Bad Growth

Bad Growth

Bad growth is not confined to mergers and acquisitions lacking strategic rationale. Price-cutting to gain market share without a corresponding decrease in costs can also lead to disaster.

Some businesses are capital intensive with high fixed costs and a high breakeven point, for example, the building-materials industry. Cutting prices to gain significant market share maybe successful at least initially. However, the competition had no choice but to respond in kind, since a loss of market share in this high-fixed-cost industry means a loss of both cash flow and profitability. The end result of all that price cutting caused industry revenue and profits to shrink, which obviously, affected every business in the same industry. It may take some time to restore equilibrium to the business.

Cost cutting could have been succesful to gain market share if the company had improved productivity and offered higher-quality products and creating a better cost structure, ahead of the competition. With lower costs and higher-quality products, it would have been possible to cut prices and build market share while maintaining margin. Another approach could have tried to search out the most profitable segments of the market and/or become the industry's innovator.

With no intrinsic competitive advantages, the only result of price cutting was that everyone in the industry suffered, not without its consequences to the managers and management too.

Buying growth through uneconomic price discounting

Gaining market share by giving some customers unusually favourable credit terms - terms that result in your losing money on every sale - is another example of bad growth. It never works long term.

Subsidizing buyers' purchases of your product by charging them little or no interest on the financing options you offer them, or by giving them an extended period until they have to pay you, may spike sales in the short term, but it is never effective as a long-term growth strategy.

In these situations, companies are able to record revenues and profits in accounting terms, and managers get their bonuses for meeting targets, but at the end of the day a cash crisis arises and huge write-offs ensue.