R E P R I N T

The Market Share Paradox

Market share is very valuable. It leads to lower
relative cost and, therefore, higher profits. Unfortunately most efforts to improve market share
depress profits, at least short term.
There are two principal reasons for a shift in
market share between competitors. The most
common is lack of capacity. The other reason is a
willingness to lose share to maintain price.
Lack of capacity is a common occurence. It
must be. It is expensive to maintain unused capacity for very long. Even in the face of projected
industry growth, it is not surprising that not all individual producers feel they can justify the incremental investment in added capacity. On the other
hand, nothing is more obvious than the fact that
your capacity limits your market share. If the market grows and your capacity does not, then whoever has the capacity takes the growth, and
increases their share of the market at your
expense.
The decision to add capacity is a fateful one.
Add too soon, and extra costs are incurred with
no benefits. Add too late, and market share is lost.
Added capacity means more than bricks and
machines. It also means capable personnel in the
proper proportions in the proper place. The lead
time required is long. The decision must anticipate
the need.
The competitive implications of all this are
made more complex by the cost differentials
among competitors. Simple arithmetic shows that
the high cost producer must add capacity in direct
proportion to the low cost firm, if relative market
shares are to remain constant. But the high cost
producer's return on the capacity investment is
lower than that of the more efficient firm, because
of the differential in profit margins.

7 2 B

The market share paradox is that, if the low

cost firm would accept the high cost producer's
return on assets, the low cost firm would preempt
all market growth. And the resulting increase in
his accumulated experience would further
improve his costs and steadily increase the cost differential between the competitors thereafter. In
short, if the same investment criteria were used by all
firms, then the low cost firm would always expand capacity
first and other firms never would.
All firms do not use the same investment criteria. The fact that market share is stable proves
this. However, this also means that shares are unstable if there is vigorous competition.
The low cost producer can take market share,
but only if he is willing to sacrifice near term profit. The high cost producer can obtain a significant
return only because he is allowed to do so in
order to maintain current prices.
The tradeoff is inviting. Since the low cost firm
typically has the largest market share, his higher
return expectations often lead him to sacrifice
share to maintain near term margins. The loss of a
modest amount of the market may seem far less
costly short term than meeting a price concession
of a minor competitor, or spreading the price
reduction necessary to fill proposed new capacity
over his entire sales volume.
Unfortunately, the tradeoff is cumulative. More
and more share must be given up over time to
maintain price. Costs are a function of market
share because of the experience effect. Lost market share leads to loss of cost advantage. Eventually there is no way to maintain profitability.
The rate of growth is the critical variable in
resolving the market share paradox and the tradeoff between share and near term profits.
Without growth, it is virtually impossible to
shift market share. No one can justify adding

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R E P R I N T

The Market Share Paradox

capacity. Neither can anyone afford to lose

share at the price of idle capacity. Under such
constraints, since prices will tend to be very
stable, the appropriate strategy is to maximize
profits within existing market shares.
With only very little growth, a higher near
term profit now may be worth considerably
more than continued modest profit. Those
who should hold share into the no-growth
period are only those with enough share
and the resulting cost position to anticipate
satisfactory profits.
With rapid growth, market share is both very
valuable and very easy to lose. On the one
hand, any improvement in share will be compounded by growth of the market itself and
then again by improved margins as cost
improvement accrues from increased volume,
and hence, experience. On the other hand,

7 2 B

growth means that capacity must be added

rapidly, in advance of the growth, or share
will be lost automatically; to gain share, capacity addition must be based on preempting
the growth component.
Any shift in market share should be regarded as
either investment or disinvestment. The rate of
return can and should be evaluated just as it
would be in any other business situation. Change in
market share should be an investment decision.
Bruce D. Henderson
The Market Share Paradox, one of a series of informal
statements on corporate strategy prepared by members of
the staff of The Boston Consulting Group, is the second
of two essays discussing the strategic relationship among
pricing policy, capacity investment and market share. The
companion piece, entitled The Pricing Paradox, was
distributed previously.
The Boston Consulting Group, Inc. 1970

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