General Causes of Product Differentiation - Assignment Example

PRODUCT DIFFERENTIATION Product differentiation Introduction Product differentiation generally relates to a marketing strategy in which a product from a given manufacturer is distinguished from others so as to make it more appealing and attractive to a given target market (Wolinsky, 1980).The process involves contrasting the unique qualities of a product with other competing products in order to create competitive advantage for a given firm or supplier. The concept of product differentiation was first introduced by Edward Chamberlin when he was developing the theory of monopolistic competition in 1933 (Arping, 2002). Firms differentiate their products so that they can do away with perceived substitutes for those products through a sharp focus on their quality and design thereby creating uniqueness (Häckner , 1993). It offers businesses with an opportunity to compete on other aspects of the products such as quality, durability, taste, status symbol and design instead of just relying on price competition (Anderson, 1992). General causes of product differentiation The main sources of product differentiation include differences in the functional features as well as design of the products, differences in quality which leads to different prices, sales promotion events such as advertising which may make consumers to make rational or irrational decisions regarding their purchasing patterns (Martin, 1993). Consumers also differ in terms of their timing and locations which affects their decision patterns thus leading to differentiation. However, as much as product differentiation is able to yield positive results to industries, there are some ethical concerns about it. For example, some of the techniques used are based on capitalizing on the ignorance of the consumers while some are based rebranding existing products without making much change in their quality (Boehnlein, 1993). Horizontal product differentiation and vertical product differentiation Horizontal differentiation refers to a form of product differentiation in which distinction among products is not based on quality but varies marginally which is expressed in terms of no differences in prices owing to the fact that the quality of the products almost tend to remain the same (Simunic, 1987). Horizontal product differentiation can be in terms of differences on colour, shapes, styles, tastes and flavours. This strategy is aimed at creating a brand that is appealing to a certain group of customers who identify with a particular colour or style which can be determined by their social background. The prices are generally the same but only the preferences of the consumers that are usually different (Meyer, 1996). Horizontal differentiation often is cheaper than improving quality, which is necessary for vertical differentiation (Vousden, 1995). Offering too many options, on the other hand, may become inefficient due to the cost of producing new options. In addition, horizontal differentiation is not enough to acquire new customers if they are looking for higher levels of objectively measured quality or lower prices (Cohen, 2004). One of the greatest contributions of horizontal differentiation to a company is that it offers a greater market share by offering the target customers with a wide variety to choose from. It is also cheap to companies compared to vertical differentiation which focuses on improving the quality of a product since it does not attract additional costs (Stuyck, 1983). On the other hand it is limited in the sense that it is not sufficient to attract new customers who are focused on increased quality and low prices. Providing too many options may not be cost effective in the long run given that the target markets differ in number and as a result some products may go unsold (Beath, 1991). Vertical differentiation relates to a situation where products can be presented in different objective qualities ranging from the highest to the lowest. It can be obtained along one, a few or across several features with wide possible clear-cut ranges. Products will tend to outweigh each other based on some features or criteria that the consumers are keen on (Tirole, 1988). The potential consumer may develop biasness in relation to how they perceive the features of the products which depends on the manner of advertisement, cultural factors as well as social orientation. It is worth noting in this case that the differences in the products is so evident in such a way that even if the products were to be sold at the same price, consumers will still be very specific with what they are likely to purchase unlike the case in horizontal differentiation (Bond, 1977). Location models of product differentiation There exist two location models that discusses production differentiation in a given location namely Linear Hotelling Model and the Salop circular Model. This study shall focus on the derivation of the Linear Hotelling Model Part 1 Step 1: assume that a town is made up of only one street. Step 2: consumers are also located along the streets with a uniform density. For example there are 0.45 consumers living between 0 and 0.45. Step 3: two meat pie locations are m and 1-n with cost functions c (q)= cq and each consumer buys only one meat pie in one of the stores incurring transportation cost to the stores. Utility of a consumer located at point y and buying first store will be given as; U-p1-t(m-y)2 Part 2 The firms then moves in to choose the price level Given locations (m, 1-n), Consumer y above will be indifferent if: u- p1 – t(m-y)2 = u-p2-t(1-n-y)2 y= m + (1-m-n)/2 + (p2-p1)/2t(1-m-y) Demand functions for the two firms will be: q1 (p1, p2) = m+ (1-m-n)/2+ (p2-p1)/2t (1-m-y) q2 (p1, p2) = n+ (1-m-n)/2+ (p1-p2)/2t (1-m-y) The firms then choose the price to maximize their profits given the demand function above as follows; Best reaction functions for each firm BR1(P2) = mt(1-m-n) + t(1-m-n)2/2 +( p2 + c)/2 BR2(P1) = mt(1-m-n) + t(1-m-n)2/2 +( p1 + c)/2 Conditional price functions for the firms is thus expressed as P1c(m,n) = c+t(1-m-n) [1 + (m-n)/3] P2c(m,n) = c+t(1-m-n) [1 + (n-m)/3] The importance of the distinction between horizontal and vertical product differentiation The distinction between horizontal differentiation and vertical differentiation is very important in predicting the effects of product differentiation in different industries since it will enable an industry to carry out appropriate cost benefit analysis. For horizontal product differentiation which does not result into a change in the price of the commodities, a firm should ensure that very little or no cost implication arises in the process of differentiation so that they do not incur huge losses (Gartenkrau, 1978). The distinction is also important to firms since it will be used when setting the prices of the final products. The distinction assists in establishing the basis of differentiation that a given product has being undertaken by an industry (Cohen, 2003). Product differentiation may be based on functionality which can be either vertical or horizontal. However, if a product line is based on the type of features, it will lead to horizontal differentiation since they are likely to serve different purposes (Levine, 2002).The second basis is on the manner of packaging which can be in terms of add-ons or on bundles. Quality offers another basis for product differentiation. When products are arranged from the lowest to the highest, vertical differentiation is attained. On the other hand a little or no change in quality arises in horizontal differentiation (Pinkston, 1999). The price of a ‘top of the range’ computer has remained more or less constant even though the quality has increased by a factor of over one hundred over the last twenty years owing to the fact that the product has undergone weak product differentiation in which the change in quality is not appealing to consumers or the consumers do not witness any difference in quality of the computers in terms of their application (Faruq, 2007). The change in quality may not be directly evident to the consumers who will in turn demand that the prices be maintained at the same level. The consumers in this case are purely driven by prices and not any other aspect of the product. Stiff competition in prices has also contributed ti the constant price of the top range computer. The manufacturers fear that they will loose their customers should they increase their prices despite the fact that the product has undergone major change in quality hence they have to maintain the price level. The change in quality does not lead into major increase in the cost of production and therefore the manufacturers still enjoys the same level of profits or even higher due to increased sales arising from the constant price levels. Increased sales will result in increase revenue which will eventually lead into supernormal profits due to constant cost of production. Another factor that may lead to constant prices is government policies such as price controls which may hinder any increase in prices. The government may also offer subsidy to the manufactures so that they can increase output as well as quality while maintaining the same prices so as not to interfere with the welfare of the consumers or as a means of encouraging innovations in technology. References Anderson, S. 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