Low-cost Imports Are Here Stay: So what can you do?
With a slowdown in any economy and impending closure of many major manufacturers in Australia, it is a good time to look at how companies can compete with the growing tide of low-cost goods arriving on our shores. A recent example of an Australian business doing well is that of Metrocount, specialists in traffic data that export to overseas markets. There will be a need for many more businesses to protect themselves from low cost and low wage competitors come in to our market place. Add to these the free trade agreements that are being done by the federal government.
Low wage countries have a significant impact on Western firms involved in the production of labor-intensive goods. The higher wages in these countries make it difficult for these organizations to remain profitable. This is not the case for companies that are involved in industries that are more capital and skill intensive. By switching to products that are more skill and capital intensive, an incumbent can retain their competitive advantage and make it difficult for low cost country competitors to imitate. If done well, incumbents can achieve a true competitive advantage once again by limiting further new entrants through higher product quality. A major source of decline for many U.S. and European manufacturers has been the decline in market share to product from low cost countries and not from any drop-in demand. It may not always be possible for these companies to shift from being labor intensive to a more capital and skill intensive industry due to various constraints, size for example. A distinctive strategy is needed for incumbents already in a highly competitive environment that allows them to utilize their critical resources to achieve a competitive advantage. The choice of strategies for large firms is a lot wider than that of smaller companies due to their access to resources. Strategy choice for incumbents depends on the quality and intensity they face from low cost competitors. Having quality resources available is critical for firms to be able to compete, in particular is the quality of managerial resources which can be difficult for smaller firms to access. There is evidence to show that there are U.S. manufacturers that are utilizing industry switching, growth and exit strategies in an effort to keep their comparative advantage.
The Heckscher-Ohlin model of international trade states that comparative advantage arises when certain resources are plentiful; it therefore surmises that countries such as Australia and the U.S. have an abundance of capital and skill are expected to utilize this mix in their manufacturing behavior. Countries such as China that have an abundance of labor will therefore be involved in more labor-intensive industries. This abundance of labor results in lower labor costs and can be exploited in many different products. This contrasts with the current situation involving low wage country exports. Heckscher-Ohlin suggests China is more suited to competing with Vietnam than the U.S. or Australia. The product penetration Chinese exporters have achieved is also in contrast to this model, the relatively low prices the products receive is consistent however, as their products continue to sell for cheaper prices than similar products from Western firms.
Incumbents that plan to survive in the face of low cost competitors from low wage countries will need to offer the market differentiated product, sell an experience and continually innovate to stay ahead of their competition. Some U.S. firms have managed to compete successfully against Chinese imports by improving response times in product development and improved equipment maintenance.
Research from only a decade ago indicates that many dominant firms, particularly in the U.S., were slow to respond to markets undergoing change as they had become top heavy and uninterested in exploring manufacturing innovation. This failure to continually develop their manufacturing technology has seen the migration of production competencies from developed countries to these new production countries. Low tech firms are most at risk from low cost competition and face significant challenges in avoiding growth and survival. This ‘shake out’ will result in a decline of the less productive firms for low cost imports to compete with. As low-cost countries take on more of the labor-intensive manufacturing, the development of new knowledge from these activities increases. This is due to the manufacturing activity being closely aligned with innovation, this is apparent in countries like China where technology is being absorbed faster at a record rates increasing the quality of their exports.
The challenge for many companies is to reduce their manufacturing and R&D costs so they can offset any competitive advantage a low-cost country competitor may have. This can be challenging to incumbents as they traditionally spend larger amounts on R&D than smaller competitors. The ability for organizations to aspire to mastering manufacturing may be on the decline and not be as relevant any more as more product becomes available from global competitors, the manufacturing skills become less relevant compared to the ability to source cheap labor. How effective cost reduction strategies are for incumbents needs to be monitored as many suppliers of imported products have a substantial cost advantages that may not be easily replicated. Low cost competitors from China optimize equipment once and have vast labor resources that can be exploited for large volume production. Any advantage in labor costs can be lost however if shorter production runs are required as they can be time consuming and expensive.
