Most-Favored-Customer Clause (MFC)

1. Die Folien dieser Datei sind im Wesentlichen entnommen aus Brandenbruger/Nalebuff: Co-opetition, Doubleday, New York 1996

2. Most-Favored-Customer Clause (MFC) • A MFC guarantees a customer the best price the company gives to anyone. • MFCs are very common in business-to-business contracts. • They sound like a good deal for your customers, indeed the main effect is to shift the balance in favor of the seller.

3. MFC: Example In 1971 members of the American Congress figured that they should find a way to lower campaign expenses. Thus, the politicians voted themselves an MFC for television spots.The law didn’t quite have the desired effect. Knowing that, in an election year, politicians are going to purchase significant chunks of airtime, the networks want to get as much as they can for these spots. So with an election coming up, how will a network respond when a commercial customer comes to negotiate the rate for an ad spot? It will be very though on price. Giving a concession is extremely costly, since any discount must be extended to all the politicians buying spots. The network would likely end up losing more from the lower price paid by all politicians than it would gain from getting some extra business.One result of the law was that the networks ended up making more money than before.

4. MFC: the seller’s perspective Pros 1. Makes you a thouger negotiator. (“I’d love to give you a better price, but I can’t afford to.”) 2. Reduces your customers’ incentive to bargain.(The customer is guaranteed that no one else can get a better price, even if he does no negotiating at all.) Cons 1. Makes it easier for a rival to target one of your customers. 2. Makes it harder for you to target one of your rival’s customers.

5. MFC: the customer’s perspective Pros 1. Allows you to benefit from any better deal subsequently offered to other customers. 2. Ensures you that you’re not at a cost disadvantage relative to rivals. 3. Eliminates the risk of looking bad if other customers strike better deals. Cons 1. When others have MFCs, it’s harder for you to get a “special” deal.

6. Meet-the-Competition Clauses (MCC) • An MCC is a contractual arrangement between company and customer that gives the company an option to retain the customer’s business by meeting any rival bids. • An MCC doesn’t force you to meet the competition. It simply rewards you, if you do so, with the assurance of the customer’s continued business. • MCCs are most often found in commodity business.

7. MCC: Example In January 1994 the Miami Dolphins football team was sold for $138 million to H.W. Huizenga. A pretty good buy - almost a steal.When Dolphins owner J. Robbie died in 1990, the team was passed to his nine children. Following the death of their father, the Robbies sold Huizenga a 15 percent stake together with a right of first refusal (the buyer’s counterpart to an MCC) on any future sale. Thus, the Robbie children couldn’t sell the team without first giving Huizenga an opportunity to match the best offer.Put yourself in the shoes of a prospective bidder. You invest time, effort and money lining up financing. Will you be able to outbid Huizenga? Doubtful. If it make sense for you to acquire the team at a certain price, it will make sense for Huizenga, too. The best offer was the $138-million bid that Huizenga matched when he bought the team.What should the Robbie children have done?

8. MCC: Pros and Cons Pros 1. Reduces the incentive for competitors to bid.(You can undercut any rival bid as far as it’s a good deal.) 2. Takes the guesswork out of bidding - you know what you have to beat. 3. Lets you decide whether to keep the customer. Cons 1. Allows competitors to bid without having to deliver.(Your rival can make a low bid, fully expecting that you will match and lowers your profit without having to put himself on the line.)

9. MCC: Imitation • Far from being undermined by imitation, an MCC is actually enhanced by it. • If other producers also put in MCCs they will be allowed to push prices up some more and will have even more to lose from starting a share war.

10. Take-or-pay contracts • A take-or-pay contract is a rule structering negotiations between companies and their suppliers. With this kind of contract, you either take the product from the supplier or you pay a “penality”. • Take-or-pay contracts are often seen in agreements to purchase commodity inputs, electricity and cable programming, where suppliers face large fixed costs relative to variable costs.

