BEST PRACTICE

Defensive MarketingHow a Strong IncumbentCan Protect Its Positionby John H. Roberts

Facing deregulation,the Australian telephoneconnpany Telstra developeda marketing strategy thatblunted the attack ofa potentially powerfulnew rival.

M'IARKETING IS TYPICALLY SEEN asa tool for growth. A company can

use it to successfully launch a product,make inroads into a new market, or gainshare with existing products in its cur-rent market. But for nearly every newproduct launch, market entrant, or in-dustry upstart grabbing market share,there is an incumbent that must defendits position. If the defender can't hang onto what it has, it loses the foundationon which to build its own growth.

While there has been much researchon marketing as an offensive tactic,there has been remarkably little on howstrong incumbents can use marketingto preemptively respond to new or an-ticipated threats, whether they arise be-cause of deregulation, patent expiration,changing technology, or rivals' shiftingcompetitive advantage. And that's ashame, because many of the marketingchallenges defenders face have distinctcharacteristics. For example, an incum-bent usually has an installed base of cus-tomers, which means the company hasdetailed information about the custom-

ers it wants to keep and how it mightkeep them. But a new entrant has theadvantage of being able to cherry-pickvaluable customers, raiding the mostfertile segments in the market, whilethe incumbent has to defend across itsentire customer base.

When the Australian telecommunica-tions market was fully deregulated inthe Iate-i99os, state-owned Telstra facedcompetition for the first time. And itsnew rival, a joint subsidiary of Americancompany BellSouth and UK companyCable & Wireless, promised to be a for-midable contender. Telstra knew it wasgoing to lose significant market shareto the newcomer, called Optus; its goalwas to both minimize and slow the rateof that loss while retaining its valuablecustomers.

Telstra adopted a defensive market-ing method that allowed it to do justthat. Using a model to predict consumers'responses to the rival service (a modelthat marketing analyst Charles Nelson,marketing professor Pamela Morrison,and I helped develop as consultants to

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Telstra), the company was able to selectfrom a variety of strategies that ulti-mately helped to blunt Optus's attack.Telstra's defense was particularly effec-tive because the company initiated it evenbefore Optus began doing business.

In some cases, the method led Telstrato make sharp changes in strategic direc-tion. The company rethought its pricingstrategy, for instance, to counter an Optusstrength that the customer responsemodel unexpectedly revealed, helpingTelstra to retain several points of marketshare it otherwise would have lost Thestrategies described here, though spe-cific to Telstra's situation, offer lessonsfor any company facing new and poten-tially damaging competition.

Deciding What to Fight WithDefensive marketing begins with an as-sessment of the weapons you have avail-able to protect your market position.These include your brand identity, orhow customers perceive you; the mix ofproducts and services supporting thatidentity, including their pricing; and the

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means of communicating your identity,such as advertising.

The effectiveness of these weaponswill depend on several factors, includingyour status as an incumbent. For exam-ple, you may decide that your brandidentity needs to be modified if you areto retain customers or delay their defec-tion. But this may prove difficult; Whileconsumers'perceptions of a new entrantare likely to be malleable, their image ofan incumbent is likely to be well formed.The defender may own the perceptionof "heritage" in the customer's mind-but may also be stuck with that label de-spite massive advertising outlays aimedat changing it. Meanwhile, a new entrantcan relatively quickly and easily adoptan image - say, "breath of fresh air"-from an array of branding alternatives.

In other cases, a weapon such as ad-vertising may be more effective in thehands of a defender because of theincumbent's size. For example, if the in-cumbent has ten times the revenue ofthe new entrant and each puts the samepercentage of revenue into advertising,the defender will be able to outshout thenewcomer by an order of magnitude,giving it an obvious advantage-at leastwhen communicating messages thataren't intended to entirely reposition awell-established brand.

