Taking industry structuring seriously: A strategic perspective on product differentiation†

Abstract

Given legal impediments to consolidation and collusion, firms often resort to product differentiation to attain market power. This paper provides a formal analysis of product differentiation as a tool for such industry structuring at both the firm and industry level. We examine: how industry structure differs when firms collaborate on their differentiation decisions, and when the profitability of such collaboration is greatest; how an individual firm's differentiation decisions affect subsequent market outcomes under price competition, such as margin, market share, and profit; how mere differentiation differs from a ‘differentiation advantage’; and how changing a firm's differentiation affects its rivals through both positive externalities (by restraining rivalry) and negative externalities (by shifting competitive advantage). Our results have implications for empirical research, strategy theory, and pedagogy.