How does your company perform when measuring pocket price (what customers actually pay you) vs. your “list” price? If you cringed, you are like many of our clients trying to close this gap. Asking customers for a higher price does not raise any of your fixed costs — a 1% price improvement can enhance profits by 11%. So it’s worth looking into.
Often, the culprit is a lack of coordination between marketing – the function that typically sets the list price – and sales – the function that negotiates the pocket price. The scenario can end with marketing decrying the sales team’s lack of discipline in holding the line on price, while sales ignores list prices as “unrealistic.”
We’ve found the following three-step approach to be successful in increasing marketing and sales pricing cooperation — and margins. Both functions participate in all three steps; with marketing leading the first one, both functions working together on the second one, and sales guiding the last.
Step 1: Marketing Leads a Value-Based Pricing Strategy to Set List Prices
Much has been written about the superiority of setting prices based on customer’s perceived value of a product or service, rather than cost-plus or competitor-based approaches. So why do most companies still set prices based on the latter two methods?
In our experience, this is due to the outdated notion that measuring customer value is too hard. Today there are lots of low-cost, fast methods for measuring how well you and competitors are delivering on customer needs, and no good excuse for not taking advantage of these approaches.
Tools can provide a framework for setting list prices that match customer’s value perceptions. We use one called a Perceived Value Analysis (PVA). Marketing is best positioned to lead this value-pricing process, but including the sales team provides invaluable customer needs insights.
Additionally, the involvement of the sales team in the value-based pricing process overcomes the notion that list prices are unrealistic. It also gives them more confidence in supporting list prices because they can see the reasons that the marketing team is, in some situations, advocating higher prices than that of the competition.
Setting value-based list prices is a necessary, but not sufficient, step to maximizing margins. After all, list prices are usually where the real price negotiations start. The next two steps can help ensure that any deviation from list prices is warranted.
Step 2: Marketing and Sales Jointly Lead a Cross-Functional Effort to Measure Account Strategic Value
Except for their very largest accounts, companies often leave it up to individual sales personnel to determine whether an account has high strategic (i.e., long-term) value or not. In subsequent audits, it is typically found that the rep is giving large discounts off of list prices to accounts that the company considers non-strategic — and sometimes not being generous enough with accounts that will provide significant long-term value to the company.
This can be rectified by providing more discipline to the process of defining and scoring an account for strategic value. Specifically, we’ve seen marketing and sales work together with other functions (often including Finance) to develop a simple strategic value formula that reps can quickly apply to each account.
Based on the strategic value score, the teams can create acceptable discount ranges for high strategic value accounts, with tighter ranges for lesser-valued accounts.
Step 3: Sales Develops an “Opportunity Scorecard” To Take Into Account Unique Competitive Circumstances
Even with the strategies in steps 1 and 2 above providing a great pricing foundation, the sales rep still faces unique competitive circumstances in almost every negotiating situation.
We’ve found that using what we call an Opportunity Scorecard enables reps to rapidly assess their competitive standing. The scorecard leverages the customer needs information gathered for the value-based pricing analysis (Step 1), but adjusts for the particular requirements of each opportunity.
The scorecard also identifies the specific competitors bidding for the opportunity, and the reps own company’s strengths and weaknesses vs. these competitors. The resulting score helps reps determine if they are in a strong competitive position (e.g., “hold tight on price”) or a weaker position (e.g., “up to ___% of price reduction warranted if needed to win”).
Pricing Pilots Will Prove the Value of This Process
Armed with the value-based list price (Step 1) as a starting point, a strategic value formula (Step 2) that takes the long-view into account, and an Opportunity Scorecard (Step 3) that provides competitive insight, the sales team can have powerful new guidance in negotiating price and maximizing margins. Involving marketing and sales in all three steps increases the probability of buy-in and successful execution.
The best way to test this 3-step approach is to establish a pricing pilot in a single region or geography. Set up metrics and measure margins in the pilot market vs. a control group. We are confident that you’ll find the effort paying off in reduced price erosion and improved margins.
 There are several sources for this finding, first reported in Managing Price, Gaining Profit, Harvard Business Review, September-October 1992