When most businesses set their prices, they do so assuming that customers will generally buy only one of a single product each time. They don’t even set these prices with any great sophistication and generally assume a single purchase for each sale.
However, they do understand that there is a high cost and a great deal of effort required to achieve each sale. All of the firm’s marketing and brand promotion, and a lot of its infrastructure has been created in the broad hope of generating sales and therefore a small part of all these costs is applicable to every sale.
A part of growing a business is to increase the value of each sale, and pricing can be a key tool in achieving that goal.
This chapter includes:
The four ways to maximize each sale
It makes sense to most business owners and managers that they should seek to exploit the opportunity and maximize the sale at that point.
There are four ways to achieve this:
1 By selling a greater volume of the items than the customer intended to buy; ie they asked for three reams of copy paper and the salesperson persuaded them to buy a box of five.
2 By selling them complementary products at the same time. When a customer buys a book on Amazon, there is always a panel with other ideas under the heading Customers that bought this product also bought these… . In a large number of businesses this will be seen as the sale of one core product, together with the various consumable items or additional features of the service. As consumers we see this situation when we buy a TV or fridge and are offered the five-year extended warranty option.
3 By persuading the customer to buy a higher specification product that has a higher price. This could be as simple as a more expensive wine from the menu in a restaurant, or it could be upgrading to business class. Car dealers advertise their cars at the entry-level price and then seek to get customers to buy the higher specification model. A vehicle listed at £14,000 can easily increase to £25,000 for the top of the range.
4 The final way is simply to charge more for the same product; ie increase the price.
If you do not take the opportunity to maximize the sale at that point, the chances of that customer coming back to spend with you again are greatly reduced. If you are looking at option 1 above, there is a possibility that they may come back and buy the extra items when they need them, but there is always a risk that they may go somewhere else.
Consider a DIY person who wants to paint a room, and they are unsure of how much paint to buy. A website suggests it will be between 2 and 2.5 litres. A good paint sales assistant would offer, ‘Buy the 2.5 litre tin, and an extra 0.5 litre tin just in case. If you don’t open the second tin, bring it back for a full refund.’ Many businesses offer this return policy knowing that statistically very few ever return things, even if they didn’t actually use them. If they don’t push at the initial sale, there are countless situations where a customer that didn’t buy on the first visit, gets by and does not come back to buy on a second visit or for various reasons ends up buying from somewhere else.
In option 2, there remains some possibility that the customer will come back and buy these complementary items from you at some point, but there is a greater risk that they won’t buy them at all or that they will shop somewhere else when they do decide they need them. If, for example, a salesperson fails to mention the extended warranty on the fridge we have just bought, the chances that we will actively seek out alternative cover from someone else, or even take up the offer from the insurance company’s automated prompt letter that arrives a week later, is almost nil. For all sorts of products and services, if the opportunity to sell add-ons and extras is missed at the original point of sale, then it is lost forever.
Most importantly, if you are looking at option 3, a failure to up-sell to a higher-value option at the initial sale will lose the opportunity permanently. If the salesperson didn’t persuade the customer to move from the entry-level car to a higher specification model, the odds on the customer coming back to upgrade are nil, because they will now already own the other model. With this kind of up-selling, you have one shot to get the value up.
What these examples demonstrate is the need to explore properly all of the up-selling and cross-selling options at the point of the initial sale. Some of these are clearly down to the skill of the salesperson to raise and explain the benefits of various options.
I have even heard salespeople start a pitch with the line, ‘I guess you don’t want the extended warranty option on this machine do you?’
Even if the customer might have taken up the warranty offer, it is highly unlikely that they would after that introduction!
Ouch!
However, getting customers to buy more of the same, complementary or higher-priced options is also driven by the prices of those options.
Using price to up-sell and cross-sell
If you can increase the overall value of the sale with extras or upgrades, you can afford to be flexible on price, since you will avoid the costs of trying to win a second sale, and the risk that you might permanently lose that opportunity.
So how do businesses do that?
There are a number of things that you could consider.
Let’s look at a business selling, repairing and servicing garden equipment. This includes simple items such as hand pruners, spades, etc, and extends to lawnmowers, hedge trimmers, and to top-end items such as large ride-on mowers.
The customer wants a lawnmower but is undecided on the choice of machine. The salesperson should explore the key issues such as size of lawn area to be cut, whether it is level ground, has lots of shrubs, is close to an electricity supply, etc. Part of this is to establish the customer’s needs, but it is also to get some indication of the customer’s price threshold by showing top, middle and bottom options and gauging their reaction.
