Chapter 5

Antidotes to Price Pressure

What customers really want is a better product for free.

—POINTY-HEADED LADY IN DILBERT CARTOON

Price pressure is typically a story about villains. Typically, the villains are said to be competitors or customers. Sometimes the villain is an aging or inadequate product. Sometimes the villain is a misaligned baseline price level and uninspired structures. No doubt some of this is true some of the time.

Still, the villains are part of a normal set of conditions. Customers are supposed to minimize cost; competitors are supposed to try and eat your lunch. Your price structure is not ideal or you would not be reading this book. The question is how can your company minimize that pressure?

To begin with, let’s review some worst-practices benchmarks. One is after-the-fact recriminations. By the time that unattractive contracts are sent to executive suites for approval, there is little to be done. The company should never have gotten into that position in the first place. Another bad practice is to begin the pricing waterfall with unrealistic and absurd pricing—since all participants know they will fail to obtain that price, departing from it is easy and so managers will drop price. Finally, and most importantly, there is the failure to understand what your company’s offer means to the market through a refusal to consider its buying context.

Figuring out how to get out of that position is the focus of this chapter.

Three Strategic Actions for Reducing Price Pressure

The antidote to price pressure is to have worked on building up healthy contextual pricing practices and to deploy them ahead of time. Think of sales effort as the last line of defense in revenue protection—don’t let it get down to that last line of defense.¹

The following three strategies will materially reduce price pressures on your company’s revenues:

Being precise in discounting

Using killer tactics and offering bundles

Knowing the level of play

Being Precise in Discounting

The first and most immediate task is to make sure that the discounting process contains the essential logical elements required for optimum pricing. The logic requires three questions:

Is the account at risk?

Is price a factor in that risk?

What is the optimum price?

A common practice is to jump to the third question without considering the first two. Without answers to the first two questions, managers will typically conclude that a big discount is appropriate. As a practice, that is flawed.

Threats to an account (or barriers to gaining an account) may stem from several sources. One is that some event affecting clients is likely to induce buyers to move to another company. For instance, in a B2B setting, the arrival of a new manager can set up such a dynamic. Often, the new manager wishes to demonstrate his or her determination to initiate change, and the subordinates will need to show they are not entrenched in the past. One way to demonstrate this determination is to switch out a supplier. Sometimes the change agent will warn the incumbent vendor, sometimes not.

Another source of risk is a competitor on the warpath. BellSouth (now AT&T) faced this problem when a GE subsidiary, more focused on selling dishwashers and building infrastructure in apartment complexes, also offered telephone services at very low rates. The answer to that threat was a model that predicted which property management companies and real estate investment trusts (REITs) would be approached by GE, and when. It turned out GE’s priorities were based on the size of the apartment complex, the income level of the residents and their existing cable/ television infrastructure, product fit, usage, and decision-maker title.² A model reflecting these factors allowed BellSouth to get to GE prospects first, and lock in that business.

Once the risk has been identified, the next question is “Does price matter?” The answer is clear: not always. Examples of situations where price is not useful either in addressing or limiting risk of loss include major service failures, poor personal chemistry, acquisitions of a business account by another company loyal to another supplier, and your offers being rendered unwanted through new technologies or super-bundles to which your company cannot respond. In many situations, either because price is not the problem or because price is not a cure, it means that price is not the answer.³ In that case, do not drop the price bomb.

Only a minority of your customer base is in any danger of leaving because of price. Don’t drop the price bomb when you don’t need to.

Level of risk linked to price level. If an account is at risk and price does matter, what is the relevant price point? Interestingly, we have found that price response need not be linear to risk—in other words, more risk does not mean higher discounts. The proposed price level should be linked to the customer point of reference, and different reference points will suggest quite different price points.

Four cases are typical:

1. Low risk. In cases of low risk, buyer awareness of competitive offers may be quite low. Then the price comparison (context) will center on your company’s own price. There may be a need to show some responsiveness to price concerns, but the price response must be nominal. To do more will only provoke questions, such as “Why didn’t you do this earlier?” and “Maybe it’s worth investigating other suppliers—perhaps something has changed so that the other suppliers may be offering even bigger discounts?” This cannot lead to a good result.

2. Medium risk. In the case of medium risk, a comparison centers on the difference between your company’s offer and that of the competition. This case involves the usual trade-off of different features, functionality, and appeal. Price may not have to move.

3. High risk. In high-risk situations, the comparison will center on the competition’s offer.⁴ This means that you must demonstrate your superior value to that offer, with switching costs and other adjustment factors in order to win. If you are in this position, the price must communicate strong reasons for customers to decide in your favor.

