Avoid The Premium Position Trap

From:

“Google and Facebook Fly Into Server World’s Bermuda Triangle”

http://www.wired.com/wiredenterprise/2011/11/server-world-bermuda-triangle/

In many industries, established marker leaders are being challenged by low-cost competitors – competitors that offer “good enough” products and services at very low prices. In this article the low-cost threat is coming from “original design manufacturers” based in developing Asian countries. The article talks about the growth of no-frills, low-cost servers from Taiwanese manufacturers and the threat it poses to established American server makers like HP, Dell and IBM. With major internet companies like Google, Facebook and Amazon now apparently buying from these low-cost manufacturers; this clearly doesn’t bode well for the incumbents.

There are companies in many industries facing this dilemma now – should we respond to the threat of low price competition, and how do we respond? More often than not, the market leaders will underestimate the magnitude of the risk from these lower priced competitors and choose not to respond. We’ve seen how this plays out numerous times in the past. The world’s leading telecommunications companies were too focused on out doing each other that they failed to recognize the threat from a low-cost Chinese company called Huawei. Huawei is now one of the world’s largest suppliers of mobile telecommunications infrastructure equipment. These Taiwanese companies with their significant cost advantages have probably entered the market in an undeveloped or unimportant segment. In this case could be selling their servers into test environments for application development or for back up and archiving. It’s only a matter of time before they start entering the prime segments of the market. Incumbents get caught in a ‘premium position trap’ that ultimately leads to their downfall.

So what should companies respond when faced with such a challenge? It’s very easy to fall into a trap of just lowering your prices to complete aggressively with the low-cost competitors. That will only reduce your profits and devalue your brand.  Instead what companies should do is introduce a lower-priced flanking offering to combat low-cost competitors. It’s a tried and tested approach to protect the integrity of your premium brand and premium prices. Having a flanking brand enables you to meet different market demands. It helps insulate your high value services from the low-end products. The high value services in this case could be the Microsoft/VMWare support or the custom software layer that goes into each server.  If Google wants a server minus the fancy software, give them an option of buying a bare bones server without any of the custom software in it. Customers who are price conscious or can justify using cheaper products for their business will gravitate towards your cheaper brand, whereas customers who need the total solution—the server along with the custom software, technical support, extended warranty, etc… — will be much less likely to switch. The flanking offerings might even open up new market opportunities for you that didn’t exist previously.

A good example of this in the hi-tech space is the way Intel introduced the Celeron brand. In the late nineties, Intel’s success with its Pentium chips, led to major threats from competitors like AMD, which were cheaper microprocessors targeted towards the emerging low-cost PC market. Intel protected the Pentium brands equity and its price by introducing the Celeron processors as a cheaper, less powerful version of its Pentium chip.

Besides pursuing this dual offering strategy, American server makers should leverage their strength in understanding customer problems and proactively develop solutions for those problems. They should look to continually introduce new and innovative products/services to make the low-cost competitor always play catch up. And also, bring their costs down to a level needed to compete effectively.