Low cost strategy
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Low-cost strategy(also Low-cost price) is a pricing strategy characterized by low prices of goods and services using various saving methods. The company skillfully reduces real costs, which contributes to more customers and thus increases its sales.For example, two companies produce the same product, sell at the same price, but a company with lower costs will earn more because it has a greater profit on sales [1].
These companies don't pay attention to the quality but the number of goods and services sold. This is how the market of "cheap companies" is shaped. The strategy is hassle-free, because the only tool it uses is to minimize costs. It is important to have large capital, high technical capacity and invest in the latest technologies that save costs [2].
By focusing on reducing costs, we become a low-cost provider. It has a strong competitive approach that displaces companies sensitive to price changes. The cost advantage over rivals is the basis for applying this strategy. Companies choosing the assortment suggest products that the buyer considers necessary. To implement the strategy and become a low cost provider, you need to achieve its maximum effectiveness. The strategy introduced should be difficult to kick or match with rivals [3].
Examples of low cost strategy
Here are a few examples of companies that have successfully implemented a low-cost strategy:
- Walmart: Walmart has long been known for its low prices, achieved through economies of scale, efficient supply chain management, and a focus on process efficiency.
- Ryanair: The Irish budget airline has successfully implemented a low-cost strategy by offering no-frills flights, low prices, and charging for additional services such as baggage and seat selection.
- IKEA: The furniture retailer offers a wide range of affordable products, achieved through efficient supply chain management, economies of scale, and a focus on simplicity and function over form.
- Amazon: Amazon's low-cost strategy is based on efficiency and economies of scale, achieved through its advanced logistics and distribution network, and automation in warehouses.
- Southwest Airlines: the company has been known for its low prices, achieved through a focus on efficiency, a no-frills approach, and a simplified fleet of aircraft.
- Aldi : The German supermarket chain Aldi has a well-established low-cost strategy, this is achieved through its focus on own-brand products, efficient supply chain management, and minimal store design.
- Dollar General: The discount retailer offers a wide range of products at low prices, achieved through a focus on cost-effective sourcing and efficient store operations.
Variants of implementing the low-cost strategy
The company has two options to implement a low-cost strategy[4]:
- Using a lower price to attract sensitive price buyers and thus force price reductions among competitors, to increase total profits
- Maintaining the current price comparable to other low-priced rivals by using lower costs and thereby increase the profit margin on each unit sold and return on investment
In wider meaning of this term whe can find more ways a company can implement a low-cost strategy:
- Economies of scale: By producing a large volume of goods or services, a company can spread fixed costs over a larger number of units, resulting in a lower cost per unit.
- Process efficiency: A company can use efficient technology, automation, and streamlined processes to reduce the cost of production.
- Outsourcing: A company can outsource certain functions or production to countries where labor and materials are cheaper.
- Supply chain management: A company can negotiate better deals with suppliers and optimize its logistics to reduce the cost of raw materials and transportation.
- Lean management: A company can use Lean management principles to eliminate waste and improve efficiency in production, resulting in lower costs.
- No-frills: A company can offer a no-frills version of a product or service which is less expensive but less feature-rich or luxurious than its competitors.
- Volume discounts: A company can offer volume discounts to customers who buy large quantities of goods or services, reducing the cost of sales.
Benefits of low cost strategy
A low cost strategy can provide several benefits for a business, including:
- Increased competitiveness: By keeping costs low, a business can offer products or services at a lower price than its competitors, making it more attractive to price-sensitive customers.
- Increased market share: Lower prices can attract more customers, allowing the business to increase its market share.
- Improved profitability: By keeping costs low, a business can increase its margins and improve its overall profitability.
- Reduced risk: A low cost strategy can reduce the risk of financial loss if market conditions change or demand for the business's products or services decreases.
- Greater flexibility: A low-cost structure can also give a company more flexibility in its operations, allowing it to respond more quickly to changes in the market.
- Easier to scale: A low-cost business model is often easier to replicate and scale to other locations or markets.
Risks of low-cost strategy
Companies that strive for low-cost as cheap manufacturers or service providers are becoming a heavy burden for the company. Low-cost strategy is vulnerable to risks such as [5]:
- Constantly introduced technological changes are a big problem for earlier investments because they cease to be valid
- Risks associated with imitation by later companies that use the cheap learning method
- By minimizing costs, companies don't pay attention to individual needs and preferences of customers
- Companies due to unforeseen cost inflation, which negatively affects the company's tendency to offset product differentiation through cost leadership
Therefore, implementing a low-cost strategy can come with certain risks, such as:
- Quality issues: In an effort to reduce costs, a company may cut corners on quality, which can lead to customer dissatisfaction and a loss of reputation.
- Dependence on low-cost suppliers: A company that heavily relies on low-cost suppliers may become vulnerable to supplier disruptions or price increases.
- Price wars: If a company's low-cost strategy leads to lower prices in the industry, competitors may respond by also lowering prices, leading to a price war and reduced profits for all companies involved.
- Brand perception: A company that is known for low prices may struggle to attract premium customers or to increase prices in the future.
- Limited market: A low-cost strategy may only be successful in price-sensitive segments of the market and may not be sustainable in the long-term.
- Cost escalation: A company may find it difficult to maintain low costs in the long run due to factors such as wage inflation, increased competition, and supply chain disruptions.
- Reliance on cost cutting: A company that is heavily focused on cost cutting may not invest enough in research and development, marketing, or other areas that are important for long-term growth.
Porter's theory
It is worth mentioning Porter's theory. He distinguished two strategies to increase long-term competition on the market. The first model is characterized by minimizing costs at a level lower than that of the competition, thus increasing the profit margin. Costs are reduced most often when using economies of scale. Companies offer a standard product, without any additions. It is worth adding that there is only one place on the market for one company that applies this strategy, and then I become a cost leader. The rest of the competition most often loses market share or changes strategy. Another model concerns the reduction of costs for research and development as well as advertising and marketing. The second strategy Porter mentioned was to create unique products. The strategy is aimed at loyal brand customers, offering them a unique design and best quality products [6].
Footnotes
References
- Baldwin D. (2014), Strategy: Low Cost or Differentiation
- Diaconu L. (2009), Strategic options of the low-cost companies ,Faculty of Economics and Business Administration in Romania, Romania
- Kankam-Kwarteng C.,Osman B., Donkor J. (2019) Innovative low-cost strategy and firm performance of restaurants: The moderation of competitive intensity, Emerald Publishing Limited
- Porter M.E. (1998), Competitive advantage: Creating and Sustaining Superior Performance The Free Press, New York,
- Tanwar R. (2013)Porter’s Generic Competitive Strategies, IOSR Journal of Business and Management
Author: Natalia Woźniczka