An assessment of the strengths andweaknesses of your arsenal will helpyou choose from four types of defensivemarketing strategies. A customer de-fects when the benefits of staying withan incumbent are outweighed by thoseof switching to a new entrant. And thatdoesn't necessarily happen right away;an incumbent may be able to delay acustomer's switch. Consequently,to holdon to customers, the incumbent can tryto increase its perceived advantages intheir eyes (a positive strategy). In the caseof customers who will ultimately switch,the incumbent can try to at least slowthe rate of their departure (an inertia!strategy). Similarly, the incumbent cantry to reduce its perceived drawbacks

The defender may own the perception of'heritage" in the customer's mind -but may alsobe stuck with that label despite massiveadvertising outlays aimed at changing it.

relative to the new rival, again either toretain customers (a parity strategy) orto decelerate the loss of them (a retard-ing strategy). With the first two types ofstrategies, you establish and communi-cate your points of superiority relativeto the new entrant; with the second two,you establish and communicate strate-gic points of comparability with yourrival. (See the exhibit "Choosing theRight Defensive Strategy.")

Telstra identified its areas of superi-ority and weakness relative to Optusby conducting an economic analysisof the competitive landscape and byusing the model for predicting customerresponses to both companies' moves.Take the issue of pricing. Telstra hadoriginally planned to meet an antici-

John H. Roberts (johnr@agsm.edu.au) is a marketing professor with joint appointmentsat the Australian Graduate School of Management-a school of the University ofNevifSouth Wales and the University qfSydney-and at tlie London Business School.

pated Optus pricing challenge head-on,relying on its greater financial resourcesto weather a price war. But an economicanalysis suggested that pricing was infact likely to be a source of weakness forTelstra because it bad a cost disadvan-tage. While government regulationsstipulated that Telstra charge Optusonly the marginal cost of providing ca-pacity to the newcomer on the Telstranetwork, the incumbent bad to bear theentire fixed costs of maintaining the net-work. Despite Telstra's deep financial re-sources, a price war clearly wouldn't bea good way to retain customers.

If Telstra had gone ahead and de-cided, despite its cost disadvantage, tocompete with Optus on price, the strat-egy would have been doubly flawed, asthe customer response model revealed.The model allows an incumbent to ac-curately gauge consumer reactions toboth its and the new entrant's market-

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ing actions - and thereby focus its ef-forts on areas that will be most effectivein minimizing tbe level and rate of mar-ket share loss to the new entrant. (Fora detailed description of the model, goto www.agsm.edu.au/cam-defence.)

In the area of pricing, the model re-vealed that Telstra's customers, althoughlikely to respond favorably to Optus'slow prices, didn't view lower Telstraprices as a strong incentive to stay withthe company-possibly because a Telstraprice decrease would only raise ques-tions in consumers' minds about whythe company hadn't dropped its pricesbefore it had competition.

Realizing its dual weaknesses in thisarea-hindered from offering better pric-ing because of its higher cost structureand now realizing that its customerswouldn't value its price cuts as much asOptus's - Telstra adopted a parity strat-egy in which it created strategically cho-sen, but quite limited, points of price su-periority over Optus. That is, while Optuson average offered lower prices, Telstra'sprices were lower on some routes andat certain times of day. This meant thatthe lower-priced carrier for a given cus-tomer depended on that individual'sspecific calling pattems-a muddied sit-uation in which consumers were lesslikely to take the big step of switchingphone companies on the basis of price.

The success of Telstra's pricing strat-egy, supported by aggressive advertis-ing, was evident in survey results-whenasked whether Telstra or Optus offeredcheaper service, many people said theydidn't know or "it depends"-and in anassessment by tbe Australian Consum-ers' Association, publisher of Choicemagazine, which declined to recom-mend either Telstra or Optus as the out-right cheapest provider.

Another area of weakness that Tel-stra needed to counter, this one witha retarding strategy, concerned whatmight be called the "punishment fac-tor." The model suggested that peoplewould switch more quickly to Optus ifthey were angry with Telstra andwanted to "teach Telstra a lesson." Tel-stra moved swiftly to assuage these peo-ple with a television advertising cam-

paign that implicitly acknowledged thecompany's service shortcomings butemphasized its vow to improve. The an-themic jingle proclaimed,"Good, better,best. We will never rest. Until our goodis better. And our better best." In mount-ing this campaign, Telstra leveraged theincumbent's typical advantage of adver-tising clout: Six months after Optus en-tered the market, Telstra still had a mar-ket share 12 times that of its rival andcould afford a major advertising effort.