A good dialogue will narrow this down to just a few options for that customer to consider. Clearly the salesperson won’t be able to sell higher volumes – the customer only needs one lawnmower – but selling extras or pushing for a higher quality and hence a higher-priced machine are still options.
This could boil down to offering a choice:
1 14” blade electric lawnmower, with two-year warranty and a 10 metre cable at £149.99;
2 16” push petrol mower with a two-year warranty for £299.99;
3 18” self-propelled cylinder petrol mower with two-year warranty for £759.99.
Assume that the business applies the same 40 per cent profit margin to all machines. This means that the profit from the one-off sale of these three options is around:
2 £120.
3 £304.
The business wants to sell the higher-value machine to generate a greater amount of profit. The salesperson will need to explain the features and benefits of each model, but can also consider a number of other issues. Let’s also assume that all options would be OK for the customer and that it is therefore a genuine choice for them based on personal preferences, affordability and their assessment of value for money.
A petrol machine needs more looking after and the salesperson knows that few owners are diligent on maintenance and so there are often problems starting it the following year. Many therefore come back for a service. In short, the lifetime value of a customer will be much more with petrol machines than the cheaper electric one.
So how can he nudge the customer towards the higher-priced options?
What if the salesperson explained that every petrol mower came with a free Petrol Mower Kit, which includes:
As far as the customer knows, these items are valued at a total of almost £88. If you recall the Value Scales from last chapter, this free kit heaps a lot on the side of the customer’s perception of value, and may well be enough to persuade the customer to choose either of the two petrol mowers rather than the electric one.
The salesperson could also suggest that if any customer buys a mower that costs more than £500, they will also get a free strimmer worth £100, which the salesperson knows only costs him £60 to buy.
Clearly, there are ways to build up packages that help to persuade each customer to spend a little more based on the increased value being provided with the higher-priced options.
Now look at this from the business’s perspective.
If the business is prepared to offer a free £88 kit with any petrol mower, why don’t they just reduce the price of the mower by this amount, and perhaps some customers will buy all those parts anyway? There are two issues. First, as explained above, many customers don’t buy these extras at the point of sale, and won’t come back later. Second, it doesn’t cost the business £88 to deliver them.
Let’s look at the value and cost of each component:
|
Item |
Cost to deliver |
Value to the customer |
|
Oil |
£5.00 |
£9.99 |
|
Free first service |
£20.00 |
£59.99 |
|
Cleaning kit |
£4.00 |
£12.99 |
|
Maintenance tips and safety sheet |
£1.00 |
£5.00 |
|
Total |
£30.00 |
£87.97 |
If the customer chooses the top machine, this generates a gross profit of £304, so that with the cost of the free kit (at £30), and with a free strimmer (at £60), there is still more profit in this choice than in any of the others.
It is always better to make the Value Scales tip by adding more value, than by simply reducing the price.
A welding-supplies business developed a package with consumables and safety gear that came free (or at a special price) only when a customer bought the higher-value welder. The objective was to add high value to the customer’s side of the Value Scales but at smaller cost, rather than just knocking the price down to make the sale.
In creating these bundles they identified a whole bunch of slow-moving stuff on the shelves, with some split packages or with cosmetic damage. After some deliberation, they created a Surprise extras box. This included £100 worth of welding-related items that would come free with the higher value machines. The small print confirmed that all the contents were able to be used for general welding or specifically for the machine being bought (ie it wasn’t junk). However, it was a surprise, and the customer did not know what was included until after they had bought their machine.
What was the cost to the business?
The usual margin on consumables and safety equipment was 35 per cent, so the cost of these items was a maximum of £65, although the customer perceived them to be worth £100. However, it was better than that. Clearly the items they chose to put in the surprise box were the things that had been sat on the shelves for a long time, and which were in danger of becoming obsolete. It was quite possible that they would have a problem shifting them at all, and hence the real cost of giving them away was very little. They estimated that the real cost was no more than £25.
The result was a perception of the value of this bundle at £100, at a cost to the business of only £25.
Customers loved the idea. They all liked the surprise element, and the fact that it was £100 worth of goods for free, and it was therefore often enough to nudge them over the edge to buy the more expensive machine options without the need to discount the price of that machine.
Microsoft is another company with a number of bundled packages. The Office suite of products includes well-known components such as Word, Excel, PowerPoint and OneNote. Customers could opt to buy these as standalone versions of the software for £80 each, alternatively they could buy the whole suite of Office programs for just £100.
What every customer does is to add up the component prices and see that the whole suite would cost almost £290, compared to the bundle for just £100.
