Chapter 05 - The Five Generic Competitive Strategies

Chapter 5 Lecture Note

The Five Generic Competitive Strategies

Chapter Summary
Chapter Five describes the five basic competitive strategy options – which of the five to employ is a
company’s first and foremost choice in crafting overall strategy and beginning its quest for competitive
advantage.

Lecture Outline
I. Introduction

1. There are several basic approaches to competing successfully and gaining a competitive
advantage, but they all involve giving buyers what they perceive as superior value compared to
the offerings of rival sellers.

II. The Five Generic Competitive Strategies

1. A company’s competitive strategy deals exclusively with the specifics of management’s game
plan for competing successfully— its specific efforts to please customers, strengthen its market
position, counter the maneuvers of rivals, respond to shifting market conditions, and achieve a
particular kind of competitive advantage.

2. The biggest and most important differences among competitive strategies boil down to:
a. Whether a company’s market target is broad or narrow
b. Whether the company is pursuing a competitive advantage linked to low costs or product
differentiation

3. Five distinct competitive strategy approaches stand out:

CORE CONCEPT

A competitive strategy concerns the specifics of management’s game plan for competing
successfully and achieving a competitive advantage over rivals.

a. A low-cost provider strategy: striving to achieve lower overall costs than rivals and
appealing to a broad spectrum of customers, usually by under pricing rivals.
b. A broad differentiation strategy: seeking to differentiate the company’s product/service
offering from rivals’ in ways that will appeal to a broad spectrum of buyers
c. A focused low-cost strategy: concentrating on a narrow buyer segment and outcompeting
rivals by serving niche members at a lower cost than rivals
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Chapter 05 - The Five Generic Competitive Strategies

d. A focused differentiation strategy: concentrating on a narrow buyer segment and

outcompeting rivals by offering niche members customized attributes that meet their tastes
and requirements better than rivals products
e. A best-cost provider strategy: giving customers more value for the money by incorporating
good-to-excellent product attributes at a lower cost than rivals; the target is to have the
lowest (best) costs and prices compared to rivals offering products with comparable
attributes

4. Figure 5.1, The Five Generic Competitive Strategies—Each Stakes Out a Different Position in
the Marketplace, examines how each of the five strategies stake out a different market position.

a. A company achieves low-cost leadership when it becomes the industry’s lowest-cost

provider rather than just being one of perhaps several competitors with comparatively low
costs.
b. In striving for a cost advantage over rivals, managers must take care to include features that
buyers consider essential.
c. For maximum effectiveness, companies employing a low-cost provider strategy need to
achieve their cost advantage in ways difficult for rivals to copy or match.

III. Low-Cost Provider Strategies

CORE CONCEPT

A low-cost leader ’s basis for competitive advantage is lower overall costs than competitors.
Success in achieving a low-cost edge over rivals comes from eliminating and/or curbing
“nonessential” activities and/or out-managing rivals in performing essential activities.

A. The Two Major Avenues for Achieving a Cost Advantage

1. To achieve a low-cost advantage over rivals, a firm’s cumulative costs across its overall value
chain are lower than competitors’ cumulative costs. There are two ways to accomplish this:

a. Do a better job than rivals in performing value chain activities more cost effectively.
b. Revamp the firm’s overall value chain to eliminate or bypass some cost-producing activities

2. Cost-Efficient Management of Value Chain Activities: Managers must launch a concerted,

ongoing effort to ferret out cost-saving opportunities in every part of the value chain.

CORE CONCEPT

A cost driver is a factor that has a strong influence on a company’s costs.

a. Striving to capture all available economies of sale

b. Taking full advantage of learning/experience curve effects
c. Trying to operate facilities at full capacity
d. Substituting lower cost inputs wherever doing so will not entail too great a sacrifice in
quality
e. Employing advanced production technology and process design to improve overall efficiency
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Chapter 05 - The Five Generic Competitive Strategies

f. Using communications systems and information technology to achieve operating efficiencies

g. Using the company’s bargaining power vis-a-vis suppliers to gain concessions
h. Being alert to the cost advantages of outsourcing and vertical integration
i. Pursuing ways to boost labor productivity and lower overall compensation costs.

