What makes a “good” competitor?

Competitors are not all equally attractive or unattractive. A good competitor is one that can perform the beneficial functions described above without representing too severe a long-term threat. A good competitor is one that challenges the firm not to be complacent but is a competitor with which the firm can achieve a stable and profitable industry equilibrium without protracted warfare. Bad competitors, by and large, have the opposite characteristics.

No competitor ever meets all of the tests of a good competitor. Competitors usually have some characteristics of a good competitor and some characteristics of a bad competitor. Some managers, as a result, will assert that there is no such thing as a good competitor. This view ignores the essential point that some competitors are a lot better than others, and can have very different effects on a firm’s competitive position. In practice, a firm must understand where each of its competitors falls on the spectrum from good to bad and behave accordingly.

1. Tests of a Good Competitor

A good competitor has a number of characteristics. Since its goals, strategy, and capabilities are not static, however, the assessment of whether a competitor is good or bad can change.

Credible and Viable. A good competitor has sufficient resources and capabilities to be a motivator to the firm to lower cost or improve differentiation, as well as to be credible with and acceptable to buyers. The competitor cannot serve as a standard of comparison or aid in market development unless it has the required resources to be viable in the long term and unless buyers view it as at least a minimally acceptable alternative. The credibility and viability of a good competitor are particularly important to its ability to deter new entry. A competitor must have resources sufficient to make its retaliation a credible threat to new entrants and it must represent an acceptable alternative to buyers if they are to forgo looking for new sources. Finally, a competitor must be strong enough to keep the firm from becoming complacent.

Clear, Self-Perceived Weaknesses. Though credible and viable, a good competitor has clear weaknesses relative to a firm which are recognized. Ideally, the good competitor believes that its weaknesses will be difficult to change. The competitor need not be weaker everywhere, but has some clear weaknesses that will lead it to conclude that it is futile to attempt to gain relative position against a firm in the segments the firm is interested in.

Understands the Rules. A good competitor understands and plays by the rules of competition in an industry, and can recognize and read market signals. It aids in market development and promotes the existing technology rather than attempting strategies that involve technological or competitive discontinuities in order to gain position.

Realistic Assumptions. A good competitor has realistic assumptions about the industry and its own relative position. It does not overestimate industry growth potential and therefore overbuild capacity, or underinvest in capacity and in so doing provide an opening for newcomers. A good competitor also does not overrate its capabilities to the point of triggering a battle by attempting to gain share, or shy from retaliating against entrants because it underestimates its strengths.

Knowledge of Costs. A good competitor knows what its costs are, and sets prices accordingly. It does not unwittingly cross-subsidize product lines or underestimate overhead. As in the areas described above, a “dumb” competitor is not a good competitor in the long run.

A Strategy that Improves Industry Structure. A good competitor has a strategy that preserves and reinforces the desirable elements of industry structure. For example, its strategy might elevate entry barriers into the industry, emphasize quality and differentiation insteád of price cutting, or mitigate buyer price sensitivity through the nature of its selling approach.

An Inherently Limiting Strategic Concept. A good competitor’s strategic concept inherently limits it to a portion or segment of the industry that is not of interest to the firm, but that makes strategic sense for the competitor. For example, a competitor following a focus strategy based on premium quality might be a good competitor if it does not want to expand its share.

Moderate Exit Barriers. A good competitor has exit barriers that are significant enough to make its presence in the industry a viable deterrent to entrants, but yet not so high as to completely lock it into the industry. High exit barriers create the risk that the competitor will disrupt the industry rather than exit if it encounters strategic difficulty.

Reconcilable Goals. A good competitor has goals that can be reconciled with the firm’s goals. The good competitor is satisfied with a market position for itself which allows the firm to simultaneously earn high returns. This often reflects one or more of the following characteristics of a good competitor:

HAS MODERATE STRATEGIC STAKES IN THE INDUSTRY. A good competitor does not attach high stakes to achieving dominance or unusually high growth in the industry. It views the industry as one where continued participation is desirable and where acceptable profits can be earned, but not one where improving relative position has great strategic or emotional importance. A bad competitor, on the other hand, views an industry as pivotal to its broader corporate goals. For example, a foreign competitor entering what it perceives to be a strategic market is usually a bad competitor. Its stakes are too high, and it may also not understand the rules of the game.

HAS A COMPARABLE RETURN-ON-INVESTMENT TARGET. A good competitor seeks to earn an attractive return on investment and does not place greater priority on gaining tax benefits, employing family members, providing jobs, earning foreign exchange (e.g., some government-owned competitors), providing an outlet for upstream products, or other goals that translate into unacceptable profits in the industry. A competitor with compatible profit objectives is less likely to undercut prices or make heavy investments to attack a firm’s position. Differences in goals make McDonnell-Douglas a much better competitor to Boeing in aircraft than the state-owned Airbus Industries, for ex-ample.

ACCEPTS ITS CURRENT PROFITABILITY. A good competitor, while seeking to earn attractive profits, is typically satisfied with its current returns and knows that improving them is not feasible. Ideally the competitor is satisfied with profitability that is somewhat lower than the firm’s in segments that they jointly serve. In such a situation the competitor is not prone to upset the industry equilibrium in order to improve its relative profitability, and its modest returns may serve to discourage entry by new competitors.

DESIRES CASH GENERATION. A good competitor is interested enough in generating cash for its stockholders or corporate parent that it will not upset industry equilibrium with major new capacity or a major product line overhaul. However, a good competitor does not harvest its position in the industry because this will threaten its credibility and viability.

