The enterprise software industry has trained its customers to expect discounts. The list price is seen, at best, as a starting point for negotiation, and in many cases is simply irrelevant, something that doesn’t even act as a reference price. The most complete survey of this that we could find was done back in 2003 by Jim Geisman and his colleagues at Software Pricing Partners, Inc. (Jim is an expert in software pricing). We spoke with Jim in September 2010 to get an updated view of discounting in enterprise software.
The findings of the original survey were that
- Discounting is widespread and significant. All responding companies reported using discounts, and those discounts averaged nearly 40% of list price.
- Company growth rates appear to be inversely related to the extent of discounts allowed by respondent companies, with respondents in faster growing companies reporting discounts that were nearly 20 percentage points less than discounts given by slower growth companies.
- The advantage of monitoring discounts is widely recognized by respondents. Nearly 75% of respondents acknowledged one or more important benefits to monitoring discount activity.
- The actual extent and character of discounts given is not generally known or documented by respondents. Less than 50% of respondents reported that they track discounts either frequently or regularly.
- Negotiated (ad-hoc) discounts were significantly lower in companies where discounting is tracked. Negotiated discounts by ‘trackers” averaged approximately 7 percentage points below what was allowed by “non-trackers.”
Additional results can be seen in Figure 1: Enterprise Software Discounting Across Industries (from Jim Geisman and John Maruskin “A Case for Discount Discipline” Harvard Business Review, November 2006).
Jim felt that the discounting situation had gone even farther in the past few years, with ad-hoc discounts (called negotiated discounts in the report) coming to dominate software pricing. He saw two reasons for this trend: (i) the economic situation has put even more pressure on sales to deliver and (ii) the emergence of Software as a Service and alternate pricing models has put even more pressure on enterprise software pricing. Another reason for discounting that we see at our own clients is the growing role of procurement in the buying process. In many cases, software companies do not do a good job in arming their sales force and the business buyer with the economic arguments they need in their negotiation with procurement.
Is discounting really an issue if no one believes in the list price to begin with? We believe the answer is YES. Ad-hoc (what Jim calls negotiated) discounting is generally the result of a price negotiation and is often part of a desperate effort to make quarterly sales targets. This is a problem for two reasons: (i) Software vendors lose the ability to construct the offers that generate the highest margins and to sell those offers based on their value. If you are not selling on value the only thing you get to compete on is price, which means that prices will only go in one direction, down. (ii) Discounting is not being used strategically, as an investment in customers or sectors that are strategically important. Jim suggests that software companies think of discounts as a form of investment, and an investment needs to have a return.
What is the cure? Software companies need to do two things to get on top of this problem. They need to begin by constructing list prices that are based on the value they provide to specific customers or segments. In many cases the list price seems to have been plucked from the air, making it hard for sales to sell and for the customer to accept. There is also a need to track discounting and to develop policies that direct discounts into strategic accounts that will deliver a return. But this is easier said than done. To really solve the discounting problem software companies need to shift the emphasis from price to value. And to do that they need to equip their sales forces to communicate the differentiated value of their offer. Sales needs to provide value-based arguments to the business buyer so that they have an ally in their negotiations with procurement. The LeveragePoint platform is a scalable way to bring quantitative value-based selling to your sales force and control discounting.