Understanding Competitive Strategy for Business Success

Competitive strategy is about how companies outperform competitors in serving the same consumer needs but more profitably. Sometimes, the strategy works, but many fail. If successful, a company generates a competitive advantage and above-average profits.

Success in beating competitors indicates a company has strategic competitiveness. This strategic competitiveness could be cost leadership, in which a company sells products at a standard price but has a lower cost structure than competitors. Or, it’s a differentiation strategy. The company promotes uniqueness to attract customers willing to pay a higher price.

Whatever strategy is adopted, competitiveness is rooted in a company’s resources and ability to create value. Resources represent the tangible and intangible assets owned by the company. Meanwhile, capabilities mean the company’s ability to use these resources to create value.

Competitive advantage: the cornerstone of long-term success

Competitive advantage is a superior position because the company generates higher profits than other companies in the industry. How to achieve this varies between companies. Some rely on cost leadership as their competitive strategy, while others adopt a differentiation strategy.

If a company can sustain a competitive advantage over time, that is a sustained competitive advantage. This shows the company’s strategic competitiveness and ability to maintain above-average profitability over time.

Benefits of a competitive advantage

Competitive advantage is essential for long-term success. It empowers businesses by:

• Boosting profitability: Superior value allows companies to command premium prices, gain market share, or both, leading to sustained financial health.
• Building customer loyalty: A unique offering, like exceptional quality or service, fosters brand loyalty and repeat business.
• Enhancing brand reputation: Consistent outperformance establishes the company as an industry leader, attracting new customers and building valuable brand equity.
• Improving negotiation leverage: A strong competitive edge allows for better deals with suppliers, reducing costs and optimizing resources.
• Attracting top talent: The company’s winning track record makes it a magnet for skilled and innovative talent, driving further growth.
• Fueling innovation: The pursuit of differentiation fosters a culture of continuous improvement, propelling business growth and adaptability.
• Enhancing resilience: A competitive advantage acts as a shield during economic downturns, allowing the company to weather challenges and emerge stronger.

Strategic competitiveness

Strategic competitiveness exists when companies successfully formulate and implement value-creation strategies, which enable them to outperform their competitors and produce superior performance. In other words, a company has strategic competitiveness if its value creation results in a competitive advantage. It requires companies to adopt a holistic approach across various strategies:

• Business strategy
• Financial strategy
• Technology strategy
• Marketing strategy
• Investor strategy

Business strategy requires companies to have a long-term commitment to set strategic decisions. In addition, companies also need to separate these decisions with tactical decisions to respond in the short term to current environmental changes.

Financial strategy focuses on three aspects, namely:

1. Investment decisions, both capital investment and current investment.
2. Financing decisions, including setting targets for critical financial ratios such as total debt to total capital and total debt to total assets.
3. Dividend decision is about dividend growth and dividend payment.

Technology strategy requires companies to remain flexible with technological advances and leverage them in operations. For instance, they leverage social media and customer relationship management software and embrace automation in operations.

Marketing strategy is related to the marketing mix. Companies should examine and rethink their marketing mix to support competitiveness, including the following:

• Product: quality, features, variety, design, brand name, packaging, and service.
• Price: prices, discounts, allowances, payment terms, and credit terms.
• Place: channels, scope, location, inventory, transportation, and logistics.
• Promotion: advertising, sales promotion, personal selling, public relations.

Investor strategy requires companies to build beneficial long-term relationships with investors. Investors are vital because they supply capital to companies. Their interests generally fall into two, depending on what money they give.

1. Investors in the stock market are concerned with stock prices and dividends, which affect their wealth.

2. Investors in the debt market focus on interest and principal, which requires companies to be able to repay debt.

Building blocks of competitive advantage

In pursuing a competitive advantage, companies rely on two key ingredients: resources and capabilities. These elements act as the building blocks for creating value propositions that resonate with customers and ultimately drive organizational success.

Resources: tangible and intangible assets

Resources encompass everything a company owns or controls that contributes to its strategic goals. They can be broadly categorized as:

Tangible resources: These are physical assets that are readily seen and quantified. Examples include:

• Property, plant, and equipment (factories, machinery)
• Financial resources (cash, investments)
• Raw materials and inventory
• Technology infrastructure (hardware, software)

Intangible resources: These are less tangible assets that often hold significant value. Examples include:

• Brand reputation and brand loyalty
• Intellectual property (patents, trademarks, copyrights)
• Knowledge and expertise (data, customer insights)
• Organizational culture and talent

While all resources can be valuable, some hold a greater strategic advantage. Consider a company like Apple with a strong brand reputation. This intangible asset fosters customer trust and willingness to pay a premium for its products.

