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Issue 1 • Volume 1 • May 2003 360 ° Pricing The Official Newsletter of

Issue 1

Volume 1 • May 2003

360 ° Pricing

The Official Newsletter of the Pricing Institute

RICING INSTITUTE www.pricinginstitute.com
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Institute RICING INSTITUTE www.pricinginstitute.com JOINT VENTURE WITH www.aboutfoundation.com IN THIS ISSUE

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INSTITUTE www.pricinginstitute.com JOINT VENTURE WITH www.aboutfoundation.com IN THIS ISSUE PAGE Euphoric

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IN THIS ISSUE

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PAGE

Euphoric Competitive Pricing and the Irrational Rush for Sales by Gerald Smith

1-2

Adapting to Culture and Pricing for Value in China by Michael N. Hurwich

3-4

Optimizing Price is a Beautiful Thing by Rapt, Inc

3-4

Insight and Execution:

The Keys to B2B Pricing by Rafael Gonzalez Caloni

5

Pricing in Tough Economic Times by George E. Cressman, Jr. and Francois Delvaux

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UPCOMING EVENTS
UPCOMING EVENTS

June 9-12, 2003 Radisson Hotel and Suites • Chicago, IL www.iirusa.com/pricex

Hotel and Suites • Chicago, IL www.iirusa.com/pricex The Pricing Institute is a division of the Institute

The Pricing Institute is a division of the Institute for International Research

is a division of the Institute for International Research s Summer is coming and the race

s Summer is coming and the race soon will be on.

Every year, as the special holidays such as Memorial

Day and July 4 approach, beverage companies, snacks companies and retailers deeply discount their products in anticipation of the picnic sales rush.

The same thing happens during the year-end holiday gift-giving rush. The day after Thanksgiving, well- established retailers hold highly advertised sales, with substantial extra discounts announcing their intention to be the most attractive place to shop. In so doing they signal emphatically their intention to initiate a game of aggressive pricing for the coming selling season. The effect: other retail competitors feel compelled to meet the aggressors' tactics with similar price discounting to make sure they do not miss the season's gold rush.

Is this a price war? If not, the dynamics are virtually indistinguishable. A promising retail market plunges headlong into irrational and unstable price competition - due to euphoric competitive pricing.

EuphoriEuphoricc Competitive

Pricing and the Irrational Rush for Sales

By Gerald Smith

This destructive behavior is closely related to a familiar dynamic in game theory. Game theory suggests that players are better off if they can convince other competitive players to set higher prices and share modest profits. But the risk of failure is significant if some players defect: losers lose big to the low-price winners.

If competitors are "rational" in the early stages of the season we should expect a favorable game in which all players are better off and all boats benefit from a rising tide - growing seasonal demand and inexperienced shoppers entering the market who do not frequent stores or Internet shopping sites during other times of the year. These shoppers have little time for price comparison shopping. Competitors should be charging premium prices to buyers who want to ensure they get the products they want at convenient locations and times - the perfect holiday gift or the freshest picnic beverages, snacks or foods. Pricing professionals refer to this as priority pricing, resulting in healthy margins for players.

All of this should be true, but often it is not because a competitive euphoria undermines the market. Rather than focusing on valuable product mixes, service and inventory availability - and charging commensurate prices - many retailers focus on winning the race to win the most sales the fastest. They deeply discount prices to attract customers - or to make sure

continues on page 2

to win the most sales the fastest. They deeply discount prices to attract customers - or
to win the most sales the fastest. They deeply discount prices to attract customers - or
to win the most sales the fastest. They deeply discount prices to attract customers - or
to win the most sales the fastest. They deeply discount prices to attract customers - or

© Institute for International Research (IIR) BV 2003

Euphoric continues from page 1

competitors do not steal customers from them. They fall headlong into the well-known prisoner's dilemma: rather than sharing modest profits with other rational competitors in a stable market, they share losses with irrational competitors in an unstable market – all driven by the hope that by moving first they will win big – or, more importantly, that they will not lose big. Low-knowledge investors and the media cheer from the sidelines, keeping a daily vigil on same-day sales growth relative to last year and affirming their belief that retail revenue growth is a reliable indicator of profitability.

