Pricing: Strategy vs. Tactics
Author: Justin Funk, Managing Partner, Agri Studies, Inc.
Having taught marketing strategy for over 18 years, it has become apparent that even the most experienced marketers still struggle with how to effectively price their products and services. Pricing is one of the more strategic decisions a company can make; however, it is often treated as a tactic.
Think of how often pricing is used to incentivize buyers. Early-order discounts in the seed business or the end-of-year model sale at an equipment dealership are just a couple of examples. This has almost become the “norm”. As consumers we respond to price, and when used as a tactic, it can generate short-term results. There is no question—if you price something lower, you will sell more, and if you price something higher, you will sell less. This is basic economics. However, the real question should be, “How much?” Are you better off selling more for less, or less for more? This is where strategy comes in.
Many marketers look at pricing as simply a quantitative issue. This makes sense considering the end result of pricing is a series of numbers—dollars, units sold, etc. They look at their costs, add a margin, establish a price and estimate demand; however, when establishing a price, many marketers fail to take into account the qualitative issues. For instance, what does price say about your image? Product quality? Promise of performance? Level of service? How easy or difficult is it to raise your price after lowering it and visa versa? When pricing is used as a tactic, what message are we sending to our customers and what are we teaching our sales people? The consequence is that we teach people to only respond to price, which then dilutes other important elements of the value proposition. The more commoditized a product or service is, the bigger the issue becomes. It’s not all just about numbers.
So, how can we overcome simply using price as a tactic and instead become more strategic? One must look at a multitude of factors that work in concert with one another. First, an organization must have a good understanding of its costs. Pricing below costs will never result in profits (duh…). Second, an organization must have a thorough understanding of its customers’ choices when it comes to competition and competitive substitutes. Third—and often overlooked—is demand, i.e., the benefits seen by buyers. Recognizing what customers are willing to pay based on the value they receive is an often-neglected activity for many organizations. It’s not necessarily easy to determine and often requires some type of marketing research, but once a marketer has a grasp on the value their customers receive, a fair ratio can be established that allows the marketer to share in some of the value creation through their pricing strategy. This type of pricing approach requires very clear communication of the value proposition, but the results are worth it.
Organizations I have worked with that are able to price in relationship to customer-value are the ones that enjoy the greatest margins. They also tend to have some of the most loyal customers because the value proposition is clear, well-understood and mutually beneficial.