I sometimes have discussions with a friend of mine about business. Not anyone’s business in particular, but the morality and legality of various businesses and business practices. Obviously, neither of us own a business ourselves.
She refuses to believe that it could ever be legal for a business to knowingly lose money on a sale. Whenever I mention that Microsoft loses money on each Xbox 360 they sell, she disagrees. Loudly. She contends that Sony and Nintendo would gang up and beat MS to a bloody pulp, legally speaking, for deliberately making it impossible for people to make money selling consoles.
She also refuses to believe that Wal-Mart could ever deliberately lose money running a store in a region, even if it meant putting regional competition out of business. Again, she thinks Wal-Mart would have been sued into oblivion by the Righteous Wrath of He Who Is What Am, also known as the Department of Justice.
Of course businesses can sell products at a loss. It can be a perfectly sensible strategy, particularly when breaking into a new market. The key thing is for the business to monitor its losses against its business plan and to have sufficient capital to be able to absorb those losses without becoming insolvent. That’s why the term loss leader exists.
Are there certain situations where a company is barred from selling something at a loss? When I lived in Connecticut, I bought my baby formula from a local Wal-Mart at significantly less than at any other store. A suit was filed against the stores in the area, largely because of its formula pricing, but I can’t remember the term that was used - something like the opposite of “price gouging”. IIRC, the chief complaint that it was impossible for other stores to even come close to selling it at the same price. Formula prices did indeed go up afterwards, but I never did hear the outcome of the case.
The Anti-trust acts do make it illegal, under very specific circumstances, to massively undercut prices and sell at a loss in order to gain a monopoly position. But merely selling at a loss to beat the competition does not qualify.
Selling items at a loss might be illegal if there are anti-trust concerns. If a company is using their monopoly power in one area to gain market share in another (by selling at a loss), this would be illegal. It’s essentially what got Microsoft in trouble with the DOJ. They were using their monopoly in computer operating systems to “sell” their web browser to consumers for no cost (which would be a loss for Microsoft). This was harming competition, and was an unfair restraint of trade.
If they had charged for the product, there would have been no problem. In this case, the “selling at a loss” was what made it illegal.
Again, that’s what I thought. But there are cases like the one TellMeI’mNotCrazy mentioned that made me just a little bit unsure of my position on the issue.
Suburban Plankton: Yes, I do recall Microsoft’s run-in with the DOJ in this country, and I also know that it has gotten in similar trouble in Europe more recently.
No. There’s nothing about selling at a loss that is illegal. The XBox example is a good one - Microsoft sells the box at a loss because they want to build a market for their games. The overall business model is profitable.
A company can sell at a loss for lots of reasons. One is if temporary market conditions demand it, and the alternaative would be to cost the company even more. Take your Wal-Mart example - let’s say a region has a depressed economy, and Wal-mart lowers prices in that region to compensate. If the alternative is to close a store and take a huge loss, and the company believes that they’ll be able to raise prices again to a profitable level after the economy recovers, then there’s nothing wrong with doing this. In fact, doing so is a huge benefit to the people of the region, who get lower priced goods when times are tough.
Companies can sell at a loss until they go bankrupt. Sometimes market conditions change and a company is no longer profitable, or it’s no longer profitable because it makes poor decisions. The company will start a recovery plan and try and work their way out of the red. Sometimes they do, and profits return. Sometimes they don’t, and they go into bankruptcy. Depending on the type of bankruptcy, they may either be put on a new plan to profitability, or the company is dissolved and the assets sold off to pay creditors.
There are laws against ‘dumping’ or anti-competitive practices, but they don’t necessarily even require that the company sell at a loss. It’s conceivable that a company could be charged under anti-trust even if they are selling their product at a profit, if it can be shown that the company is manipulating their prices in order to force others out of the market.
So, the answer to the OP would seem to be, “when you’re doing it aggressively enough to drive all, or the vast majority, of your competition out of business and establishing yourself as a monopoly or near-monopoly.” Otherwise, business can go nuts selling at a loss, as long as they have the money to keep doing so.
By the way, I think I’d argue whether even giving software away for free really qualifies as selling it at a loss. The marginal cost to produce one unit of software is as near to nothing as makes no difference. The expenses are all overhead - in developing the software in the first place.
and, of course, ‘selling at a loss’ does not mean ‘selling it for less than the market value you could get’. It’s ‘selling it for less than the cost to produce[/distribute/buy wholesale/etcetera…]’ Someone might argue that the distribution cost to get that copy of IE on your computer is… well, anybody have any idea how to put a dollar value on that?
A better example is magazines. Many, possibly most, consumer magazines sell to the subscriber at a rate that doesn’t cover print and postage, much less salarys and benefits.
But the loss is made up by increasing the number of readers and thereby increasing the amount charged for ad pages.
What? You thought Newsweek was profitable at $20 per year?
There is also nothing illegal about an entire company losing money. It is a rule of thumb for small businesses that you should plan to lose money for the first two or three years. If you can’t afford to do that, you don’t have enough capital to start up.
Under some circumstances, an owner of multiple companies can write off the losses in one company against the profits in another.
Well, that’s a tricky case, in that the magazine industry is less of a straight commodity sales situation and more of a, erm, a commercial matchmaking thing? (In a slightly weird way.)
A magazine publisher’s PRIMARY source of revenue, I believe, is delivering circulation to the advertisers. Charging to deliver content (and advertising) to the readers is just an incidental, a way of defraying some costs. (Also, there are further nuances to it… if you can get people to actually pay for what you’re printing, it’s easier to convince advertisers that they’re actually reading it than if you’re giving it away for free.)
To expand on this example, Microsoft’s entire home & entertainment division (mostly Xbox and games) lost $391 million last year, and, IIRC, a total of about $4 billion since the first Xbox was released. MS’s bread and butter is Windows and Office.
Now, Sony/Nintendo probably could make legal noise about this (MS using their monopoly in OS/Office software to prop up an unprofitable game console) but Sony probably keeps quiet as they have a myriad divisions as well, some of which are profitable, some that are not, and Nintendo, being relatively small, probably doesn’t want the expense of a big court battle.
You can’t write off losses on a business indefinitely. Before long the IRS comes around asking questions. For example, I own several buildings one of which is a duplex residence that I rent out. If I continually lose money on the duplex the IRS won’t prevent me from losing, but they will stop me from writing off the loss against the income from my other buildings after a while.
Also note that there are occasional state laws about pricing on certain items. Usually they make little economic sense, but there they are.
For instance, in Massachusetts, there are laws about milk prices, and some discount groceries got into trouble for selling milk too cheaply.
That’s not nessesarily true. It depends on many factors such as:
why you are losing money
how much money are you losing
do you have a real negative cash flow or is it only a “paper loss”
are you doing a lot of business with relatives
is your busines one that others do as a hobby
and so forth.
YMMV- see your tax expert.
Predatory pricing and anti-dumping laws are not restrictions on companies running at a loss, though. They are about companies trying to protect their market dominance by lowering prices as a barrier to market entry by competitors. The idea is that a retailer, for instance, can charge unreasonably low prices in a market in order to drive out competitors. Once the competitors are gone, the retailer can then set the prices at whatever level it wants because competition is lacking.
Most trade rags give it away for free to qualified subscribers (you need to fill in a form saying what your position is, and what you buy.) Their ad rates depend on their circulation base, so I’ve had some mags call me over and over when I didn’t renew for free.
Basically, the production costs are subsidized by advertisers, so a new free subscription can actually make money if it ups the ad rate.
