In this chapter we have drawn together several threads to discuss the firm’s competitive strategy in its market. A competitive strategy should include well-defined quality, pricing, and advertising policies. The firm’s competitive strategy should be oriented to the firm’s objective, which we presume to be the maximization of the EPV of profit over the firm’s time horizon. Given the present participants in the market and the strategies they appear to be following, as well as consideration of its own strengths and weaknesses vis-a-vis those of the other firms, the firm should choose a particular type of strategy to pursue.
There are three generic strategy types—namely, cost-leadership, differentiation, and focus strategies. The two focus strategies are simply more narrowly targeted ver-
sions of the broad-based cost-leadership and differentiation strategies. We called the firm following a differentiation strategy a quality leader, for simplicity of exposition and to emphasize the fact that such a firm essentially competes on a quality basis rather than a price basis.
The type of product, classified as a search, experience, or credence product depending on the cost to consumers of evaluating the quality attributes of the product, was seen to be of major importance. Search products are typically best marketed following a cost-leadership strategy, unless the firm’s product has a unique (or far superior) search attribute that rivals cannot immediately emulate, in which case a differentiation strategy is appropriate (at least temporarily). Experience and credence goods are typically best suited to a differentiation strategy, since these are less easily emulated by rivals, as well as imperfectly evaluated by consumers.
Cost leaders should “cover the bases,” “trim the fat,” and practice product proliferation in the design of their products, particularly if their products are search products. Their products should contain all the necessary quality attributes for a target price-quality point but none in excess of consumer requirements unless these can be provided at no cost. Producing several brand names at once may allow the cost leader to gain a larger share of the market and subsequently reduce costs. Quality leaders should offer a broad product line, offer their products in bundles as well as separately, strive to be first with new features (or respond quickly to emulate rivals), and strive to maintain the consistency of quality in order to build up their brand name advantages.
Pricing strategies to complement cost leadership include promotional pricing, profit-maximizing price leadership, pricing for sales maximization subject to a minimum profit constraint, and limit pricing, depending on which pricing strategy maximizes the EPV of the firm’s profit over its time horizon. Quality leaders will be more likely to consider product line pricing and bundle pricing, and they will use the short- run pricing rule that best serves the maximization of the EPV of the firm’s profit.
Advertising will tend to be informative for search products and persuasive for experience and credence products. The larger is the ratio of the advertising elasticity to the price elasticity, the larger advertising budgets will be as a proportion of sales revenue. This elasticities rule explains why we see proportionately larger advertising budgets for experience and credence goods as opposed to search goods.
Finally, we noted that a firm considering entry might best gain a foothold, or a small firm attempting to make an above-average profit might more easily do so, if it adopts a focus strategy, serving only a subset of the market with a more specialized product.