Dealing with a Monopsonist
As the year draws to a close, you're probably thinking about all of the hard work you've put into your business. Are you getting ahead? Maybe it's not your efforts that are holding you back so much as your pricing strategy.
When was the last time you thought about your pricing?
Pricing Question from a Reader
I have a small business, but almost all of my income comes from one client. How should this affect my pricing strategy?
A quick introduction to monopsonies
Your situation is incredibly common and only becoming more so. Before we examine the particulars of your situation, we should probably take a step back and talk about monopolies.
It seems like everyone believes that monopolies are bad. When a vendor has too much control over a marketplace, it can demand very high prices and force customers to accept substandard offerings. In fact, many countries have deemed monopolies so harmful that they subject them to additional government oversight and occasionally break them up.
For some inexplicable reason, few people have ever given much thought to the opposite situation - your situation. What happens when there are many vendors vying for the attention of a single buyer? In such cases, the buyer gains control of the marketplace and it becomes a monopsony. The monopsonist will find itself in a very enviable position, with the power to demand exceptionally low prices and high levels of quality from its suppliers. Without governmental safeguards, monopsonists can inflict substantial damage to segments of the economy and destroy any semblance of long-term sustainability. This is because it presents vendors with exactly two options: they must either compete with ever-increasing levels of ferocity, or they must exit the market.
If you're a vendor that sells to a monoposinist, and it sounds like you are, you should start working on a strategy to remedy your situation immediately.
Options when selling to a monopsonist
Unfortunately, there is no single approach to improving your situation. Chances are, however, that one of the following may prove suitable to your unique situation.
- Raise your prices - Many vendors will attempt to improve their earnings by simply charging more. This tactic is repeated all over the internet and implies that a bit of confidence is all that stands between vendors and giant heaps of profit. Unfortunately, market power matters. When selling to a monopsony, demanding higher prices will likely prove ineffective at best and detrimental at worst. Absent other changes, demands for higher prices will likely be met with an immediate refusal on the part of the buyer. In many cases your customer will choose to shift his purchases to other vendors and blacklist your company as a signal to other vendors that demands for higher prices will not be tolerated. Unless your demands are bundled with a series of bribes or payoffs in order to take advantage of the principal-agent problem, this method is unlikely to prove fruitful over the medium and long term.
- Increase your differentiation - My readers will likely assume that I believe differentiation to be the answer to all of your troubles. After all, I like differentiation so much that I even wrote an entire book about it. Unfortunately, monopsonies tend to turn otherwise sage advice upon its head. In many cases, the value of improvements to your offerings will be negated by your buyer's desires to achieve consistency across its supply chain and its intent to satisfy its internal quality thresholds at the lowest possible cost.
- Consistency - Imagine that you, and many other suppliers, provide blue pigments to the only paint manufacturer in your region. One day you discover a new process to increase the vibrancy of your pigments. Do you think that your buyer will pay more for this? Probably not. Any paint manufactured from your differentiated pigments will no longer match the paint made from inputs supplied by other vendors. A buyer that accepted your offerings would find itself selling to confused customers who would not know what coloration to expect when making a purchase. Unless you can convince your buyer to create a new product line with your improved pigments alone, your intended benefits won't prove beneficial to your customer at all. In fact, they would represent an inconsistency that your buyer would need to spend additional time and resources to correct.
- Internal thresholds - Alternatively, if you're a minority supplier, your buyer will likely commingle your pigments with those of other manufacturers before producing its finished product. The resulting mixture would likely prove indistinguishable from previous batches, no matter how much differentiation your firm has added. In such a case, why would your buyer pay a premium for such a negligible and undetectable improvement to its finished good? Sometimes good enough is just that: good enough. Your additional improvements won't lead to a more desirable product.
Of course, there are other methods of differentiation that may prove fruitful. As I discussed in my article about selling insurance, risk avoidance and mitigation are often prime targets for increased profitability, no matter the nature of one's market. As in any type of market, it's important to remember that the more readily emulated a point of differentiation, the less of a long-term advantage it will provide.
- Corner the market - A vendor selling to a monopsony may find great value in reducing his competition. In some cases a vendor to a monopsonist can even become a monopoly, thus adding a bit of balance to the relationship. Not only will a monopoly vendor find his pricing power increased, his marginal costs will also tend to decrease due to his increased economies of scale. This approach can be tackled in several ways, but ultimately involves one or more of the following:
- Buying, merging with, or coordinating with competitors
- Decreasing internal costs
- Increasing competitors' costs
- Decreasing competitors' estimations of future economic profit
- Broaden your beachhead - With a relationship already established, a vendor may find itself in a strong position to leverage its reputation with the monopsonist buyer to offer additional products and services. Some of these offerings may prove desirable to other buyers in other markets. A sneaky vendor may be able to bundle the new offerings, forcefully or not, with its existing offerings to guarantee long-term commitments. At the very least, this additional offering might open up possible opportunities for selling the new items to other firms.
