|
||
|
 |
Enroll to receive our newsletter. More..
Newsletters: December | November | October | September | August | July | June | May | April
Newsletters: December 13, 2007
Finally, The Airlines are Getting it Right–Lower Your Flaps and Slow Down in Turbulence | Pricing In Rainbows | Clashes of Titans-Keep the Big and Little Picture | Limiting Supply to Hold Price? | Good Reading!
Finally, The Airlines are Getting it Right-Lower Your Flaps and Slow Down in Turbulence
By Dr. Reed Holden
Ok, if you didn't know it, a downturn is coming. The sub-prime credit crunch will be a cause of it, but there are other factors at work, too. American companies are not doing well with global competitiveness, and, as in the past, they still don't know how to deal with the increased sophistication of purchasing agents. To make matters worse, you have the dramatically high price of oil that is going to slow down both consumer and business purchasing. The only question is whether it will be the R word or the D word. The experts are saying that it will be a recession.
A question that all of us are facing is how to respond to it. Most managers are doing exactly the wrong thing. What is that? Easy–they're using more price discounts to keep revenue flowing into the business. In doing that, they are using the wrong pricing strategy (penetration) and as a result are undermining the firm's value proposition.
So what is a manager to do? First, lower your performance expectations for the coming year. If you can, shut down capacity and slow down/stop hiring. That is exactly what the airlines are doing. With the high cost of fuel and the looming/current downturn, they are taking older, less fuel-efficient aircraft off-line, and they're doing that just at the time when demand is booming for the holiday season. They know that after the holidays, demand is going to drop like a stone.
What else can we do? Well, while this suggestion is difficult for the airlines, another good idea is to deploy that low-value offering and identify which non-loyal, price-buying customers - not poker-playing customers - to contact and try to get some of their business. This protects the high-value offering and high-value customers. This way, you keep revenue flowing in too. When demand picks up, if you want, dump the low-value offering.
This is the time for survival, not flourishing. When an aircraft hits turbulence, they slow down. You should be doing the same thing. Stop focusing on revenue targets they are no longer accurate or relevant. The market is slowing down, you should slow down, too. Worry about profits and making sure that what you sell is providing for the firm, and you will survive in a downturn. Safe flying!
Commentary by Steve Haggett
From “Labels Win Suit Against Song Sharer” by Jeff Leeds, New York Times, October 5, 2007 and “Radiohead’s Revenge Is Sweet” by Joan Anderman, Boston Globe, October 11, 2007
On October 4, the recording industry won its first juried trial against a music downloader. A woman from Brainerd, Minnesota (presumably, in a town called Brainerd, all the residents know how to download music) was ordered to pay $222,000, or $9,250 per song, to six music companies. Less than a week later, the music group Radiohead released their new album, In Rainbows.
The recording industry has been wrestling with pricing models, as the digital music revolution led first to pirate sharing through vehicles like Napster and then to an established online distribution system. Apple has focused on a standard $0.99 per song model, selling all singles for the same standard fee, with strict file restrictions limiting sharing or reproduction on multiple platforms.
This victory, coupled with digital file restrictions, will help music publishers control pricing in their industry around the Apple model.
So what Radiohead did is a bit of a surprise. They distributed their new album independently, in its entirety, allowing customers to set their own price. That is, pay whatever you want. "Whatever you paid for In Rainbows, it's going to be worth it, because you, the newly empowered consumer, have assigned the value," notes the Globe.
And how did Radiohead do in a world of online pirates used to downloading for free, or at most $0.99 per song? Early reports had customers paying, on average, $10 an album. Which means, on average, that half the people who downloaded a copy paid more than the standard price of online albums.
Radiohead, as a brand, has established value – premium value above standard recordings, based on their previous work. Further, they established trust by offering customers the opportunity to set their own price. While this won’t work for most products, the lesson of establishing trust and value as a basis for premium pricing shines through In Rainbows. Especially in businesses where your customers want to encourage you to stay in business and continue to innovate – if we pay them well, then they will produce more albums – this model can be effective. Further, when some premium brands succeed at establishing a customer-driven value above the standard industry prices, it only supports the basic price model. Clashes of Titans–Keep the Big and Little Picture
Commentary by Dr. Reed Holden
From “Competition Weighs on Comcast” by Aline van Duyn, The Financial Times, December 5, 2007
Over thirty years ago, a business professor was talking about the "clash of the titans" in telecom. But back then, it was between AT&T and IBM. Each company thought there should be only one global telecommunications company. Well, history has not been nice to either company, especially AT&T. That once great telecom company is now staying at the back room at one of the kid's house and the kid is trying to make money off of Dad's name. On the other hand, IBM has moved in a different direction, now leveraging their dominant position in the declining technology of mainframe computers with a world-class global services organization. Go figure.
Now the clash is between other AT&T kids, Verizon and Comcast. Their belief is that there needs to be only one cable coming into the house for communications. It's just the type of cable. Comcast wants it to be a coaxial cable, which in many cases is already there. Verizon wants it to be a glass fiber, which in many cases isn't. Their agenda is two fold. First, Verizon has to get the glass fiber strung through the local neighborhoods, not a difficult challenge–after all, they're the phone company! Verizon's real problem is going from the pole to the house. Most local communities signed sole provider contracts with the cable companies a long time ago and are now trying to slog it out in the trenches to get those contracts thrown out.
At any rate, this is going to be a fun one to watch. We switched to Comcast from a satellite company that had lousy service. In doing that, we got a low introductory price for a bundle of phone, high speed Internet, and cable TV. We have run into two problems. First, the selection on TV isn't that great That's not a big deal, because we don't have time to watch TV anyway. The second one is a big deal `worthy of note by all. We were shocked when the introductory rate went away. We did call the company and got the reason for the increase, but it made us want to switch as soon as the Verizon service is available.
When you work strategy, pricing or otherwise, you have to have the big and the little picture. The little picture, over time, contributes to the success or failure of the big picture. In the end, better technology should win the day. But it's the customers who are made price sensitive by poor pricing strategy and even worse price positioning who are going to accelerate the demise of companies like Comcast. Limiting Supply to Hold Price?
Commentary by Jason DePue
From “A Long, Long Wait for A Wii,” BusinessWeek, December 17, 2007
“Limited supplies. No rain checks.” Shoppers trying to find a Nintendo Wii system this holiday season may face those very words. While other companies have tried to ensure shelves are well stocked, it appears that Nintendo may have deliberately limited supply of its popular $250 gaming system. Along with a large marketing push, the shortage has created a significant amount of hype. Customers are waiting in line for hours in the hopes of getting a machine. Whether intentional or not, this has allowed Nintendo to hold price while competitors have had to discount in order to move product.
Could this type of strategy work for your company? There are many variables that need to be considered before moving down this path. The first being how this would affect your company’s value proposition in the eyes of the customer. You might think that this will only work for high value, image, or relationship type customers. In most cases you would be right. However, there are instances, even within commodity industries, that limiting internal supply can stabilize overall price. There are definite risks no matter what the situation. Considering the long-term ramifications of possibly losing share or how competitors will react is important. An integrated communication plan should also be part of this process.
If you do make the decision to cut production, the natural place to start is low-margin business. In other high-tech manufacturing industries, we have seen companies either reduce investment in low-margin capacity or cut back on expensive outsourced capacity to limit the supply.
We remember one case in the software industry where a new process technology was being introduced. Salespeople were struggling to get the software adopted by large banks. There were forty-two banks targeted, and the vendor could only service six in the first year. The vendor stopped the selling process; instead, they went to these banks and told them they were taking applications to buy the technology. They required the banks, if selected, to use the technology and provide all cost data, so a better value map could be developed. The banks lined up with their applications, the six were selected, and the product went on to be a huge success.
While rare, this type of selling is not unusual. Like Nintendo, the software company didn’t need to limit supply, they just advised the customers that they could only serve a few of them. While slightly different from the Nintendo case, the result is still the same. Selling more quantities of anything is not always the best road to profits. Reviews from Dr. Reed Holden
Newsletter: November 16 , 2007
Saint Joseph and Derived Demand | Avoid the Train Wreck of Acquisition | Hitting MOT High and Low | It Was the Best of Times, It Was the Worst of Times | Clash of the Titans | The Plot Thickens | Good Reading! Saint Joseph and Derived DemandCommentary by Mark Burton
From “When it Takes a Miracle to Sell Your House,” The Wall Street Journal, October 30, 2007
Well, the housing slump has been good for at least one part of the economy – those companies that make statues of Saint Joseph. You see, Saint Joseph is the patron saint of home, family, and apparently home sales. And many desperate home sellers have taken to burying Saint Joseph statues in their yards in the hope that he will help spur a quick sale.
The sudden popularity of Saint Joseph is a great lesson about one of the most important, yet least understood, aspects of pricing in business-to-business markets – derived demand. When the real estate market was cooking along a few years back suppliers of Saint Joseph statues were enjoying a comfortable, if modest, business. Now they can’t keep up with demand. This is a key lesson for all pricers. The demand for Saint Joseph statues is literally derived from the demand (or lack of it) in the housing market.
Think about the implications. What would have happened to total demand for Saint Joseph statues if suppliers lowered prices on the statues when the housing market was strong? Very little. Instead suppliers would have given up profits. On the other hand, what would happen to total demand if suppliers raised prices in the current market? Again, very little.
For the large majority of companies in business-to-business markets, this is the way their markets work. Yet they continue to use discounting to try to spur demand during times of weak downstream demand. And due to derived demand, the end result is lower profits for everyone as customers learn the game and negotiate even harder on prices. Here’s a suggestion, no matter what your religious leanings are, go out and get a statue of Saint Joseph, and put it on your desk. The next time someone wants to lower prices during a slow market, show it to them and explain how Saint Joseph is the patron saint of derived demand … and better pricing. Avoid the Train Wreck of AcquisitionCommentary by Dr. Reed Holden
From "Selling Sales Forces on a Merger: Careful Planning Helps Keep Both Customers and Top Performers" by Joann S. Lublin, The Wall Street Journal, November 12, 2007
So you acquired another company. Great. You get to be the conquering hero. You get to look down at the lesser executives who couldn't make it on their own. Right? Wrong! The fact is that most mergers fail. They fail for a variety or reasons.
The first reason is that the "winners" descend on the acquired company and either clean house, not a bad thing if all you want is production capacity, or they lord it over the new team and end up losing some of their best performers in all areas of the firm.
The second problem we often see is managers who fail to anticipate what salespeople will do in anticipation of the merger. Salespeople, and senior managers for that matter, are just like the rest of us – they're worried about their jobs. Without careful planning and controls, they will use price to try to increase sales prior to and immediately after the acquisition so they can show that they're making their numbers. What's the result – a train wreck – a.k.a. a price war. In most business markets, revenues actually decline, profits disappear, and everyone wonders why the acquisition doesn't add the value that everyone projected.
The bottom line is that if you're going to acquire a company, make sure you worry about salespeople and customers and how they're going to react to the merger. Take time to talk to them about the beneficial reasons and what's going to happen to them after the dust settles. Good planning can save the wreck. Unfortunately, most managers get too giddy with the "thrill of victory" to do that. Hitting MOT High and LowCommentary by Dr. Reed Holden
From “Nokia Turns Up the Volume” by Adam Ewing, The Wall Street Journal, October 19, 2007
There was a time several years ago when it looked like Motorola had shaken off the denzions of the past and was going to regain global leadership in the cell phone business. In the 1980's Motorola missed it with the Flip Phone when they kept their team of designers working on the analog version and let other competitors blow past with better performing digital phones. They did the same thing with their terrific design in the RAZR. As they retrench and move away from lower-priced phones, Nokia continues to expand their number one position with great strategy and flawless execution.
Nokia saw an 85% increase in net profits by selling cheaper phones. Those phones are necessary to tap the explosive India and China markets. By having both high- and low-value phones, margins are increasing dramatically, along with the revenue and profits. You see, they don't let their costing systems cloud the true nature of costs – they know how to price for profits – even with low-priced products.
Strategy is simple. Execution is tough. Nokia continues to shine on both with a global market share that is greater than its three next biggest competitors. It Was the Best of Times, It Was the Worst of TimesCommentary by Steve Haggett
From “Pfizer Breaks With Norm by Scrapping Drug” by Avery Johnson, The Wall Street Journal, October 20, 2007
In October 2006, Pfizer’s inhalable insulin won a prestigious 2006 Dow Jones Technology Innovation Award, the Overall Bronze and Winner for Biotechnology & Medical Division. This should have been great news for diabetics. Then why on October 2007 did Pfizer shut down the business, taking a $2.8 billion charge?
What happened in the year in between those two events? Pfizer learned how customers valued the innovative technology. And, they learned about “framing.”
Insulin-dependent diabetics are forced to routinely inject the drug to maintain health. Pfizer invested in this innovation assuming that there was almost no price diabetics would pay to avoid daily injections. That price turned out to be about $5 a day.
Exubera, Pfizer’s medication, did not fail because it didn’t work, nor did it fail for safety concerns. As the Innovation Award proves, the product is a technological marvel. It failed because research pointed them in the right direction, but too far.
The new therapy was priced about double the rate of injectable insulin. Through insulin pens and pumps, traditional therapy has become somewhat simpler. Changing to an inhaled product required a significant change in process for both physicians and patients – learning to measure grams of powder rather than volumes of fluid and learning to use a bulky mask. However, there was no corresponding change in performance. Couple that with consumers who are well used to injecting the drugs, perhaps Pfizer shocked them with prices which appeared too high.
Even though research shows a willingness to pay, it often fails to capture how users feel about the alternative of really paying the higher price. In this research category, they probably felt shocked.
Had Pfizer begun the process in the market, rather than in the lab, they might have gained a better understanding of unmet customer needs and value judgments. Clash of the TitansCommentary by Dr. Reed Holden
From "Programmed for a Fight," The Economist, October 20, 2007, pp 85
Oracle and SAP continue their battle for supremacy in the market for enterprise application software. There are three interesting things about the market and how each is doing battle. This is going to be a great show to watch, because the winner will have employed a very different strategy, and the results will be a lesson for us all.