Capabilities: putting resources to work

Resources alone don’t guarantee success. Companies must possess the capabilities to utilize their resources and create value effectively. Capabilities represent a company’s ability to perform activities that transform resources into desired outcomes. Here are some examples:

• Innovation culture: Fostering creativity and new ideas leads to innovative products and services.
• Operational efficiency: Streamlining processes reduces costs and improves production speed.
• Marketing and sales expertise: The ability to effectively reach and connect with target customers.
• Supply chain management: Efficient coordination with suppliers ensures timely delivery of materials.

Developing strong capabilities allows a company to leverage its resources effectively. For instance, a company with a strong brand reputation (resource) combined with exceptional marketing expertise (capability) can create compelling and targeted marketing campaigns, further solidifying its brand position.

Core competencies: the differentiating edge

Not all resources and capabilities are created equal. Core competencies are a special subset that offers a company a distinct competitive advantage. These are the capabilities that are:

• Valuable: They contribute to creating superior value for customers.
• Rare: Few competitors possess the same capabilities.
• Inimitable: Difficult for competitors to replicate due to complexity or historical embeddedness.
• Organizationally Supported: The company’s culture and structure facilitate the development and deployment of these capabilities.

The VRIO framework helps identify a company’s core competencies. By analyzing resources and capabilities through this lens, companies can identify the unique strengths that fuel their competitive edge.

For example, a company like Amazon might identify its core competency as its e-commerce logistics network. This complex system (resource) is difficult to replicate (inimitable) due to its scale and investment (rare). Combined with its data-driven approach (capability), it creates a valuable service for customers (valuable) and is supported by the company’s organizational structure and culture (organizationally supported).

By nurturing and leveraging their core competencies, companies can create a sustainable competitive advantage that sets them apart and propels them toward long-term success.

Strategic Analysis: Understanding the Business Environment

Strategic analysis examines the business environment to identify key factors and their implications for success. Then, it scans the current state and explores future possibilities, noting how significantly each element impacts success.

The strategic analysis includes:

• Internal strategic analysis
• External strategic analysis

Internal strategic analysis: identifying strengths and weaknesses

Internal strategic analysis focuses on the company’s strengths and weaknesses. This requires us to dive into the following:

• Resources: This includes assets, human resources, finance, organizational processes, knowledge, corporate culture, diversity, brand reputation, trademarks, and other intellectual property.
• Capabilities: The company’s ability to maximize resources for their best use.

A popular tool used for internal strategic analysis is the SWOT analysis framework.

SWOT analysis: a framework for evaluation

SWOT analysis offers a framework for evaluating a company’s competitive position by considering the following:

• External opportunities and threats
• Internal strengths and weaknesses

Opportunity: favorable conditions in the external environment. It offers opportunities for companies to exploit to help them achieve a competitive advantage. Examples are:

• Stable political conditions
• Increase in productive age population
• High economic growth
• Low threat of substitution
• Low bargaining power of suppliers and buyers

Threats: unfavorable conditions in the internal environment. It exposes the company to risks. Examples are:

• Economic recession
• Hyperinflation
• Rapid changes in consumer tastes and preferences
• Intense competition
• Low entry barrier

Strengths: the company’s advantages compared to competitors. Example are:

• Strong brand loyalty
• Strong balance sheet
• Innovative culture
• Flexible organization

Weaknesses: inhibiting factors for businesses to excel. Example are:

• Low customer retention
• Limited capital
• Outdated production techniques and technology

External strategic analysis: scanning for opportunities and threats

External strategic analysis focuses on opportunities and threats in the external environment. However, not all external opportunities and threats are strategic. Thus, companies must prioritize the most significant ones by considering two aspects:

• Impact: How significantly does it affect the company?
• Likelihood: How likely is it to happen?

External strategic analysis generally uses PESTEL analysis to map external opportunities and threats.

PESTEL analysis: a tool for scanning the external environment

We use PESTEL analysis to scan the external environment and map strategic opportunities and threats. It requires us to examine the following factors:

• Political factors, such as political stability and democracy index.
• Economic factors include economic growth, interest, inflation, and exchange rates.
• Socio-demographic factors include population growth, population structure (age, ethnicity, religion, education, etc.), culture, tastes, preferences, and lifestyle.
• Technological factors include e-commerce, automation, wireless technology, and so on.
• Environmental factors, such as climate and green credentials.
• Legal factors, such as regulations on competition, employment, and consumers.

Porter’s Five Forces: Understanding Industry Profitability

Michael Porter identified five forces that determine profitability within an industry. These five forces explain why some industries have higher profitability than others. The five forces include:

• Rivalry between companies: The intensity of competition between companies in the market is affected by factors such as the number of players, market growth, and their competitive strategy.
• Bargaining power of suppliers: When suppliers have high bargaining power, they can charge a high price for the inputs they supply, squeezing a company’s profit margins.
• Bargaining power of buyers: Buyers who have high bargaining power can pressure businesses to lower prices or offer more favorable terms, reducing profitability.
• Threat of substitution: Substitute products that can fulfill a similar customer need can divert customer demand away from a company’s offerings.
• Threat of new entrants: The ease with which new companies can enter an industry can intensify competition and reduce profitability for existing players.

