• October 1, 2008
  • By Marshall Lager, founder and managing principal, Third Idea Consulting; contributor, CRM magazine

The Price Is Right...You Hope

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Here’s a testimonial you may wish to consider: “Price optimization software is a confidence-builder—it sets the floor price and target price, and proves a deal’s value from the start. It’s a big win—it can take an entire business up a couple of margin points. Ease of use is excellent. Turn it on and it works.” That’s Wyatt Aasen, director of planning and analysis for industrial coatings manufacturer PPG, talking about the value price optimization software brought to his company.

And here’s another tidbit: “Through 2010, price optimization technology will have a more direct impact on increasing revenue or margins than any other CRM technology.” That’s from the 2008 Gartner MarketScope for Price Optimization and Management.

Statements like these are becoming more common in the B2B arena. Price optimization software is more powerful and easier to use than ever before, and it can have immediate and far-reaching benefits for its users. But if that’s so, why aren’t more companies taking advantage?

Where Is It?
“A lot of people are misguided or have misunderstandings about price optimization,” says Kevin Bandy, partner and global lead for sales and marketing transformation with business consultancy Accenture. [Bandy was also named one of CRM magazine’s 2008 Influential Leaders in the September 2008 issue.] He evokes the old image of business directors locking themselves away somewhere in the dead of night to pore over spreadsheets and make penny-ante changes to individual sticker prices. It’s an image that I can relate to from my high school days as a cashier at the local Pathmark supermarket: The managers would do just that every weekend, and the cash registers would have to run manually—without the laser scanner—until they were done.

While those days are long gone, the supermarket example illustrates one of the misconceptions about pricing software: that it’s really only useful for retail. One look at PPG’s success with Zilliant shows the broader vista. “Some coatings have petroleum ingredients, so we’ve had to raise the price on our customers over the years,” Aasen says. “[Zilliant’s] Campaign Manager allows you to automate the process so there are no mistakes, as there would be in a manual change.” Any business with a large catalog, or with highly configurable products, can potentially benefit from pricing software. “We run the software once a month to recalibrate our pricing model,” Aasen says. “We could do it once a year and still see a big benefit. Some companies run it nightly.”

Another misconception is that pricing software can’t take into account certain intangibles, such as sales skill or the amount of service time spent with a customer. That was certainly true before, but today’s price optimization solutions can even help quantify and monetize customer touch. Many companies that used negotiated pricing didn’t even know they had a price optimization need at all until recently, says Eric Hills, vice president of marketing for Zilliant. “If you ask a customer, they’ll say their process is the art of selling—people didn’t even realize a statistical approach was possible,” Hills says.

Again, some verticals had long been familiar with that approach. “In retail, travel/hospitality, etc., companies have long been aware of the ability to maximize profit,” Hills says. Room prices, flight tickets—goods that have value that expires after a certain point in time—were easier to handle with price optimization. “In other verticals, like manufacturing, the sense was always that negotiations made optimization too complex,” he says. “We cracked the code on optimizing negotiated prices.”

A few things had to fall into place before pricing software could truly take off—and even then, it was hard to spread the gospel. “We developed a solution, and six or eight initial customers saw considerable returns, but it took them a while to become reference customers,” Hills says. “There’s a secret-sauce aspect. We do have a challenge getting customers to talk openly—price optimization is a real competitive advantage. But awareness is growing fast.” According to Hills, Zilliant now has as many as 50 companies with price optimization solutions in production.

Lastly, price optimization isn’t something one can just grab off the shelf and install for kicks. “These aren’t casual decisions,” Aasen cautions. “It’s a big IT move and business initiative—you have to dedicate a lot of resources. Unless you have executive sponsorship, it’s very hard.”

Bandy agrees, adding that the products can be expensive and require discipline. “Don’t buy it if you’re not gonna stick to it,” he warns.

That said, you might be surprised to discover some of the companies that have already implemented price optimization. While most businesses regard the use of this software as something of a trade secret, the user community is practically a who’s who of successful companies. If there’s a small knot of close competitors, similar in size, and one suddenly grabs a whole mess of market share or sees its revenue skyrocket, it’s a fair bet that the new leader just started optimizing.

What Does It Do?
Improving pricing by 1 percent can add as much as 10 percent to the bottom line, according to Accenture’s research. “It’s a frontier that needs exploration,” Bandy says. “People tend to do strategy around pricing, but there’s no customer insight, and the results are often overly complex.” Pricing should follow strategy, not the other way round. In fact, Accenture has identified six discrete activities that the consultancy claims “leading companies complete as sequential steps in their pricing transformations.” (See “Plotting the Transformation,” at the end of this article.)

