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Beating the commodity magnet
Beating the Commodity Magnet V. Kasturi Rangan George T. B owman This article challenges the conventional belief that product commoditization is inevitable, and accompanied by deteriorating projts. Four generic strategies to avoid commoditization are suggested. The article describes firms that have successfully implemented these strategies.
INTRODUCTION According to conventional wisdom, all markets follow a cycle of growth and maturity, then commoditization and decline. Profits are to be found in the specialty industries [ I]-electronics, scientific equipment, and aerospace-while more mature industries beset by declining demand and overcapacity cannot sustain comparable profitability. Hence, throughout the 1980s many corporations sought to divest their mature or commodity-type businesses while redeploying resources into something more promising. However, economic data and specific company examples refute this conventional wisdom. Our research indicates that there are many companies in commodity businesses that perform as well as or better than their counterparts in specialty businesses.
Address correspondence to V. Kastmi Rangan, Dept. of Marketing, Cotting Hall, Harvard Business School, Boston, MA 02163.
Industrial Marketing
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Elsevier Science Publishing Co., Inc., 1992 655 Avenue of the Americas, New York, NY 10010
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For example, data show that some manufacturers of industrial chemicals such as Arco, Dow, and Ethyl Corporation, reported a return on sales (ROS) comparable to that of some of the better-performing specialty chemical companies such as Betz and Great Lakes. Similarly, in the steel industry, diversified steel producers such as Wheeling, Armco, and Bethlehem have from time to time performed as well as focused specialty steel producers Allegheny and Carpenter. Interestingly, even in high technology industries such as computers, low-end personal computer manufacturers such as Compaq and Apple have matched or even exceeded the performance of systems manufacturers such as Cray and Tandem (Table 1). While a relatively larger proportion of companies within the specialty group report a healthy ROS, the most successful companies in the commodity business have profitability levels comparable to the best in specialty industries. Thus, while the risks seem graver and greater in the commodity industries, the rewards for the few successful firms are very attractive. Many firms in an increasing number of commodity businesses-blood collection products, replacement motors, and steel strapping, among them-are becoming consistently profitable by knowing how and when to differentiate their products through innovation, service, and customer partnerships, how and when to offer a “no-
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How three companies did it. frills” product, and seek cost leadership. These companies understand that commoditization can be a selffulfilling prophecy, in which lower price, profits, service, and customer loyalty interlock in a cycle of decline. While commoditization of an industry may seem inevitable, the better-managed firms find a way to make money in the commodity cycle, as the following examples suggest. Blood collection products [2]. Becton-Dickinson and Company has maintained a commanding market share with a price premium in the market for blood collection tubes, needles, and lancets, despite low-price competition from a Japanese competitor (Terumo), Sherwood Medical, and entry attempts by Abbott Labs, Johnson & Johnson, and Corning Glass. Key success factors include stress on quality, and the direction of the company’s
selling efforts to the lab technicians who actually use the products. One B-D sales representative noted several instances when hospital administrators attempted to purchase less expensive products but were rebuffed by bench technicians, who insisted on B-D’s well-known Vacutainer and Microtainer products. Replacement motors (31. The replacement motor market for consumer durables has few entry barriers, hundreds of competitors, and distributors who have introduced private-label brands. When industry leader GE began losing market share in the mid-1980s, it sought to learn more about customer requirements and discovered that 30% of all customers left the point-of-sale without the motors they had come to buy. In response, GE increased stock levels and efficiency of order fulfillment; it also fought price erosion by providing training and
TABLE 1 Return on Sales Percentage Chemicals Specialty
Chemicals
Betz Dexter Ferro Fuller Great Lakes International Loctite Lubrizol Morton Nalco Raychem Average Industrial
Flavors
Chemical
ArCo Air Products DOW Ethyl Corp. Goodrich Hercules Lyondell Monsanto Olin Rohm and Haas Union Carbide Average
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1988
1989
Specialty
Producers 10.8 4.8 4.6 3.1 18.5 15.3 10. I 11.7 9.3 10.7 11.4 10.0
10.8 5.1 4.6 2.1 15.5 15.9 11.9 7.7 6.9 11.2 3.4 8.6
11.0
4.7 3.0 2.5 13.5 16.3 12.1 12.8 8.2 10.9 -9.7 7.5
15.2 8.4 14.1 9.0 7.1 -3.1 7.0 7.8 4.9 6.6 6.6 1.6
11.8
7.9 8.1 9.2 5.3 -4.2 5.9 6.9 4.2 6.9 4.0 6 .O
1988
Allegheny Birmingham Carpenter Commercial Lukens Nucor Timken
1990
Armco Bethlehem Inland LTV usx Wheeling
Computers
1988
1989
11.9 20.7 11.4 8.3 9.2 8.0 11.0 6.3 7.2 6.9
7.3 II.3 8.4 7.0 6.0 4.4 10.4 3.4 7.2 -6.3
7.3 15.0 -0.4 5.6 6.2 8.2 8.8 5.1 6.5 -3.1
10.09
5.91
5.82
8.6 5.3 11.6 1.3 7.8
8.5 1.6 11.8 4.0 6.1
6.92
6.4
1990
Svstems Manufacturinq
Metals
Average
Average
1989
Steel Producers
Diversified
Producers 18.3 8.8 14.4 8.5 8.7 4.3 11.6 7.1 4.2 9. I 8.0 9.4
Steel
1990
9.0 7.2 4.4 2.2 5.5 6.7 4.2
11.3 8.8 4.6 2.2 6.5 4.6 3.6
8.6 3.1 7.6 2.0 7.1 4.9 2.7
5.6
5.9
5.1
Steel Producers
Amdahl Cray DEC Hewlett-Packard IBM Silicon Graphics Stratus Sun Tandem Unisys Average Personal
4.0 7.1 6.1 - 12.2 4.x 16.2
8.7 4.7 2.9 4.2 5.5 11.2
I .8 2.1 1.1 2.7 4.1 8.5
4.3
6.2
2.8
Comwter
Apple Commodore Compaq Dell Tandy
Average
Manufacturers 9.8 5.5 12.4 5.6 8.3
8.32
unique product information for wholesale counter personnel, and by creating a computerized cross-reference system that enabled wholesalers to determine which GE motor could be used as a replacement. Steel strapping (41. Despite fluctuating steel prices and low-cost competition from numerous competitors, Signode Industries has long maintained profitable industry leadership by taking a partnership approach to customer strapping requirements. Key elements in Signode’s strategy are the study of each industry’s strapping needs, the design of specialized equipment to meet those needs, and their service, and sales of strapping consumables. Because of this systems sales approach, the Signode salesforce maintains multiple contacts within customer organizations ranging from vice-presidents of manufacturing to plant managers and purchasing agents. In this way, Signode has become the standard-bearer of steel strapping, with its competition having to provide products that fit into Signode equipment. COMMODITY
MARKETS
Even though products are loosely characterized as commodities, in reality it is the product-market combination that one usually refers to in making such a characterization. Regardless of whether the product is corn or computers, it is the market dynamics that distinguish a commodity. Most managers recognize the early warning signs of commoditization-increasing competition, availability of “me-too” products, the customer’s reluctance to pay for features and services accompanying the product, and pressure on prices and margins in general [5]. Steadily and deliberately as the market transforms into a commodity, many buyers begin to perceive the product and its suppliers to be homogeneous, and price becomes the predominant buying criterion. Management scholars have told us, of course, that every product and every service can be differentiated. Either the core product itself can be made different or the value chain positioned differently [6, 71. Some firms, however, instead of pursuing such a differentiation strategy, might seek a low-cost position. By providing customers a low price (because of the product’s low Lost), such firms are in a unique position to addl;ss the needs of the “price-sensitive” business [S]. The essence of the above strategies can be captured in a simple twodimensional matrix, with one axis representing price and the other the service that accompanies the product (Figure 1); adapted from [9].
