Competitive advantage – definition and meaning
Competitive advantage is a feature that gives a company an edge over its rivals. It is something that helps it compete more effectively. A competitive advantage could be a superiority that a company gains. For example, perhaps it can provide the same value as other companies can, but at a lower price. It may also offer more attractive credit terms than its competitors.
Some companies with a competitive advantage can charge more. They charge more by providing greater value through differentiation. Differentiation refers to the results of efforts to make a brand stand out to customers. Specifically, it stands out as a provider of unique value.
We can use the term ‘competitive advantage’ at individual, company, or country levels. This article focuses on its meaning at company level.
Specifically, the article focuses on conditions that allow companies to generate either greater margins or superior sales than their rivals.
When a company sustains greater-than-average profits, we say it possesses a competitive advantage over its competitors. The goal of most firms is to achieve a sustainable competitive advantage.
According to the Financial Times’ glossary of business terms, competitive advantage is:
“When a company has an advantage over another in the provision of a particular product or service.”
Do not confuse the term with ‘comparative advantage.’ Comparative advantage refers to nations becoming wealthier by trading rather than becoming self-sufficient. In other words, they specialize, trade with other nations, and get richer.
Competitive advantage – reasons
A firm may have a competitive advantage due to its quality, price, brand, distribution network, intellectual property, or location.
It could also be due to customer support, cost structure, natural resources access, and a supply of suitably-skilled labor.
Historically, access to new technology has consistently given companies a significant advantage over their rivals.
Competitive advantage provides an edge over the competition. It can also generate more value for a business and its shareholders.
In customers’ minds, a competitive advantage is what makes a company superior to others.Businesses first utilized this ‘competitive advantage’ method of success. However, any person or entity can also adopt it.
Competitive advantage – three determinants
Before finding out what your competitive advantage is, you need to know about three determinants. First, the competition; second, what you produce; and third, the target market.
Your Target Market
Which customers should you target? You must know who is currently buying from you. You also need to find out who will purchase from you in the future.
Furthermore, you must determine what you need to do to make them happier. In other words, find out how can get them to spend more.
For example, physical newspapers today know that their target market is older individuals. They know this because younger adults prefer going online. Many newspapers did not prepare for this evolution and consequently died.
What Are You Providing?
You must be clear on what type of product you are providing. Only then can you focus on making sure it is something that offers real value.
You need to list all the advantages and benefits that your product provides consumers.
For example, since the Internet emerged, retailers have had to redefine what a shopping experience is for the customer.
The Competition
You need to know everything about rival companies. You also need to find out as much as you can about your customers. Then you have to try to meet their particular needs.
Major retailers thought their competition was other major retailers. However, it was, in fact, the online world.
Suddenly, the market opened up to millions of smaller players. Operating online means having considerably lower costs than retailers with physical shops. Online retailers are forever looking for innovative ways of enhancing the shopper’s experience.
Make sure you are completely familiar with every aspect of these three determinants. They will help you identify what you are better able to provide to your target market than your competitors. Being able to do that is your main competitive advantage.
Value proposition
When understanding competitive advantage, value proposition is important. A value proposition is a summary of why a consumer should buy a product. We also use value propositions for services.
If the value is effective, it may produce a competitive advantage in the good or service.
The value proposition will also increase customer expectations and choices.
Competitive advantage – two types
American academic, Michael Porter, famous for his economic and business theories, identified two basic types of competitive advantage: First, Cost Advantage; and second, Differentiation Advantage.
Cost Advantage
Cost advantage exists when a company can deliver the same benefits as its competitors. However, it does so at a lower price.
It can achieve this with superior technology, efficient processes, waste reduction or elimination, and a skilled workforce. A favorable location and access to cheaper inputs also help.
Differentiation Advantage
Differentiation advantage is when a company delivers more benefits than its competitors. In other words, the company’s unique features set it apart and above those of its competitors. Differentiation advantage may refer to a company, product, or service.
Prof. Porter published his book – Competitive Advantage – in 1985, as the ‘essential companion’ to his earlier work – Competitive Strategy (1980). While ‘Competitive Strategy’ looked at competition at industry level, ‘Competitive Advantage’ considered it from a company’s-eye view.
Prof Porter said:
“My quest was to find a way to conceptualize the firm that would expose the underpinnings of competitive advantage and its sustainability.”
Is competitive advantage dead?
What usually happens when one academic coins a phrase or comes up with a new theory? A few years later another professor tries to kill it.
In 2013, Rita Gunther McGrath published her book – The End of Competitive Strategy: How to Keep Your Strategy Moving as Fast as Your Business. Prof. McGrath, a professor at Columbia Business School in New York, is a leading expert on strategy.
In her book, Prof. McGrath wrote:
“Strategy is stuck. Virtually all strategy frameworks and tools in use today are based on a single dominant idea: that the purpose of strategy is to achieve a sustainable competitive advantage. This idea is strategy’s most fundamental concept. It’s every company’s holy grail. And it’s no longer relevant for more and more companies…”
“Strategy was all about finding a favorable position in a well-defined industry and then exploiting a long-term competitive advantage. Innovation was about creating new businesses. It was seen as something separate from the business’s core set of activities.”
Prof. McGrath argues that competitive advantage is not sustainable. In other words, it is transient. To operate, we need a new series of assumptions about how the global marketplace works. We also need ‘a new playbook to compete and win when competitive advantages are transient,’ she said.
Basing one’s strategy on a new set of assumptions may not seem very appealing. This is especially the case for managers who are still ‘stuck’ in the old economy.
Absolute advantage refers to what one entity can produce at a better rate than another. Imagine John Doe Inc. produces three shirts per worker per day, and Mary Ltd. produces four shirts per worker per day. Mary Ltd. has an absolute advantage over John Doe.
Video – 5 competitive forces
In this Harvard Business Review video, Prof. Michael Porter talks about the five competitive forces that shape strategy. He believes that these forces make up the basis for much of modern business strategy. He explains how to put them into practice.