McGraw-Hill/Irwin

CHAPTER

6

Business Strategy: Differentiation, Cost Leadership, and Integration

Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

Part 2 Strategy Formulation 6 –2

LO 6-1 LO 6-2 LO 6-3 LO 6-4 LO 6-5 LO 6-6 LO 6-7 Define business-level strategy and describe how it determines a firm’s strategic position.

Examine the relationship between value drivers and differentiation strategy.

Examine the relationship between cost drivers and cost-leadership strategy.

Assess the benefits and risks of cost-leadership and differentiation business strategies vis à-vis the five forces that shape competition.

Explain why it is difficult to succeed at an integration strategy.

Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.

Describe and evaluate the dynamics of competitive positioning.

6 –3

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 6 –4

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.

6 –5

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

6 –6

EXHIBIT 6.1 Industry and Firm Effects Jointly Determine Competitive Advantage 6 –8

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 .

6 –9

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. 6 –10

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.

6 –12

Sustainable Competitive Advantage

•

Costly Duplication due to:



Historical Conditions;



Uncertainty;

 Social Complexity; and 

Property Rights Protection.

6 –13

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.

6 –14

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 6 –15

Forms of Competitive Advantage

Competitive Advantage Cost Advantage Similar Product At Lower Cost Price Premium From Unique Product Differentiation Advantage 6 –16

EXHIBIT 6.2

Strategic Position and Competitive Scope: Generic Business Strategies 6 –17

LO 6-1 LO 6-2 LO 6-3 LO 6-4 LO 6-5

Define business level strategy and describe how it determines a firm’s strategic position.

Examine the relationship between value drivers and differentiation strategy.

Examine the relationship between cost drivers and cost-leadership strategy.

Assess the benefits and risks of cost-leadership and differentiation business strategies vis à-vis the five forces that shape competition.

Explain why it is difficult to succeed at an integration strategy.

LO 6-6 LO 6-7

Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.

Describe and evaluate the dynamics of competitive positioning.

6 –18

$

Types of Competitive Advantage Buyer value generated (willingness to pay) Costs incurred (including opportunity cost of capital) Value Created Industry average competitor Successful differentiated competitor Successful low-cost competitor Competitor with dual advantage © 2005 Mara Lederman, Rotman School of Management

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.

6 –22

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 6 –23

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 –24

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 6 –25

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 –26

Ryanair Sample Revenue Calculation

Revenue $87 Cost $70

6 –27

EXHIBIT 6.5

Economies of Scale and Diseconomies of Scale

30

"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) !!

6 –31

Learning Curve: Sources of Gain

 Need less time to instruct workers  Workers become more skillful in their movements  Develop better operation sequences  Machines and tooling are continually improved  Rejections and rework decrease  Management controls improved  Engineering changes become less frequent  Cost-effective improvements in product design  Enriched knowhow in managing and operating business  More efficient inventory handling and distribution methods

6 –32

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;  Experience advantages are often nullified by product obsolences and innovations.

6 –33

Learning Curve

• The following discussion and applications focus on direct labor hours per unit, although we could as easily have used costs. In developing a learning curve, we make these assumptions:  Direct labor requirements will decrease at a declining rate as cumulative production increases.  The reduction in time will follow an exponential curve. In other words, the production time per unit is reduced by a fixed percentage each time production is doubled. We can use a logarithmic model to draw a learning curve. The direct labor required for the nth unit, k n , is • • • k n k 1 = k 1 n b where = direct labor hours for the first unit n = cumulative number of units produced • b = log r/log 2 • r = learning rate

6 –34

Learning Curve

•

Example:

The Bellweather Company has a contract for 60 portable electric generators. The labor-hour requirement for manufacturing the first unit is 100. With that as given, Bellweather planners develop an aggregate capacity plan using learning-curve calculations. They use a 90 percent learning curve, based on previous experience with generator contracts . • The labor requirement for the second generator is: • • k 2 = k 1 n = 100 (2) b log 0.9/log 2 • = 100 (2) -.152

• = 100 (.9) =

90 hours

• This result for the second unit, 90, is expected, since for a 90% learning curve there is a 10% percent learning between doubled quantities.

6 –35

Learning Curve

•

Example:

The Bellweather Company  For the 8th unit,  = 100 (8) -.152

= 100 (0.729) =

72.9 hours

 This result is also obtained by 100 (.9) (.9) (.9) =

72.9 hours.

• Learning curves can be used for:  Bid Preparation  Financial Planning  Production Scheduling

6 –36

The Learning Curve

Aircraft Assembly (1925-57): 80% Calculator (1975-78): 74%

EXHIBIT 6.6

Gaining Competitive Advantage Through Learning and Experience Curves 6 –38

LO 6-1 LO 6-2 LO 6-3 LO 6-4 LO 6-5 LO 6-6 LO 6-7

Define business level strategy and describe how it determines a firm’s strategic position.

Examine the relationship between value drivers and differentiation strategy.

Examine the relationship between cost drivers and cost-leadership strategy.

Assess the benefits and risks of cost-leadership and differentiation business strategies vis à-vis the five forces that shape competition.

Explain why it is difficult to succeed at an integration strategy.

Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.

Describe and evaluate the dynamics of competitive positioning.

6 –39

EXHIBIT 6.7

Competitive Positioning and the Five Forces 6 –40

EXHIBIT 6.8

Avon Pursuing an Integration Strategy 6 –41

EXHIBIT 6.9

Value and Cost Drivers

6 –42

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 6 –43

LO 6-1 LO 6-2 LO 6-3 LO 6-4 LO 6-5 LO 6-6 LO 6-7

Define business level strategy and describe how it determines a firm’s strategic position.

Examine the relationship between value drivers and differentiation strategy.

Examine the relationship between cost drivers and cost-leadership strategy.

Assess the benefits and risks of cost-leadership and differentiation business strategies vis à-vis the five forces that shape competition.

Explain why it is difficult to succeed at an integration strategy.

Evaluate value and cost drivers that may allow a firm to pursue an integration strategy.

Describe and evaluate the dynamics of competitive positioning.

6 –44

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 6 –45

EXHIBIT 6.10

The Dynamics of Competitive Positioning: Apple, HP, and Dell 6-47

6 –47