STRATEGIC MANEGEMENT

GROUP NUMBER – 9

CIA 1

COMPONENT – II

Article: Creating Competitive Advantage

Submitted to : Submitted by :

Prof. Nisha Ninan and Prof. David Mounika Routarya – 1727951

Shriya Janardhan – 1727958

Syeda Neha – 1727860

R Rahul – 1727823

Gotrala Vamsi Ganesh – 1727914

Krishna Sankar Bommisetty – 1727919

Vemulapalli Sravya – 1727961

Concepts highlighted by author

 Creating competitive advantage and sustaining the advantage are treated as two
different concepts.
But in reality the advantage for a firm only determines the status of sustainability the
firm. To explain this relation between them in detail the author gave example of Intuit
which created its competitive advantage through “Quicken” . This not just helped in
sustaining the advantage which in return helped to compete with its rivals like
Microsoft.
 Industry also has a key role in determining whether there are any possibilities to have
competitive advantage in the market or not. According to author, Industry has so much
of importance as companies to have competitive advantage move from unattractive to
attractive features for which scope of industry is to be analysed.
 According to author, any unique ideas doesn’t come from analysis but from
entrepreneurial insights, trail and error.
 The author even links competitive advantage with value creation and distribution which
are added values, concept introduced by Adam Brandenburger, Barry Nalebuff and
Harbone Stuart
 Author explained about customer’s willingness to pay and supplier’s opportunity cost
using an example of Portal cranes business of Harnischfeger industries where these
products are mainly designed to carry entire tree length logs off of railcars and trucks.
The company was making profits despite of large gap between costs to company and
customer benefits.
In this example customer willing to pay is $7.5 million and supplier’s opportunity cost
is $2.5million. The total value created by transaction of sales of crane is the difference
between customer’s willingness to pay and supplier’s opportunity cost.
 Reasons why some companies generate greater profit than others.
To explain this author has took example of a pharmaceutical maker Schering-Plough
who has generated an economic profit of 10 billion during the period 1984 to 2002. The
company had generated an accounting profit which exceeded the cost of equity capital
by that amount. But in the same period, a U.S. steel company produced an economic
loss of nearly 500 million due to which its cost of capital exceeded its accounting profit
by a wide margin. Such large differences is due to the industry structure.
 Impact of industry structure on the performance
The Schering –Plough company has generated more economic profits than the U.S
.Steel company because the pharmaceutical industry is structurally more attractive
when compared to the Steel Industry .The rivalry in pharmaceutical company is muted
by factors such as Patent protection ,product differentiation and expanding demand
whereas the rivalry in steel industry is Fierce and is fueled by excess capacity ,limited
differentiation across products and slow growth .Pharmaceutical customers users
hesitate to switch brand among products while steel consumers switch brands according
to price.
 Many pharmaceuticals are made from commodities with little labour input, while
unions exercise such power in steel industries that labour costs account for quarter of
total revenue. These contracts in industry level competitive forces are one of the main
reasons that the profit levels of firms in different industries differ.
 He also throws light on how Industrial averages can mask large differences in economic
profit within Industries. Schering –Plough company was far more effective at producing
economic profit when compared to other drug makers in the period 1984-2002.But
U.S.Steel performed far worse than other steel producers .The Recent suggests that
intra –industry differences in profitability may be larger than difference across industry
.
 He suggests that in the light of this, strategists need a systematic way to understand and
analyse within industry differences in performance. It is very imperative to use the
notation of competitive advantage .A firm is said to have competitive advantage over
its rival if it has driven a wide wedge between the willingness to pay it generates among
buyers and the cost it incurs, a wider wedge than its competitors have achieved. A firm
with a competitive advantage is positioned to earn superior profits within the industry,
firstly to create an advantage a firm must configure itself to do something unique and
valuable. The firm must ensure that, if it were to disappear some one in the network of
Suppliers, Customers & complementors would miss and no one would replace it
perfectly. In this section the concept of added value is noted. Secondly the competitive
advantage is derived from the full range of the firms activities i.e., from production to
finance, from marketing to logistics acting in harmony.
  In order to create advantage it is crucial to find an integrated set of choices distinguishes
the firm from its rivals, it is also important for managers to analysis the full range of
activities in order to understand the sources of competitive advantage.
 Value added is explained in detail by considering an example of Harnischfeger who is
the sole provider of cranes whose only customer is International paper. Suppose Kranco
enters the market for portal cranes. Kranco produces an identical product that costs $2.5
Million and has supplier opportunity cost of $2 Million and it generates the willingness
to pay of $7.5Million. Hence now the added value of Harnischfeger is $0 as there is
Kranco who produces the identical product. If Harnischfeger opts out of the market,
Kranco can take its place and still generate a value of $5.5 Million.

This article also includes new concept of unrestricted bargaining, it means the amount
of value a firm can claim can’t exceed its added value.

Here the Harnischfeger added value is 0. As the value created by both Harnischfeger and
Kranco is the same i.e. $5.5 Million. Total value created is willing to pay minus the supplier
opportunity cost.

But here in this case Harnischfeger added value is $0.5 Million as the total value created by
Harnischfeger is ahead of Kranco by $0.5Million ($6 Million - $5.5 million).
The link to Competitive Advantage

The greater the firm’s added value indicated that greater is it’s potential to gain profits. A firm
makes sure that it is unique in someway or the other in terms of value which could be by having
a large network of suppliers, loyal customers, having great research and development which
helps the firm to not being easily replaced thereby helping the firm to have competitive
advantage over their competitors.