But this retarding strategy wouldn'thave worked if Telstra hadn't backed upits message with improved service. Thecustomer response model indicated thatnearly 60% of customers thought that"most people had a major service prob-lem with Telstra." (Interestingly, only19% reported having experienced a prob-lem themselves-an indication that Tel-stra, while disappointing a significantnumber of customers, was actually doinga better job of providing service than itwas in communicating its record to cus-

tomers.) Consequently, Telstra launcheda high-profile effort to upgrade and pub-licize its service efforts-particularly inthe area of billing, a hot spot for criti-cism-as a way to improve customers'ex-periences and perceptions.

Telstra considered and rejected oneinertial strategy. The customer data sug-gested that consumers' perceptions ofreliability were an important driver inthe rate of share loss: "Using Optusmight be risky"was one of the strongestfactors in people's decisions aboutwhether to switch quickly to the newprovider. Telstra wondered if it couldleverage this risk aversion, as well as itslong-established reputation for depend-ability, to slow customers' defections toOptus. But the market research alsoshowed that customers felt they couldeasily switch back to Telstra if Optus didnot live up to its promise, so Telstra de-cided not to make any marketing movesbased on customers' differing percep-tions of reliability.

Choosing the Right Defensive StrategyDefensive marketing strategies can be categorized by their aims-thatis, whether a strategy is designed to retain customers or merely to slowthe rate oftheir switching to a new rival. They can also be categorizedby the means to achieve those aims-that is, whether a strategy focuseson the incumbent's strengths or on the rival's perceived strengths.

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Leverage your strengths

Positive strategies:Hoid on to customers byemphasizing the perceivedadvantages of your product,service, or company.

Inertial strategies:Acknowledge that some cus-fomers will leave despite yourstrengths, but offer product orservice enhancements f haf willdelay fheir defecfion. Emphasizefhat benefits lost in the switchmay be major ones.

Mitigate yoiir rival's strengths

Parity strategies:Hold on to customers by match-ing, neutralizing, or blunfingthe perceived advantages of thenew entrant's producf, service,or company.

Retarding strategies:Acknowledge that some customerswill leave because of fhe newentrant's perceived advantages,but offer product or service en-hancements that will delay theirdefecfion. Emphasize that benefitsgained in the switch may be onlyminor ones.

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An inertial strategy that the companydid use is one available, in some form, tomany incumbents. Based on consum-ers' positive perceptions of Telstra as ahomegrown company, the incumbent(in its advertising copy, press releases,and product support) played up itsAustralian roots-and, by implication,Optus's foreign owners and recent ar-rival in tbe Australian market. This,combined with the established relation-ship consumers had with Telstra, al-lowed a somewhat nostalgic feeling of"better the devi 1 you know" to influenceconsumers' judgments.

Deciding Whom to Fight ForAfter having looked at the marketingstrategies you can adopt and the weap-ons you can wield to defend your share,you need to take a closer look at yourcustomers. Individual consumers willdiffer both in the likelihood that they'llswitch to a rival and in the reasons thatwould prompt them to do so. Further-more, there are clearly some customersyou'd hate to lose more than others.

Therefore, you need to segment yourcustomers based on two variables: theirvalue to you and their vulnerability tobeing poached by the new entrant. (Seethe exhibit "Value and Vulnerability.")You can identify the customers you areat greatest risk of losing, or the vulnera-btes, by using the customer responsemodel. You can identify the customersyou would most like to retain, or thevaluables, by assessing their direct andindirect effect on your profitability. InTelstra's case, this included, for example,the degree to which customers used thenetwork during nonpeak hours, whenthere was plenty of system capacity. In-cumbents have the advantage of know-ing which customers they want to keepbecause of existing data -for Telstra, itscurrent customers' calling patterns. (Atthe same time, however, Telstra couldn'teasily walk away from the mass market.Unlike Optus, it couldn't select only themost profitable customers, the ones ithad identified as valuables.)

So what challenges do you face witheach of these customer segments? In

Value and VulnerabilityClassifying your customers based on their value to you and theirvulnerability to being poached by a new rival helps determine whois worth keeping and how you should go about doing so.

Vulnerable

These profitable cus-tomers are tinhappywith your company.Work vigorouslyto retain them.

Not Vulnerable

These loyal, profitablecustomers are currentlyhappy with your com-pany. Maintain theirmargins.

These unprofitable cuS'tomers are likely to de-fect from your company.Let them go, or evenencourage theirdeparture.

