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It’s easy for marketers to get hung up on dreaming about ad campaigns, or working on new doodads and googaws to add to the widgets for sale. Too easy. But there’s a “P” that often gets overlooked as a marketing tool– Price. The price you charge for your product can be a door-opener, a word-of-mouth generator, a publicity-getter, or a loss-leader. It’s far too critical a weapon to leave entirely to the accountants.

Non-marketers will often get hung up on the profit margins of an item. But the margins may not matter much, because of a concept called Elasticity of Demand. Basically, this concept says that some items have ‘elastic’ demand, where a reduction in price will result in an outsize jump in sales. The bottom line is that you may be able to sell your product cheap, make less per item sold, but sell so many more units that you make more overall profit.

Of course, you can’t sell for a $2 loss and ‘make it up on volume’, as the saying goes. The prerequisite is that you cover all of your variable costs (the costs which increase in line with each unit you sell- so if you’re selling pizza, it would be the cost of the dough, cheese, sauce, the electricity to heat the oven and the hourly wage for the pizza man).

There are plenty of great examples of clever pricing strategies, which I’ll try to address in future posts.

Have you heard of ‘Good Better Best’ pricing? It’s the idea that you should never just offer a product in one price range. You should offer 3 versions: the good, the better and (wait for it…) the best.

Why? Because marketing research has shown that, when confronted with 3 choices, consumers have a tendency to gravitate towards the ‘compromise’, or middle choice. They don’t want to settle for the good version, and they don’t want to splurge on the best version. So they select the better version.

It might not be surprising to learn that retailers know all about this, and play off it masterfully. Wal-Mart in particular. You can draw people into the stores with a loss-leader, an item at a great price which gets the consumer’s attention. But when they get to the store, they discover that there are better products out there, for just a bit more money. And they tend to upgrade rather than buy the cheap version.

Now, guess which of the 3 versions carries the best margins for the seller? Think about some ways you can integrate this very effective, tried-and-true pricing strategy into your company.

I came across this Harvard Business Review article looking at software companies’ practices in giving pricing discounts. A Case For Discount Discipline reveals that most companies tend to discount on a case by case basis, and without the sort of overall consistency you might expect to find. Or not expect to find, depending on how many sales people you know and how closely they resemble the cast of Glengarry Glen Ross.

Discounting practices vary so much by industry it’s a little hard to generalize. If you’re in the luxury car business, you probably don’t discount at all. If you’re in the mattress business, fuggedaboutit, discounts go with the territory.

From a business management perspective, there really should be consistency (or at least firm logic) used in determining who gets a discount, in order that customers are treated with consistency.

Check out the article, it’s interesting and just 4 pages.

When I was in business school, one of my professors discussed some interesting studies which had been done on how people make choices. One of the studies he cited had discovered that if you’re selling one item for $5 and another for $10, you’ll likely sell more of the $5 item. However, if you then add a third item priced at $18, you’ll likely sell more of the $10 item!

This is apparently because people are crazy. Actually, he explained that people inherently like to gravitate towards compromise solutions. They don’t want the cheapest (it mustn’t be as good as the others), but they also don’t want to spring for the most expensive (this way they feel like they’re saving money). Just like the 3 bears and the porridge, the middle one is just right.

I came across an article from Washington Post which discusses this concept, called the The Decoy Effect. The article looks at it in terms of politics, but I think it’s a great concept for marketers to play around with. Look at how your similarly priced products group together when compared by price. There’s no point in offering product priced too closely together, you’re better off making sure there’s a price spread— and whatever item you want to be your best seller should NOT be the highest priced item. Add something else made of gold if you need to, but be sure there’s something for people to compare your preferred item to and feel like they’re ’saving’ money.

Wal-Mart understands this. Their modus operandi is to offer a price leader which they promote to get shoppers’ attention. But they don’t want you to buy that item— they want you to upsell yourself to something more expensive (and more profitable for Wal-Mart). Good-Better-Best pricing, and you can bet that the ‘Better’ item has the most attractive profit margin.