We saw this mentality more broadly with the e- tailing euphoria at the turn of the century, where competitors tried to out-discount one another to achieve rapid sales growth during the Internet gold rush. In each case, the rush for immediate sales overruled the common sense of building and reaping the rewards of long-term customer value.

Why does widespread competitive price aggression prevail in such promising growth markets?

First, there is a capacity effect. Each player stocks up considerably for the anticipated sales rush, knowing that every other player is doing the same. There is a prevailing perception among competitors that the market will be awash in inventory capacity. At the end of the season no player wants to get caught holding the bag of excess inventory.

Second, the stakes are high since sales rush periods are critical to broader sales and profits. Many toy retailers, for example, rely on the year- end holiday season for nearly half of annual revenues.

Third, there is a demand effect. In the rush, competitors make the implicit – and mistaken – assumption that all customers demand the same thing: great products at lowest prices. In fact, many customers place price low on the priority list. In holiday retailing, some customers want only the best or the latest or the most stylish, while some want absolute shopping convenience – to quickly get in and out of a store or Internet site. Still others want absolute assurance that they will be able to get precisely the gift they want to give. Imagine the value that these customers realize when these legitimate needs are met – and the folly of retailers severely discounting to give it all away.

It defies managerial pricing logic that these firms spend their most valuable marketing resources (advertising/promoting at the most opportune market moment) appealing to the least valuable customer segments – brand switchers and discount buyers – and adopting the harmful practices of irrational competitors. They train their existing loyal buyers to focus on price, rather than the important differentiating benefits the firm spends the entire rest of the year developing. They unwittingly unleash a negative framing effect on the rest of the market by expanding the low end of the market, which causes other buyers to adjust their own price expectations downward. And by packing their stores with discount shoppers, who quickly deplete the best inventory, they depreciate the value of the shopping experience for those who prefer an unhurried experience in a store prepared to meet their needs.

What is the solution to euphoric competitive pricing?

First, it is essential to educate competitors about its destructive effects and teach them how to properly manage relationships with their competitors. Retail associations, industry conventions and Chambers of Commerce offer forums to do this.

Second, players must play to their own competitive advantage and signal other competitive players of their intent to pursue non- price strategies. Niche marketers, such as catalog companies (Popcorn Factory, Coldwater Creek, L.L. Bean) or some fashion retailers (American Eagle Outfitters) do this well by offering tailored and differentiated product mixes at full price.

Finally, strong gross margins are essential to survive euphoric competitive pricing. This was especially evident in the Internet rush, where companies with strong gross margins such as eBay were much better able to weather the intensity of euphoric price competition, while others with weak margins (Garden.com, Value America Inc. or eToys) struggled.

The lesson: survival and success go to the fittest and the smartest, not the first to discount ever earlier and deeper to win the next irrational rush for sales.

Dr. Gerald Smith is Associate Professor of Marketing at Boston College and a consultant and lecturer on competitive pricing strategy with the Strategic Pricing Group, Boston.

Sneak Peek! Don't miss the next issue of 360º Pricing which will feature an article
Sneak
Peek!
Don't miss the next issue of 360º Pricing which will feature an article by the
father of value-based pricing himself, Dan Nimer. A PRICEX trailblazer at this
year's event, Dan's article is titled On The Pricing of Mercedes, Joy
Perfume and Other "Stuff".
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360 ° Pricing • May 2003

360 ° Pricing ° Pricing

EDITOR AND PUBLISHER

Heather Kalish

ASSISTANT EDITOR

Michael Hurwich

BUSINESS DEVELOPMENT

Deborah Hatcher

MARKETING MANAGER

Adrienne Nicholl

www.pricinginstitute.com

pricinginstitute@iirusa.com

This Edition’s Sponsors

pricinginstitute@iirusa.com This Edition’s Sponsors Selectica, Inc. enables enterprises to reduce costs and

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Rapt improves the profitability of our customers by aligning and optimizing complex pricing and supply investment decisions. Rapt’s enterprise software suite, Rapt Profit Center, Rapt enables companies to not only generate more revenue through profit-optimized price decisions, but also capture enables companies to not only generate more revenue through profit-optimized price decisions, but also capture that revenue through profitable supply investments. For more information, visit www.rapt.com

