Leer en español
Ler em português
“If a man…make a better mouse-trap than his neighbour, tho’ he build his house in the woods, the world will make a beaten path to his door.” Attributed to one of Emerson’s lectures in the nineteenth century, these words seem to have anticipated the exhortations of the twentieth: manage for uniqueness, develop a distinctive competence, create competitive advantage.
But that’s not all Emerson had to say about investment in better mousetraps; he also remarked, “Invention breeds invention.” What will restrain rivals from imitating or even improving on an invention? That question preoccupies the real mousetrap industry as it staggers from imported copies of its innovative glueboards and repeating traps.
That question is also central to competitive strategy. Strategists insist that for outstanding performance, a company has to beat out the competition. The trouble is that the competition has heard the same message. Deadlocks ensue. Look at the cross-industry findings about three competitive hot spots:
1. Product innovation. Competitors secure detailed information on 70% of all new products within a year of their development. Patenting usually fails to deter imitation. On average, imitation costs a third less than innovation and is a third quicker.1
2. Production. New processes are even harder to protect than new products. Incremental improvements to old processes are vulnerable too—if consultants are to be believed, 60% to 90% of all “learning” ultimately diffuses to competitors. Production often blurs competitive advantage: recent studies show that unionized workers pocket two-thirds of the potential profits in U.S. manufacturing.2
3. Marketing. Nonprice instruments are usually ascribed more potency than price changes, partly because they are harder to match. Rivals often react to a particular move, however, by adjusting their entire marketing mix. Such reactions tend to be intense; limited data on advertising suggest that the moves and countermoves frequently cancel out.3
In principle, threats like these have always been part of doing business. In practice, they have multiplied with the intensification of domestic and international competition. How should a business cope with such competitive pressure? For guidance, we can turn from cross-industry findings to cases.
Keeping the Edge
This study of sustainable success grew out of a sample of 100 businesses that far outperformed their industries in the recent past. Not all of them promise to be as successful in the coming decade. The vulnerable ones have a lesson to impart.
Analog Devices, which focuses on specialized applications for analog semiconductors, has invested countercyclically to cash in on business upturns. The results: 80% faster growth and 50% higher profitability than the rest of the semiconductor industry. But existing competitors seem set to copy Analog’s investment policy, and new ones—notably the Japanese—are invading its profitable niches.
Nike’s leadership in athletic shoes was built on cheap Far Eastern labor and massive investments in product development and marketing. Over the last five years, Nike averaged thrice the profitability and four times the growth of the rest of the U.S. shoe industry. But competitors are busy cloning its strategy. Reebok International, for one, sources 95% of its shoes from South Korea, spends heavily on product styling, and has won endorsements from rock stars as well as athletes. Reebok’s sales and profits expanded fivefold in 1985, while Nike’s actually declined.
Piedmont Aviation’s hubs at Baltimore, Charlotte, and Dayton tie together dozens of small and mid-sized cities. Since the major airlines had neglected these routes, Piedmont grew three times as fast as the rest of the industry and was six times as profitable. But others are now muscling in: People Express has started to encroach, and American Airlines’ planned hub at Raleigh will hurt Piedmont’s operations out of Baltimore and Charlotte.
Analog Devices, Nike, and Piedmont are very different from one another, yet they face the same threat: copying by competitors. Their competitive advantages are insecure, or contestable, because each can be duplicated. These examples also show that some success stories do revolve around contestable advantages: all of a company’s competitors may be stupid some of the time. But can you count on your competitors being stupid all of the time? The historical record suggests otherwise. That is why sustainable advantages—advantages anchored in industry economics—command attention.
The literature on strategy is crammed with accounts of why a sustainable competitive advantage is A Good Thing To Have. But all those accounts beg two key questions: Which advantages tend to be sustainable, and why?
Sustainable advantages fall into three categories: size in the targeted market, superior access to resources or customers, and restrictions on competitors’ options. Note that these advantages are nonexclusive. They can, and often do, interact. The more of them, the better.
