Page 149 - DCOM506_DMGT502_STRATEGIC_MANAGEMENT

Unit 8: Business Level Strategies

as costs fall. The rate of travel down the cost experience curve is a crucial aspect of staying Notes
ahead of the competition in an undifferentiated market and underlines the importance of
market share if high volumes are not sold, the cost advantage is lost. Examples of products
and services that are produced much more cheaply now are semiconductors, watches, cars,
and travel reservations (on the Internet).

Having a low cost position also gives a company a defence against rivals. Its lower costs allow
it to continue to earn profits during times of heavy competition. Its high market share means
that it will have high bargaining power relative to its suppliers. Its low price also serves as a
barrier to entry because few new entrants will be able to match the leader’s cost advantage. As
a result, cost leaders are likely to earn above average profits on investment.
Companies that want to be successful by following a cost leadership strategy must maintain
constant efforts aimed at lowering their costs (relative to competitor’s costs) and creating value
for customers. Cost leadership requires:
1. Aggressive construction of efficient scale facilities
2. Vigorous pursuit of cost reductions from experience

3. Tight cost and overhead control
4. Avoidance of marginal customer accounts
5. Cost minimization in all activities in the firm’s value chain, such as R&D, services, sales
force, advertising etc.
Implementing and maintaining a cost leadership strategy means that a company must consider
its value chain of primary and secondary activities and effectively link those activities with
critical focus on efficiency and cost reduction. For example, McDonald’s Restaurants achieved
low costs through standardised products, centralised buying of supplies for a whole country and
so on.

How Low-cost Leadership Delivers Above-average Profits?

The profit advantage gained from low-cost leadership derives from the assertion that low-cost
leaders should be able to sell their products in the market place at around the average price of
the market–see line A-A in Figure 8.2. If such products are not perceived as comparable or their
performance is not acceptable to buyers, a cost leader will be forced to discount prices below
competition in order to gain sales.
Figure 8.2

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