Strategy Dynamics Briefing 34: Truly competitive strategy

Strategy very often includes a need to beat competitors as well as running our own business well, and we have long understood how competitive forces affect industry profitability. Those forces include not just existing direct competitors, but customers’ buying power, suppliers’ control of key inputs, and pressure from substitute products and new competitors. Firms can and do try to manipulate those forces to support stronger profits, for example by getting their customers locked-in to buying from them in some way.But you can go further!

You can work to actually alter those competitive conditions. Two particular objectives can be helpful:

  • encouraging current competitors to leave the industry
  • deterring possible new entrants from starting up in the industry.

Certain forms of anti-competitive behavior are illegal in many countries, such as artificially restricting customers’ freedom of choice, or cutting prices below cost to drive rivals out of business and deter new entrants. Nevertheless, it is quite possible to influence competitors in ways that are entirely legal. To see why this is important, think about how competitive conditions change over time.

In the figure below, the left-hand column in each case shows a fragmented industry whose total revenue is made up of the revenue of each firm in the market. The industry’s growth and hoped-for profitability is attracting new competitors. In the scenario on the left, our own business grows little, both because those new entrants absorb the industry’s growth and because we are not so successful at capturing some of that growth. These changes make it harder to sustain profits and second, and mean that efficiency improvements are competed away by lower prices.

Average profitability is therefore reduced, and we suffer more from this process than others who develop more successfully. It is entirely possible that both new entrants and the original competitors make little or no profit. Indeed, the situation shown on the left could well result in many firms, or even the industry as a whole, being unprofitable for many years. We would likely do better if we could both persuade existing competitors to leave the industry, and deter new firms from entering.

Two scenarios for changing competitive concentration in a growing industry

Diagram: Two scenarios for changing competitive concentration in a growing industry.

The scenario on the right depicts the same overall industry growth, but this time with fewer new entrants, and the exit of some of the original competitors. As a result, there is more space for us and the remaining firms to grow. The smaller number of rivals both reduces the tendency to compete away prices and margins in a desperate attempt to capture sales, and also enables remaining firms to extract efficiency savings more quickly. These mechanisms allow us and our remaining rivals to be more profitable. In this scenario, we have also been more successful in developing our own business and overtaken the previous number two competitor.

Not only is it helpful to deter new competitors, then, but it can also be valuable to help existing rivals leave the market. But how to do it? Trying simply to be better than everyone across the whole market has several disadvantages.

  • Taking on everyone at once can be very costly. Any effort that is spread across the entire market has to be of a commensurate scale, so trying to under-price, out-market, outsell and out-service all competitors will inevitably be very costly.
  • Efforts dissipated across the whole industry will likely have less impact than efforts focused on specific parts of the market or against particular competitors.
  • Such industry-wide competitive efforts will attract retaliation from many competitors, risking great damage to our own business.
  • Our efforts will be very visible, exacerbating the very competitive conditions that make it difficult to sustain profitability, for example by triggering price wars, escalating advertizing commitments or starting a war for talent.

Taken together, these considerations mean that indiscriminate competitive efforts simply don’t work, or else take so long and at such great cost that the business pursuing them suffers along with all the others. That is why selecting specific competitors to attack is more advisable than indiscriminate efforts. In many cases it even makes sense, and is possible, to eliminate them entirely from the market. We will look at a powerful way to do that in the next briefing.

Choosing which competitor offers the best target needs to be done with care. Small rivals are not necessarily easy to take on, and eliminating them may in any case bring little benefit. On the other hand, bigger stronger competitors can have powerful resources with which to defend or retaliate. Often it can be best to choose a mid-ranking rival, but the key criteria should be (1) that their defeat offers a significant improvement to overall competitive conditions and (2) that a tactical campaign can be devised that is feasible and minimizes the risk of retaliation. Getting it wrong can be costly – in one case, a new competitor tried taking on McDonalds in an important country market, and were destroyed in just 18 months.

Selecting who to attack and working out how to do it requires a deep understanding of individual rivals. In their efforts to contain costs, many companies lack the resources to build-up even the most basic competitor intelligence. Given the value at stake from even modest progress against rivals, this is a false economy.

Until next time…

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Strategic Management Dynamics book cover
Keeping the Vandals out of Rome!

You also need to think about what it might be worth to deter new entrants. In one restaurant market, some twenty would-be competitors had announced development plans that in total would have tripled the number of restaurants in the market over a five year period. These plans were encouraged by the market’s growth, and by the winning company’s own very public success. Had that number of units actually been opened, virtually all of those competitors would have lost money and failed, but inflicted considerable damage to the eventual victor in the meantime. Too many firms thought that running restaurant chains was easy, not understanding the complexity of product development, staff training, operating procedures, sourcing and logistics, and real-estate development. The strategically wise competitor used open communications, such as industry magazines and conferences, to clarify the difficulty of building a successful business and demonstrate just how powerful was its system of resources. The implicit message was “Sure, we are successful, but do not for a minute imagine you can match us — and be sure that we will destroy you if you try!” On reflection, many of the would-be entrants decided that the challenge looked just too difficult, and abandoned their plans. Less than half of the announced new units were ever opened.

This briefing summarises material from chapter 5 of Strategic Management Dynamics, pages 233-303.

Read more about the book on the Strategy Dynamics website

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