HAS A SHORT TIME HORIZON. A good competitor does not have so long a time horizon that it will fight a protracted battle to attack a firm’s position.

IS RISK-AVERSE. A good competitor is concerned about risk and will be satisfied with its position rather than take large risks to change it.

Smaller divisions of diversified firms can often be good competitors if they are not viewed as essential to long-term corporate strategy. They are often given tough profitability targets and expected to generate cash flow. Divisions that are slotted for growth may be bad competitors, however. Squibb’s acquisition of Beech-Nut’s baby food business was predicated on the perception that Beech- Nut had significant growth potential. This led Beech-Nut to take some actions that proved unsuccessful but that undermined the industry.

Even a competitor with considerable strengths can be a good competitor if it has the right goals and strategy. Its goals and strategy create a situation where a firm and the competitor can coexist. A clear and self-perceived weakness is thus not a prerequisite for a good competitor. Conversely, however, a competitor with a very long time horizon, little short-run need for cash flow, or a willingness to take substantial risks is usually a bad competitor from the point of view of achieving a stable industry equilibrium, whether or not it has any real strengths.

Sometimes a competitor can be a good competitor to a firm but the firm is not a good competitor to it. One competitor plays by the rules, but the other attacks it anyway. Industries are most stable when firms are mutually good competitors—the segment one competitor focuses on is profitable for it but not of interest to the other, for example. Mutually good competitors play to their respective strengths and succeed at doing so given their respective internal standards.

2. “Good” Market Leaders

These tests of a good competitor also shed light on what makes a good market leader from the perspective of followers. If a firm is not in a position to be among the leaders in the industries it serves, its success may well be highly dependent on picking industries with good leaders. The single most important quality of a good leader from a follower’s perspective is that the leader has goals and a strategy that provide an umbrella under which the follower can live profitably. For example, a leader with high return-on-investment goals, concern for the “health of the industry,” a strategy built upon differentiation, and a disinclination to serve certain industry segments due to mixed motives will offer opportunities for followers to earn attractive returns in a relatively stable industry environment. Conversely, a leader that fails to understand the benefits of viable followers, that is satisfied with low returns, or whose strategy works in other ways to erode industry structure is unlikely to provide an attractive environment for followers. For example, a leader pursuing a strategy based on going down the learning curve rapidly through low prices in an industry where buyers are powerful and price-sensitive will often destroy the industry for followers (and perhaps for itself).

3. Diagnosing Good Competitors

Diagnosing whether a rival is a good competitor requires a complete competitor analysis. A competitor’s goals, assumptions, strategy, and capabilities all play a part in determining whether it is a good or bad competitor for a particular firm.9 Since no competitor ever meets all the tests of a good competitor completely, it is necessary to decide whether a competitor’s desirable characteristics outweigh those that undermine the industry or a firm’s position.

A number of examples may serve to illustrate the process of weighing and balancing a competitor’s characteristics to reach a net assessment of whether it is good, bad, or somewhere in between. In the computer industry, Cray Research seems to be a good competitor for IBM, while Fujitsu is a bad competitor. Cray is a viable rival that plays by accepted rules in a focused segment of the industry, and does not appear to misjudge its ability to take on IBM. Fujitsu, on the other hand, has high stakes in succeeding against IBM, low standards for profitability in markets it is attempting to penetrate, and a strategy that may worsen industry structure by undermining differentiation.

In the copier industry, Kodak is a relatively good competitor for Xerox. Kodak is concentrating on the high-volume end of the market and emphasizing quality and service. Though it has taken some profitable market share away from Xerox, Kodak has high rate- of-return standards and is playing by the same rules as Xerox. Thus it has pushed Xerox to improve its quality. Moreover, Kodak does not appear to view copiers as a linchpin of an office automation strategy that would justify accepting low profits, but as a profitable business area in its own right.

In fertilizer and chemicals, conversely, oil companies have proven to be bad competitors. They have had excess cash to invest, and have looked for big markets in which they could gain large market shares so as to have a noticeable impact on their financial statements. Instead of emphasizing R&D and customer service, most oil companies have competed on price and accelerated the commoditization of the industries they entered. They have also had poor forecasting ability, and tended to build huge new plants during the peaks of the business cycle rather than acquiring facilities during troughs. This has meant that they have created or exacerbated problems of excess capacity.

The competitive situation in CT scanners illustrates a case where a follower seems to understand the benefits of a good market leader. The Israeli company Elscint has gained a number two or three market position. GE is the leader in the industry, and Elscint has publicly disclaimed a desire to overtake GE. Elscint views GE as a good market leader because it maintains high prices, differentiates based on service and reputation, and has invested heavily to educate and develop the market. Another historically good market leader is Coca-Cola. Coke avoided price competition and vigorous retaliation against followers’ moves, opting for a statesman’s role instead. Pepsi Cola, Dr Pepper, and Seven-Up enjoyed many years of stable profits as followers. Perhaps as a result of Pepsi’s misjudgment in attempting to take too much share from Coke combined with the ascendance of new top management, however, Coke is showing signs of becoming much more aggressive. Pepsi’s apparent triggering of Coke’s change of behavior illustrates a pitfall in dealing with good competitors that I will discuss further below.

If competitors are bad enough, even a firm with a significant competitive advantage may find it unattractive to compete in an industry. In mushrooms, for example, Ralston-Purina had some potential advantages but faced many family firms with low return-on-investment standards as well as imports from Taiwan and the People’s Republic of China. Ralston finally exited the industry.

Source: Porter Michael E. (1998), Competitive Advantage: Creating and Sustaining Superior Performance, Free Press; Illustrated edition.

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