Competitive Advantage

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What is 'Competitive Advantage'?

Competitive advantages are conditions that allow a company or country to produce a good or service at equal value but at a lower price or in a more desirable fashion. These conditions allow the productive entity to generate more sales or superior margins compared to its market rivals. Competitive advantages are attributed to a variety of factors including cost structure, branding, the quality of product offerings, the distribution network, intellectual property and customer service.

BREAKING DOWN 'Competitive Advantage'

Competitive advantages generate greater value for a firm and its shareholders because of certain strengths or conditions. The more sustainable the competitive advantage, the more difficult it is for competitors to neutralize the advantage. The two main types of competitive advantages are comparative advantage and differential advantage.

Comparative Advantage

Comparative advantage is generated by a firm's ability to produce a good or service at a lower cost than its competitors, which generates greater margins on sales. Rational consumers will choose the cheaper of any two perfect substitutes offered. For example, a car owner will buy gasoline from a gas station that is five cents cheaper than others in the vicinity. For imperfect substitutes, for example, Pepsi versus Coke, higher margins for the lowest-cost producers can eventually bring superior returns.  

Comparative advantage can be derived from economies of scale, efficient internal systems and geographic location. Some regions offer lower cost labor or low property expenses. A comparative advantage does not imply a better product or service, only that a product or service of the same value can be offered at a lower price. In the context of international trade economics, comparative advantages are determined by opportunity cost. Inc. is an example of a company focused on building and maintaining a comparative advantage. The ecommerce platform has a level of scale and efficiency that is difficult for retail competitors to replicate. Amazon has risen to prominence largely through price competition.

Differential Advantage

A differential advantage is created when a firm's products or services differ from its competitors and are seen as superior than a competitor's offering. Differential advantages can be driven by advanced technology, patent-protected products or processes, superior personnel or a strong brand identity. These factors support wide margins and large market shares. Apple Inc. is famous for creating innovative products, such as the iPhone, and supporting their market leadership with savvy marketing campaigns to build an elite brand. Major drug companies can also market branded drugs at high price points because they are protected by patents.