Oracle is growing primarily through acquisitions. Several years ago, they acquired PeopleSoft. They have continued their growth with acquisitions of over thirty companies for "over $25 billion" since. The question is whether they will be able to successfully integrate those companies to leverage them to grow further. So far results are good, but the integration will need to speed up to really be successful.
SAP on the other hand is choosing to grow "organically" by adding services. Yes, they are acquiring companies, but they are generally small firms purchased for their skill set rather than their revenue. SAP currently holds a 21% of the global market against Oracle's 11%.
The final interesting point is that this is market segment maturing dramatically. Growth is slowing and customers are getting more price-sensitive. The winner of this battle must successfully figure out how to leverage their existing position with a wide range of clients with software upgrades and additional services. As upgrades are getting harder to leverage, our bet is that the services will add the most value given the market conditions. The fun will be in the wait to see if that is right. The Plot ThickensCommentary Dr. Reed Holden
From "SAP's Results Calm Concerns Among Investors Over Strategy" by Leila Abboud, The Wall Street Journal, October 19, 2007
Well, from the looks of it, SAP is doing just fine. With revenue rising and profits going up even more, their strategy seems to continue to be paying off. A recent acquisition of a French software company that specializes in business intelligence worried a few, but if you read the top article in this month's newsletter, you'll see that they're doing just what they said they were going to do – grow organically, except when they can pick up a company that adds important skills. Reviews from Dr. Reed Holden
Price Isn't Everything | Don't Nickel and Dime Your Loyal Customers | Hey! Get a Real Job! | The Problem with Teaser Rates| The Importance of a Dealer or How a Lousy Dealer Can "Snatch Defeat from the Jaws of Victory" | Good Reading!
Price Isn’t EverythingCommentary By Nelson Hyde
From “Wal-Mart Era Wanes Amid Big Shifts in Retail” by Gary McWilliams, The Wall Street Journal, October 3, 2007
Many companies would do well to take a cue from Wal-Mart’s competitors – and I don’t mean by lowering prices. I mean by not blindly lowering prices or chasing price buyers until it hurts.
Wal-Mart is getting diminishing returns as it saturates the price-buyer market and struggles to translate its value proposition to wealthier consumers. This year’s per-store sales gains are a paltry 1.3% – a quarter of last year’s – and the company has slowed its U.S. expansion because new stores are cannibalizing old ones.
Wal-Mart’s competitors, on the other hand, are getting great per-store growth as they shift from buyers who want price to buyers who want convenience and personal services. For example, Best Buy is heavily marketing flat screen TV installations. Grocery stores are selling more prepared convenience foods. Pharmacies are selling basic health services like school physicals.
We see companies all the time who jump immediately to price as their main proposition. That only works if you have absolutely nothing unique to offer or have a sustainable cost advantage. Companies jump to price too fast, because they don’t understand their real value. They are confused about their differentiation or how they improve their customer’s business, so they don’t defend their value. Lacking confidence in their value, they lead with price. There go the margins.
Don’t let customers’ constant talk about price fool you into thinking they are all price buyers – typically only 20-35% are. All the rest yelling about price are just playing poker with you – price buyers are a very limited market. Lead with your value, not your price. You can price with confidence if you do the hard work of identifying your real value, and arm the sales force with concrete ways to prove it. Most customers will buy that. Don't Nickel and Dime Your Loyal CustomersCommentary by Dr. Reed Holden
From "Heaps of Trouble: Renting a Car Becomes a Headache" by Darren Everson, The Wall Street Journal, October 3, 2007 pp. D1
Like just about every other industry, the car rental industry is struggling under increasing costs and competition. To accommodate and still earn a profit, car rental firms are trying a number of things to beef up razor-thin margins. Some of those things will work, but my guess is that some of them will blow up in their faces.
For example, they are requiring that customers return vehicles with FULL gas tanks. If they don't, they're charging a penalty. That seems fair. And, it's easy to defend. Gas is more expensive, and there are options available to renters to buy full tanks at lower prices before they return the car. If I don't have time to refill the gas tank, I should be responsible for the cost of the gas and the time to get it refilled. Yes, they soak you for the gas, but that's a known practice and all of the companies do that.
Where the car rental companies need to be careful, real careful, is how they treat their loyal customers. These are the guys who get the cool cards and spend lots of money to rent cars. I have no problem when the rental car companies reduce services and fees for non-loyal customers. But if they start doing that to me, I'm going to change car companies. For example, one rule for loyal customers is to make sure you are always able to service them. We were recently unable to get a Hertz car in San Francisco. Sure, they were busy. But, it meant that for the first time, I had to stand in line for an Avis car. Second time Hertz did not come through, I became a member of the Avis loyalty program. Chipping away is what happens, and the companies won't even notice it until it's too late.
Bottom line: don't nickel and dime or reduce services to your loyal customers. They'll pay more to get them anyway. If you do, they'll eventually leave. Hey! Get a Real Job!Commentary by Mark Burton
From “Finding the Right Job for Your Product” by Clayton Christiansen etal., Sloan Management Review, Spring 2007
Are your once highly-sought-after products and services becoming commoditized – even as you pour money into them to create new features and capabilities? Customers are buying your offerings to do something. Do you know what that is? In business-to-business markets that “something” is inevitably driven by a desire to increase profits. The issue is that marketers don’t have a simple way of making this connection. Looking just at traditional means for defining markets, such as customer size, industry, and desired product features doesn’t capture this over-riding goal. Christiansen shows us a way to research our customers that enables us to take this into account – and to break out of the tired, traditional, and commodity-inducing ways of defining customer needs. He argues that customers are in effect hiring your offerings to do a job. If you understand what that job is and how customers often patch together solutions to do it, you have the basis for differentiating your offerings and creating pricing power. It works like this. Hill-Rom differentiated itself in the hospital bed market by noting the non-medical tasks that take up much of a nurse’s time. Nobody asked them for a bed with a built-in TV remote. But when Hill-Rom pointed out how this and other features improved nurse productivity, hospitals snapped them up – at premium prices. How did they do it? No fancy, quantitative surveys – just a lot of time talking with their customers about their objectives and the things that get in the way of doing them. The result? A “job description” that was a prescription for higher profits. The Problem with Teaser RatesBy Dr. Reed Holden
Last year to improve our TV service, we switched our satellite supplier out for a cable company that gave a great bundled rate on a combined package of telephone, cable, and high-speed Internet. We loved it. Well, the rates went away last month and now we hate it and can't wait to switch. Sure enough, Verizon is getting ready to roll out their new fiber optic service, and we'll make the switch when it's available.
Companies often use "teaser rates" or low prices that encourage people to either adopt a new product or service or to switch suppliers of those products and services. Often, when the rates go away, users begin to get alienated, and it increases the likelihood that they will switch when someone comes along with a better product, lower prices, or both.
Then they wonder why their customer turnover goes up. If you look at your own behavior, it isn't that hard to figure out. The trick to teaser rates is that the real rates shouldn't be a shock to customers. If they are, customers, even loyal ones, will depart. If you have a teaser rate program, show the reduced rates as a discount off the actual rates so customers get used to them. If you're afraid that if they see the real rates, they'll bolt once they can, you're probably right. Just don't complain when your customer turnover skyrockets. The Importance of a Dealer or How a Lousy Dealer Can "Snatch Defeat from the Jaws of Victory"By Dr. Reed Holden
I had to perform a very unpleasant task this past month. And once it is over, I'm usually pleased with the result. But the process… oh brother, the process stinks. Did I go to the dentist? Nope, this is worse than that. Did I have to have surgery? Nope, this is even worse. I bought a new car. A truck actually.
I did the research and due to the availability of dealers, decided to look at Ford and Toyota trucks. Now, you've got to understand that I am actually loyal to both vehicles due to my past history with them. Research showed that the Toyota was actually a better quality vehicle in terms of performance and reliability. Sadly, the Toyota dealer salespeople went to the "push the customer" school of selling. When I got there, after contacting them on the Internet and phone, they showed me the wrong truck and didn't have a clue what I wanted, yet they didn't ask me. I had to tell them.
The Toyota salesman was clearly a busy man – he took at least four phone calls while he was talking to me. He couldn't answer my questions and went back to the phone to try – leaving me waiting the whole time. When I went to leave, he asked me to wait for one minute. He then brought over the "big cheese." You know, the senior sales guy whose job it is to try to close you. I expressed my concerns and his response was that he could get each and every one of them and I knew he couldn't. Further, he said he had the biggest inventory, though there was another dealer a half hour away that had three times the inventory he had.
I ended up buying the truck at a local Ford dealer. They had what I wanted, gave me a great price, and supported it with great service. The salesman, Franc, was able to answer all of my questions. He introduced me to the owner so we could discuss some changes I wanted and they took care of everything. When there was a delay in the delivery of some tires, they called, apologized, and made sure I could reschedule. No high pressure, lots of good insights. Generally a company and a group of guys I could trust. Tough choice? Nope, it was an easy one.
How about your dealers? What is your customer's experience like? Do they enhance your value proposition or undermine it? These are questions we often ignore in our go-to-market strategies. Take a walk on the wild side--visit a dealer and become a customer for a few hours and see what it's like. Reviews from Dr. Reed Holden
Newsletter: September 21, 2007
The Second Rule of Business: TANSTAAFL | Recalibrating the Cost of that Caffeine Buzz | Penetration Pricing in Growth Markets–Right? Wrong! | When Dropping Your Prices Outrages Your Customers... | ...and When Dropping Prices Delights Your Customers | Good Reading!
The Second Rule of Business: TANSTAAFL
Commentary by Dr. Reed Holden
From "Free IBM Software is Bid to Challenge Microsoft Office" by William M. Bulkeley, The Wall Street Journal, September 8, 2007
My second rule of business is "There Ain't No Such Thing as a Free Lunch." This applies to IBM's new strategy of giving away their Symphony software for free. Clearly, Big Blue is trying to use this free lunch to get more companies to adopt a new standard for open system software.
Here's the problem – and this is an important lesson for all of us pricers: The price of a product, especially in a business environment, is only a small piece of the cost of using that product. You have to add training and learning ramp up as costs and those costs quickly surpass the per seat cost of the software. If it takes two days to train someone, and that person makes $30,000 a year, that cost alone is $600. And that's just a start.
It's important to remember these additional costs when you're in the middle of a price negotiations with a customer. They try to commoditize multiple solutions and get the suppliers to beat their brains out over price. In the end price is a small percentage of the total cost of using a product. The hope is that the dollar value in the software efficiencies, reduced costs, and increased effectiveness will surpass the cost by a lot. But if you don't know the value, it's hard to make that assessment.
That's why understanding your value is the foundation of good pricing. During the heat of a price negotiation, that foundation helps frame the sales person and the customer that the price is not a cost, it's an investment. An investment that pays back over the years that it is used. That value has to be understood before the battle begins – but if you don't know it, you won't have confidence in your pricing.
So will IBM's free lunch work? It will with some large customers who already have the IBM systems installed. The issue is the same one Lotus had with Notes, which is the basis for the Symphony Suite. Lotus never really understood the value of Notes and it caused them to lose the company. IBM isn't going to lose the company over this one, but they sure are going to be leaving money on the table. Plus, in a business environment, giving something away for free does little to give customers confidence in a product.
The real question is whether it will convince any Microsoft customers to switch from the Windows suite. Probably not. Once again, cost of switching is going to be high in terms of training and time to learn the new system. Would you switch to save a few hundred bucks? Probably not. I know it took me years before I stopped using the darn slashes that used to trigger the Lotus 1-2-3 commands. OK, maybe a decade. Recalibrating the Cost of that Caffeine Buzz
Commentary by Mark Burton
From “Re-Engineering Espresso,” The Wall Street Journal, August 31, 2007
Well it was bound to happen. As our consumption of high-octane espresso has grown to help us keep pace with the sometimes insane pace that we try to keep (guilty), scientists have been at work using high-tech engineering to create the perfect shot. Industry leader Illycaffè has introduced a new single shot espresso maker using disposable single-shot coffee pods that it claims will make the perfect shot every time.
What’s the cost for this perfection? A mere $0.75 per shot. My traditional triple grande latte will set me back about $4.50 at the local Starbucks. Now I can have something better and stay home to boot, for a mere $2.25 in coffee and a few pennies worth of milk. Over the course of the year, that’s quite a savings (bigger than I care to admit). Not a bad deal, right? Well, it depends on how you look at it. When you look at how much coffee is in each pod, Illy is actually charging about $50 for a pound of coffee – roughly five times what you would pay for a pound of espresso from Starbucks.
Choosing the right price metric and framing it in the appropriate context is where the science of pricing meets the art of marketing. How many customers do you think Illy would get if they sold their coffee pods for $50 a pound? By pricing per shot, they turn the whole value proposition around, as well as the consumer’s basis for comparison. And I guarantee you that they will sell a lot of that $50 per pound coffee. Penetration Pricing in Growth Markets–Right? Wrong!
Commentary by Dr. Reed Holden
From "China's Car-Price Wars Dent Profits" by Gordon Fairclough, The Wall Street Journal, September 8, 2007
China's car suppliers are in a price war. Prices are dropping dramatically and car companies, even mighty GM, are starting to lose money. So what's the big deal about another price war? Well, this one is occurring in a market that is growing 35%. That's a fast-growing market, so theory says that dropping prices should increase volume and reduce costs to make it a win-win proposition for customers and suppliers alike. Well, that's the rub – costs aren't going to come down enough to justify the strategy.
Any time you put together a pricing strategy, you must consider both the market and the technology life cycles. The usual assumption is that they are closely aligned. In this case, they are not. While the market is in a growth phase, very high growth in fact, the technology phase of automobile manufacturing is in a mature phase, very mature phase. That means that the costs won't be declining dramatically.
Based on a thing called the experience curve, costs decline geometrically. In most cases, expect costs to reduce by 15%-25% for each doubling of the demand or production experience. This shows as a straight line in most text books, but that's another problem that is worth discussing. Each doubling gets harder and harder to achieve. And the cost declines get smaller and smaller along the way. Sure, when you're only producing 2,000 cars, you get a 20% reduction of a fairly big number. But by the time you're producing two million cars, getting to the next reduction takes another two million cars – that's a lot in today's market. And the big dollar declines occur in the early phase of the growth cycle. As the cost declines accumulate, the percentage is the same, but the actual dollar number is lower.
