Business-Level Strategy

Creating and Sustaining Competitive

Advantages

Lecture - MBA
Learning objectives:
• LO5-1 Describe the central role of compe77ve advantage in the study
of strategic management and the three generic strategies: overall cost
leadership, differen7a7on, and focus.

• LO5-2 Explain how the successful aEainment of generic strategies can

improve a firm’s rela7ve power vis-à-vis the five forces that determine
an industry’s average profitability.

• LO5-3 Iden7fy the piKalls managers must avoid in striving to aEain

generic strategies.
Learning objectives:
• LO5-4 Explain how firms can effectively combine the generic
strategies of overall cost leadership and differentiation.

• LO5-5 Identify which factors determine the sustainability of a firm’s

competitive advantage.

• LO5-6 Understand the importance of considering the industry life

cycle to determine a firm’s business-level strategy and its relative
emphasis on functional area strategies and value-creating activities.
Competitive advantage
• Is the ability of an organisation to add more value for its customers
than its rivals and therefore attain a position of relative advantage
• Is what gives a firm an edge over its rivals
• Arises from the selection of the generic strategy that best fits the
organisation’s competitive environment
• The key drivers of competitive advantage are cost leadership and
differentiation of product
Competitive strategy
• Compe77ve strategy is the means by which organisa7ons seek to
achieve and sustain compe77ve advantage
• Porter argues that compe77ve strategy means “taking offensive or
defensive ac7ons to create a defendable posi7on in an industry, to
cope with …compe77ve forces and thereby yield a superior return for
the firm”
• Firms have discovered different approaches compe77ve strategy -the
best strategy for a firm should reflect its par7cular circumstances
The basis of the generic strategies

• Porter argues that a firm’s strengths ul7mate fall into one of two
headings: cost advantage and differen6a6on
• By applying these strengths in a broad or a narrow focus, three
generic strategies result: cost leadership, differen7a7on and focus
• They are called generic strategies because they are not specific to a
firm or an industry
Porter’s Generic strategies
Porter’s Generic strategies
• Porter identified the four strategies to achieve a competitive
advantage
• Cost leadership: superior profits through lower costs
• Differentiation: higher profits by adding value to the product areas
which are of real significance for customers who in turn are willing to
pay premium prices
• Focus strategy: concentrating on a limited part of the market Focus
strategy is then subdivided into focus cost leadership and focus
differentiation
Generic strategies at a glance

Low cost Differentiation Focus

Low cost culture Adding value Niche markets
Economies of scale through Targeting
Eliminate -product features Limited territory
unnecessary costs -product quality Focus on a specific
Enjoy high profits -distinctive offering group of customers
through cost Offer something Either cost leader
advantage new or different or differentiation
High costs but with in the segment
charge premium
price
Cost leadership
• This strategy concentrates on aiming to become the lowest cost
producer in the industry through economies of scale
• In this way the firm can compete on price with every other producers
in the industry and earn higher unit profits
• Cost reduc7on provides the focus of the organisa7on’s strategy
• Compe77ve advantage is achieved by driving down costs
Cost leadership
• Cost leadership is based on
• Efficiency to drive down costs
• Effec1veness- knowing what is and what is not important to customers and
saving on the la;er
• But there is room for only one cost leader
• A successful cost leadership strategy requires that the firm is the cost
leader and is unchallenged in this posi7on
• Cost leadership is especially beneficial in markets where customers
are price sensi7ve
Sources of cost leadership
• Size - economies of scale
• Greater labour efficiency and effectiveness
• Control of overheads
• Superior management
• Greater operating efficiency and effectiveness
• Low cost production
• Low cost labour
• Design for low cost production
• Use the latest technology to reduce costs and or enhance productivity
• Relocation to low cost site
• Favourable access to low cost sources of supply
• Reduction in waste
Firms that succeed in cost leadership

• Firms that succeed in cost leadership have the following strengths:

