Company A has decided that it must raise its prices. If it only knew how its competitor, Company B, would respond…

Today’s business leaders must make vital decisions in the midst of complexity. Game theory is one method that can help them anticipate their competitors’ reactions in order to improve their own long-term outcomes.

Over the last 25 years, game theory has been used to shape strategic business decisions in the areas of market entry, pricing, bargaining, bidding, and capacity and R&D investments. It explores the strategies that companies can apply to maximize their payoffs in view of the strategies that their competitors are most likely to take.

In other words, it allows organizations to out-think their competition. Using a systematic approach, companies can evaluate all possible outcomes, reason which will be the most likely, and base their decisions on the most probable ones.

What motivates the players?

Game theory is much like chess in that no chess player plans his strategy without first thinking about how his opponent is planning his.

When weighing strategic decisions, a company must think ahead to predict the chain of future events conducted by their competitors. It then reasons backward to determine its own best moves. Ultimately, its first move must be based on what the last move should be.

Understanding the field of players and how they might counter a company’s every tactical move is key. Some competitors may focus efforts on increasing profits; others on market share. Knowing players’ objectives and longer-term goals is crucial to making successful decisions. 

One competitive intelligence technique is to create internal teams that represent major competitors and charge them with developing strategies to beat your own. Game theory can also be used to help companies determine when to compete and when to cooperate to create win-win outcomes.  

Make it a dynamic planning process

Game theory is a systematic tool that helps clarify thinking, and not a substitute for business experience. Accordingly, companies should build in a constant reassessment of their business assumptions. Doing so will help an organization avoid tunnel vision and address changing conditions in a timely manner. 

No matter what game theory approach is used, the best application of the process is to ensure that every decision will be correct no matter what happens. By considering a wide range of outcomes, a company can then choose the best growth opportunities given the varying circumstances.