Porter’s Generic Strategies: Differentiation, Cost Leadership and Focus

Porter’s Generic Strategies is an answer to one of two central questions underlying the choices companies have with regard to competitive strategy. The first question is about the attractiveness of industries for long-term profitability and how to choose which industry to enter as a company. We are all familiar with the framework that Porter came up with to determine this: the Five Forces Model. The second question is about the determinants of a company’s relative competitive position in an industry after a certain industry is chosen to enter. Because, in order to be a successful company, being active in an attractive industry alone is not enough: you will need to acquire a dominant competitive position by choosing among three generic strategies: Differentiation, Cost Leadership and Focus. Failing to choose between one of these strategies will result in strategic mediocrity and below-average performance, or as Porter describes it: ‘being stuck in the middle’. This article will go into Porter’s Generic Strategies with the aid of examples.

Figure 1: Porter’s Generic Strategies: Cost Leadership, Differentiation and Focus

Differentiation

Differentiation is a type of competitive strategy with which a company seeks to distinguish its products or services from that of competitors: the goal is to be unique. A company may use creative advertising, distinctive product features, higher quality, better performance, exceptional service or new technology to achieve a product being perceived as unique. A differentiation strategy can reduce rivalry with competitors if buyers are loyal to a company’s brand. Companies with a differentiation strategy therefore rely largely on customer loyalty. Because of the uniqueness, companies with this type of strategy usually price their products higher than competitors. Examples of companies with differentiated products and services are: Apple, Harley-Davidson, Nespresso, LEGO, Nike and Starbucks.

Cost Leadership

Cost Leadership is a type of competitive strategy with which a company aggressively seeks efficient large-scale production facilities, cuts costs, uses economies of scale, gains production experience and employs tight cost controls to be more efficient in the production of products or the offering of services than competitors: the goal is to be the low-cost producer in the industry. A low-cost position also means that a company can undercut competitors’ prices through for example penetration pricing and can still offer comparable quality against reasonable profits. Low-cost producers typically sell standard no-frills products or services. Examples of companies with cost leadership positions are: Southwest Airlines, Wal-Mart, McDonald’s, EasyJet, Costco and Amazon.

Focus

Focus is a type of competitive strategy that emphasizes concentration on a specific regional market or buyer group: a niche. The company will either use a differentiation or cost leadership strategy, but only for a narrow target market rather than offering it industry-wide. The company first selects a segment or group of segments in an industry and then tailors its strategy to serve those segments best to the exclusion of others. Like mentioned, the focus strategy has two variants: Differentiation Focus and Cost Focus. These two strategies differ only from Differentiation and Cost Leadership in terms of their competitive scope. Examples of companies with a differentiation focus strategy are: Rolls Royce, Omega, Prada and Razer. Examples of companies with a cost focus strategy are: Claire’s, Home Depot and Smart.

Stuck in the Middle

A company that tries to engage in each generic strategy but fails to achieve any of them, is considered ‘stuck in the middle’. Such a company has no competitive advantage regardless of the industry it is in. As a matter of fact, such a company will compete at a disadvantage because the ‘cost leader’, the ‘differentiators’ and the ‘focusers’ in the industry will be better positioned to compete. It may be the case, however, that a company that is stuck in the middle still earns interesting profits simply because it is operating in a highly attractive industry or because its competitors are stuck in the middle as well. If one of the two exceptions are not present it will be very hard for companies to engage in both differentiation and cost leadership, Porter argues, because differentiation is usually costly. Each generic strategy is a fundamentally different approach to creating and sustaining superior performance and requires a different operating model.   

Other interpretations of Porter’s Generic Strategies

Like many business frameworks, Porter’s Generic Strategies Model has both proponents and opponents. Among others, Miller (1992) has questioned Porter’s notion of having to pursue one single strategy or else being caught ‘stuck in the middle’. He claims that there is a viable middle-ground between strategies and uses the example of Caterpillar Inc, which differentiated itself by producing the highest quality earth-moving equipment in the world while paying attention to cost-efficiency. Miller argues that strategic specialization, as Porter suggests, has the danger of becoming inflexible and blind to customer needs. Also Chan Kim and Mauborgne (2005) abandon the ‘value-cost’ trade-off that a company needs to choose between certain strategies. With their Blue Ocean Strategy they advice companies to pursue differentiation and low cost simultaneously: it is about driving costs down while simultaneously driving value up for buyers. However, there are also popular authors who do believe in Porter’s idea of competitive choice. Treacy and Wiersema (1995) for example build further on Porter’s idea and modified Porter’s Generic Strategies into the Value Disciplines. They advice companies to choose between Operational Excellence, Product Leadership and Customer Intimacy.

Further Reading:

• Porter, M.E. (1985). Competitive Advantage: Creating and Sustaining Superior Performance. Harvard Business Review.
• Porter’s Generic Strategies: https://en.wikipedia.org/wiki/Porter%27s_generic_strategies