Those criteria are also becoming the basis on which companies segment markets, target and position their brands, and develop strategic market positions as sources of competitive advantage. The strategic objective for the downstream business, therefore, is to influence how consumers perceive the relative importance of various purchase criteria and to introduce new, favorable criteria.
Must Competitive Advantage Erode over Time?The traditional upstream view is that as rival companies catch up, competitive advantage erodes. But for companies competing downstream, advantage grows over time or with the number of customers served—in other words, it is accumulative.
For example, you won’t find Facebook’s competitive advantage locked up somewhere in its sparkling offices in Menlo Park, or even roaming free on the premises. The employees are smart and very productive, but they’re not the key to the company’s success. Rather, it’s the one billion people who have accounts on the website that represent the most valuable downstream asset. For Facebook, it’s all about network effects: People who want to connect want to be where everybody else is hanging out. Facebook does everything possible to keep its position as the preeminent village square on the internet: The data that users post on Facebook is not portable to any other site; the time lines, events, games, and apps all create stickiness. The more users stay on Facebook, the more likely their friends are to stay.
Network effects constitute a classic downstream competitive advantage: They reside in the marketplace, they are distributed (you can’t point to them, paint them, or lock them up), and they are hard to replicate. Brands, too, carry network effects. BMW and Mercedes advertise on television and other mass media, even though fewer than 10% of viewers may be in their target market, because the more people are awed by these brands, the more those in the target market are willing to pay for them.
Indeed, the very nature of network effects is that they are accumulative. But other downstream advantages—particularly those related to amassing and deploying data—are accumulative as well. Consider Orica, an explosives company mired in a commodity business in Australia. The primary concern of its customers—quarries that blast rock for use in landscaping and construction—was to meet well-defined specifications while minimizing costs. Because the products on the market were virtually indistinguishable, the quarries saw no reason to pay a premium for Orica’s or any other company’s explosives. At the same time, Orica knew that blasting rock is not as straightforward as it may appear. Many factors affect the performance of a blast: the profile of the rock face; the location, depth, and diameter of the bored holes; even the weather. Mess up the complex formula for laying the explosives often enough and your profits crumble into dust and get blown away by the wind.
Orica realized that customers harbored much unspoken anxiety about handling the explosives without accidents, not to mention transporting and storing them safely. If it could systematically reduce even some of those costs and risks, it would be providing significant new value for the quarries—far in excess of any price reduction that competitors could offer. So Orica’s engineers set to work gathering data on hundreds of blasts across a wide range of quarries and found surprising patterns that led them to understand the factors that determine blast outcomes. Using empirical models and experimentation, Orica developed strategies and procedures that greatly reduced the uncertainty that, until then, had gone hand in hand with blasting rock. It could now predict and control the size of the rock that would result from a blast and could offer customers something its competitors could not: guaranteed outcomes within specified tolerances for blasts. Quarries soon shifted to Orica, despite lower prices from competitors. Not only had the company developed an edge over rivals, but the advantage was accumulative: As Orica amassed more data, it further improved the accuracy of its blast predictions and increased its advantage relative to its competitors.
Can You Choose Your Competitors?Conventional wisdom holds that firms are largely stuck with the competitors they have or that emerge independent of their efforts. But when advantage moves downstream, three critical decisions can determine, or at least influence, whom you play against: how you position your offering in the mind of the customer, how you place yourself vis-à-vis your competitive set within the distribution channel, and your pricing.
If you’re in the beverage business and you’ve developed a rehydrating drink, you have a choice of how to position it: as a convalescence drink for digestive ailments, as a half-time drink for athletes, or as a hangover reliever, for example. In each instance, the customer perceives the benefits differently, and is likely to compare the product to a different set of competing products.
In choosing how to position products, managers have tended to pay attention to the size and growth of the market and overlook the intensity and identity of the competition. Downstream, you can actively place yourself within a competitive set or away from it. Brita filters compete against other filters when they are placed in the kitchen appliances section at big-box stores, for instance. But Brita changes both its comparison set and the economics of the consumer decision when the filters are placed in the bottled-water aisle at supermarkets. Here Brita filters have a competitive cost advantage, delivering several more gallons of clean water per dollar than bottled water. Of course, not all buyers of bottled water are buying solely for the criterion of cost (some are buying for portability, for example), but for those who are, Brita is an attractive choice.
[size=2.125]Brita changes its competitive set when it is placed in the bottled water aisle at the supermarket instead of with kitchen appliances at a big-box store.
If you would prefer not to be compared with any other brands, then you’re better off marketing, distributing, and packaging your products in ways that avoid familiar cues to customers. A trip to the grocery store or a glance at online catalogs shows how similar many products’ packaging is: Most yogurts are sold in exactly the same pack size and format, and their communications are often so indistinguishable that consumers cannot recall the brand after having seen an advertisement. The lack of differentiation encourages competition, when many of these brands would be better off avoiding it.
Finally, pricing has a strong influence on whom you compete with. When Infiniti launched its comeback car, the G35, in 2002, it was hailed as a BMW-beater. The car, loosely based on the legendary Nissan Skyline, rivaled the BMW 5 series in terms of interior space and engine power, but it would have struggled to compete for a couple of reasons: The 5 series is aimed at experienced BMW buyers—or at least buyers who have previously owned a luxury automobile. Also, the 5 series is very expensive, and when customers are shelling out that kind of money, they’re not looking for value—they’re looking for an established brand and value proposition. Infiniti chose to position the G35 against the BMW 3 series instead. The right pricing accomplished that objective: Many consumers, especially car buyers, use price as a key criterion in forming their consideration set.
