COST ADVANTAGE
AND
DIFFERENTIATION ADVANTAGE
STRATEGIC POSITIONING SHOULD IMPROVE
PROFITABILITY
Where managers of a
company situate that
company relative to it’s
rivals along important
competitive dimensions
To reduce the effects
of rivalry and thereby
improve profitability
1
A FIRM’S CHOICE OF POSITION DEPENDS ON TWO
FACTORS
1 Firm’s resources and capabilities
2 Industry structure
2
A FIRM CAN GAIN ADVANTAGE OVER RIVALS IN TWO
WAYS
No advantage over
rivals
Description
Advantage over rivals
Differentiation
Produce a differentiated
product and charge sufficiently higher prices to more
than off-set the added
costs of differentiation
Low-cost
Produce an essentially
equivalent product at a
lower cost
3
THE STRATEGIC POSITIONING MODEL
Broad
(i.e., industry
wide)
Broad low-cost
leadership
Broad
differentiation
Narrow
(i.e., particular
segment only)
Focused cost
leadership
Focused
differentiation
Low-cost
Differentiation
Strategic advantage
Adapted from poster, M.1980. Competitive strategy, 1980.
4
Porsche (Focus differentiation)
LOW-COST LEADERSHIP AND DIFFERENTIATION OFFER
GREATER MARKET SHARE AND/OR PROFITS
Low-cost leadership
Differentiation
• Capture market share by
• Capture market share by
offering lower-price or
• Earn higher by maintaining
Benefits
price parity
offering higher quality
at same price or
• Earn higher margins by
raising prices over
competitors
Examples
• Pacific Cycle
• Gallo Wines
• Wal-Mart
• Southwest Airlines
• Home Depot
• Trek Bicycles
• Coca-Cola and Pepsi
• Mercedez Benz
• Honda, Yamaha, and
Suzuki motorcycles
• Stouffers (frozen foods)
6
STRATEGIC POSITIONING EXAMPLES
Broad
Narrow
• Wal-Mart
• Gallo Wines
• Trek Bicycles
• Coca-cola
• Jet Blue
• Montague
• Mercedes
Benz (in US)
Low-cost
Differentiation
Strategic advantage
7
ING Direct (Low Cost)
8
Focused Low cost strategies
9
LOW-COST AND DIFFERENTIATION CAN GENERATE
HIGH MARGINS
Price
Hyundai Elantra
Price
Chevy Cavalier
Price
Honda Civic
10
* Including maintenance and other intangibles
RESULTS OF DIFFERENTIATED, LOW-COST, AND
INTEGRATED POSITIONS
Industry
average
competitor
Successful
Successful
differentiated low-cost
competitor
competitor
Competitor
with both
advantages
(integrated)
11
KEY DRIVERS OF COST ADVANTAGE
• Economies of scale
• Learning
• Product technology
• Product design
• Location advantages for
sourcing inputs
12
DISECONOMIES OF SCALE – SIZE DOES NOT ENSURE
ECONOMIES OF SCALE
Economies
of scale
Learning
• Economies of scale exist during a period of time if the average
total cost for a unit of production is lower at higher levels of
output
• You must review cost to assess whether economies of scale
Economies
of scope
Production
technology
exist:
–Fixed costs remain the same for different levels of production
–Variable costs are the costs of variable inputs (such as raw
materials and labor) and vary directly with output
–Marginal cost is the cost of the last unit of production
Product
design
–Total cost is the sum of all production costs and always
increases as output goes up
Location
–Average cost is the mean cost of total production during
a given period (say, a year)
DISECONOMIES OF SCALE – SIZE DOES NOT ENSURE
ECONOMIES OF SCALE
Economies
of scale
Learning
Some sources
of economies
Some sources
of diseconomies
Economies
of scope
• R&D spend
• Advertising spend
• Specialization of specific
• Bureaucracy
• High labor costs
• Inefficient operations
Production
technology
Product
design
Location
production processes
• Superior inventory
management
• Purchasing power
MINIMUM EFFICIENT SCALE (MES)
Economies
of scale
Learning
Average cost
Minimum efficient scale:
The minimum scale
needed to achieve
maximum cost savings
(i.e., minimum costs)
Economies
of scope
Production
technology
Product
design
Scale of
operations
Location
Economies
of scale
Diseconomies
of scale
LEARNING CURVE AS A SOURCE OF COST ADVANTAGE
Economies
of scale
How Learning Differs from Scale
Learning
Costs decrease …
Economies
of scope
Production
technology
Product
design
Location
Economies
of scale
as the scale of operation
increases during any given
period of time
Learning
curve
with the cumulative level of
production since the production
of the first unit
LEARNING CURVE (continued)
Learning
Economies
of scope
Production
technology
Product
design
Step 1: Measure
No. of bikes
produced
Step 2: Calibrate
Hours spent
on last bike
1
30.00 actual
2
27.00 actual
4
24.30 actual
8
21.87 est.
