Marketing 506 Live Case Study “Lexus”
Washington State University Spring 2005
Prepared by: Brian Johnson Shin-Kai Aaron Kau Amanda McDavid Gisle Vestnes

Table of Contents
Introduction..........................................................................................................................3 Hybrid Car Overview.......................................................................................................3 The RX400h.....................................................................................................................4 Problem Identification.........................................................................................................5 Analysis................................................................................................................................5 Product Extension vs. Product Expansion.......................................................................5 Brand Equity....................................................................................................................6 Strengths .............................................................................................................................7 Brand Recognition.......................................................................................................7 Brand Loyalty..............................................................................................................8 Number one rankings...................................................................................................8 Customer relationships.................................................................................................9 Large advertising budget..............................................................................................9 At forefront of hybrid technology................................................................................9 Product is being well received...................................................................................10 Weaknesses........................................................................................................................10 Possible over-commitment to hybrid technologies....................................................10 Brand damage in the case of product failure.............................................................10 First mover strategy leads to increased risks.............................................................11 Inability to meet demand - upsetting consumers.......................................................11 Cannibalization..........................................................................................................11 Opportunities......................................................................................................................11 Expected to sell one million hybrid vehicles by 2010...............................................11 Strong demand for SUVs and Increasing demand hybrid vehicles...........................12 Growth through further advertising...........................................................................12 Threats ...............................................................................................................................12 Imitation by competitors............................................................................................12 Alternative products ..................................................................................................13 Uninformed consumer base.......................................................................................13 Trends.................................................................................................................................13 Political/governmental...................................................................................................13 Sales volume of hybrid vehicles....................................................................................14 Competitor Analysis...........................................................................................................14 Target Market.....................................................................................................................15 Decision Process................................................................................................................15 New Product Diffusion Curve...........................................................................................16 Recommendations..............................................................................................................16 Appendix 1: Lexus Covenant.........................................................................................18 Appendix 2: Products.....................................................................................................18 Appendix 3: Sales..........................................................................................................19 Appendix 4: SWOT.......................................................................................................19 Appendix 5: Comparison...............................................................................................20

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Introduction
Lexus is a member of the world’s third leading automaker, the global Toyota family. The first Lexus vehicles were unveiled in 1989 and it took only a dozen years after its founding for Lexus to become America’s best-selling line of luxury vehicles. Lexus is committed to providing the finest products and satisfying automobile ownership experiences. Lexus has vowed to “value the customer as an important individual; to do things right the first time; and to always exceed expectations.1” These principles are further described in the Lexus Covenant (See Appendix 1). On April 15, 2005 Lexus introduced the RX400h, the first luxury hybrid vehicle. According to Lexus, the RX Hybrid is a “luxurious, stylish, innovative vehicle that appeals to the senses… [and]… allows the words ‘elegant’ and ‘environmentally sound’ to sit comfortably within the same sentence2.” This case will explore marketing issues related to this innovative vehicle.

Hybrid Car Overview
Hybrid vehicles run on a combination of electric motor and internal combustion engine. Though this issue is often misunderstood, the batteries in hybrid vehicles are charged through a process called regenerative braking. There is no need to plug the vehicle in. Hybrids offer excellent gas mileage and have emissions that are extremely low. Other advantages include tax incentives and a decreasing dependency on fossil fuels. On the other hand, hybrid cars have disadvantages as well. They are more expensive. In general, they will cost $3,000-$10,000 more than their non-hybrids counterparts. There are also fears related to their more complex powertrain, which may allow more chances for failure. There are also restrictions on parts. Parts may cost a little

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more and not be as readily available as typical ones. A very commonly known disadvantage, which Lexus has attempted to tackle, is related to performance. Hybrids have a varying level of performance, generally substantially worse than that of their nonhybrid counterparts. See Appendix 2 for a list of hybrid vehicles currently in the market, and those which will soon be released.

