Okay, there are some obvious reasons for knowing what your competitors are doing, but I've seen many companies take it to extremes and become so obsessed with following their competitors that it took attention away from running the business.
Lead, Don't Follow
You're in business to serve customers. If you continually provide better products and services to your customers, you won't have to worry about your competitors. The key is to develop a deep understanding of your customer's fundamental needs - i.e., the value your product or service truly provides for the customer. Clearly understanding this improves your ability to create innovative ways to meet the customer's needs - something that won't happen when you spend too much time studying your competitors.
Too much focus on competitors tends to limit innovation because it directs attention toward meeting or beating what competitors do rather than finding ways to improve the value customers receive by doing business with you. There is a strong tendency toward a "me too" mentality when you worry more about what your competitors - instead of your customers - are doing.
In other words, when you focus on your customers; you lead. When you focus on your competitors; you follow.
As an example, when Saehan developed the world's first MP3 player, it did so based on the customer's fundamental need to listen to music from anywhere quickly, easily, and comfortably. Until that time, the only way to have portable music was to use a portable radio (where one can't personally select the songs) or a portable CD player (which limits the amount of music based on the number of CDs the user is willing to carry). If Saehan focused on competitors, it would have put its efforts toward developing a better or cheaper portable CD player. Instead, it focused on the customer's fundamental needs and introduced an innovative product that changed the market forever.
So, I guess I've answered my original question. Although it's probably okay to have a basic idea of what competitors are doing, it can easily get out of hand and interfere with innovation and customer-focus. Becoming obsessed with customers instead of competitors, however, can lead to the development of innovative products and services that will result in competitors following you.
