Porter’s generic strategies Essay

Introduction Porter’s generic strategies of cost leadership, differentiation and focus can be (and often are) adopted by competitors in any given industry and can be provably successful in 21st century business. According to Porter: Effectively implementing any of these generic strategies usually requires total commitment and supporting organizational arrangements that are diluted if there is more than one primary target. . . . [These] generic strategies are approaches to outperforming competitors in the industry. Porter (1980: 35). Furthermore, Porter argues that â€Å"the firm failing to develop its strategy in at least one of the directions–a firm struck in the middle–is in an extremely poor position† and is doomed to essentially low profitability. Porter (1980: 41). In cost leadership situation an organization sets out to be the low-cost producer in its industry. It caters for many industry segments. If an organization can achieve and sustain overall cost leadership then it will achieve superior performance. Cost leadership can be obtained by focusing on key accounts, reaping economies of scale, controlling costs† (Sultan Kermally; 2003, 66-67). Main Body In order to achieve an proper competitive positioning and above average performance, Porter has proposed the following strategies which are termed as generic strategies: Cost leadership A differentiation strategy Focus strategy Cost leadership (attaining the lowest cost position) is clearly not within every firm’s ability to strive toward and attain. In fact, not more than one or two firms in any industry can give value arising predominately from cost-effective operations. By far the majority of firms succeed through the implementation of one of the other two strategies. Even in the case of supposed commodities, companies strive to raise other dimensions of value given to consumers rather than seeking just to compete on a cost basis. Mobil and Exxon are amongst the petroleum firms that attempt to position their gasoline as being superior in quality (anti-clog, non-freeze, etc.), additionally to which their service stations stock an increasing array of convenience items. Mercedes Benz focuses on the prestige and image-conscious end of the automobile market, while Toyota’s manufacturing efficiency gives it a cost and quality facilitator which is reinforced by its marketing wizardry. Combinations of these strategies are also probable, as when instant oil change (focus) specialists look to establish a low-cost position due to the high volume of business generated by a sensible response to customer’s minor automobile service needs. The cost leadership strategy frequently requires a `lean’ culture and is usually perceived as `unattractive’ with the constant focus on cost management and efficiency. A leaning to be production or operations led therefore emerges. This produces a concentration on standardization of products, components as well as processes with the minimization of variations/derivatives. A fine balance needs to be attained between maintaining a contracted range of products/services and meeting the varying needs of diverse customer groups. It is these tensions between either giving a differentiated approach to match customer require and gain competitive advantage, or pursuing cost leadership to gain profit margin and value advantage, that frequently leads in practice to a mixed approach. This means that the advantages of neither competitive position are attained. This being `stuck in the middle’ yields no competitive advantage and corrodes the position of the business unit. Differentiation would involve an organization in providing something unique to its target customers. The uniqueness can be related to products, the way it delivers its goods and services, the way it markets its products or anything that shapes a customer’s perception in relation to differentiation. This could be the way products and services are branded or designed and the customers perceive such offerings as unique† (Sultan Kermally; 2003, 66-67). The differentiation strategy is often the most `attractive’ in that it gives the opportunity for a more resourceful approach to the market. For this reason the organization tends to be marketing led. It is fundamental in these business units that the cost/benefit analysis of any new type of differentiation is thoroughly evaluated. In addition, sensitivity analysis should be used to look at the capability of the associated cost base at different levels of sales performance and in diverse market conditions. The primary challenge with differentiation is one of competitor replication, where the benefit is temporary and, once replicated, becomes an increase in the industry/market cost base for all competitors. This growing migration of the cost base can over time destroy an attractive market segment. According to Grant (1991): â€Å"Differentiation is different from segmentation. Differentiation is concerned with how the firm competes — in what ways the firm can proffer uniqueness to its customers. Such