The RX400h
Though hybrids are often misperceived, Lexus has introduced the RX400h to the luxury SUV market. This vehicle offers solutions to some of the disadvantages to hybrids, especially in terms of performance. It has both excellent fuel efficiency and great performance. The ‘h’ in the name of RX400h signals to the consumer that the vehicle is hybrid power-trained. The combination of the hybrid system and its petrol engine is expected to perform as well as a 4.0-litre engine in terms of the speed and output. The RX400h combines a 3.3-litre V6 petrol engine with two powerful electric motors, positioned front and rear. These elements work separately or together to provide highly smooth and powerful performance which creates the RX400h’s competitive advantage. Lexus’s global reputation is built on high quality and RX400h offers just the same levels of quality, refinement and luxury as RX330. The RX400h has the bonus of advanced technologies that address environmental concerns in terms of fuel consumption and exhaust emissions. As mentioned, the hybrid's battery pack never needs to be charged from an external source - it gets recharged during regenerative braking and by the gasoline engine when necessary.

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The market for this vehicle is already very promising. Though a mere 25,000 vehicles will be available for the US market in 2005, 15,000 were pre-sold. This demand was created without a mainstream marketing campaign.

Problem Identification
Given the limited supply of the RX400h, Lexus must determine their promotional strategy and how this innovation is to be brought to market – both in terms of brand and as a product.

Analysis
Product Extension vs. Product Expansion
The RX400h is essentially the same automobile as the Lexus RX330, with slight cosmetic modifications as well as the addition of the hybrid electric motors. Because of these similarities, Lexus could have taken two routes with the introduction of RX400h: Market the RX400h as a product expansion. This will offer the ability to differentiate their products, creating the perception of a real new product. Market the RX400h as an extension of the RX330, with additional features. This product extension could have been marketed as the RX330h. Lexus chose the former of these two options. We feel this product naming is a good idea, as the name in itself will bring value to those that purchase the RX400h. Those that spend the additional $9,000 for the RX400h over the RX330 will certainly want to differentiate themselves from the RX330. As Dr. Jean Johnson was quoted as saying:

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”When it’s to the advantage of the company to market as a new product – it becomes a new product.” We feel that this product expansion was, indeed to Lexus’ advantage.

Brand Equity
One statistic, offered by Dr. Jean Johnson, claims that new product developments are prone to an 86 – 87% failure rate. We believe that the strong brand equity that Lexus has built will counter these unpromising numbers. A firm’s brand is their major communications vehicle between firm and customer. The Lexus brand is associated with luxury and quality. These positive associations will decrease the likelihood of failure for this new product. This high brand equity is built on Lexus’ great reputation and intentional branding strategies. Lexus, especially their new line of hybrid vehicles, must be considered a hightech brand; they are on the leading edge of technology and are implementing the latest technology in their vehicles as some of the first in the automotive industry. Lexus is aware of this, and through both their customer relations programs and their technology development they are aware of the golden rules for high tech brands:3 In high tech, a brand cannot be built: it has to be earned. Brand strength is the consequence of a firm’s actions: it's a firm’s reputation boiled down to a name and logo. The most powerful brands don't come from "marketing," but from great customer experiences: terrific product quality, consistency, value, creativeness, feature design, and style.

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By acting in accordance with these rules, Lexus has developed their strong brand equity. Lexus Division General Manager Denny Clements said that: “Lexus is going to be the pre-eminent luxury-car brand in the world…We are not about volume anymore. We’re out of our adolescence. It’s about who we’re going to be as a brand”4

Strengths
Brand Recognition
Lexus is associated with quality, luxury and superior customer satisfaction. The brand reputation has grown quickly. Lexus has earned this strong brand recognition. In the J.D. Power and Associates Customer Satisfaction Study, Lexus claimed the 2005 Gold Award for an extraordinary fifth successive year by scoring 848 points out of 1000 in the ownership satisfaction survey, well above the industry average of 786 points. In addition to topping the rankings for overall satisfaction, Lexus was the industry leader in the Quality/Reliability and Vehicle Appeal categories. Lexus’ outstanding quality and reliability reputation was demonstrated with a score of 923 out of 1000 in the Quality/Reliability category. Lexus also dominated the Vehicle Appeal component of the survey with a score of 870 points out of 1000, well above the industry average of 792 and 26 ahead of second placed BMW.5 In 2005 Lexus has also retained its number one position in the latest Dealer Attitude Survey conducted by the National Franchised Dealers Association and was again named Best Manufacturer in the 2005 Driver Power report published in Auto Express magazine. These awards and accolades help develop and strengthen the Lexus brand.

