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Won a Price Battle, but Lost the Price 

Many companies have found themselves facing the same di-


lemma: how to fend off rivals who are engaged in a cut-throat
price competition without losing market share or driving their
own businesses into the ground. Richard Zinoecker of Simon-
Kucher & Partners analyzes recent price wars in different in-
dustries and shows how savvier management responses can
avoid these potentially ruinous situations. For more informa-
tion you can contact the author at: Richard.Zinoecker@simon-
kucher.com

The Price War Phenomenon What distinguishes regular price competition from a price war?
What measures can market players take to avoid all-out conflict?

R
etail companies currently face more than a few dedi- And how can an industry trapped in one find its way out?
cated “value-for-money” customers and react by offer-
ing store brands and cut-throat prices. The automotive The effective price - that is the equivalent value received from
industry has experienced a downward discount spiral the customer for the product or service provided - is crucial for a
that also affects its premium segment. Traditional airline com- company’s business success. For this reason, every firm - regard-
panies have been losing market shares against no-frills competi- less of the industry - should take a closer look at the phenomena
tors for years. Telecommunication companies are going on the of price competition and price wars to learn some very impor-
offensive by cannibalizing their brand portfolio through in-house tant lessons.
discount brands. Computer suppliers have learned that their
business success is increasingly decided in the price-aggressive Identifying Familiar Trouble Signs
entry segment. Fierce price competition is referred to as a price war (see Figure 1),
if the following characteristics apply:
The list of price wars could go on. In countless markets, regard-
less if it be B-2-B or B-2-C, differences in performance seem  Prices drop repeatedly in the course of actions and reactions
to evaporate. Price wars are the rule rather than the exception taken by market players.
in more and more industries. Even sectors such as engineering,
y sensitive
which sub-segments
traditionally were shelteredbut is experienced
from across all  Price decreases are implemented in such quick succession that
pure price competition
through segments.
constant innovation and long-standing customer rela- their volume effects cannot be adequately factored in.
tions, are no longer immune to this phenomenon.
 Prices plummet to a level that is not sustainable in the long-run
Figure 1: Mechanism of
Patterna Price War without putting the companies at risk. In such a situation full
Pattern of of aa price
price war
war
costs cannot be covered over a longer time period as price setting
In a price war, prices are reduced by most of the is geared towards marginal ones even in the midterm.
market participants within a short period of time.
Price pressure is not restricted to single price-sensitive sub-seg-
ments but is experienced across all segments.
Price Company
Company A
A
A price war considerably weakens the internal substance as well
Company
Company B
B as the brand and value perception of an industry. In the short-
term customers might profit from lower prices. But in the long-
term, customers will usually not benefit, as an industry’s ability
to innovate is impaired.

Own price Price wars can emerge in almost any industry. Countless product
innovations and performance improvements have not prevented
Price of competition manufacturers of household appliances from experiencing a price
decline over the last years. As Figure 2 illustrates, the average price
time for washing machines between 1994 and 2006 declined by 25%.

 Third Quarter 2007 The Journal of Professional Pricing


Figure 1: Mechanism of a Price War
benefit, as an industry’s ability to innovate is impaired.
Price wars can emerge in almost any industry. Countless
product innovations and performance improvements have

War?
not prevented manufacturers of household appliances
from experiencing a price decline over the last years. As
Figure 2 illustrates, the average price for washing
machines between 1994 and 2006 declined by 25%. In
the same period, the average value for money for washing
Figure 2: Price War in Household Appliances (Source: Calculations In the same period, the average value for money for washing ma-
machines (measured in price per turn per minute)
based on numbers of Stiftung Warentest; Gfk, University of Erlan- chines (measured in price per turn per minute) doubled.
doubled.
gen/Nürnberg)
A similar development can be observed in the market for laptops.
Although the market has seen a double-digit growth in sales units,
Price
Price evolution
evolution of
of washing
washing machines
machines and features have been continuously upgraded, the drop in sell-
ing prices has not been halted.
100 97
Price index 100 93
87 The selling price of a consumer notebook in the German market
(1996 = 100)
74 averaged 2,200 euros in 1998. From 1998 to 2000, prices sank
moderately to roughly 2,000 euros. By mid-2005 the price for
a consumer notebook, with clearly superior features, had fallen
50 to 1,000 euros — 50% below the level in the year 2000 (Fig-
1996 1998 2000 2002 2004 ure 3).

