Pricing Strategy – Tips and Caveats for Discount Pricing

Discounts have their place, but more often than not, they are used incorrectly. Prior to offering a discount, controllers involved with establishing pricing strategy need to take the following steps:

Understand your business economics. If you have a 15 percent profit margin and for a period of time you are willing to give up a third of the margin to offer a discount, that may be a correct business decision. However, if you have a 15 percent margin, and for a period of time you give up an amount equal to 150 percent of the margin to offer a discount, that approach will hurt your business.

Establish the discount duration. Discounts should have a finite life. If they continue into perpetuity, you are just resetting price with the word “discount.” A discount is simply a marketing tool—a program that is planned, fielded, and completed. At a certain point, once the program ends, it is important to calculate the return on marketing investment received to understand whether the expense was worthwhile.

Understand the client’s needs. Some clients are driven by the word “discount.” In this situation, you should find the price that allows you to achieve your required returns, and increase the price of the product/service by the discount you will be giving. Billing and applying the discount will result in the attainment of your profit requirements. This approach is quite common in all businesses.

Different Types of Discounts

There are three types of discounts that work, as they benefit each party in the transaction. These are:

Discount to try your product or service. For a service, this includes discount pricing while the service provider gains the required knowledge to provide the client with the maximum service possible. During the early days of a relationship, a client should not be asked to pay full price, while you learn their business. For products, a discount provides an incentive for consumers to try your product vs. staying with their usual selection.

Discounts provided to clients based on their purchase volume, i.e., relationship pricing. The philosophy behind this type of discount is as follows: “If I can count on you to purchase 10 units of my product or service, I will charge you full price. But as you purchase more, I can take advantage of economies of scales, which I can pass down to you.”

Discounts provided for early payments. To incentivize early payment, it is common to offer a benefit (discount) to consumers.  Receipt of your money sooner rather than later is worth the customary 2 to 3% in discount.  But if your profit margins are already razor thin simply raise the price by the discount amount.  Billing and applying the discount will result in the attainment of your profit requirements.

Whichever type of discount is used, the greatest responsibility of the manufacturer/service provider is to communicate the discount terms and when they will expire. In fact, over-communicate these items. If you implement a discount to benefit the client but the discount goes away prior to when the customer was expecting it to go away, the relationship will be disrupted.  The discount expense will be a waste.

Avoid Three Common Discounting Errors

Controllers also need to be aware of the following three common errors when offering discount pricing:

Offering a discount to customers to entice them to pay their late bills. The message you relay here is, “Do not pay on time and I will reduce your price.”

Offering a discount to match the competitor’s price. This approach assumes your economics are the same as those of your competitor. That assumption is often very wrong. For example the competitor may be giving up a piece of their margin, while you may be giving up your entire margin.

Offering a discount on one product or set and losing money, expecting to make it up in other products/services. In some situations, one product is heavily discounted while other products are premium priced. The goal is to lose money on a few items in order to entice the client to also buy others, while making a higher margin on those other products/services. However, this approach will always backfire when you work with clients who understand the market price. They will understand where to focus their purchasing, i.e. only on the lower priced products.

The Bottom Line

A business will not thrive when it competes on price. Ensure that your value proposition is strong. Customers should seek out your company because the value you provide exceeds the cost of doing business with you.

When considering discounts as part of pricing strategy, controllers would be wise to take the following steps:

– Always calculate the projected cost of the discount to the company, prior to implementing.

– Consider a key performance indicator that measures discount usage and report on it.

– Ensure that discounted sales are booked separately from non-discounted sales, so discount usage is clearly quantifiable.

I wrote this post for the Institute of Finance Management “Controller’s Report Member Briefing.”  It was published in the May 2015 edition.

Author: Regis Quirin
Visit Regis's Website - Email Regis
Regis Quirin is a financial executive with 23 years of corporate experience, i.e. New York Stock Exchange, JP Morgan Chase, and GMAC ResCap; and 15 years working with small and medium-sized entities, i.e. joint ventures, start-up entities, established businesses. In 2014, Regis published "Redesign to Turnaround Underperforming Small and Medium-Sized Businesses" available via Amazon.

