Chapter 5: The Five Generic Competitive Strategies: Which One to Employ?

1. Chapter 5: The Five Generic Competitive Strategies: Which One to Employ? Screen graphics created by: Jana F. Kuzmicki, Ph.D. Troy University

2. “Competitive strategy is about being different. It means deliberately choosing to perform activities differently or to perform different activities than rivals to deliver a unique mix of value.” Michael Porter

3. “Winners in business playrough and don’t apologize forit. The nicest part of playing hardball is watching your competitors squirm.” George Stalk Jr. and Rob Lachenauer

4. Chapter Learning Objectives • Gain command of how each of the five generic competitive strategies lead to competitive advantage and deliver superior value to customers. • Learn why some of the five generic strategies work better in certain kinds of industry and competitive conditions than in others. • Learn the major avenues for achieving a competitive advantage based on lower costs. • Learn the major avenues for developing a competitive advantage based on differentiating a company’s product or service offering from the offerings of rivals in ways that better satisfy buyer needs and preferences.

5. Chapter Roadmap • The Five Competitive Strategies • Low-Cost Provider Strategies • Broad Differentiation Strategies • Best-Cost Provider Strategies • Focused (or Market Niche) Strategies • The Contrasting Features of the Five Generic Competitive Strategies: A Summary

6. Strategy and Competitive Advantage • Competitive advantage exists when a firm’s strategy gives it an edge in • Attracting customers and • Defending against competitive forces • Convince customers firm’s product / service offers superior value • A good product at a low price • A superior product worth paying more for • A best-value product Key to Gaining a Competitive Advantage

7. What Is Competitive Strategy? • Deals exclusively with acompany’s business plansto compete successfully • Specific effortsto please customers • Offensive and defensive movesto counter maneuvers of rivals • Responses to prevailing market conditions • Initiatives to strengthen its market position • Narrower in scope than business strategy

8. Figure 5.1: The Five Generic Competitive Strategies

9. Low-Cost Provider Strategies Keys to Success • Make achievement of meaningfullower costs than rivals the themeof firm’s strategy • Include features and services in productoffering that buyers consider essential • Find approaches to achieve a cost advantage in ways difficultfor rivals to copy or match Low-cost leadership means low overall costs, not just low manufacturing or production costs!

10. Translating a Low-Cost Advantage into Higher Profits: Two Options Option 1: Use lower-cost edge to under-price competitors and attract price-sensitive buyers in enough numbers to increase total profits Option 2: Maintain present price, be content with present market share, and use lower-cost edge to earn a higher profit margin on each unit sold,thereby increasing total profits

11. Do a better job than rivals ofperforming value chain activitiesefficiently and cost effectively Revamp value chain to bypasscost-producing activities that add little value from the buyer’s perspective Control costs! By-pass costs! Approaches to Securing a Cost Advantage Approach 1 Approach 2

12. Approach 1: Controlling the Cost Drivers • Capture scale economies; avoid scale diseconomies • Capture learning and experience curve effects • Control percentage of capacity utilization • Pursue efforts to boost sales and spread costs such as R&D and advertising over more units • Improve supply chain efficiency • Substitute use of low-cost forhigh-cost raw materials • Use online systems and sophisticatedsoftware to achieve operating efficiencies • Adopt labor-saving operating methods • Use bargaining power to gain concessions from suppliers • Compare vertical integration vs. outsourcing

13. Approach 2: Revamping the Value Chain • Use direct-to-end-usersales/marketing methods • Make greater use of onlinetechnology applications • Streamline operations by eliminating low-value-added or unnecessary work steps • Relocate facilities closer to suppliers or customers • Offer basic, no-frills product/service • Offer a limited product/service

14. Wal-Mart’s Approach toManaging Its Value Chain Institute extensive information sharing with vendors via online systems Pursue global procurement of some items and centralize most purchasing activities Invest in state-of-the-art automation at its distribution centers Strive to optimize the product mix and achieve greater sales turnover Install security systems and store operating procedures that lower shrinkage rates Negotiate preferred real estate rental and leasing rates with real estate developers and owners of its store sites Manage and compensate its workforce in a manner to yield lower labor costs

