COMPETITIVE. ADVANTAGE. Creating and Sustaining. Superior Peifonnance. Michael E. Porter. 1&1. THE FREE PRESS. A Division of A1acmillan, Inc. Library of Congress Cataloging-in-Publication Data. Porter, Michael E. Competitive strategy: techniques for analyzing industries and competitors: with a new. PDF | Strategic planning as a formal discipline originated in the s and early s. It soon became a fad, but faded equally quickly when the promised.
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Michael Porter - Competitive wm-greece.info - Ebook download as PDF File .pdf), Text File .txt) or read book online. The Five Competitive Forces. That Shape Strategy by Michael E. Porter. FROM THE JANUARY ISSUE. Editor's Note: In , Harvard Business Review. Strategy and Competitiveness, wm-greece.info Competitive Advantage: Enduring Ideas and New Opportunities. Professor Michael E. Porter.
Lower costs will result in higher profits as businesses are still making a reasonable profit on each good or service sold. If businesses are not making a large enough profit, Porter recommends finding a lower-cost base such as labor, materials, and facilities. This gives businesses a lower manufacturing cost over those of other competitors. Differential strategy[ edit ] A differential advantage is when a business' products or services are different to its competitors.
In his book, Michael Porter recommended making those goods or services attractive to stand out from their competitors. The business will need strong research, development and design thinking to create innovative ideas. These improvements to the goods or service could include delivering high quality to customers.
If customers see a product or service as being different from other products, consumers are willing to pay more to receive these benefits. This strategy is often used for smaller businesses since they may not have the appropriate resources or ability to target everyone.
Businesses that use this method usually focus on the needs of the customer and how their products or services could improve their daily lives. In this method, some firms may even let consumers give their inputs for their product or service. By narrowing the market down to smaller segments, businesses are able to meet the needs of the consumer.
Porter believes that once businesses have decided what groups they will target, it is essential to decide if they will take the cost leadership approach or differentiation approach.
Focus strategy will not make a business successful. Porter mentions that it is important to not use all 3 generic strategies because there is a high chance that companies will come out achieving no strategies instead of achieving success. This can be called "stuck in the middle", and the business won't be able to have a competitive advantage. A product or service must offer value through price or quality to ensure the business is successful in the market. Success comes to firms that can deliver a product or service in a manner that is different, meaningful, and based on their customers' needs and desires.
Deciding on the appropriate price and quality depends on the business's brand image and what they hope to achieve in relation to their competition. The main purpose of positioning is often to create the right perceptions in comparison to competitors. Companies diversifying through acquisition into the industry from other markets often use their resources to cause a shake-up, as Philip Morris did with Miller beer. Thus acquisition into an industry with intent to build market position should probably be viewed as entry even though no entirely new entity is created.
The threat of entry into an industry depends on the barriers to entry that are present, coupled with the reaction from existing competitors that the entrant can expect.
Economies of scale refer to declines in unit costs of a product or operation or function that goes into producing a product as the absolute volume per period increases. Economies of scale deter entry by forcing the entrant to come in at large scale and risk strong reaction from existing firms or come in at a small scale and accept a cost disadvantage, both undesirable options.
Scale economies can be present in nearly every function of a business, including manufacturing, downloading, research and development, marketing, service network, sales force utilization, and distribution. For example, scale economies in production, research, marketing, and service are probably the key barriers to entry in the mainframe computer industry, as Xerox and General Electric sadly discovered.
Scale economies may relate to an entire functional area, as in the case of a sales force, or they may stem from particular operations or activities that are part of a functional area. For example, in the manufacture of television sets, economies of scale are large in color tube production, and they are less significant in cabinetmaking and set assembly.
It is important to examine each component of costs separately for its particular relationship between unit cost and scale. Units of multibusiness firms may be able to reap economies similar to those of scale if they are able to share operations or functions subject to economies of scale with other businesses in the company.
For example, the multibusiness company may manufacture small electric motors, which are then used in producing industrial fans, hairdryers, and cooling systems for electronic equipment. If economies of scale in motor manufacturing extend beyond the number of motors needed in any one market, the multibusiness firm diversified in this way will reap economies in motor manufacturing that exceed those available if it only manufactured motors for use in, say, hairdryers.
Thus related diversification around common operations or functions can remove volume constraints imposed by the size of a given industry. The prospective entrant is forced to be diversified or face a cost disadvantage.