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Brand Loyalty
Lexus customers have shown high levels of brand loyalty, and Lexus is continuously working on improving this through the use of new technology and creating awareness of the importance of customer satisfaction among their employees6. Lexus drivers are well known for their repeat purchases. This matter is discussed in the following quote: “Lexus… [has developed] loyal customers by establishing empathetic connections with them to earn it the highest repurchase rates in the auto industry - higher than Infinity. Giving customers experiences that make them loyal is an affordable value added perquisite.”7 Denny Clements, Lexus group vice president and general manager, explained the number 1 ranking this way: "Our performance in this year's (2004) study is a testament of our commitment to the Lexus customer experience, our dealers have reinvested over $2 billion to improve their facilities and expand their ability to provide the best sales and service experience possible to our growing customer base." This level of attentiveness has reinforced the strong brand loyalty.

Number one rankings
As Mike Wells stated, Lexus has been number one in volume sales, initial quality, and dependability. Appendix 3 presents number of units sold in the luxury car segment through September of 2004, and shows that Lexus is number one both in units sold and percentage increase from the previous year. These rankings contribute to Lexus’ strong reputation and attract consumers.

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Customer relationships
Part of the reason behind the Lexus’ reputation is the relationships they have with customers. As previously mentioned, Lexus owners are well known for repeat purchases. Hewlett Packard has, in cooperation with Lexus and Toyota developed a program to cover the communications needed over the lifetime relationship between a dealership and a customer. This was a success based on results that demonstrate the importance of Lexus’ strategy for continuously improving the customer experience. It was found that dealerships using the program gained an incremental average of $900 in gross profit on the second vehicle purchased. And as a result, in 2002, Lexus' marketing organization determined that our program of personalized communication worked so well with its corporate branding initiative focused on customer experience that it agreed to the whole proposal naming it the ‘One to One Lexus Ownership Experience’.8

Large advertising budget
Mike Wells stated in his presentation that Lexus has the ability to dedicate a substantial amount of money toward advertising. This is a strength because it gives Lexus the flexibility to promote their technologies in the most effective ways. Whether Lexus chooses to promote their hybrid platform or the RX400h specifically, the resources will be available.

At forefront of hybrid technology
Lexus and Toyota hybrids are the first to generate sufficient power when driving, eliminating the need for plugging-in to recharge. This solves one of the major problems of the first-generation hybrids. The technology has matured over the years and the new

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generation has to a large degree overcome consumers concerns regarding durability of the electric motors and batteries, this is reinforced by the manufacturer’s warranties of eight years or 100,000 miles.9 Due to the Hybrid Synergy Drive technology, the RX400h offers “performance normally associated with a larger engine, family car fuel consumption, ultra low CO2 emissions for a SUV, smoother, quieter operation and enhanced safety features”10.

Product is being well received
We consider sales of 15,000 units of the RX400h prior to an advertising campaign to be an indication of consumer trust and enthusiasm. This product appears to have been well received in the market, and product reviews are consistent with this.

Weaknesses
Possible over-commitment to hybrid technologies
With the release of the RX400h, as well as upcoming releases of newer hybrid Lexus models, we may see that there is a heavy reliance on the acceptance of this new technology. There are high costs associated with these technologies. Unfortunately, if this technology is not accepted, Lexus will be at risk. There is a lot riding on these investments.

Brand damage in the case of product failure
Because the h-series of vehicles is associated so closely with the Lexus brand name, Lexus may risk tarnishing their main company image. Lexus is known for being

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dependable and luxurious, however if they are not able to meet consumer’s expectations, the Lexus brand image may suffer.

First mover strategy leads to increased risks
As Lexus is the first to move into the luxury hybrid market, they are susceptible to any initial risks. Companies that move into this market later will have the advantage of learning from any of Lexus’ mistakes.

