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Competitive Shifts in Changing Markets

 

To prosper in a changing environment, established firms must radically rethink how to compete. In many cases, they will have to unlearn everything that has made them successful so far.   the most important changes that need to take place if the company is to succeed in the new market are:
• Having scaled up the market, the winning company must realize that it cannot serve everybody in this market. As the market fragments into distinct customer segments, the company must decide which strategic position in the industry it should claim as its own.
• Competition after the emergence of the dominant design comes to focus more and more on price. This means that the sources of competitive advantage lie increasingly with lowering costs.
• The need to reduce costs triggers a number of changes in the industry. The first of these changes is a shift away from product innovation toward process innovation.
• As the market matures further, strategic innovation becomes a major source of competitive advantage. Unfortunately, established companies find it hard to pursue this kind of innovation.
• Mature industries go through vertical disintegration of production. The market separates into different components or modules. The efficiency that results from all this is usually accompanied by a reduction in the flexibility of established competitors.

Having scaled up the market from a small niche to a mass market and having claimed a leadership position in that market, it is easy to be carried away by success and assume that you can serve the whole market successfully. It is a tempting thought but it is also a thought that leads to disaster! No company can be everything to   everybody. Difficult strategic choices must be made, which means that the company will have to select which customers it will not serve and which product features it will not offer. This is a hard lesson to learn. After all, the success of the company in scaling up the market was based on selling a standard product to the mass market, focusing on price.

Why should this strategy change now that the battle has been won?
The reason is simple. In the early going, when the market takes off, customers are eager to get their hands on the product. They want their first digital camera, or their first handheld computer, or their first mobile phone. They want the commodity.The company’s focus should be to get the standard product to these customers as quickly and cheaply as possible.
However, as other competitors start serving the growing market, supply catches up with demand. At this stage, customers begin to express their individual preferences—some want a cheap product; others do not mind paying a premium price as long as the product is well-designed; yet others demand bells and whistles on their product. A company cannot serve all of these needs nor can it keep all customers happy. Choices will have to be made. Specifically, the company will have to decide which strategic position in the market to claim as its own and which positions to leave for its competitors.

Choosing a Strategic Position
What exactly do we mean when we say that a company must claim a strategic position as its own? Keep in mind that every industry has several viable positions that companies can occupy. The essence of strategy is, therefore, to choose the one position that a company will claim as its own. A strategic position is nothing more than the sum of the answers that a company gives to three questions:
• Who should I target as customers?
• What products or services should I be offering them?
• How should I do this in an efficient way?

Strategy is all about making tough choices on these three dimensions: the customers a firm will focus on and the customers it will not, the products it will offer and the ones it will not, the activities it will perform and the ones it will not. These are not easy decisions to make and each question has many possible answers, all of them possible and logical. As a result, these kinds of decisions will unavoidably be preceded by debates, disagreements, politicking, and indecision. Yet at the end of the day, a firm cannot be everything to everybody; clear and explicit decisions must be made. These choices may turn out to be wrong—but that is not an excuse for not deciding!

It is absolutely essential that the company makes clear and explicit choices on these three dimensions because these choices become the parameters within which people are allowed to operate with autonomy. They define for everybody in the organization what is acceptable and what is not—the customers it will not pursue, the investments it will not make and the competitors it will not respond to. Without these clear parameters, the end result can be chaos. Seen another way, it would be foolish and dangerous to allow people to take initiatives without some clear parameters guiding their actions.

The most common source of strategic failure is when companies fail to make clear and explicit choices on these three dimensions. This is a point that several strategy academics have emphasized. Yet it is easy to fall into the trap of not making clear choices because choosing is difficult. At the time of choosing, nobody knows for sure whether a particular idea will work out or if the choices made are really the most appropriate ones. One could reduce the uncertainty at this stage by either evaluating each idea in a rigorous way or by experimenting with the idea in a limited way to see if it works or not. However, it is crucial to understand that uncertainty can be reduced but not eliminated. No matter how much experimentation it carries out and no matter how much thinking its people do, the time will come when the firm must decide one way or another. Choices have to be made and these   choices may turn out to be wrong. However, lack of certainty is no excuse for indecision.