High
Low Sorvloo H’gh FIGURE I.
Product-Market Types
The diagonal that runs from the lower left to the upper right represents an axis of equity where a company charges a price that reflects the value of the service it provides. Quadrant C represents a core, no-frills product, not accompanied by much augmented services. Correspondingly, the price paid by the customer is relatively low. On the other hand, the quadrant B represents a product accompanied by intensive value-added services, for which the customer pays a higher price. All locations above the equity diagonal signify that the company is able to extract a higher value than the services it renders because customers perceive the firm’s product as being superior to competitive offerings or substitutes. In short, all positions above the equity diagonal reflect a product differentiation strategy. Positions below the equity diagonal usually indicate that the firm is unable to extract the full value of the services it renders with its product. In quadrant D, the company essentially gives away all its services free, perhaps in an effort to retain market share in a very competitive market environment. Thus, the cross diagonal represents an axis of power: the manufacturer is more powerful (differentiated) in quadrant A and the customer in quadrant D. Clearly, strategy A would be the most advantageous for any firm, and will likely lead to the highest profits; the strategy is based on product feature/function superiority. Strategies B and C ensure an adequate and fair return to the firm, with B emphasizing differentiation through augmented services and C emphasizing a lowcost manufacturing approach. Whether a firm should adopt B or C depends on its relative strengths and weaknesses with respect to other competitors in the field. Strat-
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HIGH
PRICE
HIGH
FIGURE
2.
The Commoditization
egy D is rarely consciously adopted by any firm. The customer and competitive environment drag a firm reluctantly down to that quadrant (Figure 2). While a firm may be able to survive in that environment in the short run, it is guaranteed to lead to losses in the long run because no business can afford to give away services without increasing prices correspondingly. When a product is dragged down to a commodity status, the conventional marketing wisdom is to attempt to push it back up again by differentiating the physical product [lo] or adding value by innovating the product delivery system. There are several problems with this prescription, Some low-tech products may not have any further scope for product improvements. And even for
V. KASTURI RANGAN is Associate Professor at the Harvard Business School, Boston, Massachusetts. GEORGE T. BOWMAN is a project manager at GE’s Electrical Distribution and Control’s Division, PlainwIle, Connecticut.
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Pull
high-tech products, not all firms have the resources to effect the necessary innovations. Moreover, investments in systems to add value are often costly (e.g., computerizing the order entry and inventory systems). Most of all, it is not entirely obvious that customers will place value on the improved product or service features-after all, it is a commodity market! Under such circumstances, how does a manager preserve the firm’s profit position? How does one manage to beat the commodity magnet? Differentiation
Strategies
Firms with differentiated products operating from quadrant A (see Figure 1) often cannot resist the temptation to charge high prices even as the market rapidly gravitates towards commodity status. We believe that in a true commodity market, firms would be unable to sustain position A without seriously undermining their market shares. If a firm does not offer a real customer benefit or product differentiation, customers, as they become knowledgeable, are likely to switch to competition rather than stay with a firm that is apparently overpriced for the services it offers. It is much easier to move towards the equity diagonal from quadrant A, before commoditization
There are four feasible strategies. occurs. Once the market has already moved in that direction, to rise up from quadrant D to the equity diagonal is far more difficult for reasons we will discuss later. The key is to move toward a stable position along the equity diagonal so that the manufacturer is firmly entrenched in quadrant B providing an augmented product, or in quadrant C providing a core product. In either case, both the firm and its customers are involved in a fair exchange. Although it may seem that there are unlimited directions to move toward the equilibrium axis, Figure 3 shows that a firm has only four really feasible options; any other strategy would be difficult for either a firm or its customers to adopt. A firm in position A, for instance, attempting to move towards a position along the equity diagonal, would find it impossible to pull off any movement in the AB to AC range because that would require
FIGURE 3.
the company either to drop price, increase service, or both. This is likely to cause a strain on profits in what is already a tough market. Management is hardly likely to approve a plan that voluntarily surrenders profits when other options are available. Similarly, for a firm in position D, attempting to move its customers to the equilibrium axis in the DB to DC range would involve increasing price, decreasing service, or both. This is likely to lead to a steep loss in customers and market share. In the final analysis, there are only four feasible strategies, two of which are implementable before the onset of commoditization and two after: 1. Value-added strategy: moving to the diagonal by increasing price as well as augmented services.
