Cost leadership strategy is also known as ‘low-cost provider strategy’, or simply ‘low-cost strategy.’
We will use the term low- cost strategy’ in this book.
The company that follows this strategy intends to become the overall low-cost provider in the industry in which the company operates its business.
A company strategy of selling its products at a price lower than its competitors is known as a cost leadership strategy. The emphasis is placed on the production of standardized products at a low per-unit cost for price-sensitive customers.
Charging lower price becomes possible when the company can ensure post-reduction by operating business in a highly cost-effective manner.
The strategic target of this strategy s a broad section of the, market where the company offers economical prices The company emphasizes cost reduction without reducing quality. The company intense to gain market share through underpricing the competitors.
Some widely known companies that employ low-cost strategy include Whirlpool and general electronic company in home appliances, Black and Decker in power tools, and more.
The key to sustaining low-cost strategies to manage cost down in every area of the company’s business. The goal of this study is to outperform competitors through to low-cost leadership.
When a company becomes a low-cost leader it is likely to earn above-average profits.
Creating and then sustaining cost advantages RK to attaining success in a low-cost strategy. Accompany me a cheap cost advantage by
- doing a better job than competitors in performing internal value chain activities efficiently,
- Taking initiatives to cut down the cost of value chain activities, and
- recognizing the value chain to avoid or bypass some cost producing activities.
Benefits of Cost Leadership Strategy to Business Organizations
A business organization may derive the following benefits from pursuing a cost leadership strategy:
Overcoming threats from competitors
Because of its cost advantage, a company can protect itself from the business- attacks of the competitors. If competitors enter into a market with a low price, the company can even further cut down its prices.
This is possible because the company has already developed ways to reduce cost and sustain the cost advantage. Its cost- leadership position helps it dominate the competitors.
Effective dealing with powerful suppliers
When suppliers are few in number as well as powerful, they may try to increase prices of raw materials/other inputs. The company with a low- cost strategy can endure such price-increase because of its overall lower costs:
Facing powerful buyers effectively
Powerful big buyers (such as dealers and wholesalers or retail chains like Agora, Meena Bazaar of Wal-Mart) may dictate prices of a company’s products. A company that follows a cost leadership strategy is less affected by such actions of buyers.
Encountering threats from substitute products
A low-cost leader is able to overcome threats from substitute products. It can reduce the price of its products if substitute products start entering the market. Low-cost leadership helps the company retain its market share.
Overcoming threats from the entry of potential competitors
A company with a low-cost strategy or cost leadership strategy can discourage other potential investors to come to the market. Its cost advantage automatically creates barriers to entry. Other, companies may find it difficult to match their costs with that of .the low-cost leader.
Market Situations Favorable for Cost Leadership Strategy
A low-cost provider strategy works best under the following situations:
- When the brand differences from company to company are minor, and at the same time, the products are standardized and readily available
- When the market is composed of a large number of price-sensitive buyers who want to buy products, at the lowest possible price.
- When there are few ways to achieve product differentiation. It means that it is difficult to differentiate the company’s products from those of competitors due to the* nature of the product. Buyers become sensitive to price differences when produce-to-product differences are negligible. In such a situation, they will go for the lowest price.
- When switching costs from the company’s brand to competitors’ brands are low or even If buyers purchase another brand and this switching from the previous brand does not involve any additional cost (such as transportation or repair) they are likely to opt for the lower-priced brand.
- When there are a large number of buyers with significant bargaining power, i.e., they, have significant power to negotiate price-related terms and conditions.
- When price-competition among, the sellers/suppliers is very tough. A cost leadership strategy helps producers, to compete effectively based on the price.
- When the company is in a position to use the lower-cost edge to attract price-sensitive buyers in great enough numbers to influence total profits.
Reasons for Failure of Cost Leadership Strategy
The cost leadership strategy or low-cost strategy has some shortcomings or pitfalls. Managers need to take care of these pitfalls so that they cap, undertake appropriate measures to be successful with this strategy.
The shortcomings are as follows, which are responsible for the failure of the cost leadership strategy:
- It may invite aggressive price-cutting by competitors. It may lead to price-war that may lead to lower profitability.
- Cost advantages may not sustain if competitors can easily imitate the strategy. When the competitors are able to copy the cost advantages, a cost leadership strategy will fail. So, the ways to achieve cost advantage need to be difficult for others to copy.
- If a low-cost product does not contain enough attributes to be attractive to prospective buyers, the strategy may fail. Low price is not always appealing to buyers. Attractiveness may be lost if the product is features-poor or quality-deficient.
- The cost leadership strategy may become ineffective when there are technological breakthroughs by the competitors in the industry.
Strategic Choice of Low-Cost Provider
In order to be successful with the cost leadership strategy, low-cost providers resort to various strategic choices:
- They try to avoid product differentiation. If avoiding differentiation is difficult due to changes in the market, they willfully choose a low level of product differentiation to keep production costs at a low level. They wait and see when customers seriously Want to have differentiated features in the product.
- They do not focus on elite customers in the market. Average customers are their main targets. They do not operate in different market segments with different types of products. This is because it is highly expensive to develop product lines for different market segments.
- Their attention is more on reducing costs in each area of business activities. They want to increase efficiency in production and service activities to reduce wastage of resources. They develop distinctive competencies in manufacturing and materials management to reduce manufacturing costs and thereby increasing efficiency.
- They develop skills in flexible manufacturing/lean manufacturing, just-in-time (JIT) production and total quality management. They also adopt efficient materials management techniques.
- They emphasize on strict production control and rigorously use budgets to control the production process.