Dollars and Sense: The Pricing Blog

The Psychology of Price Increases

2008-07-02T09:05:00.003-05:00

In last week's post How to Raise Prices, I referenced two interesting articles on techniques for raising prices, and also suggested using unbundling to differentiate between customers who want maximum value and customers who want minimum price. Today, let's look at three interesting price increases-- Oracle's list price increases, Apple's iPhone price "decrease", and airline surcharges.

Oracle raises list prices by 15% or more
Oracle is making waves with double-digit price increases (see "Oracle increases prices 15 to 20 percent: The joys of pricing power" on CNet), but what does this really mean? Are they really getting customers to pay 15-20% more? Probably not.

Oracle is unusual in the software industry in that they publish a global list price. Most enterprise software companies (Mimiran included) vary pricing by region and don't publish prices to avoid focusing on price early in the sales cycle. Oracle's prices and earnings are dollar-denominated, meaning that overseas software sales have been getting cheaper for customers in Europe and Asia, while Oracle's local expenses have gone up in dollar terms. In other words, a nominal price increase was necessary just to reverse the price decrease brought on the falling dollar.

Second, enterprise software deals rarely close at list price. The price increases provide more room for negotiation. One of the most important aspects of list price changes in B2B environments is how much of the price change flows through to the actual price the customer pays.

Third, the move serves as a nice signal to SAP and other vendors to stop driving prices into the ground.

The software industry is consolidating, especially around Oracle, which has been gobbling up competitors, but they won't get a real 20% price increase. However, if they end up netting 1 or 2%, that's still a few hundred million dollars in incremental profit.

Apple's "Cheaper" iPhone 3G
Apple made a big splash by announcing that their new iPhone would not only support faster 3G internet access and GPS, but would also sell for the magic price point of $199. This represents a $200 price drop, along with more functionality. Isn't the rapid march of technology amazing? Not so fast. At the same time Steve Jobs announced that he was making the iPhone more affordable, AT&T upped the price of data plans for the iPhone by $10/month. To get the discounting price, customers must commit for 2 years. So you might save $200 up front, but you spend an additional $240 over the next 2 years, and an additional incremental $10/month after that. Basically, Apple and AT&T are financing your iPhone purchase for you with a very high interest payment plan. The beauty of it is that the lower upfront cost only happens once, while the ongoing revenue stream stays as long they can keep the customer. And while everyone who does the math knows that this is actually a price increase, what sticks in consumers' minds is "wow, an iPhone for $199."

On the backend, AT&T's payments to Apple make it a strong pricing move for Apple, as well, and analysts seem bullish on the revenue potential.

Airline Surcharges
And now let's get to everyone's favorite pricing punching bag-- the airlines. American, United, and other carriers have introduced fees on checked luggage to go along with fees for fuel prices, talking to a person, using curb-side checkin, and buying inedible snacks on planes. Delta also announced fuel surcharges on redeeming frequent flier miles. Naturally, travelers are unhappy. Checking a bag on some carriers will now cost you an extra $15, while the second bag will cost $25. And it's an extra $50 if you actually want to pick it up at your destination. (Just kidding about that last part.)

While this is irritating for fliers (I've heard some say "why are you nickel and diming me?") the alternative would be to raise prices across the board. Airlines are hemorrhaging money (what else is new?) because of higher fuel prices and the slowing economy. They need to do something, and price increases are an inevitable part of the mix. Flying is going to be more expensive for a while, until jet makers can create much more efficient planes. The next generation will help, but not enough to offset the rise in fuel prices.

Of course, airlines are good at slapping on surcharges. They are not good providing a good customer experience. They haven't done anything to address the ridiculous "security" procedures. (I'll save the story of how I accidentally took a swiss army knife in a carry on bag that was hand searched by TSI for another time.) They have taken pillows off planes and charged for "snacks". Why not work with the government to reduce the unnecessary elements of the security burden? Why not team up with airport restaurants, or even bring in Starbucks or someone similar to allow customers to order onboard food when they checkin? The system might take some work to implement, but it would allow the airlines to bill customers immediately instead of worrying about making change on the plane, allow customers to get some halfway decent food (depends on the airport), and the revenue sharing would probably bring in more incremental profit than the current program. The partners would drop food off before the flight, the airline could keep the hot food hot and the cold food cold and deliver it after take off. The passengers waiting inline for 15 minutes at Starbucks would save 15 minutes. Food revenue per customer would probably go way up, even if the airlines turned the bulk of the revenue over to the partner.

Choosing the right pricing metric

2008-06-26T12:27:00.003-05:00

So much of pricing is about choosing the right metric. In other words, the dollars per what? Gasoline is priced in dollars per gallon (or per half gallon in some cases where the pumps can't display prices above $3.999-- how much do you think you can charge for the upgrade kit?).

A lot of software pricing debates come down to whether to charge per user, per CPU, per transaction, or per some other metric.

Now here's a great example of choosing the appropriate metric, courtesy of one of my favorite business gurus, Scott Adams.

Part 1.
Part 2.

How to Raise Prices

2008-06-24T10:36:00.002-05:00

With the economy in the state it's in and the price of energy going up, a lot of companies are making some tough pricing decisions. Their costs are going up, squeezing their margins. Also, they are worried that if they don't take a price increase now, they are going to be leaving a lot of money on the table. At the same time, their customers are feeling the pinch.