Beating the Commodity
Magnet
Servlca 1. Vclue - Added Strategy 2 Prlos Ccmprer~lon/lnnovatlon Strategy 3. Market Focus Strategy 4. Sorvlce Comprerslon/lnnovatlon Strakgy
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The value-in-use strategy minimizes customers’ costs. 2. Price compression/innovation strategy: moving to the diagonal by essentially decreasing price. 3. Market focus strategy: moving to the diagonal by focusing on customers who would pay the additional price for augmented services because they value them. 4. Service compression/innovation strategy: moving to the diagonal by decreasing some prices, but stripping away several service features. This allows a firm to forestall Value-added strategy. price erosion by providing value-added services to the product. Such services neccessarily should go beyond those that a customer would normally expect (e.g., ontime order fulfillment). Installation, training, and technical support are among those often used. Effective differentiators begin by asking what the buyer values. Learning this may require formal research and should generate a comprehensive list of possible product and service offerings for each customer segment. Effective differentiators then critically evaluate the list of possible service offerings and choose those with the greatest potential to leverage customer value over cost-to-serve. In any case, the strategy’s purpose is to pamper the customer with a lot of services, thus enabling the supplier to earn a price premium over competition. The basic approach is one of bundling: the product and services, when combined, form a unique package that the customer values and is willing to pay extra money for. The value-added strategy was central to the success of Becton-Dickinson’s Vacutainer@ systems division. Given the increasing competition and increasing customer sensitivity to price, the company consciously built its brand name and reputation. The wide assortment of needles and tubes, and their unique color-coded product identification schemes for the dozens of blood tests doctors perform, gave it a “quality” edge and image. The company complemented this strong product quality with an intense relationship effort at the bench level. That is, the com-
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pany’s salesforce called on and cultivated the hospital laboratory technicians who actually use the product. The combined effect of the value-added strategies has helped the company retain market leadership and profits, even in a rapidly commoditizing market. We should emphasize, however, that value-added strategies that do not provide real value to the customer are not likely to survive as the market deteriorates to commodity status. Successful marketers like BectonDickinson, by constantly enhancing the product and the delivery system, have so trained the customer to their standards and services that switching to a competitor’s product would involve substantial retraining costs. Customers’ costs of possession and usage, in addition to acquisition, should be inherent in the selling proposition. For instance, the benefit of providing just-in-time inventories may outweigh the price premium. Thus, the issue here is not merely additional services, but valueadded services in that the customer benefits are quantifiable. In short, strategies that can clearly demonstrate added savings to the customer are likely to be sustainable in the long run [l 11. Customers’ costs of switching (to a competing product) are an important part of the cost calculation in this strategy. The seller attempts to minimize the buyers’ costs of acquisition, possession, and switching. We call this value-in-use to embellish the value-added description provided earlier. The value-in-use strategy was successfully employed in GE’s replacement motors business. To improve customer service, GE helped its dealers to measure and improve fill rate (percentage of time customer orders are successfully filled from stock) and average delivery time of in-stock and nonstock items (i.e., items that distributors get from GE after receipt of customer order). In addition, it installed a stocking and ordering information system for improving customer service. Thus, contractors seeking GE motors could obtain them easily, and the slightly higher price was more than offset by the nearelimination of delay, costs of waiting, inconvenience,
and uncertainty. The system helped customers routinize their procurement functions, enabling them to concentrate on their primary business-providing maintenance and repair services. The resulting gain in revenue far outweighed the extra price of motors. The Price compressionlproduct innovation strategy. crux of this strategy is to offer customers product at dramatically lower prices. Usually such a steep drop in price is feasible only if the firm is able to design the nextgeneration product at considerably lower cost without significantly altering (or even improving) the features and performance of the old-generation product. Such a strategy is often possible in new high-technology industries, where the component parts have rapidly improving performance-to-price ratios. But even in traditional industries such an improvement is possible because of innovative manufacturing technologies that firms are often able to develop. The net effect of a price innovation strategy is usually an increase in market share and a rapid build-up of a loyal customer base. An example of the price innovation strategy was Digital Equipment Corporation’s (DEC) VAX 1 l/780 minicomputer introduction. In the late 1970s just before the proliferation of the minicomputer market and the invention of microcomputers, DEC came out with the VAX minicomputer. Instead of going headto-head with market leader IBM’s service offerings, DEC’s managers reasoned that a segment of highly knowledgeable customers would be willing to take additional responsibilities for servicing the product and developing software applications. DEC’s early insight enabled it to offer a highly desirable machine at a much lower price, and with fewer services, than IBM, but at a very attractive performance specification for the price. The company was quickly able to capture significant market share and profits as a result. Apple Company’s introduction of the Macintosh Classic in 1990 is another example of the price innovation strategy. Badgered by the incessant entry of lower-priced rival personal computers (called the DOS computers after the operating platform on which they run applications), Apple came out with the Macintosh Classic, retail priced at $1,000. Although this was a steep drop in price over the next higher level of product that the company offered (about $2,500), the Classic has many of the same ‘ ‘graphic interface’ ’ features that distinguish it from the DOS-driven computers. John Sculley, the company’s CEO, clearly identified the strategy as one of wanting to
regain some market share, which had slumped to a precipitous 10% under the onslaught of market commoditization. Though it is too early to judge the long-term success of Apple’s strategy, initial reports have been enthusiastic. While the first two strategies Market focus strategy. described are proactive responses in anticipation of market commoditization, the market focus strategy is a reactive effort to stem the tide after a firm has already been dragged down to quadrant D. The thrust of this strategy is to increase price more than the accompanying improvements in service. To be sucessful, this approach inevitably involves a careful review of a firm’s customer base to select only those customers for future relationship that value its augmented service offering . Signode Corporation, which performed a similar study in 1984 after its market share and profits had steadily slumped over the previous 10 years, found that a core group of customers highly valued its bundled offering of strapping equipment, supplies, and engineering service. In 1984, Signode was the only company that provided strapping equipment and engineering advice (on a customer’s packaging needs), in addition to supplying commodity strapping. Some customers found this service most valuable, and the savings they derived as a result far exceeded the price premium they paid on Signode’s strapping. Signode’s managers realized that the company’s uniform across-the-board marketing policies did not allow it to segment its customer base by customer benefit derived. Subsequent segmentation enabled it to offer a bundled product-service combination to its value-seeking customers and an unbundled offering to its price-seeking customers. The market focus strategy usually leads to a decrease in overall market share because of the clear focus on selected accounts, but an increase in profits because service is now provided only to those customers who value it. While the market focus strategy, like the value-added strategy, results in providing the customer with a benefit that is valued, one is a proactive approach in anticipation of the commodity trend, while the other is a reactive approach to stem the tide. With the market focus strategy, a firm’s augmented services will have to provide a true customer benefit, rather than a perception of value. Thus, firms adopting this market focus strategy usually tend to have a narrow customer base of large accounts with deep partnerships. The firm may decide either to forgo the rest
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of its customer base or handle them separately as a pricesensitive segment, as the following discussion on service innovation will reveal. Service compression (innovation) strategy. With this strategy, services judged to be uneconomical in a price competitive market are stripped away. Because significant price erosion has already occurred, this is often the only way for a company to improve profit. To some extent, this strategy complements the market focus strategy. Just as some customers find a true benefit from the augmented service offering, others would rather take a price break instead of paying for costly services accompanying the product. If a firm is either not well positioned to offer augmented services, or does not have the desire to do so, it would make much more sense for it to adopt the service compression strategy. Signode’s main competitor in the steel strapping market, “Alpha,” pursued this strategy in the face of rapid commoditization in the steel strapping industry. Alpha Company first halved its expensive sales force and switched a large proportion of its sales through less expensive “distributor” channels. Next, it cut back ancillary services, such as custom designing of packaging equipment for its customers. In fact, the company stopped making packaging equipment entirely, preferring to source it from outside. It simply produced and sold steel strapping with no frills at 5--10% discounts below Signode. This strategy was meant to ensure profit gain for the company. And, like the market focus strategy, it is likely to lead to a market share loss, as some serviceseeking customers will certainly be turned away. But this need not always be the case. Dell computers, an Austin, Texas-based personal computer manufacturer, has established an extremely successful mail order marketing program that strips away much of the unnecessary presale service functions computer dealers usually provide, such as product demonstration and installation. These services were not necessary in the 199Os, as many computer buyers were already computer literate and did not require the handholding characteristic of the market in the early 1980s. Customers, however, regard postsale servicing of hardware as essential, and manufacturers unable to provide it are judged poor on product reliability. To address this customer need, Dell established an extensive telephone support program, which is linked to on-site servicing provided by another company’s (Xerox Corporation) sales force. By splitting up postsale from presale service
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requirements and innovating its on-site service delivery, Dell reduced overall service costs, which enabled it to offer steep price discounts. As a result, Dell’s profits as well as market share have steadily increased in the last three years.
