How to Adjust Pricing Strategies to Achieve Higher Profits?
One of the most decisive indicators of a company's strength is its pricing power. If you can raise prices without losing business to competitors, your company has a strong business model. Otherwise, the outlook may be problematic.
Pricing Power as a Health Indicator of a Business
Cost-based pricing ensures a company's survival, and pricing aligned with competitors often mirrors the industry's profit levels. During a market downturn or price war, companies relying on cost-based pricing face survival challenges. Only those with the ability to surpass cost-based pricing, unaffected by competitors, can achieve higher profits. As Warren Buffett once said, “The most important indicator of a company’s health is its pricing power. If you can raise prices without losing business, your company is in a great business. Otherwise, it’s a bad business.”
This illustrates that pricing power is a key indicator of a company's health. Adjusting prices by just 1% can result in a profit change of 20% to 50% (Hinterhuber & Bertini, 2011).
Despite being aware of the importance of pricing, few companies prioritize pricing management. Even among Fortune 500 companies, less than 5% have dedicated pricing management functions (Hinterhuber & Liozu, 2012). Interviews with Hong Kong and mainland Chinese business owners reveal various perspectives on product pricing:
1. Some state that their prices follow market norms.
2. Others indicate that prices fluctuate based on customer and market conditions.
3. Some set a fixed profit margin of around 20%.
4. Some mention that pricing and actual sales prices differ depending on the customer, sales staff, and product quantity.
5. Others claim that they don’t control pricing and focus on reducing costs within a given price framework.
Dr. Hinterhuber, in his work It’s Time to Adjust Your Pricing Strategy, highlights that companies must have a clear pricing model to achieve higher profits. He identifies three common approaches: cost-based pricing, competitor-based pricing, and customer value-based pricing. Additionally, a company's ability to transact at the original set price—referred to as "price realization"—is crucial for profitability.
Current Pricing Models of Hong Kong Companies
A study evaluating the pricing practices and price realization abilities of 48 Hong Kong companies across various industries provides insights into how these companies can adjust their pricing strategies for better profits. Nearly half of these companies set prices based on cost, while price realization capability was moderate, scoring 51.53.
The study revealed the following challenges:
Heavy reliance on cost-based pricing (49.32%), while price realization capability remains weak. Cost-based pricing limits the ability to achieve high profits, and weak price realization indicates difficulty in maintaining profitability. This aligns with findings that sales teams often resort to disclosing cost prices to secure deals.
Price realization capability scored at an average of 51.53, with executives and finance personnel rating it lower than sales teams. Larger companies with over 5,001 employees had the lowest price realization score (48.08). These companies, mainly in manufacturing sectors, often rely on OEM models and have limited pricing flexibility.
Younger companies have a lower price realization capability (48.30) compared to the average, while companies aged 10-20 years achieved higher price realization through competitor-based pricing.
Many Hong Kong companies express a desire to adopt customer value-based pricing while maintaining tighter control over price deviations during transactions. But how can they adjust their pricing policies to achieve higher profitability?
Steps to Adjust Pricing Policies for Higher Profits
Implementing a new pricing policy involves a fundamental management change that goes beyond simply changing product prices (Forbis & Mehta, 1981). To improve profitability through pricing, companies must address corporate culture, organizational structure, pricing processes, and pricing systems. CEOs should lead this transformation, ensuring a collective shift in pricing mindset across the organization.
Here’s an eight-step process to successfully adjust pricing policies:
1. Create a sense of urgency for pricing policy adjustments.
2. Build a team that is trusted and committed to the initiative.
3. Set clear, simple, and motivating pricing goals and strategies.
4. Communicate these new goals and strategies to all relevant personnel.
5. Empower teams by removing obstacles that hinder the implementation of the new pricing model.
6. Ensure quick wins to build employee confidence in the new pricing model.
7. Sustain momentum until the pricing policy is fully implemented.
8. Establish a new company culture that embeds the habits necessary for the new pricing strategy.
Recommendations for Hong Kong Companies
To achieve higher profits, Hong Kong companies should focus on improving the quality of their products and services, while gradually enhancing their pricing strategies:
Target the Right Market: Define market positioning clearly and focus on product competitiveness, expanding business opportunities without fixating on individual customers.
Strengthen Internal Capabilities: Offer competitive services, solutions, and products that provide clear value to customers.
Correct Deviations: Enforce better control over pricing deviations and establish processes for handling price adjustments beyond the original price.
Avoid Internal Conflicts: Standardize procedures for handling special pricing requests to prevent unnecessary price concessions.
Monitor Competitors: Continuously refine pricing strategies by considering competitor actions and customer value perceptions. Equip employees with better understanding of competitors and alternative offerings.
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