Who Owns the Customer, i.e. the Company or the Sales Agent?

This question was less important when the job market was in decline.  But as the economy recovers, business owners and senior managers will be faced with this question, more and more.

Depending on who you ask, there are two popular, but contradicting opinions.  If you ask the owner/CEO of the entity – “The customer belongs to the company.  They come to us because of our quality products/services.  The Sales Agent has been properly compensated for procuring the customer on our behalf.”

However, If you ask the Sales Agent – “The customer belongs to me.  They were sourced by my efforts and we have a relationship.  They transact business with the entity because of me.”

In fact, it is not uncommon for a Sales Agent to maintain a separate and personal file of their interaction with the client/customer.  When they leave your entity and seek employment from your competitor, they may say, “I produced $XXX in revenues for my last company, and I can do the same for you.  I maintain a book of business that will more than likely follow me, if I move to your company.”

There is a legal answer to this question, which I was reminded of, when I left an entity after fourteen years, even though not in a Sales capacity.  Not more than 30 days after my departure from one entity to a competitor, I received a letter from the President of my former employer.  Excerpts of the note are as follows -“In view of your departure from XYZ, this letter is to remind you of your obligations to XYZ, and under the law, both during and after your employment with XYZ…it is your obligation to handle XYZ trade secrets, confidential or proprietary information to which you had access during your employment at XYZ, whether in your memory or in writing, or in any other form, with the strictest confidence and in a manner consistent with XYZ’s policy, both during and subsequent to your employment…you may not misappropriate or use for the benefit of anyone other than XYZ any confidential or proprietary information relating to XYZ’s business.”

So what can you do?

As a first step, make sure your compensation agreements and employee agreements include language that clearly states the client belongs to the company and the legal obligation of the employee.  This agreement should be reviewed and approved by a qualified Labor Attorney.

But even after this measure, you may find that the client leaves you and follows the Sales Agent.  This situation may occur not because of what the Sales Agent did, but more because of what you did not do.  The companies that lock in the client and foster brand loyalty have developed a communication link with the client.  If you do not reach out and establish this link to your brand, the only connection the client has to the company is the Sales Agent.  More than likely, if the Sales Agent leaves, so will the client.

Popular approaches companies use to reach out to the client and maintain contact include offering post purchase support or discounts on future purchases or advertising related products/services.

At every possible opportunity your entity should advertise the brand and state the value proposition.   Regardless of the product/service, every business runs the risk that what they offer becomes a commodity in clients’ minds, i.e. belief that every competitor offers identical product/service.  If all products/services are the same, why not just work with the individual Sales Agent, wherever they go?

But your value proposition is your differentiator.  Customers/clients will seek you out and be less sensitive to price if they understand the benefit of working with you vs. other vendors.  How do you differentiate yourself from the pack?

It is a valuable exercise to identify and document what makes you different.  The results of this activity should become the basis of all marketing materials, i.e. your value proposition.

An example of a value proposition that I have used includes the following commitments.  XYZ Entity –

  • Offers superior product or service;
  • Makes an effort to understand your specific needs and has many ways of doing things so you can find the one that meets your needs;
  • Takes responsibility to get things done;
  • Is knowledgeable about the product/service you seek;
  • Tells you what you need to know in the way you understand;
  • Offers a complete array of the product/service you seek, to make your life easier.

The only way to maintain a client is to develop a relationship between the client and the company, through consistent messaging that differentiates yourself from the pack of competitors.

Author: Regis Quirin
Visit Regis's Website - Email Regis
Regis Quirin is a financial executive with 23 years of corporate experience, i.e. New York Stock Exchange, JP Morgan Chase, and GMAC ResCap; and 15 years working with small and medium-sized entities, i.e. joint ventures, start-up entities, established businesses. In 2014, Regis published "Redesign to Turnaround Underperforming Small and Medium-Sized Businesses" available via Amazon.

Competing on Price is Unsustainable

Pricing is a critical task that all businesses manage.  However, there are many different ways to approach the pricing requirement.   In simple terms, price = cost of inputs (or raw materials) + profit margin.  Costs include personnel expenses + non-personnel expenses (IT, accounting, compliance, insurance, Infrastructure…); while margin is dependent on your profit and return on investment requirements.  Companies run into problems when they disregard the math, and do not understand the returns they require.