Value
Value for
for money
money of
of washing
washing machines
machines The price decline of laptops thus does not follow the classic pat-
1.20
tern of a new technology where it occurs, markedly, in the early
Price per 1.00 0.86 stages of the product life cycle and bottoms out in the later stages.
turn /min 0.80 0.66 Rather, cut-throat competition led to an accelerated decline in
in € 0.60 0.49
selling prices.
0.40
0.20
0.00 Prices for car tires have long known only own direction: south. Be-
1994 1999 2003 tween 1995 and 2002 prices for winter car tires fell by more than
25% (Figure 4). As the potential is essentially capped through
the tires’ wear-and-tear, the market has seen no significant vol-
Figure 2: Price War in Household Appliances (Source:
Figure 3: Price Decline of Consumer Laptops in the German Market (Source: Gfk)
Calculations based on numbers of Stiftung Warentest; Gfk,
University of Erlangen/Nürnberg)Average price of Consumer Laptops in German market
A 2.400
similar

development can be observed in the market for
laptops. Altough the market has seen a double-digit
2.200 €
growth in sales units, and features have been
continuously
2.000 € upgraded, the drop in selling prices has not
been halted. The selling price of a consumer notebook in
1.800 €
the German market averaged 2,200 euros in 1998. From
1.600 €
1998 to 2000, prices sank moderately to roughly 2,000
1.400 €
www.simon-kucher.com
1.200 € 4

1.000 €

800 €

600 €

400 €
-8% -47%
200 €

0€
Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul
1998 1999 2000 2001 2002 2003 2004 2005

Figure 3:ProfessionalPrice
The Journal of Pricing Decline
Thirdof Consumer
Quarter 2007 Laptops in the 
ume increases due to the lower prices. No Figure 4: Price Decline in Market for Car Tires
manufacturer was able to buck the negative (Source: German Federal Association of Car Tire Dealers; September 2003)
trend in the market. It was only through
a clear cost increase, particularly tied to
MarketMain Reasons
Prices for a Car
of Winter Price War
Tires
Pr

P
energy and raw materials, that the price 1000 rice wars can happen in every sector. Yet, certain
ic
level stabilized and has partially recovered 95
since 2003. e industries are more prone to them than others.
90
-5
in 85 According to an empirical study (Figure 5), the
In the early stages of market liberaliza- de 80
-10 commodity character of products and overcapacities in a
tion of the aviation industry (1989-1992), x 75
airlines of the Western hemisphere ac- Main Reasons for
market, areathe Price War reasons for a war. If a
most important
(1 70
-15
cumulated an aggregate loss of 16 billion 65 market experiences low or zero growth rates, the chances

P
99
dollars. In the early nineties, U.S. airlines -20 rice wars can of one happen
occurring in are
every sector.
equally Yet, An
increased. certain
ologopolistic
attempted to increase their market share 5 market structure further adds to the probability of one
by lowering prices in quick succession and =1 -25 industries are more prone to them than others.
emerging.
by offering generous discounts and bo-00 According to an empirical study (Figure 5), the
nus programs. Yet, as each price cut was -30
)
matched by competitors, no airline was commodity character of products and overcapacities in a
Reasons for Breakout of a price war
able to realize a sustainable competitivemarket,
-35
are theOvercapacity
most important
Sep 95 Sep 96 Sep 97 Sep 98 Sep 99
reasonsSepfor
Sep 00 Sep 01
a war. If a
02 Sep 03 Sep 04 Sep 05
54
advantage. Hemjö Klein, then member of
market experiences
the Lufthansa board of directors, referred Continental
Commodity low
Michelin or ofzero
character product growth rates, the chances
Goodyear Pirelli 38
Dunlop
to this development as a ‘’group-dynamic of one occurring
Bridgestone Lackare equally
ofUniroyal
market growth increased.
Firestone An ologopolistic
Overall
Gesamt
29
attempt to commit suicide in a whole in-
dustry.”
Figuremarket
4: structure
Price further
Decline
Market
structure)
adds
in Market
structure (oligopolistic to the for probability
Car 24 of one
Tires (Source:
Figure 5: Reasons for a Price War
emerging.
German Federal Association of car tyres dealers;
This observation holds true even today. (Source: Prof. Oliver Heil* Multi-res
“Price pWars:
onses Issues and Preliminary Results”)
% of cases where price war was attributable to factor