If you look at dollar declines in cost for each incremental unit of production, that's a line that goes down fast at first and levels off as the technology builds out. That’s a chronic problem in the auto industry and many technology businesses. They act like they're at the early phases of the cost decline cycle, but they are actually at the end. It's no wonder they don't make any money. When Dropping Your Prices Outrages Your Customers…
Commentary by Steve Haggett
From "Did Apple Snub Its Core?" The Wall Street Journal, September 11, 2007
The Apple iPhone has been another hit for Apple, launching a new product category for the consumer technology convergence innovator. Upon launch, Apple promised to sell one million of the devices by the end of September and on September 10 announced that it had reached that million unit target ahead of schedule.
The next day Apple announced a huge price cut, reducing the price of the units from $599 to $399 – alienating its hard-core devotees who raced out to buy those first million units. Although the mobile phone handset market goes through a cycle of new product launches and eventual discounts, cutting the price of the hot iPhone after only two months on the market, and by a third of the price, was a big surprise both to consumers and analysts. Early buyers flooded online message boards with complaints, leading to Apple’s promise to offer $100 credit in other Apple merchandise to those angry customers.
While the surprise price cut should further boost sales, it’s questionable whether the increase can make up for the large price cut – plus the impact of up to $100 million in credits to early purchasers. Further, it might tarnish the perceived quality in the eyes of many of Apple’s customers, who gladly lined up to buy the unique phone at the $599 price.
Meanwhile, rumors of the next generation iPhone swirl, without any formal announcement from Apple. Apple has a strong tradition of offering swift, impressive upgrades, such as the iPod Video and Nano products following the launch of their initial MP3 player. Perhaps Apple would have been better off waiting for the announcement of their new iPhone to present a major discount. Innovate for growth, you hear us chant. Here’s a great example. Apple didn’t need the large discount to meet sales goals, since they are running ahead of target already. The next innovative telephone product should spur sales growth even further. A discount on the first generation iPhone at that time creates a premium and a flanking product. Further, holding steady with original prices more than two months would please their devoted customer base.
Good pricing strategy shows that when selling a differentiated product – like the iPhone – into a mature market environment – like mobile phones – a neutral price strategy is usually most effective. …and When Dropping Prices Delights Your Customers
Commentary by Steve Haggett
From "Music Selling Rivals Take Aim at iTunes," TheWashington Post, August 22, 2007
Retail colossus Wal-Mart has begun selling digital music for $0.88 per song, well below the standard $0.99 on Apple’s iTunes. Further, Wal-Mart is also selling restriction-free (copy-able) songs for $0.94, compared to the $1.29 for the limited library available at iTunes.
Revenue from CD sales has been steadily decreasing, due to the advent of digital music. The Recording Industry of America recently reported CD sales declined by 13% in 2006. Online music sales, however, are rapidly growing. Apple has sold more than three billion songs through iTunes, commanding almost 70% of the growing online music market.
So Wal-Mart has entered with both a differentiated service – restriction-free music – and a penetration price below the iTunes standard. Their online merchandising muscle says they have a chance where others have failed to grab share from Apple.
Why does a discount make sense here? In a rapidly growing market, a penetration pricing strategy can make a lot of sense, especially when dealing with a large incumbent. Wal-Mart’s move could signal a real threat to Apple’s dominance, and a discounted price is an important part of a share growth strategy.
The big question is whether the price is aggressive enough. Directionally it makes sense, but Real Networks failed to command much share from Apple earlier in the growth phase with a $0.49 price. Wal-Mart is banking on their far greater retail presence and the differentiated value of restriction-free products.
Music consumers gain an alternative and the possibility of a price war between the online giants, while the digital music market continues to grow. Recording artists hope that these moves spur continued growth of digital music revenues, making up for CD losses. A smart move by Wal-Mart.
Reviews from Dr. Reed Holden
When Less is More | Big Chip Bets | In A Highly Commoditized Business, These Guys Don't Leave Money on the Table | The Ying and Yang of Exclusivity | Nothing is Better than Free | Good Reading!
Commentary by Dr. Reed Holden
From "Why Deere is Weeding Out Dealers Even as Farms Boom" by Ilan Brat and Timothy Aeppel, The Wall Street Journal, August 14, 2007 We talked several newsletters ago about the need for automakers to "rationalize" their distribution strategy and systems. The reason was simple, if unmanaged distribution systems (and distributors) become unwieldy and don't operate effectively. Smart suppliers manage their distribution system and have their dealers perform to certain standards. Asking more from distributors in terms of service and support is the supplier’s right and responsibility. And if dealers can't deliver, they should be terminated.
That's exactly what John Deere, makers of those often lusted-after green tractors, is doing. They decided to shake up their century-old clubby distribution system to improve performance for the company. To do that, they set dealer performance targets and eventually terminated the dealers if they didn't meet them. In fact, they terminated 226 of their 3200 dealers over the past four years. What was the business impact? Sales are up 50% and profits have tripled over the same period.
Are all the dealers happy? Of course not. The terminated dealers have all sorts of excuses why they shouldn't have been cut off. You've got to expect that – dealer management isn't a popularity contest – it is a trust and respect contest. How about customers? They're happy. They're getting better service and better inventory of parts and support products.
How about your distribution system? Is it time for a trimming? With a Deere mower, of course!
Commentary by Nelson Hyde
From “AMD Not ‘Chasing Share for Share’s Sake” C/Net News.com, July 26, 2007
The good news for semiconductor maker AMD is – demand is way up and market share erosion has stopped. The bad news is that this came at a very high cost. AMD’s chip division lost a quarter of a billion dollars last quarter ,because the growth was all at the low-end price point. It won a ton of new business – and paid dearly for it. Good idea or bad idea?
That depends on whether AMD can pull off the huge bet it is making. Rival Intel successfully forced AMD’s growth into the low end by getting to market first with higher-end quad-core chips. AMD’s quad cores won’t come out until this quarter. That has a familiar ring to it – AMD began life as a me-too technology company that had to compete on price, not value.
But things are a little different now. Scrappy AMD has countered by coming off the ropes swinging – and by winning new Toshiba and more Dell business. To do that, it had to take some big punches in the form of big losses. There is no doubt Intel will brutally defend its quad-core position, but AMD is stepping back into the middle of the ring again. The question is whether Intel realizes that or not: AMD is positioned to use its stronger foothold in huge accounts to launch into higher-margin business. Where, if AMD’s earlier success in dual cores is any indication, it can definitely play again.
It’s a gutsy bet on AMD’s part. AMD won round one with its initial lead in 64-bit technology. Intel won this round in the quad core battle. The question is, who will win round 3? Or maybe this is round 43! In A Highly Commoditized Business, These Guys Don't Leave Money on the Table
Commentary by Dr. Reed Holden
From “In a Tech Backwater, A Profit Fortress Rises” by George Anders, The Wall Street Journal, July 10, 2007
We get to see a lot of very high-value-add products and services in a wide range of industries, and most of them have pricing problems. From financial services to software to medical devices, suppliers complain about commoditization of their offering by increasingly sophisticated buyers. It does our heart good to run across a firm that does it right. We have often talked about our favorite "dirt company" that does a terrific job in this area, and now here is another one. Linear Technology Corp. makes analog microprocessors. They compete with big companies, like Texas Instruments, in a business that has plenty of suppliers, uses old equipment, and has been around for years.
What is unique about Linear is their CEO, Robert Swanson, figured out a long time ago that they had to "Price with Confidence." And if they got into a customer situation when they got pushed on price too much, they had to walk away from the business rather than let it become too price oriented. How do they do that? They start off with developing a clear understanding of the value that their products create for their customers. They understand the performance of their devices relative to competitors and make that a foundation for developing their pricing strategy.
Another thing they do is develop a simple pricing strategy that everyone agrees on. In fact, Mr. Swanson reviews all pricing strategy and his focus isn't revenue or market share, rather it is profit. Remember our new mantra? Price for profits, innovate for growth. He makes sure that managers focus on understanding their value and not leaving any money on the table. In a recent strategy presentation, he insisted that the price of a $1.50 device be increased a dime. A dime? Yup, a dime. By focusing on something as small as a dime, he sends a clear signal to everyone in the company that Linear focuses on pricing with confidence and not leaving any money on the table. The result for the company is that they get an additional $343 million in profit from Pricing with Confidence. Wow!
Perhaps their biggest challenge will be the attention that this article brings them. It's going to cause the big guys to start coming after some of their markets. They will have to learn some of the lessons from Intuit Software as they have made Mighty Microsoft dance Intuit's tune in the tax and accounting software markets. They will learn to play a very precise game of competitive strategy that shields their high-value markets from intense competition and a price war. How will they do that? By continually innovating their own products away from those competitors. Our guess is that they'll do just fine. Oh, one more thing. These guys believe in my number one rule of business: Simplicity. No fancy tools. Just the basic connections with a customer, lots of brainpower, and motivation. The Ying and Yang of Exclusivity
Commentary by Dr. Reed Holden
From “Engine Spat Could Slow Airbus” by Daniel Michaels and Kathryn Kranhold, The Wall Street Journal, July 10, 2007.
GE is the exclusive engine supplier for Boeing 737 and 777. In the case of the 777, GE invested in developing a next generation engine that gave airlines the ability of using two engine aircraft in cross-ocean flights. This results in a significant savings in operating costs. It makes sense that Boeing would give the exclusive to GE for making the investment, especially since the engine has lower operating costs than the traditional engines.
The problem is that Airbus wants access to the same engine for their new A350. GE has agreed to give them "non-exclusive" engines for two of their models and wants to protect the “exclusive” engine for Boeing. Doing great work in an industry that doesn't have many competitors is often rewarded. And it's nice to get the only two competitors battling for your products.
We're sure that there is a lot of play left in this battle, but it's interesting to note that sometimes you just can't win with exclusivity. You work hard to get one customer to give it to you, and the other customer, who never gave you exclusivity gets mad and wants access to the product. It doesn't make sense to damage the relationship with the customer who first gave you exclusivity, but it does make sense to try to satisfy everyone along the way. Our guess is that eventually GE will come up with an engine that is enough different to the 777 engine to make it acceptable in the eyes of the Boeing exclusivity agreement. But, don't ya love seeing a supplier that is beginning to build some pricing power with new technologies?
This also gets to an important point that we often miss. You don't want to please all of your customers. Mike Marn of McKinsey recently said that if 15% of your customers aren't complaining about your prices, they're too low. This article takes us one step further. If your customers aren't complaining about something, you aren't pushing hard enough. Remember: price for profits, innovate for growth.
Commentary by Rachel Jacobsen
From “Publix Super Market to Offer Free Antibiotics,” cnnmoney.com, August 6, 2007 http://money.cnn.com/2007/08/06/news/companies/publix.reut/index.htm
What’s better than inexpensive? Free is, of course! Publix Super Markets recently announced that it would offer 14-day supplies of seven different antibiotics for free to its customers. According to the article, these antibiotics account for almost 50% of generic pediatric prescriptions filled at Publix. While Publix hopes to minimize the healthcare crisis in the United States with its benevolence, my guess is that Publix made this move for business reasons as well. As the old adage goes, you have to spend money to make money. Offering anything for free, especially prescriptions, is sure to drive additional traffic and consequently dollars into the store. Publix is a case study in identifying what customers’ value, incorporating found value into an offer, and improving revenue and profitability by doing so. In reality, we’ll all have to wait a quarter or so to determine the financial impact of such a give away on the bottom line.
Reviews from Dr. Reed Holden
What is Your Distribution Strategy? | Transparency Equals Trouble for Problem Discounters | Who Fought The Law and the Law Lost? | Using Price to Control Demand on the Highways | Fire That Customer! | It Can Be As Simple As Color | Good Reading!
What is Your Distribution Strategy?
Commentary by Dr. Reed Holden
From "Detroit Confronts Surplus of Showrooms" by Neal E. Boudette, The Wall Street Journal, June 18, 2007
I was about to say that everyone knows this but recognized that my mother probably doesn't. But just about everyone else knows that when you buy a car these days, you start by deciding which car you want. The next step is to pull the dealer cost off the Internet. Finally, you line up three or four dealers and get them to compete with each other for business. Net result: you end up with a car for only a few hundred bucks over the dealer cost.
It’s tough times for the dealers. They used to make it up by selling cars to people like my mother for close to the list price. The real problem is that the auto makers have the wrong distribution strategy. Remember, there are three. Exclusive distribution means you only have one dealer in a particular area or region – this is what Mercedes and Saturn do. This eliminates a lot of the price competition. Intensive distribution, meaning that every possible outlet carries your products, is used by the beer companies to ensure that if you want a Bud, it's sitting in every cooler for you. In the middle is selective distribution. That means that you have a limited number of dealers in an area. You select them based on meeting some performance and value-add criteria.
The Detroit guys lost control of their distribution strategy a long time ago. It all started when they used their dealers for storage of their overstock of cars. The assumption was that if we push the metal out to the dealers, they'll take care of the selling to final consumers. It’s not working. What is happening is the dealers eventually alienate the high-value, loyal customers by charging them too much or by providing lousy service, because they enter into price wars with close-area dealers.
GM, Ford, and Chrysler have between 256 and 285 dealers per percentage point of market share. By comparison, Toyota has only 104. The Toyota dealer doesn't have to compete on price as much and is able to provide high levels of service to all customers.
So, what's your distribution strategy? Have you lost control? Don't worry, now is a great time to learn a lesson that even after twenty years, Detroit is still struggling with. They wonder why all of their customers look like price buyers. Do you, too?
My Mom? She's dumping the Ford for a Toyota this fall. Transparency Equals Trouble for Problem Discounters
By Dr. Reed Holden
I had a chance to see my colleague Mike Marn of McKinsey do a terrific presentation at the June PriceX Conference on his thoughts about price transparency. Some of his points:
Transparency is coming. If you have poor controls in discounting, it's going to bite you – bad. Kick the discounting habit. Rule One! Who Fought The Law and the Law Lost?
Legal Advice from Gene Zelek, Partner, Freeborn & Peters
Many managers are not aware of some recent and dramatic changes in the law on setting resale prices. In recent years, suppliers have been able to set prices by policy but not by contract. Based on a recent Supreme Court decision, they can now do it by contract. What follows is a notification of that decision from one of the Holden Advisors Board Members, Gene Zelek of the law firm Freeborn and Peters in Chicago. Feel free to contact Gene directly if you have any questions.
