Chapter 4

Business-Level Strategy

Part 2 Strategic Actions: Strategy Formulation

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Learning Objectives
Studying this chapter should provide you with
the strategic management knowledge needed to:
1. Define business-level strategy.
2. Discuss the relationship between customers and business-
level strategies in terms of who, what, and how.
3. Explain the differences among business-level strategies.
4. Use the five forces of competition model to explain how
above-average returns can be earned through each
business-level strategy.
5. Describe the risks of using each of the business-level
strategies.

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 Customers: Their Relationship
with Business-Level Strategies

Who will be
served?

Key Issues
in What needs will
Business-level be satisfied?
Strategy

How will those

needs be satisfied?

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 Effectively Managing Relationships
with Customers

• Firms must manage all aspects of their

relationship with customers.
– Reach: firm’s access 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

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 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 Industrial
Markets Markets

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 Market Segmentation

• Consumer Markets • Industrial Markets

– Demographic factors – End-use segments
– Socioeconomic factors – Product segments
– Geographic factors – Geographic segments
– Psychological factors – Common buying factor
– Consumption patterns segments
– Perceptual factors – Customer size
segments

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Table 4.1 Basis for Customer Segmentation

Consumer Markets
1. Demographic factors (age, income, sex, etc.)
2. Socioeconomic factors (social class, stage in the family life cycle)
3. Geographic factors (cultural, regional, and national differences)
4. Psychological factors (lifestyle, personality traits)
5. Consumption patterns (heavy, moderate, and light users)
6. Perceptual factors (benefit segmentation, perceptual mapping)

Industrial Markets
1. End-use segments (identified by SIC code)
2. Product segments (based on technological differences or
production economics)
3. Geographic segments (defined by boundaries between countries
or by regional differences within them)
4. Common buying factor segments (cut across product market and
geographic segments)
5. Customer size segments

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 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.

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How: Determining Core Competencies
Necessary to Satisfy Customer Needs

• Firms must decide:

– Whom to serve, what customer needs to meet, and
how to use core competencies to implement value
creating strategies that satisfy target 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.

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 The Purpose of a
Business-Level Strategy

• Business-Level Strategies
– Are intended to create differences between the firm’s
competitive position and those of its competitors.
• To position itself, the firm must decide whether it
intends to:
– Perform activities differently or
– Perform different activities as compared to its rivals.

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 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.

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 Competitive Scope

• Broad Scope
– The firm competes in many
customer segments.
• Narrow Scope
– The firm selects a segment or
group of segments in the
industry and tailors its strategy
to serving them at the
exclusion of others.

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 Types of Business-Level Strategies

Basis for Customer Value

Lowest Cost Distinctiveness

Broad Cost Leadership Differentiation

Target
Integrated Cost
Target
Leadership/
Market Differentiation

Narrow Focused Cost Focused

Target Leadership Differentiation

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Figure 4.1 Five Business-Level Strategies

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 Cost Leadership Strategy

• An integrated set of actions taken to produce

goods or services with features that are
acceptable to customers at the lowest cost,
relative to that of competitors.
• Product Characteristics
– Relatively standardized (commoditized) products
– Features broadly acceptable to many customers
– Lowest competitive price

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 Cost Leadership Strategy

• Cost saving actions required by this strategy:

– Building efficient scale facilities
– Tightly controlling production costs and overhead
– Minimizing costs of sales, R&D and service
– Building efficient manufacturing facilities
– Monitoring costs of activities provided by outsiders
– Simplifying production processes

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 How to Obtain a Cost Advantage

Determine Reconfigure
and control Value Chain
Cost Drivers if needed

 Alter production process  New raw material

 Change in automation  Forward integration
 New distribution channel  Backward integration
 New advertising media  Change location relative
 Direct sales in place of to suppliers or buyers
indirect sales

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Figure 4.2 Examples of Value-Creating Activities Associated with the Cost Leadership Strategy

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 Value-Creating Activities
for Cost Leadership
• Cost-effective MIS • Monitor suppliers’
• Few management layers performances
• Simplified planning • Link suppliers’ products to
• Consistent policies production processes
• Effecting training • Economies of scale
• Easy-to-use manufacturing • Efficient-scale facilities
technologies • Effective delivery
• Investments in schedules
technologies • Low-cost transportation
• Finding low-cost raw • Highly trained sales force
materials • Proper pricing
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Cost Leadership Strategy: Competitors

