Cost leadership is a strategy to reduce operating costs, produce the lowest cost product or service, outperform nearest competitors, and achieve market share.
It involves intense competition of cost reduction strategies such as efficient production scale, good purchasing strategy, modern machinery, and quality product manufacturing.
Companies can improve a cost leadership strategy by analyzing existing operations, investigating their competitors, identifying cost reduction strategies, and tracking progress.
Difference Between Cost Leadership and Price Leadership
So, every so often, people apply the terms price leadership and cost leadership reciprocally, but these are two completely separate concepts. A company with the lowest production cost may not offer the lowest price.
If that is the case, the Company’s profit margin will be higher than average. However, many businesses that follow a cost leadership strategy also contend on price and are very effective because of their low-cost management and structure.
- Cost leadership focuses on establishing a competitive advantage by reducing operating costs in the industry. However, price leadership means having the lowest price.
- A cost leader can consider being a price leader in its industry. But it is essential to note that a price leader often prioritizes market share by selling its product or service at the lowest price, thereby reducing its profit margins.
- Cost leaders focus on a system that strives to increase efficiency and reduce production costs below industry averages, allowing the Company to grow at a flat rate. These will be considered cost leaders but not price leaders.
Here are some of the examples that you should consider :
- Many renovation companies have created a mark in the home renovation market by concentrating on one aspect of home renovation rather than acting as full-service contractors.
- ·Full-service contractors cost more and are burdened with extra overhead, such as insurance and licensing.
- Focussing on the kitchen, bathroom, garage, and roofing improves their work with wholesale distributors to get the best prices on standard packages sold to their clients.
- They also recommend fewer options in terms of customization, which helps them to buy similar raw materials for their work at a discount.
- Realtors are lawfully allowed to charge up to six percent in commission on a transaction, usually split among the agents.
- This means that a seller on $300,000 can receive about $18,000 in commission.
- This has conducted flat fee brokers to enter the realty market and use cost leadership tactics to promote fixed commissions on each sale.
- As a result, customers interested in taking most of the sales and the services suggested by these brokers, like listings and other required legal revelations, have chosen to move their business with them.
What Are The Most Effective Examples of Cost Leadership ?
With examples of some famous ones, it can be easier to understand about cost leadership.
Walmart is an American multinational retail corporation that manages 11,484 supermarkets and discount stores in 27 countries. Its economic advantage strategy is established on selling low-cost branded products that attract the most significant number of customers.
- Get lower operating costs through automation and technology.
- Minimal expenditure on human resources, which includes very low wages
- Working closely with suppliers, dominating industry brands
- Own 3,000 trucks and 12,000 trailers, minimizing outsourcing costs.
- And even meet with vendors to help reduce their costs, creating a win-win relationship.
Additionally, Walmart implemented a satellite network system to share information across the Company’s stores, distribution centers, and suppliers.
The arrangement also helped secure their product orders, enabling Walmart to buy higher quantities at lower prices.
Of course, a list of examples of cost leadership cannot exist without the most popular brand in the industry of fast-food – McDonald’s. Let’s see:
- Fast food delivery
- McDonald’s has optimized food preparation processes, making them simple and easy for all employees to learn, reducing the learning curve as much as possible.
- The Company has a labor department that allows them to hire and train freshers instead of already trained cooks, enabling them to pay lower wages.
- Vertical integration
- Compared to competitors, McDonald’s owns facilities that mix ingredients for its products, further reducing its costs.
- High asset utilisation
- The Company manages to reduce costs in raw materials and optimize human resources through higher resource utilization.
- Because they can prepare and deliver food as quickly as possible, they can serve more clients simultaneously than their competitors.
Ryanair is the most famous example of cost leadership. Established in 1984, the Irish-based budget airline includes subsidiaries with a fleet of 469 aircraft and more international passengers than any other airline worldwide.
The Company’s competitive advantage strategy is based on its intention to outperform competitors by providing air travel services at the lowest possible unit cost. This is achieved in several ways, including:
- Substantial bargaining power over suppliers helps the Company keep its operating costs low.
- A variety of small aircraft, mainly Boeing 737-200, can purchase large quantities of spare parts.
- Ability to negotiate with airport operators to demand lower landing and handling fees, besides flying to less popular airports.
- Lack of differentiation services like loyalty schemes, free meals, in-flight entertainment, airport lounges, premium cabins, etc.
- The competitive advantage strategy of the Company is particularly attractive to price-sensitive customers.
Next in our list of cost leadership examples is the multinational king of e-commerce – Amazon. Regarding Porter’s concepts, the Company’s core strategy is cost leadership over other brick-and-mortar retailers.
Amazon achieves its competitive advantage in several ways, including:
- Economies of scale
- The Company has extensive warehousing facilities and processing capacity, thus able to reduce costs through physical economies of scale.
- Advanced technology
- With advanced computing and networking technology, Amazon achieves maximum operational efficiency and the lowest cost.
- Process Automation
- The Company has automated many operational processes, including purchase processing and delivery scheduling.
- Amazon’s primary goal is to develop a competitive advantage by continuously improving its IT infrastructure.
