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Cost Leadership and Differentiation

by Eric Knipp  |  September 28, 2009  |  Comments Off on Cost Leadership and Differentiation

My wife and I had a wonderful weekend. We first attended a wedding, and then celebrated her birthday over dinner with friends and family last night. As usual, topics of discussion ranged widely, but a particularly intriguing subject came up – Wal-Mart’s new packaging for its private label goods:

This packaging looks, well, cheap. When I first saw it, I was reminded of the classic “private label” beverage of choice in many 80s TV shows:

The person who brought up the “new look” of Wal-Mart private label goods found this cheap look unappealing, and believed that consumers would not respond to it.

Savers First

Without going into too much detail, I’ll start by saying that I believe that consumers are retrenching, and that the mentality of “conspicuous consumption” is gone for at least a generation. Too many kids and young adults in this country and others have seen their parents get wiped out by the economic downturn. They will become savers first.

Many white label products are just as good as their name-brand counterparts. In fact, many are identical, rolling off of the same factory floor. I admit I’m no expert but I’m unable to tell a difference between Great Value pasta and more expensive brands. The same is true for many other commodity items. I buy on price first.

I Beg to Differ(entiate)

At a high level, every company must decide on one of two “generic strategies.” Either be the cheapest (“cost leadership”) or provide more perceived value to the customer (“differentiation”). The customer’s perception of value can be influenced with more features, marketing, convenience, etc. The idea is that these value drivers will provide more of a reason for customers to pay a higher price.

Wal-Mart doesn’t make any bones about it – it is a cost leader. I don’t shop at Wal-Mart because I love the piped-in audio or the ambient lighting – I shop there because it’s CHEAP, plain and simple. I don’t care what the packaging looks like. More to the point, if the packaging looks cheap, it accentuates Wal-Mart’s cost leadership position. In fact, it starts to make cost leadership itself into a potential differentiator.

Imagine this scenario: Wal-Mart could charge $1 for a box of Ziti, which sits next to other brands that cost $1.20 or more. In the past, Wal-Mart’s Great Value packaging looked more in line with that of other brands (it wasn’t cheap-looking). Now Wal-Mart’s packaging looks cheap. It is designed to make the product look even cheaper than it is. Wal-Mart could raise its prices by a nickel a box, and customers might not even notice.

For a more in-depth discussion of generic strategies, competitive advantage, and corporate strategy I strongly recommend Gordon Walker’s book. It was perfect for a strategy novice like me, and it is a regular reference on my shelf.

How does this relate to Technology?

IT product and service companies have the same strategic choice to make – cost leadership or differentiation?

Most companies choose the latter, because differentiation offers more room for innovation – marketing campaigns, cool new features and delivery models, smarter consultants, etc. Cost leadership is about relentlessly pushing down fixed and marginal costs to provide the cheapest alternative. It’s really hard and you’re never safe – there’s always someone else who’s willing to do it a little cheaper if they can figure out how.

In our recent special reports on Cloud Application Platforms, we noted differentiators again and again – but rarely suggested considering a vendor based on price. It is not in the interest of vendors to compete on price, and enterprise CIOs would do well to remember it.


Tags: strategy  wal-mart  

Eric Knipp
Managing Vice President
3 years at Gartner
15 years IT industry

Eric Knipp is a Managing Vice President in Gartner Research, where he focuses on Web and cloud application development methodologies and trends. Mr. Knipp is based in Dallas, Texas. Read Full Bio

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