ob How to Fight a Price War by Akshay R. Rao, Mark E. Bergen, and Scott Davis Reprint 200208 Nr Harvard Business ReviewLapa bcorsia Cateye Sonia ty Poe eosin Err bh toc a) eerie Cerone Corser gs ene peered cut. How FE ‘ight ric ea eso Mark E. Bergen, and W; Scott Davis companies use a wide eange of tactics to ward off comperitars. Increasingly, price is the weapon of choice ~ and frequently the skin. hing degenerates intoa price war. ing low pric: appeal is otea the goal, buc the result of one retaliatory price slashing after another tous decline in industry profits price wars of 1992. When Ameri lines, Northwest Airlines, and other U.S. carriers went toe-to-tos in matching and exceeding fone another's reduced fares, the result was record volumes of air raveland record losses. Some esti | mates suggese that all losses suffered by the | industry thar year exceed the combined profs for the entire industry rom sts inception, | Price wars can create econor and psychologically debi take an y devastating Copregh ©2007 Frae: n Feow o Haad Coleg Al Ah eedand asked them for their suppor, pointing out that ifthe smaller sup: plier was driven off ene market, its ‘customers would be facing & monop- list. The shore term price cuts would turn into long-term pnee hikes. The supplier identified solutions that es- chewed furcher price eute and thus averted aprice war Intelligent analysis that leads to ze- ‘curate diagnosis is more than half ehe cure. The process emphasizes under- standing the opportunities for pric- Jing actions based on current market ‘wends and responding ro competitors’ actions based on the players and their resources, Not only is it necessary to understand why a price war is occur- ring or may occu, tals is critical to recognize where to look for the re- sources todo battle, Good diagnoses invelve analyzing four key arees in the theater of opera. tions. They are customer issues such 4s price sensitivity and the customer segments that may emerge if prices change, company isiues such a3 a business's cost structures, capabili ties, and strategic positioning, com Petitor issues. such as a rivals cost structures, capabilities, and strategic positioning; and contributor issues, tr the other players in the indus whose seli-interest or profiles may aifect she out ‘come ofa price war. [For a more detailed explana: ‘ion of such analyses, see the sidebar “Aa the Batdeground.”) ‘Companies that stepback and examine thos ‘areas carefully often find that they actually i ‘quite afew different options ~inciuding defusing 3 gon Being oun ing. Well Iook at some of chose strategies 3m ‘companies have deployed them successfully Stop the War Before It Starts ‘Thece are several ways to stop a price war be starts. Oneis to make sure your competicocs under stand the rationale behind your pricing policies. other words, reveal your strategie intentions 2 matching policies, everyday low pricing, and ots Public statements may communicate t0 coms tors that you intend to Aight 4 price war using a possible resources. Bur frequently these tions about low prices, or about not eng: Jmetions and capable Compete on axaly oe ‘fie to match compantert press of ‘eeryey low prcne oF veal your cart : drarnage Increase produc eiffreiaton by ning features toa crocuct or bud swarenere of exing features and ther boners Emphasize the perlomarce ie mow= priced cptions, orm strategie partactipe by ofing ocerative oF exclusive cele wth suppers. resellers or powers of elated Offer bundled prices wo-nen ping, Auanty disesunts ae promotions ‘aly orograms or product: iitoduee forking banca hat compete In custome sogmants hor re Deng alleged by compettors ‘Adjust the produc’ regular price im fespense to competitor’ pice hange ot another potential en into the meet you pre‘er to compete on dimensions ‘shan price, Whe yo 0 such compe:ition will be more peu peeing. e7'll ead to go along. Thats pre. what happened whea Winn-Dice { be Big Sear su ong 79 commonly ed for these produc ‘opped competing on price, that Food Lion raised its ritors announced they would ig SUE EAat yoUr competitors Know that your costs are low isanother option -one that effec waras them about the patential conse snce it sometimes pays t0 109provided his cellular phone number in newspeper . ads $0 people could call him directly for reserva- ‘ons. Guests