Saturday, September 3, 2011

Buyer Power and Firm Competitiveness: Fortune or Poverty in the Marketplace?

The very reason for a firm to exist is the buyer. The collective actions of the buyers to purchase the products and services of all the firms in an industry constitute the demand in the marketplace. It is therefore counterintuitive to postulate that buyer power is inimical to the interests of the individual firms or the overall industry. Michael Porter, however, postulates in his work on Competitive Strategy (1980) that buyer power is one of the five competitive forces that a firm needs to contend with. Together with the other four competitive forces, buyer power determines the level of competitiveness in an industry. Extending the theory further, Porter proposes that most industries sell their products or services not to a single buyer but to a range of different buyers. He holds that the bargaining power of the groups of buyers, viewed in aggregate terms, is one of the key competitive forces determining the potential profitability of an industry. Porter considers that the concept of different buyer groups with varying purchasing requirements is valid for producer-goods industries as much as for consumer goods industries.

Porter provides a different twist to the concept of market segmentation when he holds that different buyer groups even when they are common to an industry vary widely in terms of their purchasing needs, in respect of product quality or durability, customer service, needed information in sales presentations, and so on. Buyers are held to differ not only in their structural position but also in their growth potential, and hence in the probable growth of their volume of purchases. And for a variety reasons, the costs of servicing individual buyers differ. The concept of market segmentation is turned by Porter, in the context of buyer heterogeneity, into a concept of buyer selection by the firm. Porter argues that a key strategic implication is that a firm can not only find good buyers but also create them. Porter proposes a framework for buyer selection and strategy based on four broad criteria that determine the quality of buyers from a strategic standpoint. These are: purchasing need versus company capabilities, growth potential, structural position and cost of servicing. The structural position is expressed in terms of intrinsic bargaining power and propensity to exercise the bargaining power in demanding low prices.
Contemporary buyer dynamics
As with the other propositions in Porter’s theory of competitive strategy, the propositions on buyer power and buyer selection need to be revisited. While designating market opportunity as buyer power may be a creative way of looking at the firm’s competitive dynamics, one wonders whether it is not a case of putting the cart before the horse. The idea of a firm selecting its buyers based on its products and services appears counterintuitive given the fact that the firm ought to develop its products and services to cater to the buyer needs. The proposition of the firm trying to play on the variations or exploit the weaknesses in buyers is antagonistic to the contemporary customer-centric view of the firm. In addition, there are two principles that militate against the simplistic but opportunistic buyer power theory of Porter. Both these principles render Porter’s strategy of narrow line manufacturers searching for buyer segmentation quite sub-optimal.
The first principle is that buyers, whether individuals or firms, do not have unitary thinking; rather it is the collective thinking of professionals in a firm or members in a family influence buyers’ seemingly individualistic thinking. In developed markets the purchasing characteristics of industrial buyers are collectively mandated by elaborate firm level processes and requirements while the purchasing characteristics of retail buyers are highly individualized. On the other hand, in emerging markets, notably Asian economies, buyers in firms have great latitude to decide on their purchasing requirements while retail buyers are subject to collective influences of families and friend circles. Strategies for addressing buyer groups must not only distinguish between types of industries but also between the characteristics of buyers of producer goods and consumer goods across developed and emerging markets.
The second principle is that every buyer has multiple user needs which can be fulfilled effectively by full line manufacturers; buyers typically need product families rather than isolated products, however unique they are. Any industrial plant, for example, would need compressors of different principles (water cooled or air cooled) and in different air pressures, based on the application. It would be inappropriate for a compressor manufacturer to specialize only in the large types of compressors. Similarly, a singular buyer group such as national airports authority would require different styles and scales of baggage conveyors based on the size and build-out of the airport (metro domestic, metro international or tier 2 and tier 3 cities). Even a simple product like a writing instrument sports multiple need profiles within a single buyer group; for example, low cost ball point pens for rough work, gel pens for official or college writing, fountain pens for signature purposes and finally premium pens just for sporting.
Flipping the proposition
In contrast to the prescription provided by Porter of choosing buyers based on products or services it has, the right proposition for a firm should be to choose its  products and services based on the buyer universe that is available. Such selection cannot also remain static. As new companies come with new products to create new buyers, existing companies would need to debate and decide on tweaking their product offerings or developing new products to ride the consumer wave. Porter’s theorems on managing buyer power would provide tactical solutions to optimize product-market fit but would not be able to provide strategic solutions for achieving sustainable growth. If we consider India’s energy scene, clearly the State Electricity Boards and national energy corporations, in private and public sectors are large buyer groups. Given the existence of several national and international power plant makers as competition, there is perhaps little choice for any individual power plant manufacturer to choose or leverage its buyer group. On a related plane, looking forward, there is a great scope for all types of power plants in India, in private and public sectors covering a host of technologies: thermal, hydro, nuclear, solar and wind; micro, medium and large. Until buyer groups are formed, there is very little contribution that theorems of managing buyer power can make to competitive strategy.
