Part 3: Price Change Opportunities
Price Increase Opportunities
Capsule: The Company cannot increase its prices if competitors don't follow. So most price increases begin as short term events, pending competitive reaction. Long-term price increases depend on a unique competitive place or on an unusually uncompetitive market.
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For helpful context on this step:
Videos:
Perspectives:
Symptoms and Implications:
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Some competitors seek price increases more aggressively than others
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Demand has turned up bringing a tight market and more capacity
The Company does not raise its price in a vacuum. Each time it changes its prices, it considers its stance against competitors in the marketplace. The opportunities to raise prices successfully depend on the competitors' Knowledge, Capacity and Will. If the Company is raising prices with the expectation that the rest of the industry will follow, then each competitor must know of this price increase. On the other hand, there are a number of places where the Company may raise its effective prices more readily without the competitor's Knowledge of the price increase. The price increase is also more likely to be successful if the competition faces some kind of constraints on its ability to offer Capacity to counter the price increase. Finally, the competitors must have the Will to match the Company's price increase in order to improve the industry's profits through a margin increase rather than through an increase in sales volume. Taken together, there are seven major patterns of successful price increases.
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PATTERNS OF PRICE INCREASE OPPORTUNITIES |
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| Objective:
Driver of Competitive Response |
Margin Improvement
Source of Opportunity |
| Knowledge: | 1. Better Cost of Service
2. Pace of Price Decline 3. Ancillary Benefits |
| Capacity: | 4. Constraints on Capacity |
| Will: | 5. Industry Move
6. Unique Position 7. High End Product |
Examples of Price Increase Opportunities >>
The Company may take advantage of the fact that the competitors have no knowledge of its pricing moves to raise its effective price by obtaining a better cost position in the customer relationship. By slowing the pace of a price decline, or by raising the prices on ancillary benefits.
1. Achieve a Better Cost Position in the Customer's Relationship
In Hostile and Deteriorating markets, competitors have available capacity and would use a low price in order to fill it. The leading Standard Leader cannot raise its prices directly in these conditions. But, it can do the next best thing. It can ask its customers for preferred treatment in their relationships. This preferred treatment reduces the Standard Leader's cost without affecting the customer. For example, the Standard Leader might ask customers for closer shipping locations or better times for product deliveries. These changes would come at the expense of competitive suppliers but would not affect the customers' costs.
Another form of a better cost position in the customer relationship is achieving a greater proportion of the customer's purchases. If the Company has performed well in the Core customer's relationship, then the Company should ask for a greater share of the customer's purchases in return. A company in the Primary role position could ask for a greater share on the basis of its past good performance. A company in the Secondary or lower roles with the customer would ask for a higher share in the customer's relationship in order to allow this high performing Secondary role competitor to compete on equal terms with the Primary supplier.
2. Slow the Pace of Price Decline
Price declines tend to spread at an industry-specific, and predictable. rate across an industry. The price declines begin with the largest customers and proceed at a predictable pace from the largest customers to the small customers, who get the discount much later, if at all. If the Company is aware of the pace of these price declines, it may negotiate to hold prices higher for some smaller customers for a period of time until the broader industry price decline does reach them. This negotiation does not increase the prices from where they were but from where they might have been had the Company not been aware of the rate at which lower prices were spreading through the industry. In the end, the customer is not worse off if the Company succeeds in holding its prices up for a while longer because the customer's competitors would not be seeing the lower prices yet either.
3. Raising the Prices of Ancillary Benefits
The Company may increase its returns within a customer relationship, even in a declining price environment, by raising prices on ancillary benefits. These benefits include special services that complement the main product. Many customers purchase the main product without considering the likelihood that they will pay additional prices for these ancillary benefits. In addition, competition may also pay little attention to them since the main source of profits in the industry is the major product.
