The Role of Finance in Pricing
Paul includes his firsthand experience in pricing, some examples and 5 lessons he has learned about pricing in this piece he wrote for the CFO.University community. Thank you, Paul.
I have been lucky to be involved in many pricing exercises during my time in finance, and I believe that finance should play a more active role in pricing. I have found in general companies need to spend more time on pricing.
What I find scary is how few organizations take time to develop well-thought-out pricing strategies. A study I read by Chargebee on price found that companies spent more time every year focusing on janitorial services than on pricing.
https://www.chargebee.com/blog/saas-business-growth-findings/
The study also found that companies that had continuous pricing approaches grew much faster than those that treated pricing as a hygiene exercise. Furthermore, the study found that SaaS companies that have a pricing strategy that is reviewed regularly have 6x Long Term Value/Customer Acquisition Cost to those who do not manage product price but just set it and forget it.
The study goes on to discuss what is involved in this idea of continuous pricing and provides some facts and suggestions.
A pricing strategy should include the following:
- Pricing Leader – This does not necessarily need to be a full-time job, but you should have someone to lead your pricing research efforts. This person might spend as little as a couple of hours a day or once a week collecting pricing feedback and research and then presenting his/her findings to the pricing committee.
- Pricing Committee – This team should include the key stakeholders of pricing (Product, finance, sales, marketing, etc.) The committee should meet at least once a quarter to review goals and discuss pricing material provided by the pricing leader
- Customer Data – Make sure you have a process for collecting data from your customer as your customer is the one who will tell you what they are willing to pay
- Product Margins – Finance should ensure the committee has an understanding of the product margins for each product and should assist in modeling how changes in pricing will impact the financials
A pricing strategy does not need to be complex or involve a lot of time. The key is that a company has someone assigned to help manage pricing, a committee, and a process for reviewing and adjusting pricing as necessary. The worst thing a company can do is just establish a price and then forget about it for the next five years.
My journey into pricing took off over the last five years as several roles had me play an active role in pricing analysis.
I worked for a company that believed a value proposition methodology should drive all pricing decisions. It was so ingrained in the culture and preached by the CEO that for many people, it was just a gate. They would force the pricing analysis to return the value proposition ratio the CEO wanted, which was a 4:1 - 8:1 ratio. Meaning we provided between 4 and 8 dollars of value to the customer for every dollar we charged.
If we provided less than 4 dollars of value, we tried to improve the product to offer more, and if we provided more than 8 dollars of value, we tried to charge more for the product.
This approach taught me a lot about pricing and the importance of understanding your customer and what value you provide them.
Many companies base the pricing on what the competitors are doing and then resort to discounting. Other pricing games to drive sales and miss out on the strategic value a well-thought-out pricing methodology has on bottom line profits.
As I became more involved in pricing, I took on the responsibility of approving price discounts and was added to the team approving new product pricing. I brought the lessons I had learned about value proposition pricing with me
For example, I was sitting in a meeting with our product team, and they had proposed a price, and they looked to me for approval. I would say the company, as a general rule, needs x in margin and say that would result in an average price of y. This meets that, but how will the customer perceive the pricing. I would ask sales to weigh in. I worked very hard to make sure every angle was explored and that we had thought about the strategic impact of our pricing approach
As a finance leader, I viewed it as my job to make sure we understood the cost, margins, and revenue opportunity, not to set the price as I was asked to do a few times.
On a few occasions, I even suggested to people we should lower the price. This was because I had studied each customer’s data and was involved in in-depth conversations with the business about these customers. Based on this, I felt an opportunity existed to grow revenue and profits.
I would explain this product has high stickiness, this is a big customer, and we need revenue growth. Going in at a lower price will increase stickiness, and the salespeople would usually agree.
The many different discussions about pricing I had during my time in this role taught me some valuable lessons:
- Pricing strategy should be a key part of every company’s strategy
- Every pricing decision should include a discussion about what value the customer receives
- Finance must ensure a complete understanding of cost and margins are available
- If allocations are used to arrive at margins, discuss how they might be flawed and, if necessary, adjust the budgets for pricing decisions
- Finance can and should play an active role in helping the business think about pricing as a strategic decision, not a hygiene decision.
For more on how finance and the CFO can impact pricing watch this CFO Talk with Mark Stiving, The Role of the CFO in Pricing
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