A company that offers a product or service at a more competitive price typically does better over time. Investors can also hone in on this potentially outperforming factor through a targeted smart beta exchange traded fund.
“The attribute of ‘cost advantage’ is the second most frequent source of economic moat ratings according to Morningstar,” Brandon Rakszawski, VanEck ETF Product Manager, said in a research note. “Companies that are able to produce and offer products or services at lower costs than competitors are often able to achieve much higher profit margins. Within many industries, cost leaders have a distinct competitive advantage and often exert significant control over market prices.”
Companies with a structural cost advantage have more leeway to undercut competitors on price while earning similar margins. Additionally, they can charge market-level prices and earn relatively high margins. For instance, Rakszawski pointed out that Express Scripts controls a big enough portion of U.S. pharmaceutical spending where it can negotiate favorable terms with suppliers to better manage costs.
Through economies of scale, lower distribution, manufacturing costs and access to less expensive resources, some companies are able to generate more attractive cost advantages.
To illustrate some of the benefits of cost advantage, Rakszawski pointed to Starbucks Corp. as “one of the most compelling growth stories in the global consumer space today.” Morningstar believes that Starbucks has developed a strong brand to command premium pricing and meaningful scale advantages to a point where the company may successfully access new growth avenues while maintaining its current leadership position.