Product Differentiation: What It Is, How Businesses Do It, and the 3 Main Types

What Is Product Differentiation?

Product differentiation is the key aspect(s) distinguishing one company's products or services from its competition. Successful product differentiation leads to brand loyalty and an increase in sales.

A product differentiation strategy involves identifying and communicating the unique qualities of a product or company while highlighting the distinct differences between that product or company and its competitors. Product differentiation goes hand in hand with developing a strong value proposition so that a product or service is attractive to a target market or audience.

If successful, product differentiation can create a competitive advantage for the product's seller and ultimately build brand awareness.

How Product Differentiation Works

Product differentiation is fundamentally a marketing strategy to encourage consumers to choose one brand or product over another in a crowded field of competitors. It identifies the qualities that set one product apart from similar products and uses those differences to drive consumer choice.

Differentiation marketing can also involve focusing on a niche market. For example, a small company might struggle to compete with a larger competitor in the same industry. As a result, the smaller company might highlight something like its more personalized services.

Promoting Product Differentiation

The references to a product's differentiating qualities are reflected in its packaging and promotion and, often, even in its name. The cat food brand Fancy Feast implies a high-quality cat food cats love, and the advertising reinforces that claim. The FreshPet cat food brand highlights the use of natural ingredients. Hill's Science Diet conveys that animal nutrition experts developed the cat food.

A product differentiation strategy may require adding new functional features or might be as simple as redesigning packaging. Sometimes, differentiation marketing does not require any changes to the product but a new advertising campaign or other promotions.

Measuring Product Differentiation

As stated earlier, the differences between the products can be physical in nature or measurable, such as the lowest-price gym in a region. However, the differences between the products could be more abstract; for example, a car company that claims their cars are the most luxurious on the market.

Retailers and designers often spend significant advertising dollars showing their clothes on young, hip models to emphasize that their clothing is on-trend. In actuality, no company can measure or quantify the level of style their product offers.

As a result, product differentiation is often subjective since it's aimed at altering customers' evaluation of the benefits of one item compared to another. The advertising slogan, "Gets out the toughest stains," implies that a certain detergent brand is more effective than others. However, the actual difference in the product compared with competing products might be minuscule or even nonexistent.

Types of Product Differentiation

Ideally, a product differentiation strategy should demonstrate that the product can do everything the competing choices can but with an additional benefit that is exclusive to that product. Below are a few of the most common strategies employed to differentiate a product or service.

Price

Price can be used to differentiate a product in two ways. Companies can charge the lowest price compared to competitors to attract cost-conscious buyers—the retailer Costco is an example. However, companies can also charge high prices to imply quality and that a product is a luxury or high-end item, such as a Bugatti sports car.

Performance and Reliability

Products can be differentiated based on their reliability and durability. Some batteries, for example, are reputed to have a longer life than others, and some consumers buy them based on this factor.

Location and Service

Local businesses can differentiate themselves from their larger national competitors by emphasizing that they support the local community. A local restaurant, for example, will hire locally and may source its food and ingredients from local farmers and purveyors.

Vertical Product Differentiation vs. Horizontal Product Differentiation

There are two strict forms of product differentiation: horizontal and vertical. In some cases, however, a consumer's choice in a purchase may be a mix of the two.

Vertical Differentiation

An example of vertical differentiation is when customers rank products based on a measurable factor, such as price or quality, and then choose the most highly ranked item.

Although the measurements are objective, each customer chooses to measure a different factor. For example, a restaurant might top one customer's list because their meals are lower in calories. Another customer might choose a different restaurant because the meals are cheaper, and price is the most important factor for them.

Horizontal Differentiation

An example of horizontal differentiation is when customers choose between products based on personal preference rather than an objective measurement.

For example, whether someone chooses a vanilla, chocolate, or strawberry milkshake comes down to personal taste. If most of the products on the market cost about the same and have many of the same features or qualities, the purchase decision is based on subjective preference.

Mixed Differentiation

More complex purchases tend to consider a mix of vertical and horizontal differentiation. When buying a car, for example, a consumer may consider safety metrics and gas mileage, both of which are objective measures and examples of vertical integration. However, the consumer may also consider what colors the car is available in or the brand image. Each consumer will place a different weight of importance on each criterion.

Benefits of Product Differentiation

A differentiated product can increase brand loyalty and even survive a higher price point. If a product is perceived to be better in some way than its competitors, consumers will consider it worth the higher price.

Differentiation marketing can help companies stand out when a product isn't perceived as much different from a competitor's, such as bottled water. The strategy might be to focus on a lower price point or that it's a locally owned business. When functional aspects of the two products are identical, nonfunctional features can be highlighted. The strategy can be an appealing change in design or styling.

Examples of Product Differentiation

Companies introducing a new product often cite its cost advantages. If Company X produces a coffee maker virtually identical to that of Company Y, Company X may offer a version at a lower cost. If it comes with a reusable filter, the savings on paper filters are highlighted in packaging and advertising.

For example, product differentiation is vividly displayed among today's many coffee maker brands. KitchenAid coffee makers have a hefty, substantial feel and a premium price to match. Keurig differentiates itself with its easy-to-use coffee pods. Amazon Basics, as always, sets an unbeatably low price point.

The Bottom Line

Product differentiation is a way for products and brands to command market share based on consumer preferences. Customers choose products for various reasons, whether it be price, brand image, quality, durability, taste, color, or a temporary trend.

If a product can differentiate itself from its competitors in some unique way and appeal to consumers, it will have a competitive advantage and gain market share. Therefore, product differentiation is also a way for market forces to do their work and keep prices down for the consumer.