Inforte's Pricing Strategy Delivers Strong Margin Improvement And Foundation For Industrial Manufacturer

Company Background

Our client, a Fortune 100 industrial manufacturer, was dealing with multiple issues from surging raw material costs, aggressive competitors and tough customers.

Business Issue

Competitive pressures, commoditization and industry consolidation are just a few of the factors driving an ever increasing downward pressure on margins for today's manufacturers. Historically, most companies have sought to address these issues by focusing on "supply side" initiatives, such as strategic sourcing, lean manufacturing, or supply chain management. Unfortunately, the benefits from these types of initiatives have been largely exhausted, making it progressively harder to achieve incremental financial and operational improvements.

Nonetheless, significant improvement potential remains via demand side initiatives, especially pricing. However, most executives are hesitant to explore pricing as an alternative citing inadequate data availability and quality, unclear ownership, incomplete business processes, and deficient technology. These issues are further exacerbated by a limited understanding of the interaction of pricing with other go-tomarket issues, such as customer segmentation, cost-to-serve, and channel management. Under these circumstances, many executives feel as though they don't control pricing and rely heavily on market trends and competitive moves to determine what the price should be.

Inforte believes that this situation can be remedied via a fact based approach to pricing that systematically considers the strategic, process, and infrastructural needs required for an effective pricing capability. This approach incorporates a series of qualitative and quantitative diagnostics that identify the key root causes of pricing pain points within an organization.

Based on this understanding, a pricing improvement roadmap can be developed that balances financial and operational objectives with organizational constraints. As a result, executives have a pragmatic approach to develop a pricing capability that generates financial returns while simultaneously illuminating other go-to-market opportunities.

Increasing Raw Materials, Aggressive Competitors, and Tough Customers

Our client was facing significant business challenges as raw material prices had surged more than 40% in a matter of months. Local and regional competitors were increasingly cutting prices to protect market share. Consolidation had transformed the customer landscape and the remaining players were leveraging their size and increased buying power, utilizing professional sourcing groups to squeeze every last ounce of value from suppliers.

Needless to say, profit margins were significantly and continuously eroding as they struggled to meet unforgiving corporate goals. Pricing improvement offered the potential to reverse the trend. However, they recognized their current capacity to improve pricing was somewhat limited - they had inadequate tools to synthesize their data for insight and while a fundamental pricing knowledge was present it was scattered throughout the product, sales, and finance groups.

Inforte was engaged to apply focus and expertise to help them understand the potential opportunities from pricing and develop an improvement program that could simultaneously raise their corporate capability and produce results in the short term.

Inforte's Solution

Inforte conducted a holistic Pricing Diagnostic that consisted of a series of quantitative and qualitative analyses aimed at establishing the current state of pricing performance, relative maturity of pricing capabilities, the potential improvement opportunities and the effort required to achieve those improvements.

We found that pricing was generally reactionary, unstructured, and supported by limited point-in-time analytics. Moreover, it was conducted in an environment with limited accountability, supporting processes, or corresponding business rules. These issues manifested into three primary sources of profit leakage:

• Discounting had no formal policies or procedures regarding which customers get what price or when or at what volume, resulting in many low value customers receiving the same 'deal' as the most valuable customers.
• Contract negotiations did not take place in a timely manner as many contracts operated on expired terms or were priced at levels from previous years. In addition, no indexing or renegotiation clauses were in place to accommodate potential rapid changes in the cost of raw materials.
• Supplier costs were not fully recognized in pricing changes - in many cases, supplier costs had increased 20% more than downstream pricing.

Given these issues, the organization was losing a minimum of 1% to 2% annually in return on sales. Nonetheless, pricing was not in and of itself the root cause of the problem. Rather, it reflected a lack of a detailed understanding of competitive alternatives, customer segments and their corresponding cost-to-serve. As a result, our client had little understanding of its most valuable customers or what its customers valued from them. Since the prevailing pricing practices did not reflect these factors, significant money was left on the table during customer negotiations, or worse yet, caused unprofitable deals.

To address these issues, we developed an approach that reflected a fact based understanding of their customers, costs, and competition. Once complete, the organization would have a pricing capability that reflected the cost-to-serve, the value they provided to various customer segments, and what their best competitive alternative might be.

Business Benefits Delivered

Based on the findings from the initial diagnostic, Inforte worked closely with key client stakeholders to develop a pricing roadmap closely linked with the strategic objectives of the company. The initial phase consisted of three distinct, yet closely related initiatives that capitalized on short term improvement opportunities, increased the organizational momentum for pricing, and laid the foundation for a long term strategic pricing capability.

• Quick Hits consisted of a series of short term, tactical improvement actions designed to capture pricing improvement opportunities within three to six months, thereby funding future pricing efforts.
• Infrastructural Development incorporated of a series of process design efforts, governance structure, training sessions, and system updates that provided a systematic approach and supporting tools to develop and execute pricing, evaluate customers, and analyze competitors.
• Customer Strategy involved a series of analytical techniques to understand the true cost to serve each segment and provide recommendations to improve pricing with minimal impact on volume.

Most importantly, these activities were conducted in close concert with key client stakeholders from finance, sales, information technology, and operations. The benefit of this approach was twofold - first, it considered the relative maturity of pricing within each function and second, it gave key personnel an opportunity to absorb key pricing concepts and tools. As a result, the adoption of new pricing processes and tools throughout the organization became much easier.

Client Reaction

Less than six months after the initial diagnostic, our client realized an additional 1% in return on sales, improving profits by more than 15%. Over the next twelve months, an additional 1% to 2% of return on sales is expected as the organization systematically pushes its capability forward and applies its knowledge to refine product and service offerings and where appropriate, adopt a value based pricing and selling approach.

In addition, our client also realized significant operational improvement as the revised processes, ownership, and metrics increased the throughput of contract re-pricing efforts, capturing significant lost revenue from expired contracts priced at the previous year's level. The increased throughput pushed overall contract margins up 1.7% and back inline with the annual target. Furthermore, price increases now accurately reflect the changes in supplier costs. Additional gains are also expected as the sales force can now manage customers with an understanding of which costto- serve attributes (such as support channels, rush orders, etc.) can be modified with minimal impact, extracting greater value from each customer and transaction.

Given these changes, market and competitive dynamics no longer dictate pricing changes. Rather, decisions are based on a thorough understanding of customer value and competitive alternatives, enabling pricing decisions that make sense.

Words of Advice

Historically, executives have relied on supply side initiatives to improve overall profitability. Looking forward, incremental gains from these types of initiatives are becoming increasingly difficult to realize. Given its ability to drive short term results and illuminate broader issues within go-to-market strategies, pricing should be one performance improvement lever to consider.