MODULE 5

Strategic Management

SESSION TOPIC 5: Business-Level Strategy

LEARNING OUTCOMES:
The following specific learning objectives are expected to be realized at the end of the session:
1. To explain the difference between low-cost and differentiation strategies
2. To discuss the concept of blue ocean strategy

KEY POINTS

Focus strategy Segmentation strategy Standardization

strategy

CORE CONTENT
Introduction:
This module looks at how managers decide what business-level strategy to pursue, and how they go about
executing that strategy in order to attain a sustainable competitive advantage. We start by looking at two basic ways that
companies chose how to compete in a market—by lowering costs and by differentiating their good or service from that
offered by rivals so that they create more value.

LOW COST AND DIFFERENTIATION

Strategy is about the search for competitive advantage. At the most fundamental level, a company has a competitive
advantage if it can lower costs relative to rivals and/or if it can differentiate its product offering from those of rivals, thereby
creating more value.

Lowering Costs
Imagine that all enterprises in an industry offer products that are very similar in all respects except for price, and that each
company is small relative to total market demand so that they are unable to influence the prevailing price. This is the
situation that exists in many commodity markets, such as the market for oil, or wheat, or aluminum, or steel. Low costs will
enable a company to make a profit at price points where its rivals are losing money. Low costs can also allow a company
to undercut rivals on price, gain market share, and maintain or even increase profitability. Being the low-cost player in an
industry can be a very advantageous position.

Differentiation
Now let’s look at the differentiation side of the
equation. Differentiation implies distinguishing
yourself from rivals by offering something that they
find hard to match. There are many ways that a
company can differentiate itself from rivals. A
product can be differentiated by superior reliability (it
breaks down less often, or not at all), better design,
superior functions and features, better point-of-sale
service, better after sales service and support, better
branding, and so on.

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Differentiation gives a company two advantages:
 It can allow the company to charge a premium rice for its good or service, should it chose to do so.
 It can help the company to grow overall demand and capture market share from its rivals.

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It is important to note that differentiation often (but not always) raises the cost structure of the firm.

WHO ARE OUR CUSTOMERS?

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Business-level strategy begins
with the customer. It starts with
deciding who the company is going to
serve, what needs or desires it is
trying to satisfy, and how it is going to
satisfy those needs and desires.
Answering these questions is not
straightforward, because the
customers in a market are not
homogenous. They often differ in
fundamental ways.

Market segmentation refers to

the process of subdividing a market
into clearly identifiable groups of
customers with similar needs, desires,
and demand characteristics.
Customers within these segments are
relatively homogenous, whereas they
differ in important ways from customers in other segments of the market. For example, Nike segments the athletic shoe
market according to sport (running, basketball, football, soccer, and training) and gender (men’s shoes and women’s
shoes). It does this because it believes that people participating in different sports need different things.

Three Approaches to Market Segmentation

1. One is to choose not to tailor different offerings to different segments, and instead produce and sell a
standardized product that is targeted at the average customer in that market. (standardization strategy)
2. A second approach is to recognize differences between segments and create different product offerings for the
different segments. (segmentation strategy)
3. A third approach is to target only a limited number of market segments, or just one, and to become the very best
at serving that particular segment. (focus strategy)

Market Segmentation, Costs and Revenues

It is important to understand that these different approaches to market segmentation have different implications
for costs and revenues. Consider first the comparison between a standardization strategy and a segmentation strategy. A
standardization strategy is typically associated with lower costs than a segmentation strategy. A standardization strategy
involves the company producing one basic offering, and trying to attain economies of scale by achieving a high volume of
sales. In contrast, a segmentation strategy requires that the company customize its product offering to different segments,
producing multiple offerings, one for each segment. Customization can drive up costs.
Although a standardization strategy may have lower costs that a segmentation strategy, a segmentation strategy
does have one big advantage: it allows the company to capture incremental revenues by customizing its offerings to the
needs of different groups of consumers, and thus selling more in total. As for a focus strategy, here the impact on costs
and revenues is subtler. Companies that focus on the higher-income or higher-value end of the market will tend to have a
higher cost structure for two reasons. First, they will have to add features and functions to their product to appeal to
higher-income consumers, and this will raises costs. Second, the relatively limited nature of demand associated with
serving just a segment of the market may make it harder to attain economies of scale.

BUSINESS-LEVEL STRATEGY CHOICES

We now have enough information to be able to identify the basic business-level strategy choices that companies make.
These basic choices are sometimes called generic business-level strategy.

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Companies that target the broad market can either concentrate on lowering their costs so that they can lower prices and
still make a profit, in which case we say they are pursuing a broad low-cost strategy or they can try to differentiate their
product in some way, in which case they are pursuing a broad differentiation strategy. Companies that target a few
segments, or more typically, just one, are pursuing a focus or niche strategy. These companies can either try to be the
low-cost player in that niche as Costco has done, in which case we say that they pursuing a focus low-cost strategy, or
they can try to customizing their offering to the needs of that particular segment through the addition of features and
functions in which case we say that they are pursuing a focus differentiation strategy.