Benefits of Size
Size advantages exist because markets are finite. If a business can commit to being large, competitors may resign themselves to remaining smaller. What holds them back is the fear that if they matched the leader’s size, supply might exceed demand by enough to make the market unprofitable for everyone.
Commitment to being large means making durable, irreversible investments. To exploit commitment opportunities, a business must be able to preempt its competitors. Caveat preemptor: first-movers have to be especially wary of environmental changes that can erode the value of their early investments.
Size is an advantage only if, net net, there are compelling economies to being large. Such economies have three possible bases: scale, experience, and scope.
Scale economies usually summon up a vision of a global factory running flat out. But it is important to remember that scale can work on a national, regional, or even local level, and that its effects need not be confined to manufacturing.
Wal-Mart, the discount merchandiser, illustrates the power of local and regional scale economies. Historically, it focused on small Sunbelt towns that its competitors had neglected. Most of these towns could not support two discounters, so once Wal-Mart made a long-lived, largely unrecoverable investment to service such a town, it gained a local monopoly. The company reinforced this advantage by wrapping its stores in concentric rings around regional distribution centers. By the time competitors realized that this policy cut distribution costs in half, Wal-Mart had preempted enough store sites to render competing regional warehouses unviable. Now you know why Sam Walton is one of the richest men in America.
The Wal-Mart story also shows the limits to scale economies. K mart and other discounters are beginning to enter some of Wal-Mart’s larger locations. The problem, ironically, is market growth: because of the boom in the Sunbelt, some of these towns can now accommodate two discounters. And even the warehousing advantages look insecure in the regions into which Wal-Mart is expanding; it probably won’t be able to blanket these areas with stores before competitors move in.
Experience effects are based on size over time, rather than size at a particular point in time. If you think about it, experience is a kind of irreversible, market-specific investment. While it is usually cited in the context of the experience curve—the inverse relation between cumulative production and average cost—its ambit is actually much broader. For example, experience has been shown to increase the operating reliability of processing plants, the success rate of product introductions, and the marketability of high-tech products.
Experience effects—especially experience curves—have come under heavy fire recently because they were oversold in the 1970s. Yet some companies have parlayed them into competitive success. Take Lincoln Electric’s experience in the electric welding industry. Ever since John Lincoln developed the portable arc welder in 1895, Lincoln Electric has out-raced its competition down the experience curve. In its ninth decade it still commands a 7% to 15% cost advantage over its four largest rivals.
Lincoln is an object lesson about when and how to exploit experience effects. As the product pioneer it had a first-mover advantage; and that lead has proved durable because of the incrementalism of technological change. Lincoln has also kept its experience proprietary by integrating backward, customizing its production machinery, and holding annual worker turnover under 3%. Finally, it has continued to invest in experience by sharing cost reductions with customers. Competitors complain publicly that they have trouble matching Lincoln’s prices, let alone undercutting them.
Scope economies are derived from activities in interrelated markets. If they are strong, a sustainable advantage in one market can be used to build sustainability in another. The term scope economies isn’t just a newfangled name for synergy; it actually defines the conditions under which synergy works. To achieve economies of scope, a company must be able to share resources across markets, while making sure that the cost of those resources remains largely fixed. Only then can economies be effected by spreading assets over a greater number of markets.
Cincinnati Milacron, the largest U.S. machine tool manufacturer, shows how companies can capitalize on scope economies. For the last two decades it has led the U.S. machine tool industry in both R&D and the size of its sales and service networks—activities that account for a third of the value added by the industry. In the 1980s it has pushed hard into robotics, with good reason. Its cumulative R&D experience gives the company such a big lead in the machine tool segment that no domestic challenger can rationally commit to matching its R&D, sales-force, or service expenditures. Furthermore, the technologies and customers for its computerized, numerically controlled machine tools overlap with those for robotics. And the company’s R&D, sales, and service activities are all very volume sensitive, which slashes the incremental costs of moving into robotics. These factors make it a formidable contender in the industry.