This topic has got some attention on the blogs.

Geoffrey James over at BNet offers 3 methods to Raise Your Prices and Keep Your Customers. I disagree with method #1, opening up your ledger, but the concept of using price increases in your supply chain to justify price increases to your customers is legitimate. Note that customers don't actually care about your costs, but the increases in your costs mean that the costs of competitive products are also going up. This doesn't help as much with indirect competitors. For example, airline price hikes based on fuel costs are reasonable because all the airlines are facing the same issue, but they don't work as well against online collaboration software that could substitute for a trip.
John Quelch at the Harvard Business Review provides Seven Tips for Managing Price Increases. A couple of these tips stand out. Unless you understand the value you provide, it's hard to price well. And unbundling is a great way to pass on a price increase to those who value your full offering while reducing price (and your costs) for those who only want part of your offering. For example, you might increase prices by 10%, but offer a 15% discount for customers who can schedule delivery 2 weeks in advance.

"How are we different?" not "How are we cheaper?"

2008-06-12T20:48:00.002-05:00

Most new businesses fail. They typically fail not because they can't deliver value, but because they can't capture enough of that value to turn a profit and grow. Capturing value requires a clear value message and an appropriate pricing policy.

Unfortunately, most entrepreneurs do not create a detailed value message and pricing plan. They start with a product (or service, I'll use the word "product" to refer to either), or even a technology and then they seek customers for the product. Then they try to sell those potential customers on the benefits of the product. Often, this involves a comparison with a better known competitor: "It's like ACME's offering, but better, and it's cheaper."(Read the rest of this post is over on the Bootstrap Austin Blog.)

Price Discrimination on Priceline

2008-05-30T11:58:00.004-05:00

As a pricing person, priceline.com is a fascinating site. Priceline is like a "normal" travel site where travelers can purchase airline tickets, hotel rooms, and rental cars, but it also offers a "Name Your Own Price" feature. This lets people offer to pay $200 for a 4-star hotel room in Midtown Manhattan, for example, and then sees if any hotels meeting the criteria will accept the price. (That query recently saved a client of ours a few hundred dollars.)

Once you reserve a hotel room, Priceline naturally wants to sell you a rental car. Here's where it gets interesting. If your price is accepted, Priceline takes you to a new page, that looks something like this:

Priceline also send you an email a few minutes later, which also offers rental car upsells. Notice anything different?

The prices in the email are $1-$2 more expensive. This type of testing is a great idea, especially for travel purchases where customers expect that prices will fluctuate. (Amazon got into trouble with customers for randomly varying the prices of items like DVD players to different customers.) Does anyone with more knowledge and/or experience with Priceline know whether the price differences are due to:

Just testing, or
Thinking that people who want immediate results online might be more willing to commit at a lower price (seems counterintuitive to me).
Something else?

By the way, when I got around to clicking on one of the links the next day, the prices bore no resemblence to the stating figures-- they were much higher. And they were consistent whether I used to online page or the email page.

Overcoming price objections in a down market

2008-05-20T16:53:00.003-05:00

BNet, which is heavily focused on sales, has a couple helpful posts on pricing.

Three Successful Pricing Strategies for a Downturn urges you to react quickly when necessary, but don't hurt the long term to save the short term, and avoid price wars.

Another useful tip is to think about how to unbundle some of your offerings so that cash-strapped customers can still get some of the value your company provides without paying full price, but, and this is the important part, they have to give up something as well. If done effectively, this keeps them as a happy and profitable customer.

And what do you say when customers push back on price? Here are 12 possible responses, courtesy of sales guru Barry Rhein. (Here's an earlier post on the subject of handling price objections-- the concept that not everyone is actually a qualified prospect is a critical one. The sooner you can know that while the prospect might like your product, they cannot afford it, the sooner you can move on to somone who can, and the less effort you will spend destroying your brand value with excess discounting.

Fixing Mistakes in Your Pricing Structure: 2 Examples

2008-05-12T10:02:00.003-05:00

You analyze reams of data. You carefully evaluate potential pricing policies. You select what you think is the best one. And then your users tell you that they hate it. And not just because no one likes to spend money unnecessarily. They actually have good reasons. Had you known them at the beginning, you would have priced differently. So what do you do now?

Zoho, makers of popular online applications for CRM and office productivity applications, apologized on their blog and revamped their pricing. Essentially, they had not understood how some of their customers actually used their Creator application. The pricing policy had forced customers to trade off between buying a lot of things they didn't need to get a few features that they did need, or going without. Pricing is about capturing value, but the initial policy failed to give free and low-cost editions the capabilities that Zoho wanted them to feature. So they tried again. Perhaps it's a bit embarrassing to write a blog post like that, but it's much better than pretending everything is fine, or queitly making a change and sweeping your mistakes under the rug.

Zoho is lucky in some ways. They can change prices easily because they sell Software as a Service (SaaS). They don't have to deal with catalogues, price tags, contracts, and other overhead that goes with a price change at many other companies.

Dell is infamous for having different prices for essentially the same computer depending on which part of the website you visit. This is because during its breakneck growth, Dell organized around segments (Small Business, Home, Student, Government, etc). Segment leaders maintained control of their pricing, leading to inconsistencies. It got worse, as different promotional policies could result in the same machine in the same segment showing different prices. Customers complained on Dell's IdeaStorm online feedback forum. Now Dell is touting consistent pricing for their Vostro laptops for small business. It's a good start.