Not only must the company make clear choices on these parameters, it must also attempt to make choices that are different from the choices its competitors have made. A company will be successful if it chooses a distinctive or unique (that is, different from competitors) strategic position. Sure, it may be impossible to come up with answers that are 100 percent different from the answers of competitors, but the ambition should be to create as much differentiation as possible.

From Product/Process   to Strategic Innovation
In the early prehistory of new markets, competition takes place primarily between different product designs. When a supply-push innovation process creates a new market on the basis of a new technology rather than articulated consumer needs, there is plenty of scope for a wide variety of firms to bring different product designs to market.   The survival and success of firms at this stage depends on the viability of their design and their ability to replace it with a new design should the first one fail to gain market acceptance.
However, when a dominant design is established in the market, the basis of competition shifts. Competition between designs is no   longer an issue and is replaced by attempts to differentiate what is basically a standard product. Products sharing the same architecture can still appear different if they have different peripheral characteristics. For example, they can be sold in different types of packaging with different names and supported by different images that consumers might identify with. Thus competition between designs is, at least to some extent, replaced by attempts to differentiate different versions of what is basically the same design.

Above all, however, competition after the emergence of a dominant design comes to focus more and more on price. In part, especially in the very short run, price matters because it is in the overwhelming common interest of all producers to expand the market, and one of the best ways to attract the attention of wavering would-be consumers and propel them into the market is to reduce their acquisition costs. However, a deeper and more longterm process of learning on the demand side of the market reinforces these short-term tendencies to focus on price.

When a product is new and exciting and promises all kinds of unusual benefits, consumers tend to find acquisition costs relatively unimportant compared to their desire to get their hands on this wonderful new product. However, when that product comes to be taken for granted and when differences in peripheral characteristics are perceived to be no more than just minor variations, then value-for-money considerations turn the focus toward minimizing costs. Thus, with the emergence of a dominant design, consumers’ preferences gradually become better and better articulated. What this means is that consumers come to value the new good with some precision and compare the merits of spending money on it with those of the other purchasing options they face. Naturally, this makes them more price-conscious.

As the basis of competition comes to focus more and more on price, the sources of competitive advantage lie increasingly with lowering costs. As noted, the choice of a dominant design often sparks a race down learning curves, triggering large investments in plant and equipment that help firms exploit economies of   scale. These investments reduce costs and facilitate the fall in prices that, in turn, helps to expand the market during its rapid growth phase. The stronger the competition that firms face and the weaker the opportunities to differentiate their products from rival offerings, the more likely they are to aggressively seek out further opportunities to cut costs. This, in turn, is likely to hasten the shakeout that follows the emergence of the dominant design and force the pace of industry consolidation. Both these tendencies will drive up levels of market concentration, leaving sales in the hands of the top three or four producers in the market. Thus the shift to price competition is likely to lead to major structural changes on the supply side, consolidating the hold that early first movers have on the market.
However, this need to reduce costs can also trigger other changes that also have profound longer-term consequences. The first of these changes is a shift away from product competition toward process competition.

A Shift to Process Competition
When a dominant design becomes established in a market, it brings to an end a period when different designs compete with one another for a place. Although some scope for new product innovation remains, such opportunities center largely around either creating new products to serve very particular niches or adding new peripheral characteristics to the existing dominant design.
As a consequence, it is always going to seem likely that much of the most interesting product innovation activity in a market happens before the emergence of a dominant design. Much of what happens after is inevitably going to seem like small potatoes.
What is more, the increasing emphasis on reducing prices and therefore on reducing costs creates strong incentives for firms to invest in process innovations. Anything that reduces costs appreciably is likely to improve a firm’s competitive position and will do so with much more certainty than a new product innovation.