The industry association IATA quotes an


aggregate loss of 6 billion euros for September
the 2003)Reasons for Breakout of a price war
sector in 2006. What is worse: according Figure 5: Reasons for a Price War (Source: Prof.
to the IATA, with a figure of 8.2 billion Overcapacity
In the early stages of market liberalization Oliver Heil "Price Wars: of the Issues and54
aviation
euros, the annual aggregate loss among Preliminary results")
airlines since 2001 is even higher. industry (1989-1992), airlines of the Western 38hemisphere
Commodity character of product
Still, it would be wrong to conclude that a price war is a
Main Reasons accumulated
Lack of marketan growthaggregate loss of 16 billion
law of nature. Ultimately, the pricing-IQ29 dollars. In the
of an industry is
for a Price War early Market
nineties,
structure U.S.
Price wars can happen in every sector. Yet, theairlines attempted
crucial factor
(oligopolistic determining to increase
24 whether their or not.
one occurs
structure)
market
certain industries are more prone to them
*
share
Multi-res p
by lowering
onses
prices
Intelligent industries in quick
excel succession
in taking advantage and of all
% of cases where price war was attributable to factor
than others. According to an empirical possibilities to avoid excessive price competition. In doing
by offering generous
study (Figure 5), the commodity character discounts and bonus programs. Yet,
so, they apply four different measures:
of products and overcapacities in a market, Figure 6: Measures to Avoid a Price War
asIfeach price cut was matched by competitors, no airline
are the most important reasons for a war. Figureexperiences
a market 5: Reasons for a PricetoWar
Measures Avoid(Source:
a PriceProf. War
low or zero growth rates, the chances ofwas able to
one occurring realizeOliver
are equally a sustainable competitive advantage.
increased. An oligopolistic market structure further adds to the Heil "Price Wars: Issues and
probability of one emerging. Hemjö Klein, thenPreliminary member
• Actionof theon
results")
based Lufthansa board of
sound information
directors,
Still, it would be wrong to conclude that a price war isreferred
a law of to
• this development
Product differentiationas a ''group-
nature. Ultimately, the pricing-IQ ofdynamic
Still, it would be wrong
the crucial to• commit
an industry isattempt
to conclude that a price war is a
factor determining whether one occurs or not.law of nature.
Intelligent
suicide
Price differentiation in a whole industry."
indus- Ultimately, the pricing-IQ of an industry is
This the observation
tries excel in taking advantage of all possibilities
• Price signaling
to avoid exces- holds true even today. The industry
sive price competition. In doing so, they apply crucial
four factor determining whether one occurs or not.
different
measures, as seen in Figure 6. association
Intelligent IATA quotesexcel
industries an aggregate loss of 6 ofbillion
in taking advantage all
 Competencies of one’s company
Measure 1: eurospossibilities
for the sector in 6:
to Figure
avoid 2006.
excessive What
Measurespriceistocompetition.
worse: according
Avoid a Price In doing
War to
Acting Based on Sound Information the IATA,
so, they with a figure
apply four
 Cost of 8.2
of the billion
different
base measures:
firm euros, the annual
To make justified and well considered decisions about pursuing
a more or less price-aggressive marketaggregate
strategy, one must loss among
under- airlines
 Expected reactionssince 2001
of the most is even
important higher.
competitors
stand the: Measures to Avoid a Price War
 Competitive dynamics of the industry
 Role and importance of price in customer decisions
• Action based on sound
A competitive information
strategy based on lower prices will only succeed
 Price sensitivity of customer segments for a competitor if the price is the least one of the major decision
• Product differentiation
www.simon-kucher.com 8
10 Third Quarter 2007 The Journal of Professional Pricing
• Price differentiation
Information.

