continuous
innovation, and they should be able to provide such
as; new products and product diversification and give
the best services (Lazonick and O'Sullivan, 2000;
Brem and Voigt, 2009). Another important thing is
related to the ability to innovate traditional market
traders, because innovation has been believed to be
able to improve business performance (North and
Smallbone, 2000; Forsman and Temel, 2011; Kim et
al., 2017). Innovation that can be done in traditional
markets can be done mainly related to changing
traditional markets, which are perceived as dirty,
smelly, muddy, narrow hallways, lots of garbage, and
irregular arrangement of merchandise.
H
3
(dynamic capability is positively related to the
business performance of traditional market traders)
indicated that the critical value (CR) is 7,862 on the
influence of dynamic capabilities with business
performance, and P-Value (probability) is significant
with ***, which means that by default is significant.
In other words, the regression weight for business
performance predicted by innovation is significantly
different from zero at the 0.05 level (two-tailed).
Thus, it was decided to reject Ha and accept Ho.
Based on these results, it can be concluded that
innovation affects business performance. This result
shows the importance of increasing the dynamic
capability of traditional market traders in sensing
capability, absorptive capability, and integration
capability because increasing the dynamic capability
of traditional market traders can improve their
business performance. Dadashinasab and Sofian
(2014) stated that dynamic capabilities could
maintain performance, further Giniuniene and
Jurksiene (2015) claim it can improve business
performance.
This study explores the innovative capabilities
and dynamic capabilities of traditional market traders
in Indonesia and examines the relationship between
innovation and dynamic capabilities on business
performance in traditional market traders. This study
provides support for previous studies conducted in
traditional markets in Indonesia and provides useful
insights on the importance of innovation of traditional
market traders in developing countries by
investigating the extent to which innovation and
dynamic capabilities of traditional market traders
influence their business performance. The results
show that innovation and dynamic capabilities have a
positive relationship with the business performance
of traditional market traders in Indonesia. The results
of this study strengthen and provide empirical support
for the view that innovation and dynamic capabilities
have a positive impact on business performance and
counter the assumption that innovation and dynamic
capabilities will consume of the resources and
jeopardize of the competitive advantage of traditional
market traders, especially in traditional markets in
developing countries
.
5 CONCLUSIONS
The contribution of this research is expected to be
able to add to the literature for innovation and
dynamic capabilities making available the data from
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154

traditional markets and challenging whether previous
research findings are relevant in developing
traditional markets. This research reveals some
implications. It also has several implications. First,
there is an indication that traditional market traders
have different views on innovation and dynamic
capabilities and show that innovation and dynamic
capabilities are statistically significant in relation to
business performance in the context of developing
traditional market traders in Indonesia. Second, these
findings provide more insight into the innovative
characteristics and dynamic capabilities of traditional
market traders in Indonesia and show that the
attention must be paid to innovation and dynamic
capabilities, ensuring traditional market traders can
achieve much better business performance. Third,
this finding might support the policymakers of the
traditional market in Indonesia to take the new steps
towards national policies that enhance the
revitalization of traditional markets not only for the
facilities but for business actors themselves who are
traditional market traders. Finally, the findings of this
study may further encourage traditional market
traders to take specific actions to build, lead, and
improve their innovative business and dynamic
capabilities to achieve better business performance.
ACKNOWLEDGMENTS
This research was supported from Strengthening the
Directorate General of Research and Technology and
Development, The Ministry of Research and Higher
Education, Republic of Indonesia, according to the
letter agreement implementation competitive
research grant program of work, the number
237.11/PL1.R7/LT/2018
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