Price Wars: Meaning, Examples, Causes & Effects in 2023

In today’s business environment, the term price war can make commercial directors, marketers, and category managers bristle. These two words signify a phenomenon that can reshape entire markets and bring chaos to an industry. That’s precisely why understanding the causes and effects of price wars is not a choice but a necessity.

This article guides you through the key factors that trigger price wars and the resulting effects that can either destroy or grow your business.

Contents:

Price War Definition

Price War Example

Causes & Effects of Price Wars

Main Strategies to Win a Price War

Summary

FAQ

Price War Definition

A price war is one of the most intense forms of market competition. It begins when one company lowers its prices in an effort to gain market share, prompting other market players to follow suit to avoid falling behind.

In e-commerce, the likelihood of such a scenario increases when a manufacturer does not control adherence to the manufacturer’s suggested retail price (MSRP). Due to high competition among online retailers, prices might quickly fall below dumping levels. That’s why leading brands use services such as Pricer24 to automatically monitor recommended prices. With Pricer24, you can automatically collect partner price data without spending time on manually gathering information. Additionally, you can compare these prices with benchmarks and automatically notify partners when deviations are found.

Price War Example

In 2014, the British supermarket Asda ignited a price war in the FMCG (fast-moving consumer goods) market. Facing increasing competition from other grocery chains like Tesco, Sainsbury’s, and Morrisons, as well as discounters, Asda launched a bold campaign, promising to be 10% cheaper than its competitors. The goal was to attract cost-conscious consumers and regain market share.

The British company slashed prices on numerous products. This aggressive move forced other major players to respond in kind. Ultimately, it led to widespread price reductions across the entire sector.

While consumers benefited from lower prices during this period, the price war had several effects. First, supermarket profit margins significantly declined. Second, market suppliers also had to lower their prices to meet the demands of competing chains, impacting their own profitability. Most importantly, while price reductions did help Asda attract more customers in the short term, the company couldn’t withstand the pricing pressure from discounters, and by the end of 2015, it reported the worst quarterly sales performance in its history.

As a result, Asda began implementing other strategies to differentiate itself beyond price. For example, the company focused on improving the customer experience and product quality and started investing in loyalty programs.

This price war demonstrates the challenge of maintaining a balance between price competitiveness and long-term sustainability.

Causes & Effects of Price Wars

Much as wars between states, price wars are often preceded by an escalation or fundamental differences (in the market environment). The outbreak of war is simply a matter of time once these conditions exist. Price wars don’t appear out of thin air and can be triggered by a combination of causes.

Causes of Price Wars

1. Market concentration

When several large companies dominate an industry but there are still a significant number of smaller competitors (as in the case of Asda), the likelihood of a price war is high.

2. Entry of new players

Existing companies may lower prices to deter new entrants from establishing a foothold in the market, leading to heightened price competition.

3. Consumer price sensitivity

If people readily switch between stores in search of lower prices, companies may engage in aggressive price competition to attract and retain customers.

4. Market growth trends

Anticipating market growth can lead to overly optimistic forecasts among managers, driving aggressive competition for market share.

5. Lack of product differentiation

Markets with low product differentiation are more susceptible to price wars. When goods or services are perceived as relatively interchangeable, companies have fewer ways to compete and may resort to price reductions.

6. Disregard for competitive response

Businesses consider their competitors’ potential reactions. The balance between the potential benefits of price reductions and the fear of retaliation influences the decision to initiate price cuts or refrain from doing so.

These factors serve as reliable predictors of the possibility that pricing wars will break out.

Effects of Price Wars

Price wars in retail can disrupt entire industries, impacting both the retailers who ignite them and the brands and distributors who feel the waves of effects from retailers’ price reductions.

Let’s examine more closely the effects that price wars may have on various market players:

Effects of Price Wars on Participating Retailers:

1. Margin erosion

Price wars lead to a cascade of price reductions, often driving profit margins down to levels where profitability may become very low or even negative (resulting in a loss-making enterprise). Therefore, one of the most significant long-term effects of price wars is a reduction in the profitability of participants. Eventually, companies with less financial resilience reach a point where they cannot further reduce prices without jeopardizing their viability. This leads to financial instability and may even force such companies to exit the market.

2. Challenges to sustainable growth

Maintaining a price war depletes a company’s financial resources, especially if the war continues for an extended period. Small businesses may find it particularly difficult to endure the financial strain.

3. Legal and regulatory scrutiny

If a large business initiates a price war that ultimately squeezes smaller competitors out of the market through aggressive price reductions, consumers are left with fewer choices, and the dominant company gains price power. However, aggressive price reductions can attract regulators, potentially leading to investigations into anti-competitive behavior or predatory pricing practices.

