The Importance of Competitive Strategies in Business - Term Paper Example

The Importance of Competitive Strategies in Business A company is said to enjoy competitive advantage when its profits are more than its average profits. In any industry, the aim of every business is to build competitive advantage over its rivals. The competitive strategy of any company is to attract more customers, satisfy their needs and maintain a strong position in the market. The management therefore will take steps towards offering quality value to the customers in an attempt to gain competitive advantage. The management can employ competitive strategies either defensive or offensive in an attempt to offset the competitive strategies employed by the other competitors. Competitive strategies will also involve the reallocation of resources to various sectors within their business in order to improve the companys long term capabilities and marker position. Employment of tactical strategies can also evident in countering the market conditions existing at any given time (Thompson, 2003, p65). Porters Theory on Competitive Strategies According to Porter (1979), there are five forces that determine the competitive advantage capacity and therefore attracting more customers in the market than their rivals. There are two fundamentals of competitive advantage that a company can adopt and they are either low cost or differentiation. Together with the scope of activities that for which a business wishes to achieve, it leads to three basic strategies for achieving a performance that is above average. These three include: cost leadership, differentiation and focus which comprises two variables namely; the differential focus and the cost focus. Cost leadership In cost leadership, the company will produce the cheapest products in the market either aiming at economies of scale, preference in raw material acquisition, the best technology among other factors. The manager must therefore exploit all the sources of cost advantage and once it attains cost leadership, then it becomes apparent that the firm can command the prices provided that the prices are within the industrys average. Such a firm can be said to be successful and to have a competitive advantage over its rivals. However, the low price should not compromise the value of the product but the firm should ensure similar quality of the service or product as their rivals (Thompson, 2003). Employment of Economies of Scale In achieving cost leadership, the firm may employ the advantage of economies of scale. Economies of scale are the benefits enjoyed by expanding the scale of production in a long period. This has the effects of reducing the long run average costs on various products. Production efficiency is therefore achieved thus lowering the cost of production. This can automatically lead to low cost of prices on products to the customers but since the firm must make profits, then the firm will have to dictate the prices and at the same time acquire more customers than their rivals. Following is a table illustrating the effect of economies of scale in the long run (King, 2004, p189). Table 1: Effect of economies of scale Average cost per unit (KShs) Total cost (KShs) Long run outputs (units) 10 20,000 2000 9 45000 5000 7.2 144000 20000 The Learning Curve and Experience Curve Effect The learning curve effect illustrates that the more a task is carried out, the less the effort will be required to perform it in a subsequent turn. In 1936 at Wright Patterson Air Force base, it was determined that every time total aircraft production doubled, the time required to do it reduced by ten to fifteen percent. Other surveys to different industries have recorded a tremendous decrease in the time of labor up to thirty percent decrease. Ideally, as the amount of manufacture doubles, overheads decline at a conventional rate. The learning curve can be illustrated using the following formulae: this equation is normally called the unit curve. Yx = Kxlog2b Where K is the number of hours used to produce the first unit Yx is the number of hours required to produce xth unit x is the unit number b is the learning percentage. The experience curve on the other hand focuses its effect on the costs. It states that the more a task is performed the lower will be the cost of redoing it. Each time the volume of production increases, the cumulative costs reduce by a constant and a certain predictable percentage. The effect of the experience curve is always represented graphically with the cumulative being reflected on the horizontal axis while the costs are plotted on the vertical axis. A curve that shows a ten percent reduction in cost is called a ninety percent experience curve. An equation that has been derived mathematically simplifies the graphical representation and it is called Hendersons or Powers law (King, 2004, p191). This is represented as below: Cn is the cost of production of the first unit C1n is the cost of production of the nth unit n is the cumulative volume of production a is the elasticity of cost in relation to output Value Chain The value chain is the sequence of steps through which a product passes in a firm in any given industry, at each step, the product gains value. Actually, the chain of activities adds more value than the value of adding all of the activities. If for example a cutter is used to cut a piece of diamond, though the activity may be cheap, the value added to the diamond is significant and way different from the activity of cutting. A firm will synchronize the various activities and create an extended chain that leads to higher production than if the activity was carried out alone. These interconnected values of chains have a common name and they are called the value system (King, 2004, p191). A value system comprises of the suppliers value chain, the firm itself, the distribution channels of the firm and the buyer of the product. For instance, a manufacturing company may require that a supplier of some of its raw materials be located nearby in order to reduce its transportation costs. Further, the business may not intend to use the intermediaries but instead develop other strategies and therefore reduce the number of the intermediaries hence increasing its profits that would end up in the hands of the intermediaries. The value chain analysis has also been used to foster development by identifying various chains that can be removed to reduce poverty. Outsourcing is a strategy where a firm can delegate some of its duties to another firm. Most businesses s do so when they realize high costs from such activities and therefore find it necessary to outsource such high cost activities. Differential Strategy In the differentiation strategy, the firm attempts to stand out from the rest in some dimensions that are preferred by most buyers. It picks in the market various attributes that the buyers prefer and positions itself to meet these unique requirements and the reward of meeting such requirements is met by the buyers buying the product or the service in a premium price. To achieve this, the firm studies the buyers needs and behavior and out of it, identifies the most prioritized one and again what they think has value and the willingness to pay for it. The drivers of differential strategy include: production of superior products in an attempt to outdo those of the rivals. The buyer therefore gains convenience, reliability and safety from such products (Madigan, 1985). Engineering designs and advanced technological features are often employed in order to come up with products that are unique or give a sense of prestige or status. Intel Company is one of the few that uses speed, innovation and a variety of techniques to capture a certain group of the population. This can basically be described as using of features that enhance