Cost Leadership vs. Customer Focus: Why Choose?
- Managers should forgo choosing between efficiency and customer satisfaction goals in a merger and instead pursue a dual-goal strategy.
- A dual-goal strategy pays off in the long run.
- When executing a dual-goal strategy, take the firm’s unique resources and industry dynamics into account.
Mergers are making a comeback, but fewer than half actually create financial value. Take the 2008 merger between Delta and Northwest Airlines, for example. Initially, it was declared a success because of management’s disciplined approach to cost control. But later on, the newly merged firm suffered earnings shortfalls and a lackluster stock price. So, if the success of a merger is driven purely by cost efficiency, what went wrong with Delta? Well, anyone who flew Delta just after the merger knows the story. Late arrivals and rising customer complaints caused customer satisfaction to plummet.
In hindsight, it seems obvious that things might have turned out differently had Delta’s executives focused simultaneously on cost efficiency and customer satisfaction. But, truth is, having a dual-goal strategy has always been frowned upon by senior managers. After all, it’s what many of them learned in business school: “Successful firms must choose a dominant strategy: cost leadership or customer focus. Trying to do both well is just too difficult because the two strategies are in conflict about how to grow the bottom line.” But a lot has changed since those business school days, and we now know that managers don’t always have to choose between two strategic goals. A dual-goal strategy is feasible for many firms.
But is there anything about a merger environment that makes a dual-goal strategy especially attractive? Yes, according to a study co-authored by Vikas Mittal, J. Hugh Liedtke Professor of Marketing at Rice Business. In fact, findings from the study show that a dual-goal strategy actually maximizes long-term value for a merged firm.
Prior research already confirms that a dual-goal strategy could boost the bottom line – merger or no merger. Why? Because the income statement math works: customer satisfaction increases sales and efficiency reduces costs. Another way to think about the power of a dual-goal strategy is that the extra revenue generated by higher customer satisfaction could be redeployed to shore up efficiency-enhancing initiatives. So, a dual-goal strategy could be synergistic.
What makes the merger context uniquely suited to the pursuit of a dual-goal strategy? Mittal and his co-authors argue that while mergers can be disruptive and financially challenging early on, a dual-goal strategy pays off in the long run because it provides management the opportunity to make beneficial changes: strengthen organizational systems, bolster capabilities and increase market power. For example, mergers provide managers the flexibility to reallocate human resources most productively, across both firms, in line with the new strategic direction. Also, mergers give managers a chance to access new markets and pursue profitable customers with differentiated offerings, both of which could sustain satisfaction and grow profits. Finally, from a cost-efficiency standpoint, mergers help managers take advantage of economies of scale and scope, streamline (often through downsizing) and invest wisely in new resources such as efficiency-driven information technology systems.
Mittal and his co-authors analyzed secondary data spanning nine years (from 1995 to 2003) and 429 firms (54 percent involved a merger). This sample of mostly large companies was tracked by the American Customer Satisfaction Index (ACSI) and represented a mix of firms in services and goods industries (e.g. Ford, Coca-Cola, FedEx, Southwest Airlines, Kroger). Firms varied in terms of ACSI customer satisfaction ratings as well as efficiency ratings, as measured by an index created for this study. The change in the so-called Tobin’s q metric – the market value of a firm’s stock divided by the replacement costs of the firm’s total assets – was used to measure the change in a firm’s long-term performance. Tobin’s q is a forward looking measure that points to investor expectations of a firm’s future success.
Findings from the study were clear. With mergers, especially those that are horizontal, an increase in customer satisfaction coupled with an increase in efficiency results in the highest change in a firm’s long-term performance. There is evidence that efficiency gains could improve long-term performance, even in the face of a dip in customer satisfaction. But take note: the performance gains under those conditions are smaller (and in Delta’s case nonexistent) in comparison to those achieved when efficiency and satisfaction are increased simultaneously. And, importantly, when no merger has taken place a dual-goal strategy does not enhance long-term performance in comparison to other strategies, such a focusing on either increased customer satisfaction or efficiency.
Taken together, these findings suggest that mergers provide a uniquely beneficial environment in which to pursue a dual-goal strategy. But if you are contemplating a merger, take heed: the findings don’t tell you exactly how to improve customer satisfaction or efficiency in your business or industry. Context matters. So, in the end, take into account your firm’s unique resources and industry dynamics to execute a dual-goal strategy, knowing that maximum long-run performance gains are at stake.
Vikas Mittal is a marketing professor at Jones Graduate School of Business at Rice University..
To learn more, please see: Swaminathan, V., Groening, C., Mittal, V., & Thomaz, F. (2014). How achieving the dual goal of customer satisfaction and efficiency in mergers affects a firm’s long-term financial performance. Journal of Service Research, 17(2), 182-194.