Inability to meet demand - upsetting consumers
If Lexus promotes the RX400h, but is unable to meet consumer demand, there may be a backlash. Customers may be frustrated by the difficulties of finding an RX400h. By not delivering a product they build demand for, Lexus risks losing some customers.

Cannibalization
Due to the newer hybrid model being so closely related to the non-hybrid models, there may be considerable cannibalization. Consumers looking to purchase an SUV may choose the RX330 over the RX400h or vise versa.

Opportunities
Expected to sell one million hybrid vehicles by 2010
Lexus seems confident in the market acceptance of their hybrid vehicles. The goal to sell one million hybrids within the next five years is an indication of demand for

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hybrid vehicles. If this goal is a fair estimate, there is room for considerable growth in the industry.

Strong demand for SUVs and Increasing demand hybrid vehicles
The popularity of the Sports Utility Vehicle, coupled with the increasing demand of hybrid automobiles ensures a positive view of this strategy. The demand for hybrid vehicles and other fuel efficient vehicles can be attributed to the recent rise in gas prices. Toyota, whom Lexus is affiliated with, will soon offer a hybrid version of every car they sell.9 The RX400h gives Lexus the opportunity to capitalize in both these areas, as it is both hybrid and an SUV.

Growth through further advertising
Admittedly, Lexus has done little to promote the new hybrid models. With increased advertising, they may be able to reach further into their current consumer groups. Additionally, this will give them the opportunity to educate the public on the advantages of their hybrid models. Consumers have a lot to learn about hybrid technologies, and will likely respond positively.

Threats
Imitation by competitors
As eluded earlier, those companies that embrace a “copy cat” technique when entering a market are less susceptible to risk. Many lessons may be learned from the first-movers. Competitors will be able to capitalize on the lessons that will be learned through Lexus’ experiences.

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Alternative products
Because Lexus is producing automobiles that straddle both the luxury and hybrid markets, they may also be opening themselves to additional competition, from both fronts. Customers who are interested in SUVs will have many options to choose from. And, as the market develops, hybrids will be more widely available. This means that Lexus will have to compete with an array of alternative products.

Uninformed consumer base
As mentioned previously, many consumers may not be aware of the hybrid technology, nor their benefits. An uninformed consumer base may resist or question the benefits. Consumers may have misconceptions as to the performance or luxury of hybrids. As Mike Wells had mentioned, many may perceive hybrids as powerless ecofriendly automobiles. Please see Appendix 4 for a summary of this SWOT analysis.

Trends
Political/governmental
Government agencies in the US offer benefits to encourage the purchase of certain qualifying hybrid or electrical vehicles. For example, the purchase of certain hybrid cars allowed for a $2000 tax deduction in 2003 (The deduction has been reduced by $500 each year until it reaches zero). Also, certain states give tax credits to hybrid car buyers. Hybrid cars can go on certain toll roads for free. The City of San Jose, CA issues a free

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parking tag for hybrid cars that were purchased at a San Jose dealership. The qualified owners do not have to pay for parking in any city garage or road side parking meters.

Sales volume of hybrid vehicles
According to data to be released by R.L. Polk & Co. hybrid car registrations in the United States rose to 43,435 automobiles, a 25.8 percent increase from 2002 numbers. In 2004 new hybrid vehicle registrations totaled 83,153, an 81 percent increase over the year before. But Hybrids still represented less than 1 percent of the 17 million new vehicles sold in 2004.

Competitor Analysis
Other luxury SUVs have performance at or above the level of the RX400h (See Appendix 5). While this vehicle does have excellent performance, the miles-per-gallon is the key feature which distinguishes the RX400h in terms of performance. Comparable luxury SUVs have roughly half the fuel efficiency of the RX400h, within the city. Conversely, other hybrid cars have considerably better gas mileage, but at a cost of luxury and room. Consider the Toyota Prius, with its 60mpg within the city. With a base cost of just over $20,000 and a zero to 60 speed of 12.5 seconds, it is certainly not a fair comparison. The RX400h appears to be in a class of its own. To consider it only as a luxury SUV, and comparing it to competitors within that arena may leave any analysis with a faulty impression. As described, the RX400h cannot be categorized among other hybrid vehicles. This leaves any competitor analysis to be determined on somewhat of an

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uneven scale – no matter the type. Undoubtedly, the RX400h carries more luxury SUV attributes than fuel efficient, earth friendly hybrids, but one must consider all aspects when determining relative strengths and weaknesses.

