
The ability of a company to outperform its competitors
Competitive advantage refers to the ways that a company can produce goods or deliver services better than its competitors. It allows a company to achieve superior margins and generate value for the company and its shareholders.
A competitive advantage is something that cannot be easily replicated and is exclusive to a company or business. This value is created internally and is what sets the business apart from its competition.
Competitive advantages come in many shapes and sizes. They include, but are not limited to, some of the following:
For a competitive advantage to be established, it is important to know the following:
To build a competitive advantage, a company must be able to identify its value proposition that will be sought after by the target market, which cannot be replicated by competitors.
Michael Porter, the famous Harvard Business School professor, identified three strategies for establishing a competitive advantage: cost leadership, differentiation, and focus (which includes both cost focus and differentiation focus)[1].
The goal of a cost leadership strategy is to become the lowest cost manufacturer or provider of a good or service. This is achieved by producing goods that are of standard quality for consumers, at a price that is lower and more competitive than other comparable product(s).
Firms employing this strategy will combine low profit margins per unit with large sales volumes to maximize profit. Companies will seek the best alternatives in manufacturing a good or offering a service and advertise this value proposition to make it impossible for competitors to replicate.
A differentiation strategy is one that involves developing unique goods or services that are significantly different from competitors. Companies that employ this strategy must consistently invest in R&D to maintain or improve the key product or service features.
By offering a unique product with a totally unique value proposition, businesses can often convince consumers to pay a higher price which results in higher margins.
A focus strategy uses an approach to identifying the needs of a niche market and then developing products to align to the specific need area. The focus strategy has two variants:
Three notable examples are:
A competitive advantage is what sets a business apart from its competitors. It is essential in order for a business to succeed, whether it’s by ensuring higher margins, attracting more customers, or achieving greater brand loyalty among existing customers.
Higher margins, a better growth profile, and lower customer churn tend to also be very popular among both investors and creditors — making capital more readily available (and cheaper) for firms that are able to maintain a strong competitive advantage among their peers.
Watch this short video to quickly understand the main concepts covered in this guide, including the definition of competitive advantage and how companies create it using various business strategies.
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