3. Figure 5.2, Important Cost Drivers in a Company’s Value Chain, provides an illustration of each
cost driver.

4. Revamping the Value Chain: Dramatic costs advantages can emerge from finding innovative
ways to eliminate or bypass cost-producing value chain activities. The primary ways companies
can achieve a cost advantage by reconfiguring their value chains include:

a. Selling direct to consumers and bypassing the activities and costs of distributors and dealers
b. Streamlining operations by eliminating low value-added or unnecessary work steps and
activities.
c. Improving supply chain efficiency to reduce materials handling and shipping costs.

5. Concepts & Connections 5.1 describes Walmart’s broad approach to managing its value chain in
the retail grocery portion of its business to achieve a dramatic cost advantage over rival
supermarket chains and become the world’s biggest grocery retailer.

Concepts & Connections - 5.1 How Wal-Mart Managed Its Value Chain to Achieve a Low-Cost
Advantage over Rival Supermarket Chains

Discussion Question: Which parts of the value chain does Wal-Mart target in order to achieve a
low-cost advantage over its rivals?

Answer: Wal-Mart has an extensive real-time information sharing network with vendors to
make the supply chain much more efficient. It targets purchasing, store delivery, procurement
practices that leverage the company’s relative buying power, investment in a large fleet of
trucks for distribution of inventory, optimization of the product mix, use of security systems,
preferred real estate rental and leasing rates, and lowering labor costs. Together, these
initiatives give the company a 22 percent advantage over rival supermarket chains.

B. When a Low-Cost Provider Strategy Works Best

1. A competitive strategy predicated on low-cost leadership is particularly powerful when:

a. Price competition among rival sellers is especially vigorous

b. The products of rival sellers are essentially identical and suppliers are readily available from
any of several eager sellers
c. There are a few ways to achieve product differentiation that have value to buyers
d. Buyers incur low costs in switching their purchases from one seller to another
e. The majority of industry sales are made to a few, large-volume buyers.
f. Industry newcomers use introductory low prices to attract buyers and build a customer base

C. Pitfalls to Avoid in Pursuing a Low-Cost Provider Strategy

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Chapter 05 - The Five Generic Competitive Strategies

1. Perhaps the biggest pitfall of a low-cost provider strategy is getting carried away with overly
aggressive price cutting and ending up with lower, rather than higher, profitability.

2. A second big pitfall is relying on an approach to reduce costs that can be easily copied by rivals.

3. A third pitfall is becoming too fixated on cost reduction.

4. Even if these mistakes are avoided, a low-cost provider strategy still entails risk.

IV. Broad Differentiation Strategies

1. Differentiation strategies are attractive whenever buyers’ needs and preferences are too diverse
to be fully satisfied by a standardized product or by sellers with identical capabilities.

CORE CONCEPT

The essence of a broad differentiation strategy is to offer unique product or service attributes
that a wide range of buyers find appealing and worth paying for.

2. Successful differentiation allows a firm to:

a. Command a premium price for its product

b. Increase unit sales
c. Gain buyer loyalty to its brand

3. Differentiation enhances profitability whenever the extra price the product commands
outweighs the added costs of achieving the differentiation.

A. Approaches to Differentiation

1. Companies can pursue differentiation from many angles.

2. The most appealing approaches to differentiation are those that are hard or expensive for rivals
to duplicate.

B. Managing the Value Chain in Ways that Enhance Differentiation

1. Differentiation opportunities can often be found in uniqueness drivers; possibilities include the
following:

a. Seeking out high-quality inputs

b. Striving for innovation and technological advances
c. Creating superior product features, design, and performance.
d. Investing in production-related R&D activities. Engaging
e. Pursuing continuous quality improvement
f. Emphasizing human resource management activities that improve the skills, expertise, and
knowledge of company personnel.
g. Increasing emphasis on marketing and brand-building activities
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Chapter 05 - The Five Generic Competitive Strategies

h. Improving customer service or adding additional service.

