Friday, February 16, 2007

Pricing: The Oft-Ignored Marketing P

As marketers, most of us "get" the product-place-promote aspects of marketing, and a good deal of our time and energy focuses on these elements. Sometimes, however, we forget to give pricing equal time, and this is especially true for those of us who work with products and services that aren't "off the shelf" and that aren't sold to a wide market. This is the B2B, T2T world I've generally lived in and, while it seems as if it should be reasonable straightforward to set prices in this world, it's not really. In fact, on the rare occasions when I did work on more "mass market" items - where we sold in the 1000's, rather than in the 10's or hundreds - it was actually easier to pick a price and stic with it, even if we pulled the price out of thin air. 

Not that we didn't have a price in mind when we brought new products to our non-mass market.

We did.

And that price was more likely than not a result of doing the arithmetic on our cost structure. We knew that we invested X to build the product. We figured that it was going to cost us absolute Y + marginal Z to market and support it.  We took some SWAG at how many customers we could sell it to and divided by the most conservative number of customers we could get away with.

Voilà! We had us some pricing.

Cost-based pricing, of course, makes perfect sense. Why bring a product to market at all if you'll never be able to cover your costs of production?

Isn't this just Business Duh 1.01?

Not so fast.  I've had quite a few adventures in pricing, and I've done quite a bit of time in what I call the "here's what we gotta sell it for" school of pricing, and learned the hard way that life is not so simple.

For starters, a cost-based number may bear no relationship whatsoever to what your competitors charge for a similar product, or to what your customers are willing to pay. Maybe your competitors are more efficient. Maybe they're willing and able to play race-to-the-bottom pricing chicken in order to "buy market share." Maybe your customers just don't see the value quite the same way that you do.

Of course, in places where we've done this form of pricing, it's generally been intertwined with the need to develop a product that's going to be sold at  a high-price point to a smaller audience because the company lacks the financial resources to take a lower-end product to a larger audience. 

As often as not, the higher-end product is sold at a price that's an order of magnitude higher than the low end product, even though the lower-end product provides at least half as much of the benefit. (For services the, the "price delta" between low and high end tends not to be this steep, but it's still been significant.)

At one small software company where I did quite a bit of time, we had a clunky old software product that we lacked the development resources to do much improvement to. Making lemonade out of this lemon, we charged a lot for it. Here I learned one of the miracles of high pricing: in and of itself, a high price confers an aura of value and worth. This product costs so much, it must be good. (Note: this company was acquired and put out of its misery.)

With a high-price product in hand, it generally comes down on marketing's head to come up with positioning and differentiation (real or faux) that can explain why the higher price means higher value, and on sales' head to sell the customer on this.

I worked for one Internet Services Provider that have prices and costs that were well above the industry norm. Our differentiation basically came down to "our techies are smarter than everybody else's." In the early days of the Internet, this was actually good enough to win us a lot of  business. But as other ISPs found smart engineers of their own - plus built a lot of efficiencies into their operations that we didn't have - they undercut us on price, big time. And we started losing big time.

Oh, we still won some deals at our higher price - which we "couldn't afford" to lower - but we didn't win all that many. And as often as not, we won them with sweeteners that made the deals more costly than if we'd just lowered the price to begin with. (Note: this company went bankrupt. Shards of this shattered failure still exist here and there.)

This all lead me to develop Rogers' Rule: Good sales and marketing can only make up for a 10-20% difference between price and true value. (And the rule's corollary: Even so, the market will catch up with you eventually.)

Now that we're well onto value-based pricing...Like cost-based pricing, this is a reasonable and good idea.

You figure out what value the customer gets out of using your product - how much time and money they save, or what great things they can do with your product, or how much fun they can have with it - and charge them some proportion of this amount. (Hopefully enough to cover your costs.)

The trick, of course, is to figure out just what that value is.

If you're lucky, it's pretty clear cut and obvious. Your product will help your customer do things cheaper, faster, better. Yep, it's worth it.

In other cases, it's not so obvious.

Once again, it comes down to marketing and sales to make the case.

What to do about the pricing dilemma? No cheaper, faster, better set of guidelines here. Just some common sense:

  • Know what your competition charges (and be honest with yourself about the differences between your products and theirs).
  • Let your cost structure inform your pricing, but not dictate it.
  • Don't indulge in wishful thinking about the value of your product. Be honest with yourself.
  • As early on in your product/market planning cycle, spend quality time with likely users of your product and work with them to help you figure out what's a fair and reasonable price.

All of this will help you develop pricing that's more defensible and reasonable. Even so, you still need to recognize that, for high-end, B2B and T2T products, whatever price you establish is a guideline, and the point at which the deal starts getting negotiated.

1 comment:

Mary Schmidt said...

Yes, cost-plus pricing is a problem. Frankly, I sometimes think it should be outlawed. But, it does serve as a good sanity check, particularly for start-ups. If it's going to cost you $XXX to even get it to market - and the market values such things at $X - don't waste your time.

If you use value-based pricing - as long as you're somewhere in the middle of the pack (one of the few times I'd advocate being "average") - you should do fine (IF you have good product and savvy marketing.)