Pricing Consciousness: Small and Early Stage Companies

31 Jul

Brain

I’m pleased to feature another blog author this week – Andy Oman (http://linkd.in/15cSwyq). One of his areas of expertise is pricing and he wrote an excellent article I thought was worth sharing.

Price. The intersection of supply and demand; the accord between customer and vendor. At the center of commerce is price – the summation of all available economic information. Given price’s centrality to virtually all business transactions, one would expect businesses to develop significant resources related to pricing. To the contrary, few businesses, especially small and early-stage companies, have dedicated resources to the development of price. However, since all the other functions of the business are dependent on the appropriate price being offered, it would seem logical for vendors to spend more effort developing profit maximizing pricing strategies.

Price and related strategies are important for all business, but more so for small and early-stage companies. Large and established companies have many luxuries which would allow them to make mistakes and yet continue to survive. Small companies and start-ups on the other hand do not have the ability to make mistakes without suffering significant consequences. Large, established companies can use better pricing strategies to optimize their business results, but sound pricing strategies are an imperative for small and early-stage companies.

The “three pillars of pricing” (1) form the foundation of effective pricing strategies. Unfortunately, many small and early-stage companies have limited resources and must carefully elect how those resources are employed. As a result, each company may have varying levels of investments in each of the three pricing capitals, but it is a consciousness of these pricing fundamentals that is truly important. By understanding each of these areas of pricing, businesses would be able to identify their own strengths and weaknesses as well as their competitors. As a result, with heightened pricing consciousness, companies could build pricing strategies that leverage their own strengths, mitigate their weaknesses, and properly position themselves versus their competition.

In order to develop a pricing competency, companies should acquire and develop three key critical components of pricing:

1 – Human Capital: As related to pricing, is the employment of people with a working understanding of pricing and pricing strategies. Human capital could also be known as knowledge capital. Human capital can exist in many varying degrees ranging from an entire department of several people to a single person with some consciousness of pricing and its role in effective business strategies. Although, many companies do not require entire pricing departments, each company should have one or more on its staff with a pricing conscience.

This knowledge provides the base of a company’s pricing strategy. From the pricing knowledge comes the business’ perspective of how to best use price to its advantage and maximize financial results. Without human capital, a pricing consciousness won’t exist and, consequently, neither will a pricing strategy nor either of the other two pricing capitals. Therefore, in order for any company to develop a pricing conscience, human capital must be acquired in some form.

Since the emphasis in human capital is really on the knowledge of pricing, human capital can be acquired through short-term sources. Pricing consultants can be extremely valuable in evaluating a company’s landscape (competition, customers, collaborators, and the company itself) and aiding in the development of long-term pricing strategies. Using consultants is an effective and efficient way for many small and early-stage companies to gain pricing knowledge and avoid many dangerous pitfalls. The key to human capital is knowledge, which can be gained from both internal and external sources.

2 – Systems Capital: As with human capital, pricing systems can exist in many forms and vary widely in complexity. However, pricing systems don’t need to be complicated and in some cases may not need to exist. The most important things to know about systems is that they can be very effective at assisting with the management and implementation of a pricing strategy. Without out one, a pricing strategy can be limited.

Pricing systems are used to manage the large amounts of information that are needed to determine price levels and structures and also the prices themselves. By employing a pricing system, companies can develop more sophisticated pricing strategies. It allows managers to monitor business activities that are constantly affecting a company’s pricing environment. These changes can range from customer demand (order volume) to competitive changes (price levels, product volumes) to internal company factors (production levels, cost data). Using business systems to effectively manage the sometimes massive amounts of data is not only wise but sometimes imperative. Pricing systems not only help determine what price levels and structures should be, but they can also play a critical role in the distribution of price information. If a company intends to implement a highly dynamic pricing strategy, then it will be necessary to have a system that can rapidly disseminate the information to company officials as well as customers. Without effective price distribution, the underlying strategy will be ineffective.

A pricing system will need to be created over time and grow to support the desired strategy. This scenario requires that before a system is designed and developed, a company have a strategy in mind, pricing knowledge (human capital) available, and the intent to include pricing as one of the cornerstones of the company’s strategy. Companies that begin with a pricing consciousness will be much better positioned than those that don’t since price systems and strategies cannot be developed over night. Possessing a pricing consciousness will set the proper tone and keep the focus long-term. Ultimately, the level of sophistication of a company’s pricing strategy should be matched with the complexities of the systems that will be available. Without the appropriate match, a business may not have the right system with which to implement the intended strategy and thus failure is impending.

3 – Social Capital: This final component is the most sophisticated and abstract of the three capitals. Social capital, however, is possibly the most important – once the other two capitals are in place. Social capital, as it relates to pricing, is the means with which a company communicates its pricing strategy to all affected parties: customers, competitors, external agencies (government, etc.), and internal managers and executives. Therefore, social capital is the vehicle with which pricing strategies are ultimately implemented.

Both human and systems capitals are rather inward focused; social capital takes a more external emphasis. Although social capital is necessary for internally integrating a pricing strategy, it is most important for implementing pricing strategies externally. Many companies often struggle with communicating their pricing with external parties. These struggles can range from a difficulty justifying the price levels to customers (value not cost) to failing to achieve necessary government approval for price changes to a difficulty getting competitors to follow or accept a new industry pricing model. With limited social capital, the final delivery of a pricing strategy will be difficult or impossible.

Although social capital may seem to be the most difficult to secure, it actually should be rather easy for companies that have a strong pricing conscience.

  • A company that has adopted a pricing consciousness should find it easy to communicate pricing actions internally, thus satisfying the first duty of social capital.
  • A pricing consciousness greatly improves the compulsory external communications necessary for fully implementing a pricing strategy.

Most external communications about pricing hinge on an understanding of the pricing strategy and its basis and this understanding comes from good internal communication. Knowledge of the adopted strategy and why it was selected will allow most company officials to discuss the company’s pricing actions with any outside parties. Consequently, by adopting a pricing conscience in order to acquire human capital and to develop systems capital, a company will have laid most of the necessary foundation to build a strong social capital.

All consumers know price is important. Price helps us decide what to buy every day, how much to buy, and from whom we buy. Unfortunately, many of the companies that we are transacting with do not have the same level of pricing consciousness of their transaction partners. Although the development of a fully functioning pricing strategy requires significant resources, companies of all sizes can develop a greater awareness of pricing and its importance to the business’ success.

Once a company has an understanding of the three capitals of pricing – human, systems, and social – a pricing conscience can be developed. The consciousness of pricing and its three fundamental building blocks allows a company and its managers to make pricing decisions that best match its level of pricing capital and decide where to make investments in those capitals in the future. Pricing consciousness allows any company, large or small, new or old, to maximize the effectiveness of its business by developing the right pricing strategy that matches the company’s pricing assets, leverages its strengths, and mitigates its weaknesses.

Mark Ritson & Mark Zbaracki & Shantanu Dutta & Daniel Levy & Mark Bergen, 2005. “The Three Capitals of Pricing – Human, Systems and Social Capital,” Macroeconomics 0505014, EconWPA.

Thank you Andy for the contribution!

Make it a great day~ Drew Schmitz

www.linkedin.com/in/andrewschmitz/

http://www.blueoctopusllc.com

drew@blueoctopusllc.com

@drew_schmitz

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