CORE CONCEPT

A uniqueness driver is a value chain activity or factor that can have a strong effect on customer
value and creating differentiation.

2. Figure 5.3, Important Uniqueness Drivers in a Company’s Value Chain provides an illustration
of each cost driver.

3. Revamping the Value Chain to Increase Differentiation - Differentiation opportunities can exist in
activities all along an industry’s value chain; possibilities include the following:

a. Coordinating with channel allies to enhance customer perception of value

b. Coordinating with suppliers to better address customer needs

4. Strong relationships with suppliers can also mean that the company’s supply requirements are
prioritized when industry supply is insufficient to meet overall demand.

C. Delivering Superior Value via a Broad Differentiation Strategy

1. While it is easy enough to grasp that a successful differentiation strategy must entail creating
buyer value in ways unmatched by rivals, the big question is which of three basic differentiating
approaches to take in delivering unique buyer value.

2. One route is to incorporate product attributes and user features that lower the buyer’s overall
costs of using the product.

3. A second route is to incorporate tangible features that raise product performance.

4. A third route is to incorporate intangible features that enhance buyer satisfaction in

noneconomic or intangible ways.

D. Perceived Value and the Importance of Signaling Value

1. Buyers seldom pay for value they do not perceive, no matter how real the unique extras may be.
Thus, the price premium commanded by a differentiation strategy reflects the value actually
delivered to the buyer and the value perceived by the buyer.

2. Signals of value that may be as important as actual value include: (1) when the nature of
differentiation is subjective or hard to quantify, (2) when buyers are making first-time
purchases, (3) when repurchase is infrequent, and (4) when buyers are unsophisticated.

E. When a Differentiation Strategy Works Best

1. Differentiation strategies tend to work best in market circumstance where:

a. Buyer needs and uses of the product are diverse

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Chapter 05 - The Five Generic Competitive Strategies

b. There are many ways to differentiate the product or service and many buyers perceive these
differences as having value
c. Few rival firms are following a similar differentiation approach
d. Technological change is fast-paced and competition revolves around rapidly evolving product
features

F. Pitfalls to Avoid in Pursuing a Differentiation Strategy

1. Differentiation strategies can fail for any of several reasons.

2. A differentiation strategy keyed to product or service attributes that are easily and quickly
copied is always suspect.

3. Differentiation strategies can also falter when buyers see little value in the unique attributes of a
company’s product.

4. Over-spending on efforts to differentiate is a strategy flaw that can erode profitability.

5. Other common pitfalls and mistakes in pursuing differentiation may include:

a. Over differentiating so that the product quality or service level exceeds buyers’ needs
b. Trying to charge too high a price premium
c. Being timid and not striving to open up meaningful gaps in quality or service or performance
features vis-E0-vis the products of rivals – tiny differences between rivals’ product offerings
may not be visible or important to buyers

6. A low-cost provider strategy can defeat a differentiation strategy when buyers are satisfied with
a basic product and do not think extra attributes are worth a higher price.

V. Focused (or Market Niche) Strategies

1. What sets focused strategies apart from low-cost leadership or broad differentiation strategies
is concentrated attention on a narrow piece of the total market.

2. The target segment or niche can be defined by:

a. Geographic uniqueness
b. Specialized requirements in using the product
c. Special product attributes that appeal only to niche members

A. A Focused Low-Cost Strategy

1. A focused strategy based on low cost aims at securing a competitive advantage by serving
buyers in the target market niche at a lower cost and lower price than rival competitors.

2. This strategy has considerable attraction when a firm can lower costs significantly by limiting its
customer base to a well-defined buyer segment.

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Chapter 05 - The Five Generic Competitive Strategies

3. Focused low-cost strategies are fairly common.

4. Concepts & Connections 5.2, Aravind Eye Care System’s Focused Low-Cost Strategy, provides
details about the company’s focused differentiation strategy.