• Due to cost leader’s

advantageous position: Rivalry with
Existing Competitors
– Rivals hesitate to compete
on basis of price. Threat of
– Lack of price competition new
entrants
leads to greater profits. Rivalry
among Bargaining
competing power of
firms suppliers

Threat of Bargaining
substitute power of
products buyers

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 Cost Leadership Strategy: Buyers

• Can mitigate buyers’ Bargaining Power

power by: of Buyers
– Driving prices far below
competitors, causing Threat of
new
them to exit, thus entrants
Rivalry
shifting power with among Bargaining
power of
buyers (customers) competing
firms suppliers
back to the firm.
Threat of Bargaining
substitute power of
products buyers

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 Cost Leadership Strategy: Suppliers

• Can mitigate suppliers’ Bargaining Power

power by: of Suppliers
– Being able to absorb
cost increases due to Threat of
new
low cost position. entrants
Rivalry
– Being able to make among Bargaining
competing power of
very large purchases, firms suppliers

reducing chance of
supplier using power. Threat of
substitute
Bargaining
power of
products buyers

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Cost Leadership Strategy: New Entrants

The Threat of
• Can frighten off new
Potential Entrants
entrants due to:
Threat of – Their need to enter on
new
entrants
a large scale in order to
Rivalry
Bargaining
be cost competitive.
among
competing power of
suppliers
– The time it takes to
firms
move down the
Threat of Bargaining industry learning curve.
substitute power of
products buyers

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Cost Leadership Strategy: Substitutes

Product • Cost leader is well

Substitutes positioned to:
– Lower prices in order to
Threat of
new maintain its value position.
entrants
Rivalry – Make investments to add
Bargaining
among
competing power of features unavailable in
suppliers
firms substitutes.
Threat of Bargaining
– Buy intellectual property
substitute power of and patents developed by
products buyers
potential substitutes.

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 Cost Leadership Strategy (cont’d)

• Competitive Risks
– Processes used to produce and distribute good or
service may become obsolete due to competitors’
innovations.
– Too much focus on cost reductions may occur at
expense of customers’ perceptions of differentiation.
– Competitors, using their own core competencies, may
successfully imitate the cost leader’s strategy.

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 Differentiation Strategy

• 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.
– Focus is on nonstandardized products
– Appropriate when customers value differentiated
features more than they value low cost.

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 How to Obtain a
Differentiation Advantage

Control Reconfigure
Cost Drivers Value Chain to
if needed maximize

 Lower buyers’ costs

 Raise performance of product or service
 Create sustainability through:
 Customer perceptions of uniqueness
 Customer reluctance to switch to non-
unique product or service
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Figure 4.3 Examples of Value-Creating Activities Associated with the Differentiation Strategy

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 Value-Creating Activities
and Differentiation
• Highly developed MIS • High quality replacement
• Emphasis on quality parts
• Worker compensation for • Superior handling of
creativity/productivity incoming raw materials
• Use of subjective • Attractive products
performance measures • Rapid response to
• Basic research capability customer specifications
• Technology • Order-processing
• High quality raw materials procedures
• Delivery of products • Customer credit
• Personal relationships
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Differentiation Strategy: Competitors

Rivalry with
• Defends against
Existing Competitors
competitors because
Threat of customer’s brand
new
entrants loyalty to differentiated
Rivalry
among Bargaining product offsets price
power of
competing
firms suppliers competition.
Threat of Bargaining
substitute power of
products buyers

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 Differentiation Strategy: Buyers

Bargaining Power
• Can mitigate buyers’
of Buyers
power because well
Threat of differentiated
new
entrants products reduce
Rivalry
among Bargaining customer sensitivity to
power of
competing
firms suppliers price increases.
Threat of Bargaining
substitute power of
products buyers

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 Differentiation Strategy: Suppliers

