by Freddy Tran Nager, Founder of Atomic Tango + Survivor of Multiple Recessions; photo by Ed Yourdon via Wikimedia Commons…
When the economy starts singing the hardcore blues — kind of like now — many businesses feel tempted to lower their prices. But lowering prices creates three problems:
- It tells customers you’ve been overcharging them all this time.
- It means you’ll have difficulty increasing your prices to “normal” when the economy starts jamming again.
- It kills your profit margins, so you won’t have the cash to do what might really make a difference: better marketing.
Rather than lower your prices, there’s a better alternative — literally. As in, lower-priced brand alternatives.
Starbucks did it with Pikes Place Roast, a lower-priced brand it sold alongside its usual premium offerings. Sure, many Starbucks customers switched to the cheaper alternative — but at least they did so within the Starbucks family. Cannibalizing yourself is always better than getting eaten by others. And Starbucks’ wealthier customers still paid full price for their usual fix.
Even during good times, smart brands look to offer lower-priced options.
For example, back in 2003, Nike snapped up Converse for $305 million. Everyone wondered, why would the galaxy’s dominant shoe company spend all that money for a failed brand? It was a matter of retail discrimination. Nike refused to sell its shoes in Target, fearing that its presence in a big-box retailer might damage its brand. But Converse, which had a lower price point to begin with? No problem.
In fact, the revived Converse brand sold so well, Nike essentially made back its entire investment quickly. According to Nikebiz.com, “Since acquiring Converse in 2003, revenue has grown at a compound rate of 22 percent, and in fiscal 2007 Converse revenues grew over 20 percent to surpass $550 million.”
Nike now taps both ends of the price spectrum without lowering its image through discounting, while consumers can save a few bucks without feeling that they traded too far down in status. Not a bad gift for Converse’s 100th birthday.
Just Don’t Do it
Even when the economy is humming along, a low price strategy is not the smartest option:
1. Don’t forget the “price = quality” perception.
Customers equate high prices with high quality and low prices with low quality, even in business-to-business services. Along the same lines, “price = prestige.” Everyone loves a bargain, but status-conscious consumers don’t want to be seen shopping in a discount store or using a discount product. If you choose to go the low price route, make sure to convey the product’s quality.
2. Each industry can have only one low-price leader.
Either you’re the cheapest in the market, or you’re just another cheap offering. If you decide to be the absolute cheapest in the market, your operations must be uniquely structured to reduce costs and — this is critical — ensure no one can copy or beat your prices.
Walmart is the low-price leader in most markets because it uses its unrivaled size to extract the lowest prices from its suppliers, it uses technology to reduce labor requirements, it minimizes overhead, and it pays lower wages than its unionized competitors.
Even with those supporting processes in place, the low price strategy does create problems: Walmart’s low wages, for example, have come under attack from critics. Likewise, Dell was the low-priced leader in the PC market — until its competitors found even lower-cost ways to make computers. Now Dell is struggling to find a position.
3. The stock market does not like low prices.
Stock investors like two things: growth and profits. Low-price leaders, by definition, have very thin profit margins, which makes them very unappealing. They can grow fast, but then they plateau since they don’t have the profits or brand flexibility to invest in product development or new markets. To mollify their investors, they must give away some of their profits as dividends, which leaves them with even fewer resources to invest in development.
4. You will find yourself stuck.
If you position yourself as a low-price leader, changing that position becomes nearly impossible. After finding its stock price had flat-lined, Walmart tried to reposition itself as “fashionable,” but too late. Consumers see Walmart as cheap and will not buy “fashion” from it. Everyday clothes, yes. Fashion? Not so much.
Dell had made computers a low-priced commodity, which appealed to cash-strapped corporations and consumers during an earlier recession. But as soon as the economy recovered, consumers wanted more sophisticated products. Hello, Apple! Apple then enjoyed tremendous growth, both in profits and in stock price, which gave it the cash to invest in other areas, such as the iPhone. Dell might still sell more computers overall, but its low-price policy does not generate the resources or reputation to enter the world of sophisticated electronics. (Where is Dell’s phone or MP3 player?) And with all the low-priced computers on the market (Asus, Compaq, Acer, HP), the bottom of the industry has become a very crowded place.
5. A wealthier competitor can price you out of existence.
If you are a small company and try to steal market share by using low prices, bigger companies with deeper pockets can lower their prices even more to drive you out of business. They can afford to lose money for a long time. While such “predatory pricing” is illegal in many areas, your powerful competitors will happily pay the penalty after you’ve gone out of business.
6. You will deny yourself necessary capital to grow — or even just maintain — your business.
Low prices means you won’t have money to compete. Consider all the following:
- How will consumers learn about you? You don’t have money for high quality advertising, so you will have to resort to cheaper quality ads (such as flyers) that can hurt your brand and attract unprofitable customers.
- You cannot afford a nice location in a high-traffic area.
- You cannot provide the service that today’s selective consumers demand, particularly if you decide to be a low-price high-volume business (too many customers, not enough high-quality workers to serve them).
- You cannot afford to pay high salaries, so unless you’re a 100% family-run business, you won’t attract the best talent, and your higher-paying competitors will lure away your best employees.
- If the nation experiences a disaster or a prolonged recession, you will not have the cash or insurance to survive.
- You cannot invest in the latest technology.
- Finally, most investors don’t care about low-margin businesses with weak brands, so if worse comes to worse, you can’t sell your business.
Your marketing strategy should create large profit margins and a powerful, flexible brand that attracts customers, talent, and investors. Anything less sells yourself short.
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