An incorrect approach could jeopardize your business and have dire consequences.    Several popular strategies include –

The low price option in the market – This strategy requires your material costs to be substantially lower than competitors in the market, on an ongoing basis.  Your business processes must be very efficient.  Inefficiencies cause waste, which have a cost and add no value.  A short-term dislocation in costs will make this approach damaging to your business.  The goal in business should never be to become the low cost provider; but to become the most profitable provider.

Discounting – This strategy is used by companies in an attempt to garner new business from competitors by offering a discounted introductory price.  The goal is to provide an incentive to the client, to make a change and try your product/service.  However, once you provide a discount, it is very hard to remove it.  You will risk your clients moving to another competitor when your discount ends, as they will not appreciate an increase in costs.  Consider the approach of mobile phone companies and cable TV providers.  Each provides a discount for new customers to migrate to their service, if the customer agrees to stay with the provider for a certain amount of time.  But once the Agreement term expires, customer attrition is high.  The only time this approach will work is when the cost of converting to a new provider is high.   Customers will change providers unless the penalty for changing is greater than the cost of staying.

Selling certain products/services at a price below costs – For this strategy, a subset of your products/services is sold at a very low price, while other products/services are premium priced.  The assumption is that your clients will come for the low priced products/services; and additionally purchase other items which have a higher price.  But problems will occur if your projections are far off the actual results.  A situation was reported in the Wall Street Journal where Staples Inc. offered the State of NY (government agency) a promise to offer some items for one penny in exchange for the state’s office supply business.  “Staples delivered penny items with a list-price value of $22.3 million in the contract’s first few months, for which it was paid $9,300…”  (07.23.2014 – WSJ “When Staples Offers Items for a Penny, New York Buys Kleenex by the Pound”)

Relationship pricing – With this strategy, businesses offer an across the board price reduction to win large contracts.  The base price is reduced only for this client.  But, I have seen profitable relationships become unprofitable when this approach is not monitored and modified continually.  This approach will work in the first year once prices are set.  However, if you have agreed upon a very low margin and the period between dates of re-setting prices is long, a relationship can quickly become unprofitable.  For example, if you provide a fixed fee to your clients, you are assuming risk associated with price increases, which you will need to absorb until the fee is adjusted.

“…in general, corporations that hire real-estate companies to operate their facilities have been leaning harder on costs and are moving toward fixed-price contracts; under a fixed-price contract, the real-estate company must deliver its facilities management services within the price of its bid or absorb any cost overruns.”  (04.14.2014 – WSJ “Cushman & Wakefield Scores a Big One: Citigroup Contract”)

The solution to competing on price is to compete based on value, i.e. a value proposition.  In a world where most products/services are offered by multiple providers, clients need a reason to trust you with their business.  “The reason I use XYZ Inc., for my needs is that I am assured that they will provide me with –expert sales support that is knowledgeable and committed to providing a high level of customer service; a full menu of products/services that allow for one-stop shopping; a great brand reputation and presence in the market; and, they have the ability to deliver on promises, i.e. follow-through.

Customers/clients will be less sensitive to price if they understand the benefit of working with you, i.e. understand the value proposition you offer.  Additionally, satisfied customers will generate repeat business and be a source of recommendations for new business.

Author: Regis Quirin
Visit Regis's Website - Email Regis
Regis Quirin is a financial executive with 23 years of corporate experience, i.e. New York Stock Exchange, JP Morgan Chase, and GMAC ResCap; and 15 years working with small and medium-sized entities, i.e. joint ventures, start-up entities, established businesses. In 2014, Regis published "Redesign to Turnaround Underperforming Small and Medium-Sized Businesses" available via Amazon.

Why are so many companies announcing a Turnaround?

So far in 2014, turnarounds have been discussed domestically at Radio Shack, Yahoo, Best Buy, Lowe’s and JCPenney, to name a few.  Internationally, word of turnarounds have been reported at Sony, HTC, Carrefour…   So what has caused this trend?