Potentially shareable activities or functions subject to economies of scale can include sales forces, distribution systems, downloading, and so on. The benefits of sharing are particularly potent if there are joint costs. Joint costs occur when a firm producing product A or an operation or function that is part of producing A must inherently have the capacity to produce product B. An example is air passenger services and air cargo, where because of technological constraints only so much space in the aircraft can be filled with passengers, leaving available cargo space and payload capacity.
Many of the costs must be borne to put the plane into the air and there is capacity for freight regardless of the quantity of passengers the plane is carrying. Thus the firm that competes in both passenger and freight may have a substantial advantage over the firm competing in only one market. This same sort of effect occurs in businesses that involve manufacturing processes involving by-products. The entrant who cannot capture the highest available incremental revenue from the by-products can face a disadvantage if incumbent firms do.
A common situation of joint costs occurs when business units can share intangible assets such as brand names and know-how. The cost of creating an intangible asset need only be borne once; the asset may then be freely applied to other business, subject only to any costs of adapting or modifying it.
Thus situations in which intangible assets are shared can lead to substantial economies. A type of economies of scale entry barrier occurs when there are economies to vertical integration, that is, operating in successive stages of production or distribution. Here the entrant must enter integrated or face a cost disadvantage, as well as possible foreclosure of inputs or markets for its product if most established competitors are integrated.
Foreclosure in such situations stems from the fact that most customers download from in-house units, or most suppliers "sell" their inputs in-house. The independent firm faces a difficult time in getting comparable prices and may become "squeezed" if integrated competitors offer different terms to it than to their captive units. The requirement to enter integrated may heighten the risks of retaliation and also elevate other entry barriers discussed below.
Product differentiation means that established firms have brand identification and customer loyalties, which stem from past advertising, customer service, product differences, or simply being first into the industry. Differentiation creates a barrier to entry by forcing entrants to spend heavily to overcome existing customer loyalties. This effort usually involves start-up losses and often takes an extended period of time. Such investments in building a brand name are particularly risky since they have no salvage value if entry fails.
Product differentiation is perhaps the most important entry barrier in baby care products, over-the-counter drugs, cosmetics, investment banking, and public accounting. In the brewing industry, product differentiation is coupled with economies of scale in production, marketing, and distribution to create high barriers.
Capital Requirements. Capital may be necessary not only for production facilities but also for things like customer credit, inventories, or covering start-up losses. Xerox created a major capital barrier to entry in copiers, for example, when it chose to rent copiers rather than sell them outright which greatly increased the need for working capital. Whereas today's major corporations have the financial resources to enter almost any industry, the huge capital requirements in fields like computers and mineral extraction limit the pool of likely entrants.
Even if capital is available on the capital markets, entry represents a risky use of that capital which should be reflected in risk premiums charged the prospective entrant; these constitute advantages for going firms. Switching Costs. A barrier to entry is created by the presence of switching costs, that is, one-time costs facing the downloader of switching from one supplier's product to another's. Switching costs may include employee retraining costs, cost of new ancillary equipment, cost and time in testing or qualifying a new source, need for technical help as a result of reliance on seller engineering aid, product redesign, or even psychic costs of severing a relationship.
If these switching costs are high, then new entrants must offer a major improvement in cost or performance in order for the downloader to switch from an incumbent. For example, in intravenous IV solutions and kits for use in hospitals, procedures for attaching solutions to patients differ among competitive products and the hardware for hanging the IV bottles are not compatible. Here switching encounters great resistance from nurses responsible for administering the treatment and requires new investments in hardware.
Access to Distribution Channels. A barrier to entry can be created by the new entrant's need to secure distribution for its product. To the extent that logical distribution channels for the product have already been served by established firms, the new firm must persuade the channels to accept its product through price breaks, cooperative advertising allowances, and the like, which reduce profits.
The manufacturer of a new food product, for example, must persuade the retailer to give it space on the fiercely competitive supermarket shelf via promises of promotions, intense selling efforts to the retailer, or some other means.
The more limited the wholesale or retail channels for a product are and the more existing competitors have these tied up, obviously the tougher entry into the industry will be. Existing competitors may have ties with channels based on long relationships, high-quality service, or even exclusive relationships in which the channel is solely identified with a particular manufacturer.
Sometimes this barrier to entry is so high that to surmount it a new firm must create an entirely new distribution channel, as Timex did in the watch industry.
Cost Disadvantages Independent of Scale. Established firms may have cost advantages not replicable by potential entrants no matter what their size and attained economies of scale. For example, Frasch sulphur firms like Texas Gulf Sulphur gained control of some very favorable large salt dome sulphur deposits many years ago, before mineral rightholders were aware of their value as a result of the Frasch mining technology.
