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Should a Company Reveal Its Cost Structure to Customers? | UCLA Anderson School of Management

For brands these days, millennials are the 500-pound gorilla: They get what they want, and what they want is transparency — about a seller’s supply chains, business practices and environmental impacts.

Companies are responding with increased openness with one big exception: their costs. When it comes to disclosing what they pay for raw materials, labor and transportation, businesses tend to clam up, and with good reason. Revealing costs can give an edge to competitors, limit a firm’s ability to set higher profit margins and create an impression among customers that prices are unfair. Yet, research suggests, consumers like the practice and will reward cost transparency with greater loyalty.

When to adopt a strategy of cost transparency — and how to do it right — is the subject of a working paper by Wei Shi Lim of the National University of Singapore, Vincent Mak of Cambridge University, UCLA Anderson’s Christopher Tang and Cambridge’s K.C. Raghabendra.

Based on analytical models and a laboratory experiment, the researchers suggest that the best predictor for whether a strategy of cost transparency will be profitable is the perceived quality of a brand’s products. But the calculation is far from simple.

When a brand faces a much higher-quality competitor, it usually benefits from being transparent about its costs. However, when the perceived quality differences are large, such as between a mass-market and a luxury retailer, both firms are better off keeping costs hidden because different firms can use different selling prices to segment the market. When the quality differences are small — between two mass-market or two luxury brands — both companies should opt for openness. That’s because transparency gives enough of a competitive edge that either company risks the loss of market share and lower profit margins if it keeps costs hidden.

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Should a Company Reveal Its Cost Structure to Customers? | UCLA Anderson School of Management.