Pricing Pitfalls: Staying Legal When Pricing for Profit

Published On
Nov 1, 2017

Last month, this column provided ideas about how economic forces affect a company’s pricing decisions. I believe a business has the right to a profit that accounts for the risks of a particular project, but its reputation can suffer if pricing seems arbitrary or if there is “gouging” during emergencies or shortages.

Subcontractors often have the misconception that they must offer the same price to every general contractor on a specific project, but price discrimination—charging different prices to different customers—is acceptable to accommodate risk assessment and adjustments to your margins.

You also have the right to offer lower quality materials or installation techniques as long as there are no false claims to customers about what they are purchasing. You can lower your price below your cost to drive competitors from the market. Although “predatory” pricing is banned in some areas as a violation of regulations on competition, it can be difficult to prove intent. If you hold a patent for a unique product, assembly or process, you can take advantage of “supra competitive” pricing, because customers perceive a higher value in what you provide. Eventually, competitors will develop similar products and force you to adjust the prices.

There is never a truly free market based on supply and demand, because governments regulate practices considered unethical or abusive. It is your responsibility to understand these limitations, or you may face serious legal consequences. Here are some examples. 

The Robinson-Patman Act of 1936 amended the Clayton Act, which was the first antitrust statute targeting price discrimination. It was passed during the Great Depression, after small grocery store owners lobbied Congress to limit the advantage that large, powerful grocery chains gained from negotiating supplier discounts. This legislation allows the selling of the same product to different customers at different prices, based on the price each is willing to pay. 

Anyone who has purchased a vehicle has encountered this individual negotiation process. ECs do the same thing when they negotiate prices on private jobs with owners or GCs, especially if they are a sole or preferred source. On public jobs, Robinson-Patman allows for varying price submissions in the competitive bidding process. The publicly stated goal is to award the project to the lowest responsible or qualified bidder, not simply to accept the cheapest price. 

The first, and most significant, pricing legislation was the Sherman Anti-Trust Act of 1890, intended to support free competition in trade and industry and curb the monopolistic practices of consolidated manufacturing and mining companies that threatened smaller competitors. The Sherman Act made it illegal to create agreements “in restraint of trade” or attempt to monopolize trade or commerce. 

In 1914, Congress created the Federal Trade Commission to formalize rules for fair trade and investigate illegal practices. By the 1930s, the FTC expanded enforcement, joined by the Antitrust Division of the Justice Department after World War II. 

Under the Sherman Act, any discussion of pricing can be treacherous. For example, the pricing book used by a group of specialty contractors in a Midwestern city in the 1950s was an efficient method to allow competitors to geographically divide the marketplace, but it was a case of horizontal price fixing. Whether their customers believed they were getting fair value was irrelevant. In contrast, some vertical pricing agreements are allowed; for example, a manufacturer may dictate minimum prices to be charged by different retailers. 

Collusion in pricing, geographic distribution of market share, and agreements not to compete in specific areas, product lines, or do business with particular customers are all violations of the Sherman Act. One person or organization may choose to do business with anyone, but conspiracies among competitors are not allowed. Manufacturers may not join together with some retailers while excluding others. Joint ventures are highly scrutinized to ensure they are not created to fix prices. Even if the prices are reasonable, you cannot make agreements with competitors that effectively “carve up” the market or allocate market share by product, customer list or location. 

Boycotting is considered anticom-
petitive, and tying arrangements—conditioning the sale of one product on the purchase of another—also is forbidden. Monopoly power (more than 75 percent market share) will draw scrutiny, but monopoly shares (more than 50 percent) are sometimes allowed if they are created through “efficient, competitive behavior” and don’t exclude potential competitors. 

All of these potential actions are judged under the rule of reason. For example, a company with only 10 percent of the potential market share would not be challenged, but a majority market share would draw scrutiny. Although the regulations are complicated, the best way to avoid pricing pitfalls is to consult legal advisers before you make pricing decisions. Above all, avoid discussing prices with your competitors under any circumstances.

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