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Competitive Advantage

Author: Michael Porter

Instructor: Wesley Shu

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How a firm can actually create and sustain a competitive advantage in its industry

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Two Basic Types

• Cost leadership

• Differentiation

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Value Chain

• Identify which activities contributing to cost leadership and differentiation

• Analyze the source of competitive advantage

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Value Chain

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Procurement

Firm Infrastructure

Human Resource Management

Technology Development

PrimaryActivities

SupportingActivities

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Primary Activities

• Inbound LogisticsReceiving, storing, and disseminating inputs. E.g., warehousing, inventory control

• OperationsTransforming inputs into the final product form

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Primary Activities• Outbound Logistics

Collecting, storing and distributing the product to buyers

• Marketing and SalesProviding a means and incentive which allow buyers to purchase the product

• ServiceProviding service to enhance or maintain the value of the product

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Primary Activity Focus by Industry

Industry Inbound Logistics

Operations Outbound Logistics

Marketing & Sales

Service

Distributor X X

Restaurant X NA

Corporate Lending

X

Xerox X

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Support Activities

• ProcurementFunction of purchasing inputs used in the value chain

• Technology Development

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Support Activities

• Human Resource Management

• Firm Infrastructure

planning, finance, accounting, legal, etc.

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Competitive Scope

• Segment ScopeDifferences required to serve different product or buyer segment

• Vertical ScopeDivision of activities between a firm and its suppliers, channels, and buyers

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Competitive Scope

• Geographic ScopeDifferent geographic areas

• Industry ScopeInterrelationships among business units

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“Generic” Competitive Advantage

• Cost Leadership

• Differentiation

• Focus

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Competitive Strategies

Competitive Advantage

Lower Cost Differentiation

Com

petitive S

cope

Broad

Target

Cost Leadership

Differentiation

Narrow

Target

Cost Focus Differentiation Focus

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Cost Leadership Strategy

• Make cost assignment

• Identify cost drivers

• Understand cost dynamics

• Control cost drivers

• Reconfigure the value chain

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Operating Cost Assignment

Firm Infrastructure (9%)

Operations (67%)

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3%)

(27%)

(40%)

Procurement (1%)

Human Resources Management (2%)

Technology Development(9%)

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6%)

OutboundLogistics (1%)

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(5%

)S

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1%)

Purchased Operating Inputs

Human Resource Costs

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Asset AssignmentFirm Infrastructure (16%)

Operations (67%)Inbound Logistics

(38%)

(8%)

Procurement (2%)

Human ResourcesManagement (1%)

Technology Development(2%)

Marketing & Sales (1%)

OutboundLogistics (1%)

Ser

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(2%

)

(15%)Liquid Assets

Fixed Assets

(5%)

(6%)

(2%)

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Cost Leadership – Cost Drivers

• Economies or diseconomies of scale

• Learning and spillover

• Pattern of capacity utilization

• Linkages How other activities are performed– Linkages within the Value Chain– Vertical Linkages

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Cost Leadership – Cost Drivers

• InterrelationshipsWith other business units within a firm

• IntegrationVertical integration in a value activity

• Timing

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Cost Leadership – Cost Drivers

• Discretionary policiesPolicies that reflect a firm’s strategy

• Location

• Institutional factorse.g., government regulations, financial incentives, unionization, etc.

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Identify Cost Drivers

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Cost Dynamics

• What cause the change of cost drivers

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Cost Dynamics

• Industry real growth

• Differential scale sensitivity

• Different learning rates

• Differential technological change

• Relative inflation of costs

• Aging

• Market adjustment

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How to Achieve Cost Advantage

Cost Position

composition of afirm’s valuechain versuscompetitors’

Cost Advantage

a firm’s relativeposition vis-à-visthe cost driversof each activity

Reconfigure thevalue chain

Control costdrivers

achieve

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Analyze Cost Advantage

Your costAdvantage

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Procurement

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Control Cost Drivers

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Reconfigure the Value Chain

• Reconfiguration of the value chain presents the opportunity to fundamentally restructure a firm’s cost, compared to settling for incremental improvements.

• By altering the basis of competition in a way that favors a firm’s strengths, it may change the important cost drivers in a way that favors a firm.

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Steps in Strategic Cost Analysis1. Identify the appropriate value chain and

assign costs and assets to it.2. Diagnose the cost drivers of each value

activity and how they interact.3. Identify competitor value chains, and

determine the relative cost of competitors and the sources of cost differences.

4. Develop a strategy to lower relative cost position through controlling cost drivers or reconfiguring the value chain and/or downstream value.

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Cost Focus

A firm dedicates its efforts to a well-chosen segment of an industry can often lower its costs significantly.

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Differentiation

• Emphasize on a unique source of differentiation in the Value Chain, rather than on products or markets only

• Differentiation base on buyers’ value, not only difference that buyers do not value

• Should consider the cost of differentiation

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Uniqueness Buyers’ ValueDifferentiation

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Identify Sources of Differentiation

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Your strength which canlead to differentiation and

then improve buyers’ value

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Drivers of Uniqueness

• Policy Choices• Linkages

– Linkages within the value chain– Supplier linkages– Channel linkages

• TimingBe the first

• Location

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Drivers of Uniqueness

• InterrelationshipSharing a value activity with sister business units. E.g., sharing a sales force for both insurance and other financial products

• Proprietary learning• Integration – e.g., integrating online systems

to current ordering systems• Scale• Institutional factors – e.g., “Madame’s route”

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Why buyers purchase?

Purchasing Criteria

• User criteria – firms to meet them by lowering cost or raising buyer performance

• Signaling criteria

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Differentiation for creating Buyer Value by• Lowering buyer cost• Raising buyer performance• Signaling the value

• Linking the firm’s value chain to the buyer’s value chain

Through

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Steps in Differentiation

1. Determine who the real buyer is2. Identify the buyer’s value chain and

the firm’s impact on it3. Determine ranked buyer purchasing

criteria4. Assess the existing and potential

sources of uniqueness in a firm’s value chain

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Steps in Differentiation5. Identify the cost of existing and potential

sources of differentiation6. Choose the configuration of value activities

that creates the most valuable differentiation for the buyer relative to cost of differentiating

7. Test the chosen differentiation strategy for sustainability

8. Reduce cost in activities that do not affect the chosen forms of differentiation

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Discussion: Red Ocean to Blue Ocean

Porter’sStrategy

BOSBPR

Porter’sStrategy

BOS

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Other Discussion

• Creative Industries

• Supply Chain Management

• What is “Buyer’s Value Chain”?