price tools

7/29/2019 Price Tools

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Abbey Road [email protected] -1-

What Does a Fully-Equipped Pricing FunctionLook Like, and Do You Know the Best Short-Cuts?

Miami, FL October 30, 2008

White Paper

203/972-0000www.abbeyroadassociates.com


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Summary: The right price tool ties to the market issues and context

The purpose of a tool is to link internal decision-making to market opportunities.

There are price tools for all elements of pricing many choices Do not pick a tool because it presents itself first, or is the most all-inclusive.

Often, tools are more expensive than expected, and deliver less than promised.Starting small helps focus tool:

On business mission, strategy and overall price strategy

To the skill set and organizational context To the tasks and resources available

Off-the-shelf tools offer advantages, but also disadvantages. Look closely at thealgorithm or methodology of the tool compared to your business.

Some high-impact, low resource tool choices include:

Improved costing to fit products, segments or customers Comparison to competitor offers

Bundling

Risk of loss

Demand Curves


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The purpose of a tool is to link internal decision-making to marketopportunities

The purpose of a tool is to link internal decision-making to market opportunities. We believemarket pricing tools are complementary to, but distinct from, internal management tools:

Good agreement on need for tools on the left. Less universal on right

Internal Management Tools

General Ledger, e.g.revenues and standard

costs

Cost accounting forprojects and products

Sales force Management

Customer records, e.g.help desk, usage, etc.

Market Insights andOpportunities

Segments

Price sensitivities

Value and decision-process

Branding and message

Competition and channel

Hooks


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Abbey Road Associates

Choice of where to apply the tool what part of pricing?

There are price tools for all parts of the pricing constellation

Competitors

ValueCreation

PriceCapabilities

and Structure

Brand

PriceLevel for

Each

Segment


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The trick is a cohesive approach to tool selection

Reduce

Churn and

Improve Margins

Extend

and

Grow

Business

Objectives

PriceSegmentsand

Drivers

PriceStructure,Tools andInitiatives

SegmentA.

New

Segments

Global

Price

Mngmt.

Cultivate

Current

Base

Seg-ment

B.

Segment C.

Most of thetool

discussion

happens uphere with littlereference to

foundation forbusinesssuccess


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How to deploy a tool? The hazards

Tools vary in the effort, discipline, authority and skill to use them.

Deploy tools where they will work. Avoid a mis-match between a tool and its users!

Revenues, Costs and Margins

(Done Right)

RevenueOptimization

Customer

Behavior

Tracking andDiscipline

EffortWhere arewe today?How big a

leap isfeasible?


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Centralization vs. distributed pricing impacts tool implementation

Who is more in touch with the market and who canbe more in touch with

the market headquarters or operating units? How do cultural issues, e.g.: flexibility and creativity, play a role?

What is the role of a matrix organization?

Can brand, and brands impacts on pricing, be localized?

How doestalentvary between HQ and divisions?

Will HQs strategy be implemented at divisions and regions, or is it NIH?

What are risk management objectives which cannot be distributed?

Which is more important, global or local competitors?

Is there trust among the internal players?

What sort of tools are required? Can they be templated?


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# Products x # Prices per product x % Major price changes/year

Number of Products per Price Manager=

Headcount Needed

Also linked to this choice are resources requireda rule of thumb

Pricing resources can be distributed, or centralized. Stockholders may benefit from either,but rarely do companies see the choice as neutral.

Often, there is noattempt to actually quantify what needs to be done. We find a good rule ofthumb for staffing and FTE estimates asks how many prices there are to be managed:

Roughly, we find that one middle level manager can handle from 2 to 70 majorpricechanges per year. (Bids not included).

Helps compare process improvement to tool investment.


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Off-the-shelf, or Self-Build?

Questions and pattern:

Regarding Off the Shelf

How does it fit your needs?

Does it exceed your actual needs?

Is it cost effective?

Have you fully incorporated costsof readying data?

Will it work for you?

Can you trial this in-house?

Can it be customized?

KEY

Benefit

Cost

$

BetterAdm

in.

Improved

Data

Enhanc

ed

Analys

is

Cost/Benefit Trade-Off


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Factors for Choosing Off the Shelf tools

Some well-developed off the shelf tools, but we find the best are those which grew up in anindustry vertical. Applications claiming to apply everywhere are suspect. (Its the algorithm,

Stupid) Sometimes buyers forget the mission of pricing, focus on secondary detail.

Some factors in choosing:

The Business

The Business Objective,e.g. Promotions vs. List

Price?

Degree of change inMarket?

How many transactions?

How many segments?

Transaction value?

Availability of Data

Quality of Data

The Tool

Looks at history, or does it usetrials?

What sort of sample does it require(at what cost?)

Can it manage a messy market,

e.g. competitors rationale?Can it handle your data

idiosyncrasies? How expensively?

Overall cost of tool?

Match to long run pricing needs?


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Partial list of tools

Tools

Basic: revenue and cost estimation

Market segmentation demographic, behavioral, needs,lifecycle or evolutionary

Competitive strategies, e.g. War Games, patents, etc.

Price strategy and Demand curves ( elasticity)

Value measures and proxies, e.g. in some markets usage= value

Bundles design and product tiers

Intro pricing strategies

Risk of customer loss

Price structures, e.g. fixed vs. variable

Channel impacts

Messages and brand

Tactical and administrative tools

Elasticity and trials

Tracking

Promotions

Focus ofmany

off-the-shelftools


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Abbey Road Associates-12-

Case Study: Tool for Adjustments to Standard Costs

Many service businesses enjoy gross margins of 30%+, and cost of incremental sale dollar isvirtually zero, e.g.: electronic services, software licensing, etc.

