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Newsletters 2009: December | October | September | August | July | June | May | April | March | February | January
The Envelope Game: Moving Beyond the Rhetoric of Value | Negotiating Jujitsu | Akamai Serves up a Smart Price Cut? | Doing it Right in the Downturn | Good Reading!
The Envelope Game: Moving Beyond the Rhetoric of Value
By Reed Holden
Here is a new management exercise. Take five envelopes. In each envelope, seal either of the following: $1 bill, $5 bill, two $1 bills, $5 bill, restaurant coupon, and two pieces of paper. Gather five other managers in a room, and tell them that you're going to play a "sales" game. They are the salespeople, and you are the procurement person. Tell them that the envelopes contain things worth between zero and five dollars, and they have to sell the envelope to you without opening them.
Clearly the exercise will take a variety of directions, but you should be able to purchase the envelopes for a buck a piece. In fact, you might even get them cheaper, if you let the person who holds the paper in the envelope open theirs first. The points of the "Envelope Game" are the following:
This is exactly the game we ask our salespeople to play when we:
If your salespeople are frustrated with your prices or with how hard it is to sell, chances are you are forcing them to play the envelope game. Is it any wonder that you have high levels of frustration and turnover? How can you win at the game? You let them cheat by giving them a peek inside.
By Mark Burton
We spend a lot of time advising companies on how to implement Rule 8 from our Pricing with Confidence book “Build Your Selling Backbone.” While the logic of Rule 8 is straightforward, changing your approach to selling and moving to more even footing in you customer relationships is still a daunting challenge. The inertia against making the change is often enhanced by the fact that under-performance in sales negotiations doesn’t show up anywhere in the financial statements that Wall Street looks at. As a result, firms often go along to get along until their hands are forced by a compelling event. That compelling event often takes the form of increasingly aggressive procurement teams taking the reins at a number of key accounts. Once stable relationships become sources of anxiety and uncertainty as procurement people make the account teams feel like their offerings are commodities and that they have to compete for every nickel. The challenge is that most account teams are trained to react to whatever the customer says they want and to do a good job of delivering value. So when procurement starts working their magic, it feels like being taken through the looking glass: nothing is a given anymore, and customers act in ways that seem totally illogical. Here’s a little secret. The procurement game is illogical. One team (procurement) gets paid for lowering “spend” while another team (business users) is charged with creating value for customers. This can’t be done if everything is sourced from the low bidder. Where vendor account teams fail is in trying to own and resolve this internal, customer problem. The best negotiators see this and push the problem back on the customer. They respond to procurement’s stated desire to lower spend and then use back channels to let their business users know that they can’t deliver the same value at the price procurement expects. With a bit of negotiating jujitsu–employing balance–customers are forced to reconcile their conflicting objectives and reveal who is really driving the negotiation. Intentionally fostering customer conflict is a bare-knuckles tactic, but if you want to hold your ground on pricing, your teams need the skills, willingness, and support to do it. Akamai Serves up a Smart Price Cut?
Commentary By Mark Burton
From “Akamai’s More Powerful Than You Think,” TheMotleyFool.com,December 9, 2009
Is it ever a good idea to cut prices as much as 50%? The management team at Akamai thinks so, based on what they have been doing with their video delivery services. My guess is that their logic goes something like this:
On the surface, their logic is pretty compelling. The only stage of the market development cycle where is makes sense to use price to attract volume is during periods of high growth. We recommend that this strategy be used in conjunction with a stripped-down flanking offering as it protects high-value business. It appears that Akamai is addressing this issue by introducing value-added services that will effectively create a higher-end offering.
So will this strategy succeed? If the broader offering strategy is successful and Akamai is able to gain share from weaker competitors, it may be. If you do a simple break-even analysis, Akamai would have to increase volume in this area by up to 100% for the price cut to succeed on its own merits. There is nothing in Akamai’s own communications that indicates that this is likely over the next few years.
The important take away from this strategy at Akamai is that pricing can never be viewed in isolation. High-performance organizations understand this and ensure that pricing strategy is fully integrated with competitive and marketing strategies. The problem for many organizations is that pricing is often viewed as a separate discipline, with its own distinct set of resources. This may be fine for managing transaction prices, but it may actually preclude the kind of advanced thinking that is inherent in Akamai’s actions. Doing it Right in the Downturn
Commentary by Dr. Reed Holden
From "HP Gets a Boost from Services Unit," by Justin Scheck, The Wall Street Journal, Tuesday, November 24, 2009
While we're all turning blue, holding our breath, waiting for the turnaround, here are few worthwhile comments about a company that got it right, regardless of the downturn. Under CEO Mark Hurd, HP continues to improve as a company and does quite well, despite the global economic downturn. For the latest quarter, they announced a 14% increase in profit, despite continued pressures in several of their key markets.
For example, their PC business saw a 12% decrease in revenues, even with an 8% increase in shipments. That's an indication that price is being used to chase revenue when demand is down–a common problem in market downturns. They did continue their march to more global share in this highly competitive market by doing a better job on introducing new products and leveraging their distribution channel. Their main competitor, Dell, saw a 54% drop in profits at the same time their unit sales were decreasing 6.7%. HP saw a similar set of problems in their printer business, too.
Fortunately, HP has two things going for them that Dell doesn't. First, in the printer business, even when printer sales are down, customers need to buy ink cartridges. That cash machine hums, even in a downturn. Second, with the purchase of EDS last year, HP follows mighty IBM into more of a services model in their business.
The services focus accomplishes a number of important things for HP. First, as products become commodities, it is often the services which provide the opportunity both for differentiation and leverage. Those services are where the value is created and, when priced appropriately, can become another cash machine for a company. The problem that most firms have with services is that they give them away to support the sale of commoditized products. That then commoditizes the services and fails to leverage the value they bring to customers.
Rather than discounting services, it is often better to discount the products. A balanced organization that understands customers lets that happen. DEC did just the opposite, which is why they eventually were swallowed up by Compaq and ultimately, HP. The "balanced" approach prices to value and doesn't try to do a financial shell game to prop up poorly performing products.
Finally, those services provide the salesperson something they can bargain with. If a customer truly wants a low price, just take the services away. When the customer complains about that, then you know you're playing better poker than they are. That's why HP's services profits are 48% in the quarter–and that's before some of the major cost improvements they're expecting from the EDS integration.
Even in a downturn, it's possible to use effective product, service, pricing, and sales approaches that minimize the damage of the downturn and the competition that follows. It is a fine balancing act sometimes, but if a giant like HP can do it, it's something we all should be looking at, too!
The Clash of Technologies is a Good Price War | Data is Valuable, Judgment is Priceless | Price Discounting Does Work—At the Right Time | Walking the Talk
The Clash of Technologies is a Good Price War
By Dr. Reed Holden
Data is Valuable, Judgment is Priceless
By Mark Burton
I just returned from the Professional Pricing Society’s annual fall conference. While there were a lot of interesting presentations, one thing struck me. Pricing professionals are getting very good at generating data–a lot of data. Much of this data is essential. Rule 1 in Pricing with Confidence is about kicking the discounting habit. You can’t do this without understanding which customers are getting what concessions and why. Also understanding the nature of demand and price elasticity in your markets helps inform decisions about pricing strategy.
With all of the data that we generate, do we actually drive sustainable improvements in revenue and profits? Is data enough? I also worry that when dealing with poorly informed senior executives, presenting volumes of pricing data has perverse consequences in that it reinforces a “black box” image of pricing. This image is hard for many executives to get past and so they maintain a convenient mental model of pricing as a tactical tool to drive quarterly revenue performance and close deals.
The key to getting out of the box is to take a strategic view of pricing that is supported by well-selected analysis and presented in a simple manner that a senior executive quickly grasps. Focus on defining the relationship between demand at an aggregate level and industry price levels, the price-value positioning of your offerings versus key competitors, and the effectiveness of discounting activities. These are usually enough to tell your pricing story and get an executive commitment to improve. In addition to making pricing more strategic, this approach has an unexpected benefit–it doesn’t require an army of expensive young consultants camping out at your office to develop and support. Price Discounting Does Work—At the Right Time
Commentary By Dr. Reed Holden
From “Restaurants Dangle Cheaper Drinks but Risk Watering Down Their Profits,” By DAVID KESMODEL and JULIE JARGON, The Wall Street Journal, September 29, 2009
Commentary By Mark Burton
From Monsanto Company F4Q09 (Qtr. End 08/31/09) Earnings Call Transcript,
Effective pricing communications is one of the most difficult and essential tasks that an executive has to tackle. Unfortunately, despite the rewards for doing the job right, many executives punt and take the easy way out. This enables them to “keep their options open” (act as discounter in chief) and avoid the hard work of implementing and sticking to a real pricing strategy.
