Over the past two decades, the transformation to a digital society has

Over the past two decades, the transformation to a digital society has caused many companies to redefine their strategy. Some have had to completely reinvent themselves. For example, the demise of film cameras caused Kodak to change to digital cameras. However, with stiff competition from Sony, Samsung, and others, Kodak ended up filing for Chapter 11 bankruptcy protection and has changed its strategy to focus on large commercial inkjet printers, digital printing presses, workflow software, and package printing. Likewise, Xerox, long known for its paper copy machines, has reinvented itself and branched out into new but risky business services, including commercial information technology, document outsourcing, finance, human resources (HR), transportation, and health care.

Changing a corporate strategy has many implications for operations and the entire value chain. Facilities may have to be reconfigured or new ones built; new technology may have to be acquired; new processes and jobs must be designed; and so on. Looking back at Exhibit 1.7, we also see that all aspects of preproduction services, production processes, and postproduction services will be affected.

What Do You Think?

How do you see the digital society affecting education? For example, what implications are emerging technologies, such as e-books and distance learning, having? Can you think of others?

Gaining Competitive Advantage

Competitive advantage denotes a firm’s ability to achieve market and financial superiority over its competitors. In the long run, a sustainable competitive advantage provides above-average performance and is essential to the survival of the business. Creating a competitive advantage requires a fundamental understanding of two things. First, management must understand customer needs and expectations—and how the value chain can best meet these through the design and delivery of attractive customer benefit packages. Second, management must build and leverage operational capabilities to support desired competitive priorities.

Every organization has a myriad of choices in deciding where to focus its efforts—for example, on low cost, high quality, quick response, or flexibility and customization—and in designing its operations to support its chosen strategy. The opening scenario suggests that organizations have many strategic choices in designing and operating their domestic and global value chains. These choices should be driven by current and emerging customer needs and expectations. In particular, what happens in operations—on the front lines and on the factory floor—must support the strategic direction the firm has chosen.

Any change in a firm’s customer benefit package, targeted markets, or strategic direction typically has significant consequences for the entire value chain and for operations.

Although it may be difficult to change the structure of the value chain, operations managers have considerable freedom in determining what components of the value chain to emphasize, in selecting technology and processes, in making human resource policy choices, and in making other relevant decisions to support the firm’s strategic emphasis.

3-2Understanding Customer Wants and Needs

Because the fundamental purpose of an organization is to provide goods and services of value to customers, it is important to first understand customer desires and also to understand how customers evaluate goods and services. However, a company usually cannot satisfy all customers with the same goods and services. Often, customers must be segmented into several natural groups, each with unique wants and needs. These segments might be based on buying behavior, geography, demographics, sales volume, profitability, or expected levels of service. By understanding differences among such segments, a company can design the most appropriate customer benefit packages, competitive strategies, and processes to create the goods and services to meet the unique needs of each segment.

To correctly identify what customers expect requires being “close to the customer.” There are many ways to do this, such as having employees visit and talk to customers, having managers talk to customers, and doing formal marketing research. Marriott Corporation, for example, requires top managers to annually work a full day or more in the hotels as bellhops, waiters, bartenders, front-desk service providers, and so on, to gain a true understanding of customer wants and needs, and the types of issues that their hotel service providers must face in serving the customer. Good marketing research includes such techniques as focus groups, salesperson and employee feedback, complaint analysis, on-the-spot interviews with customers, videotaped service encounters, mystery shoppers, telephone hotlines, Internet monitoring, and customer surveys.

Basic customer expectations are generally considered the minimum performance level required to stay in business and are often called order qualifiers. For example, a radio and driver-side air bag are generally expected by all customers for an automobile. In the highly competitive pizza business, efficient delivery would be considered an order qualifier. However, the unexpected features that surprise, entertain, and delight customers by going beyond the expected often make the difference in closing a sale; these are called order winners. Order winners are goods and service features and performance characteristics that differentiate one customer benefit package from another and win the customer’s business. Collision avoidance systems or a voice-activated music system in an automobile, for example, Papa John’s Pizza focused on “better ingredients, better pizza” as the order winner to differentiate the business from the competitors. Over time, however, order winners eventually become order qualifiers as customers begin to expect them. Thus, to stay competitive, companies must continually innovate and improve their customer benefit packages.

