A few points on the pricing emotions.
In this post I outline just a few points on the psychology of pricing. People tend to buy emotionally and justify intellectually. How many houses have been bought for emotional reasons? Then afterwards intellectually we say it’s a good investment.
There are three pricing emotions:
1. Price resistance.
2. Price anxiety or buyers remorse.
3. Payment resistance.
In educating our clients during the sale process we need to be able to address these pricing emotions. The mere obtaining of sticker shock is not necessarily a negative as once a client is educated to the value then they will often be your best customers. It’s a known fact that the luxury car ads are aimed at existing customers more than potential owners. These companies understand that after making such a large purchase, customers want reassurance that they have made a good decision. People don’t go out and buy a BMW because they saw the ad on the TV. But those who have bought the latest and greatest BMW or Mercedes or what other marquee brand and have spent a significant amount of money need to be assured. These companies understand that they need to address these buying emotions. It does not mean that they are addressing it by reducing the price, it means addressing it by educating their customers.
Prices need to be set at the beginning or as early as practical so that we get the pain out of the way and then deal with the pleasure. We get the ability to educate the client on the value at they are receiving but of course, we need to understand the value equation to be able to do this.
Pricing is a marketing issue. Pricing by itself as has been countlessly realised in the dust heap of business will not lead you to business success but pricing coupled with great service, understanding what the customers expectations are and delivering value can lead to increased net profit, increased revenue to the business and increased loyalty of your customers which in the long run will be the best growth strategy for your business. Don’t neglect pricing.
The 5 C’s of Value
In my previous post I discussed that pricing is a marketing strategy. In this post I discuss the need to look at the value being delivered to the customer.
So let’s look at the 5 C’s of value:
1. Comprehend the value being delivered to the customer.
2. Create value for customers.
3. Communicate the value you create.
4. Convince customers they must pay for value.
5. Capture value with strategic pricing based on value, not costs and effort.
So many businesses look at the services and products that they offer from their perspective. But to be able to determine the appropriate price, you need to firstly comprehend the value to the customer. Why are they buying that service, what problem is it solving, what pleasure is it obtaining or pain is it avoiding and then what is that worth to them?
In business, we need to be able to create the value. We need to be able to create this value so that we are actually delivering the value to the customer. We could create value by the experience in dealing with you. It could be by the result of using or delivering the product or service. Value must be created.
The customers don’t always comprehend exactly the value that is being delivered to them and accordingly an important part of any service strategy of a business is educating the clients of the value being delivered. Often time the customer may think of an aspect of the value but have not thought through every aspect of the value. Alternatively it may be that they have not quantified the real value being delivered. Never assume – educate your customers on the value being delivered.
The fourth aspect of convincing people that they must pay for value is also very much tied up with the education of the customers. Now remember that not all customers are going to want to pay full value. Those customers, you don’t want to deal with. We only want the good customers who are willing to pay for the value. There are plenty of these paying customers once they have been educated because these are the ones that we can earn a profit from and have a far more enjoyable business.
Finally, once we have understood the value equation, we then can determine the pricing strategy.
Pricing is a marketing strategy.
Too often in business, particularly service businesses, pricing is not seen as an important business tool to develop the business. Pricing is often seen as something that is set by the market. From accountants, engineers, financial planners to physiotherapists often the answer to the question of how you set your prices is usually one of two answers. The first option is have a look around at what everybody is charging. The second option is, work out my costs and add a margin that I want to achieve as profit. These two approaches are not a determined appropriate pricing strategy to ensure that the price being charged for the service is in any way reflective of the value being delivered. Unfortunately too many businesses do not look at price as an important element of their marketing strategy
So what do customers buy? We are all familiar with the old, they don’t buy the drill bit they buy the hole, they don’t buy the sausage they buy the sizzle. Theodore Levitt of Harvard Business School put it best when he said that customers buy expectations. They expect a certain result, a certain outcome, a certain problem be solved, pleasure to obtain or pain avoided and that is what they are buying. They are not buying time, they are not buying effort, they are not buying the cost structure of the business – they are buying an expectation, an expectation of a result. Being mindful of this fact, why on earth would any business therefore price its services on a time basis or some other anachronistic tool that is not focused on the value being delivered to the customer?
We need to ensure that as a business that we are meeting our customers expectations because that is what they are buying, that is what they are going to pay for.
In the United States it has become known amongst management literature an effect called the “Starbucks effect”. Approximately 12 to 13 years ago, 3% of coffee sold in the United States was premium. Today, more than 40% of coffee sold in the United States is premium. This is primarily due to the development of Starbucks. They selected a customer base, delivered an experience that that customer base wanted.
