MBS Marketing Association

The issue of predatory pricing has come up a number of times in various classes, but a recent class discussion on this topic made me want to go and look up the legislation for myself.

Someone suggested that a legitimate strategy for introducing a new product is to price below cost. The argument went like this:

1. A new product can involve a new manufacturing process.

2. Firms typically become more efficient over time (i.e. the experience curve).

3. With increasing efficiency comes reduced cost.

Therefore, a firm that was confident in its ability to shift down the experience curve would be justified in charging below cost, because with time they would eventually be able produce at, or hopefully below, the initial price.

I was a little dubious about how well this would work, but I'm told this is common amongst consumer electronics firms. Assuming you work for a firm that has the kind of cash flows required to underpin this kind of behaviour, and assuming your superiors hold you in the kind of esteem required for the authorisation of activities that make a loss, (these are big assumptions) I guess it’s possible. But is it legal?

According to the ACCC, “Predatory pricing occurs when a company sets its prices at a sufficiently low level with the purpose of damaging or forcing a competitor to withdraw from the market.”

By my interpretation, the setting of low prices alone, even if they are beneath cost, is not sufficient to classify the behaviour as unlawful. Rather, it is the clear evidence of “anti-competitive purpose” that makes it wrong. As the ACCC website states:

“It is the presence of a clear anti-competitive purpose that may turn price cutting by a company with substantial market power or market share into predatory pricing. Once competitors are damaged or eliminated, the likely results are that the company can raise its prices and exploit consumers.”

In short, someone needs to prove that you were acting in a way that forces your competitors out. So if, for example, you’re charging at below cost just to meet the competition you’re probably fine (although arguably in the wrong business). If you’re charging below cost, your competitors get angry and they take you to court, you’re in a trouble.

See the ACCC website for further details.