One executive that is willing do this hard work and walk the talk is Hugh Grant, CEO of Monsanto. While we have criticized him in the past for a statement he made about holding the line on pricing despite signs of a price war (and thus inviting competition to attack using price), the fact is that this was a rare occurence, and as it turns out, a relatively minor misstep. For proof, look no further than Monsanto’s Q409 earnings call.
This is from Carl Casale, EVP and CFO. “As I just mentioned every financial and operational choice we make should drive farmer profitability. Embedded in our growth rates for seeds and traits is the underlying belief based on our technology, that we have created more value then we have priced for and that irrespective of the swings in commodity prices, the farmer should receive a positive return on the investment from the use of Monsanto seeds and traits... This pricing conversation correlates to my second tenant. If we succeed in increasing grower profitability our execution then drives our earning growth.” Yes, the CFO. Let me say that again. THE CFO is explaining how value-based pricing works at Monsanto.
Hugh Grant then explains Monsanto’s pricing philosophy. “We priced our Roundup Ready 2 Yield against the incremental yield that we deliver so we’re not pricing it against the competitor’s offerings. We’re pricing it against the new bushels that we deliver on farm and that’s the deal that we have with the grower and if we’re successful in delivering those incremental bushels, it’s going to be a significant product. But that’s been our pricing philosophy…”
“I’d look at two ends of our portfolio, one end is SmartStax on 200 bushels per acre corn and a 10% yield improvement and if you take last week’s corn price at $3.50, that’s a 20 brand new bushels at $3.50 is $70 of value and that $70 of value times three acres in a bag more or less is $200 of brand new value.
So whether its last week’s price of $3.50 or today’s price of $4.00, or the doom and gloom pricing of $1.95 there’s a very positive economic return at that far end of the portfolio…”
And on the balance between pricing and market share, “So in a world of (flat share) I feel really good because we priced for the value that we deliver and that was a tough call, but it was the right thing to do given the technologies that are coming and we increased our technology penetration in a difficult market.”
There isn’t much analysis that needs to be added to these words. Monsanto has achieved the ultimate objective for pricing–using it as a tool to continually increase both revenues and profits. Newsletter: September 25, 2009
Pulling Pricing Back from the Brink | Conditions are Right for a Pricing Death Spiral | The Fairness of Fees | Good Reading!
Pulling Pricing Back from the Brink
By Dr. Reed Holden
This has been the worst recession in my lifetime. Activity in many business segments continues to be slow. While there are signs that we may be at the bottom (why is that suddenly a good thing?) unemployment continues to rise. Most companies are continuing in the survival mode. They're cutting expenses to the bone. Capital projects are on hold. Price discounting is used to keep the sales people busy or the plant active. Companies are cutting prices where they have to and trying to hold when they don't. We're all looking for the light at the end of the tunnel, but we aren't sure what it will look like or when it will come . I honestly don't think the worst is over. Yes, the recession might be over, but there are a lot of companies out there, big and small, that are on the brink of extinction. They got there because they didn't move fast enough to cut costs and inventory going into the recession (think GM and Chrysler and lots of technology/capital goods companies). When the recession hit, cost cutting wasn't going to be enough, so they dramatically discounted their high-value products to grab the little market share that might still be there. Others, like United and the freight companies, implemented unreasonable fees and alienated their loyal customers. When the economy does grow again, these companies are going to quickly run out of cash and have a questionable business case with the banks and investors–an already skittish group.
There are companies that have survived during the downturn quite nicely. I wrote recently about Oracle, once the poster child of discounting. They've made quite a few good acquisitions at low prices and rebuilt their value and pricing power. And they've leveraged both with good success. Ford has gotten more customer focused and is beginning to see demand pick up in their popular models. Cisco has held prices, continued to innovate, and will be in fine shape when the global economy begins to rebound. Microsoft will do just fine–especially with their new pricing and product strategy rolling out in several weeks. They're introducing a value-priced flanking brand of Windows 7 and seem to have a good handle on getting customers to upgrade to the more functional suite of products.
A question for us all is: what should we do in anticipation of the upturn that everyone seems to be talking about? Here are a number of things to think about:
Good pricers and leaders look ahead in the business cycle. In upturns or in downturns, that's true. It's a bit like walking a tightrope–you have to be ready to react, but sometimes it's just good to stay in balance. If you don't, it's a heck of a fall. Conditions are Right for a Pricing Death Spiral
Commentary By Mark Burton
From “The Great Trust Offensive,”BusinessWeek, September 28, 2009
In Pricing with Confidence, Rule 4 is focused on playing better poker with customers. In discussing Rule 4, we point out the critical role that trust plays with both relationship and value buyers. Our research found that there were two major drivers of price-buying behavior. The first is the size of the company. The second? The level of trust in both the selling company and salesperson. In short, if your customers don’t trust you, they are far more likely to engage in price-buying behaviors and be far more aggressive at the negotiating table.
The BusinessWeek article ominously points to some serious troubles for American business in the area of trust–and the implications for pricing power are significant. “Polling in recent months shows that increasing numbers of consumers distrust not just the obvious suspects—the banks—but business as a whole. In a phone survey conducted from May 26 to July 3 by public relations firm Edelman, only 44% of Americans said they trusted business, down from 58% in the fall of 2007.”
While the research focused on consumers, you can bet that when these consumers put on their suits, go to work, and become your customers, their attitudes don’t change significantly. Mix in weak demand that makes many executives anxious for business-on-almost-any-terms, and you have a recipe for a pricing death spiral. Companies need business, so they are willing to negotiate ever-steeper discounts. But negotiating prices on supposedly high-value offerings makes it obvious to customers that any initial prices they are given are not to be trusted. This in turn undermines loyalty and increases price-buying behavior.
This vicious cycle is why pricing integrity is so critical. The actual costs due to increased customer churn and spread of the price negotiation virus are likely orders of magnitude higher than measurable discount dollars. Leading marketers like Proctor and Gamble, American Express, and Starbucks see this, which is why they are engaging in systematic changes to prices and focusing on trust in their marketing messages and interactions with customers. Does your organization understand the cost of eroding customer trust? Do you have a plan to build trust to grow profits?
By Dr. Reed Holden
I've been struck by fees over the past month of traveling and think it's worthwhile to make a few comments about the pesky things. Fees can be effective facilitators of increased profits. But they can also drive customers to switching to another vendor and higher-price sensitivity, if not used carefully. There is a balance between excessive fees and fair ones that pricing professionals and marketers need to be aware of.
Last year, we moved our business and personal banking accounts to a local bank, due to two things. I started the move when the big bank we were working with started charging me a fee for a monthly wire transfer. The fee was just $15, but I kept the right minimum balance in my accounts and was a good customer. It just didn't seem fair. I knew that it didn't cost them anywhere near that much to handle the transaction (it's all electronic anyway). I met with the branch assistant manager, and he said that he couldn't waive the charge. At the same time, we were also getting mediocre to low service on our business account, so we moved all accounts to a local bank where we are dealing with a VP Branch Manager, who had been in the position for quite a few years. We now get great service and fair fees.
What's the message? Fees can cause loyal customers to switch when they are perceived as not being reasonable. What is reasonable? Security fees on airline tickets are reasonable, because of all that security we see at the airport these days. Plus, all the airlines charge the fee. Fuel surcharges when gas prices are high are reasonable, but they're not when the price of gas goes down. We rejected several moving quotes this year, because they were still charging the fees, even though the price of gas had dropped more than one dollar.
Baggage charges for the airlines appear to be reasonable, because of the handling of the baggage. Plus, they often get charged to vacation travelers, who are not high value, loyal customers of the airlines. Me? I never check luggage. Even if I did, it would probably be on American, and they waive the fee for their loyal customers. That's effective use of fees.
Recently, I have been flying on Northwest (now part of Delta), because they are the only direct flight to a new client. Northwest has a fee of $20 for a better seat–a lot like Jet Blue. On last week’s flight, I noticed that they only had one regular seat for no extra fee. It was way in the back of the bus and a middle seat. So, I paid the fee for an aisle seat up front. It was worth it, because the aircraft was packed. If it hadn't been packed, meaning that the airline was not showing available cheaper but still better seats, I would have switched to American and taken the hop through Chicago. Not the case here, and I felt the fee was fair. We had to change flights and had to pay a $50 change fee–again. Fair? Yes, but I'm feeling a little nickel and dimed by these guys. If the fees continue, I'll probably say the heck with it and start doing the indirect on American. Do you get the picture here? Even though we have a client paying the charges, I'll still switch, because I don't think it's fair!
Southwest has begun charging a $10 fee for those people who want to get to the front of the line. For business people, it means a front row seat, a guaranteed place for the luggage, and first off at landing–not a bad deal. That's a well chosen fee for a target market of people who will be willing to pay the fee and think it's fair. I do wonder what the impact will be on people who are the casual traveler. Will they get angry when people pay to cut to the front of the line? It should be interesting.