While these approaches draw attention to past missteps, they build a better relationship with customers than the typical press release-style price changes, where everything is spun to sound wonderful.

When Buying Larger Quantities is a Worse Deal

2008-04-30T12:01:00.004-05:00

When you buy in bulk, you typically get a better deal. On a per-unit basis, it's cheaper to buy a 32-pack of Coca Cola at Costco than a single can in a convenience store. The same concept applies in industrial manufacturing, software licensing, and other industries. Sometimes, however, the buying more will cost you more, even on a per-unit basis.

This makes economic sense if what you are buying is in short supply, and rather than letting the price float with the market, the seller wants to allocate the supply to a number of buyers, perhaps due to contractual obligations. If you want more than your allotment, you pay the market price, not the contract price.

In some situations, it just seems like a tax on the mathematically disinclined. Take this example from an airport massage lounge.

Sorry about the blurry image. Here's what the sign says, plus an additional column that indicates the $/minute of massage.

Minutes	$	$/minute
10	$12	$1.20
15	$17	$1.13
20	$22	$1.10
30	$35	$1.17

I can get a 10 minute massage and a 20 minute massage for $34, $1 less than just getting a 30 minute massage. It probably says something about the way my brain is wired that this jumped out at me as I walked by. I asked the therapist on duty why this was the case. She said it had to do with the way they got reimbursed.

When pricing is compromised by internal alignment issues, it's usually easier to fix the alignment issues (as hard as that may be) than change the market.

Let's suppose they can't fix the alignment issues and they have to price this way. What should they do? I'm not an expert when it comes to massage, but I'm guessing that you could offer a "30 Minute Deep Tissue Massage" or some other value-added offering that you simply can't provide in less time. Maybe you add a foot massage. Then you raise the price to $40. And break it out separately from the per-minute massages on the board.

Differentiating Commodities

2008-04-23T13:58:00.003-05:00

Pricing power comes from differential value. If you offer more value, you can charge more. Value is perceived by the customer, however, so while you can suggest the value of your offering, the customer ultimately decides.

Often, attributes that some customers value highly are irrelevant to other customers. For example, automakers sell more four-wheel-drive sedans in places where snow is a regular occurrence compared to Florida and Arizona.

Small businesses can often differentiate themselves from much larger competitors by serving a market or geographic niche much better than the larger firm. Product companies can differentiate themselves based on their service. Some companies might offer faster delivery time, while another offers more comprehensive engineering services, while another bundles in maintenance. Notice that the differentiators are not necessarily mutually exclusive, but companies that value certain differentiators will choose the vendor that offers the best fit.

In a crowded, competitive market place where every vendor says they are "better" and every customer says they care about low price, providing "difference cues" helps to remind people of how you are different. Apple, known both for great design and hefty price premiums, provided a great difference cue when they launched their iPod. MP3 players were relatively new to the market. They were like the Walkmen of yore and the portable CD players that had recently become popular-- useful to listen to your music on the go, but clunky. On subways, in gyms and buses and offices, people wore black or grey headphones to listen to their music. So Apple made their headphones white with white wires. It was different from everything else on the market. (Someone will probably name a counterexample, but I can't think of one off the top of my head.) It also advertised the product. The player itself might be hidden in a bag or a pocket, but the headphones were visible. It's a subtle point, but back when rational people (I like to include myself) thought that a $400 music player was a really dumb idea, the difference cue enhanced the iPod's value as a status symbol. Not only did you have a really cool music player, but everyone knew it.

Coincidentally, Sony had done something similar a decade earlier when they introduced their "Sports" line of Walkmen, which were built to withstand sweat, rain, and even water. Sony made the players and the headsets bright yellow to accenturate the difference from the regular "non-ruggedized" portable cassette players on the market, which helped justify the $50-100 prices.

So what did Bose do when they wanted to introduce earbud headphones? Bose had traditionally sold large, over-the-ear headphones, which gave them the ability to print "Bose" prominently. With the smaller earbuds, they needed a different approach. They didn't want to just have a black buds-- that would be so pre-iPod. They didn't want to just use white, because that wouldn't differentiate them from the (lousy-sounding) headphones that come with the iPod. So they created a twisted white and black pattern on the wires. I don't know if I like the asthetics, but you can immediately tell that they are different.

There are ways to differentiate just about everything. Here's a 1 slide animated PowerPoint with a great example of differentiating a "commodity." (Click on the image to open or save the file.)

PPS Spring Conference

2008-04-11T01:17:00.004-05:00

We're at the Professional Pricing Society Spring Conference, with over 500 other pricing folks.

The best comment I've heard so far came from someone who stopped by our booth this morning. He had spent 9 years in sales and recently moved into pricing, so he understands how to make pricing work in the field. He said that sales is really important, but "this [pricing] is the s#$%!"

Luxury Pricing: Top This!

2008-04-07T21:33:00.003-05:00

Although I've said before that with luxury items, the price is the value, I'm still occasionally astounded. Now along comes one of the most absurd items I've ever seen. Swiss watchmaker Romain Jerome created a watch they call "Night & Day." Why do they call it that? I'm glad you asked. Because it doesn't actually tell time. It just tells you whether it's day time or night time. How much would you pay for this? If you offered less than $300,000, you wouldn't have got one, because they sold out within 48 hours.