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deal execution. For more information, visit www.vendavo.com Strategic Pricing Group (SPG) is the leading pricing and

Strategic Pricing Group (SPG) is the leading pricing and value-based strategy consulting firm helping drive revenue and profits for Global 2000 companies competing in business-to-business markets. SPG’s deep experience in pricing strategy, implementation and collaboration at all organizational levels helps companies identify and capture unique value. Contact SPG at 781-890-4550 www.strategicpricinggroup.com

Foundation Research Group (FRG) How many times has your company paid for consulting services without adequate front-end research? Backed by Foundation Pricing Group, FRG offers Customized Market Research to help your organization match your pricing strategy with what customers VALUE. This valuable & cost-effective step provides front-end research to support your back-end pricing strategies. For more information contact: 416-516-8216, info@aboutfoundation.com or www.aboutfoundation.com.

pricing strategies. For more information contact: 416-516-8216, info@aboutfoundation.com or www.aboutfoundation.com.

© Institute for International Research (IIR) BV 2003

Adapting to Culture and Pricing for Value in China

By Michael N. Hurwich

M My recent experience in China gave me an

opportunity shared by only a handful of pricing

consultants. I was invited to share my strategic-

pricing knowledge and experiences with senior

executives and management from some of the best-known corporations in and around China. The participants represented industries such as pharmaceuticals, tire manufacturers, flavorings and fragrances, telephony, distribution and consumer packaging.

I want to share my observations of how companies conduct business in China and the pricing knowledge I obtained from industry participants and by watching an American negotiate a purchase at a select Shanghai retailer.

There is enormous opportunity and competition in China as companies race to capture as much

market share and profitable revenue growth in their respective industries as is relevant and attainable

China's Gross Domestic Product reached $1.21 trillion USD in 2002, an increase of 7.9 percent. according to official estimates and is expected to grow by another eight percent in 2003. While there is controversy about the accuracy of the official estimates, China's GDP growth has few rivals. This success is partially based on China's admission into the World Trade Organization in late 2001 and the GDP growth and increases in exports are expected to continue at a significant rate.

Here are my personal pricing observations about the strengths, weaknesses, opportunities and threats of conducting business in China.

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Introducing:

It is with pleasure that we announce The Pricing Institute’s Cross Industry Corporate Practitioner Advisory Board. These professionals have been chosen specifically to represent their industry and to lend their expertise as we grow the Pricing Institute and work to establish PRICEX as the premier PRICING industry event. Welcome Aboard!

Ken Levy, Director of Pricing Roche Diagnostics

Anita Burrell, Global Health Economics Aventis Pharmaceutical

Joseph Marigliano, Director of Pricing Hagemeyer

Mitch Farber, Director, Business Development Cingular

Steve Maguire, Director Business Analysis Sears

Harold Peck, Sr. Pricing Manager Best Buy

Bob Baker, General Manager, Strategic Pricing Armstrong World Industries

OptimizingOptimizing PricePrice

is a Beautiful Thing

By Rapt, Inc.

There's T no secret about the benefit of optimizing price - a one

percent price improvement delivers eight percent of profit

improvement, according to McKinsey & Company. Yet many

companies have spent the past few years cutting costs

through workforce and COGS reductions and ERP implementations – until there are few, if any, costs left to cut.

If optimizing price delivers better results, why have many businesses spent so much time and effort cutting costs? Simple: because until now it has been easier to cut costs than to optimize prices in the face of uncertainty. There is much uncertainty in business today, whether it is economic, marketplace, competitor or other industry conditions. When faced with all these variables, many companies focus on the elements individually rather than taking a collaborative view of how the variables affect one another.

Companies seem to hold the misperception that price optimization is too complex and unwieldy to generate true, rapid results. Pricing technologies, however, have emerged over the past decade as a credible and reliable solution for companies to gain market share, increase revenue and improve profits.

Once predominately utilized in the retail and hospitality industry, today new approaches to price optimization make it possible for high-technology manufacturers, semiconductor producers and even media companies to recognize significant business improvements. Hewlett-Packard utilizes a Rapt price- optimization solution that delivered revenue uplift of $15 million per quarter in their Unix NA Division.

