Is competition good?

Competition is fabulous if you’re buying. It’s not so good if you’re selling.

For example: as a buyer of cooked food and dining services, I am very lucky to be living in Sydney. I am spoilt for choice. From the cheapest quick eats to top chef dining.

Thanks to a healthy diverse mix of ethnic inward migration, I have quite a pick of Chinese, Japanese, Spanish, French, Italian, Korean, Taiwanese, Portuguese, Indian, Vietnamese, Brazilian, Mexican, Thai, Malaysian, Filipino and other cuisine.

Even though the price of real estate in Sydney continues to skyrocket, eating out remains fairly affordable especially in the inner city areas, Chinatown and ethnic enclaves like: Vietnamese in Marrickville, Cabramatta, Bankstown and Canley Vale; Korean in Campsie; Italian in Leichhardt and Haberfield; and Indian in Harris Park and Parramatta. The high supply from a very large number of competitors is keeping a lid on prices.

Not only do customers enjoy affordable prices, they also benefit from continuous innovation. Because there are so many sellers in the market, restauranteurs are forced to continually come up with innovative dishes, cool looking premises, themes, and dining concepts among other things.

Recent blossoming in innovation I noticed are in cafes: from the sourcing of coffee beans, to roasting, grinding, beautifully engineered espresso machines, milk frothing, coffee art and hipster premises. I’ve see how the Australian flat white has slowly spread to the cafes of Europe, America and Asia.

I also see a lot of innovation happening in the desert space: from creative and award winning artisanal gelato to French macarons, cronuts, funky Taiwanese icy treats, frozen yoghurt, Japanese matcha tea ice cream concoctions, and liquid nitrogen ice cream.

Even point-of-sale systems can be used as a competitive factor on the overall customer experience. I remember my delight when I first used the iPad-based menu + ordering devices in Wagaya and Kura to order my sashimi, chicken karaage and Calpis drink by swiping across screen pages and clicking on food pictures to place my order. I had similar delight at Vapiano when I tapped the contactless card given to me by the maître d' in front of the chef as she cooked my Fettucine Puttanesca in front of me while I wait.

Restauranteurs have to innovate because they need to somehow stand out in order to get a foothold in the market. Unless you have severe dietary restrictions, the switching cost from one restaurant to another is quite low. Even at the last minute, I can change my mind and walk across to Papa Rich to have Malaysian Laksa instead of Nandos to have South African / Portuguese peri peri chicken.

To keep diners coming back, restauranteurs must continue to delight customers through never ending tweaking of price, taste, service, premises or whatever secret business sauce they could get their entrepreneurial hands on.

As buyers of dining services, we benefit from this intense competition between people who supply us with these food services. For us this is quite a wonderful thing.

The picture seen from the other side may not be as rosy.

I imagine that as a new entrant, the Sydney restaurant market would be a tough nut to crack. The market already feels a bit crowded. As a new kid on the block, one has to come up with a really interesting, exciting, and creative new proposition to simply get noticed.

Even if one succeeds in entry with a winning fresh concept — designing a business model with a healthy profit margin is not a walk in the park. The economic structure of the industry is a tough one. On one hand there are the high cost of renting premises, kitchen equipment, labour, permits, licences and regulatory compliance, marketing and advertising. On the other hand, there is the tight lid on prices that can be charged customers. This one tough mofo of an economic structure to content with.

It does not end there. Even if by some miracle one successfully rise above the clutter and found a way through the tough economic structure, holding on to the profit margins sustainably can be a nightmare. As sure as ants cotton on to bread crumbs and splashings of peanut butter around your picnic blanket, competitors would soon be at one’s heels. It doesn’t take that much for competitors to imitate the new successful restaurant concept and its business model.

That is unless the restaurant entrepreneur can create what Pat Dorsey in his Little Book That Builds Wealth called an “economic moat” around a business to defend its castle of fat profits. For example Starbucks and McDonalds can be seen to have built economic moats around their franchises in the the form of extensive network of prime location real estate, economies of scale in their supply chains, advertising and marketing costs built through years of heavy investment to build these.