Other luxury goods typically make a pretense that they offer some kind of functionality to justify their price. Ferraris are fast. Fine, rare wines are supposed to taste good-- even if you're not really supposed to drink them. Fancy jewelry is supposed to look nice. Even luxury watches, which are no more accurate than $10 digital watches, have complex mechanisms to tell you the phase of the moon or some other piece of not really useful information. But a watch that doesn't even pretend to tell you the time?!?

As a pricing person, this is brilliant. This is about the story that you tell when someone asks you about your $300,000 watch. I imagine it goes something like this:

Nice watch. How do you read it?

See here? This means it's day. If it was over here, it would be night.

Oh, I see.

Yes, it's extremely useful when I'm in the media room of my yacht and I just really want to know whether it's day or night, and my VCR is still flashing 12:00, so I just look at my watch.

Why don't you just ask your butler?

Usually I do, but sometimes I've just sent him to get a bottle of that Chateau Lafite that you're really not supposed to drink, but I've never understood senseless luxury, you know?

That's great. Chronographic technology has come so far since man looked at the sky. I can never keep up with the time zone changes when I'm in my yacht. I should get one of those.

Sorry, they're all sold out.

So can anyone come up with a luxury item to top this?

Not Free! Why $0.00 Is Not the Future of Business

2008-04-03T00:02:00.003-05:00

Wired editor-in-chief Chris Anderson recently wrote a provocatively-titled article called Free! Why $0.00 Is the Future of Business. Anderson argues that the economics of computing on the net, where storage and bandwidth costs fall even faster than the cost of processing power, will drive the price of many services to the marginal cost-- in other words, $0.00.

Anderson starts by recounting the story of King Gillette, whose disposal razors laid the foundation for a multi-billion dollar industry. Now some companies have "razor blade" strategies. Think Hewlett Packard printers and cartridges, commoditized industrial products and high-margin services, Xbox video game consoles and games. The loss leader products in these examples have substantial marginal cost, which, along with antidumping laws, prevents companies from giving them away for free.

On the web, however, marginal costs are often close enough to zero to be zero for practical purposes. Anderson notes:

Not too cheap to meter, as Atomic Energy Commission chief Lewis Strauss said in a different context, but too cheap to matter…

From the consumer's perspective, though, there is a huge difference between cheap and free. Give a product away and it can go viral. Charge a single cent for it and you're in an entirely different business, one of clawing and scratching for every customer. The psychology of "free" is powerful indeed, as any marketer will tell you.

This difference between cheap and free is what venture capitalist Josh Kopelman calls the "penny gap." People think demand is elastic and that volume falls in a straight line as price rises, but the truth is that zero is one market and any other price is another. In many cases, that's the difference between a great market and none at all.

This concept is powerful and disruptive for problems that are amenable to web-based solutions. It's not so powerful if you need a giant locomotive to move goods across the country. However, if information can replace the physical goods, prepare for disruption.

Microsoft, whose Windows and Office software programs generate billions of dollars in profit every quarter, thought it was immune to the web-based threat. Microsoft thought that the web could never provide rich enough functionality for users, and users would never accept a solution that required a live internet connection. Funny thing. Google just introduced technology that allows people to use its Office-like applications without an internet connection. Meanwhile, when connected to the internet, users can share documents and work collaboratively more easily than with the more fully-featured Microsoft version. Cost for Microsoft Office? About $300 for an upgrade. Cost for Google's version? $0.00.

So where does the money come from? After all, a business is a business, and if it is to remain so, a fundamental inequality must hold true:

Value Provided to Customers > Price Paid by Customers > Cost to Provide Value

Leaving aside questions of value, the only way for a price to really be zero is if the cost is less than zero. While this may seem absurd, it's the magic behind Google. It's just that instead of serving customers for free, Google serves an audience to advertises for high margins. Anderson would like us to think that this is a fundamental change in the nature of business, but it's really as old as newspapers.

Free is not a pricing strategy. It's an advertising strategy (gather as large and valuable an audience as possible). It's a promotional strategy (offer free services to cross-sell or up-sell other offerings). It's a testing strategy (allow users to test your software for free, so that the premium version is more reliable).

Companies that take part in the "free" economy need to have a good strategy for monetizing what they giveaway at some point. And as Anderson points out, while we have more and more abundance in many aspects of our lives, our time and attention are scarcer than ever. The ability to offer something for nothing, even if the offering is valuable, is worthless if no one notices. Along with the abundance of the web, comes a strong network effect that Robert Frank and Philip Cook explored in The Winner Take All Society. In this global age, benefits accrue disproportionately to the "winners." Google makes billions from "free" search. A small group of other search companies combined makes less money than Google. But offering a free search service is unlikely to generate significant profits, unless you can find a valuable and underserved niche. Similarly, a handful of popular bloggers make good money by giving away their ideas for free, and charging for ads. I am not holding my breath for this strategy to work for pricing blogs.

So we still have to provide value to customers, whether they are users or advertisers. We better be able to charge more for this value than it costs us to provide it. Otherwise we will go out of business. Anderson is right that the cost side of inequality is changing rapidly and that this can have a disruptive effect on markets. But while $0.00 may make for a catchy headline, it is not the future of business.

