How and why did the personal computer Industry come to have such low average profitability? Following IBM “open architecture” strategic development model in the early days of the PC market, PC’s were generally comprised of mostly non-proprietary technology. With the notable exception of Apple, the vast majority of PC manufacturers produced a product based on the hardware standard set by IBM, In conjunction with Intel microprocessors and Microsoft software components (a platform which came to be known colloquially as WINTER).
These latter two, comprised the most valuable component of a PC, as they were protected by repository rights of their manufacturers, whereas the various components produced by PC manufacturers were vulnerable to copying. This solution created a high competition environment of “IBM clones”, and drastically reduced the profit margins that PC manufacturers were able to achieve and maintain. The common distribution and sales strategies among PC manufacturers did little to alleviate the problem of Increasingly slim margins.
At the time, PC’s were sold through distributors, wholesalers and resellers, who preformed additional functions (such as advising lay customers and servicing them), yet ultimately lengthened the Value Chain and thus Harlan the manufacturers’ marginal profit. Vigorous price wars between competing manufacturers further diminished profit margins. Hardware components could be purchased from a multitude of worldwide suppliers in an increasingly competitive global market, whereas microprocessors were supplied by a handful of companies, dominated by Intel.
To make matters worse, as a given generation of processor aged, the price of the computer containing It declined rapidly. This meant that PC margins were typically highest during the early days of a microprocessor generation. In addition, widespread policies such as inventory buybacks of outdated products and rice protection offered to retailers against devaluation, consumed 2. 5 cents on every dollar of revenue. Managing these policies, together with the costs of advertising to resellers and funding for market development, generated costs of 2. 5 cents more on every dollar of revenue.
Question 2 Why has Dell been so successful despite the low average profitability In the PC industry? Dell’s Direct Model of marketing to end customers, which was established early in the company’s history, was to become the driving force behind its wild success. This is easily demonstrated by the company’s brief departure from its Direct Model, In favor of the standard retail store based marketing. Resulting In a loss on products sold through retailers, this strategy was quickly abandoned and the company returned to its tried and proven direct approach.
Dell had recognized that the PC industry (as described above) was inflicted with rampant inefficiency in the distribution and marketing chain. The ensuing effect was a price point for a PC unit far in excess of the value of Its parts. By the time a PC reached the end client, so much time had passed and so many extra costs had been added, that a $3000 PC 1 OF 7 old. By assembling the hardware components himself and marketing the finished product directly to the end customer, Dell would eliminate the middlemen, creating added value for both himself and the customer by splitting the middleman’s profit between them.
The fundamental logic of Dell’s position is as follows: for a certain set of customer described below, Dell manages to achieve very low costs without sacrificing a great deal of buyer willingness-to-pay. On the end-customer dimension, Dell has focused on knowledgeable customers who want product stability, high-end performance and low total lifetime costs. On the product dimension, Dell avoids the low end of the price spectrum (sub-$1 ,OHO) and focuses on stable product lines. On the geographic dimension, Dell is more focused on the US than all of its rivals except Gateway.
Question 3 Prior to the recent efforts by competitors to match Dell (1997-1998), how big was Dell’s competitive advantage? Specifically, calculate Dell’s advantage over the team of Compact and a reseller in serving a corporate customer. How big was Dell’s competitive advantage? In a word – Big. In addition to the Direct Model, Dell pursued competitive advantages in other areas as well. Of these, several are particularly notable: ; Customer Segmentation – As the company grew it began to employ increasingly complex customer segmentations in order to maximize its marketing and customer service efficiency.
Thus, a humble twofold segmentation model (large clients and small clients), evolved within a few years into a mammoth multi category model. ; Sales – As dell had grown, it subdivided its sales effort by region, and into countries within each region. In this way, Dell was able to take advantage of unique local advantages as well as improve its managerial efficiency. ; It is important to toe, that the above actions taken by Dell, while clearly improvements of service and efficiency, can truly be considered advantages only so far as they differentiate Dell from its competitors (this is not clear from the case study).
If, however, these actions simply put Dell on par (not to mention sub-par) with the rest of the industry, its success cannot be attributed to them in any significant way. ; Online Services – Dells expanded its online services tremendously in 1996 with the launch of its improved website. The website offered the ability to obtain product information, configure a imputer system, check pricing, place an order and track orders of products. In addition the website allowed access to Dell’s complete catalogue of service.
For thousands of premiere corporate customers, Dell had designed dedicated secure pages within the website, containing pertinent information and personalized service. By 1998, sales originating from Dell’s website reached a whopping 10 million dollars per day. ; Dell also ventured tentatively back into the reseller market – selling its older systems to a limited number of resellers at a 15-20% markdown from its listed price. However, Dell did not offer price protection or buybacks, thus avoiding the added costs related to these common practices, while disposing of its devaluing inventory.
This activity, though limited at first, would eventually come to encompass 5% of Dell’s total sales. ; Production, logistics and procurement – Dell’s PC’s we for based on actual orders, so that the company need not hold any finished goods inventory of standardized machines. Yet despite this “a la carte” ordering and manufacturing, Dell was able to produce a product, from order entry to shipping in about a day and a half!. Thanks to a streamlined assembly line production process, Dell was able to supply its products markedly faster than the competition while still holding far less inventory.