Hence the emergence of a dominant design is likely to signal a shift in innovative activity away from product innovation toward process innovation.
When this happens, it can have several interesting consequences much later down the line when the new market has been established for many years. Since process innovation is much harder to spot than product innovation, the shift toward process innovation is going to make the now mature market look technologically stagnant. Consumers will become totally used to what is, after all, a relatively unchanging product and will come to regard it as a commodity. Since price is what drives the purchase of commodities, this gradual change in consumer attitude will reinforce the incentives that producers have to lower their costs, driving them further down the path of process innovation at a time when it might be more sensible for them to make investments in developing new product designs. Indeed, long-standing market leaders in mature markets are often very vulnerable to the competitive challenge posed by new entrants who come into the market pioneering new product or business model innovations.

Enter Strategic Innovation
It is at this stage in the market’s evolution that business model or strategic innovation becomes an important source of competitive advantage. Strategic innovation is simply the discovery of a new business model or an unexploited position in the industry.
New business models invade a market by emphasizing different product or service attributes from those emphasized by the traditional business models of the established competitors. Consider, for example, online brokerage: whereas traditional brokers sell their services on the basis of their research and advice to customers, online brokers sell on the back of a different value proposition, namely price and speed of execution.

Since innovators emphasize different dimensions of a product or service, their products or services inevitably become attractive to a different customer base from the one that desires what the traditional competitors offer. As a result, the markets that get created around the new competitors tend to be composed of different customers and have different key success factors from those of the established markets.

This, in turn, implies that since the new markets have different key success factors, they also require a different combination of tailored activities on the part of the firm. For example, the value chain as well as the internal processes, structures, and cultures that Amazon needs to put in place to compete successfully in the online distribution of books is demonstrably different from the one that Borders or Barnes & Noble need to compete in the same industry using their business model.

Not only are the new activities required different but often they are also incompatible with a company’s existing set of activities.
This is because of various trade-offs that exist between the two ways of doing business, which lead to conflicts that make it extremely difficult for an established firm to adopt the new business model and be effective. Because of these trade-offs and conflicts, a company that tries to compete in both positions simultaneously may eventually pay a huge cost and degrade the value of its existing activities. In the meantime, the new business models could grow to challenge the domination of existing business models.
This happens in industry after industry: once-formidable companies with seemingly unassailable strategic positions find themselves humbled by relatively unknown companies that basetheir attacks on creating and exploiting newstrategic positions in the industry. This suggests that while fighting it out in its current position, a company must also continuously search for new strategic positions. It has to keep challenging the basis of its existing business and the assumptions that govern its current behavior.
Unfortunately, the majority of companies that strategically innovate by identifying and exploiting new positions in an industry tend to be small niche players or new market entrants. It is indeed rare to find a strategic innovator that is also an established industry big player—a fact that hints at the difficulties of risking the sure thing for something uncertain.

Established players are masters at the game of being better than their rivals but find it much harder to cultivate difference. Likewise, although they are good at competing with rivals who play the    “better” game, they are often poor at spotting the emergence of new strategic combinations and combating rivals that exploit them. Established players are so busy fortifying themselves against attack from similar rivals that they fail to notice nimble newcomers whose agility makes the old weapons irrelevant. For example, Xerox had little trouble protecting its position against fierce competitors like IBM and Kodak, yet lost out to Canon, a little-known camera manufacturer from Japan. Caterpillar saw off the challenge of well-known competitors like International Harvester, John Deere, and J.I. Case, yet lost significant ground to another relatively unknown Japanese company, Komatsu. Broadcaster CBS was able to stand up to ABC and NBC, yet was outflanked by a start-up, CNN. Hertz seems to have little trouble slugging it out with huge competitors like Avis and National, yet is losing ground to little-known Enterprise. And American Airlines is able to stand its ground against fierce global competitors such as British Airways and United but seems to have no answers for Southwest Airlines.