The bottom line is that fees are an important consideration for companies that are looking for ways to increase profits and charge for special services. Whether to a general population or to specific segments, when those fees are viewed as fair, they are effective ways to call out the special features and services that customers can receive, if they want to pay. When fees are viewed as unfair by an increasing percentage of the population, however, they can cause increased switching and a declining population of loyal customers–something that has to be monitored over time. Yes, it is tricky, but if properly managed, fair fees work and can be a significant boost for profits.
By Reed Holden
Raising a Glass to Better Pricing Communications | Is Abercrombie Violating the Second Rule of Pricing Strategy? | The Customer is Not Always Right | Starbucks Doesn’t Panic – Changes Pricing Systematically | Good Reading!
Raising a Glass to Better Pricing Communications
By Reed Holden
Pricing communications is about using public (AKA, legal) communications to advise "constituents" about your pricing intentions. It is about sending those intentions to three primary groups–customers, competitors, and salespeople. Note that it is not legal to communicate directly with competitors about pricing, since it represents collusion in the eyes of the law. But it is perfectly legal to communicate your intentions in an open channel such as the press–it's done all the time, despite what your overly conservative legal department might say. By the way, if your legal department has concerns about price communications, the law firm Freeborn and Peters has specialists that can offer advice.
In mature markets and bad economic times, your objective should be to achieve a stable competitive environment, since price wars will cause sales to drop and profits to disappear. The way to achieve that is to a) test that your competitor is rational, b) signal to the open market (and that competitor) that you are going to raise or stabilize prices and c) hope that the competitor follows. If they don't, it's usually a good idea to send a shot across their bow by dropping a low-price quote to their largest customer knowing that they might have to match it. Risky? Sure, but to succeed with pricing in mature markets, you've got to take a proactive stance to your communications and pricing tactics is to achieve stability.
As an example, MedAssets "help(s) hospitals develop defensible pricing strategies through Web-based technology and consulting solutions that improve profitability and offer pricing transparency for consumers, choosing where to spend their health care dollars." What they really do is help hospitals develop better pricing communications systems by doing two things. First, they encourage the hospitals to establish a solid pricing strategy and to make the subsequent prices "transparent." That is, the prices have to be fair across all patients so that the patients perceive them as being fair and makes them more likely to select that hospital for a procedure. This approach reduces price negotiations in both BTB and BTC environments.
Second, MedAssets shows the hospitals how to justify those prices by communicating about all of the things the hospital does to increase safety and the quality of care, thus positioning the prices as being fair (notice how the word "fair" keeps coming up?). Finally, though they don't say this in the article, the communications sends a message to other hospitals that a "bomb them back to the stone ages" price war doesn't do anybody any good. Bottom line–MedAssets helps hospitals develop a better pricing communications system resulting in more stable prices.
Along these lines, the global consolidation in the brewing industry has helped to stabilize competitive prices for beer in Europe in the United States. Over the past few days, there has been a foaming series of press announcements from the major brewers–InBev/Anheuser-Busch, MillerCoors, and Heineken to name a few, that they're all going to raise prices. The price increase comes, despite the declining volume in beer sales (not my fault!) due to the global economic downturn. It's an indication of two things. First, the consolidation in the beer industry is helping to stabilize profits and revenue in the industry. Second, the companies that are doing the consolidation have great pricing managers who understand how to leverage pricing power and use great pricing communications to do it.
So, the next time you're at the bar bemoaning how hard pricing is in your company, raise a glass to good pricing firms that have great pricing communications systems to improve profits, regardless of what the economic times are. Don't worry, you'll get there some day. In the mean time, enjoy! Is Abercrombie Violating the Second Rule of Pricing Strategy?
Commentary By Mark Burton
From “Skimpy Profits Pressure Abercrombie's Pricing Attitude,” The Wall Street Journal, August 14, 2009
It is easy to make pricing more complicated than it really is. This is particularly true with pricing strategy. There are only three strategies (skim, penetration, and neutral) and only two rules to live by. The first rule of pricing strategy is–you have to have one. Sounds obvious but most companies don’t. While they may make significant investments in processes and technology to control discounting, pricing without a strategy is like a runaway train–sooner or later, it’s going to go off the rails, which brings us to the second rule of pricing strategy. Once you have one, be prepared to change it in accordance with substantial shifts in the nature of customer demand and the competitive environment.
In the past, we have held retailer Abercrombie up as a great example of an organization that understands and plays by the two rules of pricing strategy. Last fall, while other retailers were running panic sales to dump inventory, Abercrombie CEO Mike Jeffries made it very clear that they would not follow suit. In a January earnings call, he offered up the following, unambiguous statement. “We believe what drives in store traffic is a fascination with what we do in store, and that is made up of an in-store experience that is second to none and compelling fashion. That’s how we drive volume in the stores. We are not promotional and will not be promotional.” Strong stuff–and we admire CEO’s who focus on value and positioning and recognize the critical role that pricing discipline plays in maintaining them.
Jeffries gets high marks for adhering to rule 1. The question is whether he is ignoring rule 2. In sticking with a premium pricing strategy during tough times, Abercrombie has seen 30% sales declines at stores open at least a year in each of the first two quarters. This is a sure sign that its time to reconsider their strategy. "They don't want to destroy the brand positioning that they have, which is the cool shop in the mall," says Marie Driscoll, a retail analyst at Standard & Poor's Equity Research. "But cool is changing. And part of cool now is value." Time will tell if Jeffries is a visionary or whether by sticking with a pricing strategy for too long he is violating the first law of holes–once you find yourself in one, stop digging. The Customer is Not Always Right
By Reed Holden
We've been working with a number of firms in recent months that have one trait in common–they are too accommodating with customers. They do a great job listening to and solving customer problems. Their service and support people are responsive and always get the job done. Their technical people do a great job making sure the products and services work. Each of these companies read the book on customer satisfaction and make sure that all of their people know that their job is to satisfy customers.
The problem is that few of these companies make a good return on these efforts. Their profits are low. Miserably low. Why? Because the customers, who love the products and services, really appreciate the support, and are glad to be buying from those companies, have turned procurement over. The purchasing professionals have learned that when they negotiate hard, prices will fall–even for high-value goods and services.
It doesn't do us any good to service our customers well if we aren't going to get paid for it. Good pricing is all about understanding our value and subsequent pricing power. A procurement professional’s job is to get us to forget that. Their goal is to convince us that there is no value and to get us to panic and drop prices. Our job as pricing and sales professionals is to understand when that is happening and stick to our guns and show them that the value is real and that our prices are fair.
Customer orientation is good to a point, and the point that it stops is when we don't get paid for the services we perform for customers. Good sales people do understand that and take certain services away when customers don't want to pay for them. That is good negotiating. That is playing the game that procurement people play. We have to learn to play it at least as well as they do. Now, if we could just get our senior executives to learn to play the game as well too! Starbucks Doesn’t Panic – Changes Pricing Systematically
Commentary By Mark Burton
From “Starbucks Raises Some Prices,” The Wall Street Journal, August 21, 2009
When most organizations find themselves under increasing economic and competitive pressure, they inevitably pull the pricing lever in a panicked attempt to reestablish some sort of business equilibrium. Of course, the results of panic pricing only make things worse–and the feeding frenzy of discount-hunting customers gets worse.
One characteristic of firms that doesn’t fall into this trap is an intense awareness of and focus on positioning in the minds of customers. Despite all of their recent troubles, Starbucks still meets this criterion. Yes, they should have been better prepared for the threat posed by McDonalds and they certainly could have responded more quickly to the impact the economy would have on sales of up-market coffee. But now that they are responding, they deserve credit for their approach.
Instead of offering up a bunch of desperation specials and promotions to see what would stick, Starbucks has made systematic changes to their entire price menu, which includes a balance of price increases and decreases. Their changes are also supported by a simple rationale–larger, more complex drinks get an increase, while smaller, simpler drinks will see decreases.
Too often, we let emotion (particularly fear) drive decisions to change prices. As a result, many organizations fool themselves into thinking that an incremental, case-by-case (read heavily negotiated) approach is the way to go. What Starbucks has done is a far superior approach. It is systematic and thus preserves pricing and brand integrity. It is also backed with a very simple justification. Nothing fancy, just common sense.