(Anderson, who previously wrote The Long Tail, is developing a book based on this concept, titled FREE, which will arrive in 2009.)

Pricing Advice from the World's Oldest Profession

2008-03-24T22:49:00.002-05:00

For many people watching the Elliot Spitzer scandal unfold, the shocking part of the story was not that a powerful politician went to a prostitute. That seems almost retro these days. What seemed jaw-dropping was the amount of money Spitzer was paying out. Well, it turns out that the world's oldest profession knows a thing or two about high end luxury pricing. (As Bill Mahr pointed out, there's a big difference between the high end call girls in Elliot Spitzer's circle and the vast majority of prostitutes who have few or no options and no pricing power.)

As we pointed out in the recent post "In Luxury Goods, Pricing Is Part of the Value", high prices for certain goods create a perception of high value in some markets. Brownwyn Fryer over at the Harvard Business Review Editors' Blog takes a much more practical, hands-on view of the experiment we discussed that doesn't involve MRI machines, but does require purchasing one bottle of expensive wine. (See "Are Your Prices High Enough?") Bronwyn herself left a comment on one of the other comments referencing a recent New York Times article called The Double Lives of High-Priced Call Girls.

And when it comes to price, Ms. Xi’an shared a secret. When someone pays her $1,250 an hour, he gets exactly what he would for $200, her rate when she started out. The difference is psychological, she explained: “The more somebody pays for you, the more they’ll respect you.”
“Tell a guy you’re $100 and they’ll treat you one way — tell them you’re $1,500 and they’ll treat you better,” Ms. Xi’an said in a telephone interview from her home on Long Island. “I’ve heard a lot of girls saying, ‘Is this girl getting $5,500 an hour because she’s more beautiful? Is she doing something I don’t?’ The answer is no. But that girl is able to look a guy in the eye and say, ‘This is what I’m worth, and this is what you have to pay if you want me.’ And you have to be able to do that, and believe it.”

This can be true for a lot of purchases. People who buy expensive, top-of-the-line offerings, whether they are stereo systems, software applications, wines, or other indulgences think more highly of their purchases and invest more heavily in them that those who purchase cheaper offerings.

Microsoft Acquires Pricing Firm Rapt

2008-03-17T20:19:00.003-05:00

Software giant Microsoft (MSFT) purchased pricing optimization software firm Rapt to help make up ground against industry leader Google. Rapt got its start trying to optimize prices for computer makers such as Sun and HP. Rapt had some good success stories and some interesting technology, although much of the benefit came from the companies getting their pricing act together, spurred in part by the technology investment. Rapt refocused on the media market, landing clients like MTV, Yahoo!, Fox, and critically, Microsoft's own MSN.

Meanwhile, Google grew from nothing to become one of the most powerful companies on the planet because they dominate the online ad business, which is growing much faster than the overall economy. The market has rewarded this success with a P/E ratio twice Microsoft's. (Google's market cap is still only half Microsoft's.)

Microsoft has been trying to extend its dominance of desktop computing to the internet since 1995. That's when they started MSN (Microsoft Network), originally conceived as an interactive TV extravaganza. (I was at Microsoft at the time-- they had a very snazzy news desk set up, and the MSN team was working long hours even by Microsoft standards.) MSN was going to support commerce like a giant online mall. And Microsoft would charge everyone rent.

But there was a problem. Netscape had created a browser that was the primary way people accessed the internet. Microsoft was worried that Netscape would use this power to control the internet. Afterall, most people left the default home page on Netscape Navigator pointing to netscape.com. (Netscape's failure to capitialize on this is yet another of their Big Missed Opportunities.) Netscape had a vision of computing happening inside the browser, not on the desktop. Netscape technology honcho Marc Andreeson famously proclaimed that Netscape would "reduce Windows to a poorly debugged set of device drivers." In other words, he was aiming a stake at the heart of the most lucrative product line in the history of business.

Microsoft was planning to use Windows 95 to get people online to MSN. But Netscape was suddenly the biggest enemy in Redmond. Microsoft crippled MSN and made AOL the default online service for Windows 95. In return, AOL made Microsoft Internet Explorer 1.0 the default browser for AOL. (Netscape had the inside track on partnership talks with AOL, but in another Big Missed Opportunity, managed to turn the deal over to Microsoft.) This move protected the Windows monopoly and earned Microsoft billions of dollars.

It wasn't until the rise of Google that someone managed to earn billions of dollars in online services. Google has also started offering online applications that may someday put a serious dent in Microsoft's other lucrative business-- Office. Microsoft is now in danger of not simply losing control of the internet, but seeing the company with the most control over the internet move in on their home turf. This is what motivated the $44B hostile bid for Yahoo!. (See the San Jose Mercury News article on How Yahoo! Lost Its Way for the Yahoo! side of the story.)

Microsoft is behind in the online ad world. Even combined with Yahoo!, they're still behind Google. Enter Rapt. Rapt provides tools to help advertising-driven businesses optimize the pricing of their ad space. This means that the company that sells the ads can charge more. They can increase profit despite having less market share. In addition, Rapt's tools provide a more sophisticated way for large clients to manage their ads compared to Google's simple tools which are targeted at small businesses.

