Pricing with Confidence
Although discounting can be an effective sales tactic, overuse can easily erode pricing position and change the focus of customer conversations solely to price decreases. Continuing to grant discounts will enable customers to access price decreases which are not necessary to close the sale. If customers discern habitual price cutting behavior, they will learn to hold orders and play vendors against each other in bidding processes.
Pricing with Confidence by Reed K Holden and Mark R Burton
The key to bringing confidence to pricing is understanding the financial benefit your product or service brings to your customer in the context of their business model. Once you link your offering to customer business drivers, you can confidently negotiate and substantiate your price without the need to discount defensively. Pricing with Confidence hinges on the seller understanding of how their product impacts their customer’s business model.
If you are unable to explain how your offer affects your customer’s business metrics, you will be unable to confidently back up your pricing strategy. In this situation, the customer has the upper hand in negotiations and can force a series of competitive price cuts between sellers. Immediately retreating to price cuts tells the buyer that there are more discounts to be had. The buyer now knows that you made your initial offer at a price higher than what you expected to receive.
We believe that the loss of pricing power stems from the combination of two factors. First is the inability of companies to understand the value of their products and services they deliver to customers. Second is the loss of confidence in their pricing strategy.
The Discounting Death Spiral
With a pricing death spiral, there are no winners. Only survivors.
Discounting can be a useful strategy to close business; however, when used indiscriminately, it can undermine price position. The processes and practices which support discounting should be examined and evaluated. If it becomes the default sales tool, there is little hope for achieving long term financial goals.
Price discounts can lead to a death spiral which erodes product value and leaves no winners. Providing a discount without a conversation around value shows customers that there is room for further price decreases. A single price cut can signal a buyer that there are more discounts available–leaving room for playing one supplier against the other. Discounting often trains customers to hold off placing their orders in anticipation of even deeper discounts. Rather than selling your products and services because your customers derive value from them, you end up selling them just to meet your numbers. Short term price cuts can meet short-term financial metrics, but ultimately serve to undermine pricing power and marketplace value.
The discounting death spiral begins in a competitive situation when a customer asks for a discount and the salesperson provides one in order to close the deal. A better response to a request for a discount is to ask and listen about customer goals and value. The first example in the book suggests that giving a buyer a high value and low value product to a buyer who is bargaining on price will establish value for each option. If the budget is the source issue for the customer, then a choice between a higher performance and lower performance product provides an opportunity to establish value for the product in the mind of the customer.
Customers who switch to you for price will be the first to leave when another low-price competitor comes along.
Some customers and projects may not be desirable due to profitability and expectation of future discounts. Consider passing on these sales and engagements–they may not contribute to long term financial health.
Investigating discounts and finding remedies
When you find the discounts, you’ve got to determine the root causes of the problem, and those root causes are rarely just the salespeople who dispense them.
Rather than accept discounting as an unstoppable force, take time to understand your discounting history and find the root causes. Some questions to ask are:
- Which sales people grant the most discounts? The least? Who does not discount at all?
- Which customers get the most discounts? The least?
- How does customer profitability relate to the amount of discounts granted?
- Do discounts occur at the same time each month? Each quarter?
- How are price discounts related to sales growth? Are discounts increasing while sales growth is slowing?
- Is more sales training required to communicate your value proposition to customers more effectively?
Compensation and organizational behavior (e.g., pushing to close deals at the end of the quarter) are often at the source of the discounting habit.
To understand the degree of discounting and its effect on your business, Burton and Holden suggest creating a plot of discounts versus sales growth. If discounts are increasing and sales growth is decreasing, it is clear that discounts are not delivering the required level of sales.
After conducting an analysis of where and why discounting occurs, it’s important to establish and agree upon discounting rules of engagement. These parameters provide flexibility for discretionary discounting, but set boundaries for when not to give on price. The book suggests using discounting dollars as a budget. Sales groups can receive an allotment of discounting dollars to use as they see fit over a month or quarter.
Understanding Your Value
If all you talk about with customers is price, there is no price that is going to be low enough.
If you do not understand the value of your product in your customer’s business, it is virtually impossible to stand behind and be confident in your pricing strategy. Salespeople will immediately fall back on price discounting if value is not clearly established and linked to customer business metrics. Lower prices is largely caused by a lack of confidence in pricing strategy (certainty that value is well represented by price).
Start by asking how the benefits your offering delivers to how it increases profits for your customers. Map your internal view of your features to your customer’s view of benefits and business drivers.
Questions to ask when prompted by a customer to drop a price are:
- “What do you know about us and how confident are you that what we offer can solve your business problem?”
- “By using our product, did you see any improvements in [key business metric]?”
Understanding what upstream triggers or leading indicators there are for your customer’s key business drivers can also establish where you lie in their value chain. Customers will want to talk about value because it is in their interest to understand and justify their expense and vendor choices. They will likely be eager to tell you how you can contribute to their bottom line financial success.
There’s an interesting example conversation in the book that illustrates the process:
“What do you really need from us?”
“Because 50% of my budget would be reduced.”
“How much is your budget?”
“It is 60% of a project budget.”
“How large is an average project budget?”
“$1 million and we perform 100 projects per year”
The result is that the customer can save $100 million from reliable storage. This information should be included in sales tools and ROI calculators.
Understanding the financial benefits you deliver to your customer in their terms puts you on equal footing in the sales cycle and “replace the discounting habit with a little arrogance”. The ability to talk about the link between your product or service and the customer’s financial metrics moves the conversation from simply pricing to how you can cost-effectively solve the business problem.