- Cut out the middleman - In many cases, a monopsony buyer is not the end user of its purchases. For instance, supermarkets purchase vegetables from farmers and resell them to many individual shoppers. Not only do the farmers not have a direct relationship with their end users, but the products are often relabeled so that the end users have zero visibility into the source of the goods. As an aside, this is somewhat akin to how many online labor marketplaces (like Fiverr and Upwork) behave. In any case, should the legions of original vendors perform an end run around their intermediaries, they may find themselves able to capture significantly higher profits, position themselves to benefit from increased differentiation, and become more able to pursue a monopolistic approach to business strategy. To be clear, cutting out the middleman does not require vendors to sell directly to end users. Often it's enough to simply market directly to them, as exemplified by Intel's famous Intel inside marketing campaign.
- Democratize your offering - This approach may appear the most challenging, but it's also the safest over the long term. Business owners often mistakenly believe that having a single customer is preferable to having many. In a monopsony, all of one's attention can be focused upon a single client with a single point of view and a single slate of preferences. Unfortunately, a reliance upon a single customer creates a single point of failure. Accumulating a large stable of buyers can be intimidating and costly in the short term, but it is the only path to long-term safety. Many businesses will find that exploring alternative uses for their offerings, parts of their offerings, or even byproducts of their offerings can prove immensely profitable. Did you know that the GPS you use to find your way to a restaurant was originally intended for guiding missiles to their targets? Or that the oyster shells that cover many driveways were once considered a waste product? Or that lumber mills routinely sell their saw dust to cheese manufacturers? Sometimes a little creativity will reveal unexpected potential customers who would be happy to pay you for your offerings.
- Do nothing - It should go without saying that there's always what I refer to as the third option. Many vendors can and will choose to cater to monopsonists, relying upon hope for their long-term survival. Yes, its possible that their competitors might all disappear, or that additional buyers will magically appear in the market. It should be noted, however, that none of the other strategies that I've listed would preclude any vendor from profiting from such unexpected happenstance. Given that that is the case, why would anyone risk relying upon the wait-and-see approach? I certainly wouldn't recommend it.
Selling to a monopsonist is a poor proposition over the long term. While you may be able to earn a measure of profit at first, the future for such relationships will consist of declining margins, increasing levels of risk, and minimal corporate autonomy. It is almost always a mistake to rely upon a singular buyer who knows that you are readily replaceable and that your business' success depends solely upon staying within its good graces.
Don't believe me? Well perhaps you'd like to sell your time to Amazon Logistics? The company is looking to hire an army of independent drivers who are eager to build their businesses by making deliveries for Amazon and no one else. I wonder if it's as good an idea as it sounds.
Questions come from readers like you. If you'd like your questions answered, send them my way.
Pricing in the News
- Staff who work from home after pandemic 'should pay more tax' - Even reading this article was taxing
- In Argentina, a Jewish businessman starts a kosher meat price war - Maybe the pricing of kosher meat isn't so kosher
- Trivago loses appeal over misleading website algorithm ruling - Company doesn't find appeals court too appealing
- Video Game Prices Are Going Up for the First Time in 15 Years - They're rewriting the rules of the game and the game too!
- Apple drops its cut of App Store revenues from 30% to 15% for some developers - Developers cut a rug now that Apple's cut has been cut
- Amazon's $3,000 Signing Bonuses Irk Workers Who Got $10 Coupons - Amazon's advisers need to talk turkey about curbing talk about turkey
- Entrepreneur sells Irish air in a bottle to ex-pats for €27 a pop and says that it helps them 'reconnect with home' - Windbag entrepreneur may be full of hot air, but some people think his product is a gas
- Holland-made Tecate beer masquerading as Mexican, lawsuit claims - Claimant suggests the matter isn't small beer
- 'We're fighting for a way of life': Pandemic causes Iowa cattle farmers to lose money while consumers pay more - Holy cow! Don't have a cow but your cash cow is just a normal cow
From the Blog Archives
- Customer Segmentation Gone Wrong - Do you remember the good old days when airlines used to earn money from lawsuits rather than from government bailouts?
Notable Pricing Quote
"Panics do not destroy capital; they merely reveal the extent to which it has been destroyed by its betrayal into hopelessly unproductive works." -- John Mills
Shameless Commercial Plug
I normally use this section to try to convince readers to buy my books and services. Given that this is the holiday season, however, I feel that I should dispense with such crass commercialization.
I'm still going to do it though.
Please buy my books and services.