TOUGH CHOICES From an individual firm’s point-of-view, the critical issue is one of timing, especially for those operating with a differentiated product. If a firm in position A, for instance, moves too quickly toward the equity diagonal, it may miss the opportunity to reap profit gains from its superior product. At the same time, if it moves too late, it may find itself abandoned by its customers. Worse still, if these customers had felt cheated by the firm’s high prices, they may resist switching back, even after the firm makes a more equitable offering. Thus, the hrm may be left with the costly alternative of stealing away competitors’ customers. In a commodity market, such action is certain to provoke competitive reaction and a downward price spiral, and a rapid fall to quadrant D. For firms in position D, the critical issue is having the resolve and determination to bite the bullet while attempting to beat the commodity magnet. Either of the two appropriate strategies, market focus or service compression, requires the firm to carefully segment its customers by price, service, and value requirements so that the firm may focus on a selected group of customers, allowing the rest to leave the system. Such a decision is often painful because of the intricate web of relationships that may exist with some of those customers, and also because of opposition from vested parties within the company who continue to advance their cause. Moreover, the roles and responsibilities of several members of the marketing and sales team may now have to be curtailed, or even terminated. An interesting question is whether the same firm can operate at the two extremes of the equity diagonal. It can, but rarely will a small firm with limited resources be able to position itself as a value-added supplier as well as a no-frills low-cost supplier. Being all things to all people is a difficult proposition. A large firm, usually the market share leader, may attempt to do both. It may concentrate its efforts in one position, but it can certainly afford to participate in the other segment, too.
How do the leaders conduct themselves?
INDUSTRY
DYNAMICS
Even though we have presented four discrete ways for industry participants to control their own destiny and beat the commodity magnet, competitive dynamics often influence the pace of an industry’s commoditization. Market leaders can profoundly affect the maturity and commoditization of the entire industry depending on what strategy they select. A comparison of IBM’s strategies in the mainframe and PC markets provides a good example. IBM established its market leadership in mainframes in large part through its reputation for world-class service and dependability. Customers understood that they were overpaying for the core hardware product, but they continued to purchase IBM even after the entry of low-cost plug-compatible Amdahl and NEC because they trusted IBM’s service orientation. Although IBM occasionally used price reductions to compete with plugcompatible producers, overall it has maintained its high value-added strategy; a bottom-of-the-line 3090 still costs approximately $800,000, plus service and maintenance contracts. Although the mainframe market is projected to grow only at a rate of 2.6% through 1998, the market has avoided the severe price/performance erosion characterizing technical work stations, minicomputers, and personal computers. We believe a large part of this stability is due to IBM’s leadership in maintaining a valueadded approach. IBM’s PC strategy differs strikingly. In choosing to sell its PC through dealer channels and to unbundle service contracts, the company opened the door for intensive distribution and price competition. We believe IBM’s strategy encouraged the rapid commoditization of this industry. As product technology has matured, niche players Dell, Blackship, Northgate, and a host of foreign lowcost producers have found an even lower service position, ignoring the retail channel altogether and selling through direct mail. Industry magazines now advertise 286/12 MHz PCs for as low as $795, approximately one third the list price of the introductory IBM PC.
In short, the commodization of the industry is dependent on how the leading players conduct themselves. If such leaders cut price to increase share, the pace of commoditization quickens, leaving only a few niche markets for product differentiators. But if the leader creates a service-oriented climate, and resists dropping price, the decline is usually slowed.
CONCLUSIONS This article has challenged the conventional belief that product commoditization is inevitable and accompanied by deteriorating profits. While an industry might slowly and steadily slide to commodity status, not all firms operating in that industry should necessarily suffer the same fate. By adding value or seeking a low-cost position, firms may continue to show good profit margins. In fact, we argue that even after an industry reaches commodity status, firms can innovatively break the cycle and return to profitable levels. While the strategy literature recommends a choice of differentiation, focus, and cost leadership at the business unit level [ 121, we offer marketing variations at the product level. In the differentiation mode, the tactic has to change with the state of commoditization. In the early stages, a value-added strategy could serve as a defensive shield around the core product, whereas in the latter stages a firm would necessarily have to demonstrate to the customer savings from the added services that surround its core offerings. Similarly, a cost-leadership strategy in the early stages of market commoditization would have to focus on price/performance advantages and lower manufacturing costs, whereas in the latter stages an efficient deployment of marketing and sales resources is often the only option. While some firms reconcile themselves to lower sales and profits with the onset of commoditization, many wellmanaged firms have learned to beat the commodity mag-
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net. Our analysis and action strategies provide the framework for achieving such success.
5. Shapiro, Benson P., Specialties versus Commodites: The Battle for Profit Margins, Harvard Business School working paper #587-120, 1987. 6. Levitt, Theodore, view Jan. - Feb.,
Differentiation--of 83-91 (1980).
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7. Kotler, Philip, Marketing Management: Analysis, Planning and Control, 6th ed., Prentice-Hall, Englewood Cliffs, New Jersey, 1988, p. 448. 8. Porter, Michael E., Competitive 1985, pp. 119-162.