Discoverers of sulphur deposits were often disappointed oil companies who were exploring for oil and not prone to value them highly. Costs decline because workers improve their methods and become more efficient the classic learning curve , layout improves, specialized equipment and processes are developed, better performance is coaxed from equipment, product design changes make manufacturing easier, techniques for measurement and control of operations improve, and so on.
Experience is just a name for certain kinds of technological change and may apply not only to production but also to distribution, logistics, and other functions. As is the case with scale economies, cost declines with experience relate not to the entire firm but arise from the individual operations or functions that make up the firm. Experience can lower costs in marketing, distribution, and other areas as well as in production or operations within production, and each component of costs must be examined for the effects of experience.
They are nearly always the most significant in the early and growth phase of a product's development, and later reach diminishing proportional improvements. Often economies of scale are cited among the reasons that costs decline with experience. Economies of scale are dependent on volume per period, and not on cumulative volume, and are very different analytically from experience, although the two often occur together and can be hard to separate.
The dangers of lumping scale and experience together will be discussed further. If costs decline with experience in an industry, and if the experience can be kept proprietary by established firms, then this effect leads to an entry barrier. Newly started firms, with no experience, will have inherently higher costs than established firms and must bear heavy start-up losses from below- or near-cost pricing in order to gain the experience to achieve cost parity with established firms if they ever can.
Established firms, particularly the market share leader who is accumulating experience the fastest, will have higher cash flow because of their lower costs to invest in new equipment and techniques.
However, it is important to recognize that pursuing experience curve cost declines and scale economies may require substantial up-front capital investment for equipment and startup losses. If costs continue to decline with volume even as cumulative volume gets very large, new entrants may never catch up. A number of firms, notably Texas Instruments, Black and Decker, Emerson Electric, and others have built successful strategies based on the experience curve through aggressive investments to build cumulative volume early in the development of industries, often by pricing in anticipation of future cost declines.
The decline in cost from experience can be augmented if there are diversified firms in the industry who share operations or functions subject to such a decline with other units in the company, or where there are related activities in the company from which incomplete though useful experience can be obtained.
When an activity like the fabrication of raw material is shared by several business units, experience obviously accumulates faster than it would if the activity were used solely to meet the needs in one industry. Or when the corporate entity has related activities within the firm, sister units can receive the benefits of their experience at little or no cost since much experience is an intangible asset.
This sort of shared learning accentuates the entry barrier provided by the experience curve, provided the other conditions for its significance are met. Experience is such a widely used concept in strategy formulation that its strategic implications will be discussed further. Government Policy. The last major source of entry barriers is government policy.
Government can limit or even foreclose entry into industries with such controls as licensing requirements and limits on access to raw materials like coal lands or mountains on which to build ski areas. Regulated industries like trucking, railroads, liquor retailing, and freight forwarding are obvious examples.
More subtle government restrictions on entry can stem from controls such as air and water pollution standards and product safety and efficacy regulations. For example, pollution control requirements can increase the capital needed for entry and the required technological sophistication and even the optimal scale of facilities.
Standards for product testing, common in industries like food and other health-related products, can impose substantial lead times, which not only raise the capital cost of entry but also give established firms ample notice of impending entry and sometimes full knowledge of the new competitor's product with which to formulate retaliatory strategies. Government policy in such areas certainly has direct social benefits, but it often has secondary consequences for entry which are unrecognized.
Expected Retaliation The potential entrant's expectations about the reaction of existing competitors also will influence the threat of entry. If existing competitors are expected to respond forcefully to make the entrant's stay in the industry an unpleasant one, then entry may well be deterred. The Entry Deterring Price The condition of entry in an industry can be summarized in an important hypothetical concept called the entry deterring price: the prevailing structure of prices and related terms such as product quality and service which just balances the potential rewards from entry forecast by the potential entrant with the expected costs of overcoming structural entry barriers and risking retaliation.
If the current price level is higher than the entry deterring price, entrants will forecast above-average profits from entry, and entry will occur. Of course the entry deterring price depends on entrants' expectations of the future and not just current conditions.
The threat of entry into an industry can be eliminated if incumbent firms choose or are forced by competition to price below this hypothetical entry deterring price.
If they price above it, gains in terms of profitability may be short-lived because they will be dissipated by the cost of fighting or coexisting with new entrants. Properties of Entry Barriers There are several additional properties of entry barriers that are crucial from a strategic standpoint. First, entry barriers can and do change as the conditions previously described change. The expiration of Polaroid's basic patents on instant photography, for instance, greatly reduced its absolute cost entry barrier built by proprietary technology.