High risk is a good time to practice triage. This means that in some cases the better practice is to recognize that winning will be an improbable long shot, and would require an impossibly deep discount. That has other risks: if the market is highly communicative about pricing, it may be that any low price you offer will become known and will be the standard for future sales, even if you do not win the competition.

In that case, the best approach may be not to compete on price even though it will mean you are certain to lose. In some cases, the customer will effectively tell you that they have mentally switched vendors, such as when B2B customers “go silent” and do not respond to calls by your sales force—this is a very bad sign if it persists.

4. Opportunity to acquire business. This is the mirror image of the risk analysis: is there an opportunity to take business away from a competitor, and what price point will suffice?

The big difference between attack and defend is that you will have less information about prospects than about one of your own customers. Therefore you will have to use “proxies” for risk. For instance, for one software vendor we found that many add-on and custom additions to a competitor’s system was a good sign that the buyer might not be finding the competitor’s systems a good fit.

So the basis for price level depends on the state of mind of the buyer. When your company’s offer is the reference point, you can set price based on your existing offers. When a competitor, or alternative solution, is a potential buyer’s reference price, your pricing must accommodate that benchmark. This applies not only to price level but also to price structure.

The pricing context in buying decisions can be your company’s prices, or the context may shift to competitor prices—which would signal higher risk of loss.

To reiterate, a three-step process will help ensure more precise and profitable pricing:

Isolation and quantification of risks

Relevance (efficacy) of pricing actions

Price response according to scenario

While these three steps and scenarios may seem like a lot of work, consider the benefits they offer in pricing:

Every nuance captured means eliminating an unnecessary discount, or saving a lost customer or segment.

Stick to the script of different contextual scenarios, and avoid dropping prices where it is unnecessary. Postmortems have shown this can rescue about 2 to 15 percent of revenues.

Also, once embedded in a CRP tool, the incremental effort by marketing and sales is very small.

Using Killer Tactics and Offering Bundles

Another approach to price pressure is to isolate the cause and exterminate it. Usually, competitive threats are quite specific (e.g., a competitor is hitting your largest customers), or they are using low-cost channels (e.g., insurance via the Internet), or they have a cheap and simple product to replace your expensive and complex product (e.g., medical diagnostic devices). Another common threat is an established competitor under new ownership trying to earn back an acquisition premium. In almost none of these cases will there be a universal threat. Even an established competitor will pick its battles because it needs to show return on investment (ROI).

Strike back in a targeted way. Contextual examples of striking back usually involve both price level and messaging, but they should also involve price structure:

Message. Use price transparency selectively. If a competitor is offering outrageously low prices to win your best customers, try informing the competitor’s best customers of these prices. Chances are this will provoke anger amongst those customers: “Is this my reward for long time loyalty?” This can be done as part of an offer: “To match your supplier’s prices, we are now offering $X.” Frequently, this causes such a problem for the competitor that it will limit its attack on your customers.

Target. If your industry pricing is driven by costs (e.g., transport), retaliate where the competition is at a disadvantage. Make sure the message tells the competitor’s management of the linkage (that it is a retaliation) so that they have the option of ending the problem. Again, message is key to avoiding a price war.

Structure. Often a price attack will take the form of a flat-rate structure. This is effective with customers currently paying under variable plus fixed structures, and with some paying under a variable plan. Structure is key to attack or defend. If an attacker offers a flat-rate price, you probably need to respond with the same basic structure for threatened segments or customers. But don’t respond identically. The response structure should be sufficiently similar to say “We do that also,” but the differences should be sufficiently complex to require competitors to spend some time to refute its attractiveness.

Transparency. You need to control different parts of the price transparency—it does not need to be all transparent or all opaque. For instance, transportation networks and communications networks can offer simple pricing and complex pricing, depending on circumstances. A leading network-equipment vendor’s systems architecture made it the advantaged product on highly meshed intracity communications, while it did poorly in interregional backbone applications. The pricing structure needed to reflect this: very open in advantaged configurations, very opaque and complex for regional backbones. Opacity was accomplished by tying together different components and having multiple discounting factors tied to context.

Specific attack. Consider attacking the specific product set that poses the difficulty. If it’s a bundle causing the problem, create an attack bundle. If it’s a product within the bundle, drop prices on that one product. For a leading tax software company, creating a suite of “killer bundles” aimed directly at specific competing bundles had the advantage of preserving overall price and rationalizing some bundles with too many components (markets hate stuff they can’t use in a bundle).⁵ We believe that general corporate competence in designing market-effective bundles is poor, so chances are your attack bundles, if properly constructed, will be very effective in blunting price attack and pressures.