Price optimization makes it possible to reduce the impact of uncertainty and create an environment of improved predictability. By engaging advanced mathematics, in addition to spreadsheet arithmetic, critical pricing tools are developed for dealing with uncertainty. This practice is not new; commodities traders have

continues on page 4

is not new; commodities traders have continues on page 4 Register Now! Visit www.iirusa.com/pricex or call

Register Now!

Visit www.iirusa.com/pricex or call 888-670-

8200. Be sure to mention the code XMP-NEWS.

No other event being offered today provides as many best-in-class case studies from as many corporate practitioners such as Alcan Aluminum, Armstrong World Industries, Best Buy, Dell Canada, Eastman Kodak Company, Fed Ex Latin America, General Motors, Hagemayer, Hewlett Packard, Livingston International, Michelin, Roche Diagnostics, Rockwell Automation and more. Plus, don’t miss the keynote speeches from:

Don Soderquist, Former Senior Chairman Walmart

Kent McNeley, Vice President Eastman Kodak

Sanjay Dhar, Professor University of Chicago GBS

May 2003 • 360 ° Pricing

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© Institute for International Research (IIR) BV 2003

Adapting continues from page 3

1 As many of the delegates attending my Strategic Pricing Workshops reminded me, the

Chinese have been in the merchandise and spice trade for centuries. Value pricing, however, has traditionally taken a back seat to ensuring market share is retained and grown at all costs. As a result, the Chinese are accustomed to negotiating on price rather than the value propositions of the product offerings.

2 Many multi-national companies have failed over the years by behaving in ways that

induced price wars in the Chinese marketplace. In an effort to unseat the incumbent many foreign companies have taken a pricing-penetration approach to gaining market share and revenue, only to find themselves immediately matched on price by domestic competitors.

3 An environment controlled and managed by a centralized government creates substantial

challenges for domestic and foreign competitors. Many companies have failed, and continue to fail, by adopting pricing strategies that provide alternative approaches to varying customer, regional segments and government interference. For example, the government often requires that certain pharmaceutical OTC drugs be priced lower to reduce the financial burden for the government and end-users. Branded pharmaceuticals usually are given little time to adapt to such mandates. In fact, the government encourages price competition by providing little in the way of penalties to generic pharmaceutical manufacturers copying prescriptive drugs prior to their coming off patent.

4 The new generation in China is adapting quickly to western forms of capitalism,

especially in the larger cities and provinces. Higher quality products and services are not only appreciated but also expected. As product proliferation is abundant in China, with new line extensions competing for attention in a growing market, one means of differentiation is for a company to provide additional customer service and price accordingly to capture the incremental positive differentiation.

5 Companies must be able to execute on the acronym MASDA (Meaningful and Sustainable

Differential Advantage) as coined by Dan Nimer of The DNA Group Inc. China is effective and efficient at duplicating products, services and images and producers benefit from a murky legal system and inadequate protection of intellectual property. Companies must adopt a strategy that differentiates them from the domestic competition. More importantly, companies must quickly adapt to ensure they have a differential advantage, even if intellectual property is compromised. To combat price transparency and rapid product duplication, communicating value to the end-user plays an

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360 ° Pricing • May 2003

important role in securing market share and sustaining brand awareness.

6 The Chinese leave money on the table as they have been so conditioned to negotiate on price

that they have failed to segment their customers into categories, such as Price Sensitive, Convenience, Loyal and Value Shoppers, to capture additional revenue from the segments that value quality and/or other non-price attributes.

In a well-known jewelry store, I watched a savvy American negotiate the purchase of several necklaces to take back to the United States. The salesperson was excited about selling several necklaces to one person and offered a 50 percent reduction from the list price. As a result, she immediately compromised the integrity of the pricing ceiling and opened the door to further price concessions by unintentionally communicating that she was selling on price rather than value.