It is not surprising that Kodak plunged into the market. Product differentiation in the magazine printing industry has all but disappeared, reducing barriers. Conversely, in the auto industry, economies of scale increased with post-World War II automation and vertical integration, virtually stopping successful new entry.
Second, although entry barriers sometimes change for reasons largely outside the firm's control, the firm's strategic decisions also can have a major impact. For example, the actions of many U. Similarly, decisions by members of the recreational vehicle industry to vertically integrate into parts manufacture in order to lower costs have greatly increased the economies of scale there and raised the capital cost barriers. Finally, some firms may possess resources or skills which allow them to overcome entry barrier into an industry more cheaply than most other firms.
For example, Gillette, with well-developed distribution channels for razors and blades, faced lower costs of entry into disposable lighters than did many other firms. The ability to share costs also provides opportunities for low-cost entry. In Chapter 16 we will explore the implications of factors like these for entry strategy in some detail. Experience and Scale as Entry Barriers Although they often coincide, economies of scale and experience have very different properties as entry barriers.
The presence of economies of scale always leads to a cost advantage for the large-scale firm or firm that can share activities over small-scale firms, presupposing that the former have the most efficient facilities, distribution systems, service organizations, or other functional activities for their size.
This cost advantage can be matched only by attaining comparable scale or appropriate diversification to allow cost sharing. The large-scale or diversified firm can spread the fixed costs of operating these efficient facilities over a large number of units, whereas the smaller firm, even if it has technologically efficient facilities, will not fully utilize them.
Experience is a more ethereal entry barrier than scale, because the mere presence of an experience curve does not insure an entry barrier. Another crucial prerequisite is that the experience be proprietary, and not available to competitors and potential entrants through 1 copying, 2 hiring a competitor's employees, or 3 downloading the latest machinery from equipment suppliers or downloading know-how from consultants or other firms.
Frequently, experience cannot be kept proprietary; even when it can, experience may accumulate more rapidly for the second and third firms in the market than it did for the pioneer because followers can observe some aspects of the pioneer's operations. Where experience cannot be kept proprietary, new entrants may actually have an advantage if they can download the latest equipment or adapt to new methods unencumbered by having operated the old way in the past.
New entrants can leapfrog the industry leaders and alight on the new experience curve, to which the leaders may be poorly positioned to jump. For example, Hewlett-Packard has erected substantial barriers based on technological progressiveness in industries in which other firms are following strategies based on experience and scale, like calculators and minicomputers.
In the steel industry the key forces are foreign competitors and substitute materials. Every industry has an underlying structure, or a set of fundamental economic and technical characteristics, that gives rise to these competitive forces.
This view of competition pertains equally to industries dealing in services and to those selling products. A few characteristics are critical to the strength of each competitive force. I shall discuss them in this section. Threat of entry New entrants to an industry bring new capacity, the desire to gain market share, and often substantial resources.
Companies diversifying through acquisition into the industry from other markets often leverage their resources to cause a shake-up, as Philip Morris did with Miller beer. The seriousness of the threat of entry depends on the barriers present and on the reaction from existing competitors that entrants can expect. If barriers to entry are high and newcomers can expect sharp retaliation from the entrenched competitors, obviously the newcomers will not pose a serious threat of entering.
There are six major sources of barriers to entry: 1. Economies of scale These economies deter entry by forcing the aspirant either to come in on a large scale or to accept a cost disadvantage. Scale economies in production, research, marketing, and service are probably the key barriers to entry in the mainframe computer industry, as Xerox and GE sadly discovered.
Economies of scale can also act as hurdles in distribution, utilization of the sales force, financing, and nearly any other part of a business. Product differentiation Brand identification creates a barrier by forcing entrants to spend heavily to overcome customer loyalty. Advertising, customer service, being first in the industry, and product differences are among the factors fostering brand identification.
It is perhaps the most important entry barrier in soft drinks, over-the-counter drugs, cosmetics, investment banking, and public accounting. To create high fences around their businesses, brewers couple brand identification with economies of scale in production, distribution, and marketing. Capital is necessary not only for fixed facilities but also for customer credit, inventories, and absorbing start-up losses. While major corporations have the financial resources to invade almost any industry, the huge capital requirements in certain fields, such as computer manufacturing and mineral extraction, limit the pool of likely entrants.