exclusivity might relate to consistency (McDonalds), dependability (Federal Express), status (American Express), quality (Marks & Spencer), and innovation (Sony). Segmentation, in terms of market segment choices is concerned with where the firm competes in terms of consumer groups, localities and product types†. Whereas segmentation is a feature of market structure, differentiation is a strategic choice by a firm. A segmented market is one that can be partitioned according to the characteristics of customers and their demand. Differentiation is concerned with a firm’s positioning within a market or a segment in relation to the product, service and image characteristics that influence customer choice†¦Ã¢â‚¬  (Sultan Kermally; 2003, 66-67). Michael Porter also has addressed the issues of competitive advantage in relation to the nations. In his book ‘The Competitive Advantage of Nations’ (1990), Porter’s view has an impact in relation to global competition and consequently global marketing. He puts forward a view that national conditions influence a firm’s competitive advantage in globally competing industries. Then comes focus strategy that â€Å"involves an organization being selective in terms of the segments it wants to serve and focusing on these segments to the exclusion of other segments. The focus strategy can either be cost focus or differentiation focus. If an organization does not choose generic strategies it wants to focus on then as Porter puts it, it will be ‘stuck in the middle’. The extent to which a generic strategy can be sustainable will depend on competitors’ behavior and action. The organization constantly has to be a step ahead of its competitors† (Sultan Kermally; 2003, 66-67). Porter’s generic strategies are based on the competitive methods and possibility of the organization, both of which compromise its strategy. His recommendations have perceptive appeal. Unfortunately, Porter does not cite any contributing literature in the development of his typology. It is also unfortunate that Porter’s deductively derived typology was not convoyed by an attempt to validate its contents empirically. However, separate research efforts have been directed at subjecting Porter’s conceptualized typology to empirical verification. One of the first empirical tests of Porter’s hypothesis was conducted by Dess and Davis, who examined 22 firms in the paint and related products industry (Dess and Davis, 1984). A total of 78 executives from these firms completed questionnaires by representing the importance of 21 competitive variables (Woo and Cool, 1983). The resulting correlation matrix of this distinctiveness was subjected to factor analysis to isolate the competitive dimensions linked with Porter’s three generic strategies. The principal factor solutions hold three elements that were matched against Porter’s generic strategies. A panel of seven academicians was then surveyed to establish the importance of each competitive means for each of the generic strategies. Overall, general agreement was attained between the panel’s definition of cost leadership and differentiation and that resultant via the factor analysis. However, disagreement existed over the panel’s idea of focus strategy and that which was labeled through the beginning. So as to differentiate firms according to discrete patterns of strategic behavior, Dess and Davis entered the factor scores of each firm into a group algorithm. Performance data (return on assets and annual sales growth) were provided for 15 of these firms. The authors observed four separate clusters, of which three were hold as pursuing distinct generic strategies (cost leadership, differentiation, or focus). They labeled the fourth cluster â€Å"stuck in the middle.† Return on assets for both the cost leadership and differentiation strategies were considerably higher than that generated by the â€Å"stuck in the middle† strategy, lending some support to Porter’s argument that generic strategies produce superior performance. However, the focus cluster was also shown to have the lowest profitability, signifying that Dess and Davis’s results were not conclusive. The authors also raised questions concerning interpretation of factor scores, given concerns they had with the constancy of factor loading in the sample set. The study is also limited in that it implicated only one industry. In a separate study, White examined 69 business units from 12 different businesses from the Profit Impact of Marketing Strategies (PIMS) data base in order to determine the â€Å"proper† organizational requirements approved for Porter’s three generic strategies (White, 1986). A differentiation strategy was operationalized by high relative cost and price, whereas a cost leadership strategy was distinct by low relative price and cost. The organizational â€Å"context† of the business unit was operationalized along three dimensions: autonomy, frequency of reports/reviews, and functional coordination. Performance was determined according to return on investment (ROI), real sales growth, relative market share, and cash