1. PowerPoint Presentation by Charlie Cook Gordon Walker McGraw-Hill/Irwin Copyright © 2004 McGraw Hill Companies, Inc. All rights reserved. Chapter 2 Competitive Advantage

2. 2–2 What is Competitive Advantage? The goal of strategic thinking The goal of strategic thinking The focus of entrepreneurial action The focus of entrepreneurial action The motivation for top management’s vision for the firm’s future The motivation for top management’s vision for the firm’s future The result of a combination of effective marketing positioning and defense against competitors The result of a combination of effective marketing positioning and defense against competitors

3. 2–3 What Determines Economic Performance? Macro-economic factors Macro-economic factors –The business cycle –Interest rates –Exchange rates Industry factors Industry factors –Buyers, suppliers, competition, substitutes Business strategy Business strategy –Sustained differences in market position within an industry

4. 2–4 Strategic Terms Economic contribution Economic contribution –The difference between the product’s value and its cost to the firm Resource Resource –A relatively stable, observable, tradeable asset owned by the firm and one that contributes to the firm’s performance. »Examples: A patent or combination of patents, a brand, a geographical location (retailing), or a dealer network

5. 2–5 CapabilitiesCapabilities Capability Capability –Is the ability of a firm to use its organization and people to accomplish tasks at a high level of expertise continuously over time. »Practices leading to superior quality, consistent just- in-time delivery, customer service or pricing –Cannot be traded without trading the company or the unit where the capability is enacted

6. 2–6 Elements of Competitive Advantage Positioning the product line more effectively than competitors Positioning the product line more effectively than competitors – Creates a higher economic contribution » Contribution = value minus cost Defending the sources of the market position against rivals Defending the sources of the market position against rivals –Customer retention –Isolating mechanisms Both are necessary and neither is sufficient. Both are necessary and neither is sufficient.

7. 2–7 Competitive Advantages Value advantage Value advantage –Investments in raising product value improve the firm’s performance when customers that are most likely to buy are value sensitive. Cost Advantage Cost Advantage –Investments in lowering costs improve the firm’s performance when customers that are most likely to buy are price sensitive.

8. 2–8 Building Competitive Advantage Figure 2.1

9. 2–9 The Distribution of Economic Contributions between Buyer and Supplier Figure 2.2

10. 2–10 Competitive Positioning Strategies Generic strategies Generic strategies –Differentiator »Investing in value (features or low cost) »Developing either a road or a narrow (niche) market focus –Cost leader »Investing to achieve the lowest costs –Stuck in the middle »Being neither a differentiator or cost leader

11. 2–11 Tradeoff between Differentiation and Low-Cost Generic Strategies Figure 2.3 Assumption 1: SIM firm cannot compete on value with the D firm or on cost with the LC firm. Assumption 2: SIM firm’s customer base prevents it from improving its competitive position.

12. 2–12 The Internet Brokerage Industry: Selected Firms (Fall 2000) Table 2.1a

13. 2–13 The Internet Brokerage Industry: Selected Firms (Fall 2000) Table 2.1b

14. 2–14 The Internet Brokerage Industry Figure 2.4 Worth of competitive advantage

15. 2–15 What Are Value and Cost? Definition of value Definition of value –Willingness to pay: The highest price a customer would be willing to pay for a product in the absence of a competing product and in the the context of other purchasing opportunities Definition of cost Definition of cost –The marginal cost to produce a unit of the product with a particular level of value.

16. 2–16 Value or Cost Advantage? Pursue value investments when: Pursue value investments when: –New customers are likely to adopt the product –Large numbers of customers are value-sensitive –Returns on increasing value are higher than returns on reducing costs to compete on price

17. 2–17 Value or Cost Advantage? (cont’d) Pursue cost reductions when: Pursue cost reductions when: –Reducing price increases demand and revenues –Reductions increase margins without the necessity of price increases or maintain margins if prices fall –Marginal customers are price-sensitive –Value improvements are costly, difficult, or easily duplicated by competitors

18. 2–18 Value and Cost Drivers Table 2.2

19. 2–19 Examples of Value Drivers Customization Customization –Menu-driven product design Geography Geography –Location, scope Risk assumption Risk assumption –Warranties Brand and reputation Brand and reputation –Signals of price or quality Network externalities Network externalities –Common communication standard Environmental policies Environmental policies –Sustainable practices Complements Complements –DVD players and DVD disks

20. 2–20 Examples of Value Drivers (cont’d) Quality Quality –Durability, reliability, aesthetics Delivery Delivery –Just-in-time production systems Service Service –Responsiveness, problem solving Technology Technology –Functionality, features Breadth of line Breadth of line –Potential benefits: one-stop shopping, interchangeable parts, interface compatibility

21. 2–21 Cost Drivers Scale economies Scale economies –Competitive advantage that results from average costs declining as volume increases based on high sunk costs or high recurring fixed costs. Scope economies Scope economies –Competitive advantage gained when the cost of producing two products together (using the same resources and capabilities) is lower than the cost of producing them separately.

22. 2–22 Cost Drivers (cont’d) Learning curve Learning curve –Competitive advantage that accrues from costs declining with cumulative volume increases as learning takes place and practices improve. Lower input costs Lower input costs –Firms with lower resource inputs costs are competitively better positioned to take advantage of industry opportunities and to absorb changes in the costs of inputs than competitors with higher resource cost structures.

23. 2–23 Cost Drivers (cont’d) Vertical integration Vertical integration –For specialized tasks, coordination costs are lower within the firm than with a market supplier. Organizational practices Organizational practices –Firms develop process innovations to lower costs in all activities.

24. 2–24 Defending against Competitors Isolating mechanisms Isolating mechanisms –Factors that reduce imitation and increase switching costs are used by a firm to defend its market position. –A firm aligns these mechanisms with its value and cost drivers, and with its resources and capabilities that produce these drivers. –Without these mechanisms, competitive forces would quickly eat up the firm’s profit.

25. 2–25 Isolating Mechanisms for Defending Against Competitors Increasing Customer Retention Increasing Customer Retention –Search costs –Transition costs –Learning costs Preventing Imitation Preventing Imitation –Property rights –Dedicated assets –Causal ambiguity –Learning costs Table 2.3

26. 2–26 Barriers to Imitation Property rights Property rights –Patents, trademarks, asset ownership Dedicated assets Dedicated assets –Exclusive distribution channels or suppliers Causal ambiguity Causal ambiguity –The difficulty in copying a internalized capability because it cannot be modeled Learning and development costs Learning and development costs –Created by causal ambiguity, sunk costs, complementary practices within the firm, and history-dependent capabilities

27. 2–27 Increasing Customer Retention: Switching Costs Search costs Search costs –High for products whose value is apparent only when the product is experienced. Transition costs Transition costs –Costs associated with the interval between removal of old equipment and installation of new equipment Learning costs Learning costs –Training and lost productivity costs incurred in adopting a new product

28. 2–28 SummarySummary Competitive advantage comes from the combination of superior market positioning and the ability to defend the position from the competition. Competitive advantage comes from the combination of superior market positioning and the ability to defend the position from the competition. Superior market positioning is based on more value produced more efficiently than competitors. Superior market positioning is based on more value produced more efficiently than competitors. Value and cost drivers are determined by the firm’s resources and capabilities. Value and cost drivers are determined by the firm’s resources and capabilities. Defending against competitors depends on erecting barriers to imitation and retaining customers. Defending against competitors depends on erecting barriers to imitation and retaining customers.