US on brink of a price war?

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The US OP market looks set to enter a damaging new battle for customers.

The warning signs are emerging of a price war that could seriously damage the health of the US OP industry.

Following Office Depot’s warning in December that its early 2008 same-store trading would be close to flat, the company announced it would attempt to lure the North American small business owners who are among its key customers by extending lower entry price points to them.

The company also said it would offer a low price guarantee that includes matching competitors’ prices on identical products, and it disclosed plans to expand its private label brand.

The Delray Beach-based firm followed up this stark warning with the launch last month of a "Stock Up and Save" scheme to encourage shoppers with an abundance of price promotions and rebate offers.

Displays appeared overnight in stores across the US with vendor-specific offers, such as:

• Pilot offering a $5 mail-in rebate with $10 purchase that is communicated on floorstands and endcaps.

• 3M’s Command boasting a "Buy two, get one free" offer on a power wing.

• 3M’s Post-it rewards shoppers who purchase two products with a free three-pack of Post-it Flag Highlighters communicated on a shipper.

The retailer’s new year marketing leaflets were packed with similar offers, such as a "Buy 2, Get 1 Free" sale on select products from Avery, HP and Depot’s private-label brand, and up to 50 percent off "office essentials" including labellers and calculators.

Targeting and slashing prices is the weapon of choice as companies slug it out to capture a diminishing number of consumers. This tactic is seen to ward off competitors but is often the prelude to a price war.

Creating low-price appeal is commonly the aim, but commentators warn that the result of one retaliatory price cut after another is frequently a crippling decline in industry profits.

They point at the airline price wars of 1992 when American Airlines, Northwest Airlines and other US carriers went toe-to-toe in matching and exceeding one another’s reduced fares.

The result was record volumes of air travel, but subsequent record losses. Some estimates suggest that the overall losses suffered by the industry that year exceed the combined profits for the entire industry from its inception.

Price wars can create economically devastating and psychologically debilitating situations that take an extraordinary toll on an individual, a company and industry profitability. No matter who wins, the combatants all seem to end up worse off than before they joined the battle. And yet, Depot’s aggressive marketing tactics bear all the hallmarks of all-out attack.

According to online resource Wikipedia, Price war is a term used in business to indicate a state of intense competitive rivalry accompanied by a multi-lateral series of price reductions. One competitor will lower its price, then others will lower their prices to match. If one of the reactors reduces their price below the original price cut, then a new round of reductions is initiated. In the short-term, price wars are good for consumers who are able to take advantage of lower prices. Typically they are not good for the companies involved. The lower prices reduce profit margins and can threaten survival.

In the long term, they can be good for the dominant firms in the industry however. Typically the smaller more marginal firms will be unable to compete and will shut down. The remaining firms absorb the market share of the terminated ones. The real losers then, are the marginal firms and the people that invested in them. In the long-term, the consumer could lose also. With fewer firms in the industry, prices tend to increase, sometimes to a level higher than before the price war.

It makes sense that avoiding a price war is in everyone’s best interest. But, according to small business expert Darrell Zahorsky there are four steps that can be taken to counter the threat:

• Enhance Exclusivity: Products or services that are exclusive to your business provide protection from falling prices.

• Drop High Maintenance Goods: There may be products or services in your business that have high customer service and maintenance costs. Drop the unprofitable lines and find out what customers don’t want.

• Value-added: Find value your business can add to stand out in the marketplace. Be the most unique business in the category.

• Branding: Develop your brand name in the market. Brand name businesses can always stand strong in a price war.

"Leave the price-cutting and price wars to big business," according to Zahorsky. "Small businesses with solid pricing strategies can escape a price war and low price position.

"A price war can wreck havoc in any industry and leave many businesses, out of business. In the early 90s, I observed the competitive exercise equipment market enter a price war in a large city market.

"Profits were plentiful but a price war took the gross margins from 42 percent to 12 percent. In less than 18 months, over 60 percent of the retailers were out of business while my division went national.

"Carefully, consider your price decisions. Your business depends on it."