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Frank V., and Rangan, V. Kasturi, Becton Dickinson and Vacutainer Systems Division, Harvard Business School, Case 1987.
3. Corey, E. Raymond, GE Component Case #587-157, 1987. 4. Moriarty, Rowland T., “Signode Case #586-059, 1986.
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INTRODUCTION According to conventional wisdom, all markets follow a cycle of growth and maturity, then commoditization and decline. Profits are to be found in the specialty industries [ I]-electronics, scientific equipment, and aerospace-while more mature industries beset by declining demand and overcapacity cannot sustain comparable profitability. Hence, throughout the 1980s many corporations sought to divest their mature or commodity-type businesses while redeploying resources into something more promising. However, economic data and specific company examples refute this conventional wisdom. Our research indicates that there are many companies in commodity businesses that perform as well as or better than their counterparts in specialty businesses.
Address correspondence to V. Kastmi Rangan, Dept. of Marketing, Cotting Hall, Harvard Business School, Boston, MA 02163.
Industrial Marketing
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Management
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(1992)
Elsevier Science Publishing Co., Inc., 1992 655 Avenue of the Americas, New York, NY 10010
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For example, data show that some manufacturers of industrial chemicals such as Arco, Dow, and Ethyl Corporation, reported a return on sales (ROS) comparable to that of some of the better-performing specialty chemical companies such as Betz and Great Lakes. Similarly, in the steel industry, diversified steel producers such as Wheeling, Armco, and Bethlehem have from time to time performed as well as focused specialty steel producers Allegheny and Carpenter. Interestingly, even in high technology industries such as computers, low-end personal computer manufacturers such as Compaq and Apple have matched or even exceeded the performance of systems manufacturers such as Cray and Tandem (Table 1). While a relatively larger proportion of companies within the specialty group report a healthy ROS, the most successful companies in the commodity business have profitability levels comparable to the best in specialty industries. Thus, while the risks seem graver and greater in the commodity industries, the rewards for the few successful firms are very attractive. Many firms in an increasing number of commodity businesses-blood collection products, replacement motors, and steel strapping, among them-are becoming consistently profitable by knowing how and when to differentiate their products through innovation, service, and customer partnerships, how and when to offer a “no-
215 0019~8501/92/$5.00
How three companies did it. frills” product, and seek cost leadership. These companies understand that commoditization can be a selffulfilling prophecy, in which lower price, profits, service, and customer loyalty interlock in a cycle of decline. While commoditization of an industry may seem inevitable, the better-managed firms find a way to make money in the commodity cycle, as the following examples suggest. Blood collection products [2]. Becton-Dickinson and Company has maintained a commanding market share with a price premium in the market for blood collection tubes, needles, and lancets, despite low-price competition from a Japanese competitor (Terumo), Sherwood Medical, and entry attempts by Abbott Labs, Johnson & Johnson, and Corning Glass. Key success factors include stress on quality, and the direction of the company’s
selling efforts to the lab technicians who actually use the products. One B-D sales representative noted several instances when hospital administrators attempted to purchase less expensive products but were rebuffed by bench technicians, who insisted on B-D’s well-known Vacutainer and Microtainer products. Replacement motors (31. The replacement motor market for consumer durables has few entry barriers, hundreds of competitors, and distributors who have introduced private-label brands. When industry leader GE began losing market share in the mid-1980s, it sought to learn more about customer requirements and discovered that 30% of all customers left the point-of-sale without the motors they had come to buy. In response, GE increased stock levels and efficiency of order fulfillment; it also fought price erosion by providing training and
TABLE 1 Return on Sales Percentage Chemicals Specialty
Chemicals
Betz Dexter Ferro Fuller Great Lakes International Loctite Lubrizol Morton Nalco Raychem Average Industrial
Flavors
Chemical
ArCo Air Products DOW Ethyl Corp. Goodrich Hercules Lyondell Monsanto Olin Rohm and Haas Union Carbide Average
216
1988
1989
Specialty
Producers 10.8 4.8 4.6 3.1 18.5 15.3 10. I 11.7 9.3 10.7 11.4 10.0
10.8 5.1 4.6 2.1 15.5 15.9 11.9 7.7 6.9 11.2 3.4 8.6
11.0
4.7 3.0 2.5 13.5 16.3 12.1 12.8 8.2 10.9 -9.7 7.5
15.2 8.4 14.1 9.0 7.1 -3.1 7.0 7.8 4.9 6.6 6.6 1.6
11.8
7.9 8.1 9.2 5.3 -4.2 5.9 6.9 4.2 6.9 4.0 6 .O
1988
Allegheny Birmingham Carpenter Commercial Lukens Nucor Timken
1990
Armco Bethlehem Inland LTV usx Wheeling
Computers
1988
1989
11.9 20.7 11.4 8.3 9.2 8.0 11.0 6.3 7.2 6.9
7.3 II.3 8.4 7.0 6.0 4.4 10.4 3.4 7.2 -6.3
7.3 15.0 -0.4 5.6 6.2 8.2 8.8 5.1 6.5 -3.1
10.09
5.91
5.82
8.6 5.3 11.6 1.3 7.8
8.5 1.6 11.8 4.0 6.1
6.92
6.4
1990
Svstems Manufacturinq
Metals
Average
Average
1989
Steel Producers
Diversified
Producers 18.3 8.8 14.4 8.5 8.7 4.3 11.6 7.1 4.2 9. I 8.0 9.4
Steel
1990
9.0 7.2 4.4 2.2 5.5 6.7 4.2
11.3 8.8 4.6 2.2 6.5 4.6 3.6
8.6 3.1 7.6 2.0 7.1 4.9 2.7
5.6
5.9
5.1
Steel Producers
Amdahl Cray DEC Hewlett-Packard IBM Silicon Graphics Stratus Sun Tandem Unisys Average Personal
4.0 7.1 6.1 - 12.2 4.x 16.2
8.7 4.7 2.9 4.2 5.5 11.2
I .8 2.1 1.1 2.7 4.1 8.5
4.3
6.2
2.8
Comwter
Apple Commodore Compaq Dell Tandy
Average
Manufacturers 9.8 5.5 12.4 5.6 8.3
8.32
unique product information for wholesale counter personnel, and by creating a computerized cross-reference system that enabled wholesalers to determine which GE motor could be used as a replacement. Steel strapping (41. Despite fluctuating steel prices and low-cost competition from numerous competitors, Signode Industries has long maintained profitable industry leadership by taking a partnership approach to customer strapping requirements. Key elements in Signode’s strategy are the study of each industry’s strapping needs, the design of specialized equipment to meet those needs, and their service, and sales of strapping consumables. Because of this systems sales approach, the Signode salesforce maintains multiple contacts within customer organizations ranging from vice-presidents of manufacturing to plant managers and purchasing agents. In this way, Signode has become the standard-bearer of steel strapping, with its competition having to provide products that fit into Signode equipment. COMMODITY
MARKETS
Even though products are loosely characterized as commodities, in reality it is the product-market combination that one usually refers to in making such a characterization. Regardless of whether the product is corn or computers, it is the market dynamics that distinguish a commodity. Most managers recognize the early warning signs of commoditization-increasing competition, availability of “me-too” products, the customer’s reluctance to pay for features and services accompanying the product, and pressure on prices and margins in general [5]. Steadily and deliberately as the market transforms into a commodity, many buyers begin to perceive the product and its suppliers to be homogeneous, and price becomes the predominant buying criterion. Management scholars have told us, of course, that every product and every service can be differentiated. Either the core product itself can be made different or the value chain positioned differently [6, 71. Some firms, however, instead of pursuing such a differentiation strategy, might seek a low-cost position. By providing customers a low price (because of the product’s low Lost), such firms are in a unique position to addl;ss the needs of the “price-sensitive” business [S]. The essence of the above strategies can be captured in a simple twodimensional matrix, with one axis representing price and the other the service that accompanies the product (Figure 1); adapted from [9].