In countering price attacks, do not strike back blindly or broadly. Precision is efficient.

Knowing the Level of Play

Price pressure can also come from a shift in the overall evolution of the industry, and so it needs to be considered a potential cause for alarm. For instance, many industries undergo a pricing evolution of: (1) uniform pricing across all customers (e.g., “national pricing”) (2) segment-specific pricing, and then (3) deal-specific pricing.

If your industry is about to undergo such a migration, you must try to be one step ahead. By being more astute in contextual pricing, you will be closer to the ultimate pricing end state (deal specific). Commodity plastics is an industry where pricing is already in the third stage: each sale is deal specific, depending on the degree of substitutability of the product, transport, timeframe, availability, input costs, etc. Any player still working on a segment basis only will find it wins only unprofitable orders. Specificity is key as deals go down to the warehouse level.

Another element of the level of play is the full competitive suite. For instance, a firm selling the second-best audit system for accounting firms faced severe price pressure when the competitor repeatedly updated and improved its product. To counter this pressure, the firm grew the unit of purchase (bundle) to include not only the audit manual and procedures but also its document management system linked in with project management software. This altered the field of play, so no longer were the superior qualities of the competitor’s audit package determinative. The company’s superior document-management system trumped the audit system, and price pressure was reduced, for the moment anyhow.

If you can change the level of play, then price pressure can be reduced. For instance, Bloomberg killed the incumbent financial-information service Quotron by eschewing bundling of information with telecommunications or hardware. This spotlighted the core information functionality—and let Bloomberg win. We find that this sort of de-layering is common as new industries mature, and former market creators lag in technology and pricing.

Another tactic is reduced comparability. Buyers are best at comparing like with like, such as comparing product to product, or service to service. Mixing product and service makes the comparison harder. So if your company is facing pressure on a product, offering an intangible with a product can blunt comparisons. For instance, warranties are sometimes useful in suppressing price pressures. Volvo, Volkswagen, and others reacted to aftermarket competition for replacement mufflers with a “lifetime” warranty. A close look at the details of these plans shows they have a large number of exceptions, but the plans have helped keep replacement business at their dealers.

At what level is the battle happening? Is the context the deal, the segment, or a national level of play? The product or the bundle?

Summary

The more you look at price pressures, the more it appears that the villains of customer buying power and competitive initiatives thrive mainly because someone left the door open for the thieves to enter the building. Sometimes the more thematic explanation for price pressure is a lack of product understanding and pricing precision. Many times a close look at how buyers make decisions will suggest a way to avoid price pressure and competitive defections.

Notes

1. King Herold Godwinson of England repulsed a major Viking invasion with the cry “Let us kill only wet Vikings!” Meaning that the time to solve the problem was before they were fully ashore. Stephen Lipton, head of a global financial services outsourcing firm, similarly commented that timing was critical to major outsourcing wins. Dialogue with potential clients is most effective when the notion of outsourcing is first considered, and similarly dialogue with existing clients is most useful before a competitive offer is placed before them.

2. A business-to-consumer example of the same idea was employed by Johnson & Johnson in its baby shampoo business. In that case, the competitor offered a specialized application, so J&J offered coupons and promotions in all the places it knew the new entrant would target consumers. Because of superior market knowledge (an incumbent advantage, usually) and deep pockets, however, it preempted the new entrant, who eventually gave up. See Chapter 14 for more on how to construct a risk model.

3. In some cases, antitrust lawsuits or other nonpricing actions may be the answer. As an average across many studies, we find that rarely are there more than 24 percent of accounts or customers at risk because of price. This is a lower number than estimates usually obtained from surveys or sales reps. Why? Surveys are often flawed and respondents game them. It is the same with sales rep opinions.

4. Evidence of this comes from logistical regression of win/loss and price differences, and is confirmed by hundreds of buyer interviews. Note that you need to flip the price delta in predicting the likelihood of a win to obtain the right logit outcome.

5. While the military is not known for excellent pricing or for producing profits, it is a good role model of how to focus on hurting your competition. During the Cold War, the United States and the Soviet navies developed very focused shadowing tactics. Next to every U.S. aircraft carrier, the Soviets stationed a cruiser to sink the carrier in the event of war. The United States then stationed a couple of destroyers next to the Soviet cruiser, to sink it in the event of war. In some operational theaters, the Soviets then deployed smaller torpedo boats to sink the destroyers. While this was ridiculed by some observers, it does demonstrate a ruthless dedication to specific threats.