Client Alert on Lawful Resale Price Setting Development
Specifically, on March 26, the Court heard arguments in Leegin Creative Leather Products, Inc. v. PSKS, Inc., where a manufacturer of women's fashion accessories was challenging rulings that condemned its minimum resale price agreements with retailers as illegal vertical price fixing. The company went beyond merely setting a minimum advertised price (sometimes called a "MAP price") by designating a mandatory minimum selling price. While it is possible that the Court will not change the law, the mere fact that it agreed to hear the case, plus the briefs urging a change filed by many well-known economists and both the Justice Department and the Federal Trade Commission, make it probable that the 96-year-old ban on setting minimum or exact resale selling prices by agreement will be overturned in favor of judging such conduct based on its actual anticompetitive effect.
The Court did exactly that 10 years ago with respect to maximum resale pricing. Under this standard, it is much more difficult for plaintiffs to win, so not only are there fewer cases, but there also is greater flexibility. In fact, this is the same rule that governs such common practices as setting reseller territories, confining reseller sales to particular locations or allocating reseller customers.
Although it is possible even under current law to set minimum or exact resale prices by unilateral policy, the press attention generated by the decision likely will spark substantially more interest in resale price programs. However, even if the Court throws out the general prohibition on using agreements to set minimum resale prices, we still will recommend the use of policies, as they provide an additional line of defense which makes them even less risky. (We have been working on many resale price policies, a number of them to counter Internet discounting.)
If you have any questions or wish to discuss this matter, feel free to contact us anytime.
Eugene F. Zelek, Jr.
V: 312.360.6777 Using Price to Control Demand on the Highways
Commentary by Dr. Reed Holden
From "Paying for VIP Treatment In a Traffic Jam" by Daniel Machalaba, The Wall Street Journal, June 21, 2007
Quite a few years ago, Singapore, the land of chewing gum and taxi controls, decided to initiate a traffic management system that would limit congestion in their primary downtown area. The system charged a daily fee for a sticker that permitted cars to drive in the congested downtown area. It worked great because it kept prowling taxis and tourists out. Now they're looking at doing that in the United States. Some proposals are looking at having a special lane for drivers who are willing to pay an access fee. Others are considering charging higher tolls for all users during peak driving time.
The use of special lanes might help congestion at the tolls, but it will do little to control overall congestion. Charging higher fees for all drivers to control congestion is an idea that is long overdue. Until road capacity can catch up to demand.
Using price to control demand is a great idea if you can charge higher prices to some customers at the same time you charge lower prices to other customers who are willing to shift their demand to non-peak times. AT&T did it. Movie theatres and restaurants do it, now municipalities do it. It’s always a good idea to look at it, but sometimes it is tough to implement. Singapore's traffic management system works fine. They tried to control the speed of taxi's coming in from the airport by putting a bell that dings every time the cab goes over 55 mph. Net result, we all have memories of taxis in Singapore with bells ringing all the time.
Commentary by Mike Lawson
From “Sprint Drops Clients Over Excessive Inquiries,” The Wall Street Journal, July 7, 2007
The phrase “The customer is always right” has merit, until customers abuse their suppliers or vendors. In the case of Sprint, too many of their customers use an excessive amount of resources, and in cases like these, the customer is not always right. Sprint is making a tough business decision to improve profit that very few companies ever make.
All companies have high-maintenance customers or customers that expect to be coddled. This is okay if one of two things happen – these customers pay more for the service, or these customers are deemed unprofitable and dropped by their supplier/vendor.
What happens in most cases is that companies retain these customers in hopes that they will change their behavior, because “every customer is an important customer” and “we cannot afford to lose that revenue.”
The best way to determine the true profitability of a customer is to determine the cost to serve each customer. Do your homework! In the case of Sprint, they realized that some of their customers call customer service lines an average of 25 times per month. This ties-up valuable customer service resources by customers who often have the lowest-revenue plan. In turn, it limits the availability of customer service for higher-paying customers. Worst of all, I suspect Sprint employs an additional two customer service representatives just to deal with high-use customers.
Firing customers is a tough decision, and it sends a strong message to the marketplace. But the benefits are clear:
Every customer can be a valuable customer, but companies should consider firing more customers that are not profitable.
By Dr. Reed Holden
OK, we've been hard on Dell lately. They've been pricing for market share growth – not smart in a mature market. It's taken them a while, but they are finally starting to effectively innovate for growth. What is their primary mechanism? Color! Their new laptop comes in three colors. They are finally recognizing that kids like this when they buy laptops. Apple figured this out years ago. Dell is also changing their distribution strategy by going through Wal-Mart. We'll see how that works. It is good to see the move and, me, I'll probably get one in RED.
Reviews from Dr. Reed Holden
Newsletters Q2 '07: April | May | June Which Rules Should You Tear Up? | The Importance of Software and Services | Simple Segmentation | What do the Sopranos, ESPN Sports Center, and Flip That House Shows Have in Common? | Good Reading!
Which Rules Should You Tear Up?
Commentary by Dr. Reed Holden
From "Seeking to Perfect Prices, CEO Tears Up the Rules" by Timothy Aeppel, The Wall Street Journal, March 27, 2007
This is a great story that should be read by all managers, not just pricing professionals. It tells about how Parker Hannifin Corp. CEO Donald Washkewicz took on the pricing beast and in the process, improved net income by over 500% and return on net income by 300%.
What was his secret to success? It was actually quite simple. He figured out which of their more than 800,000 products were either proprietary or much better than competitors and decided to charge more for them. His managers classified products according to their level of commoditization. "A" products were all commodity. "D" products were all specialty. He also threw out their old pricing model, which was totally cost based. What did he replace it with? Are you ready? He replaced it with one that is … cost based.
Huh? What's the magic to that? Well, let me tell you. Consultants and academics for years have been telling managers to dump cost-based pricing and move to value-based pricing. The problem is that the "value-based" model is really still in the nether-world of theory and feel-good, do-nothing advisors. The fact is that cost-based pricing really works, because it is straightforward. What Parker Hannifin did was recognize that they could tweak their formulas based on the incremental value of the products. They found that they could add more margin to the "D" products than the "A-C" products. Simple? Sure. But the devil is in the details. It seems like the biggest problem was convincing managers that they would benefit from the new pricing mantra. In the words of one executive, they had to reprogram the company's management "DNA." Unfortunately, the CEO is the best person in the firm to force these kinds of changes, because as most of you have learned, managers resist the move.
Do they have a way to go? Sure. They have to do a better job of understanding the actual value of shorter delivery and special features. But I'm sure they'll get there eventually. They also have to get the sales force to believe in the value so they can sell it. Remember, it's a journey. At least this is an important milestone and result to chart progress in our respective companies. The Importance of Software and Services
Commentary by Dr. Reed Holden
From "How an IBM Lifer Built Software Unit Into a Rising Star" by William M. Buckeley, The Wall Street Journal, April 2, 2007
How many times have you worried about the commoditization of your products? Wow, that's a lot. Well, a good answer is actually coming out of Big Blue these days. IBM continues to leverage the commoditization of mainframe computers by making hay with the software and services it wraps around those systems. This article focuses on what they're doing with software: buying smaller companies, integrating them well, and accelerating their growth by taking advantage of IBM's mammoth sales force. Oh yeah, they are also making sure they do a great job training the salespeople.
Software grew over 14% in the final quarter of last year! Not bad for a clunky old IBM. In fact, software and services make up 73% of the revenue and 76% of the profits. Who cares if mainframes are less than half as profitable as everything else. That hardware provides the entry point for "pockets of profitability" in the services, software, and support.
Also, regarding our mantra of "Innovate for Growth, Price for Profits," we are now going to include acquisitions. The unfortunate fact is that most acquisitions fail to provide the promised efficiencies and increased profits. It looks like Big Blue has figured this one out and joined the club of "good integrators" with Cisco.
Ok, everybody repeat after me. Software and services provide value. Let's do it one more time: software and services provide value. Still didn't feel good? That's probably because you're giving it away to sell the products. AARGH. Are you still doing that? To make it worthwhile, you have to charge for the things that add value, the things that make a difference. And you're still giving it away? No wonder you aren't making any money. You often can't prevent products from becoming commodities. The very nature of services and software makes them the things that add value–they have to be priced that way!
By Dr. Reed Holden
Several months ago, I had to go to a local garden tool store and buy a few things. While I was at the counter ordering some parts, a woman came in with a chain saw. Her husband had been using it over the weekend and the chain came off. The counter guy looked at it and went through a lengthy explanation of how they were going to have to take the bar off, grind it, sharpen the blade. Bottom line, it was going to cost $75 to get it fixed. No problem for the woman.
All I could think about was "rip-off." When you work with chain saws, you learn pretty quickly that if you're working on hard wood or if there is a new chain, you have to keep tightening it or it will slip off the bar. When it does, it takes about seven minutes to remove the bar and reset the blade. I am sure that the store did the things they said they would do. But they were taking advantage of the woman.
Last week, I needed to have a chain saw rebuilt. It was old, the gaskets were dried out, and it didn't run well. I took it to this same store to get fixed, and boy, was I worried about getting hosed by them. I dressed up like I'd been in the woods for a few hours when I dropped the saw by and made sure he saw that I had a new bar and chain on. His quote for the work was only $60. I had made the segmentation cut (pun intended).
His "value trigger" was actually quite simple, especially if you remember the story about the woman. He asked if I wanted to get the saw blade sharpened but noticed that it was a new one. I asked him how much it cost to get it sharpened. "$15," he said. "I can buy a whole new blade for that," was my response. He smiled and said, "Well, it's only $5 if you take the blade off the saw."
Great segmentation schemes are simple so they can be implemented by a sales force. How many times have you wasted money and resources putting together a complicated system that hit the round file once it was given to the field. The first rule of business is KISS (keep it simple, stupid). This garden store salesman had one simple question that resulted in prices that both types of customers think are fair. What I thought was a rip off was actually an attempt at meeting the different needs of each customer. Me? Next time, I'll drop off a bunch of blades for sharpening. What do the Sopranos, ESPN Sports Center, and Flip That House Shows Have in Common?
Commentary by Mike Lawson
From “A La Carte Pricing for Cable Remains Elusive” Smart Money, April 2, 2007
Every industry is fascinated by bundles and the additional revenue they can bring, and the cable industry does it well. Most of us have over 100 cable channels that we can watch, but how many do we really need or watch for that matter? Given the customer profiles and typical channels watched, it appears that an a la carte pricing strategy would work well for the cable companies. Or would it?
From a business perspective, bundles are used to increase revenues and to encourage customers to purchase more than they would usually buy. If done correctly, bundles incent customers to pay a small amount more for additional products or services instead of paying high individual or a la carte prices. Also, bundles allow the selling company to group high- and low-value products/services to protect the value of higher-value products/services. However, bundles have a higher potential of failure if un-related product/services are in the same bundle.
This is the challenge for cable companies, but to be successful, they must bundle. Currently this includes grouping unrelated channels together to capture a larger share of the market. While this strategy has worked, it has come under intense scrutiny by consumers and regulators. If cable companies were to allow consumers to purchase cable channels a la carte or choose a group of 30 channels that they usually watch, I would bet they would ultimately increase profits and market share. Regulators would be happier and the subsidies that exist today for channels with a low number of viewers would go away. Sure, some channel choices would be eliminated, but it would be driven by what customers watch.
Reviews from Dr. Reed Holden
Innovate or Acquire for Growth | Plastic Surgery! On Sale Now! | Sky High Profits or Skyway Robbery? | Clash of the Titans | Don't Worry About Dragons–Worry About Your Firm | Listen for Unlocking Hidden Profit Potential | On Books and Writing | Good Reading!
Innovate or Acquire for Growth
Commentary by Dr. Reed Holden
From "Schering-Plough Climbs Out of its Sickbed" by Arlene Weintraub, BusinessWeek, May 14, 2007
Schering-Plough has had a rough go of it in recent years. Its traditional products lost their patent protection, and the company was suffering under a host of legal problems. CEO Fred Hassan has done wonders in two areas. First, he got the company more efficient–lots more efficient. He worried about the operational effectiveness of the firm and got people working better and smarter. Next, he eliminated layers and worked hard to make sure that salespeople could achieve the right balance of relationship and sell value. He did that by making more of their compensation come from salary, rather than commissions.
The only thing he could not do with any speed was fill up their new drug pipeline. The only way to grow a drug firm these days is to continually innovate with new formulations. To accomplish this, he recently acquired Organon BioSciences, holder of a number of drugs getting ready for final release. It's a smart move. First, he fills the Schering-Plough pipeline with a host of promising new drugs. Second, the new Organon drugs will be able to take advantage of Schering-Plough's crack sales force–synergy all around.
Remember the new mantra: price for profits and innovate for growth. If you can't innovate, look at acquisitions that can leverage the things that you do. Using price to achieve growth will almost always cause a decline in profits when markets slow down. We believe that Schering-Plough has it right and are looking forward to great things from them.
Commentary by Mark Burton
From “Getting a Discount on Plastic Surgery” By Rhonda L. Rundle, The Wall Street Journal, May 15, 2007
Would you let someone who is offering discounts operate on your face? Interestingly enough, the American Cosmetic Surgery Network and an increasing number of health plans are putting their money where their mouth is on this very proposition. The network is offering 20% discounts to members of health plans, such as Blue Cross/Blue Shield of South Carolina. The insurers have been buying into the program to attract and retain more members.
The question is why any cosmetic surgeon worth their salt would be willing to offer such discounts. It comes down to economics. Getting into the business can require significant investment in facilities and equipment. When these assets sit idle, they are a drain on the surgeons’ practices. The cosmetic surgery network is a great source of referrals who wouldn’t otherwise choose the surgery without the 20% discount, and they are valuable in that they keep practices busy and generate incremental margin dollars. This referral system also provides a great means to fence patients that directly seek out a surgeon due to reputation – and are willing to pay more – from those that just want someone reputable but want to save some dough on their liposuction.