High
Low Sorvloo H’gh FIGURE I.
Product-Market Types
The diagonal that runs from the lower left to the upper right represents an axis of equity where a company charges a price that reflects the value of the service it provides. Quadrant C represents a core, no-frills product, not accompanied by much augmented services. Correspondingly, the price paid by the customer is relatively low. On the other hand, the quadrant B represents a product accompanied by intensive value-added services, for which the customer pays a higher price. All locations above the equity diagonal signify that the company is able to extract a higher value than the services it renders because customers perceive the firm’s product as being superior to competitive offerings or substitutes. In short, all positions above the equity diagonal reflect a product differentiation strategy. Positions below the equity diagonal usually indicate that the firm is unable to extract the full value of the services it renders with its product. In quadrant D, the company essentially gives away all its services free, perhaps in an effort to retain market share in a very competitive market environment. Thus, the cross diagonal represents an axis of power: the manufacturer is more powerful (differentiated) in quadrant A and the customer in quadrant D. Clearly, strategy A would be the most advantageous for any firm, and will likely lead to the highest profits; the strategy is based on product feature/function superiority. Strategies B and C ensure an adequate and fair return to the firm, with B emphasizing differentiation through augmented services and C emphasizing a lowcost manufacturing approach. Whether a firm should adopt B or C depends on its relative strengths and weaknesses with respect to other competitors in the field. Strat-
217
HIGH
PRICE
HIGH
FIGURE
2.
The Commoditization
egy D is rarely consciously adopted by any firm. The customer and competitive environment drag a firm reluctantly down to that quadrant (Figure 2). While a firm may be able to survive in that environment in the short run, it is guaranteed to lead to losses in the long run because no business can afford to give away services without increasing prices correspondingly. When a product is dragged down to a commodity status, the conventional marketing wisdom is to attempt to push it back up again by differentiating the physical product [lo] or adding value by innovating the product delivery system. There are several problems with this prescription, Some low-tech products may not have any further scope for product improvements. And even for
V. KASTURI RANGAN is Associate Professor at the Harvard Business School, Boston, Massachusetts. GEORGE T. BOWMAN is a project manager at GE’s Electrical Distribution and Control’s Division, PlainwIle, Connecticut.
218
Pull
high-tech products, not all firms have the resources to effect the necessary innovations. Moreover, investments in systems to add value are often costly (e.g., computerizing the order entry and inventory systems). Most of all, it is not entirely obvious that customers will place value on the improved product or service features-after all, it is a commodity market! Under such circumstances, how does a manager preserve the firm’s profit position? How does one manage to beat the commodity magnet? Differentiation
Strategies
Firms with differentiated products operating from quadrant A (see Figure 1) often cannot resist the temptation to charge high prices even as the market rapidly gravitates towards commodity status. We believe that in a true commodity market, firms would be unable to sustain position A without seriously undermining their market shares. If a firm does not offer a real customer benefit or product differentiation, customers, as they become knowledgeable, are likely to switch to competition rather than stay with a firm that is apparently overpriced for the services it offers. It is much easier to move towards the equity diagonal from quadrant A, before commoditization
There are four feasible strategies. occurs. Once the market has already moved in that direction, to rise up from quadrant D to the equity diagonal is far more difficult for reasons we will discuss later. The key is to move toward a stable position along the equity diagonal so that the manufacturer is firmly entrenched in quadrant B providing an augmented product, or in quadrant C providing a core product. In either case, both the firm and its customers are involved in a fair exchange. Although it may seem that there are unlimited directions to move toward the equilibrium axis, Figure 3 shows that a firm has only four really feasible options; any other strategy would be difficult for either a firm or its customers to adopt. A firm in position A, for instance, attempting to move towards a position along the equity diagonal, would find it impossible to pull off any movement in the AB to AC range because that would require
FIGURE 3.
the company either to drop price, increase service, or both. This is likely to cause a strain on profits in what is already a tough market. Management is hardly likely to approve a plan that voluntarily surrenders profits when other options are available. Similarly, for a firm in position D, attempting to move its customers to the equilibrium axis in the DB to DC range would involve increasing price, decreasing service, or both. This is likely to lead to a steep loss in customers and market share. In the final analysis, there are only four feasible strategies, two of which are implementable before the onset of commoditization and two after: 1. Value-added strategy: moving to the diagonal by increasing price as well as augmented services.
