Practical Pricing

The first step in assembling a price plan is to conduct a pricing assessment. A pricing assessment is a list of questions asking each individual involved in a company’s pricing process what their specific analytical processes are in developing recommendations for their area of price involvement. This assessment provides visibility to the degree of value add process and analysis that currently exists in a company’s procedures for setting a price. For example, in estimating a product’s maximum-value net price (the desired price the company would like the customer to pay), the company would need to understand what a competitor’s similar products are priced at in the marketplace. If the company has a competitive intelligence team, understanding competitive dynamics would fall to this team. Potential questions for the competitive intelligence team might be: Where do you obtain competitive pricing information? What process do you utilize to compare key features of the company’s products versus competitive offerings, and so on.

Price leakage is the overall term for the analysis that will document any product level average selling price variances (product level leakage) versus major competitors, as well as the selling price concession trends over a defined time period (aka the price waterfall). Simply put, you want to demonstrate, through data, that the prices charged for products were reasonable compared to competitor’s similar products and also, in direct alignment with maximizing value, and that the company hasn’t given away unnecessary price concessions (increased discounting, rebates, promotions, etc.) to sign customers to contracts. Products that do not attract a selling price that meets a minimum margin threshold (usually established by finance) will also be analyzed and reviewed here. Again, this is an initial review to gain some understanding of the severity of the issues at hand. Price leakages will play a major part of later analysis in the overall price plan. Price waterfall is a term that describes the “takeaways” from a product’s list price toward the actual price paid by customer. The net (or actual) price would be list price minus all discounts, rebates, promotions, costs of producing the product, and the like. What you want to then understand is that net selling price truly represents the maximum value that customers would/should be paying for a particular product versus any reasonable competitors.

The foundation of any effective pricing is data, and the ability to access this data is key and one of the most important tasks in developing a successful pricing strategy. What kinds of data are we talking about? Ideally you would want to have each customer-purchase transaction for a period of two full calendar or fiscal years. This will give you a picture of what the sales of the company’s products look like. You would want to have each customer transaction to a level of detail that shows what the list price (or price without any type of discounting), the level or types of discounts given on the transaction (volume discount, rebates, promotions, coupons, etc.), and how much the products cost to produce. This will take you from a list price to a net margin, that is, you can see where the price “started” and exactly how much you received in revenue when the product was actually sold to the customer along with the profitability on that transaction. This is also commonly referred to as a price waterfall, since it shows a cascading effect of offering incentives or discounts to customers to purchase a product.

What is pricing culture and behavior? In attempting to develop more rigorous analytical processes in pricing, a first obvious step would be to ensure that data-based analysis is completed when pricing a product or pricing a contract. This would entail having information such as competitive data and cost data as part of the overall analysis effort. Additionally, you would want consistent approach to data analysis in all the various parts of a company that priced products or contracts. This consistency would be captured in a policy and procedures document for everyone to utilize as the instruction tool with included standardized templates for setting the actual prices.

A top-level pricing strategy will encompass several items: Each of these element will need to be examined in full by the pricing leader to enable pricing success

Price initiatives are those projects that guide the improvement of price performance throughout the company. They should be carefully planned out and clearly documented. It is very important for the success of any pricing plan that you keep a very bottom line structure. The improvement in pricing should take form in certain clearly defined initiatives and those initiatives should be clearly communicated and measured monthly. The monthly progress, with full year anticipated forecast, should be communicated to senior management. Essentially this the bottom line proof of how well the pricing program is working. It’s vitally important that each pricing plan includes specific initiatives. Don’t rely on a either emails or some other communication source about changes in process to substantiate the proof of how well the company pricing program is working. There is only one way to substantiate how well any pricing program is working and that’s to list carefully, plan, execute, and track specific price initiatives.

At this point we’re ready to develop a price plan for a company. As stated, the price plan would be the implementation structure of a value added pricing strategy. The most effective way to follow a price plan development and implementation is to provide an example and build on that example as we go through the discussion. To illustrate with an example, let us start with by considering the overall volume, price, margin, and revenue statistics for a company over the past three calendar years.

In pricing, everyone wants a deal and that involves some type of discount. In reality, it can be said that a discount really doesn’t matter, it’s more the net price and whether or not it’s at a market level so that the potential customer feels the product is priced at a level at which they will make a purchase. Culturally, over the years, pricing has evolved certain practices such that customers who purchase in bulk, and regularly do so, tend to receive the lowest and most aggressive net selling prices.

Business customers who purchase in bulk quantity will almost certainly be involved in some type of contract or tender activity. A contract or tender is a signed and legally binding agreement between two or more parties agreeing to some type of transaction for a determined payment amount.

Cost-plus pricing is a mechanism that is used for pricing products in certain industries, for the most part found in companies that do business with the U.S. Federal Government. For the majority of cost-plus contracts (sole source, firm fixed), the governmental entity will allow certain levels of profitability. Once overall profitability rises above the minimally accepted benchmarks, the government will require that the additional profit be returned to the government. The key in this cost-plus world is a strong “price to win” strategy whereby your costs are adequately pegged to the overall competitive marketplace and you can win deals (contracts) because of competitive bidding along with, hopefully, superior technology and serviceability.

Pricing policies and procedures are the glue that defines a well implemented pricing strategy. A pricing policy and procedure document will define the “how to” for several key areas such as pricing products, executing contractual agreements, presenting pricing analytics, and defining the all important price initiatives. In order to have a reasonable consistency between all the folks who might be doing a price analysis or executing a contract on a global basis, some type of rules that everyone can leverage need to exist. Policy and procedure documents will also tend to include the analysis templates that the users can access.

Probably the most impactful area where a pricing program and leader will draw attention is from the establishment and tracking of price initiatives. Price initiatives can be defined as those planned actions that are designed to raise the overall net sales price for a company, thereby adding incremental revenue dollars. For example, if product A sells for $100/unit and a 10 percent list price increase is enacted, then product A would now sell for $110/unit with exactly the same costs, so that an additional $10/unit would be considered incremental revenue. These dollars would add up to profit.

In order to properly understand the pricing trends found in the company, some type of price analytics and dashboard must be developed on a regular basis. Basically, monthly or quarterly reporting on price needs to be put in place. When developing price analytics and dashboards, the most important consideration is to ensure that these reports and analyses have a clear purpose in mind. Specifically, what is the goal to be attained from doing this reporting?

In order to obtain consistency in both pricing strategy and methodology, a great deal of tools, procedures and processes, and analytics have been discussed in this book so far. That’s exactly what you would want to happen as you roll out your company’s pricing strategy. As part of that overall strategy, price training needs to be provided to those primary users of the pricing strategy, namely sales and marketing.

Many formalized pricing strategies start as a result of some level of realization by the executive level that price is not functioning well in the company. Many potential items can trigger this realization, such as financial results where price is identified as a “drag” on revenue growth, or some type of competitive realization that a top competitor is growing on price, and the like.