Business Level Strategy Hitt, Ireland, and Hoskisson Chapter 4 Business Level Strategy Hitt, Ireland, and Hoskisson In chapter 4 we take a look at business level strategy. Strategy is concerned with making choices among two or more alternatives, analyzing each option as the most effective and efficient in realizing our objectives. When choosing a strategy, the firm decides to pursue one course of action instead of others. The choices are influenced by opportunities and threats in the firm’s external environment. The focus of this chapter is business-level strategy, defined as an integrated and coordinated set of commitments and actions the firm uses to gain a competitive advantage by exploiting core competencies in specific product markets.

Business level strategy Definition An integrated and coordinated set of commitments and actions the firm uses to gain a competitive advantage by exploiting core competencies in specific product markets. Firms use business-level strategies in order to gain strategic competitiveness and to earn above-average returns. Strategies have purpose, help determine actions that need to be taken, and help all members within a business to share an understanding of the firm’s vision and mission. The most effective strategies integrate, allocate, and align a firm’s resources, capabilities, and competencies, better preparing the organization to be successful in the external environment. In this chapter we will discuss five business-level strategies: cost leadership, differentiation, focused cost leadership, focused differentiation, and integrated cost leadership/differentiation. Copyright © 2008 Cengage

Customers Customers are the foundation of successful business-level strategies Firm examines issues of who, what, and how Who are the customer groups to be served What needs those customers have that the firm seeks to satisfy How can the firm use core competencies to satisfy customer needs. Strategic competitiveness results only when a firm is able to satisfy a group of customers by using its competitive advantages as the basis for competing in individual product markets. In short, without customers, there isn’t a business. So firms spend considerable time and effort determining who their customers are, what needs those customers have that the firm can satisfy, and how the firm can leverage its core competencies to satisfy customer needs. Firms actively engage in finding new ways to satisfy existing customer or meet the news of new customers. Being able to deliver superior value to customers strengthens a firm’s relationships with its customers. Increasing market segmentation creates opportunities for firms to identify more unique customer needs that they can serve with one of the business-level strategies. Market segmentation is a process that firms use to divide customers into groups based on similar needs. These groups, or segments, must be identifiable. After segmenting the market, the firm then must select and focus on the most attractive segment which is called the target customer. Copyright © 2008 Cengage

Customers: Their Relationship to Business-Level Strategies Who will be served? Key Issues in Business-level Strategy What needs will be satisfied? How will those needs be satisfied? Copyright © 2008 Cengage

Effectively Managing Relationships with Customers Firms must manage all aspects of their relationship with customers. Reach: firm’s success and connection to customers Richness: depth and detail of two-way flow of information between the firm and the customer Affiliation: facilitation of useful interactions with customers Copyright © 2008 Cengage

Who: Determining the Customers to Serve Market segmentation A process used to cluster people with similar needs into individual and identifiable groups. All Customers Consumer Markets Industrial Markets Copyright © 2008 Cengage

Market Segmentation Consumer Markets Industrial Markets Demographic factors Socioeconomic factors Geographic factors Psychological factors Consumption patterns Perceptual factors Industrial Markets End-use segments Product segments Geographic segments Common buying factor segments Customer size segments Copyright © 2008 Cengage

Basis for Customer Segmentation Consumer Markets Demographic factors (age, income, sex, etc.) Socioeconomic factors (social class, stage in the family life cycle) Geographic factors (cultural, regional, and national differences) Psychological factors (lifestyle, personality traits) Consumption patterns (heavy, moderate, and light users) Perceptual factors (benefit segmentation, perceptual mapping) Industrial Markets End-use segments (identified by SIC code) Product segments (based on technological differences or production economics) Geographic segments (defined by boundaries between countries or by regional differences within them) Common buying factor segments (cut across product market and geographic segments) Customer size segments Copyright © 2008 Cengage