Concepts & Connections - 5.2 Aravind Eye Care System’s Focused Low-Cost Strategy

Discussion Question: Discuss the advantages this organization achieves from its focused low-
cost provider strategy.

Answer: Through utilization of this type of strategy, Aravind is able to capitalize on the market
segment that is comprised of the poorest residents of India with cataracts. The company has
taken this well-known process and streamlined it by removing most discretionary elements in
order to develop a high volume and highly efficient process. Aravind’s low cost approach
allows them to provide their surgical service for close to $10.00 compared to an average of
$1500.00 in the U.S. Further, the company is able to provide free eye care to 60% of its patient
base out of the revenue and profit generated from only 40% of its clients.

B. A Focused Differentiation Strategy

1. A focused strategy based on differentiation aims at securing a competitive advantage by offering

niche members a product they perceive is better suited to their own unique tastes and
preferences.

2. Successful use of a focused differentiation strategy depends on the existence of a buyer

segment that is looking for special product attributes or seller capabilities and on a firm’s ability
to stand apart from rivals competing in the same target market niche.

3. Concepts & Connections 5.3, Popchip’s Focused Differentiation Strategy, provides details about
the company’s focused differentiation strategy.

Concepts & Connections - 5.3 Popchips’s Focused Differentiation Strategy

Discussion Question: How does Popchip’s choice of strategy differentiate it from other snack
food companies in the marketplace?

Answer: Popchip has focused on high income consumers that are interested in a tasty low-fat
snack alternative. This focused differentiation strategy allows them to target a market segment
with significant discretionary income with a product that the leaders in the snack food industry
are less likely to pursue. They have also invested significant effort into their distribution channel
though agreements with Whole Foods, Target, and Costco; all chains that appeal to the same
demographic.

C. When a Focused Low-Cost or Focused Differentiation Strategy is Viable

1. A focused strategy aimed at securing a competitive edge based either on low cost or
differentiation becomes increasingly attractive as more of the following conditions are met:

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Chapter 05 - The Five Generic Competitive Strategies

a. The target niche is big enough to be profitable and offers good growth potential
b. Industry leaders do not see that having a presence in the niche is crucial to their own
success
c. It is costly or difficult for multi-segment competitors to put capabilities in place to meet
specialized needs of the target market niche and at the same time satisfy the expectations
of their mainstream customers
d. The industry has many different niches and segments
e. Few, if any, other rivals are attempting to specialize in the same target segment

D. The Risks of a Focused Low-Cost or Focused Differentiation Strategy

1. Focusing carries several risks such as:

a. The chance that competitors will find effective ways to match the focused firm’s capabilities
in serving the target niche
b. The potential for the preferences and needs of niche members to shift over time toward the
product attributes desired by the majority of buyers
c. The segment may become so attractive it is soon inundated with competitors, intensifying
rivalry and splintering segment profits

VI. Best-Cost Provider Strategies

1. Best-cost provider strategies aim at giving customers more value for the money. The objective is
to deliver superior value to buyers by satisfying their expectations on key
quality/service/features/performance attributes and beating their expectations on price.

CORE CONCEPT

Best-cost provider strategies are a hybrid of low-cost provider and differentiation strategies
that aim at satisfying buyer expectations on key quality/features/performance/service attributes
and beating customer expectations on price.

2. A company achieves best-cost status from an ability to incorporate attractive attributes at a

lower cost than rivals.

3. Best-cost provider strategies stake out a middle ground between pursuing a low-cost advantage
and a differentiation advantage and between appealing to the broader market as a whole and a
narrow market niche.

4. Concepts & Connections 5.4 describes how Toyota has applied the principles of a best-cost
provider strategy in producing and marketing its Lexus brand.

Concepts & Connections - 5.4 Toyota’s Best-Cost Producer Strategy for Its Lexus Line

Discussion Question: Discuss how Toyota has been able to achieve its low-cost leadership status
in the industry.

