Strategic Management: Competitive Advantage and Industry Analysis

Competitive Advantage

Competitive Advantage: Superior performance* relative to other competitors in the same industry or the industry average.

Sustainable Competitive Advantage: Outperforming* competitors or the industry average over a prolonged period.

Competitive Disadvantage: Underperformance* relative to other competitors in the same industry or the industry average.

Competitive Parity: Performance* of two or more firms at the same level.

Competitive advantage is always relative, not absolute.

To assess competitive advantage: Compare firm performance to a benchmark – the performance of other firms in the same industry or an industry average.

Competitive advantage arises from being able to create more economic value: This is the pie that is available to be divided up!

Creating more economic value: Often manifests in other performance measures like higher market share and greater profits.

PESTEL Framework

The PESTEL Framework groups environmental factors into six segments: Political, Economic, Sociocultural, Technological, Ecological, and Legal.

PESTEL factors can create:

• Opportunities
• Threats

Not all factors are important to all firms all the time. Strategy should focus on the most relevant first.

Political Factors

Processes and actions of government bodies. Firms can shape this factor through lobbying, public relations, and contributions.

Legal Factors

Official outcomes of political processes: laws, mandates, regulations, and court decisions. Industry regulations/deregulations affect many industries: finance, airlines, telecom, energy, and trucking.

Economic Factors

Macro-economic factors such as growth rates of firms and the economy, levels of employment, interest rates, price stability, and currency exchange rates.

Sociocultural Factors

Cultural preferences and norms change over time and differ across groups of consumers. Demographic trends and population characteristics are related to age, gender, language, socioeconomic class, etc. These present opportunities and threats.

Technological Factors

Technological innovations can affect firms and industries. Innovations in process technology include AI, lean manufacturing, Six Sigma quality, and biotechnology. Innovations in product technology include smartphones, computer tablets, and high-performing electric cars such as the Tesla Model S.

Ecological Factors

Involve environmental issues, such as the natural environment, global warming, and sustainable economic growth. These also provide business opportunities.

Not all factors are important to all firms all the time. Strategy should focus on the most relevant.

Five Forces Framework

Underlying the Five Forces Framework: A firm’s profits depend on its bargaining position with its buyers and sellers. The stronger its position, the higher its profits.

A firm’s bargaining position is weakened by:

• “Strong” buyers and suppliers
• Intense within-industry competition
• High threat of entry and substitutes

Suppliers and Buyers

Bargaining power of suppliers increases when:

• There are a few large suppliers and the buying firms are small.
• Substitute materials are not available.
• Buying firms are not a significant customer for the suppliers.
• Suppliers’ goods are essential to the buyer.
• There are high switching costs for the buyers to change suppliers.
• Suppliers can integrate forward into the buyers’ industry.

Bargaining power of buyers: parallel arguments.

Threat of Substitutes

Products or services outside an industry meeting the needs of current customers.

Examples: H&R Block vs. TurboTax, energy drinks vs. coffee, and videoconferencing vs. business travel.

The threat is high if the substitute offers an attractive price-performance trade-off and the buyer’s cost of switching to the substitute is low.

Threat of Entry

The risk that potential competitors can successfully enter an industry. This lowers industry profit potential because incumbents lower prices and incumbents spend more to satisfy existing customers.

Entry barriers are obstacles blocking other firms from entering.

Potential Entry Barriers

Economies of scale, capital requirements, network effects, customer switching costs, learning curve, access to distribution channels/suppliers, government policy, and a credible threat of retaliation.

Within-Industry Rivalry

The intensity with which companies in the same industry jockey for market share and profitability. Other forces put pressure on this rivalry: the stronger the forces, the higher the intensity of price competition.

Intensity is determined by competitive industry structure, industry growth, strategic commitments, and exit barriers.

VRIO Framework

• Value: Do a firm’s resources enable the firm to increase its economic value creation (V – C)?
• Rareness: How many competitor firms already possess these resources?
• Imitability: How costly/difficult is it for firms without that resource to obtain it?
• Organized: Does the firm with the resource have the appropriate structure and systems?

Value Chain

A “process map” of internal activities a firm engages in when transforming inputs into outputs. Each activity adds incremental value: it helps increase willingness to pay and/or decrease cost. Primary activities directly add value. Support activities add value indirectly.

Economic Value Creation

The difference between a buyer’s willingness to pay for a product/service (V) and the firm’s total cost to produce it (C). Competitive advantage can be based on economic value creation because of superior products (V increases) or a relative cost advantage over rivals (C decreases).

What Happens to Economic Value Created?

It is divided between the consumer and the firm.

• Profit or producer surplus: The difference between the price charged (P) and the cost to produce (C).
• Consumer surplus: The difference between what the customer would have been willing to pay (V or WTP) and what the customer paid (P).

How Does Consumer Surplus Matter?

It affects the consumer’s purchase decision. Consumers typically purchase the product with the highest consumer surplus, not the lowest price.

Limitations of Economic Value Creation

Determining WTP is not easy. It is hard to estimate if a firm has many products.

Types of Competitive Advantage

• Differentiation Advantage: Increasing willingness to pay (V) while keeping cost (C) comparable to competitors. Usually, firms translate this advantage to profits by charging higher prices.
• Cost Advantage: Decreasing cost (C) while keeping willingness to pay (V) comparable to competitors. Usually, firms translate this advantage to profits by charging lower prices.
• Dual or Integrated Advantage: Increasing WTP (V) and decreasing cost (C) comparable to competitors.

Differentiation Value Drivers

Product (or service) features, interaction with the customer, and complementary products or services.

Sources of Cost Advantage

Economies of scale, economies of scope (more in Ch. 8), learning curve, lower input costs, technology, product design, and policy choices.