Strategic Positioning for Competitive Advantage

Prof. Rushen Chahal

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Competitive Advantage
Def: When a firm earns a higher rate of economic profit than the average rate of economic profit of other firms competing within the same market.
Profitability does not only vary across industries, but varies within a particular industry. A group of firms are in the same market if one firms production, pricing, and marketing decisions materially affect the prices that other in the group can charge, except for perfectly competitive markets. A firms economic profitability within a particular market depends on the economic attractiveness or unattractiveness of the market in which it competes and on its competitive position in that market.

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5 Forces of Competitive Advantage

First Steps:
Benefit position relative to competitors Cost position relative to competitors

Second Steps:
Market economics Value created relative to competitors

Third Step:
Economic profitability

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 A firms profitability depends jointly on the economics of its market and its success in creating more value than its competitors. Whether a firm has competitive advantage or disadvantage depends on whether the firm is more or less successful than rivals at creating and delivering economic value.

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What is more important for profitability: the market or the firm

The economics of the firms market and the firms positioning in that market jointly determine the firms profitability. By using standard accounting measures taking a broad sample of different companies or businesses units over a broad period of time you can calculate the different profitability of each.

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 Within industries: the marketing effect Across industries: the positioning effect Market effect: the effect of the market environment on the profitability Positioning effect: the effect of a firm or business units competitive industry. Through the calculation, which ever varies the most, the marketing or positioning affect, determines which is matters more for profitability for your company. The profitability of business units varies within the same industry and across industries. Even though you can measure portions of the market with numbers, there are other immeasurable circumstances the happen within the industry.

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Analytical Tools and Conceptual Foundations

The purpose of a business is to create a customer. This is done by creating and delivering economic value. They survive and prosper when they capture a portion of this value in the form of profits.

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Consumer Supply
Consumer Surplus: the perceived benefit of a product per unit consumed minus the products monetary price. Ex.) A pair of shoes is worth $150 to you. If its market price is $80 you would buy it because it is perceived worth is ($150), exceeds its cost ($80).
($150-$80)= $70 consumer surplus

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Maximum Willingness-to-Pay
B= dollar measure of what one unit of the product is worth to a particular consumer, or equivalently the consumers maximum willingness-to-pay for the product Ex.) Producer of soft drinks have the choice of corn syrup or sugar for sweeteners. These products are looked at as equal substitutes by the final consumer. The maximum willingness to pay for corn syrup depends on the current market price of sugar vs. the current market price of corn syrup. The maximum willingness-to-pay is determined by asking the question: At what price is the consumer just indifferent between buying the product and going without it? Virtually in all markets the willingness-to-pay for a product will vary from consumer to consumer.

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Indifference Curve
Indifference Curve: the set of price-quality combinations that yields the same consumer surplus to an individual Everything above the indifference curve is lower consumer surplus. If the products price-quality combination is above the curve, the likelihood of consumers buying the product is low. Placed below the curve is considered high consumer surplus, the likelihood of consumer buying the product is high. A firm that offers a consumer less surplus than its Page 10 rivals will lose the fight for that consumers business.

 Consumer surplus parity occurs when firms are offering a consumer the same amount of consumer surplus. This is achieved by a firms price-quality positions line up along the same indifference curve. When consumer surplus parity is achieved in market no consumer as incentive to switch from one seller to another. Market share will be stable.

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Slope of an Indifference Curve

The steepness of an indifference curve indicates the tradeoff between price and quality a consumer is willing to make. A steeply sloped indifference curve indicated a consumer is willing to pay more for additional quality. Shallow indifference indicated that extra quality is not worth much to the consumer.

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Positioning on an Indifference Curve

Firms that overestimate the willingness of consumers to trade off price for quality risk overpricing their products. This will result is a loss in market shares to competitors or never becoming a viable competitor. Firms can also underestimate the willingness of consumers to trade off price and quality.

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Value Created
Economic value is created through production and exchange in the market place. economic value= labor + capital + raw material+ purchased components. Benefits(B) exceed costs (C) of producing the product. B= the value that consumers derive from the product C= the value that is sacrificed when inputs are converted in to a finished product. The economic value= B-C

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Win-Win Business Opportunities

No product can be viable without creating positive economic value. If B-C was negative, there would be no price that consumers would be willing to pay for the product. Profit will be unattainable if B-C is negative. Due to changes in taste and technology, negative economic value may occur in industries.

