By Sweeny Kumar. Originally published at ValueWalk.
Competitive advantage is a condition or circumstance that puts a company in a favourable or a superior business position, compared to the competitors. There are numerous ways how competitive advantage is believed to be achieved. However, not all ways turn out to be effective ones.
It is commonly believed that differentiation helps in giving a commodity or a business the competitive advantage. This is not completely true. Differentiation may protect a product from being generic but it does not eliminate competition entirely.
Competitive advantage can be largely achieved by supply and demand advantages. These are the genuine competitive advantages. The supply advantages revolve around competitive costs while the demand advantages are related to customer captivity.
The significance of customer captivity for demand advantages is explicitly penned down by Bruce Greenwald and Judd Kahn in their book “Competition Demystified: A Radically Simplified Approach.” The book explains:
“For an incumbent to enjoy competitive advantages on the demand side of the market, it must have access to customers that rivals cannot match. Branding, in the traditional sense of a quality image and reputation, by itself is not sufficient to establish this superior access. If an entrant has an equal opportunity to create and maintain a brand, the incumbent has no competitive advantage and no barrier impedes the process of entry.
Competitive demand advantages require that customers be captive in some degree to incumbent firms. This captivity is what gives the incumbent its preferred access. In a cigarette ad of some years ago—when there still were cigarette ads—smokers proclaimed that they “would rather fight than switch.” Every company would love to have customers with this kind of loyalty.
For demand advantages, captivity plays a critical role. Acquiring the customers is important, but retaining their loyalty cannot be undermined. The companies that have effective strategies to captivate the customers and prevent them from switching are the ones that survive competition to the maximum.
Unless they have found a way to produce the item or deliver the service at a cost substantially below that of the incumbent, which is not likely, either the price at which they sell their offerings or the volume of sales they achieve will not be profitable for them, and therefore not sustainable. The incumbent has a competitive advantage because it can do what the challenger cannot—sell its product at a profit to its captive customers.
There are only a limited number of reasons why customers become captive to one supplier.
HABIT
Habit succeeds in holding customers captive when purchases are frequent and virtually automatic. We find this behaviour in supermarkets rather than automobile dealers or computer suppliers. Most consumers enjoy shopping for a new car, and the fact that they owned a Chevrolet last time, or a BMW, doesn’t mean they won’t test-drive a Ford or a Lexus.
Customers can be captivated by making the product their habit. Habits are similar to addictions, on a different level. Once the customer becomes habitual to a particular product or brand, the chances of switching to an incumbent competitor are quite low.
SWITCHING COSTS
Customers are captive to their current providers when it takes substantial time, money, and effort to replace one supplier with a new one. In the computer era, software is the product most easily associated with high switching costs. The costs can become prohibitive when they involve not simply the substitution of some computer code, proprietary or commercial, but the retraining of the people in the firm who are the application users.
Another effective way of retaining the loyalty of customers for demand advantages is by making the process of switching costly and difficult. However, it must not become frustrating to the consumer to the extent that he ditches the brand after feeling trapped.
SEARCH COSTS
Customers are also tied to their existing suppliers when it is costly to locate an acceptable replacement. If the need is a new refrigerator, the search costs are minimal; information and ratings on competitive products are easily available. But for many people, finding a new doctor involves more than looking in the yellow pages or even in a health-care network directory. There is no ready source of the kind of information a prospective patient wants, and given the personal nature of the relationship, no alternative to direct experience.”
Also, it must not be quite simple for the customers to find a replacement. High search costs deter the customers from switching and thus retains them.
Conclusively, customer captivity by creating a habit and high switching and search costs does work as a deterrent for the customers to move to the competitor. This gives the company a genuine competitive advantage and keeps it floating even in the presence of numerous other competitors.
The post How to Use Customer Captivity as a Demand Advantage appeared first on ValueWalk.
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