In industry after industry, leading companies are becoming better and better at playing the performance improvement game and have little difficulty stymieing competitors who play by the same rules. Yet these same companies find it extremely difficult to even conceive of a different way of playing the game; they are apt to lose out to any competitor that attacks them by playing a different game. It seems that the better they play their chosen game, the harder they find it to conceive of a different one, and the more easily they fall victim to an upstart that attacks them by playing by different rules.
There are many reasons why established companies find it hard to become strategic innovators. Compared to new entrants or niche players, leaders are weighed down by structural and cultural inertia, internal politics, complacency, fear of cannibalizing existing products, fear of destroying existing competences, satisfaction with the status quo, and a general lack of incentive to abandon a certain present for an uncertain future. In addition, since any   industry has fewer leaders than potential new entrants, the chance that the innovator will emerge from the ranks of the leaders is unavoidably small.

Despite such obstacles, established companies cannot afford to ignore strategic innovation. Experience shows that dramatic shiftsin company fortunes usually take place when a company succeeds not only in playing its game better than its rivals but also in designing and playing a different game from its competitors. Strategic innovation has the potential to take third-rate companies and elevate them to industry leadership, and it can take established industry leaders and destroy them in a short period of time. Even if the established players do not want to strategically innovate (for fear of destroying their existing profitable positions), somebody else will. Established players might as well preempt that opportunity.

The culture that established players must develop is that strategies are not cast in concrete.A company needs to remain flexible and ready to adjust its strategy if the feedback from the market is not favorable. More important, a company needs to continuously question the way it operates in its current position while still fighting it out in its current position against existing competitors.

Continuously questioning one’s accepted strategic position serves two vital purposes: first, it allows a company to identify early enough whether its current position in the business is losing its attractiveness to others (and so decide what to do about it); second and more important, it gives the company the opportunity to explore the emerging terrain and hopefully be the first to discover new and attractive strategic positions. This is no guarantee: questioning one’s accepted answers will not automatically lead to new and unexploited goldmines. But even a remote possibility of  discovering something new will never come up if the questions are never asked.

Vertical Disintegration
The arrival of a dominant design triggers another major change with profound long-term consequences: production in the industry   begins to disintegrate vertically. To understand this conjecture, it is necessary to consider how the early entrants in the market actually produce their products. In these very early days, production runs are small and product designs are fluid. As a consequence, most production methods are likely to be craft-based. That is, producers not only assemble the product they bring to market, they also have to make many of its inputs themselves, particularly those specific to the particular design they are championing.
What all this means is that in the early days of the market, production tends toward very high levels of vertical integration. This situation will probably continue for some time even after the dominant design emerges. Even as the leading firms assemble largerscale production facilities to produce more economically, they still need to ensure that a readily available supply of specialized inputs exists and that the design of these inputs matches any change in the design of the core product. This makes it convenient (and sometimes absolutely necessary) to keep the production of these inputs in-house.
However, in-house production has a large opportunity cost. If in-house demand for a particular input does not exhaust the full range of scale economies available, then an independent operator who specializes in the production of that input and serves several buyers may end up producing the input at a much lower cost than any in-house operator can. Furthermore, by specializing in the production of that input, the independent operator may also develop an expertise that enables it to innovate faster and more radically than an in-house unit might. As a consequence, the difference between what an in-house supplier and what an independent can offer is likely to widen and gradually tilt the balance away from inhouse production as the new market grows and develops. Indeed, in some sectors, final product assemblers may actually manufacture nothing—they just assemble modules made by specialists and then simply ship them to retailers.

The vertical disintegration of production in a market has more profound effects than merely reshaping and resizing leading producers. As the market separating the different components that make up   the final product becomes more developed, the costs of using that market decrease (and the opportunity costs of not using it rise). This, in turn, encourages further vertical disintegration, meaning that the increasing size of the market supports an increasingly fine division of labor. Furthermore, as production and expertise become increasingly decentralized, it becomes less and less clear who owns the product in question and who controls its future evolution.
All this creates incentives that encourage product and process innovation at the component level. However, as a market builds up around a finer and finer division of labor in producing the core product, the ability of the existing suppliers and producers to come up with new dominant designs weakens. Thus, as with the shift from product to process innovation, an increase in efficiency in production occurs but at the possible cost of flexibility in product design.

 

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