Perhaps the more relevant theorem in Porter’s buyer power theory relates to the proposition of buyer growth. Rightly, Porter argues that firms should cast their lot with buyers who have greater growth potential. Buyers faced with low growth obviously would have lower budgets and would constantly seek the lowest cost products to assure themselves of some base level of cost competitiveness and profitability. Latching on to fast growing buyer groups, on the other hand, provides scale as well as some level of pricing flexibility for a firm. While the benefit of connecting with growth sectors is an obvious hypothesis, many firms fail to recognize the shifting growth trends, and more importantly the need to reengineer products to meet the newer growth needs. India, for example, is not merely at the cusp of an economic growth wave but also at the threshold of a major shift in consumer preferences due to changing demographics in favor of younger population.  Firms must therefore focus on growth direction as well as growth velocity to manage the buyer power in a constructive manner.
Combating versus collaborating
Whatever be the granulated merits and demerits of Porter’s propositions on buyer power (which incidentally is real and cannot be ignored), the underlying idea of managing the buyer dynamics to reduce buyer power is ill-placed. It is antithetical to the positive concept of the buyer being the very cause and sustenance for the genesis and growth of the firm. The more appropriate proposition for the firm would be to engage with the buyers continuously to serve them better. Such engagement could take several forms. At the most basic level of engagement is the trade channel utilized to approach the buyers. While open display formats like the Web and multi-brand retailing are cost-effective for the firms to be deployed for industrial buyers and retail consumers respectively, it is important for the firms to provide distinctive user experiences for each category. Periodic connectivity through conferences and corporate sales plazas are relevant experience generators. At the most profound level is living with the user through the various life cycle stages of the product and identifying the needs for product improvement and new product development. Somewhere, midway are the classic methodologies of customer feedback, trade channel feedback, service centre feedback and market research, all of which will provide insights to making the products and services better for the customers.   
Positive engagement and proactive collaboration with customers or buyers provide several benefits to firms. The thesis, in fact, of C K Prahalad’s landmark book “Fortune at the Bottom of the Pyramid” is that by understanding consumer needs and user characteristics in different economic strata, each having distinctive cultures and practices, firms can reengineer their products and open up completely new markets. The success of the Japanese and Korean automobile manufacturers in India during the 1980s to 2000s has been due to such a buyer-centric adaptation. Unfortunately, a new generation of European automobile makers has, over the last few months, been targeting exclusive niche segments based on the luxury car products the firms have. Sooner or later, this group of firms could discover the perils of playing on buyer dynamics, and not being in the group of positively engaged and socially sensitive full line auto makers.
Employees as buyers; leaders as designers
Many firms fail to realize that their own employees are buyers too; most firms ignore the fact that hardly any employee, save in customer-centric jobs, is provided the opportunity to interact with customers and discover how the products the employees make or are associated with fare in the hands of the customers. Letting employees share their experiences on the company and competitor products, and even encouraging them to buy the products selectively could create useful pilot projects for understanding the more universal buyer behavior. Market-centric behavior can be institutionalized in companies if employees from various departments, especially R&D and Manufacturing are moved through customer-centric departments like sales, marketing, service and market research. The Japanese companies are known to have deployed such an organizational strategy as a strategic tool to get institutional processes closer to customer, especially in the 1970s and 1980s when they were at the leading edge of global innovation. The Koreans mastered this in 1990s and 2000s. Potentially, leading emerging economies such as India and China would have the opportunity to make their organizations customer-integrated for enhanced competitiveness.
Leaders have a special role in handling the buyers as a competitive force. Wise leaders would view buyers as the group that enhances the competitiveness of the firm through higher expectations rather than as a group which has either unjustified demands on company resources or complete tolerance to whatever the companies may offer. Leaders who tend to be more internationally and cross-culturally exposed than any other group of employees have a significant role in leading their corporations on the path of product innovation and customer service. The leaders are well positioned to observe, absorb and adapt latent user expectations and latest product features that are globally available to generate creative sparks in their firms. Leaders who truly internationalize their firms on a multi-country basis (as opposed to home country-centric internationalization) provide their firms with unprecedented opportunities to develop expansive product-market configurations. There are only a few things the wise and effective leaders must focus on to lead their corporations to glory; product design and development probably ranks the highest in that list of must-do for leaders.
Buyers as corporate resource
While acknowledging Porter’s theory that buyer groups do have bargaining power vis-à-vis a company, which they tend to deploy, this blog post has argued that it is counterintuitive and antithetical to corporate genesis and growth to view buyers and the company as pitted against each other. While feeling humble that buyer power can be overwhelming, companies must find positive and proactive ways of engaging and integrating with customers for better user experience rather than managing them for just better sale of products. The former provides both tactical and strategic wins for the company with sustainable growth paradigms. Leadership in product development and delivery would be a core component of a company that treats customers as a genuine and fundamental corporate resource.
Posted by Dr CB Rao on September 3, 2011. 

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