Superior Performance and Competitive Advantage - Principles of Management

The overriding goal of most organizations is superior performance. For the business firm, superior performance has a clear meaning: It is the ability to generate high profitability and increase profits over time. A central task of managers is to pursue strategies that enable their firm to attain superior performance, measured by profitability and profit growth. This is easier said than done! A principal reason is that firms must compete against rivals for scarce resources. Wal-Mart’s success is exemplary precisely because it has been able to outperform rivals such as Kmart and Target over the long haul.

In general, a business firm is more likely to attain high profitability and solid profit growth if it can outperform its rivals in the marketplace—if it can stay ahead in the race for consumer dollars. When a firm outperforms its rivals, we say that it has a competitive advantage.

At the most basic level, competitive advantage comes from two sources:

  1. the ability of the firm to lower costs relative to rivals and
  2. the ability to differentiate its product offering from that of rivals.

As we will see shortly, the business-level strategies a firm can pursue are aimed at lowering costs and better differentiating its products.

If a firm has lower costs than its rivals, other things being equal, it will outperform them. It can charge the same price as its rivals and be more profitable. Alternatively, it might use its low costs to charge less, gain market share, and increase its profits faster than rivals. Or it can do some combination of these two things. Dell Computer, for example, has a competitive advantage over rivals due to its lower cost structure.

It has used this low cost structure to cut prices for personal computers, gain market share, and increase its profits faster than rivals. Moreover, due to its low cost structure, Dell can still make good profits at low price points where its rivals lose money. If a firm has successfully differentiated its products from those of rivals by attributes such as superior design, quality, reliability, after-sales service, and so on, it should also be able to outperform its rivals.

Superior Performance and Competitive Advantage

It can charge more than rivals but still register significant sales and earn high profits. Alternatively, it can charge a similar price as less differentiated rivals but use the superior appeal of its products to gain market share and increase its profits faster than rivals. Or it can do some combination of these two things. The high-end department store retailer Nordstrom, for example, has differentiated its product offering from that of rivals by the quality of its merchandise and by its superior in-store customer service. This differentiation has let Nordstrom charge more than rivals while capturing more demand and growing its profits faster than rivals over time.

In general, when a firm has a competitive advantage it derives from one or more distinctive competencies. A distinctive competency is a unique strength that rivals lack. For example, Dell Computer has a unique strength in using the Internet to coordinate a globally dispersed supply chain to such an extent that the firm holds only two days of inventory at its assembly plants. Because inventory is a major source of costs in the personal computer business, and most of Dell’s rivals operate with as much as 30 days of inventory on hand, Dell’s distinctive competency in supply chain management helps explain the firm’s low cost structure.

Nordstrom, in contrast, has a distinctive competency in customer service. Nordstrom’s salespeople are the best in the industry at respectfully helping customers purchase clothes that make them look good. Because customer service gives Nordstrom a differential advantage, it can charge higher prices than rivals for the same basic merchandise.

When a firm outperforms its rivals for a long time, we say that it has a sustainable competitive advantage. A sustainable competitive advantage arises from a distinctive competency that rivals cannot easily match or imitate. For example, rivals find it hard to copy Dell’s distinctive competency in supply chain management. Dell’s strength here is based on the ability to take orders that flow into its Web site from customers and communicate those instantly via the Internet to its suppliers, wherever in the world they might be located.

Rivals like Hewlett-Packard would like to do the same thing, but they cannot because unlike Dell, which sells directly to consumers via its Web site, Hewlett-Packard sells mostly through retailers. Thus Hewlett-Packard lacks the real-time information about sales that Dell has, and thus HP cannot execute supply chainmanagement techniques based on access to such information.

A distinctive competency is difficult for rivals to match or imitate when it is protected from copying by a barrier to imitation. Barriers to imitation include intellectual property rights (such as patents, trademarks, and copyrights) and processes that are embedded deep within a firm and not easy for rivals to see or copy. For example, a barrier to imitation that makes it difficult for rivals to create products similar to Microsoft Office, the company’s suite of productivity programs, is the copyright Microsoft has on the computer code that makes up the Office programs, which rivals cannot directly copy without breaking copyright law.

Similarly, 3M has a distinctive competency ininnovation that has enabled the company togenerate 30 percent of its sales from differentiatedproducts introduced within the last five years. Rivals find this competency difficult to imitate because it is based on processes for generating new product ideas and taking those ideas from conception through market introduction. These processes are embedded deep within the organization and not easy to observe. There is, in other words, no code book or book of blueprints a rival can purchase to learn how to operate like 3M.

Legacy constraints can also make it difficult for rivals to imitate a firm’s distinctive competency. Legacy constraints arise from prior investments in a particular way of doing business that are difficult to change and limit a firm’s ability to imitate a successful rival.

Hewlett-Packard, for example, has invested in reaching consumers for personal computers through retail channels. This is a legacy constraint that makes it difficult for Hewlett-Packard to adopt quickly the direct selling model that Dell uses—that would require HP to walk away from long-established relationships with retailers. If HP were to do that, it would undoubtedly lose significant sales in the short run as it transitioned its business from selling through retailers to selling direct.

Legacy constraints

In sum, to achieve superior performance, a firm must have a competitive advantage, which allows a firm to achieve lower costs than rivals and better differentiate its product offering. A competitive advantage is typically based on one or more distinctive competencies or unique strengths that the firm has relative to rivals.

That competitive advantage willbe more sustainable if it is difficult for rivals to copy or imitate the firm’s distinctive competencies.Barriers to imitation and legacy constraints are important factors that make it difficultfor rivals to copy a firm’s distinctive competencies.

For managers, the key task is to figure out what they must do to build a distinctive competency in one or more activities to gain a competitive advantage over rivals. Moreover, it is clearly preferable that competency be difficult for rivals to imitate due to barriers to imitation and rivals’ legacy constraints.

In such circumstances the firm’s advantage will be more sustainable. Indeed, without barriers to imitation or legacy constraints rivals will quickly copy any new products or processes that managers develop, and any competitive advantage that derives from those products or processes will be transitory.

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