By Reed Holden
Pricing Power: Dell Declines and Biogen Grows | Like Bobbing for French Fries… | Pricing Potpourri | Pride is Not a Strategy
Pricing Power: Dell Declines and Biogen Grows By Reed Holden
Like Bobbing for French Fries…
Commentary By Mark Burton
From “Restaurants Burned by Deep Discounts,” The Wall Street Journal, July 15, 2009
Here we go again. Leaders in yet another industry that should know better, panic and pull the price lever in a futile attempt to increase business. Guess what? It hurt performance. Several leading restaurant chains resorted to give-aways and discounts in an attempt to drive traffic. Now that second quarter earnings are starting to roll out, the damage done by this stratagem is becoming clear. An example is Pizza Hut, which saw same store sales fall by 8%, despite offering discounts for online orders and a variety of other deals. As we have said before, when demand is sidelined, there is rarely a price that is low enough to bring it back. Discounting key offerings in the vain hope that something good will happen not only destroys profits now, it also weakens brand perception and pricing power when things finally turn around.
There are really only two approaches that will help now and set firms up for the future. The first is to simply hold the line on prices and aggressively manage costs. This is what Darden Restaurants, the owner of Red Lobster, Olive Garden, and The Capital Grille is doing. The second is to offer low-priced flanking products. This is what Quiznos has done with the introduction of the $4 Toasty Torpedo and $3 Toasty Bullet sandwiches. In the second week of the Torpedo’s launch, sales were up 26%. "It was a product designed to be sold at $4, which is different than taking an existing menu item and discounting it down," Quiznos Chief Executive Rick Schaden said in an interview. "Discounting items that weren't designed to be sold at lower prices isn't sustainable and will hurt earnings." Put another way, panic discounting is a lot like putting your face in the fryolator and bobbing for French fries; painful and futile.
By Reed Holden
Comments on Selected Articles
Commentary By Mark Burton
From “Weighing the Price and Value of Colleges,” The Wall Street Journal, July 16, 2009
Conventional wisdom holds that colleges and universities don’t compete on price. And on the surface this appears to be true. For as long as many of us can remember, college administrators have defined a peer group of other schools. They carefully monitor these peers and adopt a neutral pricing strategy by keeping tuition closely grouped.
A neutral pricing strategy can be extremely difficult to maintain. It requires close monitoring of the competition and anticipation of how they might react to changes in market conditions. Since tuition information is publicly available, this would seem easy for higher education. If we dig a little deeper, we can see that is not the case. While colleges and universities don’t directly cut tuition, they do cut deals to attract particular students. Savvy students and their parents have learned how to play poker to earn scholarships, grants, financial aid. Let’s face it; these are just discounts with polite names.
As the article describes, the pressure on prices is only increasing as financially stretched families question the value of a $50,000 per year education at a private college versus much more reasonably priced alternatives. We expect that the already weakened connection between “list prices” (tuition) and net prices (after “financial aid”) will continue to grow. This is how the price integrity of an apparently strong industry gets destroyed.
Despite the obvious evidence that they have a problem, administrators have been reluctant to lower tuition. They don’t want to be seen as offering a cheaper product than their peers. Well, as the saying goes, price goeth before a fall. Instead of taking action, they are showing signs of getting hooked on the discounting habit. What is the alternative? Differentiate from peers, make the criteria for earning discounts clear, and restore the integrity of tuition levels. Will this happen? We’re not sure, but we hope so. It’s not an understatement to say that our national competitiveness may depend on it.
Pricing Kudos to Two Industries | Apple Takes a Bite Out of Pricing | Are You Commoditizing Your Products? | A Great Value Story | Good Reading!
Pricing Kudos to Two Industries
Apple Takes a Bite Out of Pricing
Commentary by Mark Burton
From “MacBook Price Cuts Highlight Tough Choices for Apple as Growth Slows,” Wired.com, June 11, 2009
As we discuss in Pricing with Confidence, there are two things about pricing strategy that are really difficult–establishing a pricing strategy and making necessary adjustments to your strategy to reflect changes in market conditions. For many companies, just establishing a pricing strategy that everyone can agree to and support is too big of a hill to climb. This is extraordinarily unfortunate, since firms that do manage to make this transition often have adjectives like “market leader” appear just in front of their names.
For a prime example, look no further than Apple. With their line of computers, they are well-known for pursuing a skim pricing strategy by maintaining prices that are at the high end of the range for each performance level in their offers. Their willingness to stick to this strategy, even as the economy weakened, opened them up for much criticism from analysts and even in a recent advertising campaign from rival Microsoft.
Well, Apple isn’t as blind or pig-headed as they have been portrayed. They have lost some share over the past few quarters, particularly because of the emergence of low-cost netbook computers. As a result, they have responded the way great pricing organizations do–systematically and in a way that is consistent with their purpose for price.
To maintain competitive position, they recently announced price cuts on their MacBook notebooks. There are a couple of important things to note about how they did it. First, they maintained their entry-level price point of $1,000. Second, the cuts are skewed towards their premium products, thus highlighting that they don’t view netbooks as direct competition. Finally, they left plenty of margin in the price, each model demonstrating their purpose–to maximize unit margins. This is why a skim pricing strategy was and still is appropriate. It all fits together–if you have a leadership that understands how to meld competitive, marketing, and pricing strategies into a cohesive whole. Are You Commoditizing Your Products?
By Dr. Reed Holden
We were at a client's office recently meeting with their senior executives. One of them was talking about how their existing offering was a commodity. I remarked that if toilet paper isn't a commodity (it isn't), then their offering certainly wasn't one either. It has extremely high value to their users and their method of delivery and support added value as well. He agreed and has quite quickly dropped the use of the term.
There is a lesson in that discussion for all of us. The term "commodity" is something used by purchasing agents and procurement professionals to undermine a seller's pricing power. Their agenda is to short-circuit any discussions about the value of your products and services. It is an act that is intentionally designed to make you think that your products and services have no value.
The problem is that salespeople hear the term commodity so much that they start believing it. Then the customer service people believe it and eventually the senior executives believe it. When everyone believes that your products and services are commodities, you have no pricing power. How about you? Do you use the term "commodity" freely in your discussions with your people? If you do, you're undermining your pricing power.
Here's a bit of advice: STOP USING THE WORD COMMODITY!!!!
People use your products and services because they value them. They don't think they are commodities, because they have chosen to use them. That is a fundamental fact of doing business. Just because a buyer who has an agenda to get a lower price uses a term like commodity doesn't mean they are right. In fact, we find that in most cases, they are wrong.
If you need to, go out and talk to your real users and find out what they like about your company. Find out how they value the things you do. They'll tell you. They will be glad you asked. Then, go back and insist other executives stop using the word, too. When anyone–ANYONE–uses the word commodity, stop and tell them that a) your products and services create high value for your customers and b) using the word commodity to describe them undermines perceptions of value with your salespeople and your customers.
In the book Pricing with Confidence, we use the example of how the executives from a dirt company realized that they weren't selling a commodity. We use that example because if dirt isn't a commodity, then virtually nothing is. We use that example because too often we hear the term commodity from high-value technology, software, medical equipment, and financial services executives. The sad part is they honestly believe that commodity really does describe their products and services.
So start being a value leader in your firm. Stop using the term commodity. When other people use it, tell them why they are wrong. If that doesn't work, go to the local pet store and get one of those shock collars and start making some of the senior executives wear them–that will work.
By Dr. Reed Holden
Jeff Kaplan, Managing Director of Thinkstrategies, has a recent blog that tells a great value story about software provider Concerro. Concerro uses a SaaS solution to "reduce the amount of monies spent on premium labor" for its client hospitals.
Are Competitors Chipping Away at Your Edges? | Globalization and the Implications of Cheap and Ubiquitous | Building Credibility as a Pricing Manager (Director or VP!) | Price Signals Drive Investment Decisions | Good Reading!
Are Competitors Chipping Away at Your Edges?
By Dr. Reed Holden
In good economic times, marketers need to be constantly aware of the competitive forces that put pressure on revenue, share, prices, and profits. That only gets worse in downturns. Sellers need to monitor competitors’ movements and prepare appropriate responses. 3Com builds, among other things, network switches. That puts them right up against mighty Cisco. Fortunately, 3Com's switches are built in partnership with a Chinese firm and are much less expensive than Cisco models.
Since customers are under tremendous cost pressure, 3Com President, Ron Sege, sees the current downturn as an opportunity to sell more of their cheaper switches. He knows that cost-conscious customers will be more willing to try 3Com's offering. And once they see that the quality is good, they will keep buying them, even after the current recession turns around.
Here is a company that is going to benefit from having an offering positioned at the low end of a market, and their timing appears to be good. The question I'd like to focus on is what should Cisco be doing about another competitor "nibbling at the edges" of their market dominance?
First, Cisco is aggressively innovating in areas such as video conferencing to both grow their business and expand their presence in the technology space. This fits right with our "innovate for growth" concept. They have and will continue to rely on both internal R & D and acquisitions to accomplish that objective. Cisco has and continues to do this quite well.
