CHAPTER 6

Business Strategy:
Differentiation, Cost
Leadership,
and Blue Oceans

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• The AFI Strategy Framework

Exhibit 1.3 Jump to Appendix 1 long image description

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• Learning Objectives

LO 6-1 Define business-level strategy and describe how it determines a

firm’s strategic position.
LO 6-2 Examine the relationship between value drivers and differentiation
strategy.
LO 6-3 Examine the relationship between cost drivers and the cost-
leadership strategy.
LO 6-4 Assess the benefits and risks of differentiation and cost-leadership
strategies vis-à-vis the five forces that shape competition.
LO 6-5 Evaluate value and cost drivers that may allow a firm to pursue a
blue ocean strategy.
LO 6-6 Assess the risks of a blue ocean strategy, and explain why it is
difficult to succeed at value innovation.

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• What Is Business Level Strategy?

Goal-directed actions:
• To achieve competitive advantage
• In a single product market
“How should we compete?”
• Who: which customer segments?
• What: customer needs will we satisfy?
• Why: do we want to satisfy them?
• How: will we satisfy our customers’ needs?

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• Industry and Firm Effects Jointly
Determine Competitive Advantage

Exhibit 6.1
Jump to Appendix 2 long image description
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• Strategic Position

Profile based on value creation and cost

• In a specific product market
A valuable and unique position, which:
• Meets customer needs
• At the highest possible product value
• For the lowest possible product cost

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• Strategic Trade-Offs

Choices between a cost OR value position

Tension between:
• Value creation and
• Pressure to keep cost in check
Purpose to maximize the firm’s:
• Economic value creation
• Profit margin

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• Generic Business Strategies

Differentiation
• Seeks to create higher value vs. competitors
• Offers unique features
• Charges higher prices
Cost Leadership
• Seeks to create similar value vs. competitors
• Charges lower prices

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• Focused Business Strategies

Narrower competitive scope

Focused Differentiation
• Ex: Mont Blanc: exquisite pens at several hundred
dollars
Focused Cost Leadership
• Ex: BIC: disposable pens and lighters at low cost

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• Strategic Position and Competitive Scope:
Generic Business Strategies

Exhibit 6.2

SOURCE: Adapted from M.E. Porter (1980), Competitive Strategy.

Techniques for Analyzing Industries and Competitors (New York: Free
Press).

Jump to Appendix 3 long image description

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• Differentiation Strategy

Unique features that increase value

• Consumers pay a higher price
The focus of competition:
• Unique product features
• Service
• New product launches
• Marketing and promotion
Competitive advantage achieved when:
• Value – Cost > competitors

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• Differentiation Strategy:
Achieving Competitive Advantage
Exhibit 6.3

SOURCE: Adapted from M.E. Porter (1980), Competitive Strategy. Techniques for Analyzing Industries and Competitors
(New York: Free Press).

Jump to Appendix 4 long image description

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• Economies of Scale and Scope

Economies of Scale
• Decreases in cost per unit
• Achieved as output increases
Economies of Scope
• Producing two outputs at less cost
• Shares resources or technology

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• Three Drivers That Increase Perceived Value

Product features
• Enables differentiation
Customer service
Complements

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• Differentiation Strategies: Summary

Focused on adding value

• Unique features
• Customer service
• Effective marketing
Can increase costs
• R&D / innovation needed
Customers willing to pay a premium

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• Cost Leadership Strategy

Goal:
• Reduce cost below competitors
• Offer adequate value
• Reduce prices for customers
• Optimize the value chain for low cost

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• Cost Leadership Strategy:
Achieving Competitive Advantage

Exhibit 6.4
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• Cost Drivers That Keep Costs Low

Cost of input factors

• Raw materials, capital, labor, and IT services
Economies of scale
• Decreases in cost per unit as output increases
Learning-curve effects
• Less time to produce output with experience
Experience-curve effects
• Improvements to technology and production
processes
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• Economies of Scale

Exhibit 6.5
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• Economies and Diseconomies of Scale

Economies of Scale:
• Spreads fixed costs over a larger output
• Employs specialized systems and equipment
• Takes advantage of certain physical properties
Diseconomies of Scale:
• Firms too big
• Complexities of too much coordination
• Inflexible and slow

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• Gaining Competitive Advantage Through
Learning Curve and Experience Curve Effects

Exhibit 6.7
Jump to Appendix 7 long image description
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• Cost Leadership Strategies: Summary

Focus on:
• Offering lower costs than competitors
• Maintaining acceptable quality
Appeals to the bargain-conscious buyer
• Attracts an increased sales
Can be profitable over a long period of time

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• Benefits & Risks of Competitive Positioning
Competitive Force Cost Leadership Benefits Cost Leadership Risks Differentiation Benefits Differentiation Risks

Threat of Entry • Protection against entry due to

intangible resources such as a • Erosion of margins • Protection against entry due • Erosion of margins
reputation for innovation, quality, or • Replacement to economies of scale • Replacement
customer service

Power of Suppliers • Protection against increase in input • Protection against increase

prices, which can be passed on to • Erosion of margins in input prices, which can be • Erosion of margins
customers absorbed

Power of Buyers • Protection against decrease in sales

prices, because well-differentiated • Protection against decrease
products or services are not perfect • Erosion of margins in sales prices, which can be • Erosion of margins
imitations absorbed

Threat of
Substitutes • Protection against
• Protection against substitute products • Replacement, especially substitute products through • Replacement, especially
due to differential appeal when faced with innovation further lowering of prices when faced with innovation

Rivalry Among
Existing
• Focus of competition shifts
Competitors to price
• Protection against competitors if • Increasing differentiation of • Focus of competition shifts
product or service has enough product features that do not • Protection against price to non-price attributes
differential appeal to command create value but raise costs wars because lowest-cost • Lowering costs to drive
firm will win value creation below
premium price • Increasing differentiation to acceptable threshold
raise costs above acceptable
threshold

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• Successful Business Strategy

Leverages the firm strengths

Mitigates firm weaknesses
Helps the firm:
• Exploit external opportunities
• Avoid external threats

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• What Is Blue Ocean Strategy?

Differentiation and cost-leadership activities

Uses value innovation to reconcile trade-offs
Blue oceans represent:
• Untapped market space
• Creation of additional demand
• Opportunities for highly profitable growth

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• Value Innovation Accomplished Through
Pursuing Differentiation and Low Cost

Exhibit 6.9

Source: Adapted from C.W. Kim and R. Mauborgne (2005), Blue Ocean Strategy: How to Create Uncontested Market Space and Make
Competition Irrelevant (Boston, MA: Harvard Business School Publishing).

Jump to Appendix 8 long image description

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• To Achieve Successful Value Innovation

Lower costs
• Eliminate: Which of the factors should be
eliminated?
• Reduce: Which of the factors should be reduced?
Increase perceived consumer benefits
• Raise: Which of the factors should be raised?
• Create: Which factors should be created?

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• Value Innovation vs. Stuck In the Middle

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Jump to Appendix 9 long image description Exhibit 6.10
• The Strategy Canvas

Graphical depiction of a company’s performance

• Relative to its competitors
• Shows focus or divergence
Viewed across the industry’s key success factors
Provides insights into strategy

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• JetBlue’s Strategy Canvas

Exhibit 6.11
Jump to Appendix 10 long image description
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