A trigger for price optimization that most salespeople are familiar with is the mad dash at the end of any quarter. “About 80 percent of sales happen at the end of the quarter, and as a salesperson you’re discounting heavily to make your numbers,” Bandy says. By focusing on the volume and not the value, “companies become blind to price execution until the frenzy is done,” he says—by which time it’s too late.
So why do companies still do their pricing in a vacuum? Bandy identifies three reasons:

  • The number of SKUs—individual products—has exploded, but pricing is often still done on a per-product basis, and that’s very time consuming.
  • Vendors are happy with their pricing strategies, but there’s a huge disparity between the vendor and the customer. The customer sees a mismatch between the corporate image and the pricing.
  • A lot of companies are going to market through partner channels, which makes pricing much more complex.

Pricing at Any Price
PPG wasn’t looking to solve those specific issues. Its path to implementation sounds almost pedestrian, but it speaks both to the lack of understanding and to the value of the technology. “It’s not a dramatic story, but it is real: Charles River Associates came in and performed a profitability analysis for us,” Aasen says. The consultants looked at accounts, products, and cost-to-serve; they broke out revenue by segment, type of coating, and several other metrics, trying to see if there was consistency in earnings across the board.

“Their recommendation was, ‘You should manage your prices better,’ ” Aasen recalls. It was a novel idea for PPG. “For us and many other businesses, price is cost-plus, then some negotiation. Customers can demand a huge amount of service—we could have been passing that along in our pricing, but we weren’t.”

Each customer requires a different amount of service. The question is whether a business understands its service component, and can drive it into price. “There are two kinds of customers,” Aasen says. “Some already have a price expectation. You give them a reasonable price, and they place the order.” Price optimization solves that equation, balancing value to the customer against profit to the vendor. Other customers, however, want to negotiate—and price optimization in the negotiated sale picks a good target price that has enough room for the vendor to maneuver. “Either way, it makes the difference in whether you leave money on the table,” Aasen says.

But aren’t salespeople—good salespeople, anyway—supposed to be the masters of getting the most out of a sale? Maybe, but each layer of complexity added to the product, the partnerships, or the terms of delivery makes the salesperson’s load exponentially greater. “The sales rep can’t do all this math in his head, and he doesn’t have the big picture,” Aasen says.

Still, PPG encountered pockets of resistance when Zilliant’s software became the core of the pricing process. “People who were well entrenched or fiercely independent didn’t want to jump on the new processes, but executive buy-in defused that,” Aasen says. His sales reps now have the power to quickly produce excellent quotes for the simpler deals when needed, he adds, but PPG’s administrative pricing staffers “are the real experts” when bigger and more-complex engagements are on the table.

Price optimization also adds consistency. “Sales reps’ aggressiveness used to weigh heavily on the pricing decision; that’s largely been removed,” Aasen says. “We now base the price on attributes, and we can produce a quote very quickly.” The reason is that it’s based on statistics: margins versus attributes like size of the order, a customer’s buying habits, and the level of service required—in other words, behavioral segmentation. (See “Oh, Behave!,” January 2008, for more on behavioral segmentation.) “For example, is the customer a good planner or a poor planner—the sort of data that’s well established in the CRM system,” Aasen says.

“Differentiated pricing is something many companies are trying to get to,” Bandy says. “‘How do I put pricing at the very forefront of what my sales team does every day?’” Price optimization answers that question, but it’s not the only pricing technology. (See sidebar, “Check the Pricing Tag,” left, for other pricing efforts.)

What Do I Look For?
Since price optimization is just now approaching the peak of its popularity, it’s probably best for potential users to seek options close to home. “In the early stages, you’re better off selling into a few verticals where you can perform best,” Hills says. “It’s like the bowling pins analogy from Jeffrey Moore’s Crossing the Chasm—you knock over a few at a time, and build up to throwing strikes. Eventually you have to go from early adopters to the mainstream.” Hills advises prospects to look at and talk to a particular vendor’s customers. “If they ‘look like you’ and have results, those are the best buying criteria we know of.”

At the moment, though, there may not be a lot of choice in any particular vertical. Vendors have so many prospects to choose from that there tends to be very little overlap in coverage. “We [all] serve different markets,” Hills says, referring to his firm’s peers in the optimization space.

