Dynamic Capabilities as Drivers of Circular Business Models: Exploring Direct and Indirect Relationships

ABSTRACT Academic Summary Despite the urgent need for a circular economy, firms' transition from linear to circular business models (CBMs) remains slow. While previous research suggests that dynamic capabilities are the key drivers of this transition, it assumes a direct link, overlooking that these capabilities can facilitate change but do not determine its orientation; firms may deploy them elsewhere. Hence, how and under which conditions dynamic capabilities drive CBMs remains contentious. To tackle this problem, we draw on stakeholders' theory to hypothesize that dynamic capabilities influence CBMs both directly and indirectly. We propose that dynamic capabilities are primarily deployed to develop a green image, which in turn provides a basis for CBM. We apply partial least squares structural equation modeling (PLS‐SEM) to analyze survey data from the wood and wood‐processing industry. This analysis confirms our theoretical model, showing a direct influence of dynamic capabilities on CBM that becomes fully indirect through a green image under high stakeholder pressure. Our study contributes to the literature by revealing the interplay between stakeholder pressure and dynamic capabilities for CBM, challenging the general negative view of green image and symbolic actions. Thus, we offer valuable insights for research at the nexus of sustainability and business model innovation. Managerial Summary Transitioning from a linear to a circular business model is capital‐intensive and risky, often resembling a strategic marathon rather than a sprint. This study of the wood and wood‐processing industry offers managers a roadmap for navigating this shift. We find that internal capabilities are often insufficient to drive circularity on their own. Instead, our results highlight two critical insights for execution. First, managers should not view “green image” activities—such as certifications or reporting—as mere marketing. Instead, these activities act as a vital stepping stone, building the internal expertise and external trust necessary to launch genuine circular business models later. Second, stakeholder pressure, particularly from investors and owners, is a crucial catalyst. Managers should leverage it as a strategic asset to justify and overcome the significant investments required to sustain efforts towards a transition to circular business models. By treating reputation building as a precursor to operational change, firms can effectively use stakeholder demands to secure the resources needed to close the loop.