What: Determining Which Customer Needs to Satisfy Customer needs are related to a product’s benefits and features. Customer needs are neither right nor wrong, good nor bad. Customer needs represent desires in terms of features and performance capabilities. Copyright © 2008 Cengage

How: Determining Core Competencies Necessary to Satisfy Customer Needs Firms use core competencies to implement value creating strategies that satisfy customers’ needs. Only firms with capacity to continuously improve, innovate and upgrade their competencies can expect to meet and/or exceed customer expectations across time. Copyright © 2008 Cengage

The Purpose of a Business-Level Strategy Business-Level Strategies Are intended to create differences between the firm’s position relative to those of its rivals. To position itself, the firm must decide whether it intends to: Perform activities differently or Perform different activities as compared to its rivals. Copyright © 2008 Cengage

Types of Potential Competitive Advantage Achieving lower overall costs than rivals Performing activities differently (reducing process costs) Possessing the capability to differentiate the firm’s product or service and command a premium price Performing different (more highly valued) activities. Copyright © 2008 Cengage

Five business-level strategies There are five business level strategies, as shown on this slide. We will discuss each one in more depth. They are: cost leadership, differentiation, focused cost leadership, focused differentiation, and integrated cost leadership/differentiation. Copyright © 2008 Cengage

Cost leadership strategy Using a cost leadership strategy, a firm Produces no-frills, standardized products for typical customers Offers these low-cost products with competitive levels of differentiation. Focuses on efficiency so costs are lower than competitors’ costs. Firms that use the cost leadership strategy to realize above-average returns produce no-frills, standardized products for typical customers. They also focus on efficiency so that their costs are lower than their competitors’ costs. Firms using the cost leadership strategy target a broad customer segment or group. They seek competitively valuable ways to reduce costs – and many concentrate on the primary activities of inbound logistics and outbound logistics. As a result of this, many firms now outsource the operations (often manufacturing) to low-cost firms with low-wage employees including those in other countries where labor costs are cheaper. Copyright © 2008 Cengage

Risks of cost leadership strategy Competitive risks associated with the cost leadership strategy include a loss of competitive advantage to newer technologies a failure to detect changes in customers’ needs, and the ability of competitors to imitate the cost leader’s competitive advantage through their own unique strategic actions. Having the low-cost position is valuable to deal with rivals, making them hesitate before competing based on price. But this business-level strategy also has risks. One risk is that the processes used by the cost leader to produce and distribute its good or service could become obsolete because of competitors’ innovations. A second risk is that too much focus by the cost leader on cost reductions may occur at the expense of trying to understand customers’ perceptions of “competitive levels of differentiation.” A final risk of the cost leadership strategy concerns imitation. Using their own core competencies, competitors sometimes learn how to successfully imitate the cost leader’s strategy. Copyright © 2008 Cengage

Differentiation strategy Firms using differentiation strategy Provide products that have different, valued features that are sold at a premium price Differentiate their products along as many dimensions as possible. The less similarity to competitors’ products, the more buffered a firm is from competition with its rivals. The differentiation strategy is an integrated set of actions taken to produce goods or services (at an acceptable cost) that customers perceive as being different in ways that are important to them. Rather than costs, a firm using the differentiation strategy always concentrates on investing in and developing features that differentiate a good or service in ways that customers value. A good or service can be differentiated in many ways, such as unusual features, responsive customer service, rapid product innovations and technological leadership, perceived prestige and status, different tastes, and engineering design and performance. Copyright © 2008 Cengage