Answer: Toyota has achieved low-cost leadership status because it has developed considerable
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Chapter 05 - The Five Generic Competitive Strategies

skills in efficient supply chain management and low-cost assembly capabilities and because its
models are so well-positioned in the low-to-medium end of the price spectrum. These are
enhanced by Toyota’s strong emphasis in quality.

A. When a Best-Cost Provider Strategy Works Best

1. A best-cost provider strategy is very appealing in markets where buyer diversity makes product
differentiation the norm and where many buyers are also sensitive to price and value.

2. A best-cost provider usually needs to position itself near the middle of the market with either a
medium-quality product at a below-average price or a high-quality product at an average or
slightly higher-than-average price.

B. The Danger of an Unsound Best-Cost Provider Strategy

1. The danger of a best-cost provider strategy is that a company using it will get squeezed between
the strategies of firms using low-cost and differentiation strategies.

2. To be successful, a best-cost provider must offer buyers significantly better product attributes in
order to justify a price above what low-cost leaders are charging.

VII. Successful Competitive Strategies are Resource Based

1. For a company’s competitive strategy to succeed in delivering good performance and the
intended competitive edge over rivals, it has to be:

a. Well-matched to a company’s internal situation

b. Supported by an appropriate set of resources
c. Powered by know-how and competitive capabilities.

Assurance of Learning Exercises

1. Best Buy is the largest consumer electronics retailer in the United States with 2012 sales of more
than $50 billion. The company competes aggressively on price with rivals such as Costco Wholesale,
Sam’s Club, Walmart, and Target, but is also known by consumers for its first-rate customer service.
Best Buy customers have commented that the retailer’s sales staff is exceptionally knowledgeable
about products and can direct the customer to the exact location of difficult to find items. Best Buy
customers also appreciate that demonstration models of PC monitors, digital media players, and
other electronics are fully powered and ready for in-store use. Best Buy’s Geek Squad tech support
and installation services are additional customer service features valued by many customers.

How would you characterize Best Buy’s competitive strategy? Should it be classified as a low-cost
provider strategy? a differentiation strategy? a best-cost strategy? Explain your answer.

Response:

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Chapter 05 - The Five Generic Competitive Strategies

Students are likely to conduct research regarding Best Buy (www.bestbuy.com) and may provide
information such as the following. Best Buy is a specialty retailer offering a wide variety of consumer
electronics, home office products, entertainment software, appliances and related services.

Students are most likely to conclude Best Buy’s competitive strategy should be classified as a
differentiation strategy based on serving the unique needs of their customers. According to the Web
site, the company states its strategy is based on “customer centricity.” This strategic approach
centers on “three core philosophies: inviting our employees to contribute their unique ideas and
experiences in service of customers; treating customers uniquely and honoring their differences;
and meeting customers’ unique needs, end-to-end.” The company strives to inspire their employees
to have richer interactions with customers and to understand them better than their competitors so
the company can compete more effectively for customers’ loyalty than either mass merchants or
purely online players. Examples of this include providing: a wide variety of products and services; a
unique arrangement of products and services in the stores (demonstration models of PC monitors,
MP3 players, and other electronics are fully powered and ready for in-store use); multi-channel
shopping (Web site); and the Geek Squad (provides residential and commercial repair, support and
installation services.

2. Concepts & Connections 5.1 discusses Walmart’s low-cost advantage in the supermarket industry.
Based on information provided in the illustration, explain how Walmart has built its low-cost
advantage in the supermarket industry and why a low-cost provider strategy is well-suited to the
industry.

Response:

Students should consider how Walmart has optimized their company’s logistics and supply chain
management in order to gain competitive advantage through low cost. By achieving a lower cost
than other industry competitors, Walmart is able to choose a pricing strategy that either allows
them to gain market share through lower prices than industry rivals or higher profits through
matching industry rival’s prices. A low-cost strategy is well suited to this industry due to the cost
conscious nature of the industry’s customer base.

3. Stihl is the world’s leading manufacturer and marketer of chain saws with annual sales exceeding $2
billion. With innovations dating to its 1929 invention of the gasoline-powered chain saw, the
company holds more than 1,000 patents related to chain saws and outdoor power tools. The
company’s chain saws, leaf blowers, and hedge trimmers sell at price points well above competing
brands and are sold only by its network of some 8,000 independent dealers.