Who would have ever thought that we would be paying the money that we are for bottled water. Something that we can get for free, it is not scarce in reality There is a plentiful supply of drinking water in the western world yet we are buying bottled water. To make this even more of interest is to have a look at the company Evian who sell premium bottled water. They make an experience out of bottled water. Maybe it is not coincidental that Evian is naïve spelt backwards.
Evian, Starbucks – they have loyal delighted customers. This wasn’t done by charging a fair price or catering to discount shoppers. It was done by delivering an experience to a particular customer base that wants that experience and charging appropriate for it.
Pricing can assist in the development of a business in so many ways as it transmits so much information. Take a minute and look at the lead pencil that you may have on your desk. Think of all the businesses that have been involved in putting that pencil together from the tree – the logger, all the way through to the end salesman from which you purchased that pencil from. Every which point, a price was charged. A price that was transmitted value to the next stage. Even in the humble pencil, the price mechanism is at work.
So the question is – how is the price mechanism at work in your business and is it being looked at properly.
The first point in determining what is the price is to look at the value side. Customers are only going to deal with your business if they see some value from doing so.
You can’t measure everything
“In mid-18th century London a mathematical prodigy called Jedediah Buxton was taken to see David Garrick perform Shakespeare’s Richard III at the Drury Lane theatre. When asked whether he had enjoyed the play, his reply was that it contained 12,445 words. His analysis did seem to miss some significant things. ”
This is the opening paragraph of speech given in September 2006 at the Annual Conference of the Australian Institute of Judicial Administration by New South Wales Chief Justice James Spigelman.
He then goes on to say “The purpose of my address is not to deny the beauty of numbers. Nor their utility. My purpose is to emphasis, as Jedediah Buxtons’s reaction manifested, the inability of numbers to always identify what matters.”
As the Chief Justice so aptly put numbers are not everything. So many businesses measure everything. Many accountants continue this with numerous measures focusing on everything that they can put a measure around. This focus is usually the traditional accounting focus and particularly orientated towards costs. But often many of these measures just create unnecessarily administration and do nothing to get to what matters.
What should be measured?
The Chief Justice was railing against the use of numbers to find some “quality indicator” of the Justice System. Unfortunately many businesses fall in the trap of measuring everything in the pursuit of a quality indicator.
A significant problem with the measures being using in business is that they are based on the traditional accounting practices. The accounting standards were developed in the industrial age when everything was focused on the efficiency of the factory. The assets were the machines, equipment etc. However we moved from this to the information or knowledge age where the assets are the people and the information that they have in their heads. However in the profit and loss statements the money spent on people is an expense.
Whilst the financial statements are often misunderstood they serve a purpose. The purpose of these statements is not to manage the business. The profit and loss statement is best said to be a history statement. Any measures that are based on aspects of the profit and loss statement are looking at history.
There is a place for some measures orientated on the financial statements or costs because it is imperative that costs are kept under control. A business will not achieve true success with only these measures in place. Success is defined by the customer / client. It is necessary to measure that which the customers views as important. We need to find the drivers of the customer behavior and measure those.
But remember not everything can be measured. How can we measure the lawyer / accountants ability (or lack of ability) to communicate. A criticism made of lawyers and accountants is that don’t return calls quickly, not speaking in layman’s terms. How can the lawyers / accountants professionalism be measured. These are judged not measured.
Thus we need to focus on measuring what matters and have measures that matter. These are measures aimed at what is important to customers / clients. There is still a lot of work to be done on designing effective measures that are not just focused on various elements of the profit and loss or balance sheet. It is necessary to have a change of mindset from the industrial age to the knowledge age. Nowhere presently on the balance sheet is the huge asset that the loyal committed clients are. Nowhere in the financial statements is any information about customers found eg repurchase rate, referral rate etc
With the right approach it is possible to design a quality indicator that will reflect what is important to customers. There are difficulties and it will take a fresh approach to measures. Some businesses have already devised interesting measures aimed at getting to what customers see as important.
One of these is Fedex with the SQI (service quality index) which came from the hierarchy of horrors (a list of things that upset their customers). From this they assigned importance to each item on horror and from this they then created an index. This index thus showed how often or how little they were upsetting customers. Since implementing this quality index they have taken the taken the ontime delivery from 95% to 99.7%.
Another company is Enterprise Rent a Car (USA) and their ESQi which is similar to Fedex but is from a simple customer survey. There are other successful companies who do not rely solely on the traditional accounting measures but are focused on the customer.
Be careful though. I am not recommending the plethora of customer satisfaction surveys. These abound and usually are useless. In short these don’t work because they ask to many questions, the wrong people respond, are used for marketing purposes and probably the most importantly are not linked directly to what matters.
It is possible to develop a quality indicator but not using traditional accounting measures. A fresh look at the business is necessary. What the customer values in your product or service must be ascertained. Once this is understood then we need to devise a measure around this.
In conclusion what are you measuring? Measure what matters and have measures that matter. Remember not everything can be measured.
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