Practical problems to get that competitive edge

Practical problems to get that competitive edge
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First Published: Thu, Sep 10 2009. 10 46 PM IST

Updated: Thu, Sep 10 2009. 10 46 PM IST
Ever since Michael Porter wrote his well-known book on competitive advantage about 30 years ago, it has become an essential condition of business that one can not succeed without a competitive differentiator.
Although, the general logic in Porter’s book is flawless, in practice many chief executive officers (CEOs) are caught up in situations of having to deliver with relatively few real differentiators. In the classic Porterian model, companies win because they have chunky competitive differentiators such as access to natural resources, monopolistic licence rights, famous brands, market know-how, etc.
While these are important differentiators, the vast majority of organizations do not have the luxury of acquiring such differentiators. Instead, in most real life situations major investment decisions are driven by a belief that there is room for yet another player in a rapidly growing market or by a fear that being absent would somehow imply missing the bus.
The rush for new investment has been reinforced by cheaper technology and capital, which has made it possible for almost all companies to hope that they can enter any market with the possibility of leadership.
Tackling rivals: Michael Porter says the essence of many strategies can be to perform activities differently. Jonathan Fickies / Bloomberg
Such a simplistic approach to competition, based only on market potential, ignores some subtleties. In economies such as India, which have been on a high growth path of at least 6% a year for many years and where there are constraints in even relatively commonplace resources, it is possible for a first mover to have vastly advantageous economies even though a second mover might feel it has a large market to tap into.
Boards can sometimes miss this fact. Therefore, companies separated even by three-four years can be faced with very different economics. In making investment decisions, when faced with apparently similar competitors separated by a few years, boards will need to examine whether the differential costs of acquisition and the maturity of their organization to use these resources are similar to their perceived rivals.
A great example of how even a few years can make a difference is seen when organizations are able to hire the best talent earlier than others. Given the fact that loyal employees will generally not leave organizations en masse even when there are attractive options elsewhere, companies may be able to maintain a relatively high-skill workforce at relatively low cost, merely because of having hired earlier in the economic cycle.
A good example of this syndrome is seen in financial services, where firms that hired employees in the last three years have had to lure them away at substantially higher salaries from that paid by those firms that started operations at the start of the decade. The differential cost base of hiring at different points in the economic cycle has materially altered the economics of the new firms.
In a similar vein, some companies tend to have acquired intangible physical assets at periods when these economic assets were cheaply valued. Due to their intangible nature, the ownership of these assets may not be always explicitly visible as differentiators.
While the value of real property is well recognized as a competitive differentiator, new entrants overlook more subtle resources such as the evolution of research and development and the presence of reliable retail distribution channels. Again, companies with essentially similar consumer propositions can face very different business cases owing to a delayed entry by a few years.
Sometimes boards, having delayed a market entry, do recognize these economic distinctions but still believe that they will be able to make a difference by exploiting an economy of scale. Exploiting scale economies means companies often have to make investments all at one go. Even in making large-ticket, follow-on investments, the first mover can stand to gain if the business is complex and has many business linkages.
If a business has considerable complexity, there is value in getting the various linkages between business elements in place and only then ramping up. It is then easier to exploit scale economies. This distinction has been seen in telecom where one could argue that a company with 50,000 customers and a company with one million customers are at fundamentally different points in the learning spectrum.
If the boards of both companies are faced with a choice of making an investment, the likelihood that the company with one million customers will spend this money more efficiently is greater owing to the learning that it has already in the business.
The smaller company, although capable of exploiting the scale economy just as well, will find that it has not thought through all the implications of doing so.
Teams that have worked with each other for a few years are also likely to exploit an investment better. The same investment placed before teams of similar competence but who have worked together for different periods of time can deliver dramatically different results.
In the Tata group, managers have found that accumulated knowledge of several years in our older companies translates into best practices that can sometimes take years to transplant in our newer firms.
Both organizational knowledge and teamwork represent what is often called an economy of learning. Various management gurus have now recognized that years of knowing how to run an industry is a barrier to entry to a new challenger. For many years, Japanese companies dominated flat screen manufacturing because their first mover position had allowed their employees to do things better.
Porter recognized the importance of knowledge and teamwork as an advantage. Writing in the Harvard Business Review in 1996, a decade after he wrote the Competitive Advantage, he wrote that the essence of many strategies can be to perform activities differently from what rivals do. If a board feels its rivals can perform some activities better than their company, they may want to rethink their investment.
Benchmarking oneself against a company at a different point in the economic life cycle can therefore lead to mistaken investment decisions. In making an investment decision, we need to look beyond discounted cash flows and market potential and see if competitors have first mover advantages. Late entrants will often find that deep pockets alone cannot overcome these hurdles. A consequence of not doing so is that a large number of investments which prima facie ought to have paid off, do not do so. Closer scrutiny of the economics and organizational maturity of competitors will assume a much higher success rate and avoid wasteful investment.
Govind Sankaranarayanan is CFO, Tata Capital Ltd. He writes every other Friday on issues related to governance. The views expressed here are personal. Write to him at ruleofthumb@livemint.com
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First Published: Thu, Sep 10 2009. 10 46 PM IST