By the time the negotiations ended the purchaser had a 70 percent price concession. At one point, he threatened to walk away from a 65 percent reduction unless the salesperson capitulated. Later the customer admitted to me that he would have accepted 65 percent but believed the salesperson's hand was revealed when her boss arrived and stood behind her for the balance of the negotiation. He believed the boss was applying pressure to close the sale, even though he did not speak during the negotiation.

The market in Central China, particularly in large cities is primarily high-net-worth or low-value customers. Moving from a cost-based, price- sensitive approach to value-based pricing involves researching and segmenting customers and understanding their decision selection criteria at both ends of the pricing spectrum.

Companies should satisfy customers only to the point where the incremental increase in customer satisfaction that can be captured in the price exceeds the incremental increase in the product cost. Since a company cannot always create the same value for all customers, value-based marketing and pricing suggests that a company should carefully select its customers. This involves determining when to respond in kind to price or price competition and when a non-price response or no response is a pragmatic alternative.

China provides a significant and rapidly growing market. Since China joined the WTO in 2001, many domestic industries have been forced to compete on the foundation of well-managed goals and objectives. Joining the WTO has put enormous pressure on the Chinese government to reduce trade tariffs over the next five years on many goods and services in numerous industries. As a result, the situation is becoming fairer and less restrictive for multi-national companies. As well, the Chinese marketplace has come to

appreciate and value quality in many industries such as electronics, hotels and hospitality, cars, fast food and wireless technology.

Companies will succeed in this marketplace if provisions are in place to develop a roadmap of their management system for a value-based pricing strategy and a method to deal with cultural and organizational roadblocks that slow the value- based pricing process.

Michael N. Hurwich, Partner Foundation Pricing Group http://www.aboutfoundation.com

Optimizing continues from page 3

mastered the notion of providing predictability in the face of uncertainty and have built a multi-billion dollar business out of it. What is new is that these mathematic principles and philosophies can be applied to price optimization.

Businesses today demand analytic applications that deliver answers, not just access, as the starting point of data analysis. From that point, the price-optimization tool must deliver a dramatic and favorable return on investment that can be measured in days or weeks instead of months or years.

A company seeking to implement price-

optimization technology should begin by selecting an application that houses a strong analytic engine that truly understands the specific structure of the company's particular optimization model. In short, the engine must be able to translate word problems into mathematic terms and then identify the right model for solving the price-optimization puzzle.

Comprehensive visibility across a company's entire operation is key for the success of any pricing solution. By utilizing the science of price optimization, companies can more precisely predict the impact of their pricing decisions based on a fusion of demand, sales force execution, customer willingness-to-pay and financial results - areas that every corporate stakeholder expects to be effective and efficient.

In today's world, organizations that welcome and

embrace uncertainty will prosper, whether in the business of price optimization or in a particular vertical or horizontal industry. In the face of uncertain markets and economies, price optimization can be deployed as a powerful, strategic weapon. And there is no time like the present to make that happen.

For more information, contact Rapt, Inc. Phone: (866) 999-1555 Web: http://www.rapt.com Email: info@rapt.com

© Institute for International Research (IIR) BV 2003

Price P optimization has a reputation for generating

higher profits in industries such as retail, hospitality

and transportation. Optimization works well in

these industries because customers are price-

takers, numerous, self-select among different offerings and engage in many individual transactions.

This detailed information can be used to look for the outliers. What elements are driving lower margins? Is discounting always justified? Are free services to smaller customers hurting the bottom line? Are some customers significantly more or less profitable than their peers?

In analyzing business after business, the surprisingly consistent conclusion is that similarly situated customers, products and sales reps will show anywhere from a 30 to 70 percentage point difference in profitability and that many companies have a significant amount of money-losing business. 1

spreadsheets for sales reps to model deal scenarios. This approach, while time-consuming, resource-intensive and inflexible, has provided a significant step forward from the no-insight, inconsistent-execution starting point.

As web-based enterprise applications have matured, however, companies have begun to adopt dedicated price-management solutions that automate manual data capture and analytical processes and add significant flexibility around how deals can be structured, reviewed and

approved. The visibility these systems bring to the entire pricing process reveals significant opportunities to improve margins by up to two percentage points. 2 Early adopters of price-

management solutions stand to gain a significant advantage by bolstering their bottom line, just as most competitors struggle to protect, never mind grow, margins in the current environment.