Target Market
Currently, there are well over 20 million SUVs on the roads of America. Research, performed by automakers, shows that generally, SUV buyers are affluent married couples with children and an average age in the 40s. Moreover, men are more likely to be the principal drivers of SUVs, though women do not lag far behind. However, only 5% of SUVs are used for off–road purposes. As a result, there are more and more light-SUVs or four-wheel-drive crossover vehicles in the market. The average age of Lexus consumers is 53-55, with household incomes averaging $125,000 to $150,000. For the luxury hybrid, Lexus will target these same, older, affluent consumers. Further, there may be possibilities to market the newer h-series vehicles toward environmentally conscious people.

Decision Process
The customer decision making process can be broken down into five steps: Problem recognition, information acquisition, evaluation of alternatives, choice, and postpurchase processes. In the case of purchasing the RX400h, the two most relevant stages for us to consider are the information acquisition and evaluation of alternatives. As customers are relatively uneducated on the hybrid technologies, and these are high-value purchases, these two stages may take an extensive amount of time to complete. This indicates that for a majority of consumers the completion of this decision process may be 15

quite extensive. If a consumer were to determine that they were interested in purchasing a hybrid vehicle at this present time, 2007 vehicles may be on the market by the time the actual purchase is made.

New Product Diffusion Curve
Innovators – 2% (May consist of auto enthusiasts or industry experts, risk takers) Early Adopters – 10% (Auto enthusiasts or trend setters, opinion leaders) Early Majority – 40% (Early typical consumers, rely on recommendations) Late Majority – 40% (Later typical consumers, somewhat skeptical) Laggards – 8% (Consumers that are slow to accept change) Consumers are grouped according to how quickly they adopt new products. As the RX400h is a brand new innovation, the consumers who have pre-purchased the vehicle can be considered Innovators. These consumers are well informed risk takers. The Early Adopters, who represent about 10 percent of consumers, are a very crucial segment to reach. This group represents the opinion leaders, and is very important for spreading information about the product. As it is so early in the release of the RX400h, Lexus has only touched the tip of the ice burg in terms of product knowledge and acceptance. Our recommendations below will highlight the methods to promote growth and acceptance down the curve.

Recommendations
Our analysis has shown that the marketing efforts of the RX400h should be used to promote the h-series of upcoming automobiles as well as the brand name of Lexus. This step toward hybrid vehicles can stand as a testament to their innovativeness as well 16

as versatility. Rather than investing marketing capital in stimulating demand for the RX400h specifically, promotion should be focused primarily on the h-series in general. The innovation should be advertised, with the RX400h used as an illustration or example. This will further strengthen the Lexus brand name and reputation. Consumers should be introduced to the concept of a luxury hybrid vehicle. This will give Lexus the opportunity to disprove any misconceptions consumers may have. By promoting Lexus’ role as innovator for luxury hybrid vehicles, demand can be created for future Lexus products. By focusing on innovators and early adopters initially, they may begin ascending the marketing curve, gaining exposure to the majority of consumers. Lexus intends to release more hybrid vehicles in the near future, and the creation of demand for those upcoming products can begin now.

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Appendices
Appendix 1: Lexus Covenant
THE LEXUS COVENANT Lexus will enter the most competitive, prestigious automobile race in the world. Over 50 years of Toyota automotive experience has culminated in the creation of Lexus cars. They will be the finest cars ever built. Lexus will win the race because Lexus will do it right from the start. Lexus will have the finest dealer network in the industry. Lexus will treat each customer as we would a guest in our home. If you think you can't, you won't... If you think you can, you will! We can, we will.