15. Nucor Corporation’sLow-Cost Provider Strategy • Key elements of Nucor’s strategy • Use of electric arc furnace technology allows for lower investment costs for facilities and equipment and eliminates many expensive steps in making steel products from scratch • Use incentive compensation to achieve high productivity and low labor costs per ton produced • Locate plants close to customers to keep shipping costs down • Cost advantages and bottom-line results • Lower capital investment and operating costs • Ability to charge lower prices than traditional steel companies using make-it-from scratch technology • Earned attractive profits for shareholders since 1966

16. Key Characteristics of Southwest Airlines’ Low-Cost Provider Strategy • Mastery of fast turnarounds at gates (25 minutes vs. 45 minutes for rivals) allows • Planes to fly more hours per day • More flights to be scheduled per day with fewer aircraft • More revenue generated per plane on average than rivals • Elimination of several servicesresults in cost savings • In-flight meals • Assigned seating • Baggage transfer to connecting airlines • First-class seating and service • Fast, user-friendly online reservation system • Facilitates e-ticketing • Reduces staffing requirements at telephonereservation centers and airport counters

17. Keys to Success in AchievingLow-Cost Leadership • Scrutinize each cost-creating activity,identifying cost drivers • Use knowledge about cost drivers to managecosts of each activity down year after year • Find ways to restructure value chain to eliminatenonessential work steps and low-value activities • Work diligently to create cost-conscious corporate cultures • Feature broad employee participation in continuous cost-improvement efforts and limited perks for executives • Strive to operate with exceptionally small corporate staffs • Aggressively pursue investments in resources and capabilities that promise to drive costs out of the business

18. Characteristics of a Low-Cost Provider • Cost conscious corporate culture • Employee participation in cost-control efforts • Ongoing efforts to benchmark costs • Intensive scrutiny of budget requests • Strong commitment to continuous cost improvement Successful low-cost producers champion frugality but wisely and aggressively invest in cost-saving improvements !

19. When Does a Low-CostStrategy Work Best? • Price competition is vigorous • Product is standardized or readily availablefrom many suppliers • There are few ways to achievedifferentiation that have value to buyers • Most buyers use product in same ways • Buyers incur low switching costs • Buyers are large and havesignificant bargaining power • Industry newcomers useintroductory low prices to attractbuyers and build customer base

20. Pitfalls of Low-Cost Strategies • Being overly aggressive in cutting price • Low cost methods are easilyimitated by rivals • Becoming too fixated onreducing costs and ignoring • Buyer interest in additional features • Declining buyer sensitivity to price • Changes in how the product is used • Technological breakthroughs open up cost reductions for rivals

21. Test Your Knowledge Striving to be the industry’s low-cost provider and achieving lower costs than rivals entails A. doing a better job than rivals of performing value chain activities more cost-effectively. B. having a smaller labor force than rivals, paying lower wages than rivals, locating all facilities in countries where labor costs are low, and outsourcing many value chain activities to suppliers with world-class technological capabilities. C. revamping the firm’s overall value chain to eliminate or bypass cost-producing activities that produce little value added insofar as customers are concerned. D. adopting activity-based costing, utilizing more best practices than rivals, and having a narrower product line than rivals. E. Both A and C.

22. Differentiation Strategies Objective • Incorporate differentiating features that cause buyers to prefer firm’s product or service over brands of rivals • Find ways to differentiate that createvalue for buyers and are not easilymatched or cheaply copied by rivals • Keeping the cost of achieving differentiation below the higher price that can be charged Keys to Success

23. Benefits of Successful Differentiation Whichhat is unique? A product / service with unique, appealing attributes allows a firm to • Command a premium priceand/or • Increase unit sales and/or • Build brand loyalty = Competitive Advantage

24. Types of Differentiation Themes • Unique taste – Dr. Pepper • Multiple features – Microsoft Vista and Office, iPhone • Wide selection and one-stop shopping – Home Depot, Amazon.com • Superior service – FedEx • Spare parts availability – Caterpillar • Engineering design and performance – Mercedes, BMW • Prestige and distinctiveness – Rolex • Product reliability – Johnson & Johnson • Quality manufacture – Karastan, Michelin, Toyota • Technological leadership – 3M Corporation • Top-of-line image – Ralph Lauren and Starbucks

