Expert question: How to use value-based pricing?

Anonymous A asked on Feb 21, 2019 - 3 answers

Hey all,

I'm wondering how you determine the price when applying value based pricing, let's say I invented a machine that enables teleporting and but the client is unwilling to operate the machine themselves and wants to sell it to another company.

Which price would I command?

1) Cash flows we would generate if operating the device ourselves? Multiplied using a multiple or doing a DCF (running until eternity)

OR do I also need to take into account

2) additional cost savings/additional revenues (i.e. through image increase) the acquiring company would be able to realize due to this device (i.e. airline company purchases the teleporter, thus gets an image increase and sells more flights on top) - I assume this will be difficult since we don't know exactly how much the synergies will be and those synergies will be very dependent on the individual acquirer?

Hope anyone can answer this.

Thanks a lot.

3 answers

  • Upvotes
  • Date ascending
  • Date descending
Best Answer
Anonymous replied on Feb 21, 2019

Hi,

My short answer would be you should use value-based pricing if the market allows it. According to economic theory your price should depend on the value you deliver and the cost you provide it for (vs the competitor value and cost). And a customer will choose the product where this gap (between value and cost) is highest.

In some very competitive markets (e.g. oil, retail) it wouldn't be possible to do vlaue-based pricing, because competitors are using cost-based pricing and if you would try to use value-based pricing your prices will be too high.

In your case you seem to be dealing with a new technology with no other real substitutes, which would fit value-based pricing. Now you should analyze all the options that you have (selling the product yourself, licensing it, selling the idea to an airline, selling the idea to the governmen..) and choose the option that has the highest value.

Yes, often this is not easy, but making and verifying those assumptions is an important task for a consultant. In this case I wouldn't be too worried about making the assumptions on the synergy level, since the uncertainty on how many people will use the device and at which price is much larger.

Jorrit

Vlad replied on Feb 21, 2019
McKinsey / Accenture / Got all BIG3 offers / More than 300 real MBB cases / Harvard Business School
Book a coaching with Vlad

98% Recommendation Rate

350 Meetings

5,000 Q&A Upvotes

USD 319 / Coaching

Hi,

Value-based pricing can be done in 2 ways:

  • For existing products, you identify what is the economic value and perceived value for the customer. Also, you compare the value proposition and features of your product vs. the VP of your competitors. If you have a significant difference in value prop - you have to define how much value you propose to the customer in $ terms. (e.g. your product may have additional customer support, better packaging, additional features and thus should be priced hire. Or it should be priced the same and you will win the market share due to these differences)
  • For the new products / markets, you can calculate the closest alternatives and think how much additional value we provide by replacing them. Think of the discount airlines compared to trains or buses

Best

Abdulrahman replied on Feb 27, 2019

Hi,

Kotler & Keller (2016) define Value Pricing when companies offer a reasonably low price for a high-quality offering (which has more of an impact on the operational model). It seems to me Perceived-Value Pricing is more suited to your situation as you will need to factor in several elements before being able to price the new invention/product (i.e. product performance, warranty, quality, customer care post-purchase, etcetera). These factors are value-added, but also incur costs on the buyer's end.

Additionally, when selecting the Final Price, you will need to wrap your head around how the product and price will impact the buyer, how would it affect the company after the sale, what risk is buyer going to take on board, especially true when making a big purchase.

I would study the case of Google's Glass product. Not an identical case, however, there are great lessons learnt on Pricing.

References:

  1. Kotler, P., Cunningham, M. H., & Keller, K. L. (2008). A framework for marketing management. Toronto: Pearson Prentice Hall.

Related BootCamp article(s)

Interviewer-Led vs Candidate-Led cases

Case Interviews can be led by the candidate or by the interviewer: In Candidate-led cases the main challenge is the structure. In Interviewer-led cases the main challenge is to adapt quickly

Pricing

Pricing case studies can either stand alone or be a part of another case study. You can crack pricing Case Interview in three steps: Investigate the company; Investigate the product; Choose a pricing strategy

Related case(s)

Bank envelope

Solved 45.9k times
4.4 5 1825
| Rating: (4.4 / 5.0) |

Your client, Customlope, is the leader in the US secure envelope manufacturing industry. Banks buy these envelopes for operations such as money deposits and high value transactions. Next year, a new digital technology will reduce the overall number of units sold in the industry by 25%. In the shor ... Open whole case

Fysikum

Solved 33.9k times
4.4 5 2131
| Rating: (4.4 / 5.0) |

Your client, Fysikum, is an operator of squash centres in Sweden. The squash centres include sauna, spa, pool, gym and of course the squash courts. Due to the extreme success in Sweden the company is considering expanding to other countries of Europe, in particular Germany. Therefore they asked us ... Open whole case

Shaving & Co

Solved 32.3k times
4.4 5 1345
| Rating: (4.4 / 5.0) |

Our client is an international CPG (consumer packaged goods) firm called Bryan, with multiple business units (toothpaste, batteries, skin & body care, among others). They are the global market leader in every market they play in except for the hair removal market. They came to us ... Open whole case

McKinsey Questions

Solved 31.7k times
4.5 5 830
| Rating: (4.5 / 5.0) |
Difficulty: Intermediate | Style: Fit interview | Topics: Personal fit

Tell me of a situation where you had an opinion and no one seemed to agree with you. What was your goal when you decided to join university / work / clubs / a sports team? Did you have a goal that you were not able to reach? What did you do? What do you want to be remembered for and how are you a ... Open whole case

BCG Questions

Solved 21.4k times
4.5 5 184
| Rating: (4.5 / 5.0) |
Difficulty: Intermediate | Style: Fit interview | Topics: Personal fit

What arouses your interest when you are working / studying / doing another activity (from the CV)? Tell me of a time where you had no idea what you were doing. When did you use an uncommon approach to do something? Have you ever had responsibility for other people? Tell me of a situation where y ... Open whole case