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What Commodity Really Means

        posted by , April 20, 2013

What's a Commodity?

A commodity is a type of product that customers see as interchangeable.

Customers see no difference between brands of commodity products and buy based on price alone. This drives the price of commodities down as low as they can go.

How to Tell If Something Is A Commodity

There's often a big fuzzy line between a commodity and a non-commodity. These signs suggest that a product is a commodity:

  1. Low price. Commodities often attract a low price that provides a minimal margin for producers. Notable exceptions exist (e.g. commodities such as gold or oil that have a limited supply).

  2. Standard price. Commodities have a standardized market price. If one company lifts its price above its competition, its sales fall dramatically (often to zero)

  3. Low brand value. Customers see no difference between commodity products so brands have little value. There's not much incentive for commodity brands to advertise.

  4. Standard quality. Producers have little incentive to improve the quality of a commodity.

  5. Standard features. Producers have little incentive to add improved features to commodity products.

  6. Low innovation. Producers have little incentive to innovate commodity products.

How A Product Becomes A Commodity

There's a natural tendency for all things to commoditize with time. Businesses must constantly innovate products to have any chance of avoiding commoditization.

There are only so many new features and quality improvements that interest customers. In many cases, products improve to the point that customers aren't interested in higher quality or new features. The product hits a dead end and quickly becomes a commodity.

This is most obvious with technology products. The first flat screen display (TV) cost $14,999 USD in 1997. As flat panel displays advanced people lost interest in the differences between models — prices dropped dramatically.

Classic Examples of Commodities

The following examples are classic commodities.

  • Wheat. Virtually all agricultural products are commodities. Exceptions exist (e.g. customers are willing to pay more for organic products).

  • Gold. Minerals are usually commodities.

  • Oil. Oil is a commodity.

  • Plastics. Basic materials are usually commodities.

Examples of Future Commodities

The following examples illustrate products that show signs of becoming commodities in the future. Most are already partially commoditized.

  • Economy Flights. Customers choose economy flights primarily based on price. This has led to a low incentives to improve service and relatively standard prices across the airline industry.

  • Telecom Services. Customers want cheap, reliable bandwidth and don't see a huge difference between telecom services. The price of bandwidth drops dramatically with time.

  • Word Processing Software. Software tends to loose value with time. Often new features are viewed as bloated by customers. For example, word processing software peaked in the late 1980s. At the time it was common for products to cost more than $200 for a single home-use licence. Its average price has dropped ever since. Customers tend to view new features as an annoyance.

  • Consulting. Organizations have become increasingly price sensitive to consulting fees. The lowest cost provider often wins contracts.

  • Computing. Cloud computing has driven down the price of computing and storage. There are few product differentiation factors for computing services.

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