Why is pricing so difficult? And why do so many companies get it wrong?
It often comes down to organizations not being clear on pricing purpose. Just think—what are some of the pricing purposes we hear in big organizations? One of them we hear a lot is “price to cover cost.” The biggest problem with that? Customers don't care about your cost, and they'll gladly tell you so in a negotiation. More importantly, when you price to cover cost, you leave the value you deliver to your customer’s P&L unaccounted for. That means you could price too low and leave money on the table for the value you deliver, or in some cases, if your price is out of line and you've got a cost structure that's not competitive, you could price too high for your customer. In that case, you won’t deliver that value to their P&L and thus not be able to close the deal with them. “Price to cover cost” is a very basic form of pricing purpose, and one that we should expand upon as price practitioners.
The second one we might hear a lot about is “price to market.” The biggest problem with pricing to market is that we sell to customers, not markets, and customers use our products in unique ways. We’ve been told we’re commodities a lot. Just because we're told that we are a commodity (which is a procurement tactic), does not mean we are a commodity. So pricing to markets might leave money on the table as well, because we might actually deliver more value to the customer’s P&L than we might price to market. Dig a little deeper into this, figure out if we can quantify the impact we deliver to our customer’s P&L, and make that part of our pricing purpose.
The next one that I hear a lot in organizations—particularly ones that are trying to do a turnaround or trying to grow—is: “price to close the deal.” The biggest problem with that is that we create poker players out of our customers, because we completely leave the value we deliver to the customer’s P&L off the table when we're so anxious to close the deal. I'll call that a fool's game. You will continue to have that same quarter-end and year-end practice with your customer, because they know it's more important to close the deal than to quantify the value you deliver to them and include it in your price.
Finally, what we might hear a lot is, “price to grow revenue.” I'm really good with that, as long as we balance it with profit. Growing revenue alone does not give us the money to reinvest and innovate as a company, so when we think about pricing purpose, “price to grow revenue” is a good one, as long as we're balancing it with profit.
Back to: Why is pricing so hard and why does so many companies mess it up? Typically you'll hear at least two, or maybe all, of these different pricing purposes in your organization. The number one thing to do when thinking about pricing practice is to organize and align the company around a true pricing purpose, which is to make profit.