Competitive strategy is about being different. It means deliberately choosing a different set of activities to deliver a unique mix of value. –Michael E. Porter
Business students, or at least business students of a certain age, will recognize the name Michael E. Porter because he wrote a seminal business book, Competitive strategy: industry and competitor analysis techniquesfirst published in 1980 and recently in its 60th edition.
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The book outlines several powerful competitive advantages companies can have that can help them grow (and stay) more dominant and valuable in their industries. We investors would do well to favor companies with sustainable competitive advantages when looking for candidates for our portfolios.
Presentation of competitive advantages
Here is how the Corporate Finance Institute describes competitive advantages:
Competitive advantage refers to the means by which a company can produce goods or provide services better than its competitors. It allows a company to achieve higher margins and generate value for the company and its shareholders.
Sounds good, right? You will find below a (non-exhaustive) list of competitive advantages, as well as some examples. Learning to spot them can help you become a better investor.
Economies of scale
In general, the larger a business, the less it can cost to produce each of its widgets, allowing it to earn higher profits, the ability to charge lower prices, or both. Higher profits can be used to pay workers more, invest in additional growth, buy more advertising, etc.
Precious Mark
A known and respected brand is very powerful. It can also give a company a good reputation and pricing power, allowing them to raise prices without losing a lot of business. Consider disney and Toyota. If you want to see a movie, you’ll probably assume that any Disney offering will be pretty high quality, and if you’re looking for a car, you’ll think of Toyota models as pretty reliable. You can also pay for offers from these companies, considering them to be of high quality and worth the extra cost.
Bargaining powers
Buyers or suppliers can exercise bargaining power. Think about walmart, for instance. It is so huge that when purchasing items for its more than 10,000 stores, it can make requests to its suppliers. Suppliers can also sometimes exercise bargaining power because very few offer a certain product or service or if it would be complicated for the buyer to switch to another supplier for something. In aviation, for example, when an airline needs to buy planes, there are basically two options — Boeing or Airbus.
Offer ecosystem
Having interconnected products and services can be an advantage. Apple, for example, has a large ecosystem, with many customers owning or using multiple products and services (iPhones, Apple Watch, Macbooks, Apple TV+, iPad, etc.) that work well together. Since it would be inconvenient to switch to other providers for some or all of these services, many customers stick around.
Network effect
With many products or services, their value is tied to the number of people using them. This is a network effect advantage. eBay, Etsyand from Amazon.com Markets are bustling and valuable because of their many users. If you want to sell or buy something, you will go to these places because that is where the buyers and sellers are. Social media sites like Facebook, Instagram, and sites like YouTube are successful in large part because of the millions (if not billions) of people who use them.
Entry barriers
Barriers to entry can be a powerful competitive advantage, and some of the companies already mentioned have them. For example, it would be terribly difficult to start an aircraft manufacturing business because it would cost a fortune. It would also be difficult to launch a new social media site when so many people are already rooted in others. The barriers to entry for some companies are the proprietary technology, patents and/or licenses they hold.
Innovation
If a company is good at innovating, that’s an advantage, because it may be able to introduce new products or new product categories like Apple did with its iPod years ago. Some companies, such as 3M and parent Google Alphabetare also known for their innovation prowess.
optional character
Linked to innovation, the concept of optional character, which many investors look for when evaluating companies. When a business has options, it has options – possible new directions it can go in, to generate new revenue. netflix has several million subscribers – and option: it can start offering games through its platform and can also start serving advertisements. Axon Companieswhich began by making Tasers, has expanded to offering body cameras and the Evidence.com platform that allows law enforcement to track evidence, among other things.
Change fees
Some companies enjoy a “change costs” advantage. Intuitive surgery He has installed thousands of surgical robots in hospitals around the world. Hospitals have trained many surgeons on the equipment and are purchasing service contracts and supplies for the machines. It would be a big (and expensive) hassle to switch to another provider if there was a comparable one.
These are just a few of the dozens of possible competitive advantages companies can have. A little online research will reveal many more. Like you Assess candidates for your portfoliospend time looking for sustainable competitive advantages because they can help a business thrive.
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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a board member of The Motley Fool. Suzanne Frey, an executive at Alphabet, is a board member of The Motley Fool. Selena Maranjian holds positions at Alphabet, Amazon.com, Apple, Axon Enterprise, Etsy, Intuitive Surgical, Netflix and Walt Disney. The Motley Fool holds and recommends Alphabet, Amazon.com, Apple, Axon Enterprise, Etsy, Intuitive Surgical, Netflix, Walmart, and Walt Disney. The Motley Fool recommends 3m and eBay and recommends the following options: January 2024 long calls at $145 on Walt Disney, March 2023 long calls at $120 on Apple, January 2023 short calls at $45 on eBay, short calls from January 2024 at $155 on Walt Disney and short calls from March 2023 Calls at $130 on Apple. The Motley Fool has a disclosure policy.
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