Second, and of equal importance, Cisco managers need to make a conscious and strategic decision of how they want to meet 3Com's move closer to their space. One thing they don't want to do is discount higher value products, since that would undermine the high-value position that they dominate. They do need to decide if they want to ignore 3Com–that will be determined by the relative shares that each holds in the lower-value segment and the risk that the higher-value segments can deteriorate to lower-value offerings. At some level of share and deterioration, there is a "tipping point" that will show if there is a need for Cisco to develop a specific product in response. Several years ago, Cisco acquired Linksys to expand their position in low-end routers. The big question is whether this will be enough to blunt 3Com's move. It certainly says that the guys at Cisco are paying attention to the right things.
The important point is that successful competitors need to a) continually assess where that inflection point is, b) determine when a segment is there, and c) proactively have products and services ready to introduce when they reach it. Having competitors "nibbling at the edge" of your business is a fact of life in both good and bad times. The real risk is in the decision of how to respond. It is rarely a good move to respond solely will price. It is a good move to be constantly assessing when and how to respond to a "nibbling" competitor, and it is usually with a flanking product. Globalization and the Implications of Cheap and Ubiquitous
Commentary by Mark Burton
From “Good Times for Cheap Cell Phones and What the Nano Means to India,” BusinessWeek, May 11, 2009
As if developing and managing a coherent product line and pricing strategy were difficult enough these days, here comes another game-changer. It’s embodied by a simple phrase: “cheap and ubiquitous.” As local firms in developing economies hone their abilities to produce goods of acceptable quality at low prices that drive adoption by the less affluent masses, they are developing the capabilities that will make them formidable competitors in wealthier markets such as North America and Europe. And just like when the Japanese broke into markets from automobiles to copiers, many American companies are going to be unprepared.
A quick browse through a recent issue of BusinessWeek loudly brought this point home. On page 28, one can read how local Chinese telecom equipment manufacturer ZTE “has come out of nowhere to become the world’s number 6 maker of cell phones.” While focusing on the low end for their local market, ZTE has built enough marketing power to start attacking more established markets. At the same time, long-time leaders, such as Motorola and Sony Ericsson, have imploded, leaving a huge opportunity for ZTE to leverage its low-cost position to become a real threat.
On page 60 of the very same issue, we read about how Tata’s cheap and ubiquitous $2,000 car, the Nano, has generated such excitement that customers have to enter a lottery just for the right to buy one. While the Nano is certainly unacceptable for western markets, it will only be a matter of time before Tata too leverages its developing capabilities to attack entrenched competitors in established markets.
The moral of the story? Most companies are genuinely afraid of developing low-cost flanking products that better enable them to compete for the business of price-sensitive customers. The rationale is usually some combination of fear of cannibalizing existing products and concerns about not meeting corporate margin targets. Here’s the problem–the age of ubiquitous and cheap is coming in everything from to consumer and industrial goods to electricity, and the firms that aren’t prepared will suffer mightily. As I wrote in my blog, one firm that seems to get this is General Electric. Their healthcare business just announced a $3 billion dollar investment to develop low-cost medical imaging and diagnostic equipment. They are clearly preparing for the world of cheap and ubiquitous. Is your firm doing the same? Or will you look back five years from now and wonder what the heck happened? Building Credibility as a Pricing Manager (Director or VP!)
By Reed Holden
Over the past few months, we've spoken to a number of pricing managers who are really struggling to improve the profits in their respective firms. They are frustrated and feel like they're "beating their heads against the wall." Yet in many cases, it appears they're doing the right things. They're putting in better pricing controls, and they're working with the sales force on better value positioning, to mention just a few activities. Yet, for some reason, it doesn't seem to be working.
We've also spoken to a number of pricing managers who seem to be getting the job done. They've gotten ahead of the need to develop positioning statements for the sales force, and they've worked with sales and marketing to make sure that excessive goals aren't driving pricing and profits down. They've worked with senior executives to make sure they aren't falling prey to desperation pricing–especially at the end of the quarter.
It struck me that what distinguished between those two groups of managers is that the effective pricing managers have credibility in the organization. When they spoke, people listened. They were viewed as effective managers who could drive better pricing practices throughout the firm. No, they weren't viewed as perfect, but they were viewed by senior and junior executives alike as someone who should be taken seriously, for the good of the firm.
Pricing managers who aren't credible are frustrated that people don't listen to them. This gets in the way of executing effective pricing. That's too, bad because effective pricing is what saves jobs during a recession. Effective pricing focuses on holding on to each an every profit dollar that can be eked out of this struggling global market. It makes sure we aren't sacrificing profit dollars for a sales- or market-share goal. It makes sure salespeople are selling rather than discounting, and it makes sure that our costs are in line and are being viewed properly when it comes to setting price.
That leads me to five bits of advice for pricing managers who are frustrated by their lack of credibility:
This is not a complete or exhaustive list but it is a start of things to think about to get the focus you need outside of pricing function to get the profit job done in the firm. Unfortunately, it doesn't happen overnight. The credible pricing managers we know have taken years to develop the credibility they need to get the job done. If you already have credibility, go for it–think big and bold. If you don't, try a few of these ideas, and you'll be on the same road that the ones who already have credibility have walked. It took them time and patience, but it did and does work. Good luck. Price Signals Drive Investment Decisions
By Mark Burton
At the recent World Business Summit on Climate Change, more than 500 business leaders called for certainty on targets for emissions of greenhouse gases. While this development is interesting in and of itself, what is most interesting for pricing professionals is the reasoning behind this call. Business leaders want government actions that will lead to a “clear price signal” and thus enable investment in innovative technologies to boost energy efficiency, reduce CO2 emissions, and enable the growth of new industries.
Separate and apart from the issue of climate change, think about what these business leaders are saying about the importance of pricing. First, they are trying to get a fix on the price of the competitive alternative–in this case, carbon-based energy sources. Second, they are saying that environments marked by pricing volatility increase business risk–and decrease their willingness to invest in new products and services.
What they are talking about is the linkage between pricing strategy and execution and business strategy. The problem is that many executives either don’t understand this linkage and/or don’t know how to run a business that maintains it. This is where pricing professionals come in. If you aren’t on a personal mission to make strong management of firm and industry pricing performance an essential element in business strategy formulation, you are literally limiting the capacity of your organization to grow and develop new businesses. Too often, pricing managers get frustrated, because they don’t get a say in major decisions that have huge implications for pricing. Yet the strongest do. They get an audience because they are effective in communicating about concepts like market price signals and their linkage to strategic options.
Truer Words Were Never Spoken | Pricing Strategy Should Be Easy | The Revenge of the Brands | The (Da Vinci) Code For Better Pricing | Good Reading!
Commentary By Mark Burton
From “The Customer Doesn’t Know Best; You Do,” Adage.com – CMO Strategy, Anne-Marie Fink, April 9, 2009
It is often tempting to blame the pressures that “The Street” puts on CEOs for short-term results as a principle driver of short-term and foolhardy pricing decisions. The flaw in this logic is that it’s not always Wall Street that’s the problem–it’s the way executives manage and/or react to The Street’s expectations. Desperation discounting to hit a quarterly number sounds like investors are pressuring the helpless management team to do something unreasonable. In many cases, this is not true. The real issue is how the number got set to begin with–not that the investment community takes a firm’s pronouncements seriously. Executives put out unreasonable numbers, use discounts to try to hit them, and then get whacked by The Street for messing up. The problem is self-inflicted.
So when a Vice President at JP Morgan publicly takes companies to task for not resisting the pressure to discount, we can say, “Maybe, just maybe, there is a (pricing) God.” Anne-Marie Fink of JP Morgan gives the following advice.
What is she really saying to the executives of the companies that she invests in? “Ladies and gentlemen, run your businesses carefully and like adults, and I will invest.” She is also astute enough to know how important an indicator of a well-run business price is. There is a (pricing) God–really! Pricing Strategy Should Be Easy
By Dr. Reed Holden
Perhaps you have noticed that Mark Burton and I have been writing more about pricing strategy these days. That's because managers, pricing or otherwise, continue to focus on developing better pricing tactics through software, systems, and analytics. There is nothing wrong with these activities, but they do need to rest on the foundation of good pricing strategy. This is critical to ensure that the tactical work is being put in the right places–where there is the most effective return for the firm. Without good strategy, the tactical work can go to waste, leaving a lot of money on the table. We're both concerned that there isn't enough focus on the strategic issues of price.
An example of good pricing strategy is what Microsoft is doing with the introduction of Windows 7 in the fall. Its top features will be simplicity and ease of use and won't contain "new bells and whistles." Priced at $15, a fraction of the full-featured version, Windows 7 will not support fancier monitors and will support only a limited number of programs at once. It is intended for the fast-growing sub-$500 market of laptops. This market has been controlled by Linux. Microsoft's 2008 share of this market was a paltry 10%. Since then, Windows has picked their share up to 95%, and the Windows 7 introduction will extend that dominance. The $15 price helps them expand the "footprint" of the firm into lower-priced, faster-growing segments, without upsetting their current cash machine of the $70 product in the above $500 PC segment.
