Author: Mark Melcher

In this article, the author explores why it is so important to establish the relative value of a product, or the value of a product from the customer’s perspective, before setting product prices and strategies. Mark Melcher is the author of the “Your Pricing Guy” blog, a pricing blog dedicated to providing insights and information to help people better understand the Art of Creating and Optimizing Pricing Strategy. He can be reached at

The Pricing Advisor, July 2017

It depends.  Pricing professionals will benefit greatly during their careers by learning these two words as they form the best response to any question their colleagues, manager or even their CEO asks them.  “It depends,” always works.  The next best alternative answer is, of course, “42”, which is “the answer to the ultimate question of life, the universe, and everything,” as pointed out by Douglas Adams in his novel The Hitchhiker’s Guide to the Galaxy.

But why is “It Depends” the best answer?  Because “It depends,” is always a correct response.  At the risk of sounding overly philosophical, all outcomes are probabilistic if just for the fact that they are dependent upon the earth still existing sixty seconds from now.  Although it is very likely that the world will still be under our feet for another sixty seconds, it is hardly a certainty as an asteroid might suddenly and unexpectedly slam into the earth.  If just for this dependency, “It depends” is always correct.  And secondly, and perhaps more importantly, answering with the words “It depends” provides a pricer with additional time to think about the question and provides an opening to ask clarifying questions.

So what does this have to do with pricing and why is it important to pricers?  One of the key pieces of the Pricing Triangle is Product Value – the other two pieces being Competitive Positioning and Product COGS – if perhaps the most important. And the first thing to know about Product Value is that the value of any product is never an absolute.  Rather, the value of a product is situationally dependent.  In other words, the answer to the question, “How much is this product worth,” is “It depends.”

One caveat I would like to add before going further is that I am focusing primarily on Business to Business (B2B) transactions.  A B2B transaction differs from a B2C transaction in that a business will only purchase a product if the product helps the company save money or make money. Product value as it relates to consumer purchases carries a much stronger psychological aspect to it.  Who knows why we consumers buy some of the things we buy.  I am almost fiscally responsible, yet I’ve still managed to fill my house with stuff that I don’t need.  Now let’s proceed.

We are all aware of the many adages that hint at the relativity of product value such as, “One person’s trash is another person’s treasure,” or “Beauty is in the eye of the beholder.”  Pricers must take these adages as gospel.  In their world, these sayings are not mere maxims, but rather guiding principles.  In fact, if it were possible, pricers should establish as many price points for his product as customers purchasing the product.  With an infinite number of price points, pricers could almost guarantee that they are extracting as many dollars out of a customer’s pocket as possible.

With that in mind, I define Product Value in a pricer’s world as follows: product value is the worth the customer assigns the product based on the product’s ability to meet their business’s particular needs at a given time.  Value from the perspective of the buyer is The Critical distinction when determining product value.

During their careers, pricers will work in close collaboration with their company’s engineers and product managers.  Both of these groups will tend to see the product value through their perspectives.  Unfortunately, their perspectives are usually heavily influenced by things like spec sheets, technical details or worse: their own insular and biased eyes.  They, of course, love their products. I cannot overemphasize this point – engineers and product managers rarely, if ever, think of their product’s value from the perspective of the customer.

An example here might prove useful.  I am going to try to keep this case as non-technical as possible.  I once worked at a company that sold some whizbang software that ran on servers which made the servers more efficient.  Similar to home computers, one can purchase servers loaded with either spinning drives or flash drives.  Those servers loaded with flash drives are more expensive than those loaded with spinning drives, with the advantage being that they are much faster.  The company at which I worked chose to sell the software only on all flash servers.

Why?  Flash drives make the software the company developed run even faster.  Who wouldn’t want that?  Well, as it turned out, a large group of potential customers did not want to purchase all-flash servers because the applications they were running did not require the extra speed provided by flash drives.  The engineers stood aghast while the company quickly lost sales to competitors.

While on paper, the spec sheets may indicate a product is akin to sliced bread, if these specs or features or bells and whistles are not relevant to the customer, then they have no value.  Let me restate this point slightly differently.  If the bells and whistles do not help the business customer save money or make money, then they are worthless.  End of the story.

With all that said, pricers still must solve the problem of identifying the value of the product if they are to price it correctly.  So how do they proceed?

When trying to establish the value of a product, I like to start by calculating the Total Cost of Ownership (TCO) of the customer’s next best alternative.  Said differently, I determine what it would cost the customer to solve his problem if the product I am pricing did not exist.  Let me provide another example to help illustrate how this plays out.  Note, I am going to use a consumer model simply because it is easier to understand than most business cases which tend to involve technology specific jargon.

I will use what I call my “bottle of water purchased at a convenience store” example.  It’s likely that we all have bought a bottle of water at a convenience store at one time or another.  It’s also very likely that we’ve remarked at the seemingly outrageous price for the bottle of water.  More than likely, on a dollar per unit basis, we paid more for the water than we do for gasoline.  We still chose to purchase the water.  Why?  Is it because we like the fancy plastic bottles which house the water?  Or maybe because we like the person at the cash register and need some excuse to speak with them?

My guess is that we purchase the expensive, nicely packaged water from the friendly cashier for two reasons.  First off, we are thirsty.  And secondly, the next best alternative probably has a much higher cost than the bottle of water.  Let’s focus our attention on the second reason.

What are some of the next best alternatives to purchasing the bottle of water at a convenience store?  For starters, we could drive around until we found a Walmart or Target and buy an entire case of bottled water, thereby lowering our per unit cost.  Or possibly, we could take an empty bottle into the restroom and fill it up using the sink taps.  As well, we might choose to carry around a portable water purification system and seek out a nearby creek or pond.  I use this last example to make the point that pricers must use their imagination and consider all possible alternatives, however unlikely.  There are likely many other options, but they all have the same problem; they are costly and probably time-consuming.

Remember you are in a convenience store because it’s convenient.  Convenience implies that your time bound in your search for water.  So driving to a Walmart or Target, walking around the store until you find the cases of bottled water and then standing in a long line to pay for the case of water takes lots of time.

While I mean no disrespect to convenience store restrooms, most are awash in germs.  So drinking the water from the sink taps could prove very costly regarding one’s health.

And finally, assuming that you do find a nearby creek or a pond and have a water filtrations system with you, it’s going to take a lot of time to park the car, walk down to the body of water and then purify it for consumption.

All of this implies that the value of the water purchased at a convenience store is quite high which in turn means that there is a great opportunity to set a relatively high price for the bottled water which is exactly why the bottle of water is relatively expensive.

The same thought process applies to any product or service.  The relevant variables pricers must consider while conducting this exercise are time, place, target customer profile and any other costs associated with the purchase (both positive and negative).

And once pricers go through the exercise of costing out the next best alternatives, they should have a pretty good idea how a customer will value their product.  The important point to note is that the entire process Centers on the Customer, and how he or she assigns a value to the product.  The Customer’s Point-of-View is the only one that counts.  With all that said, establishing the value of a product is truly that simple.

With this key piece of the Pricing Triangle now filled in, I am hoping that I have successfully provided a general understanding of how to important establishing the relative value of a product is.  Remember though, with pricing, the devil is in the details.  I say this because, on its face, pricing is deceivingly simple.  But setting the optimal price is an art and is as close to critical as any business process.

Set the price too high, sales are likely too low.  Set the price too low, sales may be good, but margins are likely too low.  Either of these scenarios produces a similar result — an unsustainable business. Pricers do not want this outcome.  Given a choice, pricers should choose a higher price than a lower price because it is almost impossible to raise the price after the launching the product.  It is always easy to reduce the price.

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