A competitive advantage gives you a temporary edge vs. competitors. It should let you find customers at a lower cost or charge more.
Whether or not you’ll retain that competitive advantage depends on its defensibility. A defensible advantage is hard to replicate.
If your business is defensible, it has multiple defensible competitive advantages and can probably price its offerings high enough to earn a solid profit.
Apple, a borderline monopoly, and somewhat predatory, nonetheless has several defensible advantages:
Strong brand. We associate it with beauty, good design, ease of use, fashion, and being upscale. This gives it pricing power over Android and PC.
Network effects. The app store has lots of users, and therefore a lot of developers. Each user and/or developer make it more valuable. This lets them take a 30% tax on all app store purchases & ad revenue.
Embedding. Apple’s products are embedded into our lives and habits. We learn how to use them over time, have all of our photos, apps, and messages stored in them, so it’s hard to switch. We also have iPhone only charges and accessories everywhere.
Scale. They sell a ton of units and keep unit costs and overhead/unit low. This leads to big margins. They also have a large retail footprint that’s only feasible because they sell so many units. Fitbit is won’t be able to build have a network of 75k square foot stores in every major global city.
Product breadth. Messaging on my iPhone works on my macbook. People can only sync their Apple watch to their iPhone. Airpods only work with the iPhone. Everything stays in sync. Happy iLife! So if you want to switch off of one product, it’s harder.
Most competitive advantages aren’t this extreme, and that’s a good thing. But Apple is certainly defensible and its market cap of over $1T validates how much that future stream of profits is worth.
For smaller businesses, these advantages can all apply. However, there are other competitive advantages that matter too. They may not be as defensible as network effects and deep embedding, but those aren’t common.
Here are a few other, more attainable, competitive advantages that can lead to enough defensibility to deliver healthy profits and growth:
Deep customer relationships. You build these over time and then customers are less likely to switch because of comfort, trust, and interpersonal connection with you and your brand.
Product or service innovation. Launching a new solution that your customers value, and that your competitors don’t yet have, can give you a temporary boost in sales. It can lead to defensibility if there are switching costs and product breadth factors involved. It can also improve your brand image.
Employee knowledge and skills. Again, this is built over time. On day 1, a startup has an average tenure of 1 day, and likely very little skills and knowledge specific to the business. On year 10, it might have an average tenure of 4yrs+ (depending on employee growth and overall churn). This can lead to more effective employees across every function, which can boost all other competitive advantages.
Internal processes and technology. Similar to the above, these are the actual processes and technology used within the business. These can be invested in and improved over time, leading to an advantage that’s tough for competitor’s to even see. This leads to more effective sales & marketing, and lower unit costs and overhead.
Culture. A unique set of values that resonate with employees, potential recruits, and customers can be a big advantage. Basecamp is a good example here. They get hundreds, sometimes thousands, of applications for every job post and have their pick of top designers and developers. They have low employee churn which reduces recruiting and training costs. A lot of customers even use their product because of these values, and they wouldn’t switch to get a lower price. Culture is a component of brand, but it’s deeper because it touches the company’s internal beliefs and actions.
Most defensible advantages require thoughtful investment over a long time horizon. You have to select the ones you can reasonably obtain and then make a plan for investing in them. And you have to stick to it, even when results aren’t immediate.
The healthiest advantages — from an ecosystem viewpoint — don’t just try to extract rent from customers. They’re built in a way that increases your value to customers, makes your company a more fulfilling place to work, and allows you to grow sales and profits sustainably.
With any big investment, either money or time, ask yourself: is this going to build long-term value for my customers, employees, and investors? For example, if you want to acquire customers, you can buy ads on Facebook or Google. By year 5, you’ll still be buying ads and likely paying even more per customer because competitors will have moved in.
Conversely, you can build direct relationships through sales, or can create your own content that generates interest. On day 1, you won’t have many customers. But by year 5, you’ll likely have a knowledgeable sales force with a lot of direct relationships and/or a deep pool of content that brings in customers at a low cost and builds your brand. Both are tough to replicate. Buying online ads is easy to replicate.
The same simple reasoning can be applied to hiring (invest in a long-term employee relationships), training (do it), internal processes and systems (take the time to optimize them), and culture (stand for something, live it, and find new ways to live it as you go).