How would you characterize Stihl’s competitive strategy? Should it be classified as a low-cost
provider strategy? a differentiation strategy? a best-cost strategy? Also, has the company chosen to
focus on a narrow piece of the market or does it appear to pursue a broad market approach? Explain
your answer.

Response:

Students should recognize that Stihl has selected two areas of the value chain – distribution and
marketing, sales, and customer service activities – as key drivers of its differentiation strategy.

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Chapter 05 - The Five Generic Competitive Strategies

In reviewing the opening page of its Web site, the first link on the site is “Dealer Locator.” In
responding to a FAQ – Can I buy Stihl products on your Web Site, the answer is: “Genuine STIHL
products, parts and accessories are only sold through authorized STIHL Dealers. Now you can
reserve items at your local STIHL Dealer, right from your computer! STIHL has a large selection of
equipment and accessories to choose from, and with STIHL Express, you can ensure all the items you
want are in stock, assembled and ready to run when you arrive. To find out if your local Dealer is
participating in STIHL Express, use the Dealer locator on our Web site.” This clearly emphasizes the
unique distribution approach of Stihl.

Students should next suggest that of the four routes to deliver unique buyer value, Stihl most likely
achieves this by differentiating on the basis of competencies and competitive capabilities that rivals
cannot afford to match and through servicing a narrow piece of the market.

In an interview with Mr. Hans Peter Stihl, Chairman of the Advisory Board, he stated that four
factors played a key role in the success of the company. In addition to giving priority to the quality of
the products, another factor that contributed to the company’s success was to assume direct
responsibility for distribution and sales. Mr. Stihl stated that focusing on a distribution philosophy of
selling exclusively through servicing dealers was essential since mass merchandisers were not in a
position to provide optimal advice and handle technical service and parts support. The company
supports this by indicating that all Stihl dealers service their equipment. The Web site also indicates
dealer locations that have at least one service technician on-site who is factory certified with the
highest level of training to service Stihl equipment.

4. Explore BMW’s website at www.bmwgroup.com and see if you can identify at least three ways in
which the company seeks to differentiate itself from rival automakers. Is there reason to believe
that BMW’s differentiation strategy has been successful in producing a competitive advantage? Why
or why not?

Response:

The student’s research should include the following elements:

Innovation and Technology – The student should be able to identify a strong capability in new
technology development as a core component in BMW’s strategy. They focus on their ‘connected’
people as a driver for technology development and support them with various IT based
collaboration and innovation tools.

The following phrase taken from their website highlights BMW’s commitment to innovation and
customer perception:

The BMW Group is the most successful premium manufacturer in the automobile industry. One of
the key prerequisites for this success was and is the permanent technological innovation leadership
in automobile construction, as perceived by the customer (BMW Group, 2011).

Production – The student should next be able to identify a strong capability in flexible and efficient
product as a core component of BMW’s strategy. The production pages highlight intelligent
cooperation among production sites providing the company with agility and economy.

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Chapter 05 - The Five Generic Competitive Strategies

The following phrase taken from their website highlights BMW’s commitment to product excellence
and customer satisfaction:

70,000 employees in the BMW Group production ensure that every customer receives his tailor-
made vehicle on time and with the high quality expected. Employees in our plants use the most
modern technology to create customized automobiles and motorcycles from thousands of parts
(BMW Group, 2011).

Focus on people as the source of production excellent – exceptional people supported by state of
the art production facilities and flexible work schedules producing exceptional automobiles.

Differentiation Strategy – Taken together, the focus on product innovation and production
excellence help BMW achieve their differentiation strategy of providing “Premium products and
premium services for individual mobility” (BMW Group, 2011). Critically, BMW clearly recognizes
that the source of innovation and excellence within their organization is their people. Based upon
continued market growth and strong sales, the student should find BMW’s differentiation strategy
to be successful.

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