Ultimately, optimization's success in

retail and other sectors has served to awaken other industries to the potential of price management for strengthening the bottom line. By gaining greater insights into pricing variability across the business and improving front-line execution, companies in negotiated-price environments can significantly increase margins without raising prices or even changing the underlying dynamic of the business where buyers and sellers will continue to develop unique deals that meet both their needs.

Companies in these sectors can treat their markets and customers as portfolios, where predictable segments purchase offerings at price points that generate optimal profits. Given the buzz generated by optimization, it's no wonder other industries want to jump on the bandwagon. But is

optimization the best way to go for

B2B?

Insight and Execution:
Insight and Execution:

Once companies have gained this insight, they need to ensure consistent execution. Here again, the answer is not to deliver an optimized price that is negotiated away. At a minimum, companies must provide the sales force with insight into how every element of a negotiation affects the bottom line. Ideally, sales forces have tools to negotiate deals that meet the company's profitability goals.

Most B2B environments differ markedly from retail, hospitality and transportation. Perhaps the most important distinction is that customers are not price-takers. Indeed, customers usually wield pricing power, much to the dismay of sellers. An optimized price rapidly loses its significance when customers constantly negotiate and trade off every element of their business relationship with the company.

To deliver higher margins from pricing in a negotiated environment, companies must resist the temptation simply to adopt proven retail practices. Instead of focusing on optimizing prices, they must think about managing price against this backdrop:

The Keys to

B2B Pricing

By Rafael Gonzalez Caloni

Profitability varies widely, even across similar customers and deals

Many negotiated price and non-price elements contribute to this variability

Companies lack visibility into, or effective control over, this process

Insight and execution are straightforward in concept. In practice, however, they require companies to develop and roll out tools to analyze their pricing and empower consistent deal negotiation. Companies traditionally have relied on homegrown tools such as databases that capture transactional data to conduct pricing analysis and

1 Vendavo analysis of diverse companies in process and discrete manufacturing industries.

2 Vendavo customer experience.

Rafael Gonzalez Caloni is Vice President of Market Development for Vendavo. http://www.vendavo.com

So how can a company optimize its margins in a negotiated environment without resorting to the tools that have been successful in retail? Two words are key to pricing excellence: insight and execution.

Let's begin with pricing insight. Many companies are surprised to find that star customers may actually be costing them money, while other, less visible, customers contribute solidly to the bottom line. The same is true for some sales reps, who may "blow away their numbers" and "blow" a hole in margins. This also is true for product lines, customer segments and channels. Figuring out who's who does not require optimization, but it does require tracking and understanding every element on every transaction: list price, discounts, invoice price, rebates, allowances, shipping charges, services, net price, product costs and net margin.

Did You Know A gallon of water is more expensive than a gallon of gasoline?
Did You Know
A gallon of water is more expensive than a gallon of gasoline?
The last time I checked, a gallon of water at the local convenience store was
around U.S. $2 while an equivalent amount of gasoline was approximately $1.06*.
Why is water costlier than gasoline? The answer has to do with utility and scarcity.
It appears that consumers find water more useful and scarce than gasoline and are
willing to pay for the convenience of ‘perceived’ good quality water.
So, the next time one of your colleagues says: “We can’t raise price, because we are selling a
commodity product,” remind him/her that mature products such as water can command a premium
price if the economic value can be created, captured and communicated to the right audience.
—Michael Hurwich, Partner, Foundation Pricing Group
* Gasoline: Sales to End Users through Retail Outlets in the State of New York in/around January 2003 (National Energy Information Center)
If you have a thought-provoking statement/ fact/statistic related to pricing principles, send it to hkalish@iirusa.com with the
subject heading “Did you Know?” If chosen, yours will appear in the next issue of 360° Pricing!

May 2003 • 360 ° Pricing

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360 ° Pricing • May 2003

© Institute for International Research (IIR) BV 2003

Pricing in Tough

This T economy is tough! While it did not seem as if

things could get any worse, the first quarter of

2003 has left many managers longing for 2002.