A company pursuing a sustainable scope advantage cannot afford to run its businesses as isolated units. Activities have to be coordinated and allowances must be made for contributions from one business to the success of another. This makes scope economies especially hard to implement.
Access Advantages
Preferred access to resources or customers can award a business a sustainable advantage that is independent of size. The advantage persists because competitors are held back by an investment asymmetry: they would suffer a penalty if they tried to imitate the leader.
Access will lead to a sustainable advantage if two conditions are met: it must be secured under better terms than competitors will be able to get later, and the advantage has to be enforceable over the long run. Enforceability can come from ownership, binding contracts, or self-enforcing mechanisms such as switching costs. Without enforceability, the terms of access shift in line with overall market conditions, wiping out any competitive differences.
Enforceability can be a two-edged sword, however. The risk of pursuing sustainable access advantages is that they may saddle a business with worse terms than those available to its rivals.
Know-how
Superior access to information may reflect the benefits of scale or experience. Boeing, for instance, has acquired superior know-how about commercial jet aircraft through billions of dollars of cumulative investments in R&D. More often, though, sustainability hinges on hidden know-how—what your rivals don’t see. For example, IBM’s size and the complexity of its operating environment make it hard for competitors to figure out exactly what makes it tick. If the cost of surmounting that kind of informational barrier exceeds the payoffs, rivals may not even attempt imitation.
Consider Du Pont’s preemption of all the capacity expansion in the U.S. titanium dioxide industry in the 1970s. Thanks to a production process based on low-cost feedstock, Du Pont enjoyed a 20% cost advantage over competitors’ processes. Mastering the cheaper feedstock technology was a black art—it could be accomplished only by investing $50 million to $100 million and several years of testing time in an efficiently scaled plant. The cost and risk of this alternative kept Du Pont’s competitors from trying to imitate its demonstrably superior technology.
An obvious but important point: know-how must be kept secret if it is to yield an advantage. Many high-tech and service companies have been devastated by the defection of key personnel in whom their know-how is vested. The Boston Consulting Group, for instance, has suffered more than a dozen spin-offs, eroding its competitive advantage in management consulting and its client base. Other sources of leaks include suppliers, customers, reverse engineering, and even patent documents.
Inputs
Tying up inputs will lead to a sustainable advantage only if the commodity’s supply is bounded and the company has the right to use it on favorable terms. Boundedness here is interpreted broadly: it may imply either a strictly limited supply of the input or a supply that is elastic but of varying quality. In both cases, the supply of the preferred input is limited; as a result, tying it up can be very profitable.
This description covers a wide range of phenomena. Courtaulds’ 10% to 15% cost advantage over its competitors in the viscose industry can be traced to its backward integration into dissolving pulp, which accounts for a third of the finished product’s cost. Courtaulds gets its pulp from a well-located subsidiary for half what its competitors pay. James River Corporation has averaged a 24% ROE by buying obsolete commodity paper machines at fire-sale prices and converting them to specialty products, a stratagem that has held its assets-to-sales ratio to two-thirds the industry average. In diamonds, the Central Selling Organization (controlled by De Beers) has built up its marketing muscle by tying up contracts to market 80% of the western hemisphere’s supply.
Companies can also secure preferred access through their reputations or established relationships. In the record industry, for example, CBS has attracted promising artists because of its reputation for being able to take them to the top—at least partially a self-fulfilling prophecy.
Access advantages are vulnerable to shifts in input availability or prices. Courtaulds’ cost advantage in dissolving pulp will wither as infrastructural development opens up more tropical and subtropical forests. And James River’s competitors, particularly Hammermill, have begun to bid up the prices of the second-hand paper machines that it traditionally bought for a song. This constrains James River’s growth, even though its cheap asset base will prop up profitability for years to come.
Markets
In many ways, preferred access to markets is the mirror image of preferred access to inputs. But access to markets relies less on vertical integration or contracts and more on self-enforcing mechanisms such as reputation, relationships, switching costs, and product complementarities.