• Access to the capital required to make significant investment in fixed assets
• Design skills for efficient manufacture
• A high level of expertise in manufacturing process engineering
• Efficient distribution channels
• Examples of cost leadership : Ryanair, Toyota, Wal-Mart (parent
company of Asda), Tesco
A misconception
• Cost leadership is o`en seen as a strategy that aims to aEract
customers with low prices that are made possible by low costs
• But cost leadership does not necessarily mean selling at the lowest
price
• It might mean selling at the industry average price but enjoying above
average profits through low cost produc7on
• The low costs result in high profit margins
Benefits of cost leadership
• Enjoy higher than average profits
• Engage in price war
• Eliminate rivals
• Defend market share
• Increase market share
• Build barriers to the entry of newcomers to the market
• Weaken the threat of subs7tutes
• Enter new markets
Five forces analysis
• Porter developed the five forces model as a framework for the analysis of
profitability of the industry
• The five forces are:
• Suppliers power: powerful suppliers can push up the cost of inputs
• Buyers’ power: powerful buyers can negotiate low prices
• The threat of substitutes: where there is a strong threat firms need to remain very
competitive
• The ease or otherwise of entry to the market: low barriers raise the prospect new firms
pushing down prices
• The intensity of rivalry in the market: intense competition forces firms to keep prices down
• The five forces model can be used to analyse each of the generic strategies
Five forces and cost leadership
The five forces The cost leader is

Entry barriers Able to cut prices to discourage potential

entrants to the market
Buyer power Able to offer a competitive price to buyers
with power
Supplier power Protected from a powerful buyer by low
costs
Threat of Able to make use of low price as defence
substitution against substitutes
Rivalry Is better able to compete on price
Value-Chain Activities:
Examples of Overall
Cost Leadership
Risks of cost leadership
• Vulnerability to even lower cost operators
• As technology improves, a compe7tor may be able to leapfrog the
produc7on capabili7es, thus elimina7ng the compe77ve advantage
• It could lead to a damaging price wars
• There might by difficulty in sustaining cost leadership in the long run
• A firm following a focus strategy might be able to achieve even lower
cost within their segment
Differentiation
• A differen7a7on strategy calls for the development of a product or
service that offers aEributes that are both unique and are valued by
customers
• Customers perceive the product to be different and beEer than that
of rivals
• As a result the value added by the uniqueness of the product may
allow the firm to charge a premium price for it
Differentiation
• Success in a differentiation strategy means
• Gaining a competitive advantage by making their product different from
competitors
• Competing on the basis of value added to customers
• Persuading customers that the firm’s product is superior to that offered by
rivals
• Customers being willing to pay a premium price to cover higher costs
• Differentiation can be based on product image or durability,after-
sales,quality,additional features,after sales
• And it requires talent, research capability and strong marketing
Extra costs and premium prices
• Differentiation adds costs in order to add value
• The extra costs can only be recouped if the market is willing to pay a
premium price
• Problems occur if the extra costs incurred outweigh the additional
revenue generated by higher prices
• For a successful differentiation strategy it is insufficient merely to add
value - customers must recognise and appreciate the difference
• Extra costs should be added only in areas that customers perceive to
be important
Sources of differentiation
• Crea%on of strong brand
• Superior performance
• High quality
• Addi%onal features offered
• Innova%on in packaging
• Speed of distribu%on
• Higher service levels
• Greater flexibility
• Delivery
• Quality of the materials
Firms that succeed in a differentiation strategy

• Firms that succeed in a differen7a7on strategy have:

• Have access to leading scien1fic research
• A strong crea1ve product development team
• Strong sales team with the ability to successfully communicate the strengths
of the product
• Reputa1on for quality and innova1on
• Examples:
• BMW
• Miele - high quality domes1c appliances
• Mercedes
Differentiation: benefits
• Differentiation offers the prospect of charging a premium price
• Demand for a differentiated product will be less elastic than that for
competitors products
• Differentiation can result in above average profits
• Differentiation can create additional barriers to entry to the market
for newcomers
The five forces and differentiation

Five forces A firm pursuing a differentiation strategy…

Entry barriers Benefits from customer loyalty which discourages
potential entrants
Buyer power Enjoys some protection since large buyers have
less power to negotiate because of the absence of
close alternatives
Supplier power Is better able to pass on supplier price increases
to customers