T
criteria for most customers. Only a fraction of companies o make
atically try to determine this. Most take this notionpursuing
system-justified
petition orand
for granted. athemore
wellfewconsidered
not. Very companies try todecisions
or lessof customers.
price elasticity price-aggressive
Companies tend
As the following example illustrates, this assumption is not nec- the additional quantities sold due to the cuts. What’s more, the
strategy, one must
market
about
forecast systematically
to overestimate

essarily true. A mechanical engineering company is a producer dynamicunderstand the:reactions is usually neglected.
effect of competitive
of machines for both a special and for a mass market. Figure 7
depicts the buying decision of its customers broken y downRole andAsimportance
by the a last factor, theofdecision
price whether
in customer
to pursuedecisions
an aggressive
importance of various criteria and the performance of the engi- pricing strategy requires a detailed account of the structure and
neering company relative to its main competitors. y Price sensitivitydynamics of ofancustomer
industry. From segments
an industry’s point of view, a
price war is only successful if it leads to market consolidation.
In a special market, criteria such as the modularity y of Competencies
the ma- In other of one’s
words, company
if it forces some players out of the market. As a
chines, quality of the after-sales service and the product quality result, only a very limited number of successful price wars can be
are the top decision criteria for customers. In such a market, the identified. In the early nineties, Marlboro succeeded in pushing
y Cost base of the firm
engineering company is in a favorable competitive position as emerging low-price market entrants out of the market by cutting
revealed by the above profile. prices by 20%. This initiative came at a cost, however. Marlboro
y Expectedsaw reactions of the
its profits drop by 40%most and itsimportant
share price plummet over a
More importantly, in such a market, a strategy based on competitors
aggres- time frame of two years.
sive prices is likely to fail. In standard business, however, the price
can potentially afford a competitive advantage. Only a few companies are willing to incur losses over a longer
y Competitive dynamics of the industry
period. In a dynamic market where entry barriers are low or only
To have consistent success in a price-sensitive B-2-B market with temporary, even a seemingly successful war would not be much
a price-aggressive strategy, a competitor needs A competitive
to have strategy
a clear and more basedvictory.
than a Pyrrhic on lower prices will only
sustainable cost advantage. The company alsosucceed needs to beforablea competitor if the price is the least one of the
to communicate credibly this sustainable price advantage. As a Measure 2: Product Differentiation
consequence, this type of price differentiationmajor decisionIncriteria
is only advisable for most
many markets, customers.
increasing Only ahasfraction
competitive pressure led sev-
of companies systematically try to determine this. Most
for a very limited number of competitors from established, highly eral players to believe that their products are mere interchange-
developed markets. able commodities. Statements like “We have no alternative but
take this notion for granted.
to compete over price”As arethe following
symptomatic example
of such a mindset. Yet,
Aggressive price actions often can be blamed on market players as we have seen, weak product differentiation is one of the main
not having sufficient knowledge of their real costs.illustrates,
Newly liber-thisreasons
assumption
for a war. is not necessarily true. A
alized sectors such as the German electricity mechanical
market of the lateengineering company is a producer of
nineties in which an established price had yet to emerge, were As the following examples show, successful companies do not hesi-
particularly vulnerable to such scenarios. machines for both tate to a special
question and for a mass
the commoditization market.
of their products andFigure
find
7 depicts the buying decision
ways to introduce of its
elements customers
to enhance product broken
differentiation:
A vital factor for deciding on one’s strategy is a substantiated es-
down differ
timate of the price-quantity effects. Volume reactions by the de- importance of various
A German manufacturer criteria
of mounting and the material,
and installation
pending on whether the price reductions are matched by the com- of
performance Würth
the GmbH, has growncompany
engineering from a two-employee
relativeenterprise
to its in
Figure 7: Decision Criteria and Performance of a main competitors.
Mechanical Engineering Company

