Pricing: The Most Powerful Profit Lever

Companies are under continual pressure to increase profits. But of all the levers available to companies to produce those increases, which is the most effective?  Which of these levers hasn't already been tapped out?

According to a McKinsey study* , a 1% increase in realized price delivers the greatest improvement – a healthy 10% increase in operating profits.  Despite this power, few companies have effectively taken advantage of pricing to improve profits.

The other levers cited are not only less effective, but they have also been the focus of corporate initiatives over the last decade or more.  For example, most companies have already squeezed significant costs out through supply chain improvements, wage and benefit controls, and eBusiness programs. As a result, there are few cost reduction opportunities left to improve profits.

Achieving profits through sales growth is hard-fought and hard-won.  Yet, the pressure to deliver bottom line growth still remains.

For most companies, pricing is without a doubt the most underutilized profit lever - and presents a rich opportunity to improve the bottom line.  Price management plays a significant role in capturing this opportunity.

Pricing: An Enterprise-wide Problem

Why are companies unable to leverage pricing effectively to drive profits?

The reason: pricing is often treated a simple, point problem, when it is in fact a highly-complex enterprise-wide problem. Pricing processes span across the organization, functional areas (marketing, sales, finance) and different roles (executives, sales reps, managers).  In complex large companies, pricing processes often vary by business unit, division or even the product line.  All these issues make it hard to envision effective pricing across an entire organization.

There are five key process areas where companies typically face problems with pricing:

1. One-size Fits All Approach
2. Ad-hoc Price Setting
3. Manual Error-prone Processes
4. Ineffective Deal Negotiation
5. Isolation from Enterprise Systems

One-size Fits All Approach
Companies too often companies take a “one-size fits all” approach to pricing. Sometimes it’s because their pricing systems are not sophisticated enough to handle segmentation. Or, maintaining “price homogeneity” is viewed as the path of least resistance, even though they know by doing so, they are ignoring real differences between their customers and leaving money on the table. Pricing strategy that ignores segmentation is often out of sync with business strategy.

Segmentation, when done effectively, gives a company the ability to identify fine-grained segments and establish segment-specific prices to realize higher profits.  Not all customers are created equal and each one of them has particular circumstances that should affect their pricing terms.

Ad-hoc Price Setting
Companies generate a tremendous amount of data from their ERP, CRM, and SCM systems. More often than not, this information is not leveraged in setting optimal prices and price guidance. Companies take an “ad-hoc” approach to setting prices based on nothing more scientific than “gut feel.”

A structured approach that leverages pricing best practices and pricing science to set optimal prices and price guidance across segments can result in dramatic margin improvement.

Manual Error-prone Processes
Most companies have a highly manual, disconnected “system” for managing pricing – and the communication of pricing – to customers and employees alike. Such an approach makes it difficult, if not impossible, for companies to respond quickly to market dynamics, and introduces the opportunity for a significant number of pricing errors. Companies with ten or twenty thousand SKUs can generate over millions of different price points across regions and channels. Add the need for timely price updates and it's hardly a situation that can be managed with a spreadsheet. 

Effective automation of price administration can streamline the pricing process, minimizing pricing errors and making sure accurate pricing information is conveyed wherever and whenever it’s needed. Such an ability to control and disseminate pricing information ensures that optimal price and guidance are used consistently, and dramatically improves a company’s price responsiveness.

Ineffective Deal Negotiation
All the pricing challenges in segmentation, price setting and administration come to a head at the moment of pricing truth – when the deal is negotiated. Without a price and margin management system in place to support and control negotiation, there is little hope that sales reps will have the right information at the right time to negotiate optimally profitable deals.

Providing sales teams with contextual insight and guidance at deal negotiation can improve the profitability of every transaction.  Small profitability improvements across a large number of transactions can dramatically increase margins, even without a price increase.

Isolation from Enterprise Systems

All of the processes noted above at some point must result in cash – prices executed correctly, invoices issued, and payments received. Yet despite the central role of pricing in determining what the company finally takes to the bank, most companies handle pricing processes completely independently and disconnected from their enterprise systems. Companies lose millions of dollars each year in revenues and margins, directly attributable to failures of pricing to be reflected accurately in their enterprise systems.

An effective, enterprise-wide pricing process is designed and deployed to link seamlessly with other critical processes and systems, eliminating process breakdowns and improving the bottom line.

Because each aspect of the pricing process spans the entire organization—every functional area from marketing to sales to finance—and is affected by different people in different roles, the pricing problem is truly enterprise-wide in every dimension. Solving this problem requires a truly enterprise-wide solution. Vendavo Enterprise Pricing Suite.

Click here to learn more about the Vendavo Enteprise Pricing Suite.