3-3Evaluating Goods and Services

Research suggests that customers use three types of attributes in evaluating the quality of goods and services: search, experience, and credence. Search attributes are those that a customer can determine prior to purchasing the goods and/or services. These attributes include things like color, price, freshness, style, fit, feel, hardness, and smell. Experience attributes are those that can be discerned only after purchase or during consumption or use. Examples of these attributes are friendliness, taste, wearability, safety, fun, and customer satisfaction. Credence attributes are any aspects of a good or service that the customer must believe in but cannot personally evaluate even after purchase and consumption. Examples include the expertise of a surgeon or mechanic, the knowledge of a tax advisor, or the accuracy of tax preparation software.

This classification has several important implications for operations. For example, the most important search and experience attributes should be evaluated during design, measured during manufacturing, and drive key operational controls to ensure that they are built into the good with high quality. Credence attributes stem from the nature of services, the design of the service system, and the training and expertise of the service providers.

These three evaluation criteria form an evaluation continuum from easy to difficult, as shown in Exhibit 3.1. This model suggests that goods are easier to evaluate than services and that goods are high in search qualities, whereas services are high in experience and credence attributes. Of course, goods and services are usually combined and configured in unique ways, making for an even more complex customer evaluation process. Customers evaluate services in ways that are often different from goods. A few ways are summarized below along with significant issues that affect operations.

Customers seek and rely more on information from personal sources than from non-personal sources when evaluating services prior to purchase. Operations must ensure that accurate information is available and that experiences with prior services and service providers result in positive experiences and customer satisfaction.

Customers perceive greater risks when buying services than when buying goods. Because services are intangible, customers cannot look at or touch them prior to the purchase decision. They experience the service only when they actually go through the process. This is why many are hesitant to use online banking or bill paying.

At IDEO, one of the world’s leading design firms (it designed Apple’s first mouse and stand-up toothpaste tubes as just two examples), design doesn’t begin with a far-out concept or a cool drawing. It begins with a deep understanding of the people who might use whatever product or service eventually emerges from its work, drawing from anthropology, psychology, biomechanics, and other disciplines. When former Disney executive Paul Pressler assumed the CEO position at Gap, he met with each of Gap’s top 50 executives, asking them such standard questions as “What about Gap do you want to preserve and why?,” “What about Gap do you want to change and why?,” and so on. But he also added one of his own: “What is your most important tool for figuring out what the consumer wants?” Some companies use unconventional and innovative approaches to understand customers. Texas Instruments created a simulated classroom to understand how mathematics teachers use calculators; and a manager at Levi Strauss used to talk with teens who were lined up to buy rock concert tickets. The president of Chick-fil-A spends at least one day each year behind the counter, as do all of the company’s employees, and has camped out overnight with customers at store openings. At Whirlpool, when customers rate a competitor’s product higher in satisfaction surveys, engineers take it apart to find out why. The company also has hundreds of consumers fiddle with computer-simulated products while engineers record the users’ reactions on videotape.

Dissatisfaction with services is often the result of customers’ inability to properly perform or coproduce their part of the service. A wrong order placed on the Internet can be the result of customer error despite all efforts on the part of the company to provide clear instructions. The design of services must be sensitive to the need to educate customers on their role in the service process.

General Electric discovered that design determines 75 percent of its manufacturing costs.

These insights help to explain why it is more difficult to design services and service processes than goods and manufacturing operations.

3-4Competitive Priorities

Every organization is concerned with building and sustaining a competitive advantage in its markets. A strong competitive advantage is driven by customer needs and aligns the organization’s resources with its business opportunities. A strong competitive advantage is difficult to copy, often because of a firm’s culture, habits, or sunk costs. Competitive advantage can be achieved in different ways such as outperforming competitors on price or quality, responding quickly to changing customer needs in designing goods and services, or providing rapid design or delivery.

Competitive priorities represent the strategic emphasis that a firm places on certain performance measures and operational capabilities within a value chain. Understanding competitive priorities and their relationships with customer benefit packages provides a basis for designing the value and supply chains that create and deliver goods and services. In general, organizations can compete on five key competitive priorities:






All of these competitive priorities are vital to success. For example, no firm today can sacrifice quality simply to reduce costs, or emphasize flexibility to the extent that it would make its goods and services unaffordable. However, organizations generally make trade-offs among these competitive priorities and focus their efforts along one or two key dimensions. For example, Amazon competes primarily on time, cost, and flexibility. Apple, on the other hand, competes on quality and innovation.