satisfaction on the side of the buyer. More so, the firm may differentiate products in an aim to win the buyers loyalty and as far as the firm succeeds, it may be insulated in practicing price based competition. The firm therefore can be said to produce products that the rivals cannot produce and therefore effective competition (Madigan, 1985). Focused Strategy The firms seeking to use this method as a strategy to gain competitive advantage identifies a narrow scope in the industry and tailors its service towards meeting such segments in exclusion of others. In the two variants mentioned previously, the firm either aims at cost advantage on such selected segment or seeks differentiation on such segment. The target segment in any way may either have meet requirements of buyers whose needs are unique or unusual or the production or delivery service that well fits the target segment. While the cost focus exploits the cost behavior in certain segments of the industry, the differentiation focus exploits the special needs of different buyers in different categories (Stonehouse, n.d). Best Cost Provider Strategy Best cost provider strategy is a strategy balancing between a low cost and a high value of the product; it therefore can be described as a hybrid system that combines the concept of cost leadership and differential concept on unique products. The idea of the above aspect is to satisfy the customer on the quality of the product at a reduced price. Cooperative Strategies In cooperative strategies, two or more organizations may merge in some sectors aiming to cut down on the cost of production and also maximize profits. The organizations may still compete in some way though they have collaborated to some extent mostly in the global market. There are various ways in which such organizations may collaborate and these are: vertical backward collaboration, horizontal backward collaboration, horizontal collaboration and diversified collaboration. The basic idea behind collaboration is to bring competences and resources together that are more useful and productive than when separated. Beneficial relations are experienced on mutual learning, effective cooperation over time and successfully adapting to change (Stonehouse, n.d). A company exhibits vertical backward when it controls or takes over some of the subsidiaries that produce some of the inputs of production of its products. On the contrary, vertical forward collaboration entails the taking over of the outlets of its products including the distribution channels through which their products are sold. Horizontal integration means the acquisition of different business activities that are at the same level of the value chain mostly, offering the same products or even unrelated businesses. A good example of this kind of integration is where the Standard Oil Company acquired forty refineries. The firm will benefit on the economies of scale by selling more of the same product this mostly due to geographical expansion. There is increased market power over the suppliers and other downstream rivals and increase in market share (Madigan, 1985). In diversified classification however, the company takes over another company that is not in its line of production. By doing so, the company ensures that in case of huge losses in one business or a global recession in one business, the company will still run and record profits through the other business. Mergers and Acquisitions Though these terms are mostly confused to be similar, their differences range from their definitions to what they specifically entail. While merging is the pooling together of resources of two or more companies, acquisition is an aspect where a large company takes over or takes controlling rights form a smaller business and incorporates it into its business. In both, the resources of the parties are merged together in an aim to enhance production and increase competitiveness. Both public and private companies can engage in acquisitions and merging although it is hard when dealing with the public Companies because a majority shareholders vote is always required to approve the transaction. Takeover may either be hostile or friendly depending on how the agreement is reached; in friendly takeover, both parties agree on the terms of acquisitions but in the hostile takeover, the takeover target is not willing to be bought. Benefits Derived from Mergers and Acquisition Both parties begin to enjoy economies of scale that would not have been achieved if the companies were operation separately. Further the companies combine complementary resources, reduce or eliminate efficiencies and acquiring tax advantages. The market can also be increased by purchasing off some competitors and further on reducing weaknesses on important areas on business. New geographical areas can be penetrated easily and therefore providing the business with more opportunities and therefore advancement. Today, multibillion dollar companies are being formed and due to the limited resources, merging and acquisition seems the most viable option ((Madigan, 1985). Motivations of Mergers and Acquisitions Though most have been mentioned above, there are specific benefits that are automatically derived from merging and acquisitions and these include: Market entry or penetration – since both parties had branches on various regions in the market, then it becomes apparent that getting into certain geographical areas becomes easy. Due to merging and therefore increased capital, the business can take that advantage to enter into new business (Madigan, 1985). Market share – as discussed previously, since the company can buy off most of its competitors, this increases the market share for that company either geographically or otherwise. Moreover, through economies of scale, high production can be realized and therefore increase the market leading to increase in the market share. Product port folio – the quality and therefore the value of the product that was locked up in the small business can be improved by the exploitation of resources introduced by the transaction (Madigan, 1985) Reduction of competition – buying off of the competitors is one of the most primary moves towards reduction of competition. Moreover, when the resources of two recently rival companies are merged, the outcome is a strong force of competition against the other competitors in the market. Leveraging core competences – a core competence is a specific factor that a business identifies as central to either reduction of costs or profit maximization. Upon identification of such a factor, this can be applied on the production of quality products (Hannagan, 2002). Resource utilization – The aim of any company is to maximize profits; this can only be achieved through proper and maximum utilization of resources. Merging brings together competent human resource that work towards maximum resource utilization for achievement of the main goal. Access to supply and distribution channels – through collaboration and integration, all the suppliers of both parties channel their supply towards one buyer. This reduces the cost of raw material acquisition in that competition for raw materials is reduced and the business may actually enjoy monopoly (Hannagan, 2002). References Hannagan, T. (2002) Management Concepts and Practices (3rd Ed.), Harlow: Pearson Education. King D., Dalton D., Daily C. and Covin J. (2004) "Business analyses on After-acquisition Performance, Strategic Management Journal 25 (2): 187–200. Maddigan, R. (1985) The benefits of Vertical Integration, Management and Decision Making in Economics New York, New York University press. Stonehouse, G. (nd) Global & Transnational Business Strategy & Management, John Wiley & Sons. Thompson, A & Strickland, A. J (2003) Strategic Management (13th Ed), New York McGraw Hill. Read More