I’ve been keeping an eye out for articles or information which covered pricing as a marketing tool, and have not seen very much. Most marketing coverage (and most marketing people) focuses on advertising. But there are 4 P’s after all. 5 actually, since I side with those who count People as being pretty essential to the whole marketing plan.

In any case, I came across just the sort of thing I’ve been looking for, which is an article titled Basics of Strategic and Tactical Pricing. Great stuff here. Among other things, the article gets at why your pricing strategy, possibly more than any other factor, defines who you are as a company.

What’s your pricing strategy? Add 50% to your cost? Price everything in relation to the competition, essentially ceding pricing strategy to your competitor? Or is there a strategic value, ie. “we will move the market by pricing the item which normally sells for $50 at just $20. Or maybe we’ll price it at $100.” Anything is possible, it all depends on yor strategy, your product, the market, and whether you’ve got the marketing mojo to make it happen. Fascinating stuff, but I suspect many companies never spend a lot of time on it. ‘We do it the way it’s always been done.’

I’ve been playing around with implementing a SPIF program lately. Many people have heard the term, but it turns out few know too much about it, including what it stands for. I hunted all around the net, mostly in vain, and after seeing a few similar-but-different interpretations, eventually settled on ‘SPIF=Sales Performance Incentive Fund’.

Basically, a SPIF is a commission paid by the manufacturer directly to the sales person who is face to face with the end customer. Here’s the thing - that sales rep is not employed by the manufacturer, but is instead an employee of a dealer or retailer.

So what’s the idea behind a program like this? Well, it’s a means by which a manufacturer can reach around the many barriers separating it from the place where the rubber meets the road (a sales person deciding what products to emphasize to steer a customer), and attempt to influence that process.

Consider the chain of companies (and people) separating the manufacturer from the person making the buying decision:

Manufacturer — Distributor — Dealer — Dealer Sales Rep — Customer 

The manufacturer ultimately stays in business based on whether Joe Consumer decides to purchase its goods. However, the manufacturer has limited ability to influence Joe Consumer directly, especially at the critical point of purchase where many buying decisions get made. Even worse, the manufacturer is several layers of Kevin Bacon removed from the scene. In between might stand a distributor (with its own sales force), a dealer/retailer, and the dealer’s sales rep. At any point along this fragile chain, a bad attitude or bad impression can kill the manufacturer’s chance of making the sale.

The SPIF program is clever, in that it is price/promotion/place rolled up into one. The SPIF may encourage a commissioned sales rep to offer a better deal than usual, knowing the back end payment will come. The SPIF is also a promotional tool- what better way to get the attention of a sales force than to send them cold hard cash? And finally, it’s ”distribution insurance”, in that it ensures distribution. The dealer’s buyer might not be too eager to purchase a particular company’s widgets, but he HAS to if the sales force keeps selling them. And hell hath no fury like a sales rep told his favorite product is being phased out.

The SPIF buys salesperson mind share. For some product categories, that is critical- generally, wherever the product tends to be an after-thought item. Sales reps are going to focus on the items which pay the most return for their effort. A car salesman wants to sell cars, not auto wax. An electronics salesman wants to sell plasma TV’s, not surge protectors. They can’t be bothered with the small ticket items. The SPIF might just get you a piece of a very harried and fragmented mind. (Not that I know any sales people with harried and fragmented minds!)

The dealer’s management often doesn’t like SPIF’s. They have their own organizational goals, and these may not mesh with a particular supplier’s goals. The dealer may be trying to push Widget A, in pursuit of a negotiated back-end rebate, and may thus not want its sales reps pushing Widget B for the extra cash-in-pocket offered by the manufacturer. But in certain industries (office furniture comes to mind), SPIFs are a somewhat common tool, and might be worth a look for a company with limited marketing dollars trying to gain market share.