That is not to say that vertical integration and contracts are entirely missing from the picture. Tele-Communications’ strategy in cable television systems shows otherwise. While competitors outbid each other in their scramble to secure big franchises, Tele-Communications concentrated on acquiring small, contiguous systems in areas that were poorly served because they were hard to get to or far from large population centers. Tele-Communications’ current network faces no serious threats from substitutes or competitors, limits its exposure to the whims of any one regulatory authority, and allows the company to spread the costs of its microwave common-carrier network over several communities.
Still, self-enforcing mechanisms for market access crop up far more frequently. Let us look at just two examples. Tandem, which pioneered expansible, fault-tolerant computers for processing transactions, has gained preferred access to demand for upgrades and replacements because changeovers from one system to another are very costly. And Borden’s brand of processed lemon juice, ReaLemon, attained a 50% premium over identical competing brands because as the pioneer, it benefited from consumer risk-aversion: lemon juice doesn’t cost very much and you don’t buy it very often, so why take a chance with an untried brand?
You have probably already figured out that market access advantages are very sensitive to customer preferences. Even slight, apparently innocuous shifts in preferences can weaken an entrenched brand, dispel accumulated switching costs, or undercut long-standing relationships.
Exercising Options
Sometimes the sustainability of an advantage cannot be pinned on either size or access. Instead, competitors’ options may differ fundamentally from yours, hamstringing their ability to imitate your company’s strategy. Rivals may be frozen into their current positions for several reasons:
Public policy
Government intervention always affects the workings of markets; that is its avowed purpose. Sometimes its actions percolate so far as to affect competitive positions within an industry. The examples are familiar: patents (try to) protect innovators from imitators, antitrust laws prevent large businesses from being as aggressive as smaller competitors, some companies get handouts while others do not. The lesson, strategically, is that a company that is on the right side of public policy can exploit its position to build sustainability against companies that are not.
Heileman Brewing exemplifies both the leverage from this source of sustainability and its limits. The shakeout in the U.S. brewing industry during the 1970s endangered many small, regional brewers. Antitrust laws prevented the national brewers—Anheuser-Busch, Miller, and Schlitz—from acquiring them. Heileman, then one of the larger regional brewers, faced no such constraints. It grew throughout the decade by buying out numerous smaller brewers lock, stock, and barrel. These cheap assets fed right through to the bottom line: with an average ROE of 29% over the last five years, Heileman is still ahead of its competitors. But the bloom on this particular strategy is fading. By 1982, Heileman’s market share had tripled, and the Justice Department blocked its proposed acquisitions of Schlitz and Pabst. Other takeovers by Heileman are improbable.
Remember that what the government gives, the government can take away. Treat an advantage based on public policy as sustainable only if you are sure you will continue to be on the right side. If not, try a different route.
Defense
A business can also sustain an advantage if its competitors are restricted by past investments. If imitation threatens the cash flow from those investments, disadvantaged competitors may rationally stay put and defend them, thereby giving the innovator an opportunity to take the lead.
Examples of defensiveness are legion. Bic used its 19–cent Crystal to wrest leadership from Gillette in the U.S. pen market in the 1950s, when Bic’s aggression went unmatched because Gillette did not want to decimate the sales of its more expensive Paper Mate line. In plain-paper copying, a number of competitors successfully attacked Xerox in the 1970s. Recognizing that its multibillion-dollar rental base was becoming obsolete, Xerox milked it by dragging its feet on price cuts and product innovation—even though these lags caused its share of new placements to fall from nearly 100% in 1972 to 14% by 1976.
Time often erodes defensiveness, however, as it depreciates the value of past investments. In 1970, Gillette introduced a low-priced line of Write Bros. pens to arrest Bic’s advance. And since 1977, Xerox has restored its share of new copier placements to the 40% to 50% range by matching competitors’ prices and product features.