Simply stated, when business is good, it is very easy to overlook inefficiency and waste.  But the macroeconomic weakness that is affecting the US is resulting in sales declines; while at the same time costs continue to rise. As a result, profits decline.  A business may find itself in need of turnaround assistance based on unforeseen external factors, i.e. a natural disaster, competition, new regulation, new taxation assessed federally or at the local level.  While internally, rapid unplanned growth can be very disruptive, if the focus turned away from profitability.  This growth may have been attributed to organic growth or a merger or acquisition.

The most detailed and transparent turnaround discussed is the turnaround at Hewlett Packard –

Meg Whitman joined HP as the President and Chief Executive Officer in September 2011.  After a year of assessing the HP situation, Ms. Whitman announced a Turnaround.  At a Security Analyst Meeting (10/03/2012), Ms. Whitman attributed the need for a turnaround to several factors, including a change in the IT industry; constant change in executive leadership of the company; decentralized marketing; integration of acquired companies; misalignment of compensation and accountability; lack of metrics and scorecards to manage the business; lack of a cost containment focus; product gaps; and ineffective sales management.  The turnaround which began in 2012 is expected to take hold by 2016.

The solution to counter this situation is a redesign, i.e. a focus on stream-lining processes and cost containment.  Interestingly, the method to redesign a business is the implementation of standard business management “best practices.”  But to fully implement a turnaround, innovation and growth will be required.  Customers’ needs must be placed at the center of your decision making and a focus on business development will be required.

Start by assessing and understanding the amount of change required and develop approaches that will minimize the potential for disruption.

Superior management and flawless execution will be required.  Each member of the management team should understand their responsibility and be committed to work together as a team to redesign to turnaround the underperforming business.  A commitment to financial discipline and a returns based capital allocation strategy is required.

Going forward, managing the business should be accomplished from a data based perspective.  Any decision regarding the use of funds and or the changing of strategies needs to be quantified.  Opinions should be the basis for investigation, but data should be the reason for actions.  An executive needs to be able to read financial and production numbers; as well as understand the significance of combining the data sets to grow.  If you do not understand the drivers of revenues and expenses, or the significance of production data, any decision will be a best guess on how to proceed.

If you understand the current situation with respect to the market, competitors, customers and employees, you will be better able to develop detailed strategies that allow you to minimize weakness, maximize opportunities, and mitigate threats.

Managing cash flow is critical.  The optimal approach is to employ conservative and sound financial and accounting policies; maintain a strong working capital position; and implement accurate and responsible reporting that looks at variances to established plans.

In a turnaround situation, a “best practice” is to document and review policies and procedures; to stream-line and remove inefficiencies; discontinue manual tasks through automation; and, enhance security through segregation of duties.  The outcome will naturally be cost savings.  Circumventing established policies and procedures exposes the firm to errors, unnecessary risks and costs associated with wasted time.

If you are in a business turnaround situation, it is very easy to think the proper decision is to slash the marketing budget to cut expenses.  But, it is during these tough times that marketing and sales are the most important.  As expenses keep increasing, revenues at the very least must keep pace, or profits suffer.  Annually, new customers must be sourced.

The role of your marketing department is to collaborate on strategic campaigns and point of sale initiatives; while fostering a consistent and standard sales approach across all corporate communications and marketing efforts.

The redesign steps are as follows –

  • Communicate the need to redesign to senior managers and the board of directors, to gain concurrence;
  • Select a respected executive with the authority to cross department lines to lead the project.  This individual will be the champion of the project and facilitate the integration of change;
  • Perform a key assessment of the organization to prioritize the trouble spots;
  • Set strategy and establish a cash flow plan for the next 12 months, based on the current situation;
  • Communicate the strategy companywide, as well as the intentions to redesign companywide processes, to gain employee understanding and involvement in the process;
  • Optimize support functions; and,
  • Emphasize business development to grow.

Communicate with the Board of Directors, throughout the process.

The speed at which the process can be completed will be based on the amount of redesign required and the commitment of your management and staff to make required changes.