Cost disadvantages independent of size Entrenched companies may have cost advantages not available to potential rivals, no matter what their size and attainable economies of scale. These advantages can stem from the effects of the learning curve and of its first cousin, the experience curve , proprietary technology, access to the best raw materials sources, assets downloadd at preinflation prices, government subsidies, or favorable locations.
Sometimes cost advantages are legally enforceable, as they are through patents. For an analysis of the much-discussed experience curve as a barrier to entry, see the insert. The Experience Curve as an Entry Barrier In recent years, the experience curve has become widely discussed as a key element of industry structure.
The experience curve, which encompasses many factors, is a broader concept than the better known learning curve, which refers to the efficiency achieved over a period of time by workers through much repetition.
The causes of the decline in unit costs are a combination of elements, including economies of scale, the learning curve for labor, and capital-labor substitution. Adherents of the experience curve concept stress the importance of achieving market leadership to maximize this barrier to entry, and they recommend aggressive action to achieve it, such as price cutting in anticipation of falling costs in order to build volume. The answer is: not in every industry. In fact, in some industries, building a strategy on the experience curve can be potentially disastrous.
That costs decline with experience in some industries is not news to corporate executives. The significance of the experience curve for strategy depends on what factors are causing the decline. If costs are falling because a growing company can reap economies of scale through more efficient, automated facilities and vertical integration, then the cumulative volume of production is unimportant to its relative cost position. Here the lowest-cost producer is the one with the largest, most efficient facilities.
A new entrant may well be more efficient than the more experienced competitors; if it has built the newest plant, it will face no disadvantage in having to catch up. If costs go down because of technical advances known generally in the industry or because of the development of improved equipment that can be copied or downloadd from equipment suppliers, the experience curve is no entry barrier at all—in fact, new or less experienced competitors may actually enjoy a cost advantage over the leaders.
Free of the legacy of heavy past investments, the newcomer or less experienced competitor can download or copy the newest and lowest-cost equipment and technology. If, however, experience can be kept proprietary, the leaders will maintain a cost advantage. But new entrants may require less experience to reduce their costs than the leaders needed. All this suggests that the experience curve can be a shaky entry barrier on which to build a strategy.
While space does not permit a complete treatment here, I want to mention a few other crucial elements in determining the appropriateness of a strategy built on the entry barrier provided by the experience curve: The height of the barrier depends on how important costs are to competition compared with other areas like marketing, selling, and innovation. The barrier can be nullified by product or process innovations leading to a substantially new technology and thereby creating an entirely new experience curve.
If more than one strong company is building its strategy on the experience curve, the consequences can be nearly fatal. By the time only one rival is left pursuing such a strategy, industry growth may have stopped and the prospects of reaping the spoils of victory long since evaporated. Access to distribution channels The newcomer on the block must, of course, secure distribution of its product or service. A new food product, for example, must displace others from the supermarket shelf via price breaks, promotions, intense selling efforts, or some other means.
The more limited the wholesale or retail channels are and the more that existing competitors have these tied up, obviously the tougher that entry into the industry will be.
Sometimes this barrier is so high that, to surmount it, a new contestant must create its own distribution channels, as Timex did in the watch industry in the s. Government policy The government can limit or even foreclose entry to industries with such controls as license requirements and limits on access to raw materials.
Regulated industries like trucking, liquor retailing, and freight forwarding are noticeable examples; more subtle government restrictions operate in fields like ski-area development and coal mining. The government also can play a major indirect role by affecting entry barriers through controls such as air and water pollution standards and safety regulations. The company is likely to have second thoughts if incumbents have previously lashed out at new entrants or if: The incumbents possess substantial resources to fight back, including excess cash and unused borrowing power, productive capacity, or clout with distribution channels and customers.
The incumbents seem likely to cut prices because of a desire to keep market shares or because of industrywide excess capacity.
Industry growth is slow, affecting its ability to absorb the new arrival and probably causing the financial performance of all the parties involved to decline. Changing conditions From a strategic standpoint there are two important additional points to note about the threat of entry.
First, it changes, of course, as these conditions change. It is not surprising that Kodak plunged into the market. Product differentiation in printing has all but disappeared.
Conversely, in the auto industry economies of scale increased enormously with post-World War II automation and vertical integration—virtually stopping successful new entry. Second, strategic decisions involving a large segment of an industry can have a major impact on the conditions determining the threat of entry.
For example, the actions of many U. Similarly, decisions by members of the recreational vehicle industry to vertically integrate in order to lower costs have greatly increased the economies of scale and raised the capital cost barriers. Powerful suppliers can thereby squeeze profitability out of an industry unable to recover cost increases in its own prices.