flow from investment. By statistically comparing different organizational characteristics, White was capable to demonstrate that businesses within a common strategy class had similar organizational contexts within the overall corporation. For businesses that followed a cost leadership strategy, higher ROIs were linked with low autonomy and more frequent reviews and measures of performance. For businesses following differentiation strategies, higher ROIs were linked with an opposite set of interorganizational characteristics. These results were reliable with Porter’s contention (Porter, 1980). However, when White employed other measures of performance (for instance, real sales growth), the previously mentioned relationships did not always hold. In addition, the combination strategy of both low cost and differentiation produced the highest overall ROI results and higher real growth consequences than a simple pure cost strategy. This suggests that, differing to Porter’s hypothesis, some successful businesses follow a combination of two or more â€Å"generic† strategies concurrently. Another study based on testing Porter’s hypothesis was performed by Woo and Cool. The primary aim of this study was to contrast the performance of Porter’s differentiation and cost leadership strategies with non-generic strategies. The study concentrated on domestic manufacturing businesses over the period from 1976 to 1979 and used the PIMS data base. Woo and Cool chose relative price and cost as representative of the major dimensions that reflect Porter’s differentiation as well as cost leadership strategies. Performance was represented by four factors: return on investment, real sales growth, relative market share, and cash flow to investment. An analysis of variance (ANOVA) procedure was performed that designated mixed results for the generic strategies. According to Woo and Cool, â€Å"In all cases, non-generic strategies as a group seem to achieve as well as the generic strategies.† (Woo and Cool, 1983, 17). These results seem to corroborate those findings of White. In addition, the use of discriminant analysis recognized differences in the functional components of Porter’s two generic strategies and revealed that (1) differentiation strategy was recognized with higher product quality and product R&D and (2) cost leadership was linked with lower discretionary spending and a heavy emphasis on forward integration. In all, Woo and Cool’s conclusions challenged two aspects of Porter’s hypothesis, namely, that generic strategies produce superior performance and that the useful components of particular generic strategies are static and deductively particular The generic strategies make the postulation that the company intends to persist in a concentration mode, that is, limit its horizons to a single product/service or attain a predominant portion of its sales in one industry. Few large or medium size firms confine their product horizons. Characteristically it is small businesses that start with such a focus. With success and growth usually comes a desire to reduce dependence on any one product/market. Diversified firms have more established sales and earnings. Risk reduction unquestionably helps improve shareholder value. Most firms have historically been uncomfortable about â€Å"sticking to their knitting† lest they knit a sweater that’s no longer in style or that someone else can make at half the price (perhaps with a machine they’ve just invented). The unwillingness to place all one’s eggs in one basket is quite comprehensible since it could result in binding the company’s future to just one product, a product that might be rendered obsolete or alternated by alternate products. Also, competitors could prove to be more competent at value formation by identifying the desired components of value more accurately or delivering them more efficiently. Continuous value enhancement in a single product area is positively laudable, but prudence dictates that other stakeholders’ needs (shareholders, employees, creditors, and suppliers, for instance) also be taken into thought. Diversification is an important strategy in assuring that the needs of a diversity of stakeholders are given careful enough attention to merit their strong support. Moreover, expanding the product as well as market scope of the firm widens its range of customers, providing even more opportunities for delivering value in completely novel ways. Diversification has, of late, come under fire for being the reason of many firms’ declining ability to compete with domestic and foreign rivals. It is, however, conglomerate diversification that distracts a firm from its work of value. When a firm has numerous product and service offerings, few of which have any association to each other, the objective becomes to exploit shareholder value (stock price and/or dividend). Commitment to a product line or to its customers is noticeably absent at the corporate level. Conglomerates not simply keep their eggs in different baskets, they often forget where their baskets are! On the other