What would 8% do for your bottom line?
As a pricing strategist, I’m constantly amazed to discover how much profit businesses are leaking out the door.
Profit is king right?
So why do so many businesses fail to manage the one thing that has the most impact on their bottom line? Price.
According to Bain & Co, ‘companies can earn an 8% increase in operating profit for every 1% of improvement in realised price’. Source: Bain Brief article ‘Clearing the Roadblocks to Better B2B Pricing’ Dec 2014 http://www.bain.com/publications/articles/clearing-the-roadblocks-to-better-b2b-pricing.aspx
According to the research, that’s roughly twice the benefit of a 1% increase in market share or reduction in operating expenses.
A 1% realised improvement in price could lift your profit by 8%.
I get it, pricing is complicated and more than just a numbers’ game. It gets poked and pulled from all departments including marketing, operations, finance, sales…
Good pricing practice is as much about price setting as it is price getting – which means being clear on your value equation especially through the eyes of your customers, knowing how you can improve their lives, leveraging your differences, and creating meaningful connections that engage both head and heart – and communicating all that to your customers.
If your organisation is not clear on both the emotional and rationalised value you provide to your customers, you are left playing pricing roulette with your competitors. They drop the price, you follow suit, and before long, you get dragged into the slow death spiral of consistent discounting and price dealing.
One of the biggest culprits is the focus put on delivering top-line sales. After all, sales is the closest metric to hand and can be managed in real-time right? So, when the numbers are coming in slower than we would like or below target, we pull the discount lever in the hope we can drive more sales! Then everyone breathes a sigh of relief as the top-line number is met. (Ahhhhh crisis averted for another month).
That is until we arrive a few months down the track, as the accumulative effect of discounts start to roll through to the bottom line. Profit projections are falling short of expectations and cost cutting initiatives take hold.
We have all felt the pain of seeing marketing budgets pulled, team members laid off, innovation projects shelved, travel restrictions applied… all in order to achieve a profit target. Not-withstanding the irony that these are critical business activities needed to generate sales in the first place.
Remember the Bain & Co proof point? A 1% improvement in realised price can deliver an 8% improvement in operating profit? Doesn’t it make sense then that the inverse of this true also?
For every discount we give there is a negative consequence to the bottom line. Yes, you might sell more product or make a sale maybe you wouldn’t have otherwise, but how much more do you need to sell, in order to counter any impact to your bankable profits?
There is no denying the trend of bigger and bigger discounts and it’s easy to get fooled into thinking the additional sales equate to success. In reality, this is rarely true. Often the profit you’re left with is actually less than what you would have made if you did nothing in the first place.
In the FMCG world, it is not unusual to see actual sales demand to discount ratios worsen as the discounts get bigger with profit erosion a reality for both supplier and retailer.In B2B, discount creep is also a very real problem. It is not unusual to see discount buckets cluster in 5% increments. 10% becomes 15%, 20% or 25% right? It’s nice and neat. But the consequence is dire.
What difference would a 1 per cent increase make to your price? Usually not much.
What would an 8 per cent improvement mean for your bottom line? Job security? Better bonuses? Exciting innovation?
Some thought starters to identify your leaky buckets;
- Seek out trends of high profit growth or decline
- Look at your discount structures and see what patterns are at play
- Model the impact of discounts on key metrics through the line
- Understand price elasticity of demand