had round-the-clock access toa “tech- ‘nology butler” who could fx laptops and other elec- tronic devices. The Ritz offered a "bath menu” of drinks and snecks to be served along with butler drawn baths. Guests who stayed more than Ave nights received an embroidered pillowease. ‘When luxury hotels tart cucting theie guest rates, their ability to offer “luxury” accoutrements drops. Thar means no fresh flowers, fewer towels, and a noticeable shortage of staff. ur the Ritz kept its rates above 200 ringgit (about $32 vs) aad was able to ay for low-cost services such es providing the embroidered pil- lowcases. Most import Ritz avoided any damage to its brand equity, something that One way companies can avoid a price war is to alert customers to risk ~ specifically, the risk of ‘poor product quality. A related weapon is to ow t Fight Feice War (greater detail in the information generated by the diagnostic device and by alersing buyers to the neg- ative consequences of incomplete diagnoses. Some sales were lost to lower-priced products from the competitor, but the quality-sensicive segment al- lowed the multinational to maintain reasonable ‘margins and avoid the negative spiral ofa price war, Federal Express provides another goodexample of | how a company can appeal to performance sensitiv- oy among customers, FedEx’s brand equity exceeds that of vietually any company ia the package delivery business. ‘The shipping giant bas built an ‘enviable level of consumer re- call and recognition through a highly effective advertising cam- paign. By emphasizing in ads and through ovaer marketing efforts that a customer's pack age wil “absolutely, posistvely” could have easily occurred ifeyp- be there on time, FedEx plays on teal Ritz customers arived sx ™PHASIze other negative oer rcs aversion when the hotel and foundit lied wita consequences. dealing with time sensitive noisy backpacking tourists or large families, all caking advantage of low prices. ‘The negative spillover onto other Ritz properties could have been significant. ‘The Ritz-Carlton Kuals Lumpur lat fall had no ‘more empty rooms than its competitors; in fact, ‘occupancy rates were up to 60% compared with & 450% occupancy rate in r998. Perhaps most impor- tanz, monthly gross operating profit on revenue of 2.2 million ninggstis about 400,000ringgit—2 rerun of about 18%. ‘Another way companies can avoid a price war is to alert customers to risk specifically, the risk of oor quality. A senior product manager from the European operation of 4 large multinational phar- ‘maceutical corporation lamenced her recent pricing. predicament, Her company’s product, a medical di- agnostic device, was the marke:-share leader, but a rival company had recently become aggressive on. price. “They/te crazy! Don't they see what they're doing co profits in the industry? Nobody can make money at these prices. What should Ido! I've ried. ‘everything, and | can’t ge: them to see the error of their ways,” she sai. Not surprisingly, esearch confirmed that large ‘segment of customers in this “Life and death” in- sdustry-doctors and testing laboratories was quite risk averse and sensitive to variations in a product's performance. So rather than compete on price, the multinational appealed to customers’ concerns aboat performance by emphasizing product en- hancements such as improved reliability and HARVARD BUSINESS REVIEW. Mavh-apt 2000 documents A related weapon that companies can use to avert | or battle a price war is w emphasize other negative ‘consequences. The NutraSweet company employed this strategy when it faced the expiration of its patent. The company feared consicersble price pres- sure from the producers of aspartame, the generic version of NuuaSweet. A worst-case scenario would involve one of NutraSweev’s major customers, such as Coca-Cola or Pepsi, switching to aspartame. If one of the companies éwitched, NutraSweevs con- tingency plan—which itshared with wavering Coke ‘and Pepsi executives in Aclanta and New York —was week-long advertising blitz that would alert con- sumers that “the other cola” was the only one that contained NurraSweet. Given the sizeof the market far carbonated soft drinks, NurraSwee-s brand eq- uity in the dict-conscious segment, and the poten- | tial shoct-term loss in market share nd profits, this threat had