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Price War Breaks Out in Online Books: How to End It

November 2009 Pricing

In late October, Wal-Mart kicked off the most devastating book price war in a decade by selling its 10 most anticipated hardbacks for $10 a piece when pre-ordered online.  Hours later, Amazon picked up the gauntlet and declared a defensive stance with matching prices.  Wal-Mart lunged back on the offensive with a price cut to $9.  Within a day, Amazon responded with a Prise de Fer by also moving to $9.

The war is on.  It must end.  And, the sooner the better.

Wal-Mart exercised poor judgment when they chose to invade an entrenched competitor’s territory.  Moreover, it would be ludicrous of them to not have expected a response.  Amazon’s strategic investment is in the online book market.  From a strategic pricing perspective, it is completely rational for Amazon to respond in a measured, but harsh, manner to a direct attack on their strategic investment in online book retailing.  And, they did.

Before a competitor like Wal-Mart initiates a price war, they should be looking to either leverage an existing competitive advantage or develop a new competitive advantage from winning the war.  In terms of returns to scale, scope, or learning, it is hard to identify any specific strategic source from which Wal-Mart would be better positioned for a price war than Amazon in online book retailing.  In terms of variable costs, books are reported to be sold by the publishers to both of these retailers on equal terms, likely due to the Robertson Patman Act.  In terms of other forms of cost savings such as data management or cross selling, it is doubtful that Wal-Mart has a more efficient online retailing model than Amazon.  As for network externalities rewarding the largest player with disproportional profitability, any such network externalities are likely to be weak, if existent at all, in online book retailing.  Hence, it is hard to identify a current or expectant future competitive advantage for Wal-Mart; therefore, it makes little strategic sense for Wal-Mart to initiate a price war.

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Despite the lack of an identifiable competitive advantage for Wal-Mart, they appear intent on war.  Wal-Mart’s Chief Executive Raul Vazquez has said that Wal-Mart “will go as low as we need to” to clarify their intent to be the lowest priced online retailer.  Wal-Mart seems unlikely to retreat easily.

This isn’t the first time Wal-Mart has made a serious strategic marketing error.  In 2006, Wal-Mart had to forfeit a market expansion into Germany when they learned their prices were not competitive with hard-discounters such as Aldi or Metro.  (We should also note that Aldi has been making inroads into Wal-Mart’s home turf, the US, recently.)

This price war will only destroy profits for all players, leaving the industry impoverished overall.  Given that the price war is underway, how should the industry players bring about an end?  Fortunately, winning a war doesn’t require one to annihilate the enemy; it only requires one to establish a future state of peace in which to flourish.  So far, Amazon has responded appropriately.

Amazon has said nothing but did respond with a tit-for-tat pricing.   In tit-for-tat pricing, a defender makes parallel pricing moves to an attacker’s price change.  The point is not to destroy the attacker, but simply to demonstrate to the attacker that the war will not be won on the basis of price.  In the end, the hopeful lesson learned by the attacker from the defender’s tit-for-tat price moves is that it is better to compete on one of the other marketing mix dimensions, such as product mix, promotion, or customer experience.

Within a week of the breakout of war between Wal-Mart and Amazon, Target joined the fray.  In a very measured response, Kelly Basgen, a Target spokesperson, stated “At the moment we are only matching what others are doing …. We want to remain competitive.”  At this point, Target has taken the same stance as Amazon in this war against Wal-Mart with a tit-for-tat pricing position.

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Hopefully, Wal-Mart is getting the message.  If not, let me spell it out for them.  Wal-Mart’s competitors are stating:  “Your online book prices WILL NOT be the lowest.  At best, they will be equal to ours.”

If Wal-Mart doesn’t get the message soon, Barnes & Noble and Borders may be forced to join the war.

Sorry Wal-Mart, sometimes you cannot be the lowest in price.  As for Amazon, very well defended, but the war isn’t over yet.  And, to all the industry combatants, please avoid a corps-a-corps.  Measured chattering with news reporters is generally a legally acceptable move, but any and all direct conversations are strictly illegal.

References

Jeffrey A. Trachtenberg and Miguel Bustillo, “Amazon, Wal-Mart Cut Deeper In Book Duel,” Wall Street Journal, Eastern Edition, (October 17, 2009).  http://www.proquest.com.ezproxy1.lib.depaul.edu/ (accessed November 6, 2009).

Ann Zimmerman, “Target Joins Online Books Pricing Fray,” Wall Street Journal, Eastern Edition, (October 20, 2009).  http://www.proquest.com.ezproxy1.lib.depaul.edu/ (accessed November 6, 2009).

Ann Zimmerman and Emily Nelson, “With Profits Elusive, Wal-Mart to Exit Germany; Local Hard Discounters Undercut Retailer’s Prices; ‘Basket-Splitting’ Problems,” Wall Street Journal, Eastern Edition, (July 29, 2006).  http://www.proquest.com.ezproxy1.lib.depaul.edu/ (accessed November 6, 2009).

Note:  Responding with equal price cuts is not always the appropriate response.  However, in this case, it is the right response for Amazon due to the strategic importance of online book retailing for Amazon and the absence of a notable competitive advantage on behalf of Wal-Mart.  Without the presence of both conditions, I may have suggested that Amazon should take another position.



About the author

Tim J. Smith, PhD is the Managing Principal of Wiglaf Pricing, and an Adjunct Professor at DePaul University of Marketing and Economics. His most recent book is Pricing Strategy: Setting Price Levels, Managing Price Discounts, & Establishing Price Structures.

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