The article also tells us that there are two ways to establish advantage:

 By increasing the customer’s willingness to pay for a particular product without

incurring an increase in the supplier’s opportunity cost
 And by decreasing the supplier’s opportunity cost without decreasing the
customer’s willingness to pay for a particular product
The article also talks about the actual cost incurred rather than the opportunity cost, as actual
costs are available and concrete. Hence the added value, which in turns impacts the competitive
advantage of the firm, deals with the difference between the willingness to pay and the actual
cost.

The Tension Between Cost and Willingness to Pay

As said above there are two ways a firm could establish competitive advantage, which is not
possible in the real situation i.e. if the firm incurs higher cost in order to deliver a high quality
product to its customer’s only then would the customer would be pay more.

Hence in the real scenario, the two ways a firm could achieve competitive advantage is by:

 Raising the willingness of a customer to pay for a particular product by slightly

increasing the cost
 Or by decreasing the cost by slightly decreasing in the willingness of the customer’s to
pay for the product.
The first strategy is called as differentiation strategy and the second is called as the low-cost
strategy.

Providing superior products at a lower cost can reduce the tension between the cost and
willingness to pay. There were many examples to explain the above i.e. the Japanese
manufactures worked on decreasing their defects that made higher quality products at a lower
cost which helped them to add value to firm in turn helped them to have competitive advantage.
The example of dell is also mentioned, they developed a build-to-order model in which helped
them reduce the cost of components, inventory while also helped them boost willingness of the
customers to pay as they value customization which the model permitted. These are the
examples of dual competitive advantage.

The article also provides us with various examples that helped us understand how to resolve
the tension between cost and willingness to pay.

 Accenture is regarded as the leader in Information-Technology who worked on research

and development and training that helped them achieve competitive advantage and earn
higher profits
 Southwest Airlines also focused on budget customers and provided its customers with
low-ticket prices, point-to-point routes between midsize cities and secondary airports
and quick turnover times. All this helped Southwest Airlines to earn greater profits and
thereby helped them achieve competitive advantage
 Cirque du Soleil cut down on costly elements of the traditional circus i.e. animals and
star performers and focused more on adding cost where customer’s are willing to pay
more which helped Cirque du Soleil earn greater profits and helped them achieve
competitive advantage.

Learnings:

1) Companies belonging to different industry have different features that contribute to their
performance (profitability). These features include the intensity of factors of production (labour
or capital), the customer segments, regulations (patent protection), product differentiation etc.

2) Similar companies within the industry contribute differently based on their ability to take
advantage of market forces, using core competencies wisely and expanding their customer
base.

3) A major learning was how companies within the same industry create competitive
advantage. The competitive advantage widens with widening the gap between customer’s
willingness to pay and company’s input costs. The firm can be superior to its peers by providing
something unique and valuable which its rivals cant imitate and secondly by improving the
firm’s internal and external activities by strengthening the logistics system, using better
financial tools and promoting with better marketing activities.
4) More important than creating competitive advantage its quite difficult to maintain it as the
rivals start gathering information and try to imitate. Intuit sustained its competitive advantage
over rivals Microsoft as competitors found it difficult to match Intuit’s service operations and
its reputations for excellent support. In addition Intuit used information from service operations
to improve their product.

5) Market leaders find a conflict in deciding whether to manage the industry structure and
pursue advantage within that structure. Industry conditions permit effective firms to take
maximum advantage over the least effective.

6) The added value of a firm is what value the economy would have lost if the firm didn’t exist.
Under a condition of collective bargaining a firm cannot claim more than the value it has added.
The higher the firm’s added value greater will be the potential for profit.

7) Two ways by which a firm can enjoy an advantage is by maximising the willingness to pay
of buyers keeping the suppliers opportunity cost constant (differentiation strategy) or by
minimising the supplier’s opportunity cost by keeping customers willingness to pay constant
(low cost strategy). In real practice a manager won’t know about the supplier’s opportunity
cost so he considers actual costs whose data is readily available.

8) There are basically 4 types of competitive advantage- Industry average competitor,

Successful differentiated competitor, Successful low cost competitor, Competitor with dual
advantage.

9) In Japan the manufactures make differentiated products/ superior products at a lower cost
by applying six sigma concept reducing the defect rates thus avoiding costs of rework and
wastage.

9) Cirque du Soleil has been successful because it has differentiated and grouped all its cost
components like stars, animals, lights, tents etc. Then it ranked them based on priority
eliminating the components which add unnecessary costs to the company. Thus it stuck to its
core activities eliminating those which offered low returns and added cost.

10) A sheer entrepreneur identifies the opportunities easily. Like Dell identified that selling
their products in retail stores was costly compared to direct to customer business. Thus analysis
is very necessary to do profitable business and foresee the future chances of expansion. The
analysis involves 4 steps- Firm’s managers catalogues the firm’s activities, examine the costs,
generate the willingness to pay and compare its peers, and finally widen the gap between costs
and willingness to pay.

11) Competitive cost analysis helps us to realise relative costs to bring larger differences in
profitability. Firm needs to break down its activities to generate goods or service. The
functional departments like finance, marketing, operations work in coordination in earning
revenue. The support activities include development of technology and HR, procurement of
inputs, shipping and developing the infrastructure.

12)Cost analysis is one of the factor for the company for their weak performance and market
share plugging

13)Cost drivers allow the managers to estimate competitors cost position.

14)The objectives that are identified to widen the cost and willingness to pay are

 Catalog Activities (value chain) – it is futhur classified into

Primary activity
Support Activity
 Use Activity to analyse Relative Cost
 Use Activities to analyse willingness to pay
 Explore option and make choice

15)The dilemma faced by mangers are given a better picture by Landscape metaphor.

16)Some of the implications of landscape are

 Incremental analysis and incremental changes that ked to new fundamentally

higher position.
 There is often more than once internally consistent way to do business with in
an industry.