By analyzing these five forces, companies can understand an industry’s overall attractiveness and competitive position.

Crafting a Competitive Strategy

So, how does a company achieve a strategic advantage? Michael Porter proposes generic strategies to explain how companies can achieve a competitive advantage. These strategies consider where the advantage comes from and in which markets the company competes.

Porter’s Generic Strategy

Porter’s generic strategies provide a foundation for building a competitive advantage. He divides strategies into three categories based on:

• Where does the advantage come from? (cost or differentiation)
• In which markets does the company adopt its strategy? (broad or narrow)

The three categories within Porter’s generic strategy include:

• Cost Leadership Strategy
• Differentiation Strategy
• Focused Strategy (further divided into focused cost leadership and focused differentiation)

Cost leadership strategy

The cost leadership strategy emphasizes achieving low costs to gain a competitive advantage. Companies create value by satisfying customers in the same way as competitors but more efficiently. Here’s how it works:

• A company offers a relatively standard product at the average industry price.
• But, the company has a lower cost structure than the average competitor.
• This allows them to generate higher profits because they save more on costs even though revenue is average.

Differentiation strategy

The differentiation strategy focuses on creating uniqueness to obtain high-profit margins. Companies create value by providing unique offerings that make customers willing to pay a premium price. Here’s how it works:

• The company creates a product or service that stands out in the marketplace through superior features, design, performance, or customer service.
• Customers are willing to pay more for this differentiation, leading to higher profits despite production costs that might be similar to average competitors.

Focused strategy

A focused strategy caters to a market niche where customers have specific needs that mainstream competitors do not fully address. Companies can use either a cost leadership or differentiation approach within this focused market.

• Focused cost leadership: This strategy offers customers within a niche market lower prices compared to competitors in that niche. The company achieves this by having a more efficient operation than its niche competitors.
• Focused differentiation: This strategy uniquely serves customers in a niche market by creating a differentiated product or service that caters to their specific needs and preferences.

Porter’s value chain

Michael Porter’s Value Chain is a framework that divides a business into its primary and support activities. These activities contribute to a company’s competitive advantage by creating value for the customer.

Primary Activities

• Inbound logistics: Activities related to receiving, storing, and managing raw materials and other inputs.
• Operations: Transforming inputs into finished products or services.
• Outbound logistics: Delivering finished products or services to customers.
• Marketing and sales: Promoting and selling products or services to customers.
• Service: Providing customer support and after-sales service.

Support Activities

• Human resource management: Activities related to recruiting, training, and motivating employees.
• Technological development: Activities related to developing and maintaining technology infrastructure.
• Procurement: Activities related to purchasing materials and supplies.
• Infrastructure: Providing general support activities like accounting, finance, and legal services.

By analyzing a company’s value chain, businesses can identify areas for improvement and gain a competitive advantage.

Implementing and maintaining a competitive advantage

Strategic management underlies the steps to create value and achieve sustainable competitive advantage. It includes formulating, implementing, and evaluating context-relevant strategies. The company achieves strategic competitiveness if these strategies lead to successful value creation.

The strategic management process involves:

• Business environment analysis: This involves scanning external opportunities and threats and internal strengths and weaknesses. This analysis informs the development of strategic plans to leverage strengths and opportunities while mitigating weaknesses and threats.
• Strategy formulation: Developing long-term goals for the company and creating policies and tactics to achieve these goals.
• Strategy implementation: Executing the formulated policies and plans across all business functions, ensuring synergy between them to achieve company goals.
• Evaluation: Establishing a mechanism to review whether strategies and their implementation are successful. This evaluation is crucial to ensure the strategy remains relevant to the ever-changing external environment. If adjustments are needed, the process restarts with business environment analysis.

Measuring competitive advantage

Experts propose return on invested capital (ROIC) as an indicator to measure competitive advantage. Here’s the logic:

• Suppose a company achieves a sustainable competitive advantage. In that case, its ROIC is likely to be higher than the industry average over time.
• ROIC is calculated by dividing net profit by the capital invested in the company. The formula is: ROIC = Net Profit / Capital Invested

In some cases, net operating profit after tax (NOPAT) might be used instead of net profit. Capital invested typically refers to total equity plus total debt.

A company with a consistently higher ROIC than the industry average suggests it has succeeded in generating higher profits for the capital contributed by investors (creditors and shareholders). This higher profitability can be achieved by maximizing revenue while minimizing costs, which can be linked back to Porter’s generic strategies:

• Cost leadership strategy: Revenue equals the industry average, but costs are lower than the average competitor, resulting in higher profits.
• Differentiation strategy: Revenue is higher than the industry average due to premium pricing associated with differentiation, even if costs are similar to the average competitor, resulting in higher profits.