Competitive Advantage by Michael Porter, Part 4

Now that we’ve taken a closer look at analyzing cost advantage, let’s turn to differentiation.  The topic is a complex one, and to be honest, Porter’s organization of it can be a bit haphazard and difficult to follow.  I want to walk through the thought process in this post.  Once we have that foundation, the next post in the series will take a closer look at Procter & Gamble.

The value chain

The drivers of uniqueness for differentiation, at a high level, are the same as the drivers Porter introduces in cost analysis:

  • Policy choices
  • Linkages (internally/with suppliers/with channels)
  • Timing
  • Location
  • Interrelationships
  • Learning and spillovers
  • Integration
  • Scale
  • Institutional factors

For a closer look at these factors, refer back to the discussion of cost analysis.

Developing a strategy

There’s a broader perspective to think about than just the value chain.  Porter describes a strategy process aimed at differentiation as follows:

Understanding who the key buyer is

Better insight into who makes decisions at customers, or better yet being able to target a different, previously overlooked buyer.  In B2B situations, many companies work very hard to develop a strategy targeting the end user of a product as the buyer rather than purchasing, which is often more focused on cost.

Gaining insight into buying criteria

Porter divides them into two kinds, use criteria and signaling criteria.  The use criteria are the ones that actually create value for customers when they use the product or service.  A more specific understanding of use criteria is a huge help in differentiating effectively.  For instance, many companies cite delivery as one of their customers’ requirements.  But that can mean ability to deliver rush orders quickly, consistency in arrival of regular orders, or keeping items in stock to avoid back orders.  The relative importance of these scenarios to customers is what truly counts.

Use criteria are important to customers in two ways, either reducing their costs or improving their performance.  For consumers in particular, costs include time and inconvenience, and often minimizing these can lead to strong differentiation.  P&G’s Swiffer is so successful because it minimizes the inconvenience of cleaning floors.  Consumer performance includes things like satisfaction, prestige, and other non-monetary needs.  And while business customers try to make more carefully considered decisions, these factors also play a role in business markets.

Signaling criteria address communicating the value of the product.  They can include advertising, the customer list, the brand name, guarantees, or other factors.  Although they don’t create value for the customer directly, they are as crucial as use criteria.  Customers will not pay a premium or develop a preference for a product unless they understand why it’s differentiated and why they should care.

Understanding buying criteria typically requires primary research of some kind.  Relying on second-hand facts results in me-too products.

Identify your impact on the customer

Very broadly, you can either lower customer costs or improve performance.  Neither of these is as straightforward as it sounds.  Costs can include many ancillary activities such as keeping inventory, inspecting finished products, dealing with customer complaints, or managing production.  Helping companies reduce or eliminate any of these costs can be an excellent basis for differentiation, which is why considering the “whole product” is important in thinking about differentiation.  Even services as seemingly basic as financing can set a company apart.

Define or assess the sources of uniqueness and configure the value chain to maximize differentiation

Porter just talks about assessing uniqueness in the context of an existing value chain, which illustrates his bias to large companies with existing product portfolios.  I would take another approach.  Differentiation is often easiest to achieve or perfect with a new company or product.  Existing competitors have assets, processes, and cultures which aren’t always suited to the best avenue of differentiation.  New entrants like JetBlue, the Apple iPhone, or Tata (with their $2,000 car) can re-imagine the value chain in a way that incumbents often find impossible.

Whether planning a value chain from scratch or configuring an existing one, the differentiation is often that which comes from multiple aspects of the value chain.  Chains like Chipotle and In-N-Out can provide a unique fast food experience because they source high-quality ingredients, design restaurant processes to emphasize taste and freshness, and keep menus simple to make the whole approach manageable.  Competitors would find it difficult to imitate all of those factors successfully.

Address sustainability

Competitors will try to copy any differentiation that customers value, so thinking about sustainability up-front is important.  Look for barriers to entry, cost advantages, and ways to create customer switching costs.  Something like database software clearly has significant switching costs because customers spend a great deal of effort and time setting them up and incorporating their data.  Switching to another vendor is unappealing unless there are big problems with the current solution.  Less obviously, airline loyalty programs create switching costs for customers by giving them status on their airline of choice.  Competitors can remove this switching cost by matching privileges and miles for good customers, but this tactic is costly.

Pitfalls

A successful differentiation strategy requires putting many elements together, and there are a few common challenges Porter mentions.

  • Irrelevant uniqueness – Being unique in a way that customers do not value is a common pitfall, especially for products developed without enough customer input.
  • Excessive differentiation – Over-delivering on customer needs sounds good, but in reality it may make you vulnerable by being undercut by competitors coming in at a lower price with just enough differentiation.
  • Too big a price premium – Even a product that is differentiated may fail if customers do not see the price premium as justified by the differentiation.
  • Not signaling value – Better mousetraps are not usually self-explanatory to customers, if they are even aware of them.  Make sure to pay enough attention to signaling.
  • Not knowing the cost of differentiation – It is often easy to differentiate but to increase costs more than the premium customers will pay, reducing rather than increasing profits.
  • Focusing on the product instead of the whole value chain – Distribution, ancillary services, and signaling may be as important or more so than the actual product depending on the business.
  • Failure to recognize buyer segments – Different customers do not value particular kinds of differentiation equally.  It’s possible to create a great product that does not appeal to a large enough share of the market to be profitable.  A good segmentation of the market is important to avoid this problem.

What do you see as the most challenging aspect of achieving differentiation?


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  • Marco Monfils

    The marketing formulation for a brand looks something like this:B = C + AV (if AV > AC), in the eyes of the consumerIndex:B = brandC = commodityAV = added valueAC = added costAbout differentiation as a marketing tool, I believe the biggest challenge is to accept the heyday of product differentiation is over… Consumers are less likely to pay premium for differentiated products, simply because they are different…About strategy and the trade off between cost and performance, it is not impossible to get both right, at the same time:-)

  • http://www.brekiri.com/blog/ Greg4

    Thanks for the comments. I'm not sure that I agree that customers are lesswilling to pay a premium for differentiated products. If anything, I wouldargue the opposite. There are more and more premium products on the market,everything from the Apple iPad to gourmet chocolate to flat screentelevisions. The other thing I try to keep in mind is that a differentiatedproduct might not always be sold at a premium. Products like Facebook arefree for consumers and priced at a commodity level for advertisers with thegoal of gaining market share based on their differentiation.

  • Marco Monfils

    Hi Greg, thanks you for the reply, and yes, I understand what you say. I do however see a difference between different and differentiated. If something is different (there is no alternative), this should in theory command a premium. If something is differentiated, but lacks a credible point of difference, it will not be able to command a premium, at least not from a brand point of view…My 1c-The practice of differentiation (as the sole RTB) in support of premium price dates from the past. If you cling to this belief, you may find your brand is a legacy, marketing to the past (to consumer who also believes this).Differentiation as a marketing tool works best under parity price conditions.Thank you for opportunity to reply!

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