Bargaining Power • Can mitigate suppliers’

of Suppliers power by:
– Absorbing price increases
Threat of
new due to higher margins.
entrants
Rivalry – Passing along higher
among Bargaining
competing power of supplier prices because
suppliers
firms buyers are loyal to
Threat of Bargaining
differentiated brand.
substitute power of
products buyers

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Differentiation Strategy: New Entrants

The Threat of
• Can defend against new
Potential Entrants
entrants because:
Threat of – New products must
new
entrants
surpass proven products.
Rivalry
Bargaining – New products must be at
among
competing power of
suppliers
least equal to performance
firms
of proven products, but
Threat of Bargaining offered at lower prices.
substitute power of
products buyers

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 Differentiation Strategy: Substitutes

Product
• Well positioned relative
Substitutes
to substitutes because:
Threat of – Brand loyalty to a
new
entrants
differentiated product
Rivalry
Bargaining
tends to reduce
among
competing power of customers’ testing of new
suppliers
firms
products or switching
Threat of Bargaining
brands.
substitute power of
products buyers

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 Competitive Risks of Differentiation

• The price differential between the differentiator’s

product and the cost leader’s product becomes
too large.
• Differentiation ceases to provide value for which
customers are willing to pay.
• Experience narrows customers’ perceptions of
the value of differentiated features.
• Counterfeit goods replicate the differentiated
features of the firm’s products.

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 Focus Strategies

• An integrated set of actions taken to produce

goods or services that serve the needs of a
particular competitive segment.
– Particular buyer group—youths or senior citizens
– Different segment of a product line—professional
craftsmen versus do-it-yourselfers
– Different geographic markets—East coast versus
West coast

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 Focus Strategies (cont’d)

• Types of focused strategies

– Focused cost leadership strategy
– Focused differentiation strategy
• To implement a focus strategy, firms must
be able to:
– Complete various primary and support
activities in a competitively superior manner,
in order to develop and sustain a competitive
advantage and earn above-average returns.

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Factors That Drive Focused Strategies

• Large firms may overlook small niches.

• A firm may lack the resources needed to
compete in the broader market.
• A firm is able to serve a narrow market segment
more effectively than can its larger industry-wide
competitors.
• Focusing allows the firm to direct its resources to
certain value chain activities to build competitive
advantage.

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Competitive Risks of Focus Strategies

• A focusing firm may be “outfocused” by its

competitors.
• A large competitor may set its sights on a firm’s
niche market.
• Customer preferences in niche market may
change to more closely resemble those of the
broader market.

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 Integrated Cost Leadership/
Differentiation Strategy

• A firm that successfully uses an integrated cost

leadership/differentiation strategy should be in a
better position to:
– Adapt quickly to environmental changes.
– Learn new skills and technologies more quickly.
– Effectively leverage its core competencies while
competing against its rivals.

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 Integrated Cost Leadership/
Differentiation Strategy (cont’d)

• Commitment to strategic flexibility is necessary

for implementation of integrated cost leadership/
differentiation strategy.
– Flexible manufacturing systems (FMS)
– Information networks (CRM)
– Total quality management (TQM) systems

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 Flexible Manufacturing Systems

• Computer-controlled processes used to

produce a variety of products in moderate,
flexible quantities with a minimum of manual
intervention.
– Goal is to eliminate the “low-cost-versus-wide
product-variety” tradeoff.
– Allows firms to produce large variety of products at
relatively low costs.

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 Information Networks

• Link companies electronically with their

suppliers, distributors, and customers.
– Facilitate efforts to satisfy customer expectations in
terms of product quality and delivery speed.
– Improve flow of work among employees in the firm
and their counterparts at suppliers and distributors.
– Customer relationship management (CRM)

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 Total Quality Management
(TQM) Systems

• Emphasize total commitment to the customer

through continuous improvement using:
– Data-driven, problem-solving approaches
– Empowerment of employee groups and teams
• Benefits
– Increased customer satisfaction
– Lower input and operating process costs
– Reduced time-to-market for innovative products

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Risks of an Integrated Cost Leadership/
Differentiation Strategy

• Often involves compromises

– Becoming neither the lowest cost nor the most
differentiated firm.
• Becoming “stuck in the middle”
– Lacking the strong commitment and expertise that
accompanies firms following either a cost leadership
or a differentiated strategy.

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