Terms of the deal were not disclosed, but this will likely provide better ROI for Microsoft shareholders than the $44B they are trying to shell out for Yahoo!

When the Price Isn't Right

2008-03-06T10:20:00.003-06:00

Thanks to Renee Oricchio over at Inc. Magazine for this nice mention of MimiranM3 Pricing Analytics for Salesforce.com in a post called When the Price Isn't Right. This is a great way for companies that negotiate prices with their customers to be faster and more effective. Some people believe you have to trade off revenue and profit in deals, although in many cases you can increase both with appropriate tools.

For example, sales people aren't pricing experts. If you give them a "floor" that looks like a "target" to them. You often see discounts bunching up right around the floor, indicating that the floor comes from inside the company, not the market. Mimiran gives reps much more finely tuned pricing guidance, so they can price quickly and confidently without going back to the pricing group. Mimiran can also show the rep compensation estimates at the current proposed price and the target price. If they feel they need to ask for deeper discounts, they can, and Mimiran routes the request to price approver. Rather than making the price approver gather information in a set of spreadsheets and spend most of their time massaging data, Mimiran presents the data so that you can make a fast, accurate decision.

It's not often that you can make pricing and sales happy at the same time, so we're pretty excited about making that possible. For more info, check out the product tour on our website. If you don't use salesforce.com, you can achieve similar results with our stand-alone edition, MimiranM3, although it works best for improving sales pricing if you can plug it in to your CRM system(s).

More Customer Segmentation

2008-02-27T22:31:00.003-06:00

Following up on an earlier post, here's another method of helping customers segment themselves.

(Thanks to TripTouch.)

Gives new meaning to "capitalism."

While we don't recommend this kind of segmentation, we do like the notion of letting customers self-select into the offerings that are right for them. This happens all the time, often without us realizing it. Restaurant menus offer not just a range of foods, but a range of prices. Movie theaters offer matinees with reduced prices, and a full range of quite expensive to extremely expensive foods. (See this article on why this type of segmentation is good for moviegoers.) Have you ever had an experience that you didn't realize was clever customer segmentation until after you had made your purchase?

Why Pricing is Harder than Quantum Mechanics

2008-02-20T09:59:00.002-06:00

I'm heading to San Diego today to do a workshop on Measuring the Efficiency and Effectiveness of Pricing. Believe it or not, this will be a fun 2 days for me and the other participants. One of things that is most challenging about pricing is that it's so hard to measure. Which is why I like this concept: pricing is hard than quantum mechanics. Sound absurd? Compare:

Quantum Mechanics	Pricing
Not good for conversation at cocktail parties.	Not good for conversation at cocktail parties.
The act of measurement itself affects the result.	The act of measurement itself affects the result.
Spend years and millions of dollars designing elaborate experiments with sensitive equipment and analyzing data with a staff of PhD's.	Have until 4PM this afternoon to figure out the right price for a $10M contract with a half-populated spreadsheet.
If it goes smoothly, you have "confirmed existing predictions."	If it goes smoothly, sales will get a commission and no one yells at you.
If it doesn't, you could win the Nobel Prize.	If it doesn't, you get blamed for losing the sale.

One thing that makes pricing easier is that the theoretical underpinnings are pretty simple and don't require years of studying math involving imaginary numbers and other counter-intuitive concepts. I, for one, don't have the math skills for quantum physics, so I'm stuck with the hard subject.

I look forward to seeing some of you in San Diego. (For other folks who would like to learn more about pricing workshops, visit our website.)

In Luxury Goods, Price is Part of the Value

2008-02-11T10:33:00.000-06:00

Luxury vendors have long known that high price is part of their appeal. Not the price per se, but the exclusivity that comes with it. Like a peacock's tail, the conspicuous consumption of goods that lack any practical purpose is a display of status, which has a powerful draw on the human psyche. New research indicates that our brains react differently to the consumption of expensive goods. Researches used functional magnetic resonance image (fMRI) to measure blood flow to different areas of the brain while subjects drank wine. Researches used 3 different wines, costing $5, $35, and $90 per bottle. However, they had the subjects sample the $5 bottle twice, once under the impression that it cost $5, and once under the impression that it cost $45. They also double-sampled the $90 bottle, once at its actual price, and once under the impression that it cost $10. Participants experienced more activity in the brains' pleasure centers when they thought they were drinking more expensive wine. They also reported that the wine they thought was more expensive tasted better. What I want to know is: why does no one invite me to be part of these studies?

On a related note, Forbes discusses the luxury pricing game, and gives some examples of very expensive goods.

Unbundling

2008-02-03T22:02:00.000-06:00

Have you been part of a discussion where everyone at your company believed that their offering provided more value than a competitor’s, but the customers just don’t see it? The marketing team often thinks sales doesn’t know how to sell the value. The sales team thinks that marketing is clueless. And the pricing team is trying to figure out how to make the best of it. Fortunately, there are ways to communicate value effectively to customers. (We won’t go into them in this article. See our paper on Value Price Waterfalls for more information.) Unfortunately, there are times when the value simply isn’t there. How should you compete and how should you price in those situations?

The simplest thing to do is simply match the competition’s price, regardless of any extra value you feel you provide. This can help you close a few deals, but it erodes your profitability and the image of your company. When the buyers who really do see extra value in your offering find out that other companies received deeper discounts, they will be back demanding the same thing.