Those price sensitive patients also increase the total contribution dollars generated from the surgeon’s time and facilities. Having a source of customers to fill capacity during slower times, while not damaging relationships with your best customers, is a great way to lift profits. While defining strong fences can seem like a challenge – some would say you have to have a nose for it – it’s actually pretty simple if you understand what your customers value and how they purchase. Sky High Profits or Skyway Robbery?
By Mike Lawson
An interesting thing happened to me today while at the airport. I had booked a non-refundable ticket on Northwest Airlines for a simple multi-city itinerary: Boston to Detroit one day, Detroit to Chicago the next day, and Chicago to Boston on the last day.
However, as road warriors know, sometimes it is necessary to make flight itinerary changes. In my case, it was a simple change of skipping the Chicago leg of the trip and returning directly to Boston – all on Northwest Airlines. Since I had made flight changes on non-refundable tickets before on Northwest, I figured I would be charged a fee of $70 to change flights – a “reference price” Northwest Airlines set for me based on their past actions. You could imagine the near heart attack I had when I learned the change fee was $225 and the fare difference was $996 for a total price of over $1,200. This was in addition to the $504 I already paid.
Instead of panicking, I did what every other value buyer would do and looked at other options to get back to Boston. By simply checking an online travel website at the airport, I learned that I could fly that same one-way Northwest flight to Boston for $619 instead of the $1,221 for the fare difference and change fee – just for purchasing a new one-way ticket.
With easy access to the Internet, I found a US Airways ticket for $99 to get me from Detroit to Boston. In this case I had to make one connection, but it was worth the minor inconvenience to substantially save on the airfare.
According to the shared-cost effect, I should have paid the $1,725 total price to change my itinerary as the ticket cost would have been passed along to my company and client. Northwest was ready to take advantage of me and my situation, but did it realize that I had other options. The price just wasn’t fair.
Commentary By Steve Haggett
From “Titans of Steel Pursue the Niche Players,” The Wall Street Journal, April 16, 2007
The global steel industry is a great setting to watch the unbridled power of cost-based competition, as colossal Mittal Steel Company finalizes its acquisition of European giant Arcelor SA and others in the industry participate in the consolidation game. Steel, a technology developed around 1000 BC, is as pure a commodity as one can find. Mittal and its large global competitors are buying up smaller basic steel plants around the world with the aim of dominating price-based competition.
Yet niche opportunities for premium prices abound. At the opposite end of the spectrum, Argentina’s Tenaris SA focuses on premium steel pipe for the oil and gas industry. Tenaris provides high-value seamless steel pipes used in offshore drilling operations around the world – an application enjoying soaring demand as the petroleum industry moves deeper and deeper offshore. The market for steel pipes in the oil industry has rapidly doubled, from less than $8 billion in 2003 to over $16 billion in 2006.
The growth of this market makes it achingly attractive for the global giants, who can offer very low prices to customers. The solution for the niche steelmakers is service bundling, enabling them to command a differentiation premium.
Tenaris bundles high-value-added services with its premium steel pipes – a strategy that has been effective at keeping these global giants out of the market. In addition to high quality pipe, Tenaris bundles services – advanced technical support, engineering, just-in-time deliveries – that help its customers improve their exploration and production operations. Their understanding of the way their customers operate – economically, technologically, and environmentally – differentiates them from the price-oriented steel conglomerates.
The net result? Tenaris and the niche players are able to command and protect prices of $2000 per ton, over three times the prices the global commodity players battle over. Their understanding of customer operations and priorities enables them to gain far higher profitability margins and keep the titans at bay. Don't Worry About Dragons–Worry About Your Firm
Commentary by Dr. Reed Holden
From "The Tech Dragon Stumbles" by Bruce Einhorn, BusinessWeek, May 14, 2007 Remember the early 1990's? Everyone was worried about the Japanese taking over the global business world. They were on a roll back then, improving product quality, selling at lower prices, and apparently on the verge of taking over the car and computer businesses to name a few. They had already taken over the DRAM business from Intel and were actually beginning to make money on it.
Well, people are now worried that the Chinese manufacturers are going to do the same thing. After all, just like the Japanese, Chinese companies have government support and access to low-labor costs. Well, just like the 1990's, we figure that the threat of the Chinese onslaught is more worry than reality. They are struggling with many areas, not the least of which is that their manufacturing costs, especially in high-tech areas, which are actually higher than other global competitors. To achieve the lowest costs, they are going to have to make massive investments in new and more efficient facilities. That means low-labor content, one of the areas they were banking on to help them be price competitive.
Oh well, the lesson now is the same one from 15 years ago. Don't worry as much about other companies as you worry about your own firm. What are you doing to make it better? That's the only way you'll be able to compete in the global economy. Innovate like crazy. Price for profits, and don't worry about the firms creeping up in the rear view mirror. Worry about going as fast as you can, and you'll be just fine. Listen for Unlocking Hidden Profit Potential
Commentary By Mike Lawson
From “CEOs Are Spending More Quality Time with Their Customers,” The Wall Street Journal, May 14, 2007
Every business requires one element to be successful – the customer. While some companies have focused on customer needs and developed strategies to properly segment and target customers, there are far too many companies that still don’t have a clue. For other companies, the C-suite has learned the value of talking with customers and the results show. But so many company executives fail to reach out to customers even in grueling competitive industries.
Talking with customers and acting on their feedback is the key to unlocking hidden profits. Besides the obvious benefit of showing customers that you care, it gives you the benefit of understanding the customer’s business, how your product/service increases revenue or decreases cost for the customer, and how your product plans can increase your value for them even more. All of this happens outside of a sales call or price negotiation. The result: Targeted offerings which sales can use to capture the appropriate value delivered to customers.
Sure, salespeople get nervous when they learn executives are talking with their customers. After all, the salesperson has the relationship and does not want to lose the account because of one disconnected conversation. But this approach is all wrong. To make an account more profitable and loyal, it requires a detailed account plan where sales works with marketing, operations, finance, and management to truly understand what is needed to win the whole account. Leveraging these relationships can negate the power of the purchasing agent.
Do you mind if I vent for a minute? Thanks. I like to read. No, I love to read and am lucky to have lots of time on airplanes to do that. As a writer, I know that writing is hard. Especially writing in a way that is simple, makes good points, and gives credit to those who have gone before us. I just finished reviewing a pre-release version of Ron Baker's new book Mind over Matter due out later this year and was awed by how he pulls in the masters of accounting and economics to weave a thread of new ideas. Or look at Tom Sant's new book The Giants of Sales. He took a look at what lots of others have done and put together a structure that made everything look easy and understandable–often a very hard thing to do. Both authors take their craft seriously and as an obligation to their readers.
What I hate is an author who has nothing new to say and is more interested in getting his or her name on an idea from someone else. Such revisionist history is selfish and narrow minded. I just read a book that took Mike Marn's great work on pocket pricing and, without giving him reference, changed the words and sold it as its own. Sure, it was from another consulting company that competes with McKinsey. So what? The McKinsey team is terrific at creating new thought to benefit not only their clients but also the business public in general. They are a classy organization made up of good people I'm pleased to call colleagues. Books that do this aren't worth the paper they are written on. Fortunately, the reading public usually figures that out and doesn't buy the darn things.
Writing anything is hard work. Just getting a book published is enough to get my respect. Fortunately lousy books are few and far between. When you read a business book, you have to ask yourself what is the author's agenda. If it's to convince you that you need their services, put the darn thing down. We're working really hard not to do that in our upcoming book. If we do, don't buy it.
Thanks for letting me do that.
Reviews from Dr. Reed Holden
Announcing a New Book | That’s Pricing with Confidence | Just Go With Your Strength | Staying Above Water | Good Reading!
Announcing a New Book Coming February 2008
Pricing with Confidence: 10 Ways to Stop Leaving Money on the Table
10 Rules for All Executives to Capture Value, Grow Revenue, and Increase Profits
Bad pricing is a massive destroyer of a company’s value, revenue, and profits. With ten simple rules, Pricing with Confidence demonstrates how managers can deliver both healthy profit margins and robust revenue growth, while kicking the dreaded discounting habit. This book is your roadmap through the practical implementation of value-based pricing based on the authors’ real-world experiences. Demonstrating that a critical source of competitive advantage is an organization’s ability to manage and exploit value, Holden and Burton deflate the conventional wisdom that managers must trade margins for revenues.
Applying the simple and actionable rules described in Pricing with Confidence allows managers to set better pricing goals. Readers will discover a proven toolkit to drive pricing and business decisions that have enabled dozens of companies to exceed expectations. Move beyond the rhetoric of value. Stop leaving money on the table. Pricing with Confidence gives you confidence in pricing and the things you have to do to make pricing work better in your business.
Watch for excepts from the book starting next month. That’s Pricing with Confidence
I was checking into a Hilton hotel last week. Next to us, a woman was talking to the manager, apparently trying to negotiate room prices for a meeting event. She must have complained about the price because the manager responded, "We are the best hotel in the area." She left. I asked the manager about this, and he said they knew they were the best hotel in the area and this was their busy season. When I asked about their slow season, he said that they have special lower rates but only for the slow season. Our client, a large business in that area, gets the low price from the hotel because they keep a steady stream of people in the rooms at all times during the year. That's pricing with confidence. Reed
Commentary by Dr. Reed Holden
From "How HP Reclaimed Its PC Lead Over Dell" by Christopher Lawton, The Wall Street Journal, June 4, 2007
This is a great story about how Todd Bradley came into HP's PC division at the request of new CEO Mark Hurd and turned it around. He makes is sound like a simple process. In two short years, he has stopped responding to Dell, made Dell respond to them, and regained revenue, share, and profitability in the once-declining division. We've heard a lot of talk recently that all Mark Hurd is doing is implementing Carly Fiorina's great strategy. Based on this article, that dream is now dashed.
Fiorina had tried to attack Dell where they are strongest – in direct sales with low prices. That didn't work. Bradley did something we often recommend – go with your strength. He saw that HP's strength was in distribution and retail. He listened to his dealers, fixed their problems, and made distribution once again a key element of their strategy. His timing was perfect as PC shoppers are moving in droves to laptops and want to see those laptops before they buy them. He spiffed up the innovation side of the house and simplified the number of products too.
Where Fiorina had invested in big, general brand image advertising, Bradley shifted ad dollars to the point of customer contact – at the retailer. In doing so, he sent a strong message to the dealers that they were once again supporting their efforts.
Is he letting Dell control the direct channel? Not exactly. He is also quietly improving their direct service levels and has seen share rise almost 25%, taking most of it out of Dell.
Nice job Todd.
Commentary by Steve Haggett
From “Can Durability Trump Price in Laptop Wars?” The Wall Street Journal, May 17, 2007
IBM got out of the laptop market as commodity forces overwhelmed the industry, selling its laptop unit to China’s Lenovo Group for $1.75 billion in 2005. Since then, competition from Dell, Acer, and HP has only intensified, pushing the average price of a corporate PC down to $1,125.
Lenovo has launched a push to compete not just on price but to differentiate based on durability and service. While the consumer market – where Lenovo is weaker – has marched toward the commodity cliffs by focusing on price, business markets – where they are stronger – value a number of other factors.
As prices like cell phones have dropped, so has size and weight. An average laptop barely tops four pounds and has become correspondingly fragile. However, the cost of a PC may be only a thousand bucks, but the cost of a lost spreadsheet – or a cranky hard drive – can be many times that. Lenovo’s new campaign shows their laptops launched off cranes and carried underwater by deep-sea divers. They offer a new ThinkPad laptop priced at $5,000 that includes a service package guaranteeing a technician at your door within hours to solve any problem that arises – no on-line FAQ’s, lists of common problems, or international chat groups but someone at your location to fix your specific problem – immediately.
If you want a $600 basic product, Lenovo still sells that. The new products, however, provide a nice example of a suite of premium and flanking products. At the low end, Lenovo is poised to compete against the commodity offerings of their large peers. These products yield manufacturing scale and also prevent their rivals from growing easily. At the high end, Lenovo, still trading on IBM’s ThinkPad brand, wraps high-value service onto a differentiated product.
This innovative service-based approach shields the firm from price-based competition in their area of strength, the corporate customer. This is a great example of finding a way to utilize a value-based strategy in a tough commodity market.
Reviews from Dr. Reed Holden
Newsletters Q4 '07: January | November | October
Finally, The Airlines are Getting it Right–Lower Your Flaps and Slow Down in Turbulence | Pricing In Rainbows | Clashes of Titans-Keep the Big and Little Picture | Limiting Supply to Hold Price? | Good Reading!
Finally, The Airlines are Getting it Right-Lower Your Flaps and Slow Down in Turbulence
By Dr. Reed Holden
Ok, if you didn't know it, a downturn is coming. The sub-prime credit crunch will be a cause of it, but there are other factors at work, too. American companies are not doing well with global competitiveness, and, as in the past, they still don't know how to deal with the increased sophistication of purchasing agents. To make matters worse, you have the dramatically high price of oil that is going to slow down both consumer and business purchasing. The only question is whether it will be the R word or the D word. The experts are saying that it will be a recession.
A question that all of us are facing is how to respond to it. Most managers are doing exactly the wrong thing. What is that? Easy–they're using more price discounts to keep revenue flowing into the business. In doing that, they are using the wrong pricing strategy (penetration) and as a result are undermining the firm's value proposition.
So what is a manager to do? First, lower your performance expectations for the coming year. If you can, shut down capacity and slow down/stop hiring. That is exactly what the airlines are doing. With the high cost of fuel and the looming/current downturn, they are taking older, less fuel-efficient aircraft off-line, and they're doing that just at the time when demand is booming for the holiday season. They know that after the holidays, demand is going to drop like a stone.
What else can we do? Well, while this suggestion is difficult for the airlines, another good idea is to deploy that low-value offering and identify which non-loyal, price-buying customers - not poker-playing customers - to contact and try to get some of their business. This protects the high-value offering and high-value customers. This way, you keep revenue flowing in too. When demand picks up, if you want, dump the low-value offering.
This is the time for survival, not flourishing. When an aircraft hits turbulence, they slow down. You should be doing the same thing. Stop focusing on revenue targets they are no longer accurate or relevant. The market is slowing down, you should slow down, too. Worry about profits and making sure that what you sell is providing for the firm, and you will survive in a downturn. Safe flying!