25. Sustaining Differentiation:Keys to Competitive Advantage • Most appealing approaches to differentiation are those • Hardest for rivals to match or imitate • Buyers will find most appealing • Best choices to gain a longer-lasting, more profitable competitive edge • New product innovation • Technical superiority • Product quality and reliability • Comprehensive customer service • Unique competitive capabilities

26. Activities, Costs, & Margins of Suppliers Internally Performed Activities, Costs, & Margins Activities, Costs, & Margins of Forward Channel Allies Buyer/User Value Chains Where to Find DifferentiationOpportunities in the Value Chain • Purchasing and procurement activities • Product R&D and product design activities • Production process / technology-related activities • Manufacturing / production activities • Distribution-related activities • Marketing, sales, and customer service activities

27. How to Achieve aDifferentiation-Based Advantage Approach 1 Incorporate product features/attributes thatlower buyer’s overall costs of using product Approach 2 Incorporate features that raiseperformance a buyer gets out of the product Approach 3 Incorporate features that enhance buyer satisfaction in non-economic or intangible ways Approach 4 Outcompete rivals via superior capabilities

28. Test Your Knowledge Which of the following is not one of the four basic routes to achieving a differentiation-based competitive advantage? A. Appealing to high-income buyers who are willing and able to pay a premium price for a high-performing, multi-featured product B. Incorporating features that raise product performance C. Incorporating product attributes and user features that lower the buyer’s overall costs of using the company’s product D. Delivering value to customers via competencies and competitive capabilities that rivals don’t have or can’t afford to match E. Incorporating features that enhance buyer satisfaction in intangible or non-economic ways

29. Importance of Perceived Value • Buyers seldom pay forvalue that is not perceived • Price premium of adifferentiation strategy reflects • Value actually delivered to the buyer and • Value perceived by the buyer • Actual and perceived value can differ when buyers are unable to assess their experience with a product

30. Signaling Value asWell as Delivering Value • Incomplete knowledge of buyers causes them tojudge value based on such signals as • Price • Attractive packaging • Extensive ad campaigns • Ad content and image • Seller facilities or professionalism and personality of employees • Having a list of prestigious customers • Signals of valuemay be as important as actual valuewhen • Nature of differentiation is hard to quantify • Buyers are making first-time purchases • Repurchase is infrequent • Buyers are unsophisticated

31. When Does a DifferentiationStrategy Work Best? • There are many ways to differentiate a product that have value and please customers • Buyer needs and uses are diverse • Few rivals are following a similardifferentiation approach • Technological change andproduct innovation are fast-paced

32. Pitfalls of Differentiation Strategies • Appealing product features are easily copied by rivals • Buyers see little value in unique attributes of product • Overspending on efforts to differentiate the product offering, thus eroding profitability • Over-differentiating such that product features exceed buyers’ needs • Charging a price premiumbuyers perceive is too high • Not striving to open up meaningfulgaps in quality, service, or performancefeatures vis-à-vis rivals’ products

33. For Discussion: Your Opinion A low-cost provider strategy can defeat a differentiation strategy when buyers are satisfied with a basic product and don’t think “extra” attributes are worth a higher price. True or false? Explain.

34. Best-Cost Provider Strategies • Combine a strategic emphasis on low-cost with a strategic emphasis on differentiation • Make an upscale product at a lower cost • Give customers more value for the money • Deliver superior value by meeting or exceeding buyer expectations on product attributes and beating their price expectations • Be the low-cost provider of a product with good-to-excellent product attributes, then use cost advantage to underprice comparable brands Objectives

35. Competitive Strength of a Best-Cost Provider Strategy • Competitive advantage is based on the capability to include upscale attributes at a lower cost than rivals’ comparable products • To achieve competitive advantage,a company must be able to • Incorporate attractive featuresat a lower cost than rivals • Manufacture a good-to-excellent qualityproduct at a lower cost than rivals • Develop a product that delivers good-to-excellent performance at a lower cost than rivals • Provide attractive customer service at a lower cost than rivals