The other approach is to unbundle value in conjunction with lowering price. If you walk into a Mercedes Benz dealership, get a quote on a $50,000 car, then tell the salesmen that you can get a very similar car from Kia for $20,000, the salesman isn’t going to offer you the Mercedes for $20,000. He may show you to the used car lot, where he can sell you a car similar to the Kia for $20,000.

While this example sounds absurd, analogous negotiations take place every day, and frequently end with the equivalent of the Mercedes dealer selling the car for a 60% discount.

How can you tell if the customers cares about your added value? When you point out your better service, better reliability, or other attributes you think the customer should value, and they say they don’t, take them out of the deal.

If the customer doesn’t want to pay for your higher level of support, offer to match the competitor’s price and their level of support.

If the customer claims that they don’t value the extra testing that goes into making your parts more reliable, offer to save them money by moving them away from a premium-grade offering.

If free express shipping really doesn’t seem important to the customer, charge for shipping. Items like shipping are particularly interesting unbundling opportunities because the shipping charge and shipping discount may occur “off-invoice”, which frequently means that companies don’t track them and don’t subject them to the same approval requirements as invoice prices.

How does this play out in the real world? I recently got to see this strategy in action in a meeting with a pricing director for a distribution company. A large deal was on the line, and he got numerous phone calls during our meeting that he had to take. He would retreat into a corner and speak in hushed tones. Then he would come back to the table and give me an update. The customer was pushing back on the company’s premium pricing. They had a lower-priced alternative and they weren’t buying the extra value pitch from the sales team. (In my opinion, the sales team was right. There was good differential value. But my opinion was not the one that matters.) On the fourth call, the director came back all smiles. The customer had accepted the deal at a slightly lower price, but without some of the logistical support that they did not value. While the top-line revenue was slightly below the original deal size, the profit actually went up, since the customer did not require some of the costly value added services.

If you haven't already, train your sales teams to unbundle appropriately, and configure your sales force automation and pricing software to highlight opportunities for unbundling.

Price Segmentation

2008-01-31T09:59:00.000-06:00

Outside of work, when people learn what I do for a living, I tend to get one of two responses. Most likely, people nod politely while looking for exits. Or, they tell me "we sell widgets, and I know we're not pricing it right, but we don't know how. What do you think the right price is?" Then we have a fun conversation that is sure to leave everyone else looking of the exits.

Part of the challenge is that it's next to impossible to have a single "right price." Assuming you can plot a demand curve, you can select a price point to maximize revenue or profit.
Now we've got two problems, though. We're leaving money on the table at the high end, and we're still pricing ourselves out of the market at the low end. So it makes sense to segment our customers by what they value, and target different versions of the offering and different price points to those segments.
Now we can cover much more of the area under the demand curve. Examples of this type of segmentation range across industries. In the supermarket, you can find basic, value, and premium offerings, or even segmented offerings of the same product in different packaging combinations. B2B offerings often have a similar "good, better, best" segmentation, which works for services as well as physical goods. For more examples, look at this excellent post on the Branding Strategy Insider blog.

One more parting thought. As the market evolves, competitive advantages erode, forcing companies to offer more value and/or charge lower prices. The company that can push the value envelope the furthest can capture a disproportionate share of profits, charging higher prices and garnering more demand.

The trick to doing this effectively is figuring out which sub-segment of the market values your offering, not trying to provide a generic solution to a broader market. (That can be an effective strategy for large players with good distribution, good economies of scale, and the financial imperative to pursue only large markets.)

French Court Rules Free Shipping Illegal

2008-01-18T22:06:00.000-06:00

A French court ruled that Amazon's free shipping policy violates a law that forbids booksellers from discounting more than 5% off list price. Rather than stopping the practice, Amazon has upped the ante, continuing the policy in the face of a €1,000 per day fine, and soliciting customers to sign a petition in favor of free shipping.

What's stranger? That a court is ordering a company to charge customers for shipping? Or that the French legal system calculates prices in a more holistic way, taking into account shipping charges, than many businesses who you'd think would be keeping a close eye on these things?

Back from the Writers' Strike-- A Daily Show and This Blog

2008-01-14T10:00:00.000-06:00

As you may have noticed, the quantity and quality of posts has suffered since my writers have gone on strike. But like ~~The~~ A Daily Show, we're back. Fittingly, when Jon Stewart returned to the studio last week, he had some things to say about pricing.

The writers' strike is mainly around residual payments on internet revenues. The writers want them and the media companies don't want to pay them. Regardless of who you think is right, the situation has led to some comically absurd situations, many of which revolve around Daily Show content on YouTube. Media giant Viacom claims on one hand that internet revenue isn't worth anything, while on the other hand claiming that YouTube owes Viacom $1B for copyright infringement.

Stewart points out that the $1.99 fee for downloading episodes from iTunes is not actually revenue, but a "shipping and handling charge." He also says that watching a show on an iPod is like a promotional sample of cheese, not a portion that anyone would actually pay for. The segment is tongue-in-cheek, of course, but is a humorous way to look at how changing technologies collide with psychological expectations. For example, we accept that movie matinees are cheaper than primetime movies, but we don't accept that we should pay more for highly desirable movies, despite the obvious economic utility.