Commentary by Steve Haggett
From “Labels Win Suit Against Song Sharer” by Jeff Leeds, New York Times, October 5, 2007 and “Radiohead’s Revenge Is Sweet” by Joan Anderman, Boston Globe, October 11, 2007
On October 4, the recording industry won its first juried trial against a music downloader. A woman from Brainerd, Minnesota (presumably, in a town called Brainerd, all the residents know how to download music) was ordered to pay $222,000, or $9,250 per song, to six music companies. Less than a week later, the music group Radiohead released their new album, In Rainbows.
The recording industry has been wrestling with pricing models, as the digital music revolution led first to pirate sharing through vehicles like Napster and then to an established online distribution system. Apple has focused on a standard $0.99 per song model, selling all singles for the same standard fee, with strict file restrictions limiting sharing or reproduction on multiple platforms.
This victory, coupled with digital file restrictions, will help music publishers control pricing in their industry around the Apple model.
So what Radiohead did is a bit of a surprise. They distributed their new album independently, in its entirety, allowing customers to set their own price. That is, pay whatever you want. "Whatever you paid for In Rainbows, it's going to be worth it, because you, the newly empowered consumer, have assigned the value," notes the Globe.
And how did Radiohead do in a world of online pirates used to downloading for free, or at most $0.99 per song? Early reports had customers paying, on average, $10 an album. Which means, on average, that half the people who downloaded a copy paid more than the standard price of online albums.
Radiohead, as a brand, has established value – premium value above standard recordings, based on their previous work. Further, they established trust by offering customers the opportunity to set their own price. While this won’t work for most products, the lesson of establishing trust and value as a basis for premium pricing shines through In Rainbows. Especially in businesses where your customers want to encourage you to stay in business and continue to innovate – if we pay them well, then they will produce more albums – this model can be effective. Further, when some premium brands succeed at establishing a customer-driven value above the standard industry prices, it only supports the basic price model. Clashes of Titans–Keep the Big and Little Picture
Commentary by Dr. Reed Holden
From “Competition Weighs on Comcast” by Aline van Duyn, The Financial Times, December 5, 2007
Over thirty years ago, a business professor was talking about the "clash of the titans" in telecom. But back then, it was between AT&T and IBM. Each company thought there should be only one global telecommunications company. Well, history has not been nice to either company, especially AT&T. That once great telecom company is now staying at the back room at one of the kid's house and the kid is trying to make money off of Dad's name. On the other hand, IBM has moved in a different direction, now leveraging their dominant position in the declining technology of mainframe computers with a world-class global services organization. Go figure.
Now the clash is between other AT&T kids, Verizon and Comcast. Their belief is that there needs to be only one cable coming into the house for communications. It's just the type of cable. Comcast wants it to be a coaxial cable, which in many cases is already there. Verizon wants it to be a glass fiber, which in many cases isn't. Their agenda is two fold. First, Verizon has to get the glass fiber strung through the local neighborhoods, not a difficult challenge–after all, they're the phone company! Verizon's real problem is going from the pole to the house. Most local communities signed sole provider contracts with the cable companies a long time ago and are now trying to slog it out in the trenches to get those contracts thrown out.
At any rate, this is going to be a fun one to watch. We switched to Comcast from a satellite company that had lousy service. In doing that, we got a low introductory price for a bundle of phone, high speed Internet, and cable TV. We have run into two problems. First, the selection on TV isn't that great That's not a big deal, because we don't have time to watch TV anyway. The second one is a big deal `worthy of note by all. We were shocked when the introductory rate went away. We did call the company and got the reason for the increase, but it made us want to switch as soon as the Verizon service is available.
When you work strategy, pricing or otherwise, you have to have the big and the little picture. The little picture, over time, contributes to the success or failure of the big picture. In the end, better technology should win the day. But it's the customers who are made price sensitive by poor pricing strategy and even worse price positioning who are going to accelerate the demise of companies like Comcast. Limiting Supply to Hold Price?
Commentary by Jason DePue
From “A Long, Long Wait for A Wii,” BusinessWeek, December 17, 2007
“Limited supplies. No rain checks.” Shoppers trying to find a Nintendo Wii system this holiday season may face those very words. While other companies have tried to ensure shelves are well stocked, it appears that Nintendo may have deliberately limited supply of its popular $250 gaming system. Along with a large marketing push, the shortage has created a significant amount of hype. Customers are waiting in line for hours in the hopes of getting a machine. Whether intentional or not, this has allowed Nintendo to hold price while competitors have had to discount in order to move product.
Could this type of strategy work for your company? There are many variables that need to be considered before moving down this path. The first being how this would affect your company’s value proposition in the eyes of the customer. You might think that this will only work for high value, image, or relationship type customers. In most cases you would be right. However, there are instances, even within commodity industries, that limiting internal supply can stabilize overall price. There are definite risks no matter what the situation. Considering the long-term ramifications of possibly losing share or how competitors will react is important. An integrated communication plan should also be part of this process.
If you do make the decision to cut production, the natural place to start is low-margin business. In other high-tech manufacturing industries, we have seen companies either reduce investment in low-margin capacity or cut back on expensive outsourced capacity to limit the supply.
We remember one case in the software industry where a new process technology was being introduced. Salespeople were struggling to get the software adopted by large banks. There were forty-two banks targeted, and the vendor could only service six in the first year. The vendor stopped the selling process; instead, they went to these banks and told them they were taking applications to buy the technology. They required the banks, if selected, to use the technology and provide all cost data, so a better value map could be developed. The banks lined up with their applications, the six were selected, and the product went on to be a huge success.
While rare, this type of selling is not unusual. Like Nintendo, the software company didn’t need to limit supply, they just advised the customers that they could only serve a few of them. While slightly different from the Nintendo case, the result is still the same. Selling more quantities of anything is not always the best road to profits. Reviews from Dr. Reed Holden
Newsletter: November 16 , 2007
Saint Joseph and Derived Demand | Avoid the Train Wreck of Acquisition | Hitting MOT High and Low | It Was the Best of Times, It Was the Worst of Times | Clash of the Titans | The Plot Thickens | Good Reading! Saint Joseph and Derived DemandCommentary by Mark Burton
From “When it Takes a Miracle to Sell Your House,” The Wall Street Journal, October 30, 2007
Well, the housing slump has been good for at least one part of the economy – those companies that make statues of Saint Joseph. You see, Saint Joseph is the patron saint of home, family, and apparently home sales. And many desperate home sellers have taken to burying Saint Joseph statues in their yards in the hope that he will help spur a quick sale.
The sudden popularity of Saint Joseph is a great lesson about one of the most important, yet least understood, aspects of pricing in business-to-business markets – derived demand. When the real estate market was cooking along a few years back suppliers of Saint Joseph statues were enjoying a comfortable, if modest, business. Now they can’t keep up with demand. This is a key lesson for all pricers. The demand for Saint Joseph statues is literally derived from the demand (or lack of it) in the housing market.
Think about the implications. What would have happened to total demand for Saint Joseph statues if suppliers lowered prices on the statues when the housing market was strong? Very little. Instead suppliers would have given up profits. On the other hand, what would happen to total demand if suppliers raised prices in the current market? Again, very little.
For the large majority of companies in business-to-business markets, this is the way their markets work. Yet they continue to use discounting to try to spur demand during times of weak downstream demand. And due to derived demand, the end result is lower profits for everyone as customers learn the game and negotiate even harder on prices. Here’s a suggestion, no matter what your religious leanings are, go out and get a statue of Saint Joseph, and put it on your desk. The next time someone wants to lower prices during a slow market, show it to them and explain how Saint Joseph is the patron saint of derived demand … and better pricing. Avoid the Train Wreck of AcquisitionCommentary by Dr. Reed Holden
From "Selling Sales Forces on a Merger: Careful Planning Helps Keep Both Customers and Top Performers" by Joann S. Lublin, The Wall Street Journal, November 12, 2007
So you acquired another company. Great. You get to be the conquering hero. You get to look down at the lesser executives who couldn't make it on their own. Right? Wrong! The fact is that most mergers fail. They fail for a variety or reasons.
The first reason is that the "winners" descend on the acquired company and either clean house, not a bad thing if all you want is production capacity, or they lord it over the new team and end up losing some of their best performers in all areas of the firm.
The second problem we often see is managers who fail to anticipate what salespeople will do in anticipation of the merger. Salespeople, and senior managers for that matter, are just like the rest of us – they're worried about their jobs. Without careful planning and controls, they will use price to try to increase sales prior to and immediately after the acquisition so they can show that they're making their numbers. What's the result – a train wreck – a.k.a. a price war. In most business markets, revenues actually decline, profits disappear, and everyone wonders why the acquisition doesn't add the value that everyone projected.
The bottom line is that if you're going to acquire a company, make sure you worry about salespeople and customers and how they're going to react to the merger. Take time to talk to them about the beneficial reasons and what's going to happen to them after the dust settles. Good planning can save the wreck. Unfortunately, most managers get too giddy with the "thrill of victory" to do that. Hitting MOT High and LowCommentary by Dr. Reed Holden
From “Nokia Turns Up the Volume” by Adam Ewing, The Wall Street Journal, October 19, 2007
There was a time several years ago when it looked like Motorola had shaken off the denzions of the past and was going to regain global leadership in the cell phone business. In the 1980's Motorola missed it with the Flip Phone when they kept their team of designers working on the analog version and let other competitors blow past with better performing digital phones. They did the same thing with their terrific design in the RAZR. As they retrench and move away from lower-priced phones, Nokia continues to expand their number one position with great strategy and flawless execution.
Nokia saw an 85% increase in net profits by selling cheaper phones. Those phones are necessary to tap the explosive India and China markets. By having both high- and low-value phones, margins are increasing dramatically, along with the revenue and profits. You see, they don't let their costing systems cloud the true nature of costs – they know how to price for profits – even with low-priced products.
Strategy is simple. Execution is tough. Nokia continues to shine on both with a global market share that is greater than its three next biggest competitors. It Was the Best of Times, It Was the Worst of TimesCommentary by Steve Haggett
From “Pfizer Breaks With Norm by Scrapping Drug” by Avery Johnson, The Wall Street Journal, October 20, 2007
In October 2006, Pfizer’s inhalable insulin won a prestigious 2006 Dow Jones Technology Innovation Award, the Overall Bronze and Winner for Biotechnology & Medical Division. This should have been great news for diabetics. Then why on October 2007 did Pfizer shut down the business, taking a $2.8 billion charge?
What happened in the year in between those two events? Pfizer learned how customers valued the innovative technology. And, they learned about “framing.”
Insulin-dependent diabetics are forced to routinely inject the drug to maintain health. Pfizer invested in this innovation assuming that there was almost no price diabetics would pay to avoid daily injections. That price turned out to be about $5 a day.
Exubera, Pfizer’s medication, did not fail because it didn’t work, nor did it fail for safety concerns. As the Innovation Award proves, the product is a technological marvel. It failed because research pointed them in the right direction, but too far.
The new therapy was priced about double the rate of injectable insulin. Through insulin pens and pumps, traditional therapy has become somewhat simpler. Changing to an inhaled product required a significant change in process for both physicians and patients – learning to measure grams of powder rather than volumes of fluid and learning to use a bulky mask. However, there was no corresponding change in performance. Couple that with consumers who are well used to injecting the drugs, perhaps Pfizer shocked them with prices which appeared too high.
Even though research shows a willingness to pay, it often fails to capture how users feel about the alternative of really paying the higher price. In this research category, they probably felt shocked.
Had Pfizer begun the process in the market, rather than in the lab, they might have gained a better understanding of unmet customer needs and value judgments. Clash of the TitansCommentary by Dr. Reed Holden
From "Programmed for a Fight," The Economist, October 20, 2007, pp 85
Oracle and SAP continue their battle for supremacy in the market for enterprise application software. There are three interesting things about the market and how each is doing battle. This is going to be a great show to watch, because the winner will have employed a very different strategy, and the results will be a lesson for us all.
Oracle is growing primarily through acquisitions. Several years ago, they acquired PeopleSoft. They have continued their growth with acquisitions of over thirty companies for "over $25 billion" since. The question is whether they will be able to successfully integrate those companies to leverage them to grow further. So far results are good, but the integration will need to speed up to really be successful.
SAP on the other hand is choosing to grow "organically" by adding services. Yes, they are acquiring companies, but they are generally small firms purchased for their skill set rather than their revenue. SAP currently holds a 21% of the global market against Oracle's 11%.
The final interesting point is that this is market segment maturing dramatically. Growth is slowing and customers are getting more price-sensitive. The winner of this battle must successfully figure out how to leverage their existing position with a wide range of clients with software upgrades and additional services. As upgrades are getting harder to leverage, our bet is that the services will add the most value given the market conditions. The fun will be in the wait to see if that is right. The Plot ThickensCommentary Dr. Reed Holden
From "SAP's Results Calm Concerns Among Investors Over Strategy" by Leila Abboud, The Wall Street Journal, October 19, 2007
Well, from the looks of it, SAP is doing just fine. With revenue rising and profits going up even more, their strategy seems to continue to be paying off. A recent acquisition of a French software company that specializes in business intelligence worried a few, but if you read the top article in this month's newsletter, you'll see that they're doing just what they said they were going to do – grow organically, except when they can pick up a company that adds important skills. Reviews from Dr. Reed Holden
Price Isn't Everything | Don't Nickel and Dime Your Loyal Customers | Hey! Get a Real Job! | The Problem with Teaser Rates| The Importance of a Dealer or How a Lousy Dealer Can "Snatch Defeat from the Jaws of Victory" | Good Reading!
Price Isn’t EverythingCommentary By Nelson Hyde
From “Wal-Mart Era Wanes Amid Big Shifts in Retail” by Gary McWilliams, The Wall Street Journal, October 3, 2007
Many companies would do well to take a cue from Wal-Mart’s competitors – and I don’t mean by lowering prices. I mean by not blindly lowering prices or chasing price buyers until it hurts.
Wal-Mart is getting diminishing returns as it saturates the price-buyer market and struggles to translate its value proposition to wealthier consumers. This year’s per-store sales gains are a paltry 1.3% – a quarter of last year’s – and the company has slowed its U.S. expansion because new stores are cannibalizing old ones.
