Transcript CHAPTER Business Strategy: Differentiation, Cost Leadership, and Integration McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc.

CHAPTER
6
Business Strategy:
Differentiation,
Cost Leadership,
and Integration
McGraw-Hill/Irwin
Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Part 2 Strategy Formulation
LO 6-1
Define business-level strategy and describe how it determines a
firm’s strategic position.
LO 6-2
Examine the relationship between value drivers and differentiation
strategy.
LO 6-3
Examine the relationship between cost drivers and cost-leadership
strategy.
LO 6-4
Assess the benefits and risks of cost-leadership and differentiation
business strategies vis-à-vis the five forces that shape competition.
LO 6-5
Explain why it is difficult to succeed at an integration strategy.
LO 6-6
Evaluate value and cost drivers that may allow a firm to pursue an
integration strategy.
LO 6-7
Describe and evaluate the dynamics of competitive positioning.
Chapter Case 6 Trimming Fat at Whole Foods Market
• Whole Foods…Business Strategy Revitalization
 Started as small natural-foods store 1980
 Became market leader; differentiation through
organics and quality
 Competitive
advantage through 2008
• CEO John Mackey: Refocused Mission, Reduced Costs
Business Strategy and Competitive Advantage
• A business-level strategy is an integrated and
coordinated set of commitments and actions
designed to provide value to customers and
gain a competitive advantage by utilizing core
competencies in specific individual product
markets.
Business-Level Strategy:
How to Compete for Advantage?
• Answer the “Who, What, Why, and How”
 Who - which customer segments to serve?
 What needs, wishes, desires will we satisfy?
 Why do we want to satisfy them?
 How will we satisfy customers’ needs?
• Details actions managers take in quest for
competitive advantage
 Single product or group of similar products
EXHIBIT 6.1
Industry and Firm Effects Jointly
Determine Competitive Advantage
Business Strategy and Competitive Advantage
• Two fundamental questions:
 How do you generate advantage?
 How do you sustain advantage?
• Key idea for sustainability is “barriers to imitation.”
 How long will it be before the first rival
imitates the first mover?
 How fast does new imitation occur
once it starts?
 These
two factors determine appropriability.
Business Strategy and Competitive Advantage
• Does market share generate competitive advantage?
 The computer industry is an excellent example of the lack
of correspondence between market share and profit rates.
IBM was a clear market leader in terms of market share
but had only mediocre economic performance relative to
its rivals. High market share is no guarantee of high
rates of profitability.
Business Strategy and Competitive Advantage
• Does market share generate competitive advantage?
 Perhaps high market share causes high profit rates.
 But it could equally well be that there is a third factor
(e.g., good service capabilities at Caterpillar), unobserved
by us, that causes both high profitability and high market
share.
 In
this case, we would see a correlation
between profitability and market share
but no causal explanation.
Business Strategy and Competitive Advantage
• When can market share work to generate and
sustain an advantage?
 Scale economies combined with high exit costs may make
market share a defensible advantage.
Sustainable Competitive Advantage
•
Costly Duplication due to:
 Historical Conditions;
 Uncertainty;
 Social Complexity; and
 Property Rights Protection.
Business Strategy and Competitive Advantage
• An organization’s knowledge or expertise can lead to
sustainable advantage if:
 The knowledge is tacit rather than articulable;
Tacit Knowledge: “We know more than we can tell.”
 Tacit Skills: Riding a bike, swimming, “learning by doing,” which is
critical for maintaining a manufacturing base

 The knowledge is not observable in use;
 The knowledge is (socially) complex, rather than simple.
Strategic Position
• Determined by Firm’s Business-Level Strategy
 Two primary competitive levers:
Value (V)
 Cost (C)

• Economic Value Created: (V-C)
 The greater (V-C) = Competitive Advantage
• Strategic Position Based on:
 Value creation
 Cost
Forms of Competitive Advantage
Cost
Advantage
Competitive
Advantage
Similar Product
At Lower Cost
Price Premium
From Unique Product
Differentiation
Advantage
Generic Business Strategies
• Different generic strategies can lead to competitive
advantage in the same industry.
• Differentiation
 Higher Value; Unique Features
 Rolex
• Cost-Leadership
 Similar Value; Lower Cost
 Timex
• Scope of Competition
 Narrow (Focused)
 Rolex
 Broad
 Timex
EXHIBIT 6.2
Strategic Position and Competitive Scope:
Generic Business Strategies
LO 6-1
Define business-level strategy and describe how it determines a firm’s
strategic position.
LO 6-2
Examine the relationship between value drivers and differentiation
strategy.
LO 6-3
Examine the relationship between cost drivers and cost-leadership
strategy.
LO 6-4
Assess the benefits and risks of cost-leadership and differentiation
business strategies vis-à-vis the five forces that shape competition.
LO 6-5
Explain why it is difficult to succeed at an integration strategy.
LO 6-6
Evaluate value and cost drivers that may allow a firm to pursue an
integration strategy.
LO 6-7
Describe and evaluate the dynamics of competitive positioning.
Types of Competitive Advantage
Buyer value generated (willingness to pay)
Costs incurred (including opportunity cost of capital)
$
Value
Created
Industry
average
competitor
© 2005 Mara Lederman, Rotman School of Management
Successful
differentiated
competitor
Successful
low-cost
competitor
Competitor
with dual
advantage
Differentiation Advantage
• Differentiation Advantage, a concept developed
by economist Joan Robinson, occurs when a firm
is able to obtain from its differentiation a price
premium in the market which exceeds the cost of
providing differentiation.
EXHIBIT 6.3
Value Drivers: Differentiation
• Differentiation:
 Product features, customer service, customization, and complements
 Competitive advantage = economic value created (V-C) > competitors
 Marriott line of Hotels
STRATEGY HIGHLIGHT 6.1
Toyota: From “Perfect Recall”
to “Recall Nightmare”
• Toyota’s strategic challenges….
 Launched Lexus 1989

