It’s a familiar story: A company begins to use defensive pricing when a competitor has reduced its market share. The competitor lowers prices. The other firm counters with further reduced figures. A back-and-forth contest develops with each player upping the ante, like a poker game.
In this economy, a price war’s greatest danger is lowering yourself right out of business. This game can pose such danger that some small businesses take action. For example, Kennesaw, Georgia-based Flip Flop Shops President Brian Curin will pull a franchisee’s license if a store engages in defensive pricing. Once they hang a sale sign next to a pair of those beach-ready kicks, customers will always expect it.
“I don’t think people realize how quick a consumer habit can form,” Curin says. “Once they’ve got that discount ticket in their hand – that golden ticket to get something cheaper – once you give that, it’s really hard to get your consumer base to pay full price.”
Here, experts reveal 3 basic strategies for avoiding defensive pricing, while still remaining competitive.
Re-evaluate and improve your business model. But if you’re considering defensive pricing, it means some part of your business model contains a flaw, says Leonard Lodish, a professor at the University of Pennsylvania’s Wharton School. “It’s an indication that you don’t have enough of a perception of being better than your competition that you can use to go forward,” he says.
Review each step of your supply chain from beginning to end. Something has caused your customers to grow dissatisfied. Perhaps you need increased marketing or a new ad campaign. Or it could be a problem with customer service at the store.
To find the problem, you might use an in-store customer survey, or check out your online reviews. “You need to find what people are saying about you,” Lodish says.
Cut costs where the competition can't. When you reduce prices, you decrease profits and shrink margins. Right away, this decreases any significant opportunity for growth or innovation. It also means you might have trouble with this month’s rent. A business needs deep pockets to win at defensive pricing, says Ari Ginsberg, a New York University management professor.
“But if you’re dealing with another competitor that has equally deep pockets, then they can play the same game as you. And then you’re screwed because you lost money, but you didn’t necessarily gain the market share,” Ginsberg says.
He says should examine whether you can cut costs where your competitor can’t, but avoid sacrificing quality. An inferior product will just drive customers to that competitor.
“If customers have a bad experience, and they’re used to having a good experience, especially these days, they’ll go everywhere to complain about. And then it’s going to take a long time, and a very heavy investment in marketing, to gain their trust back,” Ginsberg says.
You might also consider raising the cost of a complementary good or service. Take a gas station for example. If it engages in a price war, lowering gas prices, the owner might raise the price of slushees or cold drinks, says Charles H. Green, the Small Business Finance Institute’s executive director. The increased price for slushees and cold drinks boosts revenues, negating some of that profit lost in the price war.
Go low, but not for everyone and everything. Lowering all your prices without discretion makes little since. You might make the reduced price available for only a limited time. Or maybe only a select clientele – new customers perhaps – will receive this special pricing. You will need to balance this carefully though. If you show favoritism toward new customers, your old ones will soon grow restless.
You should also know your limits from the outset. At MonoMotors, an office supplies e-retailer, owner Isaac de la Fuente knows how far he’ll bend in a price game.
“We have competitors that will lower their price by a $1. And then we’ll lower our price by a $1. We have a philosophy of that we know our margins. We play that game … up to a certain margin,” de la Fuente says.