Value based pricing is claimed to be the way to price the products. The argument is obvious – value is typically what customers pay for! But how many companies actually do value based pricing?It means a lot of more work to be done and it may need a change in how things are done. Value based pricing will definitely need to involve the product management function at a deeper level in the setting of the pricing – which is a very positive thing in itself! If product management is asked to work for the overall success of the product – pricing is a central part of this! And who knows the product value logic better than the product manager?!
Define your value argumentation
Most companies I meet do pricing in a rather “traditional way”. They look at what the cost is for their product, check what they had in the price list last year – takes a brief look at what the competition does in the market and then adjusts the price levels with a few percent accordingly.
Is this a bad way of setting the prices?
It sure is easy and saves time but my opinion is that it opens up for less firm price negotiations with the customers as the value argumentation is not in place – and the product value is what the customers pay for – right? And there may be some untapped profit margins that are lost. This we have seen in work we did simulating different price structures and in assignments before. And that is giving away some easy money the way I see it!
Connect value with price
What can be easily foreseen is that the value with Value based pricing is not “only” setting the price levels, but more building up a foundation for the price levels helping to maintain the price model integrity. Losing the integrity means that the pricing structure gets damaged and rebates are forced to be given beyond policy to secure the business.
The main purpose with value based pricing is to:
- Minimize price erosion as the argumentation in negotiations is stronger and more “logical”
- Connect value with price for a stronger negotiation position
- Maximize profit as the price levels can be kept higher
- Maintain integrity of the price structure
To establish value based pricing means a lot of more work to be done both in terms of mapping up the product value logic but also to understand the customers and the dynamics in the market. More job to be done for sure but when it is done properly, more profit is typically generated.
>> Tip: Define the Value in Value Tree
Too few take the investment to start working with value based pricing. Too little time and effort is invested in pricing in general. And the investment in defining the product value logic needed for value based prices is sadly overlooked. This is an untapped profit potential for many high-tech companies!