_Pricing is challenging at the best of times. In an inflationary market distorted by two years of Covid-19 impacts, and now war, what are some strategies to consider?_ Many of the companies I work with struggle with pricing decisions even in stable markets. Leaders either are unsure about how to set a pricing strategy, or they don't even try to be strategic and leave pricing to lower level negotiations and random chance. "Prices just take care of themselves" is not the best strategy. Unstable markets present an opportunity - and an imperative - to revisit pricing strategies. For some products, supply shortages and pent-up demand make price increases more acceptable, if not expected. The changing way we work has turned cost and value equations upside down. For example, a trip from Edmonton to Toronto for a two-hour meeting used to cost up to $3,000; now it's a Zoom call that costs nothing. Pricing is an underused lever of strategy. One that is efficient and flexible and easy to get feedback on. In a distorted market with inflationary pressure, taking a more strategic look at pricing is critical. Here are some thoughts to consider. ## 1. It's not about you, and it's definitely not about your cost. Many organizations use their perception of internal cost as the basis for setting prices. It's true that, as a minimum, over the long run, prices have to be set high enough to generate revenue that exceeds expenses, but a cost-plus pricing mindset can be limiting. First, customers don't care about your cost, they only care about the value your product or service provides, compared to other alternatives they have. If your costs go up, customers don't care. They will happily take a lower price if you offer it to them, but are generally not interested in managing your costs. Second, cost is dynamic. Relevant costs can change in the moment. - Do you price a product differently because you got a good deal on raw materials last time? What if you know the next price you pay will be higher? - You might have extra capacity, so the incremental cost of a short run for a small customer might be very low. On the other hand, if you are at capacity, that same short run could be very expensive, because its real impact is losing the margin you could earn by producing a more profitable product. That is not going to show up on any internal price list, or your accounting system. If your have low incremental costs, say selling software downloads or as a service, or like in my case, providing professional services with very little overhead, cost isn't a useful signal at any rate. ## 2. Pricing is a way to communicate and make decisions about value. If you mechanically add a markup to cost using a set formula, you are not forced to learn about what the customer really values. You then operate with less information than you could have. If you are always targeting value in your pricing, you will be looking for signals about what customers value, and what they don't value; all useful information as you seek to provide more value. For example if your formula says charge $10 and you do, you may not find out that the customer would happily pay $20 because the only other alternative costs $25. Or you might miss the customer who will happily pay 50% more if you can provide 3-day lead times reliably. Providing different pricing options to customers can help you learn how they see value. ## 3. Pricing impacts culture Nobody wants to work for a company that charges low prices because they produce low-end products. Everybody wants to do sometime useful. As my colleague Glen Vanstone said on [[Episode 37 Glen Vanstone - Competing to Win|Episode 37]] of the [[All Essential Dynamics Podcasts|All Essential Dynamics Podcasts]] >My underlying belief is that every single day everybody wakes up with the intention of creating value and fulfilling their purpose...Everybody wants to create value; that's a natural energy. Understanding [[Customer Value]] helps employees to tap into the natural energy of wanting to add value. Employees can proud of a company that delivers value which is recognized by satisfied customers. ## 4. Pricing can be more flexible and responsive than other strategic levers. Pricing is the most efficient, the most precise, and the most responsive strategic lever. ### Most efficient At constant volumes, a **price increase** flows straight to the bottom line (before tax). **Increasing volumes** at the same price can increase revenue, but costs go up as well. **Cost reductions** are hard to achieve and limit capacity, which can actually reduce revenue, so not all the savings will make it to the bottom line. ### Most precise Pricing can be approached differently based on geography, features, season, customer and even color. Once I purchased a coat on Amazon. I wanted black but prices were different based on color. Black was $70. Blue was $30, and the same coat in tan was $140. It's no surprise that I picked the blue one! Product features, service levels, lead times and many other factors are far harder to customize and adjust than price. ### Most responsive You can change prices overnight. You can change prices on specific features or in specific markets. And you can track the impact of pricing changes on unit sales and customer satisfaction, and adjust. You can conduct pricing experiments and dial your pricing in based on solid, timely data. Experimenting with new products or changing features is a far more risky experiment. Think New Coke in the 1980s. I understand that Toyota auto plants are designed so precisely that they do not speed up or slow down production to match the market. They using pricing rebates to stimulate demand when lagging and wait lists when demand exceeds supply, because these variable are far more controllable than plant production levels. ## 5. Nobody will take care of you, but you. Years ago I was involved in complex negotiations with large corporations. We were the sole supplier of critical components to our customers; their business was a large source of our profits. We talked a lot about win/win partnerships and truly worked together to figure out the best pricing arrangements to serve both sides. However, these much larger corporations were constantly pushing for lower and lower prices. I eventually realized that despite the win/win philosophy, only our company could take care of itself, only we could decide how low we could go and still have win/win. Understanding our business model, our economic realities and what the customer really valued was the only way to protect our interests when win/win started sliding toward lose/lose. ## What does this mean in an unstable market? How does this approach help you set prices in an unstable market? An unstable market gives you all kinds of opportunities to test pricing without scaring away customers. First, understanding customer value is key. How much opportunity does the up market present your customers, and to your customer's customers? How do they use your product? What problem does it solve? In an up market, the cost of a component part might not be as relevant as security of supply, new features or customization. Testing the value of these variables could result in a situation where your prices go up and your customer is happy to pay because you have now set them up to take advantage of movements in their markets. Second, constantly check customer value. Know the market and the cost of competitor's offerings. Understand supply and demand trends for your customers, competitors and suppliers. Be prepared to change prices quickly, and adjust based on the results, all while dealing with new information. Staying strategic on pricing is hard, but rewarding. No other strategic factor is so precise and so easily adjusted. Pick a line of business and get started being very intentional and strategic about the prices you charge. You won't regret it. If you need help, [contact us](https://getunconstrained.com/apply) to talk about holding a customized **Unconstrained Pricing Workshop**. Derek March 2022 --- ## Feedback We welcome your feedback. Please join [Essential Dynamics](https://www.linkedin.com/groups/14077119/) on LinkedIn to share your comments and questions. ## See also - More [[_Unconstrained Originals Index]] - #[[Blog]] %% ## Notes When I'm talking about strategic pricing I'm talking about how much is being charged per unit of value, not the total amount of a transaction. For example, knowing a car repair was $1,500 is not as useful as knowing that the shop rate for mechanic's time is $150 per hour.