Game Theory for Business: Gaining Competitive Control

Organizational leaders are often so focused on handling the many surface-level problems they must deal with, that they lose sight of the big picture. Yet, by taking a more expansive view one can gain true control of a market.

This is the essence of game theory: finding ways to give players (or firms) more control. The key is to develop a better understanding of your competitive environment and how that environment will respond to your actions. Once you have this understanding, manipulating your rivals to do what you want them to do becomes a possibility.

You can’t outcompete what you don’t know.

Putting game theory to work for your organizations starts with three key concepts: understanding other competitors; understanding how other competitors see your firm; and understanding “added value” and “outside options.” These concepts require you to put yourself in your competitors’ shoes. Remember, it’s not all about you. In this article, we’ll focus on understanding other competitors to kick things off.

Understanding rivals

Let’s start with building an understanding of your strategic environment and how to influence it. Here are four questions you need to ask in order to better predict how your rivals will react, and to gain more control:

What are my rivals really after? Just profits, or are other goals important? Maybe market or customer service leadership is their goal, or being the biggest, even is these goals don’t bring the highest profits. Even if rivals are only interested in profits, are they long-run or short-run thinkers?

  1. How do my rivals think they can obtain their goals? For example, do they think M&A is key, or developing resources organically? Do you have any biases or preconceptions about how they see the market?
  2. What are my rivals capable of doing? What are their resources?
  3. What do my rivals think I’m going to do?

Playing the game

Game theory isn’t a Jedi mind trick. It’s using your knowledge of rivals to predict how they’ll react, and hopefully, using this insight to get them to act in ways that are beneficial to your firm. Once you understand your rivals, you may be able to choose your own actions so as to get your rivals to behave in a manner that suits you.

I’m not saying this is easy, by the way.

How does it work? Here’s an example. Your rival is trying to decide whether to introduce a high or low quality product. You find out they’re leaning towards the high quality product, but this is also a move your firm would like to make. In this case, you have three options based on what you know:

  1. Let your rival introduce a high quality product, then introduce your own high quality product. This might lead to pretty fierce competition, especially if the products are similar.
  2. Introduce a low quality product.
  3. Be first to market with your own high quality product, and perhaps demonstrate a real commitment and dedication to that product.

If you choose Option #3, the assumption is that your rival is still trying to decide which product to offer. This allows you to “force their hand,” making it more likely that they will introduce a low quality product instead — decreasing direct competition for your new product, and potentially increasing revenues because you now corner the market for this high quality product, have a reputation for excellence with customers, and may be able to charge a premium price.

Options vs. decisions

The key concept of game theory is understanding the overall competitive environment, and how individual players think and behave within it. This understanding makes it easier for your firm to make profitable decisions. But game theory doesn’t tell you which decision to make—it only tells you which factors to consider. It’s just one part of competitive analysis. Typical industry analysis and market positioning frameworks are still crucial tools for honing your competitive advantage.