If users want to expand to the full-featured version, they just put in their credit card number. There is some concern that this will alienate some users. We think it will be better to have a dominant share and risk some level of alienation than having a small share and not alienate people. It's really a no-brainer. We have to give kudos to Microsoft on this one for the following reasons:
The analysts might ping them on some of the problems that's just nit-picking. The bottom line is that this one is a clear recipe for success.
Commentary By Mark Burton
From “Death to Discounts? The Designers Rebel”The Wall Street Journal, April 16, 2009
Managing pricing through your own sales organization is challenging, but when you rely on distributors, many of whom are known brands in their own right, it can seem like a hopeless task. It is a hopeless task, unless you realize that effective management of distribution systems is a game of power and control–and until you are willing to exercise leadership in playing that game.
This past winter, in the midst of an absolute bloodbath of a holiday season, many leading retailers resorted to extreme discounts in order to clear inventory out of their overloaded stores. Perhaps the most notorious was Saks Fifth Avenue, which did more to destroy its own brand in four weeks with massive markdowns and once posh stores that took on the look of the Bazaar with floors crowded with racks of discounted merchandise. Consumers took notice. They scooped up some great bargains and have rewarded the retailers with hardening resolve against paying full price ever again.
If you own one of the brands that got caught up in the slaughter, what could you do, other than sit there and watch your distributors (retailers are distributors) take you down with them? Not so fast. High-end clothing suppliers like Eileen Fisher are fighting back. They are looking to gain control over their brands by discussing renting space from the retailers and handing responsibility for sales over to their own, trained employees. They are also refusing to participate is suicidal sales. Finally, many are starting to open more of their own stores. Doing this provides an immediate threat to department stores that don’t toe the line–mess with us, and we’ll take the customers away from you.
Eileen Fisher may look like your typical, waif-like fashionista, but when it comes to playing hardball with the channel to save her brand’s value and pricing, she punches several classes above her weight. The (Da Vinci) Code For Better Pricing
Commentary By Reed Holden
From Discounts Plot Against 'Da Vinci' Novel, By Jeffrey A. Trachtenberg
Dan Brown, author of The Da Vinci Code, has a new book coming out in the fall. The Lost Symbol is a follow-on story to the original book which sold 81 million copies and led to a blockbuster movie. So, the expectation is that the new book will sell quite a few copies. Now, here's the rub. Given the expected popularity of the book, book stores are saying that they are going to sell it at a discount of over 40%. The Wall Street Journal is questioning the wisdom of that move–after all, why sell a book for little or no profit?
On the surface, it doesn't sound like a smart move. After all, those 81+ million of us who read the first book are going to want to buy the new book, whatever the cost. Therefore, we are price insensitive for the purchase of the book. The bookstores appear to be leaving a lot of money on the table with a penetration pricing strategy.
But wait. While we are price insensitive for the purchase of the book, we are price sensitive for where we purchase it. The list price is $28.95. But why pay that when I can buy it at Barnes and Noble for $15.63? Actually, I'll save the trip and buy it at Amazon. They'll ship it for free and still only charge $15.63 (notice how quickly they matched the Barnes and Noble price?). So, for the bookstores that can afford to trade the volume for lower profits, the increased demand will probably lead to higher total profitability.
Further, consider that most people who go to Barnes & Noble or Borders for the book are going to end up purchasing a bunch of other books at a higher profit margin. The total benefit of getting people to come to their store for a book is actually quite large. This is one case where the large bookstores will make lots of profits by selling one item at a lower price.
The watchword of good pricing is: price for profits. A little analysis shows that this is a good move for the big bookstores. It gets them press coverage, and it gets them profits. What about Dan Brown? He smiles all the way to the bank.
Tales of Endurance, Pricing or Otherwise | Emerging Market Innovations Protect Profits at Home | Pricing for CEO's | Pricing Services to Cushion the Shock of the Recession | Good Reading!
Tales of Endurance, Pricing or Otherwise
By Dr. Reed Holden
Most managers are beginning to recognize that they're in the toughest economic times of their lives. Sure, a few industries, such as software houses and the medical community, continue to do well. but when the dust settles from all of this, the only questions are whether the recession will a) become a depression and b) if it will be worse than 1929.
For a pricing blogger, this is certainly a "target rich environment." There are numerous examples of managers who are panicking and pulling the price discount lever. In doing so, they are dooming their firms to failure. As we said last week, "you can't price your way out of a recession."
But rather than focus on the failures, for the past week, I've been accumulating articles and notes on managers and companies that are little beacons of successful decisions in these trying times. What's been lacking is the bigger message that puts all of these together. After spending time on the phone with pricing managers over the past few weeks, it seems to me that the watchword for successful management today is "Endurance."
The thought comes from a book I read last year, Endurance: Shackleton's Incredible Voyage about Earnest Shackleton's voyage to Antarctica on his ship Endurance in 1914-15. Early in the 17-month trip, the ship was frozen in an ice pack, and the crew of 28 men had to live on the frozen ship for almost 10 months. When the ship was finally crushed and sank, they had to live on the ice for another 6 months (some had to live longer than that). They finally performed their own rescue by sailing to an island. It is an "astonishing" story of survival.
Another incredible story of survival comes from the book We Were Soldiers Once and Young by Hal Moore and Joe Galloway. It is about the month-long battle between the US 1st Battalion of the 7th Cavalry and a "superior force of North Vietnamese Regulars" in the Ia Drang Valley in South Vietnam in the fall of 1965, under the leadership of Lt. Col. Hal Moore.
The reason I selected these books is because in both cases, people faced incredible circumstances and survived (though too many were killed at Ia Drang). The other reason is that when the story finally was told, there were no dramatics. Yes, there were heroics, but that was expected from the trained and disciplined professionals who survived. And when they told their stories, it was about the basics of day-to-day survival of professionals who knew what they had to do and did it.
These are good stories to remember as we face our own harrowing economic times. Here, no one is facing death, and that's a good thing. If the crew of the Endurance and the members of the 7th Cavalry could maintain discipline and focus during their harrowing times, we should be able to as well. Hokey? Maybe, but there are good points here–leadership and discipline.
Last Thursday, Adobe Systems advised analysts that revenue was going to be down dramatically, and they were going to do what they could to control expenses in order to maintain earnings. This included the painful act of lay-offs of 8% of its work force. As we begin to see the nightly news images of the tent cities that are beginning to spring up, those visions of unemployment are sad for all of us. But the fact remains that those tough decisions need to be made or the whole company will be put at risk, as we are seeing in Detroit right now.
Speaking of Detroit, Alan Mulally, new CEO of Ford, seems to be making the decisions that GM and Chrysler have been avoiding. He got the unions to agree to dramatic wage and work concessions. He delayed the introduction of new models so that they could clear out the inventory of old models. And he ordered a 40% cut in production– this is on top of dramatic cuts he ordered over a year ago. It's no wonder that Ford continues to be the only one of the "once big three" that might not need any federal loan guarantees.
Finally, GE continues to rely on services to beef up the revenues of their extensive line of products. GE has continued their push to expand services on already-sold products, like locomotives and jet engines, to achieve growth and added profits.
How you survive in tough economic times and flourish in booming ones is through leadership and discipline, and by cutting revenue goals rather than cutting price, cutting costs rather than cutting price, relying on services revenue to beef up declining product sales, and by recognizing that profits are more important than revenue–much more.
No, the guys who head these companies might not be a Shackleton or Moore, but they are doing their best in tough times. They are facing the tough times, not with excuses and delayed decision but with clear purpose, focus on what needs to be done to survive, and the willingness to sacrifice the few for the greater good. Most of all, they know that they can’t change the circumstances, and that, in the end, they have to endure. Maybe when the story is written about the companies that survived and eventually flourished, they will be mentioned. Emerging Market Innovations Protect Profits at Home
Commentary By Mark Burton
From Innovation Trickles in a New Direction, BusinessWeek.com, March 11, 2009
One the most effective ways to preserve the pricing power of high-value offerings is to have low-value flanking products within the line. These flanking products are critical, because they enable sales teams to give customers a low-priced option when they try to negotiate price on the high-value product. This turns the tables on poker playing customers who are just fishing for a discount. They now have to make a decision: go for the low-price, low-value option or admit their preference for the high-value one. Whatever decision they make puts the sales team in control as they force the customer to decide between “price” and “value.”
One problem many executives have with this concept is fear–fear of taking on additional development costs for a lower-margin offering and fear that the new offering will cannibalize sales of higher-margin offerings. Now one of the great forces of upheaval in our times, the growing power of “emerging markets” is being harnessed to make the process of introducing low-value flanking products easier.