36. When Is a Best-CostProvider Strategy Appealing? • When buyer diversity makes product differentiation the norm • When many buyers are also sensitive to price and value

37. Key Characteristics of Toyota’sBest-Cost Provider Strategy for the Lexus Design an array of high-performance characteristics and upscale features into Lexus models to make them comparable in performance/luxury to other high-end models, i.e. Mercedes, BMW Transfer its capabilities in making high-quality Toyota models at low cost to making premium-quality Lexus models at costs below other luxury-car makers Use its relatively lower manufacturing costs tounderprice comparable Mercedes and BMW models Establish a new network of Lexus dealers, separate from Toyota dealers, dedicated to providing a level of personalized customer service unmatched in the industry

38. Risk of a Best-Cost Provider Strategy • A best-cost provider may get squeezed between strategies of firms using low-costand differentiation strategies • Low-cost leaders may be able to siphoncustomers away with a lower price • High-end differentiators maybe able to steal customers awaywith better product attributes

39. Test Your Knowledge Which of the following are distinguishing features of a best-cost provider strategy (based on the comparisons of the five generic competitive strategies shown in Figure 5.1)? A. The strategic target is price-conscious buyers B. A marketing emphasis on charging a slightly higher price than rival brands having comparable features and attributes C. A product line that stresses wide selection, many product variations, and emphasis on differentiating features D. A competitive advantage based on more value for the money E. Using constant product innovation, excellent R&D skills, and periodic technological breakthroughs to sustain the strategy

40. Focus / Niche Strategies • Involve concentrated attention on a narrow piece of the total market Serve niche buyers better than rivals • Choose a market niche where buyershave distinctive preferences, specialrequirements, or unique needs • Develop unique capabilities toserve needs of target buyer segment Objective Keys to Success

41. Approaches to Defining a Market Niche • Geographic uniqueness • Specialized requirements inusing product/service • Special product attributesappealing only to niche buyers

42. Examples of Focus Strategies • Community Coffee • Specialty coffee retailer • Animal Planet and History Channel • Special interest Cable TV programs • Porsche • Sports cars • Bandag • Specialist in truck tire recapping • CGA Inc. • Specialty insurance provider • Match.com • Online dating service

43. Which hat is unique? Focus / Niche Strategiesand Competitive Advantage • Achieve lower costs than rivals inserving a well-defined buyer segment Focused low-cost strategy Approach 1 • Offer a product appealing to uniquepreferences of a well-defined buyer segment Focused differentiation strategy Approach 2

44. What Makes a NicheAttractive for Focusing? • Big enough to be profitable and offers good growth potential • Not crucial to success of industry leaders • Costly or difficult for multi-segmentcompetitors to meet specializedneeds of niche members • Focuser has resources and capabilitiesto effectively serve an attractive niche • Few other rivals are specializing in same niche • Focuser can defend against challengers via superior ability to serve niche members

45. Risks of a Focus Strategy • Competitors with broad product lines having wide appeal find effective ways to matcha focuser’s capabilities in serving niche • Niche buyers’ preferences shifttowards product attributes desiredby majority of buyers – nichebecomes part of overall market • Segment becomes so attractive it becomes crowded with rivals, causing segment profits to be splintered

46. For Discussion: Your Opinion Which of the five generic competitive strategies do you think the following companies are employing: • The Saturn division of General Motors • Abercrombie & Fitch • Amazon.com • Avon Products

47. Deciding Which GenericCompetitive Strategy to Use • Each positions a company differently in its market and competitive environment • Each establishes a central theme for how a company will endeavor to outcompete rivals • Each creates some boundaries for maneuvering as market circumstances unfold • Each points to different ways of experimenting with the basics of the strategy • Each entails differences in product line, production emphasis, marketing emphasis, and means to sustain the strategy The big risk – Mixing and matching pieces of the generic strategies to create a mixed bag or “stuck in the middle”strategy! This rarely produces a sustainable competitive advantage or a distinctive competitive position !

48. Table 5.1: Distinguishing Features of the Five Generic Competitive Strategies 5-48