Even more interesting is that Microsoft offers a bundle that includes three copies of the whole suite of programmes for just £90; ie it is £10 cheaper to buy three copies than it is to buy just the one.
So why would Microsoft do this? Clearly Microsoft invests huge amounts in developing their software, but once they have this, the actual cost of delivery is negligible. In fact all the programs can be downloaded rather than shipped on disc, so delivery cost of one or a dozen items is essentially nil. They know that many families own a number of PCs and laptops and that if the software was expensive, they might only have the Office suite on one machine for work or homework, using the others just for browsing the internet, social media or gaming. Therefore offering a bundle of three copies is attractive to many customers.
In fact, a review of the Microsoft website shows a huge number of bundles that customers can opt for, with every option showing a bundle with that item matched with something else.
The whole point of bundling is to maximize the value of the sale to the customer at the point of the initial sale, so that opportunity for extras does not walk out of the door when the customer does. The key is that businesses are prepared to be more flexible on price when customers buy higher volumes, additional items or higher specification items because there is more profit to be made out of the overall sale. If they can actually hold their prices and add value through adding-in low cost but high value extras to the sale, even better.
What Microsoft have done is to set their prices for the bundles they want to sell at a price that they know will make them a good profit and be good value for money to the customer, and then uplifted substantially the cost of each component of the bundle to make the bundle look exceptional value for money. Do they ever sell a standalone version of Word? Probably not.
There is another aspect to the issue of bundling.
Offering choices increases the value of the sale
When you look at all sorts of businesses you will see that they often bundle things into three simple options for customers to choose. These may be differentiated by higher-value components, in which case the language can be:
Or they differentiate based on the quantity of the item:
Although even this has evolved into:
There are even some businesses that offer bundles that are not based on quality or scale, but just on a different range of choices, such as the Sky deals where a basic entertainment pack can be upgraded with:
Or Orange Mobile offering bundles called Dolphin, Canary, Panther, Racoon and Camel!
What all of these bundling options are seeking to do is to nudge the customer into spending a little bit more each time, as each upgrade option seems like better value for money; ie the more you spend the more you save.
There has been a lot of research into how offering choice affects customers’ spending habits, so let’s start with a simple choice of Gold, Silver or Bronze. The idea is that it will be obvious to each potential customer that as you move up from Bronze to Silver and then Gold, the service levels, quality or range of elements in each option will increase, but so too will the price.
Of course there should be a price differential, as Silver and Gold options will cost more to deliver and are of greater value to the customer, but there is also an underlying psychology as to why people will choose each level.
You probably know of someone who when given choices of Gold, Silver or Bronze, would choose Gold by virtue of the fact that it is the most expensive and therefore assumed to be the best option available, irrespective of the apparent value for money of that choice. Buying the top option is a statement about them. There are some customers where the cost simply doesn’t matter as they have enough money so that this individual spending decision has no impact on them, so that they buy Gold just because they can’t be bothered to think about the price/value issues for a comparatively small spend for them; ie like asking a millionaire to choose Gold, Silver or Bronze car-cleaning products that are priced from £20 to £40.
You may also know a good number of people who would always choose Bronze for the same, but opposite, reason; ie they are inherently price-sensitive cheap customers that adopt a make-do approach to all their spending decisions; or there are those that can only afford the entry-level option irrespective of the value for money that Silver or Gold may offer.
If you do nothing else than to offer several choices where the increase in the cost of delivering the product or service is matched exactly with an increase in the price charged, you will find a proportion of your customers buy Gold, some Silver and the rest buy Bronze.
Offer only one price level based on one simple product or service offering, and you may well miss out on customers at either end of the spectrum. Like a one-size-fits-all clothing policy where you are forced to buy the largest size so that people can at least wear the clothes, offer standard price only, and you are usually forced down to the lowest price that is acceptable to all or most of the customers you deal with. When this happens and you allow yourself to set your prices low, you make less profit from the Silver- or Gold-style customers you almost certainly have somewhere in your customer list. Alternatively, if you stick with one standard price and set it too high, you may lose some of your Bronze ones altogether. By offering multiple levels you have a chance to hit the spot and maximize profit from a wider cross-section of your customer base.
If you do offer multiple price levels, this will involve each higher level having extra value elements at an extra cost. Let’s just ignore the actual costs differential of the options and consider where you should set the price points for Silver and Gold to differentiate them from Bronze? Lots of research into this area has concluded a number of interesting points.
