Porter (1980) classifies three generic enterprise strategies: overall cost leadership, differentiation, and focus. We will substitute the term segmentation for focus, since focus is used to mean something different in operations management. Our interest will be particularly on the role of the operations function in each of these generic strategies. The three strategies are
1. Overall cost leadership (low cost and high product availability, usually off the shelf)
2. Differentiation (high quality, innovative in product design, and flexible)
3. Market segmentation (in terms of meeting the special needs of a particular market, providing lower costs for that market segment, or both).
Overall cost leadership and differentiation are industry wide strategies, but market segmentation, by definition applies to only a portion of the market. Only one of these strategies is usually employed by a particular business unit; however, different strategies can and should be employed by different business units within the same company.
Overall Cost Leadership:
This strategy requires the concentration of the operations system on all the elements of system design that make low cost possible: in line operations; fabrication and assembly lines; equipment dedicated to a restricted mix of products; capital intensity in the form of specialized equipment, mechanization, automation and robotics all especially designed for the specific operations problem; and commonly specialized and narrowly defined job designs.
Usually, the cost leadership strategy also involves production to stock since part of the strategy is to make the product available on demand or off the shelf. Where economies of scale are possible, they are used in this strategy, as are the benefits that come from cumulative organizational learning and the experience curve. Products and services are designed for production. The organizational structure places emphasis on cost control and on getting product out the door so as to minimize lost sales from not having the product available. Specialization also makes cost minimization possible in other functional areas, such as R&D, service, sales, advertising personnel, and so on.
Low cost and product availability drives the entire strategy and, indeed, the entire organization. Quality, service and flexibility are not ignored; however they are not the emphasis. Nevertheless, it is difficult to have it both ways by specializing facilities, labor, and the entire organization, a trade off is made. A single purpose facility is not very flexible; it cannot be easily retooled to make a different product. Quality controls are built into the line operations, but it is not feasible to give the same attention to quality in manufacturing a Honda as is given in building a Rolls Royce. The entire momentum of the design of the system and the organization is given to minimizing costs and maintaining the flow of products.
The low cost producer in an industry will earn higher than average returns, giving it a defense against competitors. The low cost position provides excellent entry barriers in terms of economies of scale and cost advantages. Even product substitutes have a more difficult task in competing because of low cost and availability. The strategy also provides bargaining power in relation to the potential vertical integration of both suppliers and buyers for the efficient producer in comparison to less efficient producers. Many prominent manufacturers have built their competitive strategies around low cost and high availability Anheuser Busch with beer; Eastman Kodak with photographic film and paper; Texas Instruments with silicon chips, hand calculators, and digital watches and many others.
There are risks in following the cost leadership strategy. The production system becomes inflexible. If consumer preferences take a sharp or if technological changes make product designs, plant, and equipment obsolete, the enterprise may have to reinvest huge sums in order to recover. One of the most dramatic examples of the risks of inflexibility in the low cost strategy was Henry Ford’s standardized Model T. Beginning in 1908, Henry Ford embarked on a conscious policy of price and cost reduction the reduced the price from more than $5000 to nearly $3000 in 1910 (in 1958 constant dollars). From that point, the price declined 15 percent for each doubling of cumulative output during the Model T era, culminating in a 1926 price of about $750. Market share increased from 10.7 percent in 1910 to a peak of 55.4 percent in 1921. However, beginning in the middle 1920s, General Motors successfully focused the competitive arena on product innovation. The Ford Company was so completely organized to produce a low cost standardized product that the effects of the change in consumer preferences nearly sunk the enterprise. Although the company’s strategy had been a roaring success during the long period of stable consumer behavior, it had become a business dinosaur and could not adapt easily to the realities of the changed environment.