Response lags
The final restriction on rivals’ options comes from response lags. One business can be every bit as efficient as another in terms of potential size or access without being equally prepared to make a specific move. In that event, the nimbler of the two can count on a lag in its competitor’s response, or a period of sustainability.
The longer the response lag the better, as existing advantages stretch out and opportunities to create new ones multiply. Lag times vary enormously, of course, but I can make some broad generalizations. Responses to most pricing moves come in weeks if not days, while responses to nonprice competition and to R&D usually take a few years. And it may take a decade or more to match a competitor’s scope economies or superior organization.4
Kodak vividly illustrates how you can sustain a lead by exploiting competitors’ response lags. In the late 1950s, Du Pont and Bell & Howell formed a joint venture to challenge Kodak’s dominance of the color film market. They found product development exasperating, however, because each time they improved their film, Kodak seemed, as if by magic, to make its film even better. When the Du Pont—Bell & Howell film was finally ready, Kodak administered the coup de grace by introducing the vastly superior Kodachrome II slide film. The competing entry never reached the market.
Guidelines for Strategy
I have outlined a set of factors that affect the sustainability of competitive advantages. How should these factors—and the broad notion of sustainability—be integrated into strategy formulation? Here are several points to remember:
1. Managers cannot afford to ignore contestable advantages. For one thing, even moves that offer ephemeral advantages may be worth making, if only to avoid a competitive disadvantage. For another, some contestable advantages may survive uncontested: disadvantaged competitors may be tied up trying to meet their profit targets, constrained by their corporate strategies, or just ineptly managed.
2. The distinction between contestable and sustainable advantages is a matter of degree. Sustainability is greatest when based on several kinds of advantages rather than one, when the advantage is large, and when few environmental threats to it exist.
3. Not all industries offer equal opportunities to sustain an advantage. First-mover advantages tend to be most potent in industries characterized by durable, irreversible, market-specific assets, either tangible or intangible. Industries that evolve gradually offer more room to sustain advantages than those that are regularly rocked by drastic changes in technology or demand. And sustainability is more accessible in industries with more than one dominant strategy because competitors may not have the same options you do.
4. To create a sustainable advantage, you must either be blessed with competitors that have a restricted menu of options or be able to preempt them. Propitious times to preempt occur when an industry is undergoing wrenching changes in technology, demand patterns, or input availability. Scan the environment actively. If you notice any changes, see whether they play to your particular strengths.
Ultimately, the search for sustainability involves a series of decisions about the degree to which you are willing to commit your business to a particular way of doing things. You have to pick the relative emphasis you are going to place on two things: commitment to competing a particular way and retaining the flexibility to compete effectively in other ways.
1. Edwin Mansfield, “How Rapidly Does New Industrial Technology Leak Out?” Journal of Industrial Economics, December 1985, p. 217; Richard C. Levin et al., “Survey Research on R&D Appropriability and Technological Opportunity, Part I,” Yale University Working Paper (New Haven: July 1984); and Edwin Mansfield, Mark Schwartz, and Samuel Wagner, “Imitation Costs and Patents: An Empirical Study,” Economic Journal, December 1981, p. 907.
2. Michael A. Salinger, “Tobin’s q, Unionization, and the Concentration-Profits Relationship,” Rand Journal of Economics, Summer 1984, p. 159; and Thomas Karier, “Unions and Monopoly Profits,” Review of Economics and Statistics, February 1985, p. 34.
3. M.M. Metwally, “Advertising and Competitive Behavior of Selected Australian Firms,” Review of Economics and Statistics, November 1975, p. 417; Jean-Jacques Lambin, Advertising, Competition, and Market Conduct in Oligopoly Over Time (Amsterdam: North-Holland, 1976); and Jeffrey M. Netter, “Excessive Advertising: An Empirical Analysis,” Journal of Industrial Economics, June 1982, p. 361.
4. See, for example, David J. Teece, “The Diffusion of an Administrative Innovation,” Management Science, May 1980, p. 464.
A version of this article appeared in the September 1986 issue of Harvard Business Review.