Many firms, such as Walmart, gain competitive advantage by establishing themselves as the low-cost leader in an industry. These firms achieve their competitive advantage through low prices. They do this through high volumes and the efficient design and operation of their supply chain. Although prices are generally set outside the realm of operations, low prices cannot be achieved without strict attention to cost and the design and management of operations.

General Electric, for example, discovered that design determines 75 percent of its manufacturing costs. Costs accumulate through the value chain, and include the costs of raw materials and purchased parts, direct manufacturing cost, distribution, post-sale services, and all supporting processes. Through good design and by chipping away at costs, operations managers help to support a firm’s strategy to be a low-price leader. They emphasize achieving economies of scale and finding cost advantages from all sources in the value chain.

Low cost can result from high productivity and high-capacity utilization. More important, improvements in quality lead to improvements in productivity, which in turn lead to lower costs. Thus, a strategy of continuous improvement is essential to achieve a low-cost competitive advantage.

The only major U.S. airline that has been continuously profitable over the last several decades is Southwest Airlines. Other airlines have had to collectively reduce costs by $18.6 billion, or 29 percent of their total operating expenses, to operate at the same level (cost per mile) as Southwest. The high-cost airlines such as United and American face enormous pressure from low-fare carriers such as Southwest Airlines. A long-time industry consultant, stated “The industry really is at a point where survival is in question.” In recent years, airlines have reduced capacity, cut routes, and increased fees for peripheral services like baggage and food. We have also seen mergers, such as between Delta and Northwest and between United and Continental, to reduce system-wide costs.


The role of quality in achieving competitive advantage was demonstrated by several research studies. Researchers have found that:

Businesses offering premium-quality goods usually have large market shares and were early entrants into their markets.

Quality is positively and significantly related to a higher return on investment for almost all kinds of market situations.

A strategy of quality improvement usually leads to increased market share, but at a cost in terms of reduced short-run profitability.

Producers of high-quality goods can usually charge premium prices.

Exhibit 3.2 summarizes the impact of quality on profitability. The value of a good or service in the marketplace is influenced by the quality of its design. Improvements in performance, features, and reliability will differentiate the good or service from its competitors, improve a firm’s quality reputation, and improve the perceived value of the customer benefit package. This allows the company to command higher prices and achieve an increased market share. This, in turn, leads to increased revenues that offset the added costs of improved design. Improved conformance in production leads to lower manufacturing and service costs through savings in rework, scrap, and warranty expenses. The net effect of improved quality of design and conformance is increased profits.

In many industries, strategies often lead to trade-offs between quality and cost; some company strategies sacrifice quality in order to develop a low-cost advantage. Such has been the case with new automobile start-ups, especially with Hyundai Motor Co. However, goods quality has evolved over the years and now is generally considered to be an order qualifier. Operations managers deal with quality issues on a daily basis; these include ensuring that goods are produced defect-free or that service is delivered flaw lessly. In the long run, it is the design of goods and service processes that ultimately defines the quality of outputs and outcomes.


In today’s society, time is perhaps the most important source of competitive advantage. Customers demand quick response, short waiting times, and consistency in performance. Many firms, such as CNN, FedEx, and Walmart, know how to use time as a competitive weapon to create and deliver superior goods and services.

Speeding up processes in supply chains improves customer response. Deliveries can be made faster, and more often on time. However, time reductions can only be accomplished by streamlining and simplifying processes to eliminate non-value-added steps such as rework and waiting time. This forces improvements in quality by reducing the opportunity for mistakes and errors. By reducing non-value-added steps, costs are reduced as well. Thus, time reductions often drive simultaneous improvements in quality, cost, and productivity. Designing processes and using technology efficiently to improve speed and time reliability are some of the most important activities for operations managers.


Success in globally competitive markets requires both design and demand flexibility. In the automobile industry, for example, new models are constantly being developed. Companies that can exploit flexibility by building several different vehicles on the same assembly line at one time, enabling them to switch output as demand shifts, will be able to sell profitably at lower volumes.

