How to combat the commoditization of what you sell
First, let me go on record as stating and believing that every company providing quality goods and services cannot continue to do so unless periodic price increases are part of the equation. In my humble opinion, this must only be a "when and how" question and not a "why" question. Along the way, however, some broader pricing issues must be confronted.
Second, a TEC expert on this subject, R. Sam Bowers, has put the subject of pricing in the context of our new economy. Specifically, he asserts that there is a fundamental shift in the way products and services are exchanged.
Third, Bowers claims that we have flip-flopped from a world where business output is sold to where it is bought. Why is this so?
When your customers are buying, as opposed to your "selling" to them, there are three new-economy realities that come into play:
1. Customers have become quite sophisticated, researching the details of your offerings, through the Internet or their purchasing arms.
2. Customers have identified and also researched two or three other vendors who, on paper, could provide similar offerings.
3. Customers are 99% certain about what they want and how much they are willing to pay for it.
Value-added advocates would argue that feature or service differentiation can still separate the men from the boys. That may be true from a vendor perspective, but from the customer’s perspective, if he thinks he knows all about you, then there is only one item remaining to really argue about: price.
Sounds like a "commodity" situation, right? Well, in the old economy we always thought of commodities as being high volume, uncomplicated, marginal-quality products that could be obtained at low prices.
In the new economy, the word "commodity" has nothing to do with the quality of your product or service and everything to with price. Just price. That’s because your customer has done the research and found others like yourself. Once there is more than one player on the turf, then the commodity game is about ready to be played.
Does this new system work? You can talk to any of our TEC members who do (or did) business with Wal-Mart, Home Depot, or GE, and they will tell you how those firms managed to commoditize their vendors.
If this thesis is striking any nervous cords – which it should – the rightful question to ask is: "What can we do to continue to ensure a net profit that will allow us to continue to grow?" Here are some ideas that are being implemented in the new economy as I speak:
1. Price advances should be selective and well-timed. To the extent that you can "undress" your offerings and price them separately, while still meeting customer need, you have a method for increasing prices across an offering spectrum, not for the package as a whole.
2. Turn the tables around so that you research your vendors just as hard as your customers research you. That can lead to price concessions that are, in effect, the equal of customer price increases.
3. Lock into your customer’s internal information systems through EDI, electronic inventory maintenance, or Internet surveillance of your customer’s key competitors. Those are great bargaining tools in a "let’s talk about price" discussion.
4. Work very hard to improve productivity and efficiencies. How many times have you heard the cry "we can’t take any more costs out of our business without compromising quality and service," only to find out that there were costs that could still be reduced.
5. Agree to price decreases for your best or most promising accounts, but then find ways to do less for them, not more. Such a strategy can often lead to a future price increases, because they soon learn how much they are missing from your full capabilities.
6. Time-wasting, customer-oriented activities, i.e., the old "let’s build relationships on the golf course at the club, etc.," should be abandoned in favor of a strictly business-oriented fulfillment commitment from you. If you are going to meet stringent pricing requirements, then play the commodity game with equally stringent business rules.
In conclusion, there are three other thoughts I have on this stomach-churning subject:
1. Become very good at cost accounting. The idea is to really get a handle on your transaction costs. Just crudely allocating your overheads won’t do it. You need to know on an account-by-account basis what it is costing you to service them.
2. Likewise, focus on net profit, not gross margin, on an account-by-account basis. The old "80/20" rule works here. Probably 20% of your accounts provide 80% of your profit. Best to initially focus on them.
3. Finally, just say no to unprofitable deals. The other day, TEC member Tom Mohs, owner of Placon, a plastics thermoforming business in Madison, told me that a year ago his firm lost a major account on price. Last month he told me this customer begged to come back, at Placon’s price, because of the inability of the low-ball competitor to meet its fulfillment requirements.
Until next month, good "pricing" and good "profiting" as a result!
Harry S. Dennis III is the president of TEC (The Executive Committee) in Wisconsin and Michigan. TEC is a professional development group for CEOs, presidents and business owners. He can be reached at 262-821-3340.
Aug. 16, 2002 Small Business Times, Milwaukee