General Electric and other firms are now introducing products designed for India and other price-sensitive markets into North American and European markets. GE, for one, is introducing an electrocardiograph (ECG) machine that was originally developed for the Chinese and Indian markets. While it has significantly fewer features than models typically sold in the US, it will sell for 80% less than machines with similar capabilities. The US development costs were 10% of what is typical. As for cannibalization of existing offerings, GE has been careful to manage this by targeting new customers that typically couldn’t afford an ECG and by eliminating features that are attractive to customers for big-ticket machines. Just the presence of the new machine in the line will enable GE to better control negotiations there as well. Pricing for CEO's
By Dr. Reed Holden
Pricing Services to Cushion the Shock of the Recession
You Can’t Price Your Way Out of a Recession | It’s About the Strategy, Stupid! | Winning the Game with Flanking Products | PWYW: A New Pricing Model | Good Reading! You Can’t Price Your Way Out of a Recession
By Dr. Reed Holden
Mark Burton and I were teaching a certification class using our book Pricing with Confidence at the Professional Pricing Society in Houston last week. We were talking about our famous "dirt" company (you have to read the book!) and repeated a quote from their CEO, "You Can't Price Your Way Out of a Recession." Someone asked what we meant by that.
Given the number of companies that we've spoken to in the past month that are still thinking about using price discounts to achieve: a) increased share, b) increased revenue c) increased profits or d) cover increased costs, it's worth it to give you the answer, too.
In mature markets or economic downturns, demand is down. That is, customers slow their purchasing. This is true for consumer sales, where year after year, demand is down 10% in retail and 50% in automobiles. And it's true in business-to-business sales, where declines seem to be in about the same range, except health care, which continues to show increases in demand. By definition, those markets are "inelastic." That is, demand does not respond (increase) that much due to changes in price.
When markets mature and demand becomes inelastic, price strategy for all products and services should stay skim, where you price high relative to competitors or evolve to neutral, where you stop using price as a competitive weapon. If you try to use price to increase sales, competitors respond, and price wars break out. When that happens, revenue drops (a characteristic of inelastic markets) and profits disappear. And during all of this, demand keeps going down, and it does not recover.
During the holiday season, we saw many retail companies try to use price discounts to increase demand. As a result, it is likely that many of those companies will go out of business. Some analysts predict that there will be "massive retail bankruptcies in 2009 and 2010." Reuters reported that "Restructuring experts see a wave of retail bankruptcies in the coming months, due to dismal sales and a credit crunch." What is interesting to note is that they failed to point to pricing strategy as the culprit, yet it is. The reason that many retailers are going out of business over the next two years is not because demand is down. It's because they are using price discounts to try to fix a problem that just can't be fixed with price. Business is going to be down for most of us for the foreseeable future. It's time to batten down the hatches and try to survive. Cut costs, put people on furlough, stop unnecessary expenses, but don't discount price. By using price discounts at the wrong time, retailers eliminated profits and sealed their fate with the bankruptcy courts.
We talked about Abercrombie in January, because they decided to stick with their skim pricing strategy in December. Lots of analysts thought this was wrong. Even some of our own people agreed with them. Yet most recent results for Abercrombie shows that while profits "plunged" 68%, their stock price is actually up 10%, because investors know that a) they'll survive and b) they have protected their high value-position in the marketplace, while many of their competitors (even Macy's!!!!) have pulled the panic lever and started dramatic discounting. Against the advice of many, Abercrombie used the correct price strategy and will survive the downturn.
What about the dirt company? Most recent results show that their revenue is up and profits are up more. They too will do just fine. Not without a little sweat but smart managers use recessions (maybe even a depression!) to tighten up controls and policies. They limit spending. They adjust their revenue goals down. They get people working smarter and better. The one thing they don't do is use discounting to try to solve the problem. It’s About the Strategy, Stupid!
By Mark Burton
As Reed so simply put it, you can’t price your way out of a recession. Too many firms have gotten caught flat-footed and are using price discounts in a panic to try to keep demand that is going away no matter what they do. The firms that do this are creating two very significant long-term problems. First, they are destroying the integrity of their pricing and the value of their brands. Second, they are training their customers to negotiate for every last penny, thus undermining their most valuable asset–trusting customer relationships. Both of these forces will make it extraordinarily difficult to bring prices back up when the economy finally does turn. In addition, it will take much longer to bring prices back up to a level that reflects the true value of the goods and services being sold.
The way around this is to look objectively at pricing as a strategic tool that must be managed systematically, based on value, market demand, cost structure, product lifecycle, and firm capabilities. This view leads one to make decisions on the basis of preserving and gaining pricing power, be it through reducing capacity to match demand, introducing low price–low value offerings, or making systematic adjustments to price lists, so that list and street prices are more in line.
Two weeks ago, Reed and I spoke with one of the most capable pricers that we know about getting through these times–“Fred.” He is thinking strategically. What has he done? First, he recognized that much of the incremental revenues that had come from pricing last year were going to disappear this year. Next, he engaged with his CEO, and they came up with a plan to reduce capacity to well below current demand levels. This creates pricing power and protects them against further downside risk from collapsing demand. It also paved the way for passing through a 20% price increase for their least profitable accounts. Some accounts will walk away–that’s OK, because there is not enough capacity to serve them all any more. The others will take the increase, because they value the service they get. Fred’s firm has now set the stage for a stronger recovery by enforcing a pricing strategy.
Clever pricing tactics and working the price waterfall are necessary but woefully insufficient for these times. The firms that understand that pricing is all about strategy will come through stronger and more formidable competitors. Those that don’t will be lucky to survive. Winning the Game with Flanking Products
Commentary by Mark Burton
From “Used Games Score Big for GameStop,” The Wall Street Journal, January 21, 2009
Amid one of the worst fourth quarters in history for retailers, video game seller GameStop didn’t just survive, they blew the doors off the place. In January, they reported a 22% jump in overall sales and a 10% increase in sales at stores open more than 12 months. By comparison, heavyweight champ Best Buy reported that sales of video game hardware fell by “mid single digits” and overall video game sales climbed 9% in December.
GameStop outperformed the market and the competition by using something that we remind value managers of every day–lower-price flanking products. In the case of GameStop, they are the only major retailer that deals in used games. That is something the competition didn’t want to touch for fear of cannibalizing sales of new games, and now it accounts for 23% of GameStop’s revenue. They also became a driving force for sales as the recession hit. In the nine weeks that ended January 3, sales of used games and consoles rose 32%.
Not only do used games keep cash-strapped customers coming into the stores, they serve two other valuable purposes. First, since customers can trade in games and use that money toward new games, it means GameStop is able to preserve price integrity by avoiding the massive discounts on merchandise that other retailers rely on. Second, as is the case with everything from used cars to used college textbooks to refurbished truck engines, the margins on used games are higher (48% versus 7% - 20% for new consoles and games). There is, after all, only one good purpose for price–to increase profits. GameStop has that game figured out.
By Steve Haggett
A recent pricing study conducted at the University of Frankfurt (Main), Germany, summarized in the current American Marketing Association journal, describes the impact of Pay What You Want pricing.
The Frankfurt team tested PWYM on three offerings: a lunch buffet at a restaurant, a cinema, and hot beverages at a deli. Prices were eliminated from the menu, and customers were asked to pay what they wanted.
Pay What You Want is an extension of the Name Your Price model employed by companies like priceline.com, taking it a step further. Where Priceline finds a match with an unnamed provider offering a flight to a specific city or a hotel somewhere in that city, Pay What You Want allows the customer purchasing a specific product or service to pay anything, including zero.
Risky?
The results of their study identify situations where a PWYW approach is much better than discounting.
Last year we wrote about the band Radiohead experimenting with a PWYW approach with their new album, In Rainbows. In the end, Radiohead made more money from digital downloads of the In Rainbows album than downloads of all other albums combined.
In the German study, the restaurant saw higher volumes during the PWYW test drive revenues up by over 32%, and surprisingly, the average price of hot beverages at the deli increased by over 11%.
What factors make the PWYW approach work?
At the end of the research, the restaurant decided to continue the PWYW pricing approach and opened another restaurant featuring the same price. If you have an opportunity that fits these very specific criteria, this can be a creative, effective pricing approach.
Head-Off Price Wars with the Right Communication | Clorox Finds Green in “Green” | Tune Tiers | Finding the Bottom | Not Your Father’s Rolls Royce | ABD: Anything But Discounts | Good Reading! Head-Off Price Wars with the Right Communication
By Dr. Reed Holden
Over the past decade, companies like Monsanto, DuPont, and Novartis have invested heavily to improve the performance of seeds. They’ve made seeds for a variety of crops more disease resistant and higher producing. The current recession has had a dramatic impact on farmers, but seed companies still want to leverage the increased value of their seeds.