I’ve seen this cycle firsthand over the years: first-to-market players unable to defend fat profits from hordes of copy cats. For example when I lived in the Philippines, one family succeeded in finding a successful formula for selling roast chicken on the street (ie Baliwag lechon manok) which sparked a Cambrian explosion of lechon manok outlets in the street corners of every town and city. When the irrational exuberance for lechon manok died down, it left a trail of new lechon manok operators who bit the dust. Those who survived the culling were franchises able to create a recognizable brand, build an extensive network of shops, and introduce further innovation (ie Chicken Inasal). The survivors, however only enjoy leaner post-exuberance profit margins.

A similar cycle happened to the schwarma, tapsilog, pearl milk tea, frozen yoghurt and other fast food fads. Now I heard there’s an explosion of ramen eating places back there. Of course there are a handful of industry players that secured long term and continued success by for example building up a stable portfolio of profitable food brands through decades of real estate network expansion, brand building and continued scaling up of operations. Just think Jollibee Foods Corporation. Given their gigantic scale, it would be extremely difficult for a newcomer to compete at their level. These mega-brands have succeeded in building wide economic moats around their castles of profit. Sad but true, the gospel of Matthew got it right: “the rich get richer, the poor get poorer”.

Similar creative destruction happens in Sydney. I only need to walk along George, Crown, Sussex and Dixon Streets around the CBD and count how many food shops closed, changed owners or otherwise rebranded to gauge the level of competitive brutality in this market.

So is it then just a matter of dining out as much as one can to enjoy the fruits of brutal competition and to conversely avoid starting a restaurant business if you can help it? Not so fast Paloma.

If you extend the principles above to other areas of our wonderful life in a market driven society — you will soon realise that if you pick up one end of the stick, you also pick up the other end. No one is exclusively a buyer or exclusively a seller. We are both buyers and sellers of various goods and services in the myriad aspects of our life.

So whilst one might enjoy the benefits of lower prices and perpetual innovation brought by creative destruction in a brutally competitive industry supplying them — on might at the same time earning one’s living by owning a business selling goods or services in a similarly competitive industry or even worse, you could be selling your time working in one. It is simply the case that it is extremely difficult for companies to provide generous benefits to its employees if the company is barely keeping afloat in a hypercompetitive environment.

It is much easier for a monopolist that has the luxury of fat profits to be generous to its employees. Which is why it may not be so common nowadays to see generous pension plans, health plans, and other perks employees used to enjoy in the ‘good old days’ of working for giant industrial monopolies.

We have entered an era of global competition. Companies that used to dominate their domestic markets are now subject to competition from overseas where the operating costs are cheaper. Suddenly they can no longer afford to be ultra generous.

This is the sad story of Detroit. American car companies used to dominate the US market. They were able to provide generous wages and pension plans to their workers. When cheaper cars from more efficient and more innovative car companies from Asia aggressively entered the US market, the American car companies were not able to protect their fat profits.

As innovation stalled and revenues dropped, the American car companies for a time looked like shell companies whose sole purpose was to service the bloated pension obligations inherited from the glorious past.

So competition can be bad for you if it boots you out of your gravy train. Competition could also be bad for you even if you are the buyer. There could be instances where instead of fostering innovation, hyper-competition could result in a ‘race to the bottom’. For example, heavy competition among discount airlines could push some operators to cut corners that could compromise the safety of its passengers.

Of course there are still companies today who can afford to be generous to its employees. Interestingly some of these are what Peter Thiel called ‘creative monopolies’. These are highly innovative companies (currently mostly in the technology sector) that operate in a very dynamic environment and which manage to dominate their markets through continuous innovation and creative destruction of their own products and services. These are the Google, Apple, Facebook and Valve corporations of today’s world. These companies can afford to be super nice to their employees because they enjoy fat profits or have healthy capitalization.

However these creative monopolies are not like the traditionally bad monopolist who got its monopoly power through regulatory rent-seeking or other similar means or who otherwise simply collects monopoly rent without innovating — thereby causing the market it dominates to stagnate.

In contrast these creative monopolies more often than not got there through the merits of innovative technology, design and excellent customer service. What’s more they cannot afford to sit on their laurels lest they fall victim to the next two-person-in-a-garage start-up. With their fat profits, creative monopolies could spend a lot in research and development to further their competitive advantage and at the same time making better and better things for us.

The stranglehold on the market by these creative monopolies may not last that long because of the accelerating phase of technology evolution. The next disruptive technology always seems to be waiting by the wings. It may just be possible that we are entering a golden age of benevolent creative monopolies — just may be.

Welcome to a brave new world of complexity where competition can sometimes be bad and monopolies can sometimes be good.