In addition, Dell has found that this system leads to less defective products. Dell also leverages this system to cater to corporate customers, incorporating the loading of customers’ proprietary software on the PC into the production process. The ability to quickly supply emergency rush orders as well as extremely high volume orders to corporate customers, is another advantage of Dell’s superb production system. Last, but hardly least, the quality of Dell’s products and customer service were of superior quality, ranking highly in most surveys relative to its competitors.
Compared to this, Compact was at a serious disadvantage in many ways, pertaining to both private and corporate customers. To begin with, Compact did not market its products directly to the end customer, but instead distributed to customers mostly through retail stores and resellers. This meant Compact would have had to share part of its profit margin with a reseller, as well as incur the significant costs of buybacks and price protection. Compact PC’s were also significantly less customizable and its production process far less sophisticated. Consumer PC’s were manufactured as standard units, distributed mainly through retailers.
Attempts at direct distribution via a toll-free telephone number failed to take off, mainly since Compact kept its prices high in order to avoid angering its supply chain. Likewise, efforts to establish a functional website for direct distribution were abandoned in the face of objections by the distribution chain. As for corporate customers – Compact built its corporate PC’s according to demand forecasts made by its supply chain. Although this allowed Compact to hold its inventory for only 30 days (still much more than Dell), reseller inventory holding periods, meant the product still took about 65 days to arrive at the customer.
Question 4 How effective have competitors been in responding to the challenge posed by Dell’s advantage? How big is Dell’s remaining advantage? Initial measures by Compact aimed at challenging Dell’s advantage, were a limited success. In 1997, Compact initiated an Optimized Distribution Model (EDM): a coordinated effort with its distributors and resellers. Under this model, private customer units were manufactured subsequent to ordering. More customized units as well as corporate orders, required a two-step assembly, shipping a striped-down PC to its distribution channel, which would complete the last 20% of assembly.
Additionally, price protection was reduced to only two weeks. In spite of these extensive measures, delivery time remained in the 45-50 days range, although this was expected to eventually be reduced to as little as 25 days. This time frame, though improved, posed no significant challenge to Dell’s superiority. In late 1998, Compact initiated its Directress program, selling customized units to small and midsized companies wrought the telephone and internet, at a lower price than those charged by retailers. Days on average.
This last development represents a significant bite into Dells advantage, with the shipping time being equal or less. However, it is important to note that Dell still maintains a significant lead in several respects. First, the line of products sold in the Directress program is limited. Second, this program caters to small and midsized businesses, lending no improvement to Compass’s big-business and private customer operations. Compact also lacked an operational website for private customer purchases and dedicated corporate customer service. IBM was among the first to recognize and respond to Dell’s advantage.
The company moved to an Authorized Assembly Program (PAP), shipping striped-down “model O” PC’s to its distribution channel, which would finish the assembly process according to order. This allowed for greater customizable and a less depreciable inventory, alongside an improved inventory turnover rate. Despite this improvement, IBM continued to produce model Co’s according to its own demand forecasts, thus maintaining a significant inventory. In 1994, IBM launched a website which allowed customers to purchase PC’s directly from the company.
Although a step towards combating Dells advantage, Vim’s website was geared toward private customers only and was not available for corporate customers. In addition, the site did not offer the range of services available on Dell’s website, nor did it enable the customer to customize the PC. A later addition of a service geared toward corporate customers, which allowed them to by directly from the company, further improved IBM position. Yet the limited line of products offered, together with the persistent lack of a dedicated customer service website for corporate customers marred this success.
In 1997, shortly after Compact launched its EDM program, HP unveiled a similar program by the name of Extended Solutions Partnership Program (ESP.). HP would ship orders to resellers as usual, or to the end customer if the reseller so requested. The program was similar to ‘Mob’s model O, with the members of the distribution channel completing the final stages of assembly. Despite this similarity, Haps attitude to direct distribution was quite different. They believed that circumventing the resellers would cause antagonism and lower sales. Thus, HP avoided selling directly to end customers initially.
When the company eventually established a website in 1998, it was not based on direct sale but on delivery being done through resellers. The website was anticipated to allow the reduction of price protection to 2 weeks, reduce defects and shave 5-15% off the price. Later, HP introduced direct sale through its website, however this service was only available to private customers, while corporate customers were still confined to purchasing through resellers. These improvements, as stated above, are still a far cry from the services and products available on Dell’s website.
Dell also maintains its production and inventory advantages relative to HP. To combat declining operations in 1997, Gateway opened 144 Gateway stores across the United States, which served as showrooms for the company’s products and where customers could order PC’s. However these stores held no inventory. In tandem, Gateway abandoned their efforts to obtain large corporate customers and began focusing on small businesses. Finally, “Gateway Partner” was established as a subdivision dedicated to reseller business. As is easily apparent, Gateway made some measure of improvement in the direction Dell has dictated.
