James T. Berger, July 2006

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The conventional wisdom holds that in a competitive marketplace the seller that offers the lowest price will always beat out its competitors.

When I first started teaching marketing cases to undergraduates at DePaul University, they invariably offered cutting prices as the universal solution to every marketing dilemma. So ingrained is low pricing in the customer’s psyche that this appears to be strategy of choice for many of the products and services available on the Internet such as airline tickets, hotel accommodations, books, car rentals, etc.

Yet when one examines this closely, one finds that low pricing is not all that it’s cracked up to be. Smart marketers have discovered that customers often are willing and able to pay a higher price for a bundle of product/service elements known as “value added.” What good is a super cheap airline fare if the only time you can fly is in the middle of the night?

L’Oreal hair color for years had a tag line in its TV commercials — “Sure we cost more, but we’re worth it.”

Copper Wire Company
Several years ago, I was called in to consult with a small company in the copper wire business. They were a value-added reseller of a large variety of wire products. They took the raw wire and stretched it into various thicknesses and coated it with multi-colored coverings. When I was brought in the company was terribly frustrated because it believed it couldn’t compete with larger price-oriented domestic and Chinese competitors. They were consistently losing out on competitive bidding situations for large orders.

A closer examination of their marketplace revealed major opportunities that its bigger competitors could not realize. For example, the big competitors were not capable of filling smaller orders. They also were not capable of turning orders around quickly. They didn’t have the variety of thicknesses and coatings that the smaller company had. Moreover, the smaller company had far superior quality control.

All these value-added services translate into higher prices that customers were delighted to pay because the product/service bundle from the smaller company was far superior than the one-size-fits-all philosophy of the larger suppliers.

Instead of being frustrated that they were unable to compete on price, the smaller company decided to compete on value. They were able to pursue highly profitable customers who had no problem paying a premium price for the superior value offerings. By re-positioning themselves as a high-value supplier rather than a low-price supplier, business thrived.

Commodity Markets
The pricing myth extends to commodity industries. Since it is difficult to differentiate commodity products, price becomes the equalizer. The biggest, most efficient supplier will charge the lowest prices and drive its competitors out of business, so goes the conventional wisdom.

This also is not necessarily so especially if smart marketing is employed. Look at three commodity products – chickens, popcorn and coffee. Through effective branding, Perdue for chickens, Redenbacher for popcorn and Starbucks for coffee have all been able to successful compete in commodity markets by differentiating their products and charging a premium price, which customer are more than willing to pay.

Kamikaze Pricing
When unsophisticated competitors in commodity industries feel the intense need to gain market share at the expense of competitors, they often engage in the most foolish of all pricing strategies — Kamikaze Pricing. This is the traditional “price war” where competitors keep dropping prices only to find their competitors following suit.

While a company might believe that in the short term it can trade profits for market share through low prices, the advantage is instantly wiped out by competitors dropping their prices as well. The market share percentages stay the same and everybody makes less money. Successive rounds of price cutting exacerbate the situation.

Instead of price cutting, why not compete by adding value.

There is a story about the barber shop in the strip mall putting a sign in its window — “Harcuts $5.” Its competitor in the strip mall certainly could have matched that price, but instead put a sign in his window — “We fix $5 haircuts.”

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Author
James T. Berger, Managing Editor of The Wiglaf Journal, specializes in both finance and marketing and has spent a number in both the investor relations field as well as an account manager and officer at several Chicago advertising agencies.

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