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Why Pricing Is Not Primarily About Price with Hermann Simon

If you have a fear of pricing, or if you’re worried that if you put your prices up you’ll lose customers, then you need to listen to the Pricing Man, Hermann Simon, author of over 35 books on the subjects of profit and pricing. 

“Pricing is about value, or more precisely, the value perceived by the customers. If the customer perceives a high value, he or she is willing to pay a high price. If the perceived value is lower, you have to offer the product at a lower price.”

Hermann Simon has lived two lives: in the first he was a boy on a farm in the Eifel region of Germany. In the second he is the Founder and Honorary Chairman of Simon-Kucher & Partners, a global consultancy with over 1500 employees. He’s an expert in strategy, marketing and pricing and he’s the only German in the “Thinkers50 Hall of Fame” of the most important management thinkers in the world.

“No company has ever failed from making a profit. Most companies are revenue driven, market share driven, sales driven and only about one quarter are truly profit-oriented.”

This is an incredibly insightful podcast about the importance of pricing and the need to understand the complexity of price, as well as looking at new pricing techniques. We hope you enjoy it as much as we did. 

On today’s podcast:

  • How people should think about pricing now with Coronavirus
  • Pricing is not primarily about price
  • Pricing is about the value perceived by the customers
  • How to establish the value of Porsche
  • The power of branding when pricing
  • How Evian beats the local water
  • The power of multidirectional pricing
  • No company has ever failed from making a profit

Links:

Why Pricing Is About Value, Not Price

If you have a fear of pricing, then you need to get over it and up your prices. As Hermann Simon says:

“No company has ever failed from making a profit. Most companies are revenue driven, market share driven, sales driven and only about one quarter are truly profit-oriented.”

So if you want your company to not just survive the Coronavirus pandemic but thrive long into the future, you need to understand that pricing isn’t about the price per se, it’s about value.

More importantly, price is about the value your customers place on your product or service. 

“Pricing is about value, or more precisely, the value perceived by the customers. If the customer perceives a high value, he or she is willing to pay a high price. If the perceived value is lower, you have to offer the product at a lower price.”

Why you can’t apply econometrics to pricing problems

One of Hermann’s early ideas was to apply econometrics to solve pricing problems. Econometrics is the science of using historical data to solve issues, but he realised you can’t learn from history when it comes to solving issues of price. Because, like the unprecedented times we are going through now with the Coronavirus, historical data is useless. What the customer now perceives as valuable differs to what they thought it was a mere few months ago. 

And this is the key takeaway – pricing is not primarily about the price. 

Even the Romans understood this concept, having the same verb for Value and Price. And this is what Hermann learned – Price equals Value. 

Price equals Value

Once you understand this concept, and it is a hugely complex concept to grasp, not least because the value of what you’re selling doesn’t lie solely with the product or service. Yes, value comes from the quality of your product, but it also comes from the brand you’ve built, from the familiarity of it as well as many different determining factors. 

Which makes quantifying a price as a number a tough gig.

In order to be competitively priced you have to know what the value of your product is relative to the value of your competitor’s products. Are they more valuable? Less valuable? Are they comparable? If so, this is one way to get the safe optimal price. 

Take Porsche for example. How do you put a price on a new car? 

“You only care about the value as perceived by somebody who might buy a Porsche or is going to buy a Porsche.”

So in order to figure out how much someone is willing to spend, you have to know who your target audience are and define your core customers. 

Pricing in a crowded marketplace

In today’s crowded ecommerce marketplace, it can be difficult to figure out the pricing process, to establish the value. Hermann advises taking a closer look at the product itself and trying to identify a point of difference.

“You have to understand the product – does the product itself have more value? If that’s not the case for the product as such, could you call it a commodity? Then you have to address the circle around the product – could it be in better packaging? Do we have an advantage with a good brand name? Can we be more international? Can we cooperate with others?”

There are ways around the pricing issue and that is to have different prices for different customer groups. There are some groups who are willing to pay different prices, maybe higher or lower for the same product. The other option is to review your business model and reevaluate your pricing system.

Different pricing models

In today’s modern market, many different pricing models have emerged with the internet. 

You have Flat Rate, which Hermann says is interesting, but also a little dangerous, particularly if your marginal costs are not zero. 

“Why is it dangerous? Because the most intensive users are paying the flat rate and they may drop your capacity. The other point is that maybe intensive users who without a flat rate would be willing to pay more, so you’re sacrificing willingness to pay.” 

Another very popular model is Freemium, where you have a basic version and premium version. 

“The trick is to really find the optimal difference between the basic and the premium version. If the basic version is too poor, you’re not attracting enough people. If it’s too rich, people are not switching to the premium version.”

No company ever failed from making a profit

You have to make a profit. Hermann says, price sets volume and cost. He gives a number on the effectiveness of different profit drivers: 

Roughly, the profit elasticity relative to price is about 10. Which means if you increase the price by 1%, without losing volume, your profit goes up 10%. That’s 10 X higher – the percentage change is in profit rather than in price. 

For cost, the elasticity is about six. So if you can cut your cost by 1%, your profit usually goes up by 6%. And for sales it’s about four. So if your sales volume goes up by 1%, your profit goes up by 4%. 

“So price 10 X higher than the price increase, cost six X higher than the cost decrease, sales four X higher than the sales increase.”

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