Alternative price options affect the perception of value of all options
If any option is priced highly, the perception of the value for money of the lower-priced options increases. Let’s say that your one-size-fits-all standard price would have been £100, and you surveyed 1,000 customers on whether they thought £100 represented good value for money, you might get 500 to agree that it was. If you now offer an option of a Gold price at £300, Silver at £200, and Bronze at £100, and you then asked another 1,000 customers the same question of whether Bronze represented good value for money, you might now get 750 say that it was.
The only difference is that the customer is no longer making an assessment of value from a single price option, but seeing £100 in context with two much higher alternative prices. It simply appears to be better value than the other options.
But if the Gold and Silver options were set at £120 and £110, then Bronze would seem poorer value by comparison, and many would consider upgrading. So perhaps only 250 of our 1,000 surveyed customers would see Bronze as value for money.
Our customers’ perception of value, and hence their willingness to buy, is directly affected by any comparison to alternative options we offer them.
JN Boat Supplies Limited
Setting price differentials properly
So how do you set the prices of each option?
Let’s start with a situation where each level matches an increase in value with the increase in price. Bronze is £100. Silver is twice the price of Bronze at £200, and is twice as valuable (by most customers’ assessment). Gold is three times the price of Bronze at £300 and three times as good. That is, Silver and Gold are not better deals, just inclusive of more elements at fairly increased prices.
The decision for each customer is therefore predominantly affected by their natural bias towards the Gold, Silver or Bronze options that they would normally default to, based on affordability, the significance of the spend to them or their natural bias as high spenders or cheap customers.
There are several things they could try:
So which is the right answer?
Every business will be unique, and the value elements it can offer to create multiple options will vary enormously. When you try to develop multiple options, you will be amazed at which customers will upgrade and which ones don’t, and at how much various customers will or won’t pay to move. This goes back to the point made in some of the earlier chapters, which is the need to do some research into what your customers want, and what your competitors are offering.
It does involve some trial and error to establish what the perfect position for you is as the business owner or CEO/director. Only by testing can you find the place where you capture maximum value from your naturally Gold customers, but still keep the Silver and Bronze ones at prices that work for you and for them.
However, here are the critical issues:
• There must be some visible differentiation of the product and service that reflects broadly the price differentials you set; ie you cannot set Gold price at £100 more than Silver if the only obvious difference is a free pen that costs £5. However, as covered later, it is more often you that sets the expectation of value, for example by saying the price includes installation, which is normally charged at £75.
When you look at how you bundle up your products and services into multiple levels, make sure that the differences are explained well and that the value offered broadly reflects the extra price.
• Ideally, the gap between the top two options should be smaller than that between the bottom two. Again, each business will be unique and each bundle include different things, but if you can offer a range and flex prices as you wish, then you really want the decision to upgrade from Silver to Gold to be easier than the decision to upgrade from Bronze to Silver.
• When people assess value for money of a product or service, they often need some sort of benchmark against which to judge. If you offer only one option, then on many occasions that benchmark will be a comparison with another business, and hence increase your risk of an unfavourable comparison. If you offer your customers three choices, they are subconsciously lulled into making their assessment of value based on a comparison of your offers alone. Which one they choose is less important to you than the fact that they are at least choosing one of yours. Many businesses develop packages to include the obvious extras that the customer will need anyway such as consumables, or an annual service, and which customers simply don’t consider at the point of the initial purchase. When these issues are explained during the selling process, the customer is left with a feeling that perhaps the alternative supplier is either hiding something, hasn’t explained the sale very well, or may just assume that all of that alternative supplier’s extras are likely to be expensive. Offering three choices rather than one will increase your chances of any sale, and quite probably of a larger or more profitable one for you.
• Having an expensive option makes the other options seem much better value for money. A restaurant had a range of choices for main courses between £15 and £25. As you would expect, they sold fewer of the £25 meals than they did of the cheaper options. They then added a £35 menu item and monitored sales over the following six months. They sold very few of the now most expensive meals at £35, but they did sell many more of the £25 option. All that had changed was that the £25 option became seemingly better value when compared to the new £35 top choice.
MSL computers limited has developed a Platinum service level that they never expect to sell, but whose only purpose is to make the previously top-priced option of Gold, seem better value by comparison.
Although there may be merit in having four, five, six or even more options on the basis that the more offers you have the greater the chance that one will hit the spot perfectly with each customer, research has suggested that even just four choices can be enough to confuse customers into not making any choice at all. Most people are able to understand very quickly the idea of Gold, Silver and Bronze or, Supersize, Large and Standard, and find it easy to place themselves quickly into the category they naturally fit whether Top, Middle or Bottom. So if you are starting to consider how you can package what you do into bundles, stick with just three to start with.