Beating the Commodity
Magnet
Servlca 1. Vclue - Added Strategy 2 Prlos Ccmprer~lon/lnnovatlon Strategy 3. Market Focus Strategy 4. Sorvlce Comprerslon/lnnovatlon Strakgy
219
The value-in-use strategy minimizes customers’ costs. 2. Price compression/innovation strategy: moving to the diagonal by essentially decreasing price. 3. Market focus strategy: moving to the diagonal by focusing on customers who would pay the additional price for augmented services because they value them. 4. Service compression/innovation strategy: moving to the diagonal by decreasing some prices, but stripping away several service features. This allows a firm to forestall Value-added strategy. price erosion by providing value-added services to the product. Such services neccessarily should go beyond those that a customer would normally expect (e.g., ontime order fulfillment). Installation, training, and technical support are among those often used. Effective differentiators begin by asking what the buyer values. Learning this may require formal research and should generate a comprehensive list of possible product and service offerings for each customer segment. Effective differentiators then critically evaluate the list of possible service offerings and choose those with the greatest potential to leverage customer value over cost-to-serve. In any case, the strategy’s purpose is to pamper the customer with a lot of services, thus enabling the supplier to earn a price premium over competition. The basic approach is one of bundling: the product and services, when combined, form a unique package that the customer values and is willing to pay extra money for. The value-added strategy was central to the success of Becton-Dickinson’s Vacutainer@ systems division. Given the increasing competition and increasing customer sensitivity to price, the company consciously built its brand name and reputation. The wide assortment of needles and tubes, and their unique color-coded product identification schemes for the dozens of blood tests doctors perform, gave it a “quality” edge and image. The company complemented this strong product quality with an intense relationship effort at the bench level. That is, the com-
220
pany’s salesforce called on and cultivated the hospital laboratory technicians who actually use the product. The combined effect of the value-added strategies has helped the company retain market leadership and profits, even in a rapidly commoditizing market. We should emphasize, however, that value-added strategies that do not provide real value to the customer are not likely to survive as the market deteriorates to commodity status. Successful marketers like BectonDickinson, by constantly enhancing the product and the delivery system, have so trained the customer to their standards and services that switching to a competitor’s product would involve substantial retraining costs. Customers’ costs of possession and usage, in addition to acquisition, should be inherent in the selling proposition. For instance, the benefit of providing just-in-time inventories may outweigh the price premium. Thus, the issue here is not merely additional services, but valueadded services in that the customer benefits are quantifiable. In short, strategies that can clearly demonstrate added savings to the customer are likely to be sustainable in the long run [l 11. Customers’ costs of switching (to a competing product) are an important part of the cost calculation in this strategy. The seller attempts to minimize the buyers’ costs of acquisition, possession, and switching. We call this value-in-use to embellish the value-added description provided earlier. The value-in-use strategy was successfully employed in GE’s replacement motors business. To improve customer service, GE helped its dealers to measure and improve fill rate (percentage of time customer orders are successfully filled from stock) and average delivery time of in-stock and nonstock items (i.e., items that distributors get from GE after receipt of customer order). In addition, it installed a stocking and ordering information system for improving customer service. Thus, contractors seeking GE motors could obtain them easily, and the slightly higher price was more than offset by the nearelimination of delay, costs of waiting, inconvenience,
and uncertainty. The system helped customers routinize their procurement functions, enabling them to concentrate on their primary business-providing maintenance and repair services. The resulting gain in revenue far outweighed the extra price of motors. The Price compressionlproduct innovation strategy. crux of this strategy is to offer customers product at dramatically lower prices. Usually such a steep drop in price is feasible only if the firm is able to design the nextgeneration product at considerably lower cost without significantly altering (or even improving) the features and performance of the old-generation product. Such a strategy is often possible in new high-technology industries, where the component parts have rapidly improving performance-to-price ratios. But even in traditional industries such an improvement is possible because of innovative manufacturing technologies that firms are often able to develop. The net effect of a price innovation strategy is usually an increase in market share and a rapid build-up of a loyal customer base. An example of the price innovation strategy was Digital Equipment Corporation’s (DEC) VAX 1 l/780 minicomputer introduction. In the late 1970s just before the proliferation of the minicomputer market and the invention of microcomputers, DEC came out with the VAX minicomputer. Instead of going headto-head with market leader IBM’s service offerings, DEC’s managers reasoned that a segment of highly knowledgeable customers would be willing to take additional responsibilities for servicing the product and developing software applications. DEC’s early insight enabled it to offer a highly desirable machine at a much lower price, and with fewer services, than IBM, but at a very attractive performance specification for the price. The company was quickly able to capture significant market share and profits as a result. Apple Company’s introduction of the Macintosh Classic in 1990 is another example of the price innovation strategy. Badgered by the incessant entry of lower-priced rival personal computers (called the DOS computers after the operating platform on which they run applications), Apple came out with the Macintosh Classic, retail priced at $1,000. Although this was a steep drop in price over the next higher level of product that the company offered (about $2,500), the Classic has many of the same ‘ ‘graphic interface’ ’ features that distinguish it from the DOS-driven computers. John Sculley, the company’s CEO, clearly identified the strategy as one of wanting to
regain some market share, which had slumped to a precipitous 10% under the onslaught of market commoditization. Though it is too early to judge the long-term success of Apple’s strategy, initial reports have been enthusiastic. While the first two strategies Market focus strategy. described are proactive responses in anticipation of market commoditization, the market focus strategy is a reactive effort to stem the tide after a firm has already been dragged down to quadrant D. The thrust of this strategy is to increase price more than the accompanying improvements in service. To be sucessful, this approach inevitably involves a careful review of a firm’s customer base to select only those customers for future relationship that value its augmented service offering . Signode Corporation, which performed a similar study in 1984 after its market share and profits had steadily slumped over the previous 10 years, found that a core group of customers highly valued its bundled offering of strapping equipment, supplies, and engineering service. In 1984, Signode was the only company that provided strapping equipment and engineering advice (on a customer’s packaging needs), in addition to supplying commodity strapping. Some customers found this service most valuable, and the savings they derived as a result far exceeded the price premium they paid on Signode’s strapping. Signode’s managers realized that the company’s uniform across-the-board marketing policies did not allow it to segment its customer base by customer benefit derived. Subsequent segmentation enabled it to offer a bundled product-service combination to its value-seeking customers and an unbundled offering to its price-seeking customers. The market focus strategy usually leads to a decrease in overall market share because of the clear focus on selected accounts, but an increase in profits because service is now provided only to those customers who value it. While the market focus strategy, like the value-added strategy, results in providing the customer with a benefit that is valued, one is a proactive approach in anticipation of the commodity trend, while the other is a reactive approach to stem the tide. With the market focus strategy, a firm’s augmented services will have to provide a true customer benefit, rather than a perception of value. Thus, firms adopting this market focus strategy usually tend to have a narrow customer base of large accounts with deep partnerships. The firm may decide either to forgo the rest
221
of its customer base or handle them separately as a pricesensitive segment, as the following discussion on service innovation will reveal. Service compression (innovation) strategy. With this strategy, services judged to be uneconomical in a price competitive market are stripped away. Because significant price erosion has already occurred, this is often the only way for a company to improve profit. To some extent, this strategy complements the market focus strategy. Just as some customers find a true benefit from the augmented service offering, others would rather take a price break instead of paying for costly services accompanying the product. If a firm is either not well positioned to offer augmented services, or does not have the desire to do so, it would make much more sense for it to adopt the service compression strategy. Signode’s main competitor in the steel strapping market, “Alpha,” pursued this strategy in the face of rapid commoditization in the steel strapping industry. Alpha Company first halved its expensive sales force and switched a large proportion of its sales through less expensive “distributor” channels. Next, it cut back ancillary services, such as custom designing of packaging equipment for its customers. In fact, the company stopped making packaging equipment entirely, preferring to source it from outside. It simply produced and sold steel strapping with no frills at 5--10% discounts below Signode. This strategy was meant to ensure profit gain for the company. And, like the market focus strategy, it is likely to lead to a market share loss, as some serviceseeking customers will certainly be turned away. But this need not always be the case. Dell computers, an Austin, Texas-based personal computer manufacturer, has established an extremely successful mail order marketing program that strips away much of the unnecessary presale service functions computer dealers usually provide, such as product demonstration and installation. These services were not necessary in the 199Os, as many computer buyers were already computer literate and did not require the handholding characteristic of the market in the early 1980s. Customers, however, regard postsale servicing of hardware as essential, and manufacturers unable to provide it are judged poor on product reliability. To address this customer need, Dell established an extensive telephone support program, which is linked to on-site servicing provided by another company’s (Xerox Corporation) sales force. By splitting up postsale from presale service
222
requirements and innovating its on-site service delivery, Dell reduced overall service costs, which enabled it to offer steep price discounts. As a result, Dell’s profits as well as market share have steadily increased in the last three years.
