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Define and price for your market starting at end market values!

An optimal route to market for any particular product or service will depend on many things; the modus operandi of your organisation, the characteristics of the market and preferences of customers within it to name just three. Whatever your approach, distribution, selling and support must be provided by someone and their costs passed on to the end customer or the business will not be viable. The culture of your company or even your country of operation will have an impact on your ideal route to market but if you plan to expand your sales channels at a later date, for example perhaps to include; distributors, commissioned agents, a direct sales force and or catalogue sales channels, you would be wise to plan for this from the very start. The relative power of individual operators or levels in the supply chain will also tend to determine how much of the total margin available is made at each stage and examination of this one fact can establish where the powerful operators are at a point in time and level in a supply chain.

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Pricing models:

- Cost Plus:

Price during wartime was often determined on a "cost plus" basis. A predetermined margin was added to product cost to form the price. During peace time and in so called "free markets" such an approach is probably not optimal and it is questionable even in time of national need.

Though I am discarding cost-plus pricing for this article, costs are of course vital. They determine the lowest price a company can profitably trade a product or service and imply the volumes which it must achieve to remain above break even.

- Market Pricing:

Market pricing involves establishing the value of the market and its trends, the unit prices being paid within the market, finding a credible position within that range which is consistent with your offering and your strategy, and deducing the margins and volumes which should be available from different channels into that market. (while outside the scope of this article, you will benefit from understanding economic pricing theory including for example the concept of price elasticity.)

- Discounted pricing:

Discounted pricing is where you (assuming you are a producer) start by looking at market pricing to establish a recommended retail price (RRP). You start with this because this is what you estimate your end customers at the end of possibly many and various sales channels will be happy to pay for your type of products.

This RRP may bear little resemblance to the actual unit price you will receive for the product, there are some operators in various markets selling at 90% discounts off their RRP which at first sight seem absurd.... but RRP simply is the best place to start.... at the end customer from whom all demand is derived.

Once you have established your RRP you can work back from there, calculating how much each level of various sales channels will need to buy the item for, in order to be viable. You can then plan to give them pricing calculated as a % discount level off your RRP price list and have a good idea that they can work with it.

- Fictional example: Mid range Hi-fi system with an RRP of $200

Assume you are the manufacturer and you are going to want to supply this globally via retail outlets and retailing catalogues, duty free outlets and via distributors selling other items. Each step the product makes must make a margin to cover that steps distribution and logistics costs etc...

Example route to an overseas market into retail outlets.

Starting at the end customer who buys from retailer for the RRP of $200 The retailer whose revenue is $200 per unit sold buys from a wholesaler at at a 50% discount off RRP or RRP$200 x 0.5 = $100 leaving the retailer a margin $100 per unit sold above purchase cost to cover their costs of selling and logistics with their multiple local stores.

The wholesaler who gets $100 total revenue per unit sold to retailers, buys from import/export sales agent expecting to make a 20% margin (less because they are handling in bulk and logistics are therefore simplified), buys at $80 each from the import/export sales agent making $20 each to cover their costs.

The import/export sales agent who makes $80 revenue each when selling to wholesalers, buys the unit direct from the manufacturer expecting to make a 15% margin because of their extensive links with wholesalers in the target country but minimal logistics, they buy at $80 x 0.85 = $68 each.

So having researched and established this route to that market for this product the manufacturer can plan to expect that "import/export sales agents" be offered terms equivalent to $68 of the RRP of $200 which could be described as "0.34 of RRP" or a 66% discount off RRP.

Note: The Manufacturer will know that to sell through that channel they can expect to get $68 each for these Mid range Hi-fi system which end customers like you or I pay the RRP of $200 each for in the shops. (these figures are made up for example purposes, I have no idea what the relative margins are in this particular market).

If the direct costs associated with making this product are parts $25, labour $10, plus direct tooling and machinery capital writing down costs of $5 per unit making a total product (production) specific unit cost of $40 The manufacturer will make a gross margin of $28 per unit or 28/68 = a 41% margin.

From this 41% margin, $28 per unit, the manufacturer must be able fund all their fixed costs including management and administration, production management, development engineering, their own sales and marketing efforts, buildings etc etc.... I will leave this example here but you can easily see the extra value in the chain that may be released for the manufacturer when selling in their own home market should they be able to remove one tier from their supply chain if they can achieve that without losing market access and relative volumes.

- example 2 : Notebook Computer with an RRP of $1,000

Here again the punter buying this product from a retailer can expect to pay around the Retail price of $1,000 give or take flexibility in local prices.

The issue for the notebook maker remains how to get the product to market... a number of distribution models are available including that described above or various direct selling methods.

Obviously the unit selling price which is directly available to the producer changes drastically depending on which parts of the distribution chain they decide to operate in house, as also do the logistics, sales and marketing overheads and support costs associated.

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Market Value and Structure:

How you describe your market determines how big or small it appears to be. It also determines how you measure your share and position within it. Most significantly your choice of how you define your market will affect how you price your offering for it, and while your market definition may reveal or obscure opportunities your pricing decisions can enable or disable you from accessing them.

Assuming you are a specialist outdoor pursuits clothing manufacturer, you may define yourselves as a supplier to distributors for the outdoor pursuits sector and value that market as the total sales of such products to distributors selling into "outdoor pursuits".

- You will appear to have a higher market share of that niche than if you compared your sales to the market for all clothing products at distributor input prices, or if you compared your sales to the market size for all outdoor pursuit products.

- You might also limit the perception of opportunity for your company if you value your niche at the prices paid by distributors because while these may be your immediate customers, the end users or end customers for your products are paying much more as shown in the fictional Hi-fi example above.

Challenges to RRP:

Over the years many premium brand owners have sought to varying effect to force retailers to sell at their RRP. Many Brand owners perceive price consistency as vital to a cohesive marketing strategy and the positioning of their branded offering. Further the higher the actual retail price the product achieves, the greater room to manoeuvre is retained by the brand owner.

In Europe, and a number of other markets, legal precedent and or commercial reality has changed the landscape such that Brand owners are more limited and often cannot legally restrict supply of their products to retailers who are selling below RRP prices.

In practice this often means you can only enforce the price your direct customer pays you, not the price they or others sell it onward at.

Do not throw away your discounted price lists or discounted pricing models because of this, they are still one of the easiest ways to monitor power and profit through the various levels of a supply chain.

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Summary

Pricing models such as "discounted pricing" exist to cope with the many and various supply channels available. If you are a manufacturer, producer or brand owner, bearing this system in mind from the start and evaluating your supply chain using it may save you untold grief.

Time may prove you are unable to force your view of the world onto independent operators in the supply chain but returning to your "discounted pricing model" and feeding reality back into it will at least allow you to learn where the money is being made and may illuminate decisions on vertical integration or alternative supply channels like for example e-commerce or other direct selling methods.

There are many and varied ways to define your market but at least one of your routine methods should measure at the end customer price level and end customer market value to ensure you see the picture enlarged by the effects of the supply channel you are using.

Author: Mark Abraham mark@sticky-marketing.net 07 April 2001