2. Traditional Approaches for Pricing
Based
Approach Upside Downside
on
Cost-plus Costs • Focus on profit • Ignores market factors
• Ignores customer value
• Costs can and will change
3. Cost Based Pricing
• Cost-based approach to pricing combines a calculation of
costs with a target profit margin to arrive at a target price
Target Price
$1.50 / unit
Profit margin
$0.50 / unit
Costs
$1 / unit
Pag
4. Cost Based Pricing
• What happens if production costs decrease?
• What if some customers will pay more?
• What if sale volume is less than expected?
5. Cost-based Pricing - Example
Total Cost Unit Cost
Direct Variable Costs $10,000,000 $10.00
Direct Fixed Costs $20,000,000 $20.00
Administrative Overhead $5,000,000 $5.00
Full Cost $35,000,000 $35.00 14%
Revenue $40,000,000 $40.00
8. Traditional Approaches for Pricing
Based
Approach Upside Downside
on
Cost-plus Costs • Focus on profit • Ignores market factors
• Ignores customer value
• Costs can and will change
Market-based Competition • Reality of the market place • Customers will promote
competition
9. What price are you willing to pay?
$100
Lower
Sales
Customer
Rep $75
Lower
$50
Lower
12. Understanding Price Competition
Firm
Pricing Strategy
& Execution
Intensity of
Firm
Competitive
Profitability
Rivalry
Industry
Health
Source: Competitive Strategy, Michael Porter, 1980, Free Press
13. Market Based Pricing
• Price competition is a negative sum game.
• Competing on value is a positive sum game.
14. Traditional Approaches for Pricing
Based
Approach Upside Downside
on
Cost-plus Costs • Focus on profit • Ignores market factors
• Ignores customer value
• Costs can and will change
Market-based Competition • Reality of the market place • Customers will promote
competition
Value-based Customers • Higher prices for customers • Difficult / expensive to identify
who get more value • Difficult to implement
• Lower prices for low value
customers can expand
market size / revenue
15. Understanding Customer Value
Economic Value Non-Economic Value Other Types
Quantifiable in Characterized in Societal – benefits /
financial terms psychological terms cost reductions for a
• Increased revenue • Higher confidence population
• Decreased costs • Fewer hassles Clinical value –
• Increased margin • More prestige improvements in care
or price level process
Potential value –
enhanced opportunity
for value creation
16. Elements of B2B Customer Value
Economic Value
Negative
Negative Competitor’s
Differentiation
Differentiation unique value
Your unique
value
Positive
Positive Value
Value delivery Customer perspective
Differentiation
Differentiation
delivery
Value
Value Defined on relative basis
Depicted in economic terms
Total Economic
Value
Price of Next
Best Competitive
Competitive
Different value for different
Competitive
Alternative
Reference
Reference customers
Source: The Strategy and Tactics of Pricing, Nagle and Hogan, 4th edition, Prentice Hall
17. What influences the customer’s
willingness to pay?
Their perception of value
18. Maintain Relationship between Price and Value
High Price High Price
P1 Offer1
Offer 2
Offer 3
P2
Low Price Low Price
Low Value High Value Low Value High Value
24. Terms for Pricers
• Pocket Price
– The net price for a transaction after
all on-invoice and off-invoice
deductions, promotions, and rebates
etc. are deducted.
– A relative measure of price
performance
• Pocket Margin
– Calculated by subtracting the total
direct costs (direct material, direct
labor) and any transaction related
costs from the pocket price.
– A comprehensive measure of
transaction attractiveness
25. Price Waterfall – Better Insight
Green Co. Blue Co.
$100
$80
Invoice Price
Invoice Price
28. Pricing Processes Span the Organization
President
BU General
R&D Finance Marketing Sales Operations
Manager
29. Price Waterfall
• You can’t improve what you can’t measure
• Better insight for more informed decision
making
• A robust source of information on pricing
• Is bigger better for price waterfalls?
• Start simple, capture improvements, increase
sophistication
31. Tools of the Trade
• Policies
• Approval
• Guidance
32. The Spend Management Agenda
• Assure reliable supply
• Negotiate lowest price
• Rationalize suppliers
• Source low cost-country producers
• Eliminate design cost and lead times
• Drive internal compliance
33. What is the Right Model for the Organization?
Centralized Decentralized
Response vs. Control
Elements of each model are required for optimal business
performance
34. Resources to Learn More about Pricing
• There are a number of good books on the subject
– Pricing and Profitability Management: A Practical Guide for Business
Leaders
– Contextual Pricing
– The Strategy and Tactics of Pricing
• Professional Pricing Society
– Conferences and workshops
• Vendavo University OnDemand