Although choosing to avoid competitors may minimize head-on competition, there is no guarantee that you won’t still have to contend with competitors you didn’t want or ask for. But if you’ve done your homework and established dominance on your criterion of purchase, me-too competitors will be putting themselves in an unfavorable position if they choose to follow you.
Surprisingly, you have more say in determining who your competitors are if you’re a later entrant in a marketplace than if you break new ground. A later entrant can choose to compete directly with an incumbent or to differentiate, whereas an incumbent is subject to the decisions of later entrants. But an incumbent is not helpless: It can stay ahead of competitors by continually redefining the market and introducing new criteria of purchase.
Does Innovation Always Mean Better Products or Technology?Like prime real estate in a crowded city, customers’ mindspace is increasingly scarce and valuable as brands proliferate in every category and existing ones are sliced wafer-thin. Companies compete ferociously against one another not to prove superiority but to establish uniqueness. Volvo does not claim to make a better car than BMW does, nor the other way around—just a different one. In customers’ minds, Volvo is associated with safety, while BMW emphasizes the joy and excitement of driving. Because the two automakers emphasize different criteria of purchase, they appeal to very different customers. In a global study aimed at finding out what “excitement” meant to customers, respondents were asked to “describe the most exciting day of your life.” When the results were tallied, it turned out that BMW owners described exciting things they had done—white-water rafting in Colorado, attending a Rolling Stones concert. In contrast, the most exciting day by far in the lives of Volvo owners was the birth of their first child. Brands compete by convincing customers of the relative importance of their criterion of purchase.
That is not to say that the upstream activities associated with building safer or faster cars don’t matter. The product remains an essential ingredient in demonstrating the brand’s positioning on its chosen criterion. The product and its features turn the abstract, intangible promises of the brand into real benefits. Volvo’s product innovations really do make its cars safer, reinforcing a lasting brand association with its customers. But the product itself does not occupy a more privileged position in the marketing mix than, say, the right communication or distribution.
Where Else Does Innovation Reside?The persistent belief that innovation is primarily about building better products and technologies leads managers to an overreliance on upstream activities and tools. But downstream reasoning suggests that managers should focus on marketplace activities and tools. Competitive battles are won by offering innovations that reduce customers’ costs and risks over the entire purchase, consumption, and disposal cycle.
Consider the case of Hyundai in the depths of the Great Recession of 2008–2009. As the economy faltered, American job prospects looked painfully uncertain, and consumers delayed purchases of durable goods. Automobile sales crashed through the floor. GM’s and Chrysler’s long-term financial problems resurfaced with a vengeance, and both companies sought government bailouts. Hyundai, which primarily targeted lower-income customers, was particularly hard hit. The company’s U.S. sales dropped 37%.
As overall demand plunged, the immediate response of most car companies was to slash prices and roll out discounts in the form of cash-back offers and other dealer incentives. Hyundai considered these options, but it eventually took a different approach: It asked potential customers, “Why are you not buying?” The resounding answer was “The risk of buying during the financial crisis—when I could lose my job at any time—is simply too high.”
So instead of offering a price reduction, Hyundai devised a risk-reduction guarantee to target that concern directly: “If you lose your job or income within a year of buying the car, you can return it with no penalty to your credit rating.” Called the Hyundai Assurance, the guarantee acted like a put option, addressing the buyer’s primary reason for holding back on the purchase of a new vehicle. The program was launched in January 2009. Hyundai sales that month nearly doubled, while the industry’s sales declined 37%, the biggest January drop since 1963. Hyundai sold more vehicles that month than Chrysler, which had four times as many dealerships. Competitors could easily have matched Hyundai’s guarantee—yet they didn’t. They continued to slash prices and offer cash incentives. The Hyundai Assurance was a downstream innovation. Hyundai didn’t innovate to sell better cars—it innovated by selling cars better.
Reducing costs and risks for customers is central to any downstream tilt—indeed, it is the primary means of creating downstream value. Not surprisingly, many of the cases we’ve examined illustrate this: Facebook reduces its customers’ costs of interacting with friends; Orica reduces quarries’ blast risks; Coca-Cola reduces the customer’s costs of finding a cool, refreshing drink the moment she’s thirsty.
Is the Pace of Innovation Set in the R&D Lab?The product innovation treadmill is an upstream imperative. In fact, technology innovations are sometimes thought to be the greatest threat to competitive advantage. But such changes in the market are relevant only if they upend downstream competitive advantage. You don’t need to sweat every product launch and every new feature introduction by a competitor—just those that attempt to wrest control of the customers’ criteria of purchase. After all, it was not the advent of digital photography that ultimately doomed Kodak—it was the company’s failure to steer consumers’ shifting purchase criteria.
By contrast, after more than a century of shaving technology innovation, Gillette still controls when the market moves on to the next generation of razor and blade. Even though for the past three decades competitors have known that the next-generation product from Gillette will carry one additional cutting edge on the blade and some added swivel or vibration to the razor, they’ve never preempted that third, fourth, or fifth blade. Why? Because they have little to gain from preemption. Gillette owns the customers’ criterion—and trust—so the additional blade becomes credible and viable only when Gillette decides to introduce it with a billion-dollar launch campaign. Four blades are better than three, but only if Gillette says so. In other words, technological improvements don’t drive the pace of change in the industry—marketing clout does.
High failure rates for new products suggest that companies are continuing to invest heavily in product innovation but are unable to move customers’ purchase criteria.