16
19.68 est.
32
17.71 est.
64
15.92 est.
128
14.34 est.
East Side Bikes Learning
Hours per
Curve
bike
35.00
30.00
Hours
Economies
of scale
25.00
20.00
15.00
Location
Step 3: Project
0
24
48
72
96
120
144
168
192
216
240
264
288
312
336
10.00
Number of Bikes Produced
ECONOMIES OF SCOPE AS A SOURCE OF COST
ADVANTAGE
Economies
of scale
Learning
Economies
of scope
Production
technology
Product
design
Location
If a firm produces two or more
products and can share
resources among two or more
of these (e.g., share
manufacturing machines) –
thereby lowering the costs of
each product – it benefits from
economies of scope
PRODUCTION TECHNOLOGY AS A SOURCE OF COST
ADVANTAGE
Economies
of scale
Learning
Economies
of scope
Production
technology
Product
design
Location
Often, a new entrant who wants to
compete against industry
incumbents with significant scale
and experience advantages, tries
to match or beat incumbents’
costs by introducing a production
technology that is subject to
different economics (e.g., Jet
Blue, Nucor Steel)
PRODUCTION DESIGN AS A SOURCE OF COST
ADVANTAGE
Economies
of scale
Learning
Economies
of scope
Production
technology
Product
design
Location
Product design can sometimes
be altered to lower a firm’s
production costs (e.g., Canon
vs. Xerox)
LOCATION AS A SOURCE OF COST ADVANTAGE
Economies
of scale
Learning
Economies
of scope
Production
technology
Product
design
Sometimes firms try to attain
lower production costs by locating
their operations in cheaper labor
markets (e.g., Pacific Cycle
manufactures in China and
Taiwan to achieve lower costs
than Trek who manufactures in
the US)
Location
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KEY DRIVERS OF DIFFERENTIATION ADVANTAGES
Key Drivers
• Premium brand image
• Customization
• Unique styling
• Speed
• More convenient access
• Unusually high-quality
Purpose
To drive up customer’s
willingness to pay and
generate demand
sufficient to
(1) Recoup added costs
and
(2) Generate enough
profits to make
strategy worthwhile
22
VoodooPC
Luxury Brands
24





Gucci
Chanel
Calvin Klein
Louis Vuitton
Christian Dior
DRIVERS AND THREATS TO DIFFERENTIATION AND LOWCOST ADVANTAGE
Drivers
Low-cost
Differentiation
Threats
•
•
•
•
•
•
Economies of scale
Learning
Economies of scope
Superior technology
Product design
Location
• New technology
• Too low-quality
• Social, political, and
•
•
•
•
•
•
Premium brand image
Customization
Unique styling
Speed
Convenient access
Unusually high-quality
• Failure to increase
economic risks of
outsourcing
buyer’s willingness
to pay higher prices
• Under estimating
cost of differentiation
• Over fulfillment of
buyer’s needs
• Lower cost imitation
VALUE-CHAIN ACTIVITIES: OVERALL COST LEADERSHIP
McGraw-Hill/Irwin
Strategic Management, 3/e
Exhibit 5.3 Value-Chain Activities: Examples of Overall Cost Leadership
Source: Adapted with the permission of The Free Press, a division of Simon & Schuster, Inc., from
Competitive Advantage: Creating and Sustaining Superior Performance by Michael E. Porter. Copyright
© 1985 by Michael E. Porter.
Copyright © 2007 The McGraw-Hill Companies, Inc. All rights reserved.
VALUE-CHAIN ACTIVITIES: DIFFERENTIATION
McGraw-Hill/Irwin
Strategic Management, 3/e
TESTING THE QUALITY OF A STRATEGY
Key Evaluation Criteria
Sub-questions
1. Does your strategy exploit your key
resources?
• With your particular mix of resources, does this strategy give you an
advantageous position relative to your competitors?
• Can you pursue this strategy more economically than competitors?
• Do you have the capital and managerial talent to do all you envision?
• Are you spread too thin?
2. Does your strategy fit with current
industry conditions?
• Is there healthy profit potential where you're headed?
• Are you aligned with the key success factors of your industry?
3. Will your differentiators be sustainable?
• Will competitors have difficulty imitating you?
• If imitation cannot be foreclosed, does your strategy include a ceaseless
regimen of innovation and opportunity creation to keep distance between
you and the competition?
4. Are the elements of your strategy
consistent and aligned with your strategic
position?
• Have you made choices of arenas, vehicles, differentiators, and staging,
and economic logic?
• Do they all fit and mutually reinforce each other?
6. Can your strategy be implemented?
• Will your stakeholders allow you to pursue this strategy?
• Do you have the proper complement of implementation levers in place?
• Is the management team able and willing to lead the required changes?
29