Threat of Is protected from the threat of substitutes by

substitution customer loyalty
Rivalry Benefits from brand loyalty to keep customers
from rivals
Risks of differentiation strategy
• There are difficulties of sustaining differentiation
• Differentiation involves higher costs
• There is a risk of creating differences that customers do not value
• Customers might become price sensitive and choose on price rather than
uniqueness
• It might involve differentiation on dimensions that become less important to
customers over time
• Customers may no longer need the differentiation factor
• Imitators may narrow the differentiation
• Rivals pursuing a focus strategy may be able to achieve even greater
differentiation in their market segments
Focus strategy
• In a focus strategy the firm concentrates on one (or at most a limited number of)
segments of the market
• The premise behind this strategy is that the needs of the group can be bettered
served by focussing entirely on it
• The firm might feel more secure in the niche with greater insulation from
competition
• A focus strategy means that the firm’s efforts are not spread too thinly
• Focus strategies are
• Cost focus: cost leader in a particular segment
• Focus differentiation: differentiation in the chosen segment
Requirements of a focus strategy
A focus strategy requires…
• The identification of a suitable target customer group
• Identification of the specific needs of that group
• Confirmation that the market is sufficiently large to sustain the
business
• Estimation of the extent of competition within the segment
• Production of products to meet the specific needs of that group
• A decision on whether to opt for cost leadership or differentiation
within the segment
Benefits of a focus strategy
• It involves lower investment in resources
• The firm benefits from specialisation
• It provides scope for greater knowledge of a segment of the market
• It makes entry to new markets easier and less costly
• Firms using a focus strategy often enjoy a high degree of customer
loyalty
Focussed cost leadership
• A strategy that aims…
• To attract one type of customer with a low cost product
• To be the lowest cost operator in one particular niche segment of the
market
Focussed differenHaHon
• A strategy that aims to attract one type of customer with a
differentiated product
• It involves distinctiveness in one segment
• Aims to exploit unique position in a niche segment of the market
• Not the cheapest but the best or most distinctive in that segment
• Example: LinkedIn
The five forces and a focus strategy

The five forces A firm pursuing a focus strategy…

Entry barriers Develops core competencies that can act as an entry
barrier

Buyer power Enjoys some insulation since large buyers have less
power to negotiate because few alternatives are
available
Supplier power Is better able to pass on supplier price rises thereby
reducing the impact of supplier power

Threat of substitution Enjoys some protection against substitutes by

specialised products and core competencies

Rivalry Enjoys some protection because rivals cannot meet

differentiation focused customer needs
Value-Chain Activities:
Examples of
Differentiation
Problems associated with focus strategy

• Limited opportunities for growth

• Sacrifice of economies of scale that would be available from a larger
market
• The firm could outgrow the market
• Danger of decline in the chose segment or niche
• A reputation for specialisation inhibits move into new sectors
• Risk of imitation
• Risk of changes in the target segment
Potential Pitfalls
of Overall Cost
Leadership and
Differentiation
Strategies
Stuck in the middle
• Porter argued that a firm must make a conscious choice about the
compe77ve advantage it seeks to develop
• If it fails to choose one of these strategies,it risks being “stuck in the
middle”,trying to be all things to all people,and ends up with no
compe77ve strategy at all
• Being stuck in the middle leads to low profitability
• Compe7tors with a clear strategy outperform those whose strategy is
unclear or aEempt a combina7on of strategies
What is wrong with being “stuck in the middle”?

• It is difficult to simultaneously become differentiated and low cost

• The firm loses out to others able to undercut it and to those able to
offer a superior product
• If a firm differentiates itself by supplying very high quality products it
risks undermining that quality if it seeks to be come a cost leader
• Such a firm also suffers from a blurred corporate culture and the
projection of a confusing image
Multiple strategies
• Firms that are able to succeed at multiple strategies create separate
business units for each strategy
• By separating the strategies into
• Different units
• Each with its own culture
• Each with its own brands
Generic strategies: summary
• Cost leadership
• Being the lowest cost producer in the industry as a whole
• Differentiation
• The exploitation of a product or service which is believed to be unique
• Focus
• Restricting activities to only part of the market through:
• Providing goods or services at lower cost to that segment (cost focus)
• Providing a differentiated product or service to that segment (differentiation
focus)
Thank you