teeth, NutraSweer successfully played one customer against another, emphasizing dire and unpalatable consequences, and thus averced + debilitating price war. ‘A final nonprice option involves seeking help, or appealing t0 contributors to weigh in on the com. petitive situation. For instance, when Sony entered the market for highend imaging systems, the lead- rs in the imaging systems marker in Belgium ap- pealed to and received help from the central Bel- ian government. Not all companies can count on the government to come to their zi of course, So companies might appeal to customers, vendors, ur‘Encyclopedia Britannica decovered thi chef rivals not Grolie’s trcyelopedi be Micreafs Antares seemed ble: tus to this Important competitor for severl years Unt steady ersion in encyclopedia sue alerted te company to scarlling developments in technology tat changed the way Consumers ge informatio. fs books oer costs hossanes of Aare Seesnnica sow fers fram acts tte daabnee an the Web and dents ts reverts fem tanner ad. se consumers ‘companys dec compestow at hare the sane technol ‘ogy al speak tp the ame markets se inporat vale Bt n= lec ompetton duatsatiy caster nets thoagh che we of diferent techncloges and tht ave comletnydiferen coe structures ar perhaps the mest dangerous In fet, eet competitors such co major airlines frequently const quite seefily Eximining thle pricing dnci.on rules sgeste by US. Deparment of irensporetion susie indice that when fon hub bist altine enters spothers he # ypiealy does nt engage in ree bad competition hese it fare retliation io 4 own inc, Conversely, price was nay often be started by 3 company fom an enstely diffrent indurtry witha racy ifferen: technology, whose cot adrantares pve i nash leverage to cater your market and tea your stare “The process of identifying competitors ake reveals the suengis ard weakness of coment and poten vals This Jha important implitione for how a company compete. tie sgneraly wise to nos str a hornet nest by staring.a pice war ‘with acoupetitor that asa aignieanty larger rexoarce base fra reptstion for being eee piewatrior When araigring your competion, crtily determine wno they are, bow Price Bes with thee sratepe postion, how they male pring Sect ‘Sons. nd wast thet capable ane enero. Contributors, Collaborators, and Other Interested Parties ally ie tmportane to motor other players in dhe indastry ost seltimerest or poe moy ast ontomes, Soper, Aueributon, provides of complementary foods and series, tustomen, government agence and s0 on contebute ig "9 the consumprion experienc, including predict goal- ley, the sales pick and aftersales service, Taey often wield ‘oneiderble fluence on the outcome af price var diecty or incirecty. Sometimes these cotrbutors may provide the Impetus for or may indeedy sare price war. Norros di ‘oeted atch when st incadaced low-gicd colar phones InGhunaand Stan Soon Meoroa observed thatthe street pris fo its phones had dropped sbstantaly inthe United States, Dststnes were diverting peaducs towed for China snd Bran w the protiable 03. and Ewopean rackets, some times the produce meer eve eft the dock Motors’ dist ‘Mors ud created a yray market" becaese Motorola had given them a reason to belle tht prices lathe United Sates were ‘oo nik ‘Somes contributors can help reduce pice competition by ennancng the produr?o value, 2 Intl does for computer ‘manufactures: assting wich marketing, a siline fequent- Ayer propams do fc aedlveard compaies and lmseng the ‘exposure to competing products ac MITT hae done fr Japs nese companies facing inenationsl competition at home. Smart managers mast carefully consider other players and {hele ntereee (pote margin for splice and eistrbutory, ‘omsnisins for sales representatives, spd 40 on) before art ings pree wae a eiing one CUSTOMER ISSUES Price sensvity ‘Segmentation ‘COMPETITOR ISSUES Cos: stuctures Capabicies suotege poston HARVARD SUSIMESD REYEEW Mus-apl 2000 CONTRIBUTOR ISSUES Incentives ef resis supplies sales government us‘Companies may alto opt to cut prices in certain channels. Pechaps the single largest driver of price cuts and resulting price warsisexcess capacity. The temptation to revive ide plans by stimulating de- mand through lower prices is often iresistible. Bt smart managers conser othct options frst. For is- stance, companies in the