IF you answer NO to even some of the following questions, taken from the Harvard Business School pricing checklist, a review of your pricing processes could easily reward you with a 3 – 7% increase in profit margin.
• Do you know the economic value of your product to your customers?
• Are you confident that you are bidding the right amount for contracts?
• Do you know whether you would be better off making a single large price change or several small changes?
• Do you use price / volume curves as an analytic aid to price setting?
• Do you find that too many pricing decisions seemed aimed at gaining volume, despite an overall non-volume strategy?
• Do your pricing approval levels seem to be functioning more as a volume discount device than as a control mechanism?
• Do you have a planned method of communicating price changes to customers and distributors?
• Are your prices set to reflect such customer-specific costs as transportation, set-up charges, design costs, warranty, sales commission and inventory?
The travel and hospitality industry has reaped the benefits of revenue optimisation for years, yet it is rarely applied outside these sectors, despite offering a significant increase in profit margin at no extra cost or burden on production.
Optimising price requires a slight shift in traditional management thinking. Whilst cost management is often considered one of the most important elements of a successful business, pricing and revenue management requires equal emphasis.
For the majority of organisations today, the raw materials for effective pricing and revenue management already exist due to the availability of data from most ERP systems etc. Manufacturers already have a goldmine of price and demand data to form the platform of a rigorous pricing process that can potentially boost profits by millions of dollars.
The typical scenario in many companies is they lack facts, data and statistical techniques to determine the optimal price, and fail to exploit pricing opportunities in small time frames or during times of perceived value change in the market.
Process control and detailed analysis, often imbedded in so many other facets of business management, is generally missing when it comes to the pricing process. In many cases you’d be hard pressed to find robust analytical processes to support pricing decisions in most Australian companies – these decisions are, more often than not, left to the ‘gut feel’ of sales and marketing managers.
Pricing and Revenue Optimisation (PRO) offers manufacturers an improvement in the bottom line and increased efficiency across the supply chain. According to a study undertaken by McKinsey, just a 1% improvement in price creates an improvement in operating profit of more than 11%.
Furthermore, day to day pricing has a direct effect on demand. Pricing that results in short term excess demand for stock/capacity leads to unfulfilled customer orders. Equally, pricing can have the opposite effect leading to lower demand and reducing capacity utilisation and increasing the costs of production.
Erratic pricing will have a cumulative effect, seeing demand vary between the two scenarios resulting in a raft of problems throughout the supply chain. It is therefore essential that appropriate pricing policies are put in place at a sales and marketing level to ensure optimal cost and service outcomes from all facets of your supply chain.
PRO is best practice, disciplined pricing processes, supported by sophisticated statistical software that aids management in determining the price at which products and services should be sold in order to satisfy management’s business objectives.
But, what is the right price? The right price can be a number of things – it can be the price that maximises the probability of a sale without leaving money on the table; the price required to fill production capacity; the price to meet a defined market share outcome; and/or the price to meet a profit target.
At the end of the day, reaching the right price for each customer, for each purchase, will directly contribute to the bottom line.
How do you make this happen? Effective pricing policy and practice must start with the management team and its desire to implement sound processes into the front end of the supply chain; the sales and marketing process. Sales and marketing is directly tied to the demand for supply chain resources, meaning PRO initiatives must be a joint supply chain and marketing improvement program.
*Greg Bywater is director of SMT Consulting, 02 9460 3822, or visit www.smt.com.au.