4. Changes in consumer behavior

Consumers may become accustomed to lower prices during a price war and develop price-sensitive habits. When the price war ends, they may resist paying more, making it challenging for companies to return to their initial pricing levels.

Effects on Brands Engaged in Price Wars:

1. Loss of retailer interest

If retailers consistently set dumping prices on products from a particular brand, over time, sales of that brand may decline. Retailers may eventually find it unprofitable to sell products with minimal or no profit margin.

If a vendor does not control its pricing policy, monitor compliance with recommended retail prices, or intervene in retailer price wars, they may lose enthusiasm for selling their products. Everyone ends up losing.

2. Damage to brand image

Continual price reductions can lead customers to perceive a brand as cheap or less valuable than competitors. Such positioning is challenging to change, even after the price war is over. This can damage a brand’s image, especially if it is known for quality or exclusivity.

Effects on Suppliers:

1. Margin reduction

When retailers engage in price wars, they often demand lower prices from their suppliers to maintain a competitive advantage. This pressures suppliers to lower their profit margins to match the reduced prices, affecting their own profitability.

2. Adaptation challenges

Suppliers must rapidly adapt to changing demands from retailers engaged in price wars. This may involve altering delivery schedules, which can strain resources and operations.

In conclusion, while a price war strategy may initially appear effective for retailers in gaining a competitive advantage, such tactics are economically destructive, reducing industry profitability in the long term.

Main Strategies to Win a Price War

The best way to win a war is to avoid it. We’ll explore strategies for preventing and ending a price war with the help of pricing and non-pricing strategies.

Pricing Strategies

1. Product bundling & value maximization

Implementing complex pricing options, such as product bundling, can reduce price transparency while simultaneously providing value to customers.

An example of this strategy is the response of McDonald’s to the 59 Cent Tacos initiative at Taco Bell. Taco Bell aimed to attract customers, particularly those who typically visited fast-food restaurants like McDonald’s.

In response to this challenge, McDonald’s bundled hamburgers, fries, and drinks into value meals, thus reducing direct price competition and transforming it from a taco vs. hamburger battle into a lunch vs. lunch competition. This allowed both companies to maintain profitability and avoid a deep price war that could have significantly damaged both brands.

Instead of simply lowering prices, consider bundling complementary products. This not only enhances customer value but also increases the overall transaction value.

2. Price differentiation & added value for specific customer segments

Price differentiation involves offering different prices for similar products based on various factors, such as consumer segment or buying behavior. This strategy helps avoid price wars by creating value for specific customer groups without engaging in direct price competition.

An example is Postbus, the largest bus company in Germany. In 2015, Postbus introduced a discount card that allowed passengers to book tickets at a 25% discount. This card was available for an annual fee of €25.

This approach achieved several objectives:

• By offering discounts exclusively to cardholders, Postbus segmented its customer base. This allowed the company to serve price-sensitive customers without necessarily lowering prices for other passengers.
• The discount card encouraged customer loyalty, as cardholders were likely to use Postbus for travel to maximize the card’s benefits.
• The annual card fee provided steady income that helped offset potential losses from reduced ticket prices.

Price differentiation allowed Postbus to reach price-sensitive customer segments while maintaining the integrity of its pricing structure.

Overall, the Postbus case shows how price differentiation enables businesses to provide competitive prices to specific client segments without starting a price war.

Non-Pricing Strategies

When customers choose products, they consider various factors besides price:

• Product variety and exclusivity
• Promotions and special offers
• Strong online reputation and positive product reviews
• Availability of credit lines (which can offset customer price sensitivity)
• Transparent and reasonable shipping rates, with free shipping options
• Flexible delivery options and speed
• High service standards, easy returns, and responsive customer support
• Loyalty programs
• Strong brand identity built on trust and shared values

These advantages may be crucial in preventing or winning a pricing war.

Protecting value propositions (such as exclusivity, exceptional service, or customer loyalty) is a primary defense against price erosion. A weak value offer, on the other hand, can entice category managers and online marketers to rely on price reductions as a quick way to boost sales.

Tip: Use the Pricer24 market monitoring service to enhance your non-pricing strategies. Analyze competitors’ product assortments, identify market gaps to become a category leader, and monitor competitors’ promotions. Stay informed about partner websites’ financing conditions to improve your own offerings. Learn more about how Pricer24 can help you achieve market leadership without engaging in price wars.

FAQ

Why are price wars harmful?

Price wars can lead to reduced profitability and a decline in brand value.

What is a price war strategy?

A price war strategy means aggressively lowering prices to gain a competitive advantage. However, this can lead to a destructive cycle that harms a business’s long-term stability.

How can I avoid a price war in 2023?

To avoid price wars, focus on pricing and non-pricing strategies that go beyond direct price competition.