Guest Author: PJ Jakoveljivic
Intro: Technology Education Center's (TEC) PJ Jakoveljivic is a well-known and astute software analyst who covers pricing software platforms and systems. He recently conducted an interview with Steven Forth, CEO of LeveragePoint, that focused on the separate, but complementary, roles of value management and price execution. An excerpt of that interview is below. Other articles by Jakoveljivic can be accessed at http://blog.technologyevaluation.com.
PJ: Why do you believe that a value-based pricing approach is better than segmentation on customers’ willingness to pay (WTP)/sensitivity to price?
SF: Value-based pricing and value-based selling are focused on the customer’s business model, not the seller’s historical pricing data. This focuses the seller on the customer and how the solution helps the customer, which is the best way to understand customer needs and business requirements, built trust, and justify a price premium.
Value-based pricing recognizes that the customer has alternatives, i.e., competitors, internal solutions, doing what they do now, even doing nothing. Value models include these alternatives as a reference price and formally model the advantages that the alternative may have. Acknowledging the value of alternatives builds trust and allows sales to deal with price objections more systematically.
Value-based pricing is outward-facing and depends on customer and competitor data and not on internal legacy data. This makes it much more effective in addressing changing market conditions where historical value and pricing relationships are being disrupted, for entering new markets, and for setting the price on new products.
Finally, value-based pricing builds a collaborative and mutually supporting relationship between pricing and sales organizations. Instead of pricing analysts telling sales reps what the price should be and sales pushing back or defaulting to undisciplined discounting, it gives these two key business functions a framework and meaningful customer and competitor focused data that can be used to optimize pricing and messages.
PJ: What are the traditional hurdles to better pricing software adoption and how can they be overcome (sales folks’ anxiety, general unawareness of the potential benefits, companies being secretive, etc.)?
SF: Our entry point into most large companies is the pricing function, but in the pilot process we develop cross-functional teams and ensure that these teams get to use the software and directly experience its power. The VP of Sales and the VP of Product Development is our ally in winning the sale and driving adoption. At this point, companies are adopting value-based pricing software for the following two main reasons:
- They want to do a better job of pricing new products or new markets and segments. To that end, value-based pricing software provides them a way to link price to differentiated value, which is essential if they are to capture their investment in innovation.
- They want sales to negotiate prices based on the value to the customer rather than defaulting to discounting or basing price targets on “willingness to pay” as customers and sales people are skeptical about claims coming out of black box software.
PJ: What motivates customers’ product managers to act as advocates as well? (I understand why sales folks would be)
SF: Product development has learned to think in terms of how product features provide customers with benefits (feature-to-benefit mapping, which is something for which we provide explicit support). But in today’s competitive markets this is not enough. In the B2B space, economic factors loom large in the buying process and product managers have to go beyond benefits and link features and benefits to differentiated value.
If a feature does not either provide a differentiated value or eliminate the differentiated value of a competitor then it should not be developed at all. Product managers have to make many trade-off decisions. A feature may deliver differentiated value, but how much and for which sectors of the market? The holy grail for product management is to focus resources on those feature sets that deliver the maximum differentiated value for the lowest cost to develop and the lowest cost to serve.
Product managers also need to think in terms of the whole solution – what is the package of goods and services that the customer needs to maximize differentiated value and how much will it cost to deliver this. Value-based approaches help product managers think through trade offs. Companies using value-based pricing are able to launch products at higher prices and actually win those prices in negotiations.
Value driver and data libraries that are developed as companies use pricing software platforms provide an important source of customer and competitor information that are valuable to product management. The product increases in value over time. Its ability to share resources and collaborate multiplies that value.
Value-based pricing is a standard part of many of the stage-gate processes used in new product development and introduction (NPD&I) at many companies. Companies want to ensure that what they are developing will have a differentiated value and will sell at a price premium that will enable them to get a high return on investment.
PJ: Competitive offerings are important. But what if both the company’s sales reps and competitors’ folks are out of touch with what the market can bear (i.e., WTP)?
SF: You need to know the next best competitive alternative as this establishes the reference price. If you have a differentiated offer you provide value above the reference price, but the price for the commoditized part of your offer is set by the market. The next best competitive alternative is sometimes a competitor, but it can also be an "internal option" (make it in-house) or even “doing nothing” (and even doing nothing can have a cost). The problem with WTP is that it does not parse out into actionable information for sales. Sales force has to know why different segments have differing willingness to pay and not just that they have them.
Part of the sales process should be to uncover the next best competitive alternative, and most prospects will share this with you or it can be inferred from an request for proposal (RFP)/request for quotation (RFQ). The customer is often coy (or misleading) on cost, but a good pricing team invests time in understanding the competitive alternatives and how they are priced. Pricing cannot be purely inward focused on legacy transactional data. It must look out to competitors and customers.
PJ: How does segmentation come into play with value based pricing?
SF: In regards to segmenting using WTP, it is actually quite straightforward. You are basically trying to find groups of customers that show the same demand elasticity at the same price levels. You then define these as a segment. Normally you would also layer in your price waterfall data so that you could create a grid with one axis being demand elasticity and the other being the components of the price waterfall such as cost to serve, shipping costs, etc.
Personally I don’t think this is a very good approach for most companies. If I was putting in place this sort of segmentation, I would want to first test for any legal issues as my understanding is that in the US there are restrictions on selling the same thing for different prices. But more to the point, I think this approach does not help understand the customer or why the willingness to pay differs.
Segmentation is most useful when marketing and sales can use it to execute, and I think that generally requires insight. The most powerful segmentation has the following three axes:
- Key value drivers
- Buying process
- Cost to serve (or, in some cases, by cost to serve plus customer acquisition cost)
PJ: How applicable is value-based pricing to selling configurable products with multiple options?
SF: For configured products, the standard approach is to build a large value model that supports the different configurations. Depending on your business process and how involved pricing is in individual sales one can then either use the “save as” feature and make a new value model for the case or have sales reps turn value drivers on and off and tweak parameters. We have heard from some customers that the sales force must be able to build new value models and we are looking into accelerating development in this area.
The full interview, as well as a link to Part I of this analysis, can be accessed at http://blog.technologyevaluation.com/blog/2012/02/08/leveragepoint-adds-value-to-b2b-pricing-%E2%80%93-part-2/.
