Competitiveness of the company in terms of prices and costs

It happens that a new company with very low prices appears on the market or a competitor sharply reduces the prices of its goods. This does not necessarily mean a policy of dumping (selling large quantities of goods at below-market prices) to capture market share or achieve a certain volume of sales; maybe it just has low costs. In such a situation, one of the most significant indicators of the company’s strategic position is revealed – its ability to compete on prices and costs. This capability is particularly important in the consumer goods market, where products are homogeneous and price competition plays a crucial role; in such a market, low-cost companies are leading. But even in industries where goods are significantly differentiated, and competition is not only on price, companies should try to keep costs at the level of competitors or lower, and guarantee their customers, that in each case of an increase in costs and an increase in price, they receive an additional benefit.

Competing companies constantly compare their costs by conducting internal cost and cost analysis. The method of strategic cost analysis is designed to compare the costs of the main competitors and determine the competitive position of the company in terms of costs relative to competitors.

All standard activities – development, production, sales, delivery, after-sales service – are associated with costs that determine the total structure of the company’s internal costs. These costs, depending on the volume, weaken or strengthen the company’s position relative to competitors. The task of strategic cost analysis is precisely to identify activities in which costs are higher or lower than the industry average, by the method of step-by-step comparison of the company’s costs with similar indicators of competitors and to determine the types of activities in which the costs provide the company with an advantage or loss compared to competitors. The relative position of the company in terms of costs depends on the ratio of the total costs of it and competitors.

Strategic cost analysis is closely related to the concept of a value chain that includes all activities, functions and processes from development to delivery of goods or services to the final consumer [42 p.2, 3]. The creation of consumer value of goods begins with the purchase of raw materials and continues in the process of production of parts and components, assembly and release of products, wholesale and retail sale to end users, after-sales service. Gross profit is also included in the value chain, since a premium to the amount of costs arising in the course of value creation will be a natural component of the price paid by consumers – without exceeding the value created over the amount of costs, the business is impossible. The links are interconnected and their costs are interdependent by other activities.

The company’s value chain reflects the evolution of its business and internal operations, the strategy and methods of its implementation, the economic principles of activity [42 p.36]. Since these components are different for different companies, the value chains of competing companies differ – this fact greatly complicates the comparative assessment of the costs of competing companies. For example, the costs of an industrial company that independently produces all the components for its products is higher than that of a company that purchases components and performs only the assembly of finished products.

It is logical to assume that a company that pursues a policy of low prices and low costs will differ from the value chain of a company offering prestigious high-quality products with a large number of additional consumer properties. At those levels of value where the first company can save, the second is forced to incur additional costs in order to offer customers more additional consumer properties and higher quality.

To accurately assess a company’s competitiveness in the end-user market, it is necessary to take into account the value chains of suppliers and sales systems.

Suppliers create and supply materials used in the company’s value chain, therefore, forms their value; the quality and cost of raw materials affect the company’s own costs and/or its ability to differentiate. The measures taken by the company to reduce the costs of suppliers or increase the efficiency of their work, at the same time strengthen its own competitiveness, and this is already a good enough reason for cooperation with suppliers.

The value chains of the distribution system must also be taken into account, since the costs and profits of distribution companies are included in the price paid by the end user; in addition, the work of dealers and distributors affects the satisfaction of the buyer. The company should work closely with the sales system, striving to optimize the value chain in order to strengthen the competitiveness of both parties.

Any actions that have a beneficial impact on the value chain of the consumer increase the competitiveness of the company.

For example, beer can manufacturers build their factories next to breweries and organize the supply of cans directly to the bottling shop, achieving significant savings on the organization of production, transportation and storage of stocks from both suppliers and breweries [32 p.180]. Many suppliers of components for cars also build their enterprises next to assembly shops, which allows you to use the “just in time” delivery system, reduce warehouse and transportation costs, jointly develop and produce components.
In California, a wine-growing state, there are about 700 vineyards, and all suppliers have concentrated their production around them: manufacturers of irrigation systems and equipment, machines for harvesting grapes and wine production, manufacturers of containers and labels [41 pp.77–90].

