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The real basis of rational pricing

Setting a priceHere's a great recent conversation that I just had to share.

Picture yours truly facilitating a Board away day, and the Operations Director repeating this argument:

“Look, they’re all telling us we’re too expensive. Just last week we had a letter from one customer demanding an 8% cost reduction. We have to plan for lower margins”.

I asked how sales were performing, and he replied “We’re in double digit growth, so there’s still a chance we can still hit the same cash profit if we keep our costs down.”

I’ve written before about the power of Anchoring, but it still amazes me how one letter and a few conversations can completely obscure reality: sales are booming and will probably continue to do so.

Here’s the thing: you can form your beliefs from what people tell you, or from what you actually see happening in front of you. When the two conflict, you need to think very carefully about the motives, and self-interest of the person doing the telling. Because when it comes to setting a price, there are only three factors that really matter.

Value: How much is your product or service worth to the other party? How much money will it make her and how much hassle will it save her?

Alternatives: What alternatives does the other party have to using you? What compromises would he have to make, and what premium can you justify to save him from having to make them?

Relationship: What is the lifetime value of the relationship? How much of an investment are you prepared to make on each transaction in order to secure her loyalty?

I often come across as anti-price cutting, and while that’s not actually the case, I’ve never once met a CEO who couldn’t use an injection of cash, so I merely insist that there is a fact-based and properly thought-through rationale for giving it away in order to secure a sale.

BOTTOM LINE: In any negotiation your counterpart is always going to ask for more, for less. It’s your job to separate the rhetoric from reality

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