Let’s look at an announcement from Monsanto’s CEO Hugh Grant, who stated in The WSJ today that “he saw signs of a brewing price war…. (and that they) will hold the line on pricing, even if competitors turn to aggressive promotional strategies to win market share.” Kudos to Mr. Grant, because he is using communications to voice his concerns about a price war and his desire not to engage in one. Showing competitive leadership in tough times is what most markets need. Though Monsanto is not the dominant player in the industry, sending the message that competitors should avoid price wars is a good move in mature and declining markets, because price discounts don’t create more business. They just encourage switching. For more information on derived demand, see our book Pricing with Confidence.
Where Mr. Grant fell short in his announcement, however, was that he unwittingly told competitors that if they want to use price to gain share, Monsanto will let them. Competitors might interpret the announcement as now might actually be the time to use price discounts to gain share. BAD MOVE. Rather than state, “Monsanto would hold on price, even if competitors turn to aggressive promotional strategies,” the announcement would have been more effective if Mr. Grant had said, “We will respond to competitors’ moves to gain share but hope we don’t have to.” That would have told the competitors that if they tried to use price discounts, they would be matched to the detriment of all competitors.
Price communication is not easy and the practice is loaded with landmines. Too many companies don’t do it or don’t do it effectively. Too many corporate attorneys take the position that the firm shouldn’t announce because it is illegal. In both cases, they’re wrong. A top advisor in price communication in the country is Gene Zelek of Freeborn and Peters in Chicago. Effective communications can prevent price wars, even in a recession, and end up preserving profits and revenue.
Commentary by Mark Burton
From “Clorox a Green Market Breakthrough,” bnet.com
Lately we’ve been telling anyone who will listen that pricing strategy is a forgotten art. Over the past few years, the emphasis in the pricing world has been more consistent management of pricing processes. Fueled by powerful software and the promise of easy returns, managers have focused on bringing visibility and accountability to street-level pricing. We applaud these efforts but worry that their very success will mean that pricing will continue to be viewed only a tactical tool.
The best companies are moving well beyond this emphasis on tactical pricing and blending competitive strategy with pricing strategy. Clorox provides a great example via the introduction of their Green Works line of natural household cleaners. How does a company known for selling harsh chemicals like bleach break into the emerging market for low-impact “green” products? Very carefully–and with a smart pricing strategy.
In setting their pricing strategy, Clorox made two critical observations. First, they were truthful with themselves in deciding that their brand would be seen as a liability (and thus diminish perceived value) amongst hardcore greenies. Second, they realized that the market for green products is starting to move out of the introduction phase and into the growth phase of its lifecycle. Both of these factors point to the use of a penetration pricing strategy. Penetration strategies are successful under these conditions as lower prices serve to increase the size of the market by bringing in new customers. And that is exactly what happened. In November, Clorox Green Works toilet bowl cleaner was selling for $2.89 versus $4.29 for a comparable product from green leader Method. Yet an interesting thing happened, while Clorox generated new revenues from Green Works, the sales of Method and another green leader Seventh Generation have not declined. Clorox has simultaneously brought new customers into the market, grown revenues, and avoided a price war with entrenched competitors . Isn’t it great when a plan comes together?
Commentary By Steve Haggett
From “Apple Changes Tune on Music Pricing,” The Wall Street Journal, January 7, 2009
Last month, we wrote about sports teams and entertainment providers beginning to replace fixed ticket prices with variable value-based pricing, matching customer value with price (see Just the Ticket, December 2008). This month, Apple’s iTunes has announced a new value-based, three-tier pricing system, replacing their standard 99¢ song pricing system. Under their new plan, iTunes has created three tiers:
iTunes is sure to promote the message that most songs are now one-third cheaper, and both iTunes and the labels hope this will spur additional volume. At the same time, the high-demand hits, reaching a less price-sensitive customer base, will generate 30% more revenues–for the same costs.
A tiered pricing plan like this makes a lot of sense, even for offerings that appear standard, like a song download. One standard price for everything fails to recognize differences in customers’ perceived value. Pop music enthusiasts may find the 99¢ Billboard hit a great bargain compared to the $15 CD, while another consumer is unmoved to transition the old LP collection to MP3’s due to the high cost.
Tiered song pricing fits naturally with the tiered offering approach the iPod features, with $49 flanking products (the Shuffle) supporting the $399 premium product (the Touch).
Tiered pricing may seem challenging for many products, but the marketing team can break down the offering into constituent elements of products and services, matching different elements to different customer pockets. This is a particularly effective exercise right now, when the resulting revenues from a price-tiering approach can counteract the demand damages from the recession. While the tiered approach may be easier when you have a broad value portfolio of products (think of Nokia’s suite of cell phones, for example), the iTunes case suggests how much more powerful the approach can be when creatively applied to a category that typically does not include that product breadth.
It can work for you.
Commentary By Nelson Hyde
From “High-Tech Companies Take Up Netbooks,” by Don Clark and Justin Scheck, The Wall Street Journal, January 6, 2009
For companies whose products and sales have been savaged by the recession, try heading down market. The low end of the market is still strong in areas like computers, where a new breed of $300-500 laptops called Netbooks is taking off. 2008 Netbook sales leapt to 10 million units from a few hundred thousand the year before.
Netbooks are cheaper for a reason. They are slower to start, have shorter battery life and do not display videos or graphics very well. Some traditional PC makers whine that Netbooks are not real PCs. That’s right–and that’s why they’re doing great right now.
Some PC companies who turned up their noses at the thought of Netbooks in better times are now behind the eight ball. They are missing the market, and their delay made it easier for new competitors to get a foothold they can later use to attack up market. Having a low-end offering is a good hedge against bad times.
But covering the lower end of the market is also a good strategy during boom times. One of the best ways to protect the price on your high-value offering is to also have lower-value offerings. When customers complain about price, you can offer them a cheaper alternative without compromising the price or value of your higher value offering.
The lesson from Netbooks is to make sure you cover a range of value in your offerings. Go down market before you are forced to. And be careful not to make your lowest end flanking offering too attractive–it’s there for the price buyers, not the general market. Netbooks got it right: strip out the costs and boil down the features to only what’s needed to function. That’s all price buyers want. Overloading it just gives away value that price buyers won’t pay for anyway–in bad times or good.
By Dr. Reed Holden
OK, my father never owned a Rolls-Royce. A Chevy Impala was his ride, but there is a terrific story in this week’s The Economist about how Rolls-Royce has rebuilt itself, not as a car maker but as the dominant global supplier of jet engines. It’s an interesting counterpoint to the problems we continue to see in the automobile industry in the United States.
The most important thing Rolls-Royce did was to take a huge risk and invest in new technologies for jet engines. While some of the investment didn’t pay off, they successfully developed a new series of engines which were cheaper to operate, more reliable than existing engines, and could be easily scaled to meet the needs of different types of aircraft. Their primary competitors, GE and Pratt and Whitney, also make engines that are efficient and reliable, but they need to invest extensively in the design for each engine that goes into a new aircraft. Rolls Royce is able go from design to production faster than their competitors. Consequently, Rolls-Royce now produces engines for 45 of the “50 leading airlines.”
Rolls-Royce also moved aggressively into providing analytical services that gave the airlines the ability to monitor engine performance, predict likely breakdown, and assess the extent of technical problems if the aircraft is struck by lightning, for example. All of this extends the engine’s performance, dramatically reduces the operating costs, and increases the in-service time of the engine.
The capstone of their success was to change their offering and pricing model. They moved to what is known as “power by the hour.” They don’t sell engines to the airlines, they sell the power those engines produce. The benefit to the airlines is predictability and lower capital costs. The benefit to Rolls-Royce is that they are able to accrue the benefit of improved operating costs themselves.
The importance of this story is that Rolls-Royce went in the opposite direction than many traditional manufacturers. While the traditional manufacturers have focused on more efficient and effective production, Rolls-Royce has focused on evolving their offering model to include valued services and leveraging those services with a better pricing model. This has provided them with a competitive advantage that should sustain them for the next decade, if not further.
By Steve Haggett
Studies consistently demonstrate the persistence of prices. Past prices create a powerful internal reference point for customers. (For those interested, see recent studies below.)
There is risk, then, that current demands for discounts will stick. That 30%-off, or even 50%-off response to the market could well set the future price ceiling.
A better response is to bundle another offering, or a valued service, and communicate the total value of the offering to your customer.
For example, a software provider facing clamoring customer pressure to discount 50% below historic market prices would be better off holding close to those recent reference points and bundling free on-site service or adding an additional module. An instrument maker could add training or a measurement tool to the offering. Communicate the total cost of ownership, and you have taken a further step in encouraging your customer to quantify your value.
Faced with excess inventory, University Dodge an auto dealer in Davie, Florida, takes this to the extreme, offering a free second Dodge Ram, Caliber, or PT Cruiser with the purchase of a 2008 Ram. But this is still a better approach than slashing the price by 50%.
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