Pr
Special Ex oject
Special market
market Mass
Mass market
market am
ple
high high
Modularity
Price Product quality
After-Sales Service
Product quality Competence of sales force
Importance
Importance

Competence
of sales force Reliability of delivery
medium Price medium
Brand Cost of After-Sales
Reliability of maintenance Service
delivery
Modularity
Cost of maintenance Brand
low low
bad better bad higher
As competition As competition
Own performance to competition Own performance to competition

The Journal of Professional Pricing Third Quarter 2007 11


1954 to a multi-billion company Figure 8: Selected Examples of Price Differentiation
today. Würth has managed to
do so based on an effective di- Selected
Selected examples
examples of
of price
price differentiation
differentiation
rect sales force and by ruthlessly
pursuing product innovations. Usage-based
Usage-based •• Forklifts
Forklifts per
per km
km or
or day
day of
of usage
usage
For example, screws are marked Pricing
Pricing •• Jet
Jet engines
engines based
based on
on hours
hours of
of usage
usage
in colors to match the appropri-
ate screwdrivers. By position- Value-based
Value-based •• Parking
Parking garages
garages according
according to
to utilization
utilization rate
rate
ing itself as a logistic provider Pricing
Pricing •• Vending
Vending machines depending on
machines depending on air
air temperature
temperature
of services which automatically
restocks screws at the customer’s
Quantity-based
Quantity-based •• Railway
Railway card
card
site, Würth has integrated itself Pricing
Pricing •• Base
Base member
member fee
fee and
and price
price per
per DVD
DVD for
for video
video stores
stores
into the value chain of its cus-
tomers. •• Copying
Copying machines,
machines, fax
fax machines
machines and
and printers
printers as
as aa package
package
Bundling
Bundling including
including paper
paper and
and maintenance
maintenance
Gardena, one of the leading •• Set
Set meals
meals at
at McDonalds
McDonalds
producers of gardening devic-
es, differentiates itself from its Revenue
Revenue •• Airlines,
Airlines, hotels
hotels depending
depending onon actual
actual vs.
vs. expected
expected utilization
utilization
competitors, and has increased Management
Management
the loyalty of its customer base,
by offering a sophisticated
modular system in which multiple devices can be connected via Figure 8 provides an overview of possible parameters on which
universal connecting components. Figure
to base a8:price differentiation.
Selected Examples of Price Differentiation

The software industry tries to counter the trend of increasing Measure 4: Price Signaling
product replaceability by enriching the core products with ad- Measure
If companies 4: payPrice
heed toSignaling
the first three measures, the chances
ditional service and financing elements. of a price war breaking out are very slim. Yet what measures are

In consumer electronics, Bang & Olufsen serves as a role model


for firms seeking to create a real competitive advantage by focus-
I f companies
appropriate
out chances
wards
if one pay
of it? Andofwhat
heed tostarted?
has already
a price warcan
impact
the first
breaking
Howthree
a singleout
canmeasures,
an industrythe
are very
market playerslim.
get
haveYet
that goal? are appropriate if one has already started.
what measures
to-

