STRATEGIC OPTIONS: Porter’s Generic Strategies |
Source: Johnson, G., & Scholes, K. (1997). Exploring corporate strategy,
(Fourth Edition). New York: Prentice Hall. (Ch.6, Excerpts)
Michael Porter argued that there are three fundamental ways in which firms can achieve sustainable competitive advantage. These are as follows:
A cost leadership strategy, where ‘a firm sets out to become the low-cost producer in its industry... a low-cost producer must find and exploit all sources of cost advantage. Low-cost producers typically sell a standard, or no-frills, product and place considerable emphasis on reaping scale or absolute cost advantages from all sources... If a firm can achieve and sustain overall cost leadership, then it will be an above-average performer in its industry provided it can command prices at or near the industry average.’
A differentiation strategy, which Porter defines as seeking ‘to be unique in its industry along some dimensions that are widely valued by buyers... It is rewarded for its uniqueness with a premium price... A firm that can achieve and sustain differentiation will be an above-average performer in its industry if its price premium exceeds the extra costs incurred in being unique... The logic of the differentiation strategy requires that a firm chooses attributes in which to differentiate itself that are different from its rivals.
A focus strategy based on ‘the choice of a narrow competitive scope within an industry. The focuser selects a segment or group of segments in the industry and tailors its strategy to serving them to the exclusion of others.’ There are two variants here. “In cost focus a firm seeks a cost advantage in its target segments, while in differentiation focus a firm seeks differentiation in its target segment.’
Porter goes on to argue that, for a firm to ensure long-term profitability, it must be clear as to its fundamental generic strategy in the terms he describes: too many firms do not make the important choice between these three strategies and end up being ‘stuck in the middle.’
Risks of the Generic Strategies
Source: Porter, M. E. (1980). Competitive strategy: Techniques for analysing
industries and competitors. New York: Free Press. (Ch.2, Excerpts)
Fundamentally, the risks in pursuing the generic strategies are two: first, failing to attain or sustain the strategy; second, for the value of the strategic advantage provided by the strategy to erode with industry evolution. More narrowly, the three strategies are predicated on erecting differing kinds of defenses against the competitive forces, and not surprisingly they involve differing types of risks. It is important to make these risks explicit in order to improve the firm’s choice among the three alternatives.
Risks of Overall Cost Leadership
Cost leadership imposes severe burdens on the firm to keep up its position, which means reinvesting in modern equipment, ruthlessly scrapping obsolete assets, avoiding product line proliferation and being alert for technological improvements. Cost declines with cumulative volume are by no means automatic, nor is reaping all available economies of scale achievable without significant attention.
Cost leadership is vulnerable to the same risks of relying on scale or experience as entry barriers. Some of these risks are
- technological change that nullifies past investments or learning;
- low-cost learning by industry newcomers or followers, through imitation or through their ability to invest in state of the art facilities;
- inability to see required product or marketing change because of the attention placed on cost;
- inflation in costs that narrow the firm’s ability to maintain enough of a price differential to offset competitor’s brand images or other approaches to differentiation.
The classic example of the risks of cost leadership is the Ford Motor Company of the 1920s. Ford had achieved unchallenged cost leadership through limitation of models and varieties, aggressive backward integration, highly automated facilities, and aggressive pursuit of lower costs through learning. Learning was facilitated by the lack of model changes. Yet as incomes rose and many buyers had already purchased a car and were considering their second, the market began to place more of a premium on styling, model changes, comfort, and closed rather than open cars. Customers were willing to pay a price premium to get such features. General Motors stood ready to capitablise on this development with a full line of models. Ford faced enormous costs of strategic readjustment given the rigidities created by heavy investments in cost minimization of an obsolete model.
Another example of the risks of cost leadership as a sole focus is provided by Sharp in consumer electronics. Sharp, which has long followed a cost leadership strategy, has been forced to begin an aggressive campaign to develop brand recognition. Its ability to sufficiently undercut Sony’s and Panasonic’s prices was eroded by cost increases and U.S. antidumping legislation, and its strategic position was deteriorating through sole concentration on cost leadership.
