Competition and pricing

Competitive pricing (also called competition-based pricing) means setting a price close to what rival businesses charge for a similar product, rather than working it out from your own costs alone. Customers can compare prices easily, so charging far more than the rest of the market can send them to a rival.

Undercutting or charging more

A business can set its price slightly below its rivals — undercutting — to win customers who are choosing mainly on price. It can also charge a little more if customers believe its product is better quality or its brand is stronger, because the higher price then feels worth paying. Setting a price roughly in line with rivals means you are not obviously the dearest option, which helps a business avoid losing customers on price alone. Competitive pricing does not have to mean being the cheapest.

For example, three shops in the same town sell hanging baskets and two of them charge £18. The third spends £11 on plants and materials for each basket and charges £17, so it looks like the best deal while still making £6 per basket. Cutting the price to £12 would leave only £1 per basket, which may not cover rent and wages, so undercutting too far risks a loss. Charging £21 instead would only work if its baskets were noticeably fuller, so customers could see the extra value.

How competition influences price

Competition can stop a business using the pricing strategy it preferred, because customers may have a cheaper or better alternative if a rival:

• launches a newer product
• improves an existing product
• offers better customer service
• reduces its prices
• runs a sale

A business hoping to charge a high price may then have to lower it, or improve its own offer quickly, to protect its sales. The market has shaped the price, not just the business's own costs.