With domain registration, a number of other decisions need to be taken as well, like finalizing internet phone services. One should go with that internet phone software, that suits him. Usually packages offered by vonage and skype suit everyone. Rarely, one needs to go for a different voip deal. This is usually because of various voip calling softwares offering discounts.

I made a trip to Circuit City yesterday to pick up a new keyboard/mouse combo. (I finally got tired of tripping over wires, so decided to spring for a wireless setup).

I found my way to the keyboard aisle (yes, aisle– they stock about 20 different types), and after some comparison, I zoned in on a Logitech model (pictured at right). Nice features, including a few programmable keys and special image-editing keys. Most attractively, a rebate applied. Retail of $79.99 reduced to $39.99 after rebate. Nice! Naturally, the post-rebate number was featured in substantially larger type than the actual purchase price.

Later that day, as I waded through a pile of online rebate forms, clipping UPC codes, and filling out envelopes to try to claim my $40 refund (which, it turns out, was actually two separate $20 refunds, each to be mailed to a separate address), I was starting to think I might have been better off buying the model which cost $10 more, but no rebates to claim.

Naturally, this got me thinking about rebate programs, and why companies find it necessary to torment their customers with this stuff instead of just giving a discount.

Actually, there are good reasons, at least from the  company’s point of view:

• Rebates preserve price integrity (better than jacking around the list price)
• The rebate lets the manufacturer insure that the discount is passed along to the consumer, and not held back by the distributor or retailer.
• The limited-term nature of the rebate program creates an incentive for the consumer to purchase immediately.
• In a sea of competing products, the rebate offer sign on the shelf draws attention to the product.
• Most importantly — the company offering the rebate knows that many rebates will never get redeemed at all.

How many never get redeemed? I thought I’d go looking…

According to the Consumer Reports Shopping Blog, 4 out of 10 rebates are not redeemed by consumers. 40%! That sounds high to me, and there was no source cited for the statistic, but I did some further web searches on the topic.

Estimates seem to be all over the place, at least in part due to different methodologies and definitions. I saw non-redemption numbers everywhere from 99% down to just 1%. But 40% seemed like a reasonable enough estimate. 

Doing a little math with my recent purchase as an example…. I’m going to make a few off the cuff estimates for the sake of argument:

Logitech’s cost to make the keyboard/mouse kit: $15
Logitech’s price charged to Circuit City: $40

With those numbers, we can compute that, prior to any rebate, Logitech would have a 63% gross margin on the product. To compute the post-rebate margin, I use the formula:

[Sale price - Mfr cost - (Rebate * Redemption %)] / Sale price = Post Rebate Margin

Assuming a 70% redemption rate, Logitech’s margin is -8%. At 60% redemption rate (the inverse of Consumer Reports’ non-redemption average), Logitech’s margin is 3%. At a 30% redemption rate, Logitech’s margin is 33%.

So what’s the incentive for the manufacturer to pursue this program? Contribution margin, baby. Drive sales volume with the rebate program, run the smokestacks at full blast, and then hope the buyers skew towards slackers who don’t redeem rebates.

This is all well and good, but getting back to where I started off on this thing, the mathematical model I build above leaves out a softer number– what is the value of the damage to the company’s reputation in the eyes of consumers frustrated by having to jump through hoops to realize their expected sale price? Good luck computing that one, but I think it’s safe to say it’s not $0.

Interesting that highly admired companies (Apple, for example) don’t do rebates. The ones that do?

• Players in commodity-type markets (as a way to differentiate when all the products, such as wireless keyboards, start to look the same)
• Players who lag the market whether through inferior or undesired products and must buy share by any means necessary (ie. GM)
• Players with a short selling window, ie. Quicken’s annual Turbo Tax rebate comes to mind.
• The little guy who wants to buy a little of your mindshare.

Read more background on rebates at Wikipedia if you’re interested.