How competitive is my market?

Steps toward making a diagnosis

The Who of competition The How of competition The Symptoms of competition

The substitute conundrum

Competitor Identification

Step 1: Initial market selection Step 2: One product market or several? Step 3: One geographic market or several? Step 4: Identifying the key product performance characteristics Do customers prefer a one stop shop or do they prefer to deal with multiple vendors? How might the product be segmented by attributes like look and feel, ease of use, warranties, durability, availability of complementary goods as well as other relevant factors customers are likely to consider in choosing among industry offerings?

Competitor Identification
What different channels is the product distributed through? Does brand matter and why? How intimate are relationships between firms and customers? What are the switching costs? How much price dispersion is there in the market? What drives this price dispersion?

Step 5: Competitor identification

Market Structure

Used to measure competitiveness of a market Number of players a fair measure but not adequate Therefore, one alternative is the four-firm concentration ratio (which is the market share controlled by four largest firms) A better measure is the Herfindahl index

1. 2.

3.

Obtain competitors market share data. (Can ignore firms with shares below 2 percent) Square the shares. For example, if one firm has a share of 0.40, its squared share is 0.16. Add the squares. For example, if one firm has a share of 60% and its rival has 40%, then HI equals 0.52

Note that HI equals 1 if there is a lone monopolist HI approaches close to 0 if many firms divide the market and no firm has a market share above 10%. In general, competition becomes more benign as Herfindahl increases and more virulent as Herfindahl decreases
Symptom 1: The Herfindahl index is below 2.5 and/or has recently decreased in magnitude by at least .05.

Cola Wars Drugs - Hospitals Some price wars

Symptom 2: Firms rely on price reductions to gain market share.

Nonprice Competition
Symptom 3: Nonprice competition combined with a large industry price elasticity of demand.

Triggering Price Competition The nature of demand Symptom 4: Customers are price sensitive. Symptom 5: Customers are willing to switch loyalties, even if they try a new product just once or twice. Symptom 6: A large firm has entered into an established market. Symptom 7: The industry has excess capacity.

Triggering Price Competition The nature of transaction

Symptom 8: Prices are kept secret from the competition. (Bidding and Secret Bidding) Symptom 9: Transactions are lumpy and large relative to annual sales.

Misreads and Misjudgments

Symptom 10: Firms set prices in a complex environment, where it is difficult to monitor each others actions and intentions.

Particulars

Goodyear

Michelin

Observed or Secret?

Invoice
Volume Bonus Marketing Allowance Net Price to Dealer

$35
$3 $2 $30

$32
$0 $0 $ 32

Observed
Secret Secret Secret

Triggering Price Competition

The Competitors
Symptom 11: Managers have strong motivation to increase market share. Symptom 12: Firms are overly focused on the short term. Symptom 13: There are differences in production costs across firms.