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Unit 8: Pricing: Understanding and Capturing Customer Value

Gateway has been persistent in its efforts to match Dell. Gateway returned to profitability Notes
in 2001 by focusing on higher-margin products, and decided to aggressively recapture the
market share it had lost in the PC sector. In early 2002, Gateway announced another round
of price cut on its brand of PCs. It did sell more units, but because of the lower prices,
generated less revenue, and in turn, incurred big losses.
Both, IBM and HP declared the price war “irrational,” elected to lose market share rather
than reduce prices and harm profitability. Dell’s assault was well timed. The economy and
stock market were declining, making investors and analysts to accept lower earnings reports.
Consumers too had become more price-sensitive and were eager to find the best deal.
Despite price slashing, by late 2001 Dell was still profitable with earnings of $1.8 billion for
the year. The rest of the players lost in excess of $2 billion. Michael commented, “When we
sell these products, we make money. When our competitors sell them, they lose money.”
Dell apparently gained on its competitors, but according to some observers the company
may have paid a heavy price to do so. The profit margins for Dell slid down to less than 6%
of sales and all those competitors who tried to match Dell’s prices also experienced similar
declines in margins. Dell too was forced to cut down 5,000 jobs.
Way back in 1992 when the PC was still in its growth stage of life cycle, Compaq slashed
prices in its efforts to be the leading PC seller in the United States. The company achieved
its objective and increased its revenues, but profitability suffered and never returned to its
original levels. Today, the PC seems to be in its maturity stage of life cycle, making it
difficult to increase sales. The PC segment is saturated to a great extent, and corporate
users are keeping their larger computers for longer periods of time before upgrading.
One industry analyst observed, “It used to be that you quote prices and people would buy
more. There aren’t customers for their stuff at any prices.”

Significant product innovations are one way to boost sales, but declining profits are
discouraging investments in technology. Compaq’s R&D spending fell from 6% of revenues
in 1991 to 3.5% in 2000. Two years later Compaq suspended development of its Alpha chip
as a result of budget limitations. Dell spends just 1.5% of revenues on R&D. It seems price
competition is killing any significant innovation. Dell executives claim that the company
is being innovated by developing new cost cutting methods. Others in the industry disagree.
The CEO of Sun Microsystems puts it bluntly, “Dell is a grocery store. They are not in the
PC business any more than Safeway is in the food manufacturing business.”
It actually appears like grocery business because Dell is counting on selling other
organisation’s innovations. Intel and Microsoft, two of Dell’s suppliers will continue
putting substantial amounts of money into R&D. Dell plans to incorporate the advances
they come up with in its products with higher profit margins. In a totally different move,
Dell decided to offer an unbranded desktop PC to dealers that primarily serve small
enterprises in the United States.
Dell Computer is always interested in expanding its share of PC market. When it had
nearly 25% of the domestic market and 16% of the global market, Dell started looking for
new ways to increase its revenues. Dell has been traditionally a strong player in the
corporate sector, but after it slashed its price in 2001, many consumers discovered Dell for
the first time. Taking advantage of this trend, Dell began running a new series of
commercials featuring “Steven” and the tagline, “Dude, you are getting a Dell.” Also
knows as “The Dell Guy.” Steven (played by Benjamin Curtis) became a popular
spokesperson for the company. Michael Dell even started personally promoting company’s
products on OVC, the home-shopping channel. These efforts have facilitated Dell more
than double its share of the global consumer PC market from 7% in 200 to 16% in 2002.
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