These unprofitable cus-tomers are happy withyour company. Try tomake them valuableor vulnerable.

the case of customers who are vulnera-ble but not valuable, none at all: In fact,you hope they switch to the new entrant.For customers who are not vulnerableand not valuable, you try to make themmore valuable by reducing the cost ofserving them or getting them to in-crease their purchase of higher-marginproducts or services. If that isn't success-ful, you may actually try to increasetheir vulnerability to the blandishmentsof your rival by, say, reducing the ser-vices you currently offer that are un-profitable for you. For example, deregu-lation typically permits companies toeliminate such practices as rate averag-ing, which in effect subsidizes certaincustomers at the expense of othersthrough discounts and concessions likeextended payment plans.

The big challenge comes with yourvaluable customers, whether they'revulnerable or not. The goal is to givethe valuable-vulnerables a reason tostay without offering the valuable-notvulnerables a benefit that isn't neededto ensure their loyalty. Telstra had tofigure out how to price its services in away that would defend the valuable-vulnerables against efforts by Optus tolure them away without cutting therates of the valuable-not vulnerables,customers perfectly happy with the cur-rent services at the current prices. It isunethical, and sometimes illegal, to offerdifferent deals to different customers,unless the pricing discrepancy is based onthe different costs of serving them. Butwhat if Telstra could get the two groupsto self-select the desired pricing plan?

To do this, Telstra analyzed the traitsof the two segments. One importantfinding: The valuable-vulnerables wereparticularly knowledgeable about theservices they were paying for, and theywere more likely than the valuable-not vulnerables to research alternativesin order to get a good deal. With this inmind, Telstra launched Flexiplans, add-on services costing between $2 and $10per month, which allowed customersto, say, extend the hours in which theycould make calls at the low weekendrate. The packages targeted particularOptus price plans, as well as times of the

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day atid days of the week that were de-sired calling times for consumers andtimes of spare capacity for Telstra. Thisway, Telstra would always have sotneroutes and times of day in which its ser-vices were cheaper than Optus's.

The typical reaction of the inquisitivevaluable-vulnerahles was to do the mathandsay,"Yes, I'll be a lot better off evenafter paying the additional monthlycharge." The reaction of the valuahle-not vulnerables was to say/'l'm payingenough already, and I don't need anyextra services"-even if they would havesaved money overall with one of theplans. The extra charge didn't generatemuch additional revenue for Telstra.What it did do was get only those keenon saving money to apply for the Flexi-plan packages-and therehy give thema reason to stick with Telstra.

The Spoils of WarTelstra's defensive analyses and strate-gies helped the company better preparefor Optus's assault by providing accu-

rate estimates of Telstra's potential mar-ket share loss. The customer responsemodel indicated that, even given Tel-stra's use of several defensive strategies,share loss after six months would hemore than twice what Telstra's manage-ment had originally planned for-nearly9% rather than the anticipated 4%. Theforecast helped the company better al-locate its human and capital resources.For example, Telstra reduced its engi-neering expenditures so they were inline with the lower physical plant re-quirements resulting from the reducedmarket share.

More important, the defensive strate-gies Telstra employed prevented theshare loss from being even worse andhelped the company contain any lossesto strategic areas it had deemed less im-portant. The company's analysis foundthat the Flexiplan pricing strategyhelped Telstra hold on to roughly 4% ofthe market - representing $28 millionin annual revenue - that the companyotherwise would have lost. Telstra's

"Good, better, best" advertising cam-paign, designed to prevent the rapidflight of customers angry with the com-pany's past performance, helped it holdon, at least initially, to an additional 3,5%of the market. Changes In the way thecompany managed its large corporateaccounts, the cell phone market, and itsinternational calling services also pro-duced significant savings.

Viewing marketing through a defen-sive lens helped turn what might haveheen a rout by Optus Into a closelyfought battle that left Telstra with somelosses but the lion's share of the mar-ket. Telstra was ready to fight anotherday. Its preemptive strategy, imple-mented prior to Optus's launch, hadblunted Optus's Initial momentum. Andonce that happened, it was a lot easierfor Telstra to defend its customer basein the long, slow trench warfare thatfollowed. ^

Reprint R0511JTo order, see page 170.

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