For rest, need to get the costing right. More important than getting cost to the third decimal

point is understanding which costs apply when:

Std Mnfcg.Cost

Adjusted

Std Costs

Training +Literature

CarryingCosts

ProductDevelopment

Warehouse+ Storage

ToolChange-

Over Costs

SKU Specific Costs

Sum ofAboveCosts

Credits,Write Offs

etc.

SpecialServices

andCarrying

SellingCosts

Freight toCustomer

Customer Specific Costs

+

SKU 123

SKU 234etc.

StandardAdjusted

Costs

Deal Specific Costs

OR

OverheadAllocations

MINUS


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Case Study: Value and cost comparison to competitor

Where competitive, channel and customer economics are complex, a toolmodeling costs outside your company may be the only way to address pricing:

Example of Client, Transport Provider

Medium

Large

Small

Intra city Regional Hub and Spoke

CLIENT 10% CostAdvantage

COMPETITOR wasAdvantaged

TIE in costs

and Efficiency

TIE in costs

and Efficiency

CLIENT 10% CostAdvantage

CLIENT 30%+Advantaged

Depends


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Case Study: Bundle design-- the market requires coherent bundle design

Many products are really bundles consisting of different benefits and services.

Customers and agents evaluate bundle elements rationally. They value coherent bundles,where all elements are complements to the core (i.e. elements they believe apply to theirneeds) and negatively value elements which do not complement the core element.

We have found that correlation techniques accurately predict the value of bundle elements.Often, this technique out-performs expert judgment:

For one client we developed a bundle of legal information in competition with their own

editorial staff. Compared to that expert bundle, we cut the number of bundle elements,and increased the price materially. The client released both bundles to the market, andour version outsold the alternative bundle 2X. Offered less, doubled revenue.

This technique may allow you to trim your products of low-value benefits, or any componentwhere the market value of the benefit is less than cost:

Market Value of Component < Cost to Company = Candidate for Elimination


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Case Study (Cont.): Tool for bundle design

All structured bundles have a core, useful add-ons, marginal add-ons, and often elementswhich destroy value (= substitutes -- people hate to pay for substitutes or elements they do

not think they need, e.g. gastric by-pass?)

Bundle Taxonomy

Core

Solid Add-Ons

Marginal Add- Ons

Bundle Taxonomy

Core,

e.g. PPO??*

Solid Add-Ons

Marginal Add- Ons

Negative Value

Gastric By-Pass Coverage?

Personal Care FSA?

e.g. Eye Care?

Possibly helpful incontrolling adverseselection bundle

based segmentationcan check if it is anundesirable element


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Case Study: A price scorecard takes market events and rates risk of

cancellation due to price identifies where price matters

20% 13%

38% 29%

Price and Risk(Distribution of Accounts)

Price KeyFactor (PriceRelevance

Scorecard >400)

Not At Risk

(Score 200)

At Risk

(Score >200)

Price not a KeyFactor (Price

Relevance Score

400)

Loss Rates by Scorecard Output -- Complete Scores

0.00%1.33%

3.02% 3.81%

0.00%

50.00%

1 00 .0 0% 1 00 .0 0% 1 00 .0 0%

0%

20%

40%

60%

80%

100%

120%

0 100 200 300 400 500 700 800 900

RISK FORMULA SCORES

%C

ANCE

LLATIONS

Price Risk Scorecard (Results)

Low price risk

Not AtRisk

(Score 400)

At Risk

(Score>400)

Price Relevance

Scorecard


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Case Study: Demand Curves can drive new product pricing

Segments should add-up to the range of observed pricing behaviors, as demonstrated by ademand curve. Demand curves will tell Product Development the estimated long term

sales volumes at different price levels. Demand curves need not be static. Demand curvesdiffer from elasticity estimates.

Useful strategic tool, e.g. for New Product Development. Example of an actual demandcurve:

Online Population

$XXX/yr.

$1X.X Million

Willingness to Pay(Disguised)

Price

? Battle-ground


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Conclusion: The business context determines the price engines (tools)

Rank-order the price tools by impactdont put all your eggs in one basket!

Big software projects provide more than just a tool. Brings attention to pricing, but often at a

high cost

After you look at the total costs, perhaps you should try building a tool in-house

Different tools do different jobs. Not all work. Dont confuse different functionalities within a

tool

No standard tool-kit, but this presentation contains some of the usual suspects

Tools work in context. Consider: Needs

Business objectives

Skills

Organization

The best tools link internal decision-making to market opportunities. This does mean theyneed market information.

Many tools try very hard to avoid the need to gather external information, e.g. Elasticity versusDemand Curves. Creativity can often surmount data limitations, and works best with in-housecustom tools.


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About Abbey Road Associates

Abbey Road Associates is a business consulting firm specialized in pricing. We

offer highly evidenced recommendations on tactical and strategic pricingrecommendations to companies across a wide range of industries

Recent assignments have been in the software, information services,entertainment, financial, telecom, consumer goods, publishing andtransportation industries. They have focused on new price structures, newproduct pricing, pricing processes, discounting reduction/improvement, new

market penetration, bundle configuration and pricing, countering price attacks,and various aspects of price strategy implementation. We do not do systemswork.

Our principal offices are at 75 Thayer Drive, New Canaan, Connecticut 06840.Tel: 203/972-0000.

Please visit our website at www.abbeyroadassociates.com which describes our

work and contains much of our intellectual capital. Please ask us for copies ofour articles in various leading business journals.

Abbey Road Associates was founded in 2001, and currently consists of sixprincipals and several associates.
http://www.abbeyroadassociates.com/http://www.abbeyroadassociates.com/

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