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and braking capabilities. By examining how automobile prices vary with different combinations of attributes, analysts can determine how much consumers are willing to pay for each individual attribute. Hedonic pricing has been used to identify the value of innovations in automobiles and computerized axial tomography, the value of spreadsheet compatibility, and the benefits of improving job safety.

Hedonic pricing requires multiple regression analysis to estimate the impact of product attributes on a product’s price. The dependent variable in the regression is the product’s price. The predictors are variables measuring the presence and extent of different product attributes. If you were studying the automobile market, hedonic pricing analysis could identify the extent to which a 1 percent increase in horsepower or chassis length, or the addition of side-impact air bags, translates into automobile prices. This analysis generates implicit “hedonic prices” for individual product attributes.

Conjoint Analysis

Hedonic pricing analysis uses market prices for existing combinations of product attributes. This is inadequate for studying the value of new features. To do this, market researchers use conjoint analysis. Like hedonic pricing, conjoint analysis estimates the relative benefits of different product attributes. Its principal value is in estimating these benefits for hypothetical combinations of attributes. Although conjoint analysis can take several different forms, consumers are usually asked to rank a product with different features at different prices. Researchers then use regression analysis to estimate the impact of price and product features on the rankings. From this, researchers can estimate the market value of different features.

Alternatively, consumers may be asked to state how much they are willing to pay for different combinations of features. Researchers then treat the responses as if they were actual market prices and use regression techniques to estimate the value of each attribute. This approach closely mirrors hedonic pricing, except that the prices and products are hypothetical.

ENDNOTES

1Source: Bureau of Transportation Statistics, U.S. Department of Transportation. Airline Financial Data and Airline Traffic Data. http://www.transtats.bts.gov/Data_Elements.aspx?Data56, accessed July 21, 2011.

2The data for this example comes from “Sports and Suds: The Beer Business and the Sports World Have Brewed Up a Potent Partnership,” Sports Illustrated, August 8, 1988, pp. 68–82.

3For interested readers, here is how this number was derived. Total (as opposed to per-unit) consumer surplus can be shown to equal the area under the demand curve above the price. For a linear demand curve given by the formula P 5 a 2 bQ (where Q is total demand), this area is given by 0.5bQ2. Consumer surplus per unit is thus given by 0.5bQ2 4 Q 5 0.5bQ 5 0.5P(bQ/P). But the term in parentheses is the reciprocal of the price elasticity of demand (i.e., 5 P/bQ). Thus, per-unit consumer surplus is given by 0.5P/ . To estimate , we proceed as follows. The stadium concessionaire, Cincinnati Sports Service, pays the distributor $0.20 per 20-ounce cup of beer, pays royalties to the city of Cincinnati of $0.24 per cup, pays royalties to the Cincinnati Reds of $0.54 per cup, and an excise tax of $0.14 per cup. The concessionaire’s marginal cost is thus at least $1.12 per cup of beer. If we assume that $2.50 is the profit-maximizing monopoly price, then the price elasticity of demand at $2.50 must be at least 1.8 (we’ll see why in just a moment). Using the preceding formula for per-unit consumer surplus, we conclude that the average consumer surplus for a 20-ounce cup

332 • Chapter 9 • Strategic Positioning for Competitive Advantage

of beer is no greater than $0.69. The reason that the price elasticity of demand must be at least 1.8 is as follows: from the Economics Primer, the optimal monopoly price is given by (P 2 MC)/P 5 1/ . Thus, if $2.50 is the monopoly price, (2.50 2 MC)/2.50 5 1/ . Since MC 5 $1.12, straightforward algebra implies 5 1.8.

4Without knowing the production costs of Sports Service or the distributor, we cannot pin down the actual amount of value that is created through the vertical chain. Whatever it is, however, the brewer captures only a small portion of it.

5Here is a proof. Suppose firm 1 creates more value than firm 2, so that B1 2 C1 . B2 2 C2. The most aggressive bid firm 2 can offer is P1* 5 C2, leaving you with consumer surplus of B2 2 C2. Firm 1 can offer you a slightly more favorable bid than this by offering a price slightly lower than P1* 5 C2 1 (B1 2 B2). At this price, firm 1’s profit is slightly less than P1* 2 C1 which equals C2 1 (B1 2 B2) 2 C1. After rearranging terms, we can write this as (B1 2 C1) 2 (B2 2 C2), which is positive. Thus, firm 1 can always profitably outbid firm 2 for your business.

6Rumelt, R., “The Evaluation of Business Strategy,” in Glueck, W. F., Business Policy and Strategic Management, 3rd ed., New York, McGraw-Hill, 1980.

7In 2002, the average household income of the Kmart shopper was $35,000, while the average household incomes for the Wal-Mart and Target shoppers were $37,000 and $45,000, respectively. “Wal-Mart Discount King, Eyes the BMW Crowd,” The New York Times, February 24, 2002, pp. A1, A24.

8The concept of the value chain was developed by Michael Porter. See Chapter 2 of Competitive Advantage, New York, Free Press, 1985.

9The term Airport 7 was coined by Andrew Taylor, the current CEO of Enterprise, to describe the seven airport-based rental car firms. Actually, three pairs of the “Airport 7” operate under common ownership: Vanguard Rental owns both National and Alamo; Cendant Corporation owns both Avis and Budget; and Dollar Thrifty Automotive Group owns both Dollar and Thrifty.

10This example was developed by Jesus Syjuco and Li Liu, Kellogg School of Management, MBA class of 2002.

11“Bloomberg Business Week 100 Best Global Brands,” http://www.businessweek.com/ interactive_reports/best_global_brands_2009.html, accessed July 21, 2011.

12Other terms for this concept include distinctive competencies and core competencies. 13C. K. Prahalad and Gary Hamel emphasize this type of capability in their notion of

“core competence.” See “The Core Competence of the Corporation,” Harvard Business Review, May–June 1990, pp. 79–91.

14Henderson, R., and I. Cockburn, “Measuring Competence? Exploring Firm Effects in Pharmaceutical Research,” Strategic Management Journal, 15, Winter 1994, pp. 63–84.

15Nelson, R. R., and S. G. Winter, An Evolutionary Theory of Economic Change, Cambridge, MA, Belknap, 1982.

16Porter, Michael, Competitive Strategy, New York, Free Press, 1980.

17Porter uses the term differentiation to describe what we have called benefit leadership. 18See Chapter 2 of Porter, Competitive Strategy.

19Michael Porter makes this point most forcefully in his article, “What Is Strategy?,” Harvard Business Review, November–December, 1996, pp. 61–78.

20Miller, D., and P. H. Friesen, “Porter’s (1980) Generic Strategies and Quality: An Empirical Examination with American Data—Part I: Testing Porter,” Organization Studies, 7, 1986, pp. 37–55.

21Thompson and Strickland’s Strategic Management (Homewood, IL: Irwin Publishers) provides a nice example of activity cost analysis for the beer industry.

22Any point system will do.

This figure is adapted from Hall, W. K., “Survival Strategies in a Hostile Environment,” Harvard Business Review, September–October 1980, pp. 75–85.

23See Chapter 7 of Porter, Competitive Advantage.