 

In 2014, Regis published Redesign to Turnaround Underperforming Small and Medium-Sized Businesses.  To read chapter one of the manuscript, click Here.  Recommendations so far have been positive.  To order your copy, click

Redesign to Turnaround Underperforming Small and Medium-Sized Businesses

Author: Regis Quirin
Visit Regis's Website - Email Regis
Regis Quirin is a financial executive with 23 years of corporate experience, i.e. New York Stock Exchange, JP Morgan Chase, and GMAC ResCap; and 15 years working with small and medium-sized entities, i.e. joint ventures, start-up entities, established businesses. In 2014, Regis published "Redesign to Turnaround Underperforming Small and Medium-Sized Businesses" available via Amazon.

The Supplier Marketing Program

There are multiple ways companies market themselves.  Each form is associated with a certain level of investment and return, within a certain timeframe.  One of the most effective approaches is “quid pro quo” marketing, i.e. marketing your products or services to your suppliers/vendors.  This approach can work as a business-to-business strategy, or a business-to-consumer strategy, or both.

As a business, you pay for multiple services from your chosen vendors, i.e. software, hardware, banking, accounting, stationary, mail delivery, office cleaning…  Does your business offer any products or services that may be purchased by these vendors or the employees of these vendors?  I worked with a company that implemented this type of Supplier Marketing Program.  The program was highly successful and easily adaptable to any business.

So how do you get started?  The implementation of any Marketing program has two main pieces, both of which are required to be successful, i.e. analytical review and marketing execution.  In situations where your Marketing department does not have the knowledge and experience to perform the financial analysis that justifies the marketing investment, that responsibility should fall on the office of the CFO.

Prior to undertaking this strategy, a Return on Marketing Investment (ROMI) should be calculated.  The formula is as follows – (Gross Profit-Marketing Investment)/Marketing Investment.

Analytical Review – Estimating Gross Profit

Identify the Opportunity – Develop a table of all company relationships. Include the supplier name; contract type; purpose; pricing; term; termination requirement.  Customers should be rank ordered, i.e. highest likelihood to use the product or service you offer.  Your focus should be on the best opportunity based on your relationship type; the location of the supplier and the employee count.

Quantify the Potential – Following is the standard opportunity waterfall, which changes based on factors specific to your business –

Category Factor Opportunity 1 Opportunity 2 Opportunity 3
Total Employees (Leads) 100% 100,000 250,000 500,000
Employees that are Consumers of Product/Service 50% 50,000 125,000 250,000
Current Shoppers 25% 12,500 31,250 62,500
Capture Rate 5% 625 1,563 3,125
  • Total Employees (Leads) – total number of the employees, of your suppliers, as a group.
  • Employee Consumers – employees that would use the product or service you offer.
  • Current Shoppers – consumers that are in the market today for your product or service.
  • Capture Rate – consumers that are willing to purchase from you today.

An additional category that can be added is frequency of purchase based on your business model, i.e. tax services are needed annually, mobile phone every two years, home purchase every seven years.

Marketing Execution – Estimating Marketing Investment

The marketing process has three distinct steps –

Relationship Development – Contact the gatekeeper of the Supplier account.  Present product or service benefits.  Focus on value to the company and employee retention.

Endorsement – Develop marketing plan in conjunction with the gatekeeper.  Determine how you will reach out to the employee base and the way you will reach them.  Leave behind the appropriate marketing materials.

Account Management – Execute the marketing plan.  Activities may include desk drops, attending sales meetings/events, lunch-in-learns, etc.  Maintain ongoing contact with the employee base.  Add value by offering personal touch services.  Market directly to consumers whenever possible.

At this stage you have all of the factors needed to create a ROMI.  Use this information going forward and review the actual results to plan results, to understand if this program is a success and should be continued.

Author: Regis Quirin
Visit Regis's Website - Email Regis
Regis Quirin is a financial executive with 23 years of corporate experience, i.e. New York Stock Exchange, JP Morgan Chase, and GMAC ResCap; and 15 years working with small and medium-sized entities, i.e. joint ventures, start-up entities, established businesses. In 2014, Regis published "Redesign to Turnaround Underperforming Small and Medium-Sized Businesses" available via Amazon.