Last week we addressed the concern that value is vague. We did so by recognizing that the fact that even though each of us defines value a little differently, there is a commonality to our humanity that allows us to create categories of buyers based on what they value most – image, innovation or time savings. This week we’re going two more concerns – the complexity of value pricing and the ability to produce demonstrable results.
Value pricing is complex
As we saw last week even though you may be dealing with thousands or hundreds of thousands of customers you’re only dealing with three categories of value. These categories simplify the identification of market segments and value prices for each of those segments.
I’m sure that some of you are thinking “Dale, you have no idea how many products (SKUs) we sell. It isn’t just the customer that adds complexity, it’s the array of offerings we have.”
No doubt that what you say is true. Two questions for you:
- Why do you have so many SKUs?
- Adapting Pareto’s principle, which 20% of them are producing 80% of your profits?
Regardless of your answers, the solution is to establish a process for identifying your 20% most profitable offerings, identify who’s buying them and eliminate the rest. Not only will you simplify your life you’ll use your marketing dollars a lot more effectively. You’ll very likely free up a considerable amount of cash as well.
If that strategy is a little frightening to you, then eliminate the 20% least profitable SKUs. From experience I can tell you that once you see how little impact it has on your sales and what a dramatic improvement is has on your profits, cash flow and employee productivity, you’ll quickly eliminate the next 20% least profitable until you arrive at my initial suggestion.
Which brings us to the next concern that many business leaders have, being able to determine which results can be traced to value pricing and which are related to other operating decisions.
Often business leaders point to the fact that margin improvements can be achieved from a variety of operational changes including:
- Productivity improvements
- Sales force compensation arrangements
- More effective marketing
- Improved offerings
Or simply from an improving economy. So the question they ask is “How do we know that the margin improvement came from value pricing?
The answer is that all of these factors are, or should be, part of your value pricing strategy. You can’t establish an effective pricing policy without evaluating all of the factors that influence value creation. Recently I helped a client improve his margin on one line of business from 24.8% to 41% by streamlining the sales process and eliminating back office processing. We accomplished this without raising prices.
While we were evaluating his value creation process we were also able to justify a 12.5% price increase by calculating the value of his offering. How? By identifying that what he was selling was time savings and using demographics to identify the value that buyers in his market were placing on their time.
With the 12.5% price increase his margins more than doubled from 24.8% to 53.5%. If that isn’t a demonstrable result I don’t know what is.
Next week, well discuss the two remaining reasons why business leaders avoid value pricing – the perception that value is a moving target and price pressures.
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