Which do you prefer when shopping for groceries: an affordable, no-frills discount store, or a well-appointed supermarket with the finest natural and organic food selections? Perhaps you prefer to shop at your neighborhood farmer’s market to seek out local produce and other specialty items?
The point we’re making here is that when it comes to groceries, you have no shortage of options. Competition for consumer dollars is higher than ever before. To win their share of the market, each grocer pursued a distinct business-level strategy to stand out from the competition.
The no-frills discount store cut operating costs to pass those savings on to you, its customer, whereas the luxury supermarket has taken great efforts to build differentiation with its quality food selections and top-notch customer service. As a result, it can command a higher price.
Meanwhile, the local grocer offers a highly-curated shopping experience tailored to the preferences and tastes of local shoppers.
These three approaches are examples of business-level strategies, and they can be applied to products or services in all industries—and organizations of all sizes.
What is Business-Level Strategy?
Michael Porter, a professor at Harvard Business School, is widely regarded as the Father of Corporate Strategy. According to Porter, there are three types of business-level strategy any organization can pursue to gain an advantage over its competitors. These are Cost Leadership, Differentiation and Focus.
At a high level, each strategy is defined as follows:
- Cost Leadership
Organizations that pursue Cost Leadership gain a competitive advantage by reducing operating costs to a level below the industry average. Business owners then pass these savings on to their customers with low-priced merchandise or services, or maintain average pricing to increase their profit margin.
Companies that leverage a Differentiation business-level strategy win market share and defend higher pricing by offering unique product or service features that are valued by their customers.
Focus strategies involve achieving Cost Leadership or Differentiation within niche markets in ways broadly-focused players can not.
How to Apply Porter’s Business-Level Strategies To Your Business
So which strategy is right for your business?
The answer to that question is found in the needs of your customer and the capabilities of your business.
Before pursuing a business-level strategy, ask yourself:
- Do my customers value cost savings or product quality and brand prestige?
- Does my business have the resources and capabilities to lead the marketplace in terms of cost or product/service quality?
The answers to these questions will help you decide which business-level strategy is right for your business.
Let’s explore what each of these business-level strategies is, offer examples and examine the risk.
Definition: The Cost Leadership Strategy
What It Is
As the name implies, the Cost Leadership strategy involves becoming the leader regarding cost in your industry or market. There are two ways to achieve this:
- Increasing profits by reducing operational costs, while charging industry-average prices.
- Increasing market share by charging lower prices than your competitors. To do this profitably, you must minimize operational costs to ensure positive margins.
It’s important to note that companies that are successful in achieving Cost Leadership typically have substantial capital to invest in technology, efficient logistics and low costs when it comes to materials and labor.
How It’s Applied
To be a successful cost leader, you must continuously work to lower costs relative to your competitors. You can do this by:
- Maintaining tight control over product and overhead costs
- Minimizing the cost of sales, research and development and customer service
- Building state-of-the-art facilities to boost efficiency and productivity
What’s the Risk?
The most significant risk in pursuing a Cost Leadership strategy is that these sources of cost reduction are not unique to you. As such, other competitors can copy your cost reduction strategies and compete with you on price.
Definition: The Differentiation Strategy
What It Is
The fundamental tenet to this business-level strategy is simple: different is good.
Your aim is to add value to your products and services, so they’re more attractive than those offered by your competitors. Because of the additional product or experiential value you’re delivering, customers are willing to pay a premium price. As such, you can absorb higher operating costs.
This strategy can prove quite lucrative.
How It’s Applied
How you create differentiation depends on your product or service as well as your industry, but in general, businesses can offer advanced features, functionality, durability, value-added service and support.
It’s important to note that a key to Differentiation strategy success is effective sales and marketing that clearly articulates the unique product or service value to customers.
What’s the Risk?
To quote Oscar Wilde, “Imitation is the sincerest form of flattery.” If you release a product or service that makes waves in the marketplace, you can be sure that your competitors will quickly follow suit.
As a result, organizations pursuing a Differentiation strategy must keep a constant eye on what’s next and stay agile with their product development process. Otherwise, your stand-out offering can quickly become another commodity in the market.
Definition: Focus Cost and Differentiation Strategies
What It Is
If your business leverages the Focus strategy, it will target a particular niche market and, by understanding the dynamics of that market and the unique needs of the customers within it, cut costs or differentiate your offerings to capture more market share.
How It’s Applied
You apply Focus Cost or Differentiation strategies in the same ways described above, but for a portion of the market. For a Cost Focus strategy to work, the production and delivery system must differ from that of other industry segments, uncovering a unique cost advantage.
For example, small airlines can provide cheaper rates than their larger, international rivals with access to smaller planes and local airfields for regional flights.
Likewise, in the case of Focus Differentiation, the target segment must have buyers with unique needs. A good example here is an IT software company that offers an ERP product designed to satisfy the strict security regulations of government agencies.
What’s the Risk
When you pursue this strategy, it’s not uncommon to be out-focused by competitors targeting an even smaller division of your market. When this happens, you could lose a chunk of your customer base. Your segment may also become of interest to broad-market firms.
To illustrate this point, let’s reuse the government example referenced above. A large provider of enterprise software may decide to expand their product line to address the unique security considerations of government agencies. This puts you in direct competition with a better-resourced name brand.
Choosing the Right Strategy for Your Business
The business-level strategy you select will underpin every future strategic decision you make, so it’s important to get it right.
To do this, take a hard look at your core competencies, the market you serve and the strengths of the competitors vying for your customers’ business. Having done this, it may be clear that your organization is unlikely to make a success of some of the business-level strategies.
Though it may be difficult to pursue a single strategy, Porter warns against adopting a hybrid model. His reasoning is sound: the things you need to do to make each type of strategy work appeal to different kinds of people. After all, a Walmart shopper has entirely different needs than a Neiman Marcus shopper.
In the end, it all comes down to who your target market is, what are their needs and how your business is prepared to deliver against those needs.