Competitive-based pricing is used by many businesses in order to keep prices low while still making money. It's also known as "price leadership."
Why You Need to Understand Competitor Pricing
Competitive-based pricing, or market-oriented pricing, involves setting a price based upon an analysis of what the competition is up to pricing-wise. You can choose to price-match - or price your goods higher or lower, dependent on what your overall business goals are and how you wish your product to be perceived.
This pricing method is used most often by businesses selling similar products – and/or once a price for a product has reached a level of equilibrium. It may be that your product has been on the market for a while and there are many substitutes available.
Setting a price above the competition requires your business to create an environment that warrants the premium - additional features or added value. As an example, Apple focuses on the creation of high-end products to ensure the market sees its products as unique or innovative. Most firms in a competitive market do not have sufficient power to be able to set prices above their competitors.
They tend to use "going-rate" pricing – i.e. setting a price that is in line with the prices charged by direct competitors. If you set the price below the market and potentially take a loss, this could be because you are hoping your customers will purchase additional products from you once they have been 'captured'.
The Benefits of Competitor Based Pricing
1. It’s fairly simple
In most industries relatively little research is required to arrive at a price. It is also possible to make adjustments in prices by following any tweaks made by competitors. This is particularly true in industries with few competitors, not many channels of distribution and/or limited differentiation between products.
2. It’s low risk
If you have a fairly solid grasp on your product’s quality, target audience and cost of production, this method will most likely serve you in good stead. You’re not likely to lose volume or market share – after all, if it's kept your competitors afloat, it should do the same for you.
3. It can be accurate
Particularly in saturated industries. Remember, for most consumer products there are millions of customers and enough data to move pricing closer towards a market based methodology.
Competitive Pricing Has a Good Chance of Success When
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Your competitor is better known than you. If a larger competitor matches your prices, that puts you on a level playing field in the minds of the target audience.
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You have an identifiable differentiation. To get potential customers to choose you instead of the competition, you need to show them how you are unique and better in some valuable aspect – in other words, a game-changer.
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You make it easy to switch. It can be a daunting proposition for someone to switch large and complex products or services. The more painless you can make the transition, the better.
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Your competitor raises its prices or has a problem with quality/delivery. This creates a strong sense of urgency on the part of the buyer and they are more likely to switch.
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Your offer is compelling. The benefits of switching to you have to be greater than sticking with the competition. This might mean that you have to lower your prices to such an extent that you lose money initially. This can be worthwhile if the lifetime value of the new customer will be large.
Disadvantages of Competitor Based Pricing
1. It can lead to missed opportunities
Price is usually your customers' main consideration before purchase. Simply copying market prices could lead to a lot of wrong prices and lost profits. The goal of your business should be to maximise revenue and profits, even if it does take a little bit of extra work on the pricing front.
2. You can lose touch with the market
Competitor based pricing operates on the assumption that businesses already in the market have the right answer and that every decision competitors’ make is intelligent. This can be a fair strategy if only one business determines its price after taking into consideration the variety of prices existing at the time.
However, if a large proportion of companies all use this same tactic, then with time competitor based pricing can lead to the entire industry losing touch with demand. You’ll end up either keeping the same price forever, because competitor A hasn’t changed its price or you’ll simply raise or lower prices in response to the competition. Competitor based pricing can give you too much of a “set it and forget it” mentality.
Be smart! It’s your business, your product, and your revenue so every customer a competitor serves is an opportunity lost for you. Don't let your competitors determine the baseline for your price.
3. It can lead to blinkered vision and a race to the lowest price
Maintaining a lower price than your competitors isn’t always the best way to attract customers, but competitor based pricing exacerbates that idea by simplifying price as a barrier that constantly must be lowered. Remember, the lowering of prices in most industries leads to doubts about quality and lower revenue from tiny profit margins even though customers would be willing to pay more.
Not the "be all and end all"
Competitor based pricing should be a part of everyone’s pricing strategy, but not the "be all and end all". However, there are certain businesses that need to use competitor based pricing extensively, because consumers price compare all the time. If that is the case, to keep ahead of the competition, you will be required to change your prices and differentiate your product(s) continually.
Sources
https://www.boundless.com/business/textbooks/boundless-business-textbook/product-and-pricing-strategies-15/pricing-methods-93/competition-based-pricing-436-411/
http://www.priceintelligently.com/blog/bid/161610/Competitor-Based-Pricing-101-The-Necessities-and-Your-Pricing-Strategy
https://greatb2bmarketing.com/b2b-marketing/competitive-marketing-campaign/
http://www.boardroommetrics.com/blog/types-of-pricing-strategies-2-competition-based-pricing-20130625.htm
http://www.titleadvantage.com/pdf/competitive.pdf
The Strategy and Tactics of Pricing, Tom Nagle and John Hogan, 2016
Pricing Strategy:tactics and strategies for pricing with confidence, Warren D. Hamilton, 2014
Pricing with Confidence:10 ways to stop leaving money on the table, Reed K Holden and Mark Burton 2014
Pricing for Profit:how to develop a powerful pricing strategy for your business, Peter Hill 2013
Pricing Strategy:how to price a product, Bill McFarlane 2012
Pricing strategy:setting price levels, managing price discounts and establishing price structures, Tim Smith, 2011