- The Company has also set itself through customer reviews and feedback, encouraging customers to buy more from Amazon.
This renowned Swedish furniture retailer has revolutionized the furniture industry.
By producing many standardized products that people can quickly assemble, IKEA has achieved a significant competitive advantage with its cost leadership strategy. Today, the multinational group runs 433 stores in 52 countries.
KEA is the undisputed leader in the furniture industry when it comes to low costs, and here’s why:
- Standardized products
- Unlike competitors, IKEA does not recommend personalized products. Almost all of them are standardized, which lets the company mass produce them for all of its stores worldwide and reach economies of scale that smaller competitors cannot.
- Retailers look for suppliers who can produce quality sub-assemblies at the lowest possible cost, requiring customers to assemble the furniture themselves.
- One of the causes is that they are so cheap that IKEA doesn’t budget for workers for the assembly process. You can rent them extra, but they are not included in the original product’s price.
- Like many other companies, IKEA also outsources the production of its products to low-wage countries, which allows them to reduce overhead costs.
- Remarkably, IKEA follows a differentiation strategy to some extent with its cost leadership advantage. The Company has developed a completely new and modern business model that people love instantly.
What Are Cost leader Strategies Along With Advantage and Disadvantage?
Some key strategies that will help you reach a cost leadership function in the market are as follows.
- Efficient operation
- Cheap raw materials
- Advantage size
- Economies of sale
Advantages of cost leadership strategies :
There are various advantages to discussing cost leadership strategies; they are :
Cost leadership strategies are primarily used to increase a company’s profits. A business will make more money than expected if a product is more well-known and well-liked because of its low price.
Additionally, as resources are more affordable, product manufacturing costs will decrease. All of these aspects will increase the profits of a corporation.
Be safe with the competition
Cost leadership strategies can be very effective competitively, especially in industries with frequent intense competition and price wars.
The explanation is that many cost leaders are better prepared to resist these price wars. They have all the resources needed to reduce costs and stay ahead of the competition.
Therefore, cost leadership is the leading competitive strategy; companies need a firm understanding of their costs to retain their status.
Grow market share
The most significant advantage of cost leadership strategies is increasing market share. Consumers may favor businesses that sell products at the lowest prices.
Consequently, the lowest-priced business is likely to sell the most units. In other words, the more units a company sells, the more market share it has.
Additionally, this way, unit costs decrease as a company’s market share increases, resulting in potentially higher profits.
Disadvantages of cost leadership strategies :
Every coin has two sides, and cost leadership strategies also have. Here are some loopholes that business owners should consider for better development of the Company
Good product quality is difficult to maintain
With cost leadership strategies, it becomes challenging for businesses to sustain product quality as they concentrate on providing the most cost-effective products.
As a result, cost leaders must figure out how to deliver affordable products and services while maintaining a solid reputation for selling high-quality items.
Store owners need to innovate cost leadership methods continuously
Cost leadership strategies can sometimes be risky, as innovators must develop new approaches to reduce costs. Otherwise, competitors may copy an efficient cost-cutting method as soon as you discover it.
Furthermore, cost leaders risk significant losses with cost leadership strategies if they cannot keep constant cost reductions.
Unable to adapt to market changes quickly
As mentioned above, as an advantage, cost leadership strategies help to increase market share, which means that sales markets are constantly changing. Thus, it requires that cost leaders have a high level of adaptability.
Risk of low brand awareness
To become a cost leader, costs for marketing will likely be kept to a minimum. Spending too little on these activities can have long-term risks if brand recognition and loyalty decline or the
Company lags behind competitors in product development.
Therefore, if high brand awareness is one of your Company’s main goals, you should consider this flaw in your cost leadership strategies.
Difficult to scale up due to thin profit margins
Regarding cost leadership strategies, stores with thin profit margins can find competing difficult. Their need for more profitability may limit their ability to spend on other expansion costs, making it difficult for them to grow their business.
For this, another strategy might be more effective.
How to achieve cost leadership strategies?
Companies that achieve cost leadership strategies in their markets share vital characteristics.
- Use a proper profit-tracking app
- Apply economies of scale
- Skill improvement
- Optimize sourcing and purchasing.
- Improve the quality of the product
After a deep study of cost leadership, price differences, different techniques, advantages, disadvantages, and contrasts with examples, We understand that achieving a market-leading position takes a lot of time and effort. If you plan to develop a cost leader position in the market, you should keep the tips mentioned above and the guidelines in mind.
Why is cost leadership important for customer retention?
Cost leadership strategies are not without risk. To retain customers, it may often lower the price of its product or service. Still, with low prices and competitive levels of differentiation, the cost leader increases the likelihood that customers will prefer its product over alternatives.
Is it worth being a cost leader?
Although there are many advantages to being a cost leader, it should also be noted that choosing a cost leadership strategy can be risky. In contrast to superior product or brand appeal, a cost-leadership company’s most significant value to customers tends to be low cost.
What are the main dangers of the cost-leadership approach?
The main danger of the cost-leadership approach happens when competitors can develop new strategies that undermine their cost structure and defeat the cost leader at its own game.
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