Differentiation versus De-commoditization: Strategies for Haves and Have-nots

Differentiation is seen as a value building, remunerative strategy in product and business development. Differentiation as a strategy evolves along with industry structure. When an industry is built around a first time pioneering monopoly product, differentiation is of academic interest as the product constitutes the entire industry. As new players with identical or similar products enter the industry, differentiation emerges as the differentiator amongst different firms. However, when competition reaches a saturation point, the feasibility of differentiation declines even as the importance for cost leadership climbs up. Popularly, when competition becomes intense and differentiation becomes difficult, a product is seen as a commodity product. As an axiom, differentiation tends to be inversely correlated with commoditization, and vice versa. Yet, firms with investible resources tend to pursue differentiation as a premium strategy even in commoditized industries.

Differentiation tends to be primarily on product technology. In certain cases, it can be in terms of branding, channel marketing and point of sale strategies. Technology-driven differentiation tends to be more robust and sustainable relative to other forms of differentiation. Firms can seek to be differentiated not only by offering highly unique products but also offering a diverse range of products. In many cases, single product differentiation becomes vulnerable and firms are forced to field a broad range of products to meet multiple consumer needs. There was a time when Maruti-Suzuki held almost 100 percent of the Indian car market with only one product, the 800cc car. Yet, its dependence on small cars coupled with entry of other global car manufacturers in India led Maruti-Suzuki cede 50 percent of its share to competition. Diversity for a firm leads to differentiation of sorts. Diversity does not, however, stop commoditization. Many analysts equate with commoditization with genericization, and vice versa. This, however, is not necessarily true.

Commodity

In strategic discourse, commoditization is a concept that is used rather extensively as a driver or outcome of competition. Compared to innovation, commoditization figures more prominently as an inevitable concomitant of a developing industry structure. Many analysts suggest that commoditization is a direct consequence of lack of competition on one hand and excess of competition on the other hand. It is now hypothesized that no industry, however technologically advanced it is, can escape commoditization. For example, unbridled competition in smart phones is making the high-technology products look like commodity products, freely available off-shelf; a proof that no product group can escape the specter of commoditization. However, commoditization is not just related to competition.  Understanding the theorem of commoditization in strategic parlance requires the understanding of the word itself. Common words often get layered with folklore especially in strategic discourse!

Simply put, commodity is a raw material or a product that can be bought and sold. Some analysts believe that materials that do not have differentiating characteristics are free commodities. Some others believe that even when no differentiation exists, the demand-supply equation determines if certain products are precious commodities. Some commodities like oil, gold and water, which are non-renewable natural resources in varying degrees, tend to be precious while some like grains and metals whose production can be stimulated tend to be more freely available commodities. Some believe that products and materials that are nature’s gift are commodities while products and materials that are worked by human design and manufacture are considered non-commodities. Even this approach does not work because a product of great human effort like steel is often considered a commodity. In a sense, there is no straight correlation, in any combination, between natural occurrence, human development, preciousness, differentiation that can define commoditization.   

Commoditized shakeout

Commoditization is a resultant of a number of factors: abundant natural availability, ready usability, shared characteristics, surfeit of capacity, basal need fulfillment and so on. Any product, even if reflecting the highest level of human ingenuity, can become commoditized with time. Any commodity could also turn precious and differentiated if it ceases to be naturally available, gold for example. A commodity could become differentiated if it can be worked on to imbue special characteristics, diamonds that are cut uniquely for example. If a commodity like oil can be developed to reduce friction and reduce pollutants it becomes differentiated. When first introduced, a mutual fund instrument could have been very special but today it is completely undifferentiated and commoditized. The same with a special lending instrument like housing finance. It was made differentiated with a specially established institution, Housing Development Finance Corporation but with all the banks treating housing finance as a key component of their lending portfolio the instrument has become commoditized.

Commoditization is a concomitant of two principal factors: easy availability of materials and easy availability of technologies. Together, they determine the height of entry barriers to an industry. When faced with this, the first response of the firms and industry is to drive down the entry barriers even more, almost to a level of a shakeout in the industry. Emerging markets such as India are particularly prone to the phenomenon of commoditized shakeouts. Several industries, as diverse as motor pumps, lubricating oils, airlines, television channels, home foods and bulk drugs, to quote a few are witness to the commoditized shakeout phenomenon. The strategy adopted by most firms, when faced with commoditization, is to seek cost leadership to avoid being the victims of shakeout. This strategy has clear a floor level of cost-price below which it cannot be pursued, except at the risk of self-annihilation. The ideal strategy to address this is to have differentiated products all across the firms but it is easier said than done. As mentioned earlier, only a few firms which possess high technology and resources can hope to pursue differentiation in the face of commoditization (the “Haves”). If differentiation is for the Haves, the Have-nots need a relevant strategy; this blog post proposes de-commoditization as a novel strategy for the Have-nots.   

Differentiation for the Haves

Differentiation is not a mere function of financial resources. It requires visionary ideation and smart strategizing. Technology that continually fulfills higher levels of needs helps in differentiation. Basic human needs of communication and socialization are continuously expressed through different levels of technology, from the early telegraphy to modern day satellite communication. Socialization has kept pace with communication technologies but have essentially utilized the communication portals and cloud infrastructure. Future technologies could be extensions of human intellectual and physical activities. Socialization can take the reverse route to induct robots as part of everyday life. These kinds of differentiation requires two types of Haves, having technological innovation as the first core competency and customer outreach as the second core competency.

The possession of these core competencies enables firms to continuously innovate new products that fulfill the human needs in completely different manners. Those who utilize the core competencies to undertake only incremental innovations cannot achieve true differentiation; on the other hand, they deliver small incremental improvements through high levels of technology, leading to adverse cost-value relationships. Those firms which have true technological and market competencies are truly firms of destiny for industry evolution. While the pioneers qualify almost naturally for the differentiator role (for example, Cadbury’s in milk chocolates, Danone in dairy products, Kellogg’s in breakfast cereals), time to time new differentiators emerge (for example, Nestle with KitKat). The Haves should rightfully concentrate utilizing their core competencies to setting newer product trajectories. Given that this requires huge investments, the Have-nots would need a different approach.

De-commoditization for the Have-nots

De-commoditization at one level is responsible business management. It avoids trivializing a product through self-destructing strategies. Launch of a new product at a huge price premium but immediately offering buybacks and cash-back discounts trivializes technologies and products. The first step towards commoditization is an almost unintended consequence of volume-driven marketing or cost reductions. The right strategy of de-commoditization is to hold, and if possible even reinforce, product specifications all through introduction and growth phases of the product life cycle, even in the face of new competition. The second step in de-commoditization is to avoid frivolous market segmentation. While offering products at different value points is inescapable, mindless jumbling up of specifications for driving up product proliferation adds to commoditization. The right strategy of de-commoditization is to keep the product lineup simple and meaningful.

The next challenge of de-commoditization arises when the inevitability of commoditization happens. De-commoditization can happen in one of three ways. The first is by building value adding features in a commoditized product (for example, extending a yogurt product in two directions of low-fat range and high-energy range). The second is modifying a product to deliver two principal functions in place of one principal function (for example, making a gaming device like Kinetic that helps gaming as well as exercising). The third is retro-designing a product to rediscover the roots (for example, bringing smart watch technologies to conventional Swiss watches). De-commoditization requires a disciplined Kaizen mindset that upholds a product’s value in the eyes and heart of the consumer always. It will not require the mega investments that the Haves splurge on differentiation drivers but will certainly need a keen eye for detail and a penchant for simplicity and functionality in a mindset of quality.

Posted by Dr CB Rao on April 6, 2014