Fine-tuning your pricing strategy: uncovering 'hidden profits'.

• Author: Mohammed, Rafi
• Position: PRIVATEcompanies

At most small and private companies, pricing is an unsettling exercise involving a mixture of compromise, seat-of-the pants analysis, guesswork, marking up costs and more or less simply doing things as they've always been done. Responsibility for what should be recognized as powerful business strategy is often implemented by disparate parts of the organization--with prices set by managers, marketing, sales or a "pricing guy"--when it's the financial executive who should have responsibility for shepherding an integrated strategy throughout the organization.

Indeed, since most companies think about (and implement) pricing in the wrong manner, their products are loaded with hidden profits. Focusing on pricing for profits and growth is a low-risk/high-upside concept that enables you to collect the hidden profits.

Pricing effectively begins with adopting the mantra that "pricing is all about value." Companies tend to base their prices on costs, instead of the value that customers reap from a product or service. The reason why street vendors in Washington, D.C., double their umbrella prices at the first sign of rain has little to do with cost. Indeed, it's all about the increased value that customers place on the rain protection. Similarly, even though it costs the same, are you willing to pay the same price for a steak that you order medium-rare if it is served well done? This simple insight, that price should be based on value and not cost, is the first step to recovering hidden profits.

The epiphany to uncovering hidden profits involves shifting the way one thinks about pricing. Conventional wisdom views pricing as the search for one "perfect price" for your product or service--the nirvana where profits are maximized. However, making pricing decisions on this basis inevitably leads to a catch-22. If you price too high, sales are lost from those not willing to pay (but who would pay less). Conversely, price too low and you'll miss profits from those willing to pay more.

Changing pricing perspective involves embracing lessons from an auction--the notion that different customers have different valuations for a product. Consider the bidding wars at auctions: The opening price is usually low enough to create a fast-paced one-upmanship between bidders, with many people participating. As it heats up, participants drop out. Translated into pricing-speak: "It's not worth it to me anymore." The item finally sells to a lone bidder willing to pay the...