The pressure for profit improvement is intensifying. Because sales volume has declined for many companies there is strong temptation to cut price, grow share and regain some lost volume. Before you do, however, read the caution: "Pricing Professionals - Do Not Attempt This At Home." Now is the time to think carefully about profitable growth.

What's wrong with price discounting to grow share and maintain volumes during tough times? Won't customers respond to price cuts by ordering

more? Maybe

with this approach.

but there are several problems

The first problem with aggressive price discounting

is that while customers welcome lower prices, this

may not result in higher sales for the company initiating the price decrease. As shown in Table 1, a company with a contribution margin of 25 percent would require a 67 percent increase in sales to offset a 10 percent price decrease.

Can the company sell more? Only if ultimate demand goes up. If you cut price and there is no change in ultimate market demand, customers can bank your lower price and you won't benefit. This lower price/same-demand environment is a no-win game and one that is playing out in many markets today. Demand curve gains? Forget it.

What about winning share away from a competitor? Consider the competitor's situation:

their sales also are declining. And if they have high levels of fixed cost, they have seen unit costs go up as demand goes down – the same situation you may be facing. Suppose you cut price to win some additional volume. The losing competitor sees demand decline even more and unit prices go even higher. How are they likely to respond? By cutting price to grow volume of course. The result?

A full-blown price war, with declining profitability for

all.

There's an additional problem. As companies cut price in an attempt to grow volume, customers begin to believe their suppliers can live with the lower prices. Even worse: as prices are cut, customers learn delivered value does not count. It's all about price - low price.

Economies go through cycles over time. The current challenge is that we seem to be in an extended funk. But trust us - this economy will start to improve. And when it does, companies will regret their aggressive price discounting. Price cutters will find it very difficult – perhaps impossible

Economies

By George E. Cressman, Jr. and Francois Delvaux

3. Customer communications and negotiations

must be managed The key to shorter and longer-term profitability is management of customer value perceptions. In tough economies managers often cut market communication efforts to reduce costs. Reducing market communications can have disastrous consequences. Rather than reducing market communication, tough times require increased communication. Regardless of economic conditions, customer communications should be value based. Customers must understand the economic impact - value - of what they get from you and cannot get from your competitors. Value communication in tough economies does not have to create lots of extra cost: the sales force should

be primed to frame value delivery in all sales calls –

a good thing to do in all phases of the economy.

As customer price pressure increases, the best counter is accelerating value communication.

4. Competitor interactions must be carefully

managed As demand slows, managers will be strongly tempted to chase volume – demand owned by

competitors. Taking a competitor's volume is best done using a value-based approach against competitors who have poor capability to respond.

In tough economies, managers must carefully

evaluate every price move – especially those aimed

– to improve prices. And if price discounting does precipitate a price war, poor profitability will continue to plague managers for years.

So what can managers do in a tough economy? Here are the key priorities:

1. Assess the nature of declining demand

Does the problem arise from general economic conditions or is it the result of aggressive competitor moves? When the problem is the result of slow economic growth, managers must adjust their expectations. Even if customers get lower prices, they will not take more - demand for their products is down. When demand declines because of problems in the macro-economy, the first priority for managers is to adjust sales forecasts and production to market realities. Continuing to produce for higher levels of demand means inventories will grow, increasing pressure to "move the juice" while ignoring price implications. As inventory piles up, you will be tempted to price for sales; the shorter-term pressure of inventory builds will overwhelm concerns about longer-term profitability. The antidote: adjust forecasts and production to match the market.

2. Competitor actions must be addressed

Competitors may continue to produce and sell at higher levels. Adjusting to market demand realities

Change in Sales Volume Required to Off-Set a Price Decrease

%

Contribution

Margin

% Change in Price

-5%

-10%

-15%

-20%

20%

33%

100%

300%

 

25%

25%

67%

150%

400%

30%

20%

50%

100%

200%

35%

17%

40%

75%

133%

40%

14%

33%

60%

100%

Assumes no change in incremental costs (fixed or variable)

only works when competitors also make adjustments. An important management task in declining economies is market communication about the nature of the market and underlying causes of demand shifts. The objective of this market communication is to make sure all market participants - customers and competitors - understand changes in demand are caused by economic trends not competitor opportunism. Of course such communication doesn't guarantee competitors will adjust their market activities. Our experience, though, is that managers do not always have accurate market intelligence and respond slowly to changing market conditions. Providing credible information about economic shifts can go a long way in encouraging reasonable market actions.

at increasing demand. If the competitor can and will retaliate, price wars are likely. Some volume cannot be profitably won in either the short or the long term.

