Companies have only three options: attack, coexist uneasily, or become low-cost players themselves. None of them is easy, but the right framework can help you learn which strategy is most likely to work. Companies find it challenging and yet strangely reassuring to take on opponents whose strategies, strengths, and weaknesses resemble their own. Their obsession with familiar rivals, however, has blinded them to threats from disruptive, low-cost competitors. Successful price warriors, such as the German retailer Aldi, are changing the nature of competition by employing several tactics: focusing on just one or a few consumer segments, delivering the basic product or providing one benefit better than rivals do, and backing low prices with superefficient operations.
Ignoring cut-price rivals is a mistake because they eventually force companies to vacate entire market segments. Price wars are not the answer, either: Slashing prices usually lowers profits for incumbents without driving the low-cost entrants out of business. Companies take various approaches to competing against cut-price players.
Some differentiate their products—a strategy that works only in certain circumstances. Others launch low-cost businesses of their own, as many airlines did in the s—a so-called dual strategy that succeeds only if companies can generate synergies between the existing businesses and the new ventures, as the financial service providers HSBC and ING did. Without synergies, corporations are better off trying to transform themselves into low-cost players, a difficult feat that Ryanair accomplished in the s, or into solution providers. There will always be room for both low-cost and value-added players.
Yet many incumbents ignore these rivals, assuming—mistakenly—that extreme discounting will drive them out of business. How to fight low cost rivals? Kumar describes four alternative strategies: 1 Differentiate your offerings, 2 augment your traditional operations with low cost ventures, 3 switch to cross-selling products and services as integrated packages, and 4 become a low cost provider yourself. With gale-force winds of competition lashing every industry, companies must invest a lot of money, people, and time to fight archrivals. They find it tough, challenging, and yet strangely reassuring to take on familiar opponents, whose ambitions, strategies, weaknesses, and even strengths resemble their own.
However, this obsession with traditional rivals has blinded companies to the threat from disruptive, low-cost competitors. All over the world, especially in Europe and North America, organizations that have business models and technologies different from those of market leaders are mushrooming. Such companies offer products and services at prices dramatically lower than the prices established businesses charge, often by harnessing the forces of deregulation, globalization, and technological innovation.
By the early s, the first price warriors, such as Costco Wholesale, Dell, Southwest Airlines, and Wal-Mart, had gobbled up the lunches of several incumbents. These and other low-cost combatants are changing the nature of competition as executives knew it in the twentieth century. What should leaders do? My research shows that ignoring cut-price rivals is a mistake because it eventually forces companies to vacate entire market segments. When market leaders do respond, they often set off price wars, hurting themselves more than the challengers.
Companies that wake up to that fact usually change course in one of two ways. Some become more defensive and try to differentiate their products—a strategy that works only if they can meet a stringent set of conditions, which I describe later. Others take the offensive by launching low-cost businesses of their own. This so-called dual strategy succeeds only if companies can generate synergies between the existing businesses and the new ventures. If they cannot, companies are better off trying to transform themselves into solution providers or, difficult though it is, into low-cost players.
Before I analyze the various strategy options, however, I must dispel some myths about low-cost businesses. Be it in the classroom or the boardroom, executives invariably ask me the same question: Are low-cost businesses a permanent, enduring threat? They cite the experience of U. What they forget is that low-cost airlines soon reemerged. Successful price warriors stay ahead of bigger rivals by using several tactics: They focus on just one or a few consumer segments; they deliver the basic product or provide one benefit better than rivals do; and they back everyday low prices with superefficient operations to keep costs down.
The chain sells more of each product than rivals do, which enables it to negotiate lower prices and better quality with suppliers. Another efficiency stems from the fact that Aldi sets up outlets on side streets in downtown areas and in suburbs, where real estate is relatively inexpensive. Its stores display products on pallets rather than shelves in order to cut restocking time and save money. Customers bring their own shopping bags or buy them in the store.
Aldi was one of the first retailers to require customers to pay refundable deposits for grocery carts. Shoppers return the carts to designated areas, sparing employees the time and energy needed to round them up. At the same time, Aldi gets the basics right. There are several checkout lines, so wait times are short even during peak shopping hours. Its scanning machines are lightning fast, which allows clerks to deal quickly with each shopper. Aldi sells products far cheaper than rivals do. They earn smaller gross margins than traditional players do, but their business models turn those into higher operating margins.