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 When B-C is positive, a firm can profitably purchase inputs from suppliers, convert them into finished product, and sell it to consumers. When B>C, win-win deals will always be achieved by all parties involved, the firm, supplier and consumer.

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Value Creation
It is necessary for a product to be economically viable, it does not guarantee a profit. In highly competitive markets firms will compete for consumers by bidding down their price to the point of 0 economic profit. To achieve positive economic profit in a highly competitive industry firms must create more economic value to their products than their rivals. The firm with the advantage in this competition is the one that has the highest B-C.

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Analyzing Value Creation

Diagnosing the sources of value creation requires an understanding of why the firms business exists and what its underlying economics are. This involves what drives consumer benefit and what drives cost.
Consumer Benefits: how the firms products serve consumer needs better than potential substitutes. Drives Cost: which costs are sensitive to production; how costs vary with nonproduction activities; how costs change with experiences.

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Value Chain
The value chain is a series of value adding activities such as production operations, marketing, sales, and logistics. These operations utilize economy of size and scope, as well as , technical and agency efficiencies.

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Value Creation, Resources, and Capabilities

There are two ways in which is firm can create more economic value than the other firms in the industry. Configure value chain differently from competitors. Create superior economic value can be found by configuring its value chain similarly to its rivals.
They can do this by performing activities in the value chain more effectively than its rivals.

Firms specific assets/resources: patents/trademarks, brand name reputation, staff. Resources can directly affect the ability of a firm to create more value than other firms. Capabilities: activities that firms specialize in.

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 Common Key Characteristics Typically valuable across multiple products or markets. Firm specific routines Difficult to reduce to simple algorithms or procedure guides.

Key Success Factors= skills and assets that achieve profitability in certain markets. Resources, capabilities, and key success factors are all predictors of a firms profitability.
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Value Capture and the Role of Industry Economics

Creating wealth for owners Firm must capture the value it creates in the value of economic profit. Profitability depends on: Position in the industry Attractiveness or unattractiveness of its industry

Firms at different stages on the vertical chain may succeed more than others.

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Strategic Positioning/Generic Strategies

There are no formulas to calculate competitive advantage. Similar firms can create competitive advantages within an industry. Types of Advantages:
Cost leadership Benefit leadership Focus

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The Importance of Price Elasticity of Demand

Horizontal differentiation: likely to be strong when there are many product attributes that consumer weigh in assessing the overall benefit(B).
Lowering the price or boosting quality will attract some consumers, but others will not switch unless the differential in price or quality is large enough.

Margin Strategy: firm maintains price parity with its competitors and profits from its cost advantage primarily through high price-cost margins, rather than through higher market shares.

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 When horizontal differentiation is weak a firm will use a share strategy. Share Strategy: The firm under-prices its competitors to gain market shares at their expense

Many firms will use a combination of mixed strategy.

Mixed Strategy: cutting price to gain share, but also banking some of the cost advantage through higher margins

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Stuck in the Middle

Stuck in the Middle: A firm that has neither a cost advantage nor a benefit advantage in the market in which it competes. Firms that are stuck in the middle are typically much less profitable than competitors that have stakes out a clear position of benefit leadership or cost leadership Firms often end up stuck in the middle because they fail to make choices about hoe to position themselves in the markets in which they compete.

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 Efficiency frontier: the lowest level of cost that is attainable to achieve a given level of differentiation, given the available technology. Firms that are closer to the frontier are generally more profitable than those that are further away.

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Segmenting an Industry
Segments are industries broken down into smaller pieces. Industry segments can be characterized by two dimensions
The varieties of the products offered by the firms that compete in the industry The different types of customers that purchase those products.

Differences among segments:

Customer economics Supply condition Segment size

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Broad Coverage Strategies

Broad coverage strategy seeks to serve all customer groups in the market by offering a full line of related products. Economics of scope might come from production if the products share common production facilities or components.

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Focus Strategy
Focus Strategy: Targeting strategy that concentrates either on offering a single product or serving a single market segment or both.

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Common Focus Strategies

Customer Specialization Offer an array of product varieties to a limited class of customers Cater to the particular needs of a group Product Specialization Offers limited set of products to an array of different customers A good job satisfying a subset of the needs of the groups Geographic Specialization Offer a variety of products and/or sell to a variety of customer groups within a narrow geography.

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