Flexibility is manifest in mass-customization strategies that are becoming increasingly prevalent today. Mass customization is being able to make whatever goods and services the customer wants, at any volume, at any time for anybody, and for a global organization, from any place in the world. Some examples include Sign-tic company signs that are uniquely designed for each customer from a standard base sign structure; business consulting; Levi’s jeans that are cut to exact measurements; personal Web pages; estate planning; Motorola pagers customized in different colors, sizes, and shapes; personal weight-training programs; and modular furniture that customers can configure to their unique needs and tastes. Customer involvement might occur at the design (as in the case of custom signs), fabrication (Levi’s jeans), assembly (Motorola pagers), or postproduction (customer-assembled modular furniture) stages of the value chain. Mass customization requires companies to align their activities around differentiated customer segments and design goods, services, and operations around flexibility.


Innovation is the discovery and practical application or commercialization of a device, method, or idea that differs from existing norms. Over the years, innovations in goods (such as telephones, automobiles, computers, optical fiber, satellites, and cell phones) and services (self-service, all-suite hotels, health maintenance organizations, and Internet banking) have improved the overall quality of life. Within business organizations, innovations in manufacturing equipment (computer-aided design, robots and automation, and smart tags) and management practices (customer satisfaction surveys, quantitative decision models, and the Malcolm Baldrige criteria) have allowed organizations to become more efficient and better meet customers’ needs.

Many firms, such as Apple, focus on research and development for innovation as a core component of their strategy. Such firms are on the leading edge of product technology, and their ability to innovate and introduce new products is a critical success factor. Product performance, not price, is the major selling feature. When competition enters the market and profit margins fall, these companies often drop out of the market while continuing to introduce innovative new products. These companies focus on outstanding product research, design, and development; high product quality; and the ability to modify production facilities to produce new products frequently.

3-5Om and Strategic Planning

The direction an organization takes and the competitive priorities it chooses are driven by its strategy. The concept of strategy has different meanings to different people. Strategy is a pattern or plan that integrates an organization’s major goals, policies, and action sequences into a cohesive whole. Basically, a strategy is the approach by which an organization seeks to develop the capabilities required for achieving its competitive advantage. Effective strategies develop around a few key competitive priorities such as low cost or fast service time, which provide a focus for the entire organization and exploit an organization’s core competencies, Which are the strengths that are unique to that organization. Such strengths might be a particularly skilled or creative workforce, customer relationship management, clever bundling of goods and services, strong supply chain networks, extraordinary service, green goods and services, marketing expertise, or the ability to rapidly develop new products or change production output rates.

Strategic planning is the process of determining long-term goals, policies, and plans for an organization. The objective of strategic planning is to build a position that is so strong in selected ways that the organization can achieve its goals despite unforeseeable external forces that may arise. Strategy is the result of a series of hierarchical decisions about goals, directions, and resources; thus, most large organizations have three levels of strategy: corporate, business, and functional. At the top level, corporate strategy is necessary to define the businesses in which the corporation will participate and develop plans for the acquisition and allocation of resources among those businesses. The businesses in which the firm will participate are often called strategic business units (SBUs) and are usually defined as families of goods or services having similar characteristics or methods of creation. For small organizations, the corporate and business strategies frequently are the same.

The second level of strategy is generally called business strategy and defines the focus for SBUs. The major decisions involve which markets to pursue and how best to compete in those markets—that is, which competitive priorities the firm should pursue.

Finally, the third level of strategy is functional strategy, the means by which business strategies are accomplished. A functional strategy is the set of decisions that each functional area (marketing, finance, operations, research and development, engineering, etc.) develops to support its particular business strategy.

Our particular focus will be on operations strategy—how an organization’s processes are designed and organized to produce the type of goods and services to support the corporate and business strategies.

3-5aOperations Strategy

An operations strategy An operations strategy is the set of decisions across the value chain that supports the implementation of higher-level business strategies. It defines how an organization will execute its chosen business strategies. Developing an operations strategy involves translating competitive priorities into operational capabilities by making a variety of choices and trade-offs for design and operating decisions. That is, operating decisions must be aligned with achieving the desired competitive priorities. For example, Progressive automobile insurance has developed a competitive advantage around superior customer service. To accomplish this, its operating decisions have included on-the-spot claims processing at accident sites; “Total Loss Concierge” service to help customers with unrepairable vehicles get a replacement vehicle; and the industry’s first Web 2.0 site, with easier navigation, customization, and video content.

To illustrate how operations strategy can support competitive priorities, consider two types of business strategies for a manufacturer:

Produce a well-defined set of products in a fairly stable market environment as a low-cost leader.

Provide high product variety and customization in a turbulent market that requires innovative designs to meet customer-specific requirements.