Because of those returns and high growth rates, the market capitalizations of many upstarts are higher than those of industry leaders, despite the larger equity bases of the latter. Interestingly, low-cost companies stay ahead of market leaders because consumer behavior works in their favor. My research suggests that if a business gets a customer to buy its products or services on the basis of price, it will lose the customer only if a rival offers a lower price. Only new entrants with even lower cost structures can compete with the price warriors. As its employees grew older, those costs excluding fuel costs rose: By , they were 6.
However, JetBlue, which started flying in , spent only 4. Clearly, JetBlue poses a stiffer challenge to Southwest than the traditional airlines do. They can observe without engaging the competitor. That wait-and-watch strategy often works for companies that market products for people at the very top of the pyramid, such as wines, perfumes, and cosmetics. Bottled water is a superpremium product, and store brands serve consumers who rarely buy it. Its customers are typically people in their twenties and thirties, many of whom cannot afford the all-inclusive packages other cruise lines offer.
Although easyCruise is doing well, incumbents such as Royal Caribbean and Cunard have left this new competitor alone rather than diverting resources to attack it. That may be an exception to the rule. Most low-cost players alter customer behavior permanently, getting people to accept fewer benefits at lower prices. This packaging change is a real opportunity, but it is not without revenue and cost barriers. In some cases, especially for take-out food, the elongating of the package may not preserve heat as well, or it may fit differently into bags, or visually customers may not be used to it.
Research and development efforts could test these issues, but such efforts will not be costless.
For in-store dining, this elongation approach could work with smaller defaults. If Applebee's, for example, reduced its standard French fry portion, fewer people would presumably notice if they managed to plate the French fries in an elongated manner, thus reducing the possible revenue risk.
Servers would have to be trained to serve fries in this manner, and they may need to be careful about how this is explained to guests, if guests ever asked. For operations where value erosion is a major concern in reducing portions, the costs of changing packaging or plating may be worth absorbing.
It is a basic truth of retailing that if a particular product is given a more prominent location in a store 12 , 13 or on a menu, 14 then it is more likely to be chosen. In supermarkets, the effectiveness of this strategy accounts for millions of dollars that manufacturers spend annually in slotting fees.
The same principle applies in food service settings, although few studies have demonstrated the magnitude of the effect. In one large study, however, at a hospital cafeteria, Thorndike et al. The same idea should work for portion sizes. If smaller portioned dishes get more prominent placement on a menu, or if smaller portions get more prominent placement within a cafeteria, they will be more likely to be chosen.
Value erosion can be reduced if larger portions are still visible and available to consumers who really do want them. So there is some opportunity here. The cost lies mainly in the opportunity cost of placing less-valued items on prime menu or shelf real estate. Hiding products that consumers want will involve some risk. This risk can most easily be managed in workplace and school cafeterias. Another way to reduce the default sizes of less-healthy foods is to serve them with additional portions of complementary healthy items. For example, some restaurants offer customers French fries, salad, or half-and-half.
Half-and-half could be made the new default at places like Applebee's. McDonald's has experimented with something similar in its Happy Meals, replacing its traditional small French fries with a small serving of French fries calories plus apple slices. The advantages of this approach are that it allows customers to satisfy their craving for French fries while reducing energy intake, and not undermining value perception because the smaller portion of fries is made up with something else. Still, risks remain. If consumers do not like the virtue item salad or apples they may throw it out, not only leading to unnecessary waste, but also leading the customer to perceive a value loss.
Even if they eat the virtue item, many consumers may not enjoy it very much, at least compared to the French fries, leading to reduced satisfaction. So the opportunity is biggest with chains that have a large eager segment. The approach will not work for all menu categories. For example, it will not work straightforwardly for things that cannot be mixed or put on the same plate, like beverages. Still, beverages can be served in separate glasses or bottles. In addition, some blends may work better than previously thought.
If something like that became the default, higher-calorie beef portions would effectively be reduced. The main cost barrier in most of these mixed offerings is that in most cases it adds to product and operational costs. Generally, the operator will need more of the healthier items, which tend to be more expensive although perhaps not in the case of beef versus mushrooms , and adding two items to a side dish instead of one involves operational costs in cooking, serving and communicating. Still this is one of the best opportunities because it limits the major threat of value erosion.
And operational innovation can reduce the cost of most complicated processes. The question is will any operators invest the research and development dollars to make this happen?
