Product Differentiation

Another set of positivity feedback arises from the ability of firms to invest in product differentiation (Fig.
1). As firms grow, they can invest more in actives that improve the attractiveness of their products to
customers. Most products can be differentiated from those of competitors through enhanced feathers,
functionality, quality, and suitability to the current and latent needs of customers. Firms can also invest in
superior service and customer support infrastructure. To the extent these investments increase the
attractiveness of the products in the eyes of customers the firm can gain market share, boosting revenue
and enabling still more investment in differentiation (R1). More capable and useful products also increase
total demand (R2). Finally, companies offering clearly superior products can offer charge a price premium
enable the firm to increase its investment in differentiation still further (R3).
Many high-tech firms are engaged in a technology race in which competition is primarily focused on
the earliest introduction of the fastest, most powerful product with the most features. But differentiation
does not have to focus on technology and product features. IBM successfully pursued the differentiation
strategy for decades and denominated the computer industry from its inception through the personal
computer revolution in the 1980s. IBMs differentiation investments, however, focused on product
reliability and especially on customer service and support. Tom Watson, Jr., like his father, understood
that the most important determinant of product attractiveness for their core market middle managers in
large corporations was peace of mind. Especially when computers and data processing were novel, in
the 1950s and 60s these organizations were reluctant to invest in computing unless they were sure it
would be highly reliable and that when something went wrong they could get it fixed quickly.
IBM focused its differentiation strategy on product quality and reliability, building the largest and
most responsive sales and service organization in the business. Its success not only enabled it to gain
market share and increase the size of the data processing market but also to charge the highest prices in
the industry. Other firms entered the main frame business; some created by former IBM people, but could
never gain much market share, even though they offered lower prices for machines of comparable
performance. IBM maintained its dominance of the mainframe industry by continuously investing huge
sums in further development and articulation of its service and support infrastructure, even while
generating consistently strong profit growth for its shareholders.
+
+

Industry Demand

Price

Revenue

Sales

+
R2,+
Market Share

R1,+

+
Product
attractiveness

Price Premium for

R3,+ Superior Technology
+
Investment in
Product Features

+
Product Features:
+
Functionality

Suitability to

Of course, while IBMs differentiation strategy was spectacularly successful

for decades,
customer
needs all positive
loops eventually encounter limits, and the company stumbled badly in the 1980s when it failed to
anticipate the fundamental changes in the computer industry caused by the microprocessor and personal
computer revolution.

New Product Development

The development of entirely new product is a core engine of growth for many firms (Fig. 2).The greater
the revenue of a firm, the larger and more effective the new product development effort can be. New
products create new demand, boosting revenue and increasing investment in new product development
still more (R1). And just as differentiation enables firms to charge higher price, firms that bring novel and
important product to market can often commend a price premium until imitations arrive. Higher prices
further increase the resources available to fund the development of still more new product (R2), so the
firm can stay ahead of competitors.
Intel has successfully used these new product development loops to fend off competition from clone
maker, such as AMD and Cyrix who develop chips compatible with, but cheaper than Intels. Intel invest
about 10% of its revenue in R&D, which enables it to offer the fastest and best PC compatible chip at any
time and leads to more sales growth and more R&D. Power hungry computer users are willing to pay a
substantial price premium for the latest, fastest, most powerful chip.
The firms profiting most from the new uses, new needs and price premium loops are those best able to
identify the latent needs of potential customers. They understand what people dont yet know they want
or create a need people did not have before and then bring products addressing those needs to market
quickly, effectively, and low cost. The capability to do so not simply a matter of the R&D budget but
depend on the size of installed base of users and the firms ability to collect and act on their suggestions.
It is a competence built up over time through experience and through investment in product development
process improvement.
The strength of those loops also depends on the ability to protect innovative new products from
imitation by competitors. Patent offer an obvious method to protect such innovation and are such
innovations and are critical to the success of new product development loops in the pharmaceutical
industry, among others. More important, however, is the ability to weaken competitors ability to use the
same loops. Intel not only charges a price premium for its latest, fastest chip but also uses the margins
from these top of the line clip to lower price on older processor as, or even before, the clone makers
brings their chips to market. By cutting prices for older chips, Intel limits the margins of the clone
makers, weakening their ability to use the positive differentiation loops to erode Intels lead.
+
+

Price +

Revenue

Sales

R2,+
R1,+

+
Product Developement
Capability and Effort

Price Premium for

Unique New Products
+

Industry Demand
+

+
New Products

0: No link; +1: +VE link; -1:

Note: Operations Strategies should be New Products driven. As it has highest number of outgoing links
Any change in the key variable(s) has ripple effects on others