Use Pricing Strategies to Stay Competitive by Ken Bernhardt Regents' Professor of Marketing and Assistant Dean for Corporate Relations  Robinson College of Business, Georgia State University Atlanta Business Chronicle - September 22, 2006 The current strengthened economy is enticing many companies to seek ways to increase prices. The ability to increase prices, however, is constrained by the highly competitive environment most companies face. This just means that companies have to be smarter in their pricing policies, procedures and processes. In the past couple of weeks, I was reminded of the importance of savvy pricing both by articles in the Harvard Business School's Working Knowledge Newsletter (http://hbswk.hbs.edu/item/3107.html) and The McKinsey Quarterly (http://mckinseyquarterly.com/article_abstract_visitor.aspx?ar=1841&L2=16&L3=19), and a visit from a longtime friend from graduate school days, Jay Klompmaker, a pricing guru and professor emeritus at the University of North Carolina at Chapel Hill. Pricing is one of the most important variables marketers have to work with, yet very few companies have a person or team of people who are responsible for that function. There are people with clear responsibility for product design and development, sales, advertising and promotion, and distribution, but no one for pricing. When there is an individual responsible, it is often someone from the finance department rather than the marketing department, which is where pricing decisions belong. As a result, prices are often set by default by the sales force. This is the last place that prices should be set because sales people typically are rewarded by volume and good sales people know that a lowered price will generate more volume. Unfortunately this often results in significantly less profit. Another sub-optimal way to set prices is based on costs. With much help from Klompmaker, let me explain some rules for successful pricing. Rule No. 1: Base your price on perceived value, and understand that more prices are better than fewer prices. Value can be determined only by customers and different customers have different perceived value. Marketers understand the concept of market segmentation when it comes to product development and advertising but tend to ignore segmentation in pricing. Averages will kill you in pricing. Therefore, there should be a wide range of prices charged, or a wide price band. A price band is the ratio of the highest price charged to the lowest price charged. Most companies have too narrow a price band and therefore have prices which are both too high and too low. Too narrow a price band means that you are undercharging some customers, thus leaving money on the table, and have too high a price for others, thus leaving potential volume on the table. To cite an example of an organization that understands this concept, the Los Angeles Lakers have a price band of 150 to one with the highest price, for seats on the floor, at $1,500 per game, and the lowest price at $10 for the nose-bleed seats for games with less popular opponents. There are multiple prices in between these two extremes. This enables them to capture the full price potential from those fans that are totally price insensitive and the volume potential from those who are most price sensitive. As an example of an organization with too narrow a band, consider a performing arts organization with prices ranging from $27 down to $20 (or a price band of 1.35). They are probably under-pricing the best seats for Saturday nights (and are sold out) and over-pricing the worst seats for Tuesday night (thus ending up with plenty of empty, unsold seats). Rule No. 2: Ask this of your customers; nothing more and nothing less: Pay for what you get. Ask this of yourself: Give customers what they want and don't be afraid to charge them for it once they get it. This requires a clear understanding of what customers want and what they are willing to pay for it. It also requires a good cost accounting system to capture costs to serve customers. Often those customers a company thinks are its best customers are not very profitable. This is because these customers often chew up a significant amount of costly technical support, sales support, R&D/design assistance, demand extra services like frequent deliveries, require carrying of extra inventory, and on top of everything else, take at lot of time to pay their invoices. In addition, they are constantly demanding volume discounts and beating you up on price. It may turn out that small-volume customers who pay high prices are the most profitable. Changing your mix of customers over time can be one way of raising average prices and increasing profitability. Rule No. 3: Raising prices across the board is not smart; it often leaves both volume and margin on the table. Companies with high margins benefit more from added volume gained through price cutting and vice versa; companies with low margins benefit more from increased margins (through price increases). Rule No. 4: Prices need to be sold, not just set. It is important to first build value, then communicate value (sell the value), and finally capture the value through the price. The best way to sell value is by talking about product quality, service quality and product innovation. Price is the last thing that should be discussed, not the first thing. Product and service quality rather than price is what drives market share. Price changes are matched by competitors too easily, leaving a little on the table also will help perceived value and your customers will love you for it. Rule No. 5: Make price cutting difficult. When sales people ask for a price cut, change the terminology. Have them ask for a profit cut instead. For example, if your margin is 20 percent and a sales person is asking for a 5 percent price cut for a customer, have them ask instead for a 25 percent cut in profit. That will reduce the pressure to reduce prices. Rule No. 6: Manage price by putting someone in charge and develop good customer, competitor and cost information. Establish measures of success and base rewards on these measures.