4th January 2014
Beware the race to the bottom
Price competitiveness – it’s a topic that always guarantees an interesting discussion with a client but one that is fraught with danger. You can see how easy the temptation is. “If we lower our prices to compete with others, especially online e-commerce competition, we would sell more and have a bigger share of the market “ . The company who engages in this behaviour might make a small short term gain as turnover increases by more than the lost gross margin on the products sold. The problem lies in the long term trajectory – your competitors are then tempted to retaliate by charging just a little bit less and everyone can end up in a downward price spiral. By commencing or engaging in the ensuing price war, we have to drive ever more savage cost cutting, which can mean harming the relationships with our customers, our suppliers and losing sight of our original business ethics and goals.
Seth Godin summed up these sentiments in his blog today, when he wrote “The problem with the race to the bottom is that you might win”.
I recently read an excellent article in Marketing Leader entitled “Why cost competitiveness can prove fatal” written by Dr Jules Goddard, Fellow of the London Business School. In it, he explains that the common management strategy of focussing on cost reduction measures is harmful to the long term performance of companies. His article was based on research conducted on a large (25,000) sample of US companies over a 40 years, in which the successful companies did not focus their efforts on cost reduction practices. These practices might aim to increase sales volumes and reduce costs through economies of scale, lowering costs by out-sourcing non-essential activity, moving production to lower wage based economies and bargaining hard with your supply chain over prices.
This Scrooge mentality in a company can lead to an inwardly-focussed management rather than an outward, customer facing focus. Allowing managers to be less risk-averse means they are more likely to spot opportunities to add value for their customers through developing new and better products and services. Using Dyson as an example, the 2 rules for successful companies are:
1. Focus on being better rather than cheaper, and
2. Place more importance on revenues rather than costs.
Dyson products frequently cost 3 times that of their competition but, even allowing for higher production costs, the profitability for the company overall is much higher.
Goddard ends his article with some challenges that can change the way senior managers set their strategy. So, if your management team spend their time addressing problems such as
“What cost savings can be made without our customers noticing?” or
“What pressure can we place on our suppliers without losing their trust?”
Instead, what would happen if you switched to thinking about
“If we needed to carry a 20% premium price on our products and services, how would we change our thinking?” or
“If there were no recriminations for making mistakes in the bold pursuit of greater success, what investments would we choose?”
The first route leads to the race to the bottom, the second route leads to building better brands, higher sales revenue and improved gross margins.
The Fatal Bias by Jules Goddard, Fellow, London Business School can be found at