As we enter into an inflationary period, your firm’s pricing policy becomes more critical for long-term sustainable growth. At Malvern Capital Group, we’re not suggesting that you increase prices on customers unjustly. However, due to inflation caused by monetary and fiscal policies and ill impacts of the COVID 19 pandemic, now may be the perfect time to strengthen your pricing strategy and processes to ensure your business can continue to grow, while providing value to customers.
Generally, lack of a pricing focus can translate into millions of dollars in hidden margin leakage, as well as an inability to support an effective growth strategy. According to a study by Marn and Rosiello (1992), pricing is the most effective lever for increasing profitability — more so than managing cost and volume. In fact, for the average organization, a 1 per cent increase in price can result in an 11 per cent increase in profitability.
But, what is the first step at getting your pricing strategy right?
The first step in creating an effective pricing model is understanding your company’s current processes and price benchmark against best-in-class competitors in the market.
When performing an internal audit, it is important to perform a full pricing diagnostic across all departments to identify areas of pricing weaknesses that require process and tool enhancements. It is also important to meet with different levels of employees and map all potential areas for margin leakage. If these weaknesses have been defined, it is necessary to audit and track improvements using various pricing management tools.
Tools to Leverage
Two of the most common pricing tools include the price waterfall and price dispersion charts.
1. Price Waterfall
Helps companies truly understand the net realized price being charged to customers after factoring in hidden costs. This tool defines direct customer costs and potential regions of margin leakage.
2. Price Dispersion Chart
Focuses on gaining control of pricing practices. It provides a snapshot of customer discounts based on their account size (often measured as revenue per year). This tool helps to determine if there is a logical relationship between price discounts and account size.
Connect Price to Value
Regardless of how you analyze and craft new pricing strategies, the price of a product or service ultimately depends on how much a customer thinks it’s worth, i.e., value. According to McKinsey & Company’s article: “The Hidden Power of Pricing,” the best companies augment their pricing analysis with detailed customer insights. Value pricing requires identifying all the key buying factors that determine how much a product is worth to a given customer, understanding how those factors compare with competitors’ offers, and being able to quantify the value created for the customer.
We believe leveraging the two tools mentioned, plus connecting your price to value created for customers, will enable your team to improve your pricing strategy to minimize margin leakage during this inflationary period.