5 Different Pricing Strategies That Kill Your Profitability
Distributors face many challenges that can impact their profitability. Supply chain disruption, inflation, and competitive pricing, to name a few. However, what shouldn’t add any further hurt to your profitability is your pricing method. With so many ways you can approach pricing as a distributor, there are bound to be common pricing strategies and missteps that come from years of “how it’s always been done.”
Distribution Strategy Group recently wrote: “Distributors’ Dead Skunk Pricing: How to Avoid the Stink,” Scott Benfield highlights a handful of common pricing strategies and traps that distributors fall into that cause massive profitability “stinks.” Here are the major takeaways.
1. Fixed Pricing
As a business, distribution is transactional and highly susceptible to shrinking margins as costs rise over time. One of the worst things you can do is adopt fixed pricing, rather than dynamic pricing. We can’t imagine many distributors still operating with a fixed pricing model, but it should be stated. This pricing method fails to account for any movement in manufacturing costs, market shifts, or operating costs.
Of course, with possibly hundreds, thousands, or even millions of prices to track, this may seem like the simplest way to structure your pricing strategy. However, what you trade for that “simplicity” is, ultimately, your margin.
2. Cost Plus Pricing
Pricing, or the price distributors present to their customers, encapsulates the value that the distributor brings to the table. That includes things like services related to the products they’re selling. It’s presented as the unit cost the distributor pays + the distributor’s value markup. While understanding your value is important, leading with that is not a solid way to conduct negotiations with your customers.
For a product with a unit cost of $80 and a list price of $125 that you’re trying to sell for $100, the difference is this:
Cost Plus Pricing: Cost plus 25%
vs.
Discount Pricing: List minus 20%
In the end, the price to your customer might be the same but cost plus pricing sounds like the distributor is winning a markup, while a competitive pricing strategy, which includes discount pricing, sounds like the customer is scoring a personal deal. Benfield adds, “The behavioral mechanism is called prospect theory, which states that the fear of losing the order is greater than the desire to make more margin.” This pricing structure, rather than cost plus pricing, is founded on a value based pricing strategy that helps your profit margins and improves the perceived value of your products and services.
3. Using Manufacturer List Prices as Your List Prices
Manufacturer list prices are there for the manufacturer to use. Their pricing method is different from a distributor’s. As we mentioned earlier, distributors may have thousands of prices to track for their business. That creates a difficult situation to keep track of if the distributor is the one coming up with the most appropriate pricing strategy. But, if the prices are made elsewhere by the manufacturer, then keeping up with pricing in a competitive market becomes a logistical impossibility.
Creating your own pricing model ensures consistency in margins from all of your manufacturers and allows you the flexibility to adjust your own margins on your own terms. Save yourself the headache and stop relying on manufacturer list prices as your prices. Determine the best pricing strategy for your business based on factors like perceived value, market demand, production costs, customer demand, profit margins, and other factors pertinent to your organization.
4. Override Overkill
This one is easy to get carried away with, and that’s why it’s so dangerous to your profitability. Sure, overriding a system-based price may help you secure a deal with a customer, but what happens when you get overzealous with handing out overrides? Well, it means you might be selling a lot but not reaping any financial benefits. Overrides should be used strategically and sparingly.
Common pricing strategies in a competitive market take analysis and finesse to attract price sensitive customers and help your business gain market share. Resist the urge to override by proactively developing your pricing model with real data from customer demand, market demand, behavior of target customers, and so on.
5. Contract Management
Contracts are often remnants of ghosts of sellers past that haven’t been reviewed recently or were never reviewed thoughtfully. Often, they’re done without consideration of the current pricing strategy and are used to appease larger customers. The result is the wrong pricing model locked in for far too long instead of determining the best pricing strategy that delivers the optimal price to each customer segment.
Competitive Pricing Starts with Pricing Software
Considering all the wrong ways to do pricing, you may wonder how to do it right. The answer is simple, perhaps more straightforward than you’ll believe. The reason is that the right pricing software will allow you to be as involved or uninvolved as you want with assessing common pricing strategies and creating market demand with your dynamic pricing strategy.
A solution like White Cup Pricing can automatically generate a pricing matrix, incorporate a strategy, and generate a 10X return on investment (ROI). Then, as your business becomes more comfortable with the system, deeper customizations can be made to fine-tune your pricing and generate more opportunities to grow revenue.
Different pricing strategies that kill profitability are unfortunately common in distribution. Many come from a history of gut-instinct-based pricing models prioritizing closing a deal over profits. Luckily, with the right pricing strategy and pricing analysis technology, distributors can now make price optimization a strength of their business.
