Using it in a case: is the advantage real?
Three questions that tell you whether a client's advantage is real and how long it lasts, applied to a growth decision with worked numbers.
Key takeaways
- When a client claims an advantage, or wants to grow on the back of one, ask three questions.
- The weak answer accepts the claim because of size and fame. The strong answer turns it into three questions with numbers that can prove it or not, and asks for the first fact.
- Does it show in the numbers?
- What causes it, and can a rival copy it?
- What would end it, and how soon?
Key idea
When a client claims an advantage, or wants to grow on the back of one, ask three questions. Does it show in the numbers? What causes it, and can a rival copy that cause? What would end it, and how soon? The answers tell you whether to build on the advantage, defend it, or stop counting on it.
The three questions, and the facts to ask for
- 1Does it show in the numbers? Ask for return on invested capital against the cost of capital over five or more years, and for price and cost per unit against the closest rivals. No gap, no advantage, whatever the client believes.
- 2What causes it, and can a rival copy it? Name the cause: scale, a network, switching costs, a trusted brand, a unique asset or a lower cost. Then ask what a rival would have to spend, and how long it would take, to copy it.
- 3What would end it, and how soon? Look for a technology shift, a rule change, a new rival with a different cost structure, or customers using rivals alongside the client. Estimate how fast the gap could close.
Worked case
A dairy company wants to enter a new country
The prompt
Illustrative numbers, fictional company. A dairy company in the United Arab Emirates has AED 1,000 million invested at home and earns an 18 percent ROIC; its cost of capital is 9 percent. Its advantage at home is a trusted brand plus a cold-chain delivery network that reaches most grocery shops every day. It wants to invest AED 400 million to enter a neighbouring country, where it has no brand and would have to build its own cold chain. It expects NOPAT of AED 20 million a year there by year three. Should it go ahead?
The structure
- Value created = (ROIC minus cost of capital) x invested capital, at home and in the new country
- At home: does the advantage show in the numbers?
- New country: does the advantage travel?
- Brand: unknown there
- Cold chain: must be built from zero, below efficient scale
- What NOPAT would the new country need to earn its cost of capital?
Working it through
1. Economic profit at home
A 9 point gap on AED 1,000 million.
Economic profit at home (AED millions a year):(18 - 9) ÷ 100 × 1,000 = 902. ROIC in the new country
AED 20 million of NOPAT on AED 400 million.
ROIC in the new country (percent):20 ÷ 400 × 100 = 53. Economic profit in the new country
A 4 point shortfall on AED 400 million.
Economic profit in the new country (AED millions a year):(5 - 9) ÷ 100 × 400 = -164. NOPAT needed to break even
The rent on AED 400 million at 9 percent.
NOPAT needed (AED millions a year):400 × 0.09 = 365. How far off
Needed NOPAT compared with the plan.
Needed NOPAT / planned NOPAT (times):36 ÷ 20 = 1.8
The recommendation
I would advise against entering on this plan. At home the advantage is real: AED 90 million a year of economic profit from a brand and a dense cold chain that rivals would find slow and costly to copy. But neither travels. In the new country the plan earns 5 percent on capital that costs 9 percent, losing about AED 16 million a year in value, and it would need 1.8 times the planned profit just to break even. The next step is to test ways to take the advantage with it: a partner that already has a cold chain there, or entering only the cities close enough to serve from the home network.
Risks: The plan's AED 20 million may be too low if the brand travels better than expected; A local partner brings its own costs and risks.
Next steps: Compare entry routes (partner, acquisition, building alone) on the Strategic Moves pages; Check how far the home cold chain can reach across the border.
Interviewer: "Our client says it has a strong competitive advantage. Do you agree?"
Weaker answer
"Yes, they are the market leader with a well-known brand, so they have a competitive advantage."
Stronger answer
"I would check three things. First, whether it shows: is their return on capital above their cost of capital over several years, and is their price or cost better than the closest rival's? Second, what causes it, for example the brand or the delivery network, and what it would cost a rival to copy. Third, what could end it, such as a new rival or a rule change. Could I see their returns for the last five years?"
Why the stronger answer wins: The weak answer accepts the claim because of size and fame. The strong answer turns it into three questions with numbers that can prove it or not, and asks for the first fact.
"Their advantage is real at home: they earn about 18 percent on capital that costs 9. But it comes from a delivery network and a brand that do not cross the border, so I would not assume it travels." One sentence like this shows the interviewer you can tell an advantage from a hope.
This module is about why an advantage exists and how long it lasts. What a company does with it, such as integrating, entering a market, changing prices or restructuring, is covered move by move in the Strategic Moves library, with the economics and real examples for each.
Open the Strategic Moves libraryIllustrative. A client has AED 600 million invested, a ROIC of 11 percent and a cost of capital of 8 percent. A new rival is expected to cut its ROIC by 1 point a year. After how many years does the client stop creating value?
Which fact best shows that a client's advantage is real?
A client's advantage is a dense delivery network at home. It wants to enter a new country. What is the first question?
Sources for this lesson (1)
- Recognized public explanations of case-interview concepts and terms
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