Many industry incumbents find comfort in competing with the competitors they know and are familiar with, many of whom have similar competencies to themselves. The existing status quo means that strategies are developed based on the value chains of existing competitors. This is evident in many different industries; Microsoft and Apple, Coke and Pepsi, Qantas and Singapore Airlines. The new competition coming from low cost countries do so with different technologies and business models, yet many incumbents treat them as if they are traditional rivals. It is even more dangerous if incumbents treat them a though, they do not matter and fail to recognize their significance. Ignoring low cost country competitors can lead to incumbents exiting complete market segments and even if they do respond and set off price wars, it is usually the incumbent getting hurt through a reduction in margins. This can be a difficult balance as there is evidence to suggest price cutting may be a solution to deterring entry in mature markets. By focusing on a limited segment, low these competitors concentrate on delivering a basic product and back it up with lower prices and operations that are more efficient than the incumbents. This enables them to keep cost down and result in lower margins; however, by utilizing different business models to the incumbents, they are able to achieve higher operating profits. Incumbents that use a cost reduction or a cost leadership strategy end up losing market share and their competitive position eroded. The only firms that are left able to compete are new entrants with even lower costs.
Low cost competitors utilize the value chain to reduce prices and turn the incumbents, who are often less flexible, momentum and mass against themselves. The competencies and resources of domestic incumbents are drastically different from those of the low-cost competitors from low wage countries. Incumbents find it impossible to replicate the rival’s value chain due to higher labor costs and organizational structures that have become rigid. Manufacturers in low cost countries benefit from low input costs that enable them to use as a competitive advantage when entering Western markets. It is not just labor costs that benefit these manufacturers, there are other factor costs also; there is evidence to shows that many industries receive government subsidies to ensure they remain competitive. It is difficult for local firms to source information on these low-cost competitors as there is a certain amount of ambiguity exists. Low cost competitors may display traits that indicate they have product quality and a wide range of experience; however, many state-owned exporters may have very little experience and product quality. This redesigning of the value chain results in the cutting of costs in established markets through minimizing the more expensive activities such as marketing, product design and R&D. A key strategy low cost country competitors use when entering a new market is to focus on a limited amount of product range and standard product designs that are already widely accepted.
A major risk to incumbents from low cost country competitors is that they persuade customers to alter their buying behavior by getting accustomed to buying product at lower prices and accepting fewer benefits. The successful low-cost competitors have the ability to change the competitive landscape. This can result in margins being reduced significantly. The twofold effect of consumers becoming contemptuous towards brands and the ease of researching alternative products and suppliers via the Internet has meant they now are more open to offers that demonstrate value for money. For an incumbent to start meeting the rival’s prices will only reduce their profits and will not assist in forcing low cost competitors out of the market. If one business can win a customer on price, a rival will need to offer a lower price top win them back. Evidence has shown that price wars do not benefit incumbents. For incumbents to be able to deliver benefits to their customers they often must incur large costs, this results in a premium that is put on their products pricing that some customer is driven away.
A possible solution for incumbents to avoid failure is to merge or acquire their rivals, shift production off shore or set up low cost operations themselves by exploiting comparative advantage. By establishing an alternative brand, they can communicate to the market that fewer benefits are available at a lower price and customer expectations can then be associated with the low-cost business. Many incumbents will need to decide whether to stay in existing segments or to move to segments where competition from low cost countries is less intense. Another option for incumbent to compete with low cost competitors is to become a provider of solutions to customers. The incumbents will need to develop actions that allow them to maintain their profitable positions or become more competitive and grow in their specific market segments. In particular for manufacturing firms, this may be achieved by offering custom products, delivery solutions or engineering assistance. By working with their existing customer base, an incumbent should be able to understand customer problems and design solutions that benefit any identified needs. More investment will need to be made, by capital intensive incumbents, in innovation activities as they face increased competition from low cost competitors.
Because there will always be consumers who base their purchase decisions on price and those who are biased towards value, markets will have room for low cost and value-added suppliers. In an attempt to move quickly and respond to low cost competition, incumbents can end up in price wars on the competitor’s terms. In order to beat the threat of these competitors it is crucial that they are identified early and dealt with before they get a decent foothold. By adopting the mindset of the new competitor, in may be possible for incumbents to anticipate their next step and adopt strategies to suit. If a firm can shift the low-cost competitor from competing on price alone, they may find the new rival is less competitive in other areas. To beat the low-cost competitors, the incumbent needs to stop the bleeding and implement a strategy that re positions the firm for success. Six key points when competing with low cost competition;
- don’t wait for new rivals to hit you
— don’t respond without first developing a plan
— don’t focus solely on current competitors and current products
— don’t drop your guard against traditional competitors
— don’t try to defeat low cost rivals by cutting price alone
— don’t underestimate the extent of the change management involved
More local businesses will disappear in the face of the globalization of brands and increase in imports. You can only do what is in your means to compete in the long term. The message is simple though, don’t leave it too late.
