122 Part 2: Strategic Actions: Strategy Formulation
A second risk is that too much focus by the cost leader on cost reductions may occur
at the expense of trying to understand customers’ perceptions of “competitive levels of
differentiation.” Walmart, for example, has been criticized for having too few salespeople
available to help customers and too few individuals at checkout registers. These com-
plaints suggest that there might be a discrepancy between how Walmart’s customers
define “minimal acceptable levels of service” and the firm’s attempts to drive its costs
increasingly lower.
Imitation is a final risk of the cost leadership strategy. Using their own core compe-
tencies, competitors sometimes learn how to successfully imitate the cost leader’s strategy.
When this happens, the cost leader must increase the value its good or service provides
to customers. Commonly, value is increased by selling the current product at an even
lower price or by adding differentiated features that create value for customers while
maintaining price.4-3b Differentiation Strategy
The differentiation strategy is an integrated set of actions taken to produce goods or
services (at an acceptable cost) that customers perceive as being different in ways that are
important to them.^69 While cost leaders serve a typical customer in an industry, differen-
tiators target customers for whom value is created by the manner in which the firm’s
products differ from those produced and marketed by competitors. Product innovation,
which is “the result of bringing to life a new way to solve the customer’s problem—through
a new product or service development—that benefits both the customer and the sponsor-
ing company,”^70 is critical to successful use of the differentiation strategy.^71
Firms must be able to produce differentiated products at competitive costs to reduce
upward pressure on the price that customers pay. When a product’s differentiated features
are produced at noncompetitive costs, the price for the product may exceed what the
firm’s target customers are willing to pay. If the firm has a thorough understanding of
what its target customers value, the relative importance they attach to the satisfaction of
different needs and for what they are willing to pay a premium, the differentiation strat-
egy can be effective in helping it earn above-average returns. Of course, to achieve these
returns, the firm must apply its knowledge capital (knowledge held by its employees and
managers) to provide customers with a differentiated product that provides them with
superior value.^72
Through the differentiation strategy, the firm produces distinctive products for cus-
tomers who value differentiated features more than they value low cost. For example,
superior product reliability, durability and high-performance sound systems are among
the differentiated features of Toyota Motor Corporation’s Lexus products. However,
Lexus offers its vehicles to customers at a competitive purchase price relative to other
luxury automobiles. As with Lexus products, a product’s unique attributes, rather than its
purchase price, provide the value for which customers are willing to pay.
To maintain success with the differentiation strategy results, the firm must consistently
upgrade differentiated features that customers value and/or create new valuable features
(i.e., innovate) without significant cost increases.^73 This approach requires firms to con-
stantly change their product lines.^74 These firms may also offer a portfolio of products that
complement each other, thereby enriching the differentiation for the customer and perhaps
satisfying a portfolio of consumer needs.^75 Because a differentiated product satisfies cus-
tomers’ unique needs, firms following the differentiation strategy are able to charge pre-
mium prices. The ability to sell a good or service at a price that substantially exceeds the cost
of creating its differentiated features allows the firm to outperform rivals and earn above-
average returns. Rather than costs, a firm using the differentiation strategy primarily concen-
trates on investing in and developing features that differentiate a product in ways that createThe differentiation
strategy is an integrated
set of actions taken to
produce goods or services
(at an acceptable cost) that
customers perceive as being
different in ways that are
important to them.