Wal-Mart’s competitors, on the other hand, are getting great per-store growth as they shift from buyers who want price to buyers who want convenience and personal services. For example, Best Buy is heavily marketing flat screen TV installations. Grocery stores are selling more prepared convenience foods. Pharmacies are selling basic health services like school physicals.
We see companies all the time who jump immediately to price as their main proposition. That only works if you have absolutely nothing unique to offer or have a sustainable cost advantage. Companies jump to price too fast, because they don’t understand their real value. They are confused about their differentiation or how they improve their customer’s business, so they don’t defend their value. Lacking confidence in their value, they lead with price. There go the margins.
Don’t let customers’ constant talk about price fool you into thinking they are all price buyers – typically only 20-35% are. All the rest yelling about price are just playing poker with you – price buyers are a very limited market. Lead with your value, not your price. You can price with confidence if you do the hard work of identifying your real value, and arm the sales force with concrete ways to prove it. Most customers will buy that. Don't Nickel and Dime Your Loyal CustomersCommentary by Dr. Reed Holden
From "Heaps of Trouble: Renting a Car Becomes a Headache" by Darren Everson, The Wall Street Journal, October 3, 2007 pp. D1
Like just about every other industry, the car rental industry is struggling under increasing costs and competition. To accommodate and still earn a profit, car rental firms are trying a number of things to beef up razor-thin margins. Some of those things will work, but my guess is that some of them will blow up in their faces.
For example, they are requiring that customers return vehicles with FULL gas tanks. If they don't, they're charging a penalty. That seems fair. And, it's easy to defend. Gas is more expensive, and there are options available to renters to buy full tanks at lower prices before they return the car. If I don't have time to refill the gas tank, I should be responsible for the cost of the gas and the time to get it refilled. Yes, they soak you for the gas, but that's a known practice and all of the companies do that.
Where the car rental companies need to be careful, real careful, is how they treat their loyal customers. These are the guys who get the cool cards and spend lots of money to rent cars. I have no problem when the rental car companies reduce services and fees for non-loyal customers. But if they start doing that to me, I'm going to change car companies. For example, one rule for loyal customers is to make sure you are always able to service them. We were recently unable to get a Hertz car in San Francisco. Sure, they were busy. But, it meant that for the first time, I had to stand in line for an Avis car. Second time Hertz did not come through, I became a member of the Avis loyalty program. Chipping away is what happens, and the companies won't even notice it until it's too late.
Bottom line: don't nickel and dime or reduce services to your loyal customers. They'll pay more to get them anyway. If you do, they'll eventually leave. Hey! Get a Real Job!Commentary by Mark Burton
From “Finding the Right Job for Your Product” by Clayton Christiansen etal., Sloan Management Review, Spring 2007
Are your once highly-sought-after products and services becoming commoditized – even as you pour money into them to create new features and capabilities? Customers are buying your offerings to do something. Do you know what that is? In business-to-business markets that “something” is inevitably driven by a desire to increase profits. The issue is that marketers don’t have a simple way of making this connection. Looking just at traditional means for defining markets, such as customer size, industry, and desired product features doesn’t capture this over-riding goal. Christiansen shows us a way to research our customers that enables us to take this into account – and to break out of the tired, traditional, and commodity-inducing ways of defining customer needs. He argues that customers are in effect hiring your offerings to do a job. If you understand what that job is and how customers often patch together solutions to do it, you have the basis for differentiating your offerings and creating pricing power. It works like this. Hill-Rom differentiated itself in the hospital bed market by noting the non-medical tasks that take up much of a nurse’s time. Nobody asked them for a bed with a built-in TV remote. But when Hill-Rom pointed out how this and other features improved nurse productivity, hospitals snapped them up – at premium prices. How did they do it? No fancy, quantitative surveys – just a lot of time talking with their customers about their objectives and the things that get in the way of doing them. The result? A “job description” that was a prescription for higher profits. The Problem with Teaser RatesBy Dr. Reed Holden
Last year to improve our TV service, we switched our satellite supplier out for a cable company that gave a great bundled rate on a combined package of telephone, cable, and high-speed Internet. We loved it. Well, the rates went away last month and now we hate it and can't wait to switch. Sure enough, Verizon is getting ready to roll out their new fiber optic service, and we'll make the switch when it's available.
Companies often use "teaser rates" or low prices that encourage people to either adopt a new product or service or to switch suppliers of those products and services. Often, when the rates go away, users begin to get alienated, and it increases the likelihood that they will switch when someone comes along with a better product, lower prices, or both.
Then they wonder why their customer turnover goes up. If you look at your own behavior, it isn't that hard to figure out. The trick to teaser rates is that the real rates shouldn't be a shock to customers. If they are, customers, even loyal ones, will depart. If you have a teaser rate program, show the reduced rates as a discount off the actual rates so customers get used to them. If you're afraid that if they see the real rates, they'll bolt once they can, you're probably right. Just don't complain when your customer turnover skyrockets. The Importance of a Dealer or How a Lousy Dealer Can "Snatch Defeat from the Jaws of Victory"By Dr. Reed Holden
I had to perform a very unpleasant task this past month. And once it is over, I'm usually pleased with the result. But the process… oh brother, the process stinks. Did I go to the dentist? Nope, this is worse than that. Did I have to have surgery? Nope, this is even worse. I bought a new car. A truck actually.
I did the research and due to the availability of dealers, decided to look at Ford and Toyota trucks. Now, you've got to understand that I am actually loyal to both vehicles due to my past history with them. Research showed that the Toyota was actually a better quality vehicle in terms of performance and reliability. Sadly, the Toyota dealer salespeople went to the "push the customer" school of selling. When I got there, after contacting them on the Internet and phone, they showed me the wrong truck and didn't have a clue what I wanted, yet they didn't ask me. I had to tell them.
The Toyota salesman was clearly a busy man – he took at least four phone calls while he was talking to me. He couldn't answer my questions and went back to the phone to try – leaving me waiting the whole time. When I went to leave, he asked me to wait for one minute. He then brought over the "big cheese." You know, the senior sales guy whose job it is to try to close you. I expressed my concerns and his response was that he could get each and every one of them and I knew he couldn't. Further, he said he had the biggest inventory, though there was another dealer a half hour away that had three times the inventory he had.
I ended up buying the truck at a local Ford dealer. They had what I wanted, gave me a great price, and supported it with great service. The salesman, Franc, was able to answer all of my questions. He introduced me to the owner so we could discuss some changes I wanted and they took care of everything. When there was a delay in the delivery of some tires, they called, apologized, and made sure I could reschedule. No high pressure, lots of good insights. Generally a company and a group of guys I could trust. Tough choice? Nope, it was an easy one.
How about your dealers? What is your customer's experience like? Do they enhance your value proposition or undermine it? These are questions we often ignore in our go-to-market strategies. Take a walk on the wild side--visit a dealer and become a customer for a few hours and see what it's like. Reviews from Dr. Reed Holden
Announcing a New Book | That’s Pricing with Confidence | Just Go With Your Strength | Staying Above Water | Good Reading!
Announcing a New Book Coming February 2008
Pricing with Confidence: 10 Ways to Stop Leaving Money on the Table
10 Rules for All Executives to Capture Value, Grow Revenue, and Increase Profits
Bad pricing is a massive destroyer of a company’s value, revenue, and profits. With ten simple rules, Pricing with Confidence demonstrates how managers can deliver both healthy profit margins and robust revenue growth, while kicking the dreaded discounting habit. This book is your roadmap through the practical implementation of value-based pricing based on the authors’ real-world experiences. Demonstrating that a critical source of competitive advantage is an organization’s ability to manage and exploit value, Holden and Burton deflate the conventional wisdom that managers must trade margins for revenues.
Applying the simple and actionable rules described in Pricing with Confidence allows managers to set better pricing goals. Readers will discover a proven toolkit to drive pricing and business decisions that have enabled dozens of companies to exceed expectations. Move beyond the rhetoric of value. Stop leaving money on the table. Pricing with Confidence gives you confidence in pricing and the things you have to do to make pricing work better in your business.
Watch for excepts from the book starting next month. That’s Pricing with Confidence
I was checking into a Hilton hotel last week. Next to us, a woman was talking to the manager, apparently trying to negotiate room prices for a meeting event. She must have complained about the price because the manager responded, "We are the best hotel in the area." She left. I asked the manager about this, and he said they knew they were the best hotel in the area and this was their busy season. When I asked about their slow season, he said that they have special lower rates but only for the slow season. Our client, a large business in that area, gets the low price from the hotel because they keep a steady stream of people in the rooms at all times during the year. That's pricing with confidence. Reed
Commentary by Dr. Reed Holden
From "How HP Reclaimed Its PC Lead Over Dell" by Christopher Lawton, The Wall Street Journal, June 4, 2007
This is a great story about how Todd Bradley came into HP's PC division at the request of new CEO Mark Hurd and turned it around. He makes is sound like a simple process. In two short years, he has stopped responding to Dell, made Dell respond to them, and regained revenue, share, and profitability in the once-declining division. We've heard a lot of talk recently that all Mark Hurd is doing is implementing Carly Fiorina's great strategy. Based on this article, that dream is now dashed.
Fiorina had tried to attack Dell where they are strongest – in direct sales with low prices. That didn't work. Bradley did something we often recommend – go with your strength. He saw that HP's strength was in distribution and retail. He listened to his dealers, fixed their problems, and made distribution once again a key element of their strategy. His timing was perfect as PC shoppers are moving in droves to laptops and want to see those laptops before they buy them. He spiffed up the innovation side of the house and simplified the number of products too.
Where Fiorina had invested in big, general brand image advertising, Bradley shifted ad dollars to the point of customer contact – at the retailer. In doing so, he sent a strong message to the dealers that they were once again supporting their efforts.
Is he letting Dell control the direct channel? Not exactly. He is also quietly improving their direct service levels and has seen share rise almost 25%, taking most of it out of Dell.
Nice job Todd.
Commentary by Steve Haggett
From “Can Durability Trump Price in Laptop Wars?” The Wall Street Journal, May 17, 2007
IBM got out of the laptop market as commodity forces overwhelmed the industry, selling its laptop unit to China’s Lenovo Group for $1.75 billion in 2005. Since then, competition from Dell, Acer, and HP has only intensified, pushing the average price of a corporate PC down to $1,125.
Lenovo has launched a push to compete not just on price but to differentiate based on durability and service. While the consumer market – where Lenovo is weaker – has marched toward the commodity cliffs by focusing on price, business markets – where they are stronger – value a number of other factors.
As prices like cell phones have dropped, so has size and weight. An average laptop barely tops four pounds and has become correspondingly fragile. However, the cost of a PC may be only a thousand bucks, but the cost of a lost spreadsheet – or a cranky hard drive – can be many times that. Lenovo’s new campaign shows their laptops launched off cranes and carried underwater by deep-sea divers. They offer a new ThinkPad laptop priced at $5,000 that includes a service package guaranteeing a technician at your door within hours to solve any problem that arises – no on-line FAQ’s, lists of common problems, or international chat groups but someone at your location to fix your specific problem – immediately.
If you want a $600 basic product, Lenovo still sells that. The new products, however, provide a nice example of a suite of premium and flanking products. At the low end, Lenovo is poised to compete against the commodity offerings of their large peers. These products yield manufacturing scale and also prevent their rivals from growing easily. At the high end, Lenovo, still trading on IBM’s ThinkPad brand, wraps high-value service onto a differentiated product.
This innovative service-based approach shields the firm from price-based competition in their area of strength, the corporate customer. This is a great example of finding a way to utilize a value-based strategy in a tough commodity market.
Reviews from Dr. Reed Holden
Innovate or Acquire for Growth | Plastic Surgery! On Sale Now! | Sky High Profits or Skyway Robbery? | Clash of the Titans | Don't Worry About Dragons–Worry About Your Firm | Listen for Unlocking Hidden Profit Potential | On Books and Writing | Good Reading!
Innovate or Acquire for Growth
Commentary by Dr. Reed Holden
From "Schering-Plough Climbs Out of its Sickbed" by Arlene Weintraub, BusinessWeek, May 14, 2007
Schering-Plough has had a rough go of it in recent years. Its traditional products lost their patent protection, and the company was suffering under a host of legal problems. CEO Fred Hassan has done wonders in two areas. First, he got the company more efficient–lots more efficient. He worried about the operational effectiveness of the firm and got people working better and smarter. Next, he eliminated layers and worked hard to make sure that salespeople could achieve the right balance of relationship and sell value. He did that by making more of their compensation come from salary, rather than commissions.
The only thing he could not do with any speed was fill up their new drug pipeline. The only way to grow a drug firm these days is to continually innovate with new formulations. To accomplish this, he recently acquired Organon BioSciences, holder of a number of drugs getting ready for final release. It's a smart move. First, he fills the Schering-Plough pipeline with a host of promising new drugs. Second, the new Organon drugs will be able to take advantage of Schering-Plough's crack sales force–synergy all around.
Remember the new mantra: price for profits and innovate for growth. If you can't innovate, look at acquisitions that can leverage the things that you do. Using price to achieve growth will almost always cause a decline in profits when markets slow down. We believe that Schering-Plough has it right and are looking forward to great things from them.
Commentary by Mark Burton
From “Getting a Discount on Plastic Surgery” By Rhonda L. Rundle, The Wall Street Journal, May 15, 2007
Would you let someone who is offering discounts operate on your face? Interestingly enough, the American Cosmetic Surgery Network and an increasing number of health plans are putting their money where their mouth is on this very proposition. The network is offering 20% discounts to members of health plans, such as Blue Cross/Blue Shield of South Carolina. The insurers have been buying into the program to attract and retain more members.
The question is why any cosmetic surgeon worth their salt would be willing to offer such discounts. It comes down to economics. Getting into the business can require significant investment in facilities and equipment. When these assets sit idle, they are a drain on the surgeons’ practices. The cosmetic surgery network is a great source of referrals who wouldn’t otherwise choose the surgery without the 20% discount, and they are valuable in that they keep practices busy and generate incremental margin dollars. This referral system also provides a great means to fence patients that directly seek out a surgeon due to reputation – and are willing to pay more – from those that just want someone reputable but want to save some dough on their liposuction.
