What is price war?
Price war can be defined as a strategy according to which companies tend to lower the prices of their products on a consistent basis in order to gain an upper hand against their competitors. The simplest way for companies to maximize market share is to lower prices of products, thereby enhancing sales. This may compel business rivals to do the same if they are selling identical products. This reduction in prices continues until it reaches a point which can be sustained by just one company. There are companies that are ready to even sell at a loss to ensure that all competition is wiped off.
Causes of price war
There are a number of causes due to which price wars may take place. Lets take a look at some of the important ones.
One major cause for price wars is to differentiate between the products of different companies. Since there is not much variance between these products, price tends to become the factor enabling competition.
Another cause for price wars is penetration pricing. This implies that a new company trying to make a breakthrough in a settled market generally tends to sell its products at lower prices at least initially.
Process optimization is another reason for price wars. Companies may prefer reducing prices to reducing production output. Also, introduction of new technology may reduce the production cost of goods.
Another cause for price wars can be bankruptcy. Organizations that are on the verge of bankruptcy may be compelled to lower the prices of products in order to increase sales and generate enough revenue to help them survive.
Predatory pricing can be another reason for price wars. Companies with a strong financial base may intentionally reduce the price of their products in order to get rid of competitors.
Reactions of price challenges
There are various ways in which different companies may react to price challenges by their competitors. Below we take a look at two common reactions of companies to price wars.
Avoiding price wars: The wisest strategy for a company is to avoid any price wars with competitors. However, companies may not always be inclined to do so if they feel that they may gain from it in the long run.
Price stickiness: In markets where there are very few competitors prices may become sticky. This means that if prices rise, competitors may not follow the trend. However, a fall in the price may prompt them to do the same. This reaches a point where further reduction may not be profitable, allowing the sticky price to remain.
Price wars can be averted through tactical price management, comprehensive understanding of the competition or effective communication with competitors.