ing on superior design. How can an industry get out of it? And what impact can a
The German electricity industry offers a good example for how to
single market player have towards that goal ?
Caterpillar, the world leader in building machinery, has estab- end a war successfully. After the German electricity market was
lished a unique selling proposition by constructing a worldwide, liberalized
The German at the end of 1998,
electricity drastic
industry priceacuts
offers good in example
all segments for
24-hour spare part and service network. greatly eroded company
how to end a war successfully. value in the sector. The overall industry
sales volume fell from 40.6 billion in 1998 to 33 billion euros in
Intel, by creating a strong ingredient brand among end custom- After Yet
1999. the shifts
German electricity
in the marketbetween
market shares was liberalized
the players at were
the
ers, has managed to become the unchallenged leader in the com- end of 1998,
marginal drastic
compared price
to the cuts inforecasts.
original all segments greatly
modity market of processors. eroded company value in the sector. The overall industry
The price erosion was stopped in 2001 only by a concerted ef-
sales volume fell from 40.6 billion in 1998 to 33 billion
Overall, each market clearly offers several means of distinguish- fort of the main players in the market. These companies made
ing its products from those of competitors. One lesson holds true: euros inpublic
separate 1999.announcements
Yet shifts in the thatmarket
in the shares
future nobetween
customers the
only companies that are not creative and intelligent enough to find players
would bewere marginal
supplied compared
with electricity belowto the original
market forecasts.
prices. Further-
ways to differentiate their products opt to compete via price.” more, selling prices should also cover
The price erosion was stopped in 2001 only by a risk management and sales
costs. Having made considerable inroads in improving efficiency,
Measure 3: Price Differentiation concerted
most utility effort of the
suppliers todaymain players
are in in the
a stronger market.
position thanThese
prior
Aside from the product itself, there is another way to differentiate companies
to deregulation. made separate public announcements that in
from competitors (and to avoid competing on the lowest price the future no customers would be supplied with electricity
level): innovative price models and price structures. below
As market illustrates,
this example prices. Furthermore,
one of the main selling
leversprices should
to escape a price
war
alsofor an industry
cover is to apply instruments
risk management and sales of so-called
costs. Havingpricemade
sig-
In price differentiation, customers should be able to benefit naling. It is the conscious attempt to influence
considerable inroads in improving efficiency, most utility
the price level in
from a price model. The Bahncard (railway membership card) a market by sending signals to all relevant players.
of the German railways, which enhances the attractiveness of suppliers today are in a stronger position than prior to
using a train over the main alternative means of transportation, deregulation.
Price signaling is a universal set of measures which can be applied
namely cars, offers a simple but compelling example of such a irrespective to the current level of prices in the market. This, too,
price model. If price differentiation is executed well, customers’ iswww.simon-kucher.com
particularly important in situations characterized by a strong13
willingness-to-pay can be fully exploited, customer retention can price decline or when a war is imminent.
be increased; and the transparency and comparability of price
models can be curtailed. For a company to influence the price level, it first needs to have
a certain market share in a market distinguished by a limited
number of players. To send successfully price signals, a firm

12 Third Quarter 2007 The Journal of Professional Pricing


a limited number of players. To send successfully price
signals, a firm should pay heed to the following principles:
should pay heed to the principles Figure 9: Principles of Successful Price Signaling
in Figure 9.
Principles
Principles of
of Successful
Successful Price
Price Signaling
Signaling
Summary
Price wars are a common phe- •• Price
Price Signaling
Signaling is
is an
an issue
issue for
for executive
executive management.
management.
nomenon in numerous markets.
They weaken the substance of an •• Pricing
Pricing measures
measures and
and dangers
dangers incurred
incurred ifif such
such measures
measures are
are not
not taken
taken need
need to
to be
be
industry. As a rule, there are no communicated
communicated repeatedly.
repeatedly.
winners.
•• Pricing
Pricing measures
measures need
need to
to be
be communicated
communicated to
to all
all stakeholders
stakeholders (competition,
(competition, dealers
dealers
Cut-throat price competition can etc.).
etc.).
be avoided by taking a set of coun-
ter-measures. Having the right in- •• Words
Words must
must be
be consistent
consistent with
with actions.
actions. Announcements
Announcements inin their
their own
own right
right are
are
formation makes it unlikely that insufficient.
insufficient.
prices will be cut in a foolish way.
To reduce the probability of mak-
•• Price
Price signaling
signaling requires
requires stamina:
stamina: aa company
company must
must not
not cave
cave inin faced
faced with
with some
some head
head
ing wrong choices, a company wind.
wind.
should know the importance of
the customers’ purchasing decision
and its own cost base. It should Figure 9: Principles of Successful Price Signaling
also have a solid understanding of realistic price-volume effects If the principles of price signaling are considered and correctly
with and without the competitors’ reaction and know the general applied, industries will have a strong means of escaping price
competitive dynamics in the industry. wars.

Industries with a high IQ use a large number of parameters to


differentiate products as well as prices.

www.simon-kucher.com 14

The Journal of Professional Pricing Third Quarter 2007 13