Luxury car segment dominated by Mercedes-Benz, BMW, Cadillac
 LS400 line required recall a little over a year after launch

Turned threat into opportunity to establish reputation for superior
customer service

Two years after launch Lexus ranked first on quality and
customer satisfaction by J.D. Powers
 2010 Toyota has largest recall in automotive history

Needed to exhibit superior customer responsiveness again

8 million vehicles recalled was much more challenging
1–25
EXHIBIT 6.4
Cost Drivers: Cost-Leadership
• Cost Leadership:
 Cost of input factors, economies of scale, and learning-curve and
experience-curve effects
 Competitive advantage = economic value created (V-C) > competitors

Walmart vs. Kmart

Dell vs. Compaq, Gateway, & HP
STRATEGY HIGHLIGHT 6.2
Ryanair: Lower Cost than the
Low-Cost Leader!
• The “Southwest Airlines of Europe”
 “Lowest-cost airline in the world”

No window shades on older planes, seats don’t recline, etc.

Fares as low as $8

Numerous fees and surcharges: pillows, blankets, check-in,
etc.

20+% of revenues flow from ancillary services
1–27
Ryanair Sample Revenue Calculation
1 Bottle of Water,
$3.50 Ad Revenue, $2
Ticket Price, $8
Priority Boarding, $4
Pillow & Blanket, $5
Subsidy from More
Expensive Flights,
$5.50
Credit Card Fee, $6
Online Check-in, $7.50
Revenue $87
Cost $70
Profit $17
Checking Two Bags,
$45
EXHIBIT 6.5
Economies of Scale and Diseconomies of Scale
31
"Big Box" Retailers' Advantage
Box 2 x 2 x 2
Volume 8
Box 3 x 3 x 3
Volume 27
• Cube-Square Rule:
 Each dimension increases 50% (2 goes to 3) BUT
 Each volume increases 237.5% (8 goes to 27) !!
The Learning Curve
Per
Unit
Cost ($)
120
100
80
90%
60
80%
70%
40
Aircraft Assembly (1925-57): 80%
Calculator (1975-78): 74%
20
0
0
50
100
150
200
250
Cumulative Output (units)
EXHIBIT 6.6
Gaining Competitive Advantage Through
Learning and Experience Curves
Limits of “Learning Curve” Advantages
 Copying and reverse engineering of products;
 Hiring a competitor’s employees;
 Purchasing the know-how from consultants;
 Obtaining the know-how from customers; and
 Experience advantages are often nullified by innovations.
LO 6-1
Define business-level strategy and describe how it determines a firm’s
strategic position.
LO 6-2
Examine the relationship between value drivers and differentiation
strategy.
LO 6-3
Examine the relationship between cost drivers and cost-leadership
strategy.
LO 6-4
Assess the benefits and risks of cost-leadership and differentiation
business strategies vis-à-vis the five forces that shape competition.
LO 6-5
Explain why it is difficult to succeed at an integration strategy.
LO 6-6
Evaluate value and cost drivers that may allow a firm to pursue an
integration strategy.
LO 6-7
Describe and evaluate the dynamics of competitive positioning.
EXHIBIT 6.7
Competitive Positioning and the Five Forces
LO 6-1
Define business-level strategy and describe how it determines a firm’s
strategic position.
LO 6-2
Examine the relationship between value drivers and differentiation
strategy.
LO 6-3
Examine the relationship between cost drivers and cost-leadership
strategy.
LO 6-4
Assess the benefits and risks of cost-leadership and differentiation
business strategies vis-à-vis the five forces that shape competition.
LO 6-5
Explain why it is difficult to succeed at an integration strategy.
LO 6-6
Evaluate value and cost drivers that may allow a firm to pursue an
integration strategy.
LO 6-7
Describe and evaluate the dynamics of competitive positioning.
EXHIBIT 6.8
Avon Pursuing an Integration Strategy
EXHIBIT 6.9
Value and Cost Drivers
Integration Strategy – Corporate Level
• Conglomerates can coordinate above the SBU level
 Tata Group from India