Risks of differentiation strategy Customers decide that the differences between the differentiated product and the cost leader’s product are not worth a higher price Firms can’t sufficiently differentiate a product to create value for which customers will pay a premium price Competitors offer similar products at a lower cost Counterfeiters offer a cheap “knockoff” of a differentiated good or service. The differentiation strategy also has risks. One risk is that customers might decide that the differences between the differentiated product and the cost leader’s product is not worth the higher price. When this happens, the firm then becomes vulnerable to competitors that are able to offer customers a combination of features and price that is more consistent with their needs. Another risk of the differentiation strategy is that a firm’s means of differentiation may cease to provide value for which customers are willing to pay: They can’t sufficiently differentiate a product to create value for which customers are willing to pay a premium price. Competitors may offer similar products at a lower cost. Finally, firms using differentiation strategy can be hurt by counterfeiters – firms that offer a cheap “knockoff” of a differentiated good. Counterfeit goods are products that are made to closely resemble a differentiated product but offered at significantly reduced prices. Copyright © 2008 Cengage

Focus strategies The focus strategy is an integrated set of actions taken to produce goods or services that serve the needs of a particular competitive segment. Firms choose a focus strategy to serve the needs of a specific customer segment or industry segment. Examples a particular buyer group (such as youths or senior citizens) a different segment of a product line (such as products for professional painters or the do-it-yourself group), or a different geographic market (such as East or West in the U.S). Firms select a focus strategy in order to serve the needs of a specific market or industry segment of customers. Examples include a specific buyer group such as children, teens, or senior citizens), a specific group within a product line (such as products for professionals), or a specific geographic segment of the market. A focus strategy is defined as an integrated set of actions taken to produce goods or services that serve the needs of a particular competitive segment. Copyright © 2008 Cengage

Targeting a specific industry segment Firms can create value for a specific segment of the market by using the focused cost leadership strategy or the focused differentiation strategy. To be successful, firms must have the core competencies required to provide more value to the specific market segment than can competitors serving the entire industry. With a focus strategy, firms must be able to complete various primary and support activities in a competitively superior manner to develop and sustain a competitive advantage and earn above-average returns. The activities required to use the focused cost leadership strategy are virtually identical to those of the industry-wide cost leadership strategy and activities required to use the focused differentiation strategy are largely identical to those of the industry-wide differentiation strategy. Similarly, the manner in which each of the two focus strategies allows a firm to deal successfully with the five competitive forces parallels those of the two broad strategies. The only difference is in the firm’s competitive scope; the firm focuses on a narrow industry segment. Copyright © 2008 Cengage

Risks of focus strategies Competitive risks of focus strategies A competitor is able to focus on an even more narrowly defined market segment Industry-wide competitors decide to focus on specific customer segments The differences are reduced between the needs of a specific market segment and those of the rest of the industry Firms using a focused strategy have the same general risks as does the company using the cost leadership or the differentiation strategy on an industry-wide basis. But they also face a few additional risks. First, a competitor may be able to more focus and serve an even more narrowly defined market segment. Second, industry-wide competitors may decide to focus on specific customer segments. Third, the differences may be reduced between the goods and services of narrowly-focused firms and those of industry-wide firms. Copyright © 2008 Cengage

Integrated cost leadership/differentiation strategy Using this strategy, firms Provide relatively low cost products with valued differentiated features. Use primary and support activities to produce differentiated products at relatively low costs. Risk of this strategy A firm produces products that lack sufficient low cost or differentiation. Many consumers have high expectations when purchasing a good or service. In a strategic context, these customers want to purchase low-priced, differentiated products. Because of these customer expectations, a number of firms engage in primary and support activities that allow them to simultaneously pursue low cost and differentiation. Firms with this type of activity map use the integrated cost leadership/differentiation strategy. The integrated cost leadership/differentiation strategy involves engaging in primary and support activities that allow firm to simultaneously pursue low cost and differentiation. Firms that use this strategy must efficiently produce products with differentiated attributes. They must focus on efficient production to maintain low costs while differentiating their products and services to provide value to customers. Firms that are successful usually adapt quickly to new technologies and rapid changes in their external environments. They often have strong networks with external parties that perform some of the primary and support activities. In turn, having skills in a larger number of activities makes a firm more flexible. Copyright © 2008 Cengage