Think You Have the Right Price? Think Again!

Think You Have the Right Price? Think Again!

The majority of manufacturers and distributors use a cost-plus approach to pricing their products. In fact, McKinsey & Company research shows that over 63% of all manufacturers are still using a cost-plus pricing strategy. Unfortunately, while cost-plus is relatively easy to apply it tends to either leave money on the table or discourage sales by proposing prices that are, in the customer’s view, too high.

 

That’s not to say this “one size fits all” approach doesn’t have a place in pricing. It is, in fact, very useful in setting price floors. However, that’s where its usefulness ends. What you need is a process for determining optimal pricing – that is, the prices that maximize your profits and sales.

 

Start by recognizing that every sale is unique. Every buyer, customer, market and product has its own unique level of price sensitivity. The various combinations of these factors can result in hundreds or even thousands of individual profiles that determine what a customer is willing to pay. These individual profiles are known as price segments.

 

How do you identify and leverage these price segments? Assess each of the following fundamental factors:

 

  • The product – All products are not created equal. Some are commodities, where pricing decisions must be made with the competitive environment in mind. Margins are typically tighter on these products, which tend to be among a company’s core offerings. On the other extreme are high-value products that are custom-built, contain proprietary content or feature a unique capability by the supplier. These products command higher prices in return for the higher value delivered. Between these endpoints lies a range of products of varying value offerings. The unique price sensitivity level of each of these products must be factored into the price-setting decision.
  • Markets and market segments – Each market has its own level of price sensitivity. The automotive OEM market is far more price sensitive than the oil and gas industry, for example. Recognizing these differences and adjusting prices accordingly is key to achieving price optimization.
  • Customer price sensitivity– This factor is critical to not only optimizing prices but also maximizing sales volume. Look at the customer’s size in relation to its total spend with your firm. Larger customers have more buying power and typically require more competitive pricing while smaller customers can support higher pricing. In addition to customer size, factor in frequency of ordering, the number of special orders, buying skills and expertise, and the economic impact of the product on the customer’s business.

 

Once you’ve taken these factors into account, you still may be challenged by not having a platform or architecture that enables you to set the myriad prices necessary to maximize your profits and sales. After all, your company is likely to have potential price drivers beyond the three mentioned here. Calculation and execution of your pricing strategy can become extremely complex.

 

Consider the real-world candy producer and distributor with 500 SKUs. With hundreds of customers and 10 different market segments and channels, this company’s analysis revealed the need for more than 9,000 different prices to accommodate each potential pricing segment scenario. PricePoint Partners built a tool incorporating the required algorithms into a simple user interface so that the firm was able to easily identify and apply the very best price for every potential scenario.

 

We could help you as well. But the first step is up to you: recognizing which factors determine your price segments and beginning to apply the most significant ones to your business. Taking that first step away from cost-plus and toward an optimized pricing strategy will put you on the path to increasing your profit margins and company value.

 

PricePoint Partners helps manufacturers and distributors leverage price to improve profit margins and company value. To learn more, call Price Point Partners’ pricing consultant Ralph Zuponcic at 330-342-0923 or sign-up for our monthly newsletter to receive additional information on pricing strategies for manufacturers and distributors.

 

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About the Author
Ralph

Ralph Zuponcic

President, Price Point Partners

Ralph is a national authority on strategic pricing. He has been featured in publications including The Wall Street Journal, Fortune Small Business, CFO Magazine and Marketing News.

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