One of the biggest frustrations I hear from chief executives and founders, particularly in software and client service businesses, is the difficulty of getting paid for the full value that the business delivers to its clients.
You have spent years developing a product or a level of expertise which enables you to deliver huge amounts of value in very little time, but you struggle to articulate the full value of your offering or spend hours in mind-numbing arguments with procurement departments who care only about hourly rates and are expert at filleting out your profits.
In fact, this is only part of the problem – the tip of the iceberg. Whatever pain you experience in the pricing process, the biggest loss may be invisible. It is so easy to let profits slip through your fingers through sub-optimal pricing. If you think this may be happening to you and you think it is time for it to stop, read on.
Pricing is powerful
Typically (according to a study by McKinsey & Co), a 1% increase in your average price raises profits by 11%. This is much more powerful than a 1% reduction in fixed costs, which typically boosts profits by 2.7% It is even better than that; not only is it more powerful, improving pricing is mostly easier. You will have been all over your fixed costs very regularly, but pricing is virgin territory.
Pricing psychology is weird
If you come from a data-rational background – science, engineering, economics – you will find the psychology of pricing profoundly strange, maybe even annoying. Why would offering stupid options, or options that nobody buys, boost revenues? Why are some types of value systematically overvalued, and others undervalued? Why do so few people respond to compelling ROI calculations? It is all completely irrational, to the point of being offensive. Offensive and irrational it may be, but it is completely comprehensible if you have the right body of theory.
Pricing is situational
One of the problems – or, if you look at it the right way, opportunities – of pricing is that a huge amount depends on the particular facts of the situation. There are principles, but no recipes. Why is one executive coach able to charge £500 per hour while his friend, probably better qualified, struggles to get beyond £200? Because of a particularity of the first guy’s market.
You probably don’t understand the full value of what you offer
I have sat in board meetings where the head of sales laid out a carefully developed rationale for the price of a million-pound software sale, only for a non-executive director to point out a different story that supported a value infinitely greater.
I have helped another software business overhaul its pricing model to create an utterly reasonable “you-would-have-to-be-perverse-to-disagree-with-it” scheme which produced five times the revenue from the same customer and user base.
I have advised a European engineering group and found that their Italian company achieved margins of 70% on certain types of products on which the UK company only made 25%, simply because the Italians understood their value better than the Brits.
You need to look outside your own industry
If you believe in tracking industry best practice, I recommend that you make an exception in the case of pricing. Your industry’s best practices are probably pretty poor. (According to an informal survey I did of about 1,000 companies in many diverse industries, 80% are leaving money on the table because of poor pricing policy).
When I talk about pricing, I talk about Somali pirates, Viennese psychoanalysts, microwave ovens and the magazine publisher who raised revenues by offering a stupid option that nobody bought. Understand these cases, and the hard science that makes them make sense, and you have the chance of a breakthrough.
What to do next
If you are tired of being beaten up by procurement departments, of settling for prices that don’t reflect the value you bring, or just suspect that you are leaving money on the table, let’s talk. Contact me at firstname.lastname@example.org