Abusing Market Power: Are Your Big Competitors Rigging the Game?

Last week, the Department of Justice delivered the opening statements in their suit against Apple, claiming the tech giant conspired with a number of major publishers to fix eBook prices in the early days of tablet computing. The evidence in the DOJ’s deck looks strong . . . at least enough to convince this non-attorney that Apple did rally the publishing houses to force a new, higher pricing model on the other major distribution channel for eBooks — Amazon. If this is the case, they’ll probably end up paying a massive fine for violating anti-trust laws. But it probably won’t be the last time that a technology company uses market power to increase profits or put the squeeze on a competitor. It definitely isn’t the first, either. Because technology companies generally have differentiated, scalable products, it’s easy to find niche markets where there are only a few very strong players. This type of situation is rife for anti-competitive abuse.

3 Typical Methods of Abusing Market Power

In general, anti-competitive abuse manifests itself in three main ways:

1) Price Fixing

A few strong players, collectively controlling most of the market, band together and increase prices artificially high. This is the DOJ’s allegation against Apple. Price fixing also surfaced in the early 2000s in the DRAM market, resulting in $100’s of millions in fines.

2) Predatory Pricing

This is when a powerful incumbent prices its product at or below cost in order to drive a smaller competitor out of business, only to raise their prices once they’ve regained a monopoly. Microsoft has accused Google of taking this tactic by giving away Android in order to keep their stranglehold on the search market. With an 80% market share in microprocessors, Intel was found guilty of using the tactic against AMD in the mid-2000’s, which owned a large portion of the remaining 20%. The fine was a staggering $1.45 billion.

3) Bundling

Facing stiff competition in the early web browser market, Microsoft used this anti-competitive tactic to extend its dominant market share in its OS to its fledgling internet business. It worked, propelling Internet Explorer to a decade-plus reign of dominance, but ended up costing Microsoft almost a billion dollars in fines from the European Union. The cable industry’s use of this tactic is also the only reason anyone still has a home phone.

How to Spot Abuse of Market Power

If you’re a startup, chances are you have a larger, more established competitor, and they’ll likely want to leverage their market power against you. Alternatively, you may have a couple of powerful suppliers who are price-fixing to inflate their margins. Market trends are one way to identify this: sharply rising or falling prices without an underlying change in input costs may indicate anti-competitive behavior (as appears to have been the case with Apple and the eBook publishers). Another item to monitor is the competitor’s financials — if they’re a public company, you’ll be able to tell when the applicable business segment’s margins vanish, or in the case of price fixing, inflate simultaneously at a few competitors.

How to Respond

The reason it’s important to diagnose an anti-competitive strategy isn’t so that you can report it to the feds — you’ll likely be long out of business before they decide to try the case. Rather, it’s to make sure you take an appropriate course of action to respond. For instance, if a competitor is pricing a product artificially low just to drive you out of business, the worst thing you can do is try to compete with this price — they can play the game of chicken longer and harder than you can. Instead, further differentiate your product to take the focus away from the cost, and consider raising a larger equity cushion than you might otherwise prefer to maintain. The additional stability it brings may be enough to convince the competitor that their predatory pricing will be more expensive than they originally thought. What examples have you seen of smaller companies fighting bullying tactics from larger competitors?