Game Theory

When developing strategy it is vital for any company to out-guess its opponent, in order to attain a competitive advantage. It can be achieved by undertaking competitor and market analysis.

Facing threats and opportunities in their day-to-day activity, analyzing and providing information, such as signaling, companies try to communicate with other players in the industry to explore and use different strategic options, for example: to enter a new market or to expand in its old one. By signaling a company can inform or misinform its rivals about its intentions, conceal its real motives, divert rival’s attention from its real intentions.

It is important to understand that in an industry with five, or less, key players (oligopoly), no player can make any move without a corresponding response from its rivals. In such a competition a premise of non-cooperation between the competitors is the one to take into account first of all. A use of non-cooperating game theory can be a powerful tool in analysis to understand management behavior.

There are two main: Baumal and Morris models of management behavior named after the authors first described them. The first model attempts to reconcile the behavioral conflict between profit maximization and the firm’s total revenue.  The Model states that lower prices maximize sales provided the demand is elastic which creates a Baumal type of competition. The Marris Model incorporates growth, stating that management control will lead to growth as an objective creating another type of competitor which is supposed to compete by organic growth and M&A.

Reading the type of competitor as well as some specific signals issued by rivals, and utilizing such tools of the game theory as Nash Equilibrium, Prisoners dilemma, our consultants can help to analyze a rival’s strategy, forecast its actions and reactions and elaborate a viable strategy for our client.