Common Pricing Traps to Avoid

It is essential for companies to develop better pricing strategies for a larger and more complex worldwide marketplace. Conventional wisdom says the best time to launch new products is in the early stages of an economic upturn, as demand picks up and customers become less price-sensitive. While this may be true for some products, many companies miss a significant opportunity to maximize revenue and profits due to dysfunctional pricing strategies.

During the recession of 2001-2004, entire markets were consumed by ad hoc discounting by companies trying to defend their piece of a shrinking pie. In the process, companies sent a clear signal to customers that price was negotiable and value would be given away when pushed hard enough. Many companies also began bundling additional products and services into their core offering to "sweeten the deal" and make the sale. By giving away services, these firms drove up their costs and taught customers that their services were not highly valuable. These short-sighted pricing approaches may have helped sustain sales, but they also taught customers to focus on price and ignore value.

Throughout the world, countries are exploring ways to take advantage of the world economies by taking on new manufacturing capabilities to deliver products globally. Asian countries have clearly expanded beyond cheap apparel manufacturing by supplying consumer electronics, technology support services, automobiles, and more. Ireland has become a major provider of outsourced services. With products and services being sold around the world, companies need to find effective pricing mechanisms for both domestic sales and the pricing methods that support their export market.

Closer to home, pricing reductions have been common with companies that have high fixed costs and low variable costs. Two examples come from the software and automobile industries. Software companies provided deep discounts and extended free trial periods to encourage buyers. Automobile companies have used the discount plan-of-the-month, including low financing interest rates, to generate sales and lower their inventory of new cars.

According to 2004 research by the Product Development Management Association, along with a Strategic Pricing Group study, there is less than a 50% chance that new products will hit their volume and profit goals. Though there are numerous reasons for these failures, ineffective pricing strategies are one of the most overlooked aspects of new product development and marketing campaigns. Setting the selling price is most often the last step in the entire product development cycle, but it may not allow adequate time between end of product development and start of product launch to appropriately gauge the product's value to the buyer. That's because, when setting a price, companies need to combine the bookkeeping calculation that judges cost vs. revenue to arrive at an acceptable gross margin with potential value price that a buyer would be willing to pay.

There are three common pricing traps that can derail new consumer or business-to-business product marketing success. Avoiding these traps is critical for firms to drive new earnings and growth:

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John E. Hogan is vice-president and director of research in the Boston office of Strategic Pricing Group. He can be reached at jhogan@spgconsulting.com. To register to receive SPG Insights, visit www.strategicpricinggroup.com.