hand, concentrically diversified firms–General Electric, Matsushita, Procter and Gamble, IBM, and Honda, to name a few–seek new product or market opportunities with a view to ongoing their prior success in value creation. IBM, for instance, has excelled at providing engineering, installation, maintenance and other types of services to customers. This source of value has been deliberately developed and maximized regardless of whether the product is a mainframe computer, a microcomputer or peripheral equipment. Procter and Gamble, whether in consumer non-durables or in its more recent food/pharmaceutical ventures has, certainly, always been known for its clear conceptualization and faultless construction of value? However, its capability to unerringly communicate the value inhabiting in its products–through timely and well-planned distribution, superb promotion, and rapid assimilation of customer comments-is what enables P & G to exploit value in its erstwhile as well as new product areas. Thus, Porter three generic strategies are alternative, workable approaches to dealing with the competitive forces.†Ã‚   However, the uniqueness of Porter’s cost, differentiation, and focus strategies has been empirically supported by Dess and Davis, White, and Woo and Cool. These same researchers have also suggested that various combinations of these strategy taxa (cost, differentiation, focus) often result in superior performance. Here, the central matter is focused on the proper level of abstraction in conceptualizing generic strategies. As such, cost, differentiation, and focus (or their derivatives) have been equally viewed as representative of lower levels of concept and as such are more appropriately measured as strategy â€Å"types† or â€Å"strategic factors† that in combination make up the taxa or composite strategies. Conclusion Porter’s generic strategies can be linked directly to the competitive positioning strategy. Product specialization, high-quality offerings, and product innovation are all derivatives of Porter’s differentiation strategy; the combination strategy type recognized in this study relates to Porter’s cost and differentiation strategies. Porter also suggests four strategic alternatives in global industries: broad line global competition, global focus, national focus, and protected niche. These broad patterns resemble aspects of the internationalization dimension. For instance, the domestic strategy type identified in this study is closely linked to Porter’s national focus strategy. Porter also does not mention either exporting or mixed international strategy types. Porter has yet to differentiate fully his conceptualization of global strategy in terms of internationalization and competitive positioning. Indeed, his own perspectives of global strategy seem to have matured with time, perhaps as a consequence of mounting criticism leveled against his cost/differentiation generic strategies. To Porter, the essence of a global strategy can be captured through strategic focus. Yet by defining global industries throughout international parameters, it becomes imperative to determine both whether and how member businesses are in fact competing internationally. Later Porter expands his earlier conceptualization of global strategy by defining it as â€Å"one in which a firm seeks to gain competitive advantage from its international presence through either concentrating configuration, coordination among dispersed activities, or both.† (Porter 1986a: 20) With this definition, global strategy is no longer portrayed as just a function of the one-dimensional geographic experience captured by strategic focus. Rather, it is reflected in the essence of internationalization captured in this study. Porter has always faced a complex challenge subordinating his own four–largely internationalization–strategy types to his leading generic strategies. Indeed, by identifying global strategies through predominantly internationalization, Porter is seen implicitly supporting an agreeing strategic emphasis on both competitive positioning and internationalization. For instance, a broad-line global competitor will compete either on the basis of low cost or differentiation. Thus, cost and differentiation are dimensions of a global strategy, and the same a global strategy is rooted in cost or differentiation advantages. Work Cited Dess G., and Davis P. ( 1984). â€Å"Porter’s (1980) generic strategies as determinants of strategic groups’ membership and organizational performance†. Academy of Management Journal, 27, 467-488. Grant, R.M. (1991). The Resource-based Theory of Competitive Advantage: Implications for Strategy Formulation. California Management Review, Spring, Vol. 33, No. 3, pp. 114-135. Kim, Eonsoo, Dae-il Nam and J.L. Stimpert (2004) ‘The Applicability of Porters GenericStrategies in the Digital Age: Assumptions, Conjectures, and Suggestions’ Journal of Management, 30:5, 569–589 Millar, D. (1992), ‘The Generic Strategy Trap’, Journal of Business Strategy, 13, 37–41. Parnell, John A. 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