Risks of Differentiation
Differentiation also involves a series of risks:
- the cost differential between low-cost competitors and the differentiated firm becomes too great for differentiation to hold brand loyalty. Buyers thus sacrifice some of the features, services, or image possessed by the differentiated firm for large cost savings;
- buyers’ need for the differentiating factor falls. This can occur as buyers become more sophisticated;
- imitation narrows perceived differentiation, a common occurrence as industries mature.
The first risk is so important as to be worthy of further comment. A firm may achieve differentiation, yet this differentiation will usually sustain only so much of a price differential. Thus if a differentiated firm gets too far behind in cost due to technological change or simply inattention, the low cost firm may be in position to make major inroads. For example, Kawasaki and other Japanese motorcycle producers have been able to successfully attack differentiated producers such as Harley-Davidson and Triumph in large motorcycles by offering major cost savings to buyers.
Risks of Focus
Focus involves yet another set of risks:
- the cost differential between broad-range competitors and the focused firm widens to eliminate the cost advantages of serving a narrow target or to offset the differentiation achieved by focus;
- the differences in desired products or services between the strategic target and the market as a whole narrows;
- competitors find sub-markets within the strategic target and out-focus the focuser.
An illustration of some problems with generic strategy concepts
The Generic Strategy of Sainsbury
Michael Porter and David Sainsbury, chief executive of Sainsbury, discuss the generic strategy of the UK’s largest grocery supermarket chain.
In a Thames Television programme in 1987 Michael Porter held a round table discussion of his principles of generic strategy with UK executives. In this conversation the following exchange took place between Michael Porter and David Sainsbury.
Sainsbury: I think Michael’s ... discussion is enormously helpful in terms of how one looks for competitive advantage. The one bit I don’t agree with is the idea that if you are stuck in the middle, that’s some great disadvantage, because it seems to me that you do have customers who are only interested in price -- in the food market it’s quite a small bit, probably 10 per cent of the market. At the other end, you’ve got some people who are interested only in quality and will pay anything to get it. But the great majority of people are interested in both quality and price, which is summed up in the phrase ‘really good value for money’. I think you can have a strategy which is focused, as we are, absolutely on that middle range. We’re not... interested in pure quality regardless of price, or just the price end of the market.
Porter: I think it’s a very important point. David has shown me a model of a little truck which has the emblem of Sainsbury’s on it. It says ‘Good Food Costs Less at Sainsbury’s'. I think that statement captures the positioning of Sainsbury’s... Now the question is, can you be low-cost and differentiated at the same time? If I read the slogan on the truck it says good food costs less. So I would say, your quality is good, but not unique. Your real strategy is low-cost, and that’s your real source of advantage. You’re not trying to both beat your competitors on having better quality food than theirs and be lower-cost in supplying it. Ultimately, if I read you correctly, you perceive your real advantage is going to be cost, but you’re going to make sure your food is as good a quality as anybody else’s... If I went to Tesco and to Marks and Spencer and looked at their quality -- I would find comparable quality. I wouldn’t find better quality at Sainsbury’s... The ultimate test of differentiation, in my way of thinking, is do you command a premium price? How does Sainsbury’s meet that test?
Sainsbury: I think you can make superior profits if at the same time you can keep costs down, and have prices which are competitive, and get tremendous turnover. Then you get cost advantages which enable you to actually make superior profits without commanding a premium price, because you can have the lower price.
Source : European Management Journal, vol.6, no. 1 (1987). |
Market-Based Generic Strategies
Source: Johnson, G., & Scholes, K. (1993). Exploring corporate strategy,
(Third Edition). New York: Prentice Hall. (Ch.6, Excerpts)
The 'Strategy Clock'
The 8 Generic Strategies of the Strategy Clock
Generic Strategies | Needs/risks |
| 1. Low price/low added value | Likely to be segment specific |
| 2. Low price | Risk of price war and low margins; need to be cost leader |
| 3. Hybrid | Differentiation
Low cost base and reinvestment in low price and differentiation |
4. Differentiation
(a) Without price premium
(b) With price premium | Perceived added value by user, yielding market share benefits
Perceived added value sufficient to bear price premium |
| 5. Focused differentiation | Perceived added value to a particular segment, warranting price premium |
| 6. Increased price/standard value | Likely failure
Higher margins if competitors do not follow; risk of losing market share |
| 7. Increased price/low value | Only feasible in monopoly situation |
| 8. Low value/standard price | Loss of market share |
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