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Evaluate How Well Competitors Can Negate the Advantages of Your Proposed Pricing Structures

Jul 1, 2008
Have you ever tried something new, and found that competitors seized more of the benefit of your innovation than you did? This happens all the time in concentrated industries.

One of the smaller competitors comes up with a better way to price the product, and the largest competitor uses size advantages to adapt the structure to its own advantage. For example, during the 1960s an airline began offering a stand-by student fare that was for unlimited stop-offs during travel for a brief period of time. The larger airlines quickly duplicated this and reaped most of the advantage, since such a fare was more valuable to a student who could fly to more destinations on an airline that offered more flights.

Competing through price is always dangerous. Like setting a "controlled burn" fire in a forest during the dry season, such competition can come back to hurt you.

The least favorable circumstance is causing competitors with more financial resources to drop their prices in ways that negate the benefits of your change and depress your profitability.

Much has been written on this subject, and the material here is no substitute for being familiar with the work done in this area. However, you can use the information here to check that you are covering many of the basics.

First, you should consider how much of the new pricing structures you might test your competitors (and potential competitors) will immediately and ever see. Obviously, the most attractive structures to test and employ are ones that are invisible to the competition. In industries where there is no posting of prices in public, that may well be possible. There is always some potential for leakage as customers share the prices that they are being quoted with competitors. Also, sales people may switch jobs and take pricing structure information with them. If you have a small set of potential customers and the application of the pricing structure is highly individualized and variable, it may be that your structure can be invisible.

However, if the structure is invisible to a competitor, is it also invisible to a customer or potential customer? If so, will the structure work in this opaque state?

You may think you can have your cake and eat it, too, by having both invisibility and effectiveness, but the combination is rare in pricing structures. Normally this combination occurs in situations where you have a large cost or effectiveness advantage with your offerings for certain types of customers and price quotes are usually sought. In such a situation, your quote should reflect these advantages and cause you to get the business over competitors who quote each account in the same way.

Assuming that your new price structure will be visible to competitors, you should then ask how it will be comprehended by competitors. Here is where you have more room to maneuver.

If your structure will cause the price for the same offering in the same quantities to vary a lot from one customer to another and you don't have to post prices, there is a good chance that your competitors will see chaos in your pricing rather than a structure. That's good for you, because competitors will probably keep their existing structure.

In most cases, the price structure will be both visible and comprehensible by competitors. How will they interpret what you are doing?

If they think they can beat you at your own game and that there is an advantage to be gained, they may well go forward. A good way to test this thinking is to have a team pretend to be each of your competitors and determine what the optimal response is from the competitor's point of view.

The safest price changes then are ones that leave your competitor worse off in their own view by responding to what you have done. When does that occur? Basically, they are unlikely to respond if the new price structure builds on your proprietary advantages in ways that they cannot match in effectiveness or cost level.

You may have the only game in town because you have patents that protect your offering, such as a pharmaceutical product. Your business processes may be more efficient, leading to the type of cost advantages that Southwest Airlines has on short-haul flights. Your competitor may have much more volume being sold to customers in the areas being advantaged by your new structure. In those situations, making the change is much more costly for the competitor than for you.

Competitors do not always act in their own profit-maximizing best interests. Some like to bully competitors by lashing out to discourage competition.

Your only protection in such instances may be the government or the courts if the reaction is excessive. How likely are you to get support from either source? Few apply for such help, and even fewer succeed. How costly will it be to get that help? How long will it take? Can you afford the costs and delays?

On the other hand, you may have an opportunity to have the best of all possible worlds -- a pricing structure that will help you expand your position in desirable ways and a competitive reaction that will help you along. Which of your tests could provide that happy combination?

Here's an example of where that could occur. You are changing your pricing structure to accelerate the market's growth rate. If all of your competitors do the same, the market will grow even faster than if only you do so. If you can find inexpensive ways to have lots of surge capacity available in advance, you can provide for the upside of such a test by being able to gain even more market share if your competitors respond at a time when they are short of sufficient extra capacity to serve all of the purchasing that will be stimulated.

As you can see from this last point, you also want to think about what would happen if the test were to evoke a reaction from competitors that meant you had to respond by making your test price structure immediately available across the full range of customers.

If you are a public company, advance preparation is very important for communicating what you are doing and why. Otherwise, your stock price could crack from disbelief about the benefits of what you are doing if competitors respond aggressively. Under such circumstances, institutional shareholders may try to put pressure on your board and management to pull back. By having your potential explanation of how the competitors' reactions benefit you developed well in advance, you increase the chances of a sympathetic hearing from investors and sell-side analysts of why you are on the right track.

You should also be prepared for your competitors to make new partnerships, new alliances, or even acquisitions to counter your new price structure. As a result, you would do well to consider these alternatives as part of your competitive role playing. If certain of those organizations that the competitors would seek out could be of use to you, you should evaluate how to get those organizations involved at the right time so competitors will have a hard time limiting your access to these organizations.
About the Author
Donald Mitchell is an author of seven books including Adventures of an Optimist, The 2,000 Percent Squared Solution, The 2,000 Percent Solution, The 2,000 Percent Solution Workbook, The Irresistible Growth Enterprise, and The Ultimate Competitive Advantage. Read about creating breakthroughs through 2,000 percent solutions and receive tips by e-mail by registering for free at

http://www.2000percentsolution.com .
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