Pricing for Profit

Features - Strategies

Want to drive profit? Pricing right is the fastest, most productive way to improve your bottom line.

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September 22, 2009

 

PRICE AND QUALITY PERCEPTION

One of the biggest questions companies must answer when developing a service or revamping an existing one, is at what price to sell the service. Many companies simply add a certain percentage to the cost of the service, not taking into account what buyers will actually pay. This works well and produces a profit for a successful service, but is it the smartest approach? No. In an economy where consumers are trying to save money and are looking for value, if you set your price too low, you might actually turn customers away from your product by communicating low-quality. 

To fully realize the pricing potential of a service, you must take into consideration the message you are sending the buyer with the price itself. This is where Dutch economist Peter van Westendorp’s Price Sensitivity Meter methodology can help.

Van Westendorp’s theory is based on the assumption that buyers judge quality by price, especially in an environment where decisions are complex.

For example, a classical demand curve shows demand continually rising as price drops, but van Westendorp identified that in many situations, demand could actually fall if prices were too low because consumers would question the quality of the offering. The method identifies prices to use if there is a desire to create a bargain service offering and/or a premium offering. It also identifies when prices are so low that it creates doubt, or so high that buyers are excluded.

The method provides the following types of diagnostics:

  • The Point of Marginal Cheapness, or where the price is so cheap that resistance (from prospects thinking the product is “too cheap”) outweighs the benefit of a bargain positioning.
  • The Point of Marginal Expensiveness, or where the price is so expensive that any benefits of a premium brand positioning (e.g., a superior service or a recognizable brand name) are outweighed by the resistance of exceeding budget thresholds.
  • The Point of Minimum Resistance from being too cheap or too expensive. 
  • The Indifference Point or the going price for the service. By comparing this with the point of minimum resistance, it is possible to gauge “tension” in the market, such as potential sticker shock.

The analysis you perform will identify certain price points where clients have a major psychological shift in their perceptions. For example, you might find that, at $100, there is a major jump in resistance to purchasing a service, suggesting that if a price is set in this ballpark, it should be under this threshold (e.g., $99.99).

By understanding how to price your service to communicate a quality position, you can fully realize its sales potential.

Gina Woodall and Joe Bates, Rockbridge Associates, a full-service custom market research firm based in Great Falls, Va.


In today’s uncertain economic times, landscape and lawn care professionals are looking for a quick return on investment, no matter if this investment is in time or dollars.

As has been noted by leading analyst firms, such as McKinsey and Co. and A.T. Kearney, pricing is the quickest and the most efficient way to improve your bottom line. It has more leverage than cost cutting, traditional business process improvement and any effort to increase your sales volume. It is also an area that relatively few companies focus on. Thus, excellence in pricing gives you a strong competitive advantage.

Now, in knowing this, how can you use pricing to drive higher revenue for your business? What tactics in the pricing realm can you implement today?

Today, pricing is on everyone’s mind. If your company is bringing out a new service, choosing the right price is a topic of discussion. Maybe your company is facing downward pricing pressure, and you are looking for ways to fight back. Maybe you are just looking for ways to improve your bottom line. No matter the reason, these proven pricing tactics are guaranteed to go straight to your bottom line.

Do this today
Document the profitability (not revenue) for each of your service offerings – or at least the top 20 percent to start. We recommend you put programs and policies in place to guide your customers to the most profitable of these. Try these:

  1. Compensation Optimization. Compensation drives behavior, and as you want to sell more of your most profitable product, it becomes important that your sales people are compensated on profits, not revenue, or at least some combination of the two. You can even offer special bonuses for these particular services to further drive your salesperson’s efforts to get them into the hands of your customers. 
  2. Price Imaging. This is the method of using a service that is more expensive than the one you are actually trying to sell in order to create the illusion that the target service is more affordable.
  3. Strategic Discounts. Discounts are best used if executed strategically. This means discounts should be focused on driving customers to your most profitable services and should not be used indiscriminately. The levels of discounts also need to be carefully calibrated so your highly profitable services stay highly profitable.

Do this next month
Services that are unique in a marketplace have pricing power. This means that prices can increase and sales volume will not suffer. In fact, if any offering is unique, and you are selling it at commodity prices, you are most likely on the upward slope of the market’s demand curve and a price increase will result in higher sales volume and revenue yields. 

A good method is to take your top 20 percent best-selling services and look at how much they stand out in your market. Categorize unique services as “A” and totally commodity services as “D.” “B” and “C” services are in between. Then focus all efforts to take out cost from “D” services and increase prices on “A” services. Also assess how “B” services can become “A” services and how “C” services can become “D” services.

Do this in the next six months
The final step in pricing excellence is to know the price elasticity for your services and therefore know where you are on the demand curve. The demand curve almost always has an upward slope, a crest and a downward slope. Generally, if you are on the upward slope, an increase in price will increase revenue. Likewise, if you are on the downward slope, a decrease in price will decrease revenue. If you are at the crest you need to use other methods, as just changing your price will not help.

Similar to price elasticity are price walls. Many services have very clear price walls; these are inflection points in the demand curve that consumers have built into their psyches. At these price walls, a 1 to 2 percent price change may generate a 10 to 20 percent drop or increase in revenue, depending on which side of the crest your price happens to be.

Conclusion
Finally, understand your customers. Anecdotal information about the needs of your marketplace captured by sales people is not the same as hard data from your marketplace.

Data capture the value perceptions and willingness to pay that your customers have with statistical significance. Having this at your fingertips will allow you to generate behavioral segmentation and to create bundles of services (or options) and prices that better target your marketplace.

Through this greater understanding, it may also be possible to open up new market segments – segments you have not yet served.
 

PRICES: 
One Contractor's Perspective

Michael O’Connell of Marin County, Calif.-based O’Connell Landscape talks pricing In his blog, Turned Earth:

“As a result of slower times in the economy, we have lowered our prices and found ways to cut costs on overhead to become more efficient and pass savings on to our clients.

“I wish I could say the same thing about our materials suppliers. We have seen little, if any, change in prices for many of our suppliers. In some cases, costs are going up. How about those delivery and fuel prices increases when gasoline costs were above $4? In many cases, they have remained as well.

“How are we adapting? We are shopping around for all of our major materials purchases, negotiating with suppliers and purchasing from suppliers we wouldn’t have used before that have cheaper prices. In some cases, that means even discount chains like Home Depot. On a recent order of mortar for a flagstone patio, they were 30 to 40 percent less than the large landscape material supply chain in the area.”

What’s happening in your market? How are you juggling service pricing and supplier pricing on equipment and materials? Send your strategies to nwisniewski@gie.net.

 

The author is the founder and managing partner at Atenga, Inc. He may be reached at per.sjofors@atenga.com