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There are still some places where small sizes are not really available, so operators do not really know if consumers would order them. Even if the small size is offered at only a modestly lower price, many consumers may still choose it. Some firms may reason that they will just have a large size and if consumers want less they will just eat less. That is probably not true. When more food is put on the plate, people eat more. Vermeer this volume describes two studies in which adding smaller portions to a menu did result in a substantial number of consumers choosing the small portion.
She does not report on the effects on restaurant revenue. Even if the small size was not priced much lower, it would probably still have a negative effect on the bottom line. So the only way that the addition of smaller sizes can help both profit and health is if the consumer does make an additional spend, and the additional spend is on a low-calorie item. Even if the addition of the smaller sizes does lead to additional spends at the restaurant, it does still involve the addition of another product, which adds operational complexity.
On the other hand, a chain may decide that the presence of smaller sizes is good for revenue because it helps the brand and consumers will be happy that they have more opportunities to manage their portions. This could make the operational complexity worth the trouble.
Some chains have built their entire value proposition around smaller portions. Seasons 52, mentioned earlier, only offers items under calories. In addition to the health benefits of smaller portions, this tapas style of eating allows the consumer to choose more items, perhaps increasing the variety. The risk there, from the health point of view, is that increased variety tends to increase total consumption. Do customers actually eat less there than they would at other chains with different menu structures?
But that of course is what makes it a business decision, not a public health decision. The hope, from a public health point of view, is that the Seasons 52 concept will trickle down to a broader customer base. This policy became an icon of the obesity problem, but it also showed just how effective point-of-sale POS offers can be. Schwartz et al. They conducted a series of experiments at a Chinese food themed quick serve location. On test days, the servers had been trained to ask all customers if they would like to save calories by taking a smaller portion of their highly caloric side dishes of fried rice, steamed rice and lo mein.
The authors argue that many customers at the chain knew that they typically ate too much cf.
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Pew Research Center 5 and were open to the opportunity to put less food on their plate if they were asked at the right time. These eager customers will make a healthier choice if their slow brains are triggered at the right moment. This approach is not one that most chains will want to take on, since it requires effort to train all of the staff to make the offer, the savings on food may be quite modest at least in this case , and it is always possible that some customers will object.
However, Schwartz et al. Currently, in many casual and quick serve restaurants, if a customer asks for a smaller-than-usual portion, the server simply does not know what to do. Calorie labels have received the most attention, and have been most widely implemented in food service operations. Their success has been mixed. While some studies show that they have had a modest effect on purchase behavior, other studies show null results. Either way, they are set to take effect nationwide following a mandate in the affordable care act.
Even if they do not affect consumer behavior, there is evidence that they have affected firm behavior.
Until consumers become very good at understanding, adding and keeping track of calories, their use as the main source of information about size is unlikely. Consumers are still likely to make inferences from the size labels given to foods and beverages. Just and Wansink 19 showed a version of this effect when they served two groups of consumers identical two cup portions of pasta.
Even industry self-regulation may be difficult. What is right sized for one person will be different for another. Still, if meal sizes did start being served in round and somewhat standard calorie amounts, something like or calories could become widely understood as the right meal size. With a specific calorie target in mind for meals, consumers may start to make the right tradeoffs to meet that target. While the ban on oversized portions in NYC is in limbo, there would be other ways to address supersizes. For example, Thorndike et al. Labeling very large portions with a red label may serve as a reminder to customers that they are probably eating too much.
This could work in workplaces but would be a difficult thing to mandate in restaurants, and few would likely take it up. It is not unusual to see very large unit price differences between small and large items on a menu. If the small had the same unit price as the large, many more people would order it. Some have suggested that linear pricing, whereby unit price must be constant across sizes, be mandated. This is an interesting possibility, but it is important to note that it would almost certainly have to be mandated.
Dobson and Gerstner 21 showed that non-linear pricing around sizing is very much in the firm's interest, because it costs so relatively little to increase portions. In fact, they argue that small sizes are priced high to discourage price sensitive consumers from buying them, while the relatively low prices of very large portions entice consumers to buy them, and to over-consume as a result. Customers are so accustomed to these pricing strategies that in a competitive environment it will be very difficult for an individual firm to adopt linear pricing.
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The slow brain is more easily triggered on some days than on others. Dai et al. These days represent breaking points in life and create the experience of a fresh start. The fresh-start experience may trigger the slow brain—on these breakpoint days, Dai et al. Consumers might also be more open to small-portion messaging on such days.
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