TOUGH CHOICES From an individual firm’s point-of-view, the critical issue is one of timing, especially for those operating with a differentiated product. If a firm in position A, for instance, moves too quickly toward the equity diagonal, it may miss the opportunity to reap profit gains from its superior product. At the same time, if it moves too late, it may find itself abandoned by its customers. Worse still, if these customers had felt cheated by the firm’s high prices, they may resist switching back, even after the firm makes a more equitable offering. Thus, the hrm may be left with the costly alternative of stealing away competitors’ customers. In a commodity market, such action is certain to provoke competitive reaction and a downward price spiral, and a rapid fall to quadrant D. For firms in position D, the critical issue is having the resolve and determination to bite the bullet while attempting to beat the commodity magnet. Either of the two appropriate strategies, market focus or service compression, requires the firm to carefully segment its customers by price, service, and value requirements so that the firm may focus on a selected group of customers, allowing the rest to leave the system. Such a decision is often painful because of the intricate web of relationships that may exist with some of those customers, and also because of opposition from vested parties within the company who continue to advance their cause. Moreover, the roles and responsibilities of several members of the marketing and sales team may now have to be curtailed, or even terminated. An interesting question is whether the same firm can operate at the two extremes of the equity diagonal. It can, but rarely will a small firm with limited resources be able to position itself as a value-added supplier as well as a no-frills low-cost supplier. Being all things to all people is a difficult proposition. A large firm, usually the market share leader, may attempt to do both. It may concentrate its efforts in one position, but it can certainly afford to participate in the other segment, too.
How do the leaders conduct themselves?
INDUSTRY
DYNAMICS
Even though we have presented four discrete ways for industry participants to control their own destiny and beat the commodity magnet, competitive dynamics often influence the pace of an industry’s commoditization. Market leaders can profoundly affect the maturity and commoditization of the entire industry depending on what strategy they select. A comparison of IBM’s strategies in the mainframe and PC markets provides a good example. IBM established its market leadership in mainframes in large part through its reputation for world-class service and dependability. Customers understood that they were overpaying for the core hardware product, but they continued to purchase IBM even after the entry of low-cost plug-compatible Amdahl and NEC because they trusted IBM’s service orientation. Although IBM occasionally used price reductions to compete with plugcompatible producers, overall it has maintained its high value-added strategy; a bottom-of-the-line 3090 still costs approximately $800,000, plus service and maintenance contracts. Although the mainframe market is projected to grow only at a rate of 2.6% through 1998, the market has avoided the severe price/performance erosion characterizing technical work stations, minicomputers, and personal computers. We believe a large part of this stability is due to IBM’s leadership in maintaining a valueadded approach. IBM’s PC strategy differs strikingly. In choosing to sell its PC through dealer channels and to unbundle service contracts, the company opened the door for intensive distribution and price competition. We believe IBM’s strategy encouraged the rapid commoditization of this industry. As product technology has matured, niche players Dell, Blackship, Northgate, and a host of foreign lowcost producers have found an even lower service position, ignoring the retail channel altogether and selling through direct mail. Industry magazines now advertise 286/12 MHz PCs for as low as $795, approximately one third the list price of the introductory IBM PC.
In short, the commodization of the industry is dependent on how the leading players conduct themselves. If such leaders cut price to increase share, the pace of commoditization quickens, leaving only a few niche markets for product differentiators. But if the leader creates a service-oriented climate, and resists dropping price, the decline is usually slowed.
CONCLUSIONS This article has challenged the conventional belief that product commoditization is inevitable and accompanied by deteriorating profits. While an industry might slowly and steadily slide to commodity status, not all firms operating in that industry should necessarily suffer the same fate. By adding value or seeking a low-cost position, firms may continue to show good profit margins. In fact, we argue that even after an industry reaches commodity status, firms can innovatively break the cycle and return to profitable levels. While the strategy literature recommends a choice of differentiation, focus, and cost leadership at the business unit level [ 121, we offer marketing variations at the product level. In the differentiation mode, the tactic has to change with the state of commoditization. In the early stages, a value-added strategy could serve as a defensive shield around the core product, whereas in the latter stages a firm would necessarily have to demonstrate to the customer savings from the added services that surround its core offerings. Similarly, a cost-leadership strategy in the early stages of market commoditization would have to focus on price/performance advantages and lower manufacturing costs, whereas in the latter stages an efficient deployment of marketing and sales resources is often the only option. While some firms reconcile themselves to lower sales and profits with the onset of commoditization, many wellmanaged firms have learned to beat the commodity mag-
223
net. Our analysis and action strategies provide the framework for achieving such success.
5. Shapiro, Benson P., Specialties versus Commodites: The Battle for Profit Margins, Harvard Business School working paper #587-120, 1987. 6. Levitt, Theodore, view Jan. - Feb.,
Differentiation--of 83-91 (1980).
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Harvard Business
Re-
7. Kotler, Philip, Marketing Management: Analysis, Planning and Control, 6th ed., Prentice-Hall, Englewood Cliffs, New Jersey, 1988, p. 448. 8. Porter, Michael E., Competitive 1985, pp. 119-162.
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