packaged goods industry feequently sell of brand or private label versions of theiz national brancs at low prices, ensuring that any price wars won't damage the brand equity of the national brands. Similarly, airlines such as Delea are making a dent in reducing :heir unsold inventory by offering hhard drive, and a host of other func:ions for oughly ‘Sapo. High-profile brands such as HP and [BM are being forced to consider pricing their PCs in the ‘$so0 range to reach che Arst-time buyer. in this, marker, price cuts appear to be the only way to compete. In fact, “free PCs” are available to con: sumers who are willing to be exposed to a signifl- cant amount of edveresing. Clearly there are times when you must engage in 1 preemptive strike and start & price war~ of ze- spoad to a competitors discount with 2 matching ‘or deeper price cut of your own. For instance, when ‘competitor chreatens your core business, aeialiay Ifsimple retaliatory price cuts are the chosen means of defense in a price war, implement them quickly and unambiguously so competitors will know that their sales gains will be short-lived. seats :0 consolidators and auction houses such a8 Priceline com and Cheaprickers.com. The airlines are selling tickers woprice sensitive customers who don't care about fight times, aumber of stops, or frequent -flyer miles. Because the customer's point ‘of contact is with the consolidator and aot with the airline, the aisline's image is protected in mach the same wey that a aationally branded cous menu: facturer protects its image by selling excess capac ley under a private label. ‘But engaging in “stealth marketing” by selling low-priced, functionally equivalent alternatives through unrelated brand names or in foreign mat- ‘kets may still tigger price wars. If consumers cec- ‘ognize that the quality of ehe private-label product is comparable to that of the branded option, shea the price of the branded option will need to drop. In many cases, it is best to leave plant capacity ile, since the attemp: to revive it may trigger margin- destroying price competition. in fact, the ile ca- pacity can be used as a weapon; a company then ‘wields the credible threat ot being able to flood the smarket with cheaper products should a competitor starteutting its prices, Fight It Out Although we feel strongly thar direes. retaliatory price cuts should be a last resort, we do recognize that Ic is somecimes simply impossible to avoid 2 price war. Consider the case of personal comput- fers. Expansion in this industry is occurring primar ily at the low end as moreand more price sensivive consumers enzer the markst for PCs. EMachines, in Irvine, Californiz, sells PCs that feature Intel's Celeron processor (a 368 ME2 chip), 2.4.3 gigabyte HARVARD HUSDEESE REVIRW Mase Apel 100 tory price eut can be used to signify your intention to fight long and hard. Similarly when you can ‘identify a large and growing segment of price-sensi- tive customers, when you have a cost advantage, ‘when your pockets are deeper than competitors pockets, when you can achieve economies of scale by expanding the marke, or when « rival can be neutralized or eliminated because of high barriers ‘omar: entry and entry, shes engagngi ice competition may be smaze ‘ut there are several long-ran implications of ‘competingon price. Firs, a pattem of price cutting ray teach customers to anccipate lower paces, ore patient customers will defer theix purchases lunul the next price out. Second, a pcice-curting company develops « reputation for being low: priced, and this reputation may cast doubt on the {ualiey and image of other products uncer she um- brea beand and on the quality of Future products ‘ied, price cuts have implications for other play. ers in the market, whose self-inceres: may be harmed by lower prices. Uf simple retaliacory price cuts ate the chosen reins of defense in « orice war, then implement them quickly and unambiguously so compedtars lenow thet eis sles gains from a price ext will be short-lived and monetarily uaateacsve. A slow re sponse may prompt competitarstomake adaitional ice cuts in che Future. Retreat On rare occasions, dseretion is the better part of valor. Consequently, some businesses choose not to Bight price wars, instead, they'll cede some mar- ker share rather than prolong 2 costly batele. 3M us