2008 bought Jaguar & Land Rover
– Prestigious differentiated products

2009 Tata Motors creates a Nano car
– Lowest-priced car in the world!
– Zero to 60 mph in 30 seconds
– No radio or glove box
– Targets bicyclists to move to cars
LO 6-1
Define business-level strategy and describe how it determines a firm’s
strategic position.
LO 6-2
Examine the relationship between value drivers and differentiation
strategy.
LO 6-3
Examine the relationship between cost drivers and cost-leadership
strategy.
LO 6-4
Assess the benefits and risks of cost-leadership and differentiation
business strategies vis-à-vis the five forces that shape competition.
LO 6-5
Explain why it is difficult to succeed at an integration strategy.
LO 6-6
Evaluate value and cost drivers that may allow a firm to pursue an
integration strategy.
LO 6-7
Describe and evaluate the dynamics of competitive positioning.
The Dynamics of Competitive Positioning
• Strategic Positions need to change over time
 eBay withdrew from selling new goods & sold Skype
• Productivity Frontier
 Value-cost relationship
 Captures the best practices at a point in time
• Mobile Devices

2005 – Apple differentiator, Dell cost leader

2010 – Apple still differentiator, HP moving to successful
integrator, Dell shifting toward integrator
EXHIBIT 6.10
The Dynamics of Competitive
Positioning: Apple, HP, and Dell
Take-Away Concepts
LO 6-1 Define business-level strategy and describe how it determines a
firm’s strategic position.
 Business-level strategy determines a firm’s strategic position in its quest
for competitive advantage in a single industry or product market.
 Strategic positioning requires that managers address strategic trade-offs
that arise between value and cost, because higher value tends to go along
with higher cost.
 Differentiation and cost leadership are distinct strategic positions.
 Besides selecting an appropriate strategic position, managers must also
define the scope of competition—whether to pursue a specific market
niche or go after the broader market.
LO 6-2 Examine the relationship between value drivers and
differentiation strategy.
 The goal of a differentiation strategy is to increase the perceived value of
goods and services so that customers will pay a higher price for additional
features.
Take-Away Concepts
 In a differentiation strategy, the focus of competition is on non-price attributes.
 Some of the unique value drivers managers can manipulate are product features,
customer service, customization, and complements.
 Value drivers contribute to competitive advantage only if their increase in value
creation (∆V) exceeds the increase in costs (∆C).
LO 6-3
Examine the relationship between cost drivers and cost-leadership
strategy.
 The goal of a cost-leadership strategy is to reduce the firm’s cost below that of its
competitors.
 In a cost-leadership strategy the goal is to reduce the firm’s costs below that of its
competitors. The focus is on lowest-possible price with acceptable quality.
 Some of the unique cost drivers that managers can manipulate are the cost of input
factors, economies of scale, and learning- and experience-curve effects.
 No matter how low the price, if there is no acceptable value proposition, the product
or service will not sell.
Take-Away Concepts
LO 6-4 Assess the benefits and risks of cost-leadership and
differentiation business strategies vis-à-vis the five forces that
shape competition.
 The five forces model helps managers use generic business strategies to
protect themselves against the industry forces that drive down profitability.
 Differentiation and cost-leadership strategies allow firms to carve out
strong strategic positions, not only to protect themselves against the five
forces, but also to benefit from them in their quest for competitive
advantage.
 Exhibit 6.7 lists benefits and risks of each business strategy.
Take-Away Concepts
LO 6-5 Explain why it is difficult to succeed at an integration strategy.
 A successful integration strategy requires that trade-offs between
differentiation and low cost be reconciled.
 Integration strategy often is difficult because the two distinct strategic
positions require internal value chain activities that are fundamentally
different from one another.
 When firms fail to resolve strategic trade-offs between differentiation and
cost, they end up being stuck in the middle. They then succeed at neither
strategy, leading to a competitive disadvantage.
LO 6-6 Evaluate value and cost drivers that may allow a firm to pursue
an integration strategy.
 To address the trade-offs between differentiation and cost leadership at
the business level, managers may leverage quality, economies of scope,
innovation, and the firm’s structure, culture, and routines.
 The trade-offs between differentiation and low cost can either be
addressed at the business level or at the corporate level.
Take-Away Concepts
LO 6-7 Describe and evaluate the dynamics of competitive
positioning.
 Strategic positions need to change over time as the environment
changes.
 Best practices determine the productivity frontier at any given time.
 Reaching the productivity frontier enhances the likelihood of obtaining
a competitive advantage.
 Not reaching the productivity frontier implies competitive disadvantage
if other firms are positioned at the productivity frontier.