The Art of (Price) War Low prices sound good, but can you slice deep without hitting profit?

In 1998, VC-backed online DVD retailers had slashed prices to asmuch as 50 percent below retail. Not good news for 28-year-old JeffRix, who started DVDEmpire.com in 1995 in Warrendale,Pennsylvania--long before the price wars--with just $6,000 and abusiness model that called for pricing just 20 percent belowretail. Online DVD retailers, including Rix's 42-personcompany, were buying DVDs for no more than 35 percent off retail."The [other companies] were losing money on everytransaction," Rix says.

Rix couldn't go as low as his competitors and live, butcutting profits almost to the bone, he reduced prices to 30 percentoff retail. That made him one of the highest-priced DVD retailers,but by concentrating on service and surfing the surge in DVD sales,he kept growing despite the markdowns by deep-pocketed companieslike Amazon.com, DVD Express and Reel.com.

In the end, he triumphed. One morning in 2000, Reel.com stoppedselling DVDs direct, and then DVD Express shut down."Then," Reed recalls, "everyone raised theirprices." Today, Rix has raised prices back to 20 percent offretail, but that now makes him one of the lowest-cost online DVDsellers.

Even today, entrepreneurs constantly find themselves inpositions where they'd like to play with prices. One techniquecausing a bit of an e-commerce controversy is variable pricing.This tactic, also called dynamic pricing, has long been accepted inretail stores, says Larry Compeau, associate professor of marketingat Clarkson University in Potsdam, New York. Even within a chain,prices are often higher in affluent neighborhoods, he says. Butit's different online. In 2000, Amazon.com refunded customerswho said they were charged differently for identical productsdepending on what Internet service provider or what Web browsersthey used.

Amazon denied using pricing based on demographics and says ithas ended what it called "pricing tests." But thereaction put customized online pricing on thin ice. Changing pricesbased on customers' ethnicity is already considered unethical;charging different prices to different B2B customers is usuallyillegal. Technology allows online customers to spot customizedpricing, and their complaints will be heard, Compeau warns."At some point, the government will have to get involved andsay this is a legal practice, or it's not," he says.

Surcharges are another pricing tool. Last summer, somebusinesses used energy surcharges to counter surging electricitycosts. Such add-ons let businesses raise prices while putting theblame on someone else--in this case, energy suppliers. However, thepractice put off many customers. In California, reaction was sonegative that some businesses began advertising "NoSurcharge" to lure customers.

Surcharges do have uses, though. Because you can add or removethem without actually changing prices, they allow you to test newmarket positions without committing yourself.

Online price comparison also plays a role, but how much of one?"Some [consumers] won't bother," Compeau says."They'll just go to their favorite site and buy.Entrepreneurs are quick to think they have to be competitivelypriced, but they may not have to." Service, selection andcustomer relationships are still important and, in many cases, moreimportant than pricing.

Entrepreneurs should focus on value more than price, says ThomasWinninger, a Minneapolis marketing consultant and author ofFull Price: Competing On Value in the NewEconomy (Dearborn). You can change value by adding orremoving features, warranties and other products and serviceswithout touching the price, he says. You can also change prices toattract customers while changing value to maintain profitmargins-especially important in today's economy. "Any timeyou reduce price, you're taking from the bottom line,"says Winninger. "You can't afford that rightnow."

Rather than just dropping prices, position yourself as a partneras opposed to a mere vendor. For example, says Winninger, if yousell chainsaws, throw in a pair of protective goggles. When moneyis hard to borrow, offer zero-interest financing. In an uncertainworld, being seen as an ally is more important than being seen as abargain, Winninger maintains. "The customer is not out theretrying to beat people up for prices," he says. "They justwant to feel that whoever is selling is helping [them]."

Contact Sources

• Clarkson University School of Business
  (315) 268-6605, http://www.clarkson.edu
• Winninger Institute
  (952) 896-1900, www.winninger.com