Stewart also points out that if Viacom was serious about the value of their content, they wouldn't have sued for $1B, "clearly a figure they pulled out of their asses. If there were real money on the internet, don't you think they would have gone with a believable number?" The patent absurdity of the number in this case almost seems like a ploy to give Stewart fodder for jokes. Much less funny, but perhaps more important, many companies publish prices that the market laughs at, and then says "OK, but let's talk about the real price." This wastes a lot of time both in preparing prices that don't mean anything and negotiating deals. It also bleeds away a lot of margin. If your public prices don't mean anything in your market, it's time for new prices and/or a new market.

(One nice thing about the Viacom/YouTube dustup is that The Daily Show now has a complete, searchable archive, where you can watch the segment cited above.)

Price of 12 Days of Christmas hits all-time high

2007-12-31T15:21:00.000-06:00

According to PNC, the price of the "12 Days of Christmas" (Christmas Price Index, or CPI) rose 3.1%, driven by the rising price of gold and the minimum wage hike, which increased the cost of maids-a-milking.

The total cost of the 12 Days of Christmas hit an all-time high of $19,507.19. If you buy all the repetitions, your bill will come to $78,100.10.

Check out the humorous video.

Happy New Year!

Avoiding Price Commoditization

2007-12-17T16:58:00.000-06:00

There's a short, insightful article by John Quelch at the Harvard Business School newsletter about commoditization. Quelch writes:

...even when a raw material has no value added and quality standards are set by law or the industry, there is still plenty of opportunity for differentiation around availability, delivery, shipment quantities, payment terms, and all the other services that accompany the core product. Marketers must use their imagination. As the saying goes: "There are no mature products, only mature managers.

Quelch recommends innovating, bundling, and segmenting your way out of the commodity trap, and notes that account-level profitability data is essential to intelligently managing these situations. This is the kind of information we provide to our clients via our MimiranM3 analytics software, which often leads to some eye-popping revelations about who is actually driving profits, and helps companies set pricing to maximize bottom-line return, rather than top-line revenue.

Cheese Alert: 7 Tips for Raising Prices

2007-12-07T22:27:00.000-06:00

It's almost the end of the year, which means many companies are putting the final touches on their 2008 price lists, and a lot of people are getting ready to have uncomfortable conversations with customers about why their prices are increasing.

Here are 7 tips for raising prices. As you consider them, think not only about how you should relate price increases to your customers, but how you would like your suppliers to inform you.

1. Prepare your customers in advance. Yes, this takes planning, and it isn't always possible, but for annual price increases, you can start communicating well ahead of time. Some people aren't in a position to do this, because they haven't thought about their pricing yet. Others don't want to encourage customers to order large quantities at lower prices and time-shift demand (while some companies are hoping they can stuff the channel). Here's a great example from Freebirds, a quirky chain of burrito shops in Texas, which illustrates points 1 & 2:

2. Provide a reason that the customer can understand. In many industries, the surging price of fuel (and/or the related increase in the price of corn, transportation, heating, and anything ("everything") related to the price of oil) drives surcharges or simply price increases. In other cases, it's the price of cheese. (This is probably also driven by the price of oil, which has driven demand, either market-based or legislative, for ethanol, which has caused the price of corn to sky-rocket, which means it's much more expensive to feed cows. Not that cows are actually supposed to eat corn, but that's another story.)

3. Increase the price, but reduce the cost. This sounds counterintuitive, but in some cases improvements in your product (or service) may allow the customer to derive the same or better value with less of your product. Compact florescent bulbs, which cost several times as much as conventional filament bulbs are a good example. The unit cost is greater, but the total cost of ownership is lower, because they consume less electricity and require less frequent replacement. Service automation can also deliver improved value for less money, even at a higher dollar-per-hour rate.

4. Reduce the price with a new offering. This post is about price increases, right? So why are we talking about reducing the price? In some cases, you may find it advantageous to split an offering into 2 or more offerings, one of which has "premium" characteristics that command a higher price point, and one of which strips out some value but also significant cost drivers, allowing you to improve profits even at a lower price. Customers can then self-select the premium or value offering, depending on their needs. For example, a small printer included "free" rush service as a competitive advantage against bigger firms. So everyone ordered rush delivery, regardless of when they needed their print jobs. Without a price increase per se, the printer offered a discount for longer lead times, saving the firm and its customers money.

5. Be up front about it. A lot of people find this conversation uncomfortable. We risk alienating a customer, which can be an emotional and financial stumbling block. If we don't actually believe in our value proposition, we often signal to the customer that there is some wiggle room. Instead of saying "the price is going from $2,000 to $2,200", we say things like "we're planning a 10% list price increase, and we can discuss how that will affect you."

6. If you're in a business where the sales reps negotiate with your customers on price, create a SPIF for reps who achieve the full price increase. Then your reps will be coming to you demanding appropriate training on the rationale and justification for the price increase. Note that you'll get better results if you involve the sales force first, instead of pushing a price increase from "on high." Most companies that do broad price increases in a heavy-handed manner end up with very mixed results.

7. Increase the perception value. At the end of the day, price is determined by value, so making sure your customers understand the value you provide is essential. Even if your offering hasn't changed, your ability to find the right audience and give them the right message can improve.

Hopefully you have already set your pricing for 2008, and will file this away for 2009.