How do you calculate willingness to pay (WTP), or do you at all? In 2014, I posed that question to readers of the Zilliant blog and it continues to be a favorite post. Four years later, the topic is still top-of-mind for B2B company leaders. Recently, I read a great MIT article on the weaknesses of one popular approach to measuring WTP. The concept is evergreen and one that continues to spark curiosity. Today, I’ve got a follow-up question:
When you don’t know WTP, what happens?
This is a natural human behavior in the face of uncertainty about the WTP. It doesn’t matter if she is compensated on margin, revenue, or some combination. There’s an undeniable risk of losing the sale entirely by quoting a price that’s too high and to the sales rep, it feels like playing with fire to push for a higher price when she has no idea what this customer is willing to pay for this order. How sensitive are they to price really, and what price will make the customer walk away entirely? She simply doesn’t know.
While this risk-averse behavior is explainable for an individual sales rep, the aggregate effect is that companies routinely leave money on the table. I’ve seen a common pattern where significant portions of a company’s margin erosion, or failure to achieve increased profitability targets, is actually self-inflicted and caused by this fear-driven over-discounting. Even worse, when this tendency to over-discount rears its head in long-term agreements and contracts, the self-inflicted profit loss due to a lack of incremental revenue is effectively “locked in” for years to come. The results are often placed with unrealistic pressure on other parts of the business to somehow make up for these losses and to continue to increase revenue and profitability margins.
When you don’t know WTP, the risk versus reward dynamic takes over.
This is why willingness to pay is such a powerful idea for improving profitability — it allows sales reps to win the business at the right price without putting their deals at risk. WTP is the missing ingredient which levels the negotiation playing field with competitive pricing at the right price for the customer and the business. Over the last two years, we’ve developed a diagnostic method to analyze a business’s historic transaction data and measure the direct financial impact of sales reps not having this critical WTP information — how a customer will respond to price — at the point of sale.
We’ve learned that, in aggregate, B2B companies are losing profits in an amount nearly equal to 1 percent of total revenue each year solely due to missing WTP and the risk-averse pricing behavior that results. That may not seem like a large amount, but it’s just one component of much larger pricing problems we analyze with our full diagnostic process. In truth, most companies suffer from a wide variety of pricing maladies in varying degrees. The overall severity of the combined problems is significant, having a range of 1.9 to 16.1 percent of total revenue. The good news is a healthy portion of these hidden pockets of profitability can be captured with optimized, market-aligned pricing.
- When they don’t know willingness to pay, sales reps naturally quote a lower, less-risky price
- When you quantify the impact of not having WTP at the time of sale, it’s insightful
- When you quantify the impact of all the pricing symptoms pervasive in your business, it’s time to act
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