Having identified the main links of the company’s value chain, you can proceed to the next stage of strategic cost analysis: the transformation of the cost data of each link into data on costs by type of activity. The degree of detail of costs depends on their economic content and on how important this process is for analysis. It is advisable to estimate the costs of transactions that have different economic content, and by types of activities, the costs of which make up a significant or growing share of the total costs of the company.
[42 p.45].

In the course of the analysis of the value chain, it is necessary to compare the costs of all competitors to provide goods or services to a clearly defined group of buyers or a specific market segment. Advantages or disadvantages in terms of costs are usually different for different products of the same assortment, for different groups of consumers (if different distribution channels are used), for different geographical markets (if costs differ by region).

Today, many companies compare their costs for certain types of activities with the costs of competitors (and / or companies in other industries that, not being direct competitors, effectively and successfully conduct similar business). Comparative cost analysis allows you to check the compliance of individual activities of the company or functions with the best industry standards.

The main goal is to identify the optimal algorithm for performing a particular type of activity, to choose the most effective way to minimize costs, to determine ways to increase the competitiveness of the company in terms of costs in activities where costs are higher than those of other companies (not only competitors).

For example, Xerox was the first to perform a comparative cost analysis in 1979 after Japanese manufacturers began selling medium-capacity copiers in the United States for $ 9,600. per unit; this price was lower than the cost of Xerox equipment [39 pp.102-103]. At first, the leaders of the American company suspected Japanese competitors of dumping, and then decided to send a group of Xerox managers to Japan to study the experience of the Japanese manufacturer. The Americans were lucky: Xerox’s joint venture in Japan, Fuji Xerox, knew the competition well. Managers found that Xerox’s costs were inflated due to inefficient production and business organization. The study proved to be extremely useful for an American company that wanted to surpass a competitor in terms of costs. The research resulted in a long-term cost benchmarking programme for 67 main processes; Xerox’s performance was compared to the best industry standards in its respective activities. From the very beginning, Xerox decided not to limit itself to the study of competitors producing office equipment, but to include in the range of studied enterprises all the best companies in the world whose activities are related to the Xerox business.

Indeed, it is possible to compare costs not only with competitors, but also with all companies engaged in similar activities. Toyota managers, watching the process of replenishing stocks of goods on racks in the trading floor in American supermarkets, came up with a just-in-time supply system. Southwest Airlines has shortened the service life of its aircraft at airports, adopting the experience of technicians in car racing. According to some reports, more than 80% of fortune’s “500” companies practice some form of comparative cost analysis.

The most difficult stage of strategic cost analysis is not the choice of objects or methodology, but obtaining information about costs and organizing the work of other companies. Sometimes the initial data for comparative analysis is information from open annual reports of companies and the Chamber of Commerce, research materials of consulting companies, and information obtained from interviews with analysts, consumers or suppliers. Sometimes valuable information is given by consumers, suppliers, partners in joint activities. Nevertheless, for comparative analysis, it is desirable to visit enterprises of competing and non-competitive companies, monitor the course of production processes, interview personnel, compare business practices and processes, exchange information on productivity, management organization, time norms and costs for individual items. The problem is that benchmarking requires competitively confidential information about internal costs, so it’s hard to expect competitors to willingly provide it, even if they agree to take a tour of their factories and answer questions. Comparing cost information is also complicated by the fact that competing companies often use different accounting methods to determine costs.

Studying all parts of the company’s value chain and comparing it with competitors’ indicators helps to determine the benefits (or lag) in costs for each link. Based on this information, you can develop a strategy to eliminate the backlog or create a cost advantage.

There are three links in the value chain where there are usually significant differences in the costs of competing companies, namely: at the stage of suppliers, in the internal activities of the company, at the stage of wholesalers or retailers. If high costs occur in the first or third links of the value chain, then cost reduction requires activities that go beyond the company’s own activities.