11. Take or pay: Pros and Cons Pros 1. Reduces risk to your supplier, in return for which you can ask to pay less. 2. Reduces a rival’s incentive to come after your customers by making retaliation a near certainty.(You would require a replacement for the lost customer in order to avoid penalities.) Cons 1. Increases severity of price war if deterrence fails.(You are forced to retaliate, and that in turn could trigger a sequence of tit-for-tat responses that escalate into a price war.)

12. Mass-Market Rules • Mass consumer markets are very different. Seller don’t negotiate, hence buyers can’t negotiate. • Suppliers get to name the price of the item they are selling. If the customer wants the product, he has to pay the price. • Take it or leave it.

13. MFCs in mass consumer markets • At first glance, there would be nothing to gain by imposing an MFC. • But, in fact, there is still a reason to consider an MFC. • Though customers my be unable to negotiate, they can postpone buying. They may do just that if they are not convinced that you will hold firm to your price. • Granting MFCs helps you get out of this trap.

14. MFC: Example In 1990 Chrysler used a variant of MFC to change the game of selling cars. The way car buyers played the game is that they would wait for end-of-year rebates, and, by waiting, leave the dealers with large inventories, which would then force the manufacturer to offer these rebates. Chrysler wanted to convince customers that there would be no gain from waiting. What Chrysler did was promise people who bought a car in January that if it offered a larger rebate later in the year, it would go back to them and make up the difference. Chrysler’s guarantee had two effects. Customers had no incentive to wait, so end-year inventories were smaller and end-of-year rebates weren’t as necessary. Moreover, Chrysler was now less tempted to offer rebates to clear out whatever end-year inventory did remain.

15. MCCs in mass consumer markets • MCC do not make sense in mass consumer marekts because you cannot force consumers to buy from you. • A minimum-price guarantee is not the same as an MCC. Consumers don’t have to give you the option to match.

16. Targeted Rebates • You may charge low prices, but that might attract your rivals’ customers away, and then your rivals will respond by lowering their prices. You are where you started, except prices are lower all around. • So what you would really like to do is to charge a low price to your own customer without threatening your rivals’ customer bases. • If you do that, your rivals wouldn’t have to respond.

17. Targeted Rebates: Example In response to flat demand and increased competition, General Motors changed the game in 1992. They teamed up with a bank and launched a credit card. Cardholders would earn credit equal to 5 percent of their charge volume, which could be applied to the purchase of a new GM car. The GM card rollout was the most successful ever in the credit-card-business. How did it work? GM found a way to direct a rebate to its natural customer base and at the same time raised its list price. A competitor could go up with its prices without getting in danger of losing any of its natural customer base. Now GM could raise its price again without losing any of its customer base. The rebate program creates a win-win pricing dynamic between them. The key to effectiveness of the rebate program is that the rebates are targeted. It works only if the people who get rebates on GM cars are predominantly prospective GM buyers.

18. Targeted Rebates: Pros and Cons Pros 1. Allows you to charge your own customers low prices without threatening your rival’s customer base. 2. Encourages customers - even price shoppers - to become loyal. 3. Creates synergies with credit-card partners. Cons 1. In rewarding loyalty in cash rather than kind, doesn’t raise your added value. 2. Is ineffective on small-ticket items.

19. Targeted Rebates: Imitation Five months later Ford joined forces with Citibank to offer a credit card and in 1994 Volkswagen launched a credit-card rebate program. Does all this imitation put a dent in the GM program? Not necessarily. If GM was hoping to use its program to take market share from Ford and others, then imitation was indeed bad news. But imitation also helps GM. As more card programs appear, car manufactures are less tempted to cut price, because low prices are no longer as effective in attracting customers. People who have built up credits in someone else’s program won’t readily switch. Moreover, if a carmaker now raises price, it won’t lose as many customers as before. Another positive effect: It becomes more important for car buyers to choose sides.