4. Exploit Competitive Capacity Constraints
The Company may have the opportunity to exploit competitive constraints on capacity as an opportunity to raise prices. This capacity shortage may be either short term or long term:
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Temporary competitor capacity shortage: A competitor may suffer from a short-term weakness restricting its product availability. Such a weakness would include a strike, a capacity shortage due to a damaged facility, or some surge in costs. This situation may reduce industry capacity below current demand in some part of the marketplace. Such an occurrence offers the opportunity for the Company to raise its prices in the short term. This move anticipates the price returning to its previous levels after the temporary competitive weakness corrects itself.
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Long term capacity shortage: The Company may be running low on capacity. It requires higher prices to pay for and support new capacity. The Company raises its price in the expectation that the remaining competitors in the market are in the same position now or will be in the foreseeable future. If this new capacity appears to be delayed, then the Company raises its prices on its Non-core and Near-core customers to increase profits or to encourage these less-attractive customers to find alternative sources of supply and to release their purchase volume to support the growth of Core customers.
The Company may also follow patterns where the competitor shows the will to follow the Company's price increase. This occurs when there is a broad industry price move to raise prices, when the Company finds itself in the unique benefit position with customers, and when the Company introduces a new higher price point.
5. Initiate or Follow an Industry Move
The Company may raise prices to initiate or follow a broad industry price increase.
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The Company may increase prices to increase its margins. The Company expects that competition will follow the increase and that customer sales volume will not fall. While increasing prices to raise margins may seem attractive, the Company must carefully evaluate whether the advantages in revenues and margins which accompany the price increase will be offset by revenue and margin losses as customers defect to competitive suppliers. If the Company detects customer defection because of its new higher prices, it may promptly reverse them in order to arrest the volume loss. In many cases, the Company cannot raise its margins in a Hostile market until the industry begins running low on capacity.
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The Company may raise its prices in order to cover an unexpected surge in its costs. As it undertakes this action, however, it must evaluate whether competitive costs are increasing proportionally. If competitor costs are not increasing proportionally, the Company may wish to consider holding its current prices, or raising them less than the increase in cost, in order to hold its customer relationships. As with a price increase to raise margins, the Company must monitor customer defection due to its higher prices.
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The Company may safely raise its prices if that is generally accepted as a way of doing business in the industry. Usually, the industry Standard Leaders initiate price increases. Then, all other market competitors follow with proportional price increases. This type of pricing is common and effective where the industry has low growth, few competitors, and one or more industry leaders with very strong positions in the marketplace.
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The Company may raise prices on a few or several products in order to test whether customers will go along with the price increase. The customers are likely to go along with the price increase if competitors follow the increase. If competitors fail to follow the price increase, the Company may quickly rescind it.
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In a market with good balance between capacity and demand or where demand exceeds capacity, the Company may raise prices to improve its customer mix. The Company may raise prices for unattractive, non-core, customers with little long-term strategic potential for the Company, while it offers market rate prices to more strategically attractive, core and some near-core, customer relationships. This has the effect of improving the customer mix and the Company's long term return on investment.
6. Exploit a Unique Company Position
A Company possessing a unique strength in its marketplace may raise its prices, even compared to those of competitors. It can raise these prices because competitors cannot afford to invest enough to match its unique strength. These unique strengths might include a brand name with an outstanding reputation with customers, a unique Function in the Company's products or an exceptionally good distribution system. The Company strength may also be its reputation as a low-cost supplier, willing to use this low cost position to punish any competitor who tries to use the price tool against the Company.
7. Introduce a Performance Leader Product
The Company may raise its effective or average prices by introducing a new Performance Leader product to tap a segment of the market that would like more Function, Reliability or Convenience. This is a very common response to a Hostile marketplace. These new Performance Leader products increase the average profitability of the customer relationships who purchase them.
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Price Increase Opportunities Questions |
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Analysis 52 |
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More Price Increase Opportunities Questions. . . |
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A price increase may bring with it some loss of customer volume. The total margin gained with the price increase must then offset any contribution lost from defecting customers.
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Basic Strategy Guide Users Return To: Step 21
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The Company has identified opportunities to change prices to improve market share and profits. Now it turns its attention to the process it uses to reach the price it will charge each customer.
| Summary Points | Next: Pricing Process |