Ask the Expert with Dr. Tom Nagle: Having a conversation on value
TWO QUESTIONS FROM A SPECIALTY CHEMICALS COMPANY
Q. Some of our customers require a price quote before they will have any discussions with us where we can introduce a conversation on differential value. How can we benefit from a value conversation when this is the case? Tom: The buyer’s demand for a price quote before beginning discussion with a seller is similar to the demand that a company participate in a “blind auction” where only the prices of competitive offers, but not other offer details, are revealed during the bidding. One option is simply to refuse to participate, which often works when you are an incumbent supplier, but may result in your exclusion. A better option, when possible, is to “unbundle” the differentiating product and service characteristics that justify your price premium. This can require some real creativity to design a “bare bones” offer with a set of conditions: NO rush orders and no changes to order within 60 days of delivery, truckload only quantities, etc. (Note: these would be default order requirements for sourcing from China, so why should you offer them if expected to compete with Chinese suppliers?) You can also cut cut back the length and tighten the conditions of warranties. In some cases, you can “unbundle” product characteristics as well. At one point, we have helped equipment manufacturers develop “fighting” models simply by figuring out what they could “turn off” in equipment they were already producing. This is getting easier when more and more product differentiation depends upon software that can simply turn features on and off. To the extent that you can “unbundle”, you can submit a “bare bones” offer with a “bare bones” price up front, which opens the door to begin a discussion of the value of optional “add-ons”. When the differentiation is in service, it is possible that all the profit is in the services (the rush order charges, the maintenance contract) rather than in the product that was subject to initially low pricing. For example, the highest quality suppliers of elevators sometimes charge no more than those making lower-quality elevators so long as the buyer commits to a long-term maintenence contract. Since the cost to deliver maintenance is less for a high quality, well-made product, the service is highly profitable.
Q. Some of our customers are very secretive and will not tell us what product our own product will be used in so we cannot talk to them about differentiated value. Is there anyway to have a value conversation in this case?
Tom: I would first want to understand why the customer is being secretive. Is it because they do not want to reveal prematurely that they have an innovation in the works that will give them an advantage when their competitors are unprepared to respond? That would give you some indication of what they might value–reliability of supply and ability to ramp up to meet increasing demand. Still, quantifying value would seem difficult without more information.
More often, the reason for secrecy is that a buyer fears that if the supplier understands how much value its unique product or service characteristics create for that buyer’s application, it will raise the price. Many suppliers lose the ability to work collaboratively with their customers because they lack “price integrity”. Price integrity, or the belief that the price offered is really the best price available from the supplier, is driven by consistency in pricing among orders requiring similar quantities, features, and service characteristics. Companies that lack proactive pricing policies, but rather come up with prices in reaction to customers’ behaviors, create incentives for customers to be defensive and adversarial in negotiations. That really undermines a firm’s ability to understand the buyer and to create value cooperatively. Fixing the problem requires replacing reactive, exceptions-based discounting with proactive, policy-based discount policies that are transparent to the customer. For more on how to do this, see my note “Stop reacting to buyers’ price expectations; Manage them”.
Dr. Tom Nagle is the author of The Strategy and Tactics of Pricing and a member of the LeveragePoint Advisory Board. Do you have a pricing question for Tom Nagle? Send it toAskTom@leveragepoint.com.