BUSINESS-LEVEL STRATEGY, INDUSTRY AND COMPETITIVE ADVANTAGE

Properly executed, a well-chosen and well-crafted business-level strategy can give a company a competitive
advantage over actual and potential rivals. More precisely, it can put the company in an advantageous position relative to
each of the competitive forces—specifically, the threat of entrants, the power of buyers and suppliers, the threat posed by
substitute goods or services, and the intensity of rivalry between companies in the industry.
Consider first the low-cost company; by definition, the low-cost enterprise can make profits at price points that its
rivals cannot profitably match. This makes it very hard for rivals to enter its market. In other words, the low-cost company
can build an entry barrier into its market. It can, in effect, erect an economic moat around its business that keeps higher-
cost rivals out. A low-cost position and the ability to charge low prices and still make profits also give a company
protection against substitute goods or services. Low costs can help a company to absorb cost increases that may be
passed on downstream by powerful suppliers. Low costs can also enable the company to respond to demands for deep
price discounts from powerful buyers and still make money. The low-cost company is often best positioned to survive
price rivalry in its industry. Indeed, a low-cost company may deliberately initiate a price war in order to grow volume and
drive its weaker rivals out of the industry.
Now consider the differentiated company. The successful differentiator is also protected against each of the
competitive forces. The brand loyalty associated with differentiation can constitute an important entry barrier, protecting
the company’s market from potential competitors. Because the successful differentiator sells on non-price factors, such as
design or customer service, it is also less exposed to pricing pressure from powerful buyers. Indeed, the converse may be
the case—the successful differentiator may be able to implement price increases without encountering much, if any,
resistance from buyers. The differentiated company can also fairly easy absorb price increases from powerful suppliers
and pass those on downstream in the form of higher prices for its offerings, without suffering much, if any, loss in market
share.

IMPLEMENTING BUSINESS–LEVEL STRATEGY

For a company’s business-level strategy to translate into a competitive advantage, it must be well implemented. This
means that actions taken at the functional level should support the business-level strategy, as should the organizational

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 arrangements of the enterprise. There must, in other words, be alignment or fit between business-level strategy,
functional strategy, and organization.

COMPETING DIFFERENTLY: SEARCHING FOR A BLUE OCEAN

Sometimes companies can fundamentally shift the game in their industry by figuring out ways to offer more value through
differentiation at a lower cost than their rivals. We referred to this as value innovation, a term that was first coined by
Chan Kim and Renee Mauborgne.
Kim and Mauborgne developed
their ideas further in the best-
selling book Blue Ocean Strategy.
Their basic proposition is that
many successful companies have
built their competitive advantage
by redefining their product offering
through value innovation and, in
essence, creating a new market
space. They describe the process
of thinking through value
innovation as searching for the
blue ocean—which they
characterize as a wide open
market space where a company
can chart its own course.

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When thinking about how a company might redefine its market and craft a new business-level strategy, Kim and
Mauborgne suggest that managers ask themselves the following questions:
1. Eliminate: Which factors that rivals take for granted in our industry can be eliminated, thereby reducing costs?
2. Reduce: Which factors should be reduced well below the standard in our industry, thereby lowering costs?
3. Raise: Which factors should be raised above the standard in our industry, thereby increasing value?
4. Create: What factors can we create that rivals do not offer, thereby increasing value?

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This is a useful framework, and it directs managerial attention to the need to think differently than rivals in order to create
an offering and strategic position that are unique. If such efforts are successful, they can help a company to build a
sustainable advantage.

IN-TEXT ACTIVITY
Focus strategy
When a company decides to serve a limited number of segments, or just one segment.

Segmentation strategy
When a company decides to serve many segments, or even the entire market, producing different offerings for different
segments.

Standardization strategy
When a company decides to ignore different segments, and produce a standardized product for the average consumer.

SESSION SUMMARY
A company can increase efficiency through a number of steps: exploiting economies of scale and learning effects;
adopting flexible manufacturing technologies; reducing customer defection rates; implementing just-in-time systems;
getting the R&D function to design products that are easy to manufacture; upgrading the skills of employees through
training; introducing self-managing teams; linking pay to performance; building a companywide commitment to efficiency
through strong leadership; and designing structures that facilitate cooperation among different functions in pursuit of
efficiency goals.

SELF-ASSESSMENT
Case study:
Costco is pursuing a low-cost strategy. As result of its pressures on suppliers to reduce prices, many of them have
outsourced manufacturing to low-wage countries such as China. This may have contributed to the “hollowing out” of the
manufacturing base in the United States. Are Costco’s actions ethical?

REFERENCES
Refer to the references listed in the syllabus of the subject.

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