Competing in tough economies is a challenge many companies currently face. The situation is frustrating and troublesome. While growth and profit suffer in these markets, managing to minimize the impact can be done. The key to succeeding lies in careful management of customer negotiations, competitive dynamics and internal expectations.

George E. Cressman, Jr. and Francois Delvaux are, respectively, senior pricer and senior consultant at Strategic Pricing Group. http://www.strategicpricinggroup.com

May 2003 • 360 ° Pricing

7
7

Dear Pricing Professional,

Never before has Pricing received so much press! Given the current economic climate, the mergers, the war, the controversy – it is no surprise that pricing has become a hot topic. Here at the Institute we believe there is much to celebrate. We are proud to be in partnership with the Foundation Pricing Group and together we look forward to providing you with fresh ideas and perspectives in the Pricing Institute’s newsletter to help you position pricing as a continuous process that involves an entire organization’s health, wealth and future growth. It is with pleasure that we present:

360 ° Pricing ° Pricing

It is with pleasure that we present: 360 ° Pricing Institute for International Research 708 Third

Institute for International Research 708 Third Avenue, 4th Floor New York, NY 10017-4103

Why 360° Pricing? Because pricing is everyone’s responsibility and we believe it should play an integral role in organizations’ entire strategic decision-making process. This newsletter will help sustain an ongoing dialogue between top industry strategists, cross-industry corporate practitioners, recognized pricing consultants and leading technology suppliers in support of pricing as a discipline. The goal is to provide thought-provoking pricing ideas and guidance to support price decision-makers and management personnel from a wide array of industries.

We want to hear from you! To sign up for an initial complimentary subscription and offer your feedback, please visit www.pricinginstitute.com.

PRSRT STD U.S. POSTAGE PAID PERMIT NO. 21 BURLINGTON, VT

As we continue to grow, do consider our forums to help you promote and market your organization:

1. Sponsoring and exhibiting our events

2. Conference session, workshop, seminar and webinar leader positions

3. Article submissions for upcoming newsletters

To learn more about The Pricing Institute or The Foundation Pricing Group, please contact www.pricinginstitute.com or Hkalish@iirusa.com and www.aboutfoundation.com or

mhurwich@aboutfoundation.com, respectively. Issue 1 • Volume 1 • May 360 ° Pricing The Official
mhurwich@aboutfoundation.com,
respectively.
Issue
1
Volume
1
May
360
°
Pricing
The
Official
Newsletter
of
the
Pricing
Institute
Newsletter
Presented
By:
IN
THIS
ISSUE
Launched
16
years
ago,
The
Foundation
Pricing
Pricing
Institute
(creators
of
Group
(FPG)
is
a
RICING
Euphoric
Competitive
Pricing
and
PRICEX)
was
the
original
market
leader
in
value-
INSTITUTE
the
Irrational
Rush
for Sales
forum
for
the
dissemination
of
based
pricing
in
B2B
ideas
and
new
thinking
on
pricing
tactics
and
and
B2C
markets.
FPG
is dedicated
to
working
Adapting
to
Culture
and
Pricing
for
strategies.
Our
mission
is
to
provide
targeted
with
companies
to
develop
pricing
&
marketing
Value
in
China
learning and networking opportunities through
conferences and seminars and help sustain an
ongoing dialogue between cross-industry
corporate practitioners, recognized
consultants/strategists and leading suppliers in
support of pricing as an evolving discipline.
www.pricinginstitute.com
strategies that challenge top and bottom line
performance. The firm's main services are pricing
strategy, research, education and training. Each
assignment is carefully managed by a professional
team using proven methodologies and techniques
to 'ensure a solid foundation for growth'.
Optimizing Price is a Beautiful Thing
Insight and Execution: The Keys to
B2B Pricing
Pricing in Tough Economic Times

2003