In the first situation, the firm would be best served by emphasizing quality and cost reduction in their make-to-stock strategy. This would require a well-balanced, synchronized supply chain approach with strong supplier involvement, efficient assembly line final assembly processes, and high work standardization. Some equipment and processes might be dedicated to a particular product line or family of products. In this case, a highly efficient manufacturing system is needed.

In the second situation, the firm would need to be able to operate at different levels of production volume while also achieving high quality and flexibility. An operations strategy based on mass customization would be appropriate.

Product design would require constant innovation and shorter development cycles. Operations would need to be highly flexible in a make-to-order environment, producing batches of unique, customer-specified orders in low to moderate volumes, and using employees with high skill levels and diverse capabilities.

Operations and supply-chain strategy for service businesses is somewhat similar to manufacturers but differs in seven unique ways, as described in Chapter 1. In Section 3.6a, we discuss how operations strategy is reflected at McDonald’s to achieve its competitive priorities.

How operations are designed and implemented can have a dramatic effect on business performance and achievement of the strategy. Therefore, operations require close coordination with functional strategies in other areas of the firm such as marketing and finance.

3-5bSustainability and Operations Strategy

Sustainability is an organizational strategy—it is broader than a competitive priority.

Sustainability is defined in previous chapters using three dimensions—environmental, social, and economic sustainability. Stakeholders such as the community, green advocacy groups, and the government drive environmental sustainability. Social sustainability is driven by ethics and human ideals of protecting the planet and its people for the well-being of future generations. Economic sustainability is driven by shareholders such as pension funds and insurance companies. Therefore, sustainability is an organizational strategy—it is broader than a competitive priority. Sustainability requires major changes in the culture of the organization (see box on General Electric ).

Companies such as Apple, Kaiser Permanente, and Nike view sustainability as a corporate strategy. A majority of global consumers believe that it is their responsibility to contribute to a better environment and would pay more for brands that support this aim. Likewise, retailers and manufacturers are demanding greener products and supply chains. In 2007, Walmart Stores Inc. announced that it would transition toward selling only concentrated laundry detergents, which use much less water and therefore require less packaging and space for transport and storage. Every major supplier in the detergent industry was involved. Government actions are also driving these initiatives. The 2009 U.S. stimulus package earmarked $70 billion for the development of renewable and efficient energy technologies and manufacturing. The European Union has set targets for reducing emissions to 20 percent of 1990 levels by 2020.

Companies that have embraced sustainability pursue this strategy throughout their operations. For example, computer maker Dell Inc. has announced that it is committed to becoming “the greenest technology company on the planet.” Such a strategy often requires considerable innovation in value chains, operations design, and day-to-day management. For example, Dell launched a program called Design for the Environment that seeks to minimize adverse impacts on the environment by controlling raw material acquisition, manufacturing processes, and distribution programs while linking green policies with consumer use and disposal. This framework encourages Dell’s product designers to consider the full product life cycle, and it provides them with a platform for collaborating with suppliers, supply chain experts, and external recycling experts and other downstream partners to help them fully understand the environmental implications of their design decisions.

Companies are also paying closer attention to ethical issues of outsourcing, particularly the human resource practices of off-shore suppliers, which may include unreasonable work hours or unsafe working conditions. Such issues are more difficult to monitor when control is relinquished to an off-shore manufacturer.

Many durable products such as cell phones, televisions, and refrigerators contain hazardous materials and cannot be easily reused or recycled. As a result, organizations need to rethink strategically the environmental challenges that result from obsolete durable goods. Cell phones, for example, become obsolete quickly as a result of manufacturers making rapid improvements in design, and service providers offering new incentives. Some new strategies that have been suggested include:

Creating better designs that focus on ease of disassembly and lower costs for refurbishing and recycling. This might include modular designs that make it easier to reuse parts than to recycle them, or to recover valuable materials more easily.

Incorporating refurbishing and recycling activities into manufacturers’ value chains. As many as 130 million phones are retired each year, with significant waste and environmental implications.

Creating more secondary markets for refurbished phones. This can increase profits by enticing users of voice-only phones to upgrade to data plans if the price of the phones can be reduced.

Developing new processes to collect and refurbish old phones. For example, ReCellular Inc. has partnered with Verizon, Motorola, Walmart, and others, but still it only captures 5 percent of retired phones, suggesting that the cell phone value chain has not matured.