Those price sensitive patients also increase the total contribution dollars generated from the surgeon’s time and facilities. Having a source of customers to fill capacity during slower times, while not damaging relationships with your best customers, is a great way to lift profits. While defining strong fences can seem like a challenge – some would say you have to have a nose for it – it’s actually pretty simple if you understand what your customers value and how they purchase. Sky High Profits or Skyway Robbery?
By Mike Lawson
An interesting thing happened to me today while at the airport. I had booked a non-refundable ticket on Northwest Airlines for a simple multi-city itinerary: Boston to Detroit one day, Detroit to Chicago the next day, and Chicago to Boston on the last day.
However, as road warriors know, sometimes it is necessary to make flight itinerary changes. In my case, it was a simple change of skipping the Chicago leg of the trip and returning directly to Boston – all on Northwest Airlines. Since I had made flight changes on non-refundable tickets before on Northwest, I figured I would be charged a fee of $70 to change flights – a “reference price” Northwest Airlines set for me based on their past actions. You could imagine the near heart attack I had when I learned the change fee was $225 and the fare difference was $996 for a total price of over $1,200. This was in addition to the $504 I already paid.
Instead of panicking, I did what every other value buyer would do and looked at other options to get back to Boston. By simply checking an online travel website at the airport, I learned that I could fly that same one-way Northwest flight to Boston for $619 instead of the $1,221 for the fare difference and change fee – just for purchasing a new one-way ticket.
With easy access to the Internet, I found a US Airways ticket for $99 to get me from Detroit to Boston. In this case I had to make one connection, but it was worth the minor inconvenience to substantially save on the airfare.
According to the shared-cost effect, I should have paid the $1,725 total price to change my itinerary as the ticket cost would have been passed along to my company and client. Northwest was ready to take advantage of me and my situation, but did it realize that I had other options. The price just wasn’t fair.
Commentary By Steve Haggett
From “Titans of Steel Pursue the Niche Players,” The Wall Street Journal, April 16, 2007
The global steel industry is a great setting to watch the unbridled power of cost-based competition, as colossal Mittal Steel Company finalizes its acquisition of European giant Arcelor SA and others in the industry participate in the consolidation game. Steel, a technology developed around 1000 BC, is as pure a commodity as one can find. Mittal and its large global competitors are buying up smaller basic steel plants around the world with the aim of dominating price-based competition.
Yet niche opportunities for premium prices abound. At the opposite end of the spectrum, Argentina’s Tenaris SA focuses on premium steel pipe for the oil and gas industry. Tenaris provides high-value seamless steel pipes used in offshore drilling operations around the world – an application enjoying soaring demand as the petroleum industry moves deeper and deeper offshore. The market for steel pipes in the oil industry has rapidly doubled, from less than $8 billion in 2003 to over $16 billion in 2006.
The growth of this market makes it achingly attractive for the global giants, who can offer very low prices to customers. The solution for the niche steelmakers is service bundling, enabling them to command a differentiation premium.
Tenaris bundles high-value-added services with its premium steel pipes – a strategy that has been effective at keeping these global giants out of the market. In addition to high quality pipe, Tenaris bundles services – advanced technical support, engineering, just-in-time deliveries – that help its customers improve their exploration and production operations. Their understanding of the way their customers operate – economically, technologically, and environmentally – differentiates them from the price-oriented steel conglomerates.
The net result? Tenaris and the niche players are able to command and protect prices of $2000 per ton, over three times the prices the global commodity players battle over. Their understanding of customer operations and priorities enables them to gain far higher profitability margins and keep the titans at bay. Don't Worry About Dragons–Worry About Your Firm
Commentary by Dr. Reed Holden
From "The Tech Dragon Stumbles" by Bruce Einhorn, BusinessWeek, May 14, 2007 Remember the early 1990's? Everyone was worried about the Japanese taking over the global business world. They were on a roll back then, improving product quality, selling at lower prices, and apparently on the verge of taking over the car and computer businesses to name a few. They had already taken over the DRAM business from Intel and were actually beginning to make money on it.
Well, people are now worried that the Chinese manufacturers are going to do the same thing. After all, just like the Japanese, Chinese companies have government support and access to low-labor costs. Well, just like the 1990's, we figure that the threat of the Chinese onslaught is more worry than reality. They are struggling with many areas, not the least of which is that their manufacturing costs, especially in high-tech areas, which are actually higher than other global competitors. To achieve the lowest costs, they are going to have to make massive investments in new and more efficient facilities. That means low-labor content, one of the areas they were banking on to help them be price competitive.
Oh well, the lesson now is the same one from 15 years ago. Don't worry as much about other companies as you worry about your own firm. What are you doing to make it better? That's the only way you'll be able to compete in the global economy. Innovate like crazy. Price for profits, and don't worry about the firms creeping up in the rear view mirror. Worry about going as fast as you can, and you'll be just fine. Listen for Unlocking Hidden Profit Potential
Commentary By Mike Lawson
From “CEOs Are Spending More Quality Time with Their Customers,” The Wall Street Journal, May 14, 2007
Every business requires one element to be successful – the customer. While some companies have focused on customer needs and developed strategies to properly segment and target customers, there are far too many companies that still don’t have a clue. For other companies, the C-suite has learned the value of talking with customers and the results show. But so many company executives fail to reach out to customers even in grueling competitive industries.
Talking with customers and acting on their feedback is the key to unlocking hidden profits. Besides the obvious benefit of showing customers that you care, it gives you the benefit of understanding the customer’s business, how your product/service increases revenue or decreases cost for the customer, and how your product plans can increase your value for them even more. All of this happens outside of a sales call or price negotiation. The result: Targeted offerings which sales can use to capture the appropriate value delivered to customers.
Sure, salespeople get nervous when they learn executives are talking with their customers. After all, the salesperson has the relationship and does not want to lose the account because of one disconnected conversation. But this approach is all wrong. To make an account more profitable and loyal, it requires a detailed account plan where sales works with marketing, operations, finance, and management to truly understand what is needed to win the whole account. Leveraging these relationships can negate the power of the purchasing agent.
Do you mind if I vent for a minute? Thanks. I like to read. No, I love to read and am lucky to have lots of time on airplanes to do that. As a writer, I know that writing is hard. Especially writing in a way that is simple, makes good points, and gives credit to those who have gone before us. I just finished reviewing a pre-release version of Ron Baker's new book Mind over Matter due out later this year and was awed by how he pulls in the masters of accounting and economics to weave a thread of new ideas. Or look at Tom Sant's new book The Giants of Sales. He took a look at what lots of others have done and put together a structure that made everything look easy and understandable–often a very hard thing to do. Both authors take their craft seriously and as an obligation to their readers.
What I hate is an author who has nothing new to say and is more interested in getting his or her name on an idea from someone else. Such revisionist history is selfish and narrow minded. I just read a book that took Mike Marn's great work on pocket pricing and, without giving him reference, changed the words and sold it as its own. Sure, it was from another consulting company that competes with McKinsey. So what? The McKinsey team is terrific at creating new thought to benefit not only their clients but also the business public in general. They are a classy organization made up of good people I'm pleased to call colleagues. Books that do this aren't worth the paper they are written on. Fortunately, the reading public usually figures that out and doesn't buy the darn things.
Writing anything is hard work. Just getting a book published is enough to get my respect. Fortunately lousy books are few and far between. When you read a business book, you have to ask yourself what is the author's agenda. If it's to convince you that you need their services, put the darn thing down. We're working really hard not to do that in our upcoming book. If we do, don't buy it.
Thanks for letting me do that.
Reviews from Dr. Reed Holden
Which Rules Should You Tear Up? | The Importance of Software and Services | Simple Segmentation | What do the Sopranos, ESPN Sports Center, and Flip That House Shows Have in Common? | Good Reading!
Which Rules Should You Tear Up?
Commentary by Dr. Reed Holden
From "Seeking to Perfect Prices, CEO Tears Up the Rules" by Timothy Aeppel, The Wall Street Journal, March 27, 2007
This is a great story that should be read by all managers, not just pricing professionals. It tells about how Parker Hannifin Corp. CEO Donald Washkewicz took on the pricing beast and in the process, improved net income by over 500% and return on net income by 300%.
What was his secret to success? It was actually quite simple. He figured out which of their more than 800,000 products were either proprietary or much better than competitors and decided to charge more for them. His managers classified products according to their level of commoditization. "A" products were all commodity. "D" products were all specialty. He also threw out their old pricing model, which was totally cost based. What did he replace it with? Are you ready? He replaced it with one that is … cost based.
Huh? What's the magic to that? Well, let me tell you. Consultants and academics for years have been telling managers to dump cost-based pricing and move to value-based pricing. The problem is that the "value-based" model is really still in the nether-world of theory and feel-good, do-nothing advisors. The fact is that cost-based pricing really works, because it is straightforward. What Parker Hannifin did was recognize that they could tweak their formulas based on the incremental value of the products. They found that they could add more margin to the "D" products than the "A-C" products. Simple? Sure. But the devil is in the details. It seems like the biggest problem was convincing managers that they would benefit from the new pricing mantra. In the words of one executive, they had to reprogram the company's management "DNA." Unfortunately, the CEO is the best person in the firm to force these kinds of changes, because as most of you have learned, managers resist the move.
Do they have a way to go? Sure. They have to do a better job of understanding the actual value of shorter delivery and special features. But I'm sure they'll get there eventually. They also have to get the sales force to believe in the value so they can sell it. Remember, it's a journey. At least this is an important milestone and result to chart progress in our respective companies. The Importance of Software and Services
Commentary by Dr. Reed Holden
From "How an IBM Lifer Built Software Unit Into a Rising Star" by William M. Buckeley, The Wall Street Journal, April 2, 2007
How many times have you worried about the commoditization of your products? Wow, that's a lot. Well, a good answer is actually coming out of Big Blue these days. IBM continues to leverage the commoditization of mainframe computers by making hay with the software and services it wraps around those systems. This article focuses on what they're doing with software: buying smaller companies, integrating them well, and accelerating their growth by taking advantage of IBM's mammoth sales force. Oh yeah, they are also making sure they do a great job training the salespeople.
Software grew over 14% in the final quarter of last year! Not bad for a clunky old IBM. In fact, software and services make up 73% of the revenue and 76% of the profits. Who cares if mainframes are less than half as profitable as everything else. That hardware provides the entry point for "pockets of profitability" in the services, software, and support.
Also, regarding our mantra of "Innovate for Growth, Price for Profits," we are now going to include acquisitions. The unfortunate fact is that most acquisitions fail to provide the promised efficiencies and increased profits. It looks like Big Blue has figured this one out and joined the club of "good integrators" with Cisco.
Ok, everybody repeat after me. Software and services provide value. Let's do it one more time: software and services provide value. Still didn't feel good? That's probably because you're giving it away to sell the products. AARGH. Are you still doing that? To make it worthwhile, you have to charge for the things that add value, the things that make a difference. And you're still giving it away? No wonder you aren't making any money. You often can't prevent products from becoming commodities. The very nature of services and software makes them the things that add value–they have to be priced that way!
By Dr. Reed Holden
Several months ago, I had to go to a local garden tool store and buy a few things. While I was at the counter ordering some parts, a woman came in with a chain saw. Her husband had been using it over the weekend and the chain came off. The counter guy looked at it and went through a lengthy explanation of how they were going to have to take the bar off, grind it, sharpen the blade. Bottom line, it was going to cost $75 to get it fixed. No problem for the woman.
All I could think about was "rip-off." When you work with chain saws, you learn pretty quickly that if you're working on hard wood or if there is a new chain, you have to keep tightening it or it will slip off the bar. When it does, it takes about seven minutes to remove the bar and reset the blade. I am sure that the store did the things they said they would do. But they were taking advantage of the woman.
Last week, I needed to have a chain saw rebuilt. It was old, the gaskets were dried out, and it didn't run well. I took it to this same store to get fixed, and boy, was I worried about getting hosed by them. I dressed up like I'd been in the woods for a few hours when I dropped the saw by and made sure he saw that I had a new bar and chain on. His quote for the work was only $60. I had made the segmentation cut (pun intended).
His "value trigger" was actually quite simple, especially if you remember the story about the woman. He asked if I wanted to get the saw blade sharpened but noticed that it was a new one. I asked him how much it cost to get it sharpened. "$15," he said. "I can buy a whole new blade for that," was my response. He smiled and said, "Well, it's only $5 if you take the blade off the saw."
Great segmentation schemes are simple so they can be implemented by a sales force. How many times have you wasted money and resources putting together a complicated system that hit the round file once it was given to the field. The first rule of business is KISS (keep it simple, stupid). This garden store salesman had one simple question that resulted in prices that both types of customers think are fair. What I thought was a rip off was actually an attempt at meeting the different needs of each customer. Me? Next time, I'll drop off a bunch of blades for sharpening. What do the Sopranos, ESPN Sports Center, and Flip That House Shows Have in Common?
Commentary by Mike Lawson
From “A La Carte Pricing for Cable Remains Elusive” Smart Money, April 2, 2007
Every industry is fascinated by bundles and the additional revenue they can bring, and the cable industry does it well. Most of us have over 100 cable channels that we can watch, but how many do we really need or watch for that matter? Given the customer profiles and typical channels watched, it appears that an a la carte pricing strategy would work well for the cable companies. Or would it?
From a business perspective, bundles are used to increase revenues and to encourage customers to purchase more than they would usually buy. If done correctly, bundles incent customers to pay a small amount more for additional products or services instead of paying high individual or a la carte prices. Also, bundles allow the selling company to group high- and low-value products/services to protect the value of higher-value products/services. However, bundles have a higher potential of failure if un-related product/services are in the same bundle.
This is the challenge for cable companies, but to be successful, they must bundle. Currently this includes grouping unrelated channels together to capture a larger share of the market. While this strategy has worked, it has come under intense scrutiny by consumers and regulators. If cable companies were to allow consumers to purchase cable channels a la carte or choose a group of 30 channels that they usually watch, I would bet they would ultimately increase profits and market share. Regulators would be happier and the subsidies that exist today for channels with a low number of viewers would go away. Sure, some channel choices would be eliminated, but it would be driven by what customers watch.
Reviews from Dr. Reed Holden
|
Archives
|
|
|
 |