Appendix 2: Products
Hybrid Automobiles in the Future Market: • Nissan Altima Hybrid (technology supplied by Toyota) • Mitsubishi hybrid Eclipse Concept-E • Subaru B9 SC Scrambler hybrid electric concept • Mazda Ibuki concept, RX-8 Hydrogen RE Concept • Ford Fusion Hybrid • Dodge Ram Hybrid Pickup • Chevy Silverado Hybrid, Equinox Hybrid, Malibu Hybrid, Tahoe Hybrid • Toyota Camry • Saturn VUE • Lexus GS 450h Hybrid • GMC Yukon Hybrid Source: Are You Ready For A Hybrid? by Larry Armstong presented in BusinessWeek April 25th, 2005 18 Hybrid Automobiles in the Current Market: • Ford Escape Hybrid / Mercury Mariner • Honda Accord Hybrid, Civic Hybrid, Insight • Toyota Prius, Estima, Highlander • Lexus RX 400h

Appendix 3: Sales

Appendix 4: SWOT
Strengths: Strong brand recognition Brand loyalty #1 in volume sales, initial quality, dependability and dealership gross profit Large advertising budget At forefront of hybrid technology Product appears to be well received Opportunities: Expected to sell 1 million hybrid vehicles by 2010 Strong demand for SUVs Increasing demand hybrid vehicles Growth for consumer product recognition through further advertising Weaknesses: Possible over-commitment to hybrid technology First mover strategy leads to increased risk Brand tarnishment in the case of product failure Inability to meet demand for newer products Cannibalization Threats: Competitors capitalizing on secondmover strategy Alternative products – in either hybrid or luxury segments Uninformed consumer base

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Appendix 5: Comparison
2006 Lexus RX 2005 Volvo XC90 400h V8 AWD 4dr SUV AWD 4dr SUV (3.3L (4.4L 8cyl 6A) 6cyl gas/electric hybrid CVT) 2006 MercedesBenz M-Class ML500 AWD 4dr SUV (5.0L 8cyl 7A) $48,500 V8 2005 Infiniti 2005 Volkswagen FX45 Touareg AWD 4dr SUV (4.5L V8 AWD 4dr SUV 8cyl 5A) (4.2L 8cyl 6A) $45,450 V8 $44,260 V8

MSRP Base Engine Type & Cylinders Base Engine Displacement Valvetrain Horsepower Torque 0-60mph (seconds)

$48,535 V6

$45,395 V8

3.3 liters

4.4 liters

5.0 liters

4.5 liters

4.2 liters

24 Valves double overhead cam (DOHC)

32 Valves double overhead cam (DOHC)

24 Valves single overhead cam (SOHC)

32 Valves double overhead cam (DOHC)

40 Valves double overhead cam (DOHC) 310 hp @ 6200 rpm

208 hp @ 5600 rpm 315 hp @ 5850 rpm

288 hp @ 5600 rpm 315 hp @ 6400 rpm

212 ft-lbs. @ 4400 325 ft-lbs. @ 3900 339 ft-lbs. @ 2700 329 ft-lbs. @ 4000 302 ft-lbs. @ 3000 rpm rpm rpm rpm rpm 7.1 6.9 6.9 6.5 7.6

Source: Edmunds.com

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www.lexus.com www.lexus.com 3 Taber, D. (2004), The Taber Report, DOTnet Consulting, Inc, 2004 4 Rechtin, M. (2005), Lexus strives to remain top-selling luxury brand, Automotive News, 1/24/2005 5 http://www.jdpower.com 6 Wolfe, D.B. (2003), Ageless Marketing : Strategies for Reaching the Hearts and Minds of the New Customer Majority, Dearborn Trade, 2003 7 Gilmartin, J. (2002), Challenge Your Bank's Current Marketing Approach - Almost Everything You Thought You Knew about Marketing Is Wrong, http://www.bankersonline.com, 9/30/02, retrieved 3/5/2005 8 http://h30011.www3.hp.com/case_studies/view_story.html?sViewID=163 9 Armstrong, L. (2005), Are You Ready For a Hybrid?, Business Week, 4/25/2005 10 http://en.lexus-hybrid.com/news/rx400h.html