Fortunately, the CRM industry and the analysts who watch it are beginning to devote more resources to price optimization. The Gartner MarketScope referenced above estimates the total worldwide revenue of the market for B2B pricing software at $150 million as of 2007, and it’s growing at 30 percent per year. In fact, according to another report, Gartner considers price optimization and management the single most beneficial technology in the sales sector—the only one rated “transformational”—albeit one that won’t enter the mainstream for five to 10 years.

Gartner’s research includes early ratings of some of the larger contenders in the pricing space. “Early” is the operative word, though; Gartner’s five-column rating chart, which ranges from Strong Negative to Strong Positive, has no vendors mentioned at either end. PROS, Vendavo, and Zilliant were the only vendors rated Positive (one step from the top); Oracle-Siebel, Servigistics, and Vistaar Technologies rated Promising (the middle column).

Of course, no technology gets far without differentiating itself—even within the confines of CRM. “Price optimization is rightly part of CRM, but it’s very different from other CRM applications,” Hills says. “Turn it on and you start seeing results.”

Aasen, one of Hills’ customers, is aware of the CRM connection as well. “CRM data is a valuable component—you can mine out value if you channel it into optimization,” Aasen says. “You can significantly enhance the optimization benefit with good customer data in a CRM.”  

SIDEBAR: Plotting the Transformation

Pricing technologies need to be implemented on a case-by-case basis, with nuances that are specific to a company’s industry, products, services, and customers—as well as what Accenture refers to as “broader economic forces.” That said, the consultancy has identified certain patterns that are universal to most pricing efforts, and has broken the process down into six phases that should be tackled in sequence. What follows is an excerpt from Accenture’s report.

  1. Run a pricing diagnostic. Implementing a diagnostic is necessary to obtain a picture of current pricing capabilities, build a case for the benefits of a transformation program, start to sketch out the pricing strategy and goals, evaluate product vendors, and draft a plan for overhauling your pricing capabilities.
  2. Build a modeling platform. Test your initial assumptions, set investment goals, and develop a rollout plan.
  3. Design pricing models. Create your pricing models and integrate them into your pricing strategy. Then you’ll be able to identify any gaps in your pricing capability.
  4. Build pricing infrastructure. Craft the framework for your pricing processes. Revise your organization to accommodate a dedicated pricing group. At the same time, you should evaluate, test, and build the appropriate technologies.
  5. Embed pricing capability across the company. With the foundation elements in place, you can: roll out the revised pricing program; perform the necessary due diligence on basic pricing capabilities elsewhere in your company; and train and prepare staff.
  6. Measure the impact. In this final stage of the launch process, develop the requisite scorecards and benefits assessments, fine-tune roles and responsibilities, and set out guidelines for compliance with the objective of fully deploying the pricing lifecycle.

SIDEBAR: Check the Pricing Tag

Gartner identifies three different but related topics in pricing software, of which price optimization is only one.

  • Price analytics—This is the application for exploring transaction histories to spot problems and inconsistencies, or to reveal new opportunities.
  • Price optimization—Gartner describes this as “a modeling environment for developing and reviewing ‘what-if’ scenarios against elasticity curves based on segmentations (such as sales channel, product, customer, industry, or competitive groups) and employing a statistical engine that executes pricing models on demand.” In short, it’s the sandbox where you play with the results from price analytics to achieve the best pricing results. “The ultimate benefit of pricing optimization is uncovering price opportunities and potential problems before they emerge during execution,” states Gartner’s March 2008 MarketScope for Price Optimization and Management. “This differs from price analysis in that it is more predictive in nature, compared with the analysis of historical data.”
  • Price execution—These are the tools that let businesses put their analyzed, optimized prices into practice. It’s the framework for automating the deal-approval process. “In addition, price execution should encompass price-list management capabilities to improve the generation, management, communication, updating, and retiring of price lists and associated terms and conditions or agreement language,” Gartner states in the report.

“The potential for this market is significant, because defining and defending optimal prices is a fundamental imperative for enterprises responsible for producing returns for stakeholders,” the MarketScope states. Traditional approaches—such as the management cabal tweaking its spreadsheets—aren’t getting the job done anymore, and the software capabilities are finally there for businesses in almost every industry. Offerings in price optimization software, the report concludes, “have evolved sufficiently to appeal to a broader audience of enterprises that are considering IT measures and are seriously concerned with systematically improving pricing practices and strategies to increase margins and sales.”

Senior Editor Marshall Lager can be reached at mlager@destinationCRM.com.

Every month, CRM magazine covers the customer relationship management industry and beyond. To subscribe, please visit http://www.destinationcrm.com/subscribe/.

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