Market Share or Margin: What Small Businesses Should Prioritize

The temptation to grow through price

In many industries it is taken for granted that size pays off. With more customers you can buy more cheaply, keep your people better utilized, and ultimately earn more. For a small business, this idea often leads to a specific action: it cuts its prices to win customers from competitors and hopes the volume will pay off at some point.

This essay asks: Should a small business rather gain market share or protect its margin? To answer it, I first clarify the terms, then introduce the experience curve as the mental model behind the market share thesis, test it against two meta-analyses, weigh two perspectives, and finally calculate what market share bought through price costs.

Market share is a result of good business, not a substitute for it.

What market share and margin mean

Market share is a company’s share of a market’s total revenue. Relative market share puts your own revenue in relation to the largest competitor. Both are hard for a small business to measure, because it can rarely define the market precisely and can at best estimate competitors’ revenues. How to put a rough figure on the market anyway is shown in the guide estimating market size.

By margin I mean the contribution margin in this essay: revenue minus the costs incurred directly by the order, that is, materials, subcontracted services, and the hours worked. That is how the guide contribution margin per order defines it. Unlike market share, every business knows this figure or can determine it from its accounts.

The mental model: the experience curve

Behind the market share thesis lies an idea that the Boston Consulting Group popularized in the 1960s. BCG assumed that unit costs fall as cumulative experience grows, the so-called experience curve. Whoever has the largest market share has the most experience, the lowest costs, and therefore the highest cash flow. That is also how the analysis the BCG matrix for small businesses describes it.

The idea was supported by the PIMS program, a database in which business units of large companies reported their figures from the 1970s onward. From these data, a close link between market share and return was derived. For many managers this became a rule: first win share, then earn.

An everyday analogy helps to see the model’s limit. A baker who bakes a thousand rolls a day bakes each one more cheaply than one who bakes a hundred. A tax advisor with a thousand clients, however, does not advise each one more cheaply than one with a hundred, because her work does not get faster just because there is more of it. The experience curve holds in series production. In the service business, costs fall through fixed processes rather than through volume alone, as the article on the BCG matrix notes.

What two meta-analyses show about market share and profit

Szymanski, Bharadwaj, and Varadarajan (1993) were the first to summarize the research in a meta-analysis, a statistical analysis of many individual studies. They analyzed 276 findings from 48 studies. On average, market share had a positive effect on profitability. Its strength, however, depended heavily on the method. When firm-specific intangible factors such as management quality or brand were taken into account, the relationship shrank considerably and was possibly spurious. The same applied to analyses outside the PIMS data.

Edeling and Himme (2018) updated this work a quarter of a century later. They analyzed 863 elasticities from 89 studies. An elasticity indicates by what percentage one quantity changes when another changes by one percent. The average elasticity of financial performance with respect to market share was 0.132. Ten percent more market share thus went along with just over 1.3 percent better financial performance on average. The authors stress that this value is well below that of other marketing metrics, such as brand- and customer-related assets, and that it calls into question a strategy aimed solely at market share.

For small businesses, two differences are particularly revealing. Elasticities were lower for companies selling to business customers than for those selling to consumers, and lower for service companies than for manufacturers. The authors also found lower values for Western European markets in recent times. Precisely where many small businesses operate, in B2B and in services, the gain from market share is therefore smallest.

Two perspectives: grow or earn?

The first perspective holds on to market share. Size brings purchasing power, better utilization, more visibility, and protection against competitors. A business that is number one in its region gets asked first. Research also confirms a positive relationship, albeit a smaller one than long assumed.

The second perspective puts margin first. It points out that an association is not a cause. Perhaps successful companies have large shares because they are good, not the other way around. Then buying share without becoming good achieves nothing. The shrinking effects once intangible factors are taken into account support this. So does a finding from the German Mittelstand, the country’s small and mid-sized business sector: an analysis of 4,677 German manufacturing companies found a 1.7 percentage point higher return on assets for hidden champions. The advantage declines with size and disappears at around 900 employees (Johann, Block, and Benz 2022). These companies have high shares in very narrow markets, not broad ones.

For most small businesses I consider the second perspective the more robust one. Share that grows through quality, specialization, and service is welcome. Share bought through price is expensive and fleeting, because it is lost as soon as a competitor is even cheaper. Research confirms the benefit of size, but to a smaller extent than the rule “first share, then profit” assumes.

What market share bought through price costs

The arithmetic is simple and is nevertheless often overlooked. The guide managing discounts sets it out: every percentage point of discount comes entirely off the contribution margin. At a 25 percent margin, a five percent discount costs a fifth of the profit and must be offset by 25 percent more volume. Larger discounts require disproportionately more volume.

A ten percent price cut requires two thirds more volume. That only works if the market is large enough, competitors do not follow, and your own capacity suffices. For a business whose people are fully utilized, the calculation is even worse, because it cannot deliver the extra volume at all. Conversely, the lever also works upward. A small price increase can withstand a surprising amount of customer loss, as the guide raising prices without losing customers calculates.

When market share does take priority

It would be wrong to consider size unimportant in principle. There are situations in which a higher share really lowers costs or increases the value of the offering. Check whether one of them applies to your business.

• Density: more customers in the same area reduce travel times and setup costs per order, for example in maintenance, cleaning, or delivery services.
• High fixed costs: an expensive machine or software only pays off above a certain level of utilization.
• Network effects: the offering becomes more valuable to each customer the more others use it, for example with platforms or standards.
• Learning curve in production: repeated series demonstrably lower unit costs.
• Entry window: a new market is being divided up right now, and whoever is absent now will hardly get in later.

If none of the points applies, margin is the better priority. If one applies, growth is worthwhile, but better through specialization and service than through price. How a narrow niche brings growth without a price war is described in the analysis specialization instead of a general store.

Conclusion: what small businesses should prioritize

To the guiding question: in most cases, small businesses should protect their margin first and regard market share as a result of good work. The experience curve explains why size lowers costs in series production. The meta-analyses show, however, that the relationship between market share and profit is small on average and even smaller in B2B and in services. The calculation on price cuts shows how expensive bought share becomes.

Market share takes priority where density, fixed costs, network effects, or a short entry window reward size. Even then, the route through specialization and service is usually better than the one through price. For this week, one step is enough: review your three largest discounts of the past year and calculate how much extra volume they would have needed.

The sober observation is this: one percent of market share can be bought. One percent of margin has to be earned, and it lasts longer.