Performance pricing (similar to value pricing), according to HBS Senior Lecturer Frank Cespedes, HBS Professor Emeritus Benson P. Shapiro, and The MFL Group President Elliot Ross, is:
“Performance pricing seeks to maximize both the customer benefit and the selling company's profitability. It emphasizes the collaborative aspects of buyer-seller relations over the split-the-pie aspects. The idea is to create more space between the value provided to customers and your cost. You can then enhance win-win aspects of the exchange, rather than focusing on how to divide a fixed or shrinking pie between you and the customer.
“Firms can do this when they craft organizational processes that gather and analyze information across their customer portfolio.”
Ben Shapiro observed that “performance pricers identify and deliver value effectively because they bring together the "cost counters" and the "value generators" in their organizations. Normally, costs are the responsibility of finance and operations, while marketing and sales focus on value generators. But the only way to maximize the space between customer value generated and the selling company's costs is to get these people together so you can truly understand both sides of the equation and what the levers are.
“Finally, performance pricers relentlessly communicate their value. An example is PACCAR, producer of Kenworth and Peterbilt trucks in a market viewed as a commodity by others. Throughout 70 consecutive years of profitability—a period from dirt roads to superhighways, from the Great Depression to the current "Great Recession"—PACCAR has maintained a price premium and outperformed the S&P 500 by several orders of magnitude. One practice among others that sustains this performance: PACCAR provides a 26-page white paper on its Web site detailing expenses incurred during the life of a truck. You can input fuel costs, "tire rolling" coefficients, and vehicle weight to quantify the savings of a PACCAR truck versus lower-price alternatives. You can do the same for resale value by individual truck specification (PACCAR sells lots of custom trucks); for maintenance; for driver retention (useful information if you run a fleet of trucks); and for financing and fixed costs. The company also provides a primer on increasing fuel economy aptly titled "Push Less Air Pull More Profit."’
While the title of this article from HBS July 26, 2010 issue of Working Knowledge is “Yes, You Can Raise Prices in a Downturn,” the principles apply across all parts of the economic cycle:
- Know your customers
- Know the economic value of your product or service for them
- Communicate the value
- Price accordingly
If the performance price does not cover your costs, including all overhead, you need to radically revise your cost structure or exit the market
And, of course, you need to understand how your competitors are pricing to be sure that you are differentiating your product and/or service from them.