Part of the purpose of bundling is to try and find a better way of making the Value Scales balance than taking the easy option of simply discounting the price. As a supplier you will usually be prepared to be more flexible on the deal if the customer is spending more, so if you can add bigger bundles on the customer’s side of the scales you can afford to adjust your prices to make the scales tip or to add value greater than the cost of supply.
But it is a little more complicated than that as each option to add extra value into these bundles rarely has the same costs to supply. What businesses need to consider is the impact on them of each option they can use to make the scales tip, the more expensive the option is to deliver, the greater the pain for them as the supplier.
This issue is known as the Price of Pain.
You will recall that in Chapter 2 we talked about the Pleasure and Pain Principle; ie that buying decisions are made based on achieving pleasure or avoiding pain. What a supplier should be aiming to do is to add maximum pleasure to the customer’s side of the Value Scales for the lowest pain on their own side.
Return to the example of the welding supplies company. A customer wants to buy a new machine with a list price of £1,000, but knows that there is a deal to be had. The various possible outcomes and the level of pain associated with each are listed below, in the order of the most to the least painful.
Table 6.1
|
The deal |
Customer pleasure |
Supplier pain |
|
Sale at £1,000 price with a ‘standard’ trade discount of 20% |
£200 less to pay |
£200 less income |
|
Sale at £1,000 price but bundled with a basket of ‘FREE’ extra goods with a list price of £200 |
Bonus £200 worth of extra goods |
Cost of extra goods at say £150 |
|
Sale at £1,000 price with a ‘FREE’ year’s service agreement normally charged at £200 |
Bonus of £200 of added value |
Real cost of service at say £100 of labour |
|
Sale at £1,000 price with free on-site training and annual telephone support |
Bonus of £200 of added value |
Real cost of service at say £50 of labour |
|
Sale at £1,000 price but with clearer explanation of the value of the product and benefits of dealing with the company |
Greater confidence in the fairness of the the deal |
Extra time to achieve the sale at say £25 |
As you can see from the options above, indiscriminate giving of discounts is by far the most painful option, and this is explained in great depth in Chapter 10. A discount of £200 is £200 less sales income, £200 less profit, £200 less cash to be collected, and ultimately £200 less money in the bank.
Simply taking the time to sell properly, explaining the features and benefits, and handling objections, payment terms, delivery schedules, etc is by far the cheapest option of them all. However, most businesses start at the most expensive option of discounting, not the cheapest of selling better. If they started at selling better, and worked through the other options of free training, free servicing, free extra goods or whatever are the additional offers they could bundle into the deal, only giving real discounts off the price as a last resort, the average costs of making the deal happen would reduce substantially.
The key is that bundling your products and services into compelling offers that encourage the customer to spend more, appreciate the value of the features and benefits that you offer, and that allow you to add the items that have high value to the customer at lower cost to you, will make your overall profit will increase considerably.
Offering your customers choice will improve your chances of making a sale, although this does require some selling skill to explain and persuade customers to upgrade. If all you do is ensure that your salespeople explain the features and benefits of what you do, better than they do at the moment, sales will increase.
If that choice can be clearly identified as bundles that offer entry-level, mid-level and top-level options, then many customers will naturally gravitate to their preferred option, and some of these will be Silver- or Gold-level customers.
This will enable you to sell extras and add-ons that would in all probability be lost sales if they are simply other products or services that the customer must seek out, or even if they are extras that you point out to them as separately priced options at the initial point of sale.
You need to quantify the pain threshold for you of giving discounts versus the alternatives of bundling extras into competitively priced deals where you add high value but where the cost of delivery for you is less.
1 Do research into how other businesses use bundles to sell their products and services. This should include:
– Speak to some managers in other businesses you know (not your competitors) and ask them what bundles they have. Identify their Gold, Silver and Bronze levels, and look for any Platinums.
– Investigate your competitors’ websites and see what bundles they have that could apply to your products and services.
– Take a walk around your local retail businesses (DIY stores, computer retailers, etc) and note down all of the bundles they use, how these are expressed and priced.
2 Now, get your pricing team of sales, production and finance people to design various bundles that you could offer reflecting increasing levels of value. Set price points for each bundle.
3 Have your salespeople test these options on a few trusted customers, refining the offering as appropriate.
4 Have the team develop training materials to explain the new bundles and present them properly to a wider range of new and existing customers. Organize training for all salespeople to present the new approach. This must include specific training in how to lead the customer into an upgrade, not just to explain the bundles available.
5 Finally, have the finance people monitor the results from these various new offers so that you can reassess the price points and monitor the additional profits flowing from the rollout of the bundles.