However, Gateways seems destined to occupy an ever diminishing place in the PC market, targeting small businesses and private customers. As is evidenced above, Dell maintains advantages in the areas of production efficiency and customizable, inventory management, direct distribution and online service (especially as concerns corporate customers). It has no doubt lost some part of its once vast advantages (for example Compass’s reduced delivery time), yet it undoubtedly still holds a superior position to its competition. Question 5 What should each of Dell’s major rivals (MM, Compact, HP, and Gateway) do now? Attempting to be more responsive to customer’s needs. For example: Soliciting customer feedback, Creating a forum for customers to suggest and rate improvements to products, Co-creating products with customers. 2. Match or exceed Dells website. Create a viable platform to cater to both private and corporate customers and implement a personalized online customer service for high end customers (similar to Dell’s). 3. Developing new markets in emerging economies, such as China India and Brazil. The saturation of the PC industry in developed economies has engendered ever intensifying competition.
Customers have become far easier as well as demanding. Emerging economies represent a huge opportunity to take advantage of an as of yet untapped market, where Dell’s advantages may not prove to be so significant. 4. Enter new technological markets, such as laptops, smart-phones etc. Where Dell’s production and supply schemes do not present a particular advantage. 5. Differentiate products in terms of quality and/or design. For example designs by contemporary artists. The main question is why has it been so hard for rivals to match Dell.
The Dell story illustrates a wide range of barriers to imitation: tradeoffs; complexity/fit; preemption; organizational resistance to choice. Based on these difficulties, you should have provided the rivals with prescriptions, and proposed an appropriate course of action. The answer should have discussed the question should the company go wholly to a direct sales model? Would the company be better off split into focused pieces, or at least largely independent units? Grade: 15 out of 17 points Question 6 Apply the VIRGIN model to Dell and its competitors. Demonstrate your understanding of this model.
Resource based view of business and strategic management, stipulates hat a company’s success is determined by its unique collection of resources and competencies. Hence, strategic decisions involve creating and sustaining competitive advantages through the company’s core competencies. Resource-based analysis according to the VIRGIN model dictates that a resource must have four key attributes in order to constitute a sustainable competitive advantage: ; Valuable: Creates value for the firm by taking advantage of opportunities, eliminating threats or allowing the firm to differentiate products / services. Rare: Few or no competitors posses the resource. Imperfectly Imitable: Competitors cannot easily copy or reproduce the resource. ; Non-Substitutable: Equivalent resources that may create similar value are not readily Dells chief advantage, from which most of its other strengths ensue, is its production and supply schemes. As instructed, in the final part of this paper, we shall attempt to implement the VIRGIN model characteristics on these schemes, comparing them to the parallel attributes of Dell’s competitors, with the hope of determining whether or not they constitute a sustainable competitive advantage. Valuable: Dell’s supply chain is valuable, but not as valuable as it used to be. Computer technology as gotten increasingly cheaper over the years, so that even under the assumption that Dell maintains its historical profit margins, thanks to its superior production and supply schemes, this margin is now taken from a lower priced product, thus decreasing the company’s nominal profits. O Due to decreasing prices, Dell may be forced to make difficult compromises in other areas, such as service and product quality, in order to maintain its profitability.
Putting cost before quality is a move that may prove detrimental to Dell’s long term interests. O As computing power has gotten grater, he standard PC is sufficient for supplying the needs of most average users. As such, the value of Dell PC’s superior customizable has decreased significantly. ; Rare: In the past, Dell’s unique production scheme and streamlined direct distribution model allowed for a highly customizable product, unrivaled by its competition. Recent developments, however, have put a dent in this unique advantage.
Vim’s “Model O” approach (and its subsequent equivalents in Compact and HP) as well as other advances such as Compass’s Directress, have offered customers added customizable. However, no other company offers either the extent or the ease of sustainability as offered by Dell through its website. ; Imperfectly Imitable: Dell’s production and supply schemes are difficult, though not impossible, to copy. For the companies historically working with distributors it is quite difficult to achieve disintermediation due to supply chain conflicts.
Manufacturers cannot afford to do without their distributors in the short term, and the distributors will not allow them to move gradually towards disintermediation in the long term. However, in light of Dell’s staggering success, the competition is slowly but surely, converging to Dells approach. If Dell does not begin to innovate in order to counter competitors, it may prove to be a “one-trick-pony” unable to continually maintain its once vast competitive advantage. It is noteworthy however, that Dell has maintained this particular competitive advantage for a significant period of time.
This may well alleviate most concerns regarding competitors’ ability to effectively copy Dell’s model. Non-Substitutable: Dell’s production and supply schemes are not readily substitutable with regard to the desktop PC market. It has proven to be the by far most efficient model conceived, almost simplemindedly creating and maintaining Dell’s dominance of the PC market. However, recent years have seen the rapid decline of desktop PC’s as the dominant form of private and corporate computing product.
Laptops, game consoles and smart-phones now occupy an ever growing portion of the computer market. With regard to these emerging products, the advantages of Dell’s production and supply schemes, versus its competitors, are virtually nonexistent.