Most small business owners face incredible competition. Everyone is competing for a share of the market, and once they have it, they compete to expand that share. Yes, friends, it’s no secret that the world of business can be cutthroat. It’s not for the faint of heart. To succeed, you must have a competitive drive and the determination to push through even the most difficult circumstances. With so much on the line, it can be tempting to try to reduce prices. However, this could be a dangerous game. Today’s entry is going to explore why small businesses should avoid price wars.
Follow Along With The Financially Simple Podcast!
This week on the Financially Simple Experience:
- Teen Wolf, Sears and Roebuck, and competing with prices
- What price wars are and why they should be avoided
- How engaging in price wars can reduce quality control
- Why price wars and eliminating competitors can lead to higher prices in the long-run
- The importance of assessing your competitors’ motives when they drop their prices
- Creating creative differentiators instead of decreasing your prices
- Developing strategic partnerships and creating great customer experience over low pricing
- Educating your market on your quality and knowledge value
What is a Price War & Why Aren’t They Sustainable?
According to the good folks at Investopedia, a price war is “a competitive exchange among rival companies who lower the price points on their products, in a strategic attempt to undercut one another and capture greater market share.” Now, on the surface, this may seem like a great way to increase your market share while simultaneously squeezing out the competition. However, this isn’t a sustainable strategy.
Why? You see, engaging in a price war means you’ve made an active decision to diminish or eliminate your current profit margins greatly. But that’s not all. Price wars can create problems ranging from a decline in product or service quality to massive losses. For example, American Airlines lost a (then) record $1B in 1992 despite boarding 21MM passengers. This was a direct result of the now infamous airline price wars that took place in the industry that same year.
The Ramifications of Engaging in Price Wars
Although price wars can benefit consumers in the short term, they create far greater problems over time. When you look at the many negative effects of a competitor price war, it’s clear that there really are no winners. Let’s look at some of the consequences of price wars.
- For the average company, a mere 1% price drop can cut operating profits by up to 15%.
- Companies that lose a price war lose market share and profits.
- Price wars can lead to higher prices in the long run, by eliminating competition.
- Consumers end up with fewer choices for products and services.
- Price wars can result in pricing competitors out of the marketplace resulting in fewer job opportunities for workers.
How Small Business Owners Can Respond to Avoid Price Wars
Once a price war begins, it can feel almost obligatory to join in. However, a competitor lowering prices may not indicate the onset of a price war. So, how should you react to avoid escalating things? I’ve come up with a few tips for avoiding price wars if you have a small business. Let’s take a look at some of the means to stay out of costly pricing wars.
Properly Assess Your Competitor’s Motives.
Before reacting to a price reduction, really examine all the reasons why they might have lowered their prices. As a small business owner, you know there are many reasons for decreasing prices. It’s important to resist the emotional response when your competitors lower their prices. Instead, consider what’s taking place within their business and in the market as a whole.
Perhaps, the reduction is a temporary move to liquidate or decrease inventory levels. Another possibility is that there has been a change to supply costs. In this case, you’re likely to see similar cost reductions. If not, it could be an indication that your competition has negotiated a better deal with their vendors. Still yet, you want to be sure that the pricing you’re seeing isn’t part of a promotion or internal rewards program.
If your product or service offering is identical to those of your competitors, it becomes even more tempting to leverage pricing strategies to attract a greater market share. However, you could find that simply creating differentiation between your offerings is enough to remain competitive at your current price point.
Apple has embraced this method from its beginning. Although there are many companies that can manufacture smartphones, tablets, or computers, only Apple products run on their proprietary operating systems. When combined with innovative designs, feature upgrades, and unprecedented product integration Apple has been able to maintain a premium price point without losing its share of the market.
In fact, this has been such a successful strategy that the company is set to assemble 220MM iPhones in 2022, at a time when many Android devices are suffering. But you don’t have to have a proprietary operating system to differentiate your products from the rest of the market. You could simply choose to include a low-cost product or feature with your offering to improve consumers’ perceived value.
Develop Strategic Partnerships
Oftentimes, companies who begin a price war are laser-focused on generating demand. This creates a blind spot that can be exploited. While your competition is trying to lure the market away through non-sustainable pricing, you could be working with suppliers to lock up the supply chain. If your competitors only have limited access to products, the price war strategy will fail because they won’t be able to properly serve their customers.
You see, consumers are willing to pay a premium for great customer service. Chick-fil-A is a great example of people choosing a great customer experience over low pricing. The company is known for its hyper-efficient drive-thrus and excellent customer service. As a result, they’ve developed raving fans who don’t mind paying a little more for a chicken sandwich. In 2019, the chain earned $11.3B, outpacing rivals like Taco Bell, Burger King, and Wendy’s despite operating with half as many locations and being closed on Sundays.
Know Your Value and Prioritize Quality
In my own businesses, I used to attempt to work with anyone who could fog a mirror. However, I eventually came to a point where I knew my value and the quality of my work. If a client thought they could get the same level of service for a lower price, they were welcome to try. By focusing on the quality of your product or service, you can create separation between yourself and your competitors.
Once you’ve set the standard, you can remain neutral in price wars that take place in your market. You won’t need to participate because you will have crafted a strong message to consumers without saying a word. Your message will be that your competition’s prices are cheaper because they offer a lower-quality product or service.
Price wars are a part of business now. But that doesn’t mean it’s in the best interest of your organization to participate. Meet with your advisory team to discuss how your business can handle aggressive pricing actions taken by your competition. You could find that staying out of the price war is the best strategy. If you don’t have a trusted business coach or advisor to help you through this, reach out to our team!
Look friends, I know life is hard. I do. But life is good. Competitors attempting to bait you into a price war can be frustrating. But with careful consideration, a focus on quality, and outside-the-box thinking we can make avoiding price wars at least financially simple. Let’s go out and make it a great day!
If you’re currently in a price war or worried that your competitors may attempt to start one in the near future, don’t take the bait! Reach out to our team and let a trusted business advisor help you find ways to protect your market share without deliberately sacrificing your margins.