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JWPM Consulting

Relationship Pricing

30 November 2021

Relationship pricing is a flexible pricing model that aims to achieve a target average profitability for products or services delivered to a customer rather than attempting to hit the profit target on every sale.

Relationship pricing is more associated with the delivery of services (for example, financial services or professional services) but has applicability to the delivery of products as well. Mostly, it is also associated with long term business relationships and not one-off transactions or projects.

During the life of any long term customer relationship, at some point the customer might start thinking that the supplier is becoming too comfortable and they decide to push back on pricing. The concept may be introduced to them by their accountant, or they have recently been visited by your competitor who has impressed them with a low-balled offer, or they simply believe it is good business practice.

Typically they will pick on one or two products or services that are easier to compare and suggest you should supply them at a lower price - in other words transfer some of the profits from your business to their business.

Price push back is a test

Firstly, you should understand, in the long term business relationship, price push-back on a single (or handful of items) is often simply a test.

Should you squirm in your seat, start stammering, or overreact ("...doth protest too much, methinks") then your client will think they are on to something.

Leaving aside the theatrics, you could resist, but in so doing you may put in peril the entire business relationship which may include higher margin products or services for which they have less alternatives or for which you are particularly competent at supplying. Is it worth jeopardizing the account and/or letting another supplier in the door?

There is an old saying "don't win the battle, if it costs you the war."

Which is a great analogy, but suffers from perhaps being couched in military terms where a great business relationship isn't a contest but a partnership, however, what it means is adopting a strategic approach to pricing rather than focusing on the tactical short term wins.

This means occasionally letting your customer have a win.

Relationship pricing - what is the customer worth to your organization?

The more sophisticated approach (and which is more appropriate to a long term relationship - where, in all likelihood, you probably get along on a personal level really well) is to calculate the total value of the business relationship as an aggregate, and not sweat the occasional low margin sale or loss making deal. Instead of focusing only on the cost recovery of single transactions, pricing now considers the whole customer relationship.

This concept is being increasingly adopted by the banking industry and in professional services firms.

Relationship pricing - what is your organization worth to the customer?

Turning it on its head, the alternative perspective is to view the business relationship from the customer's point of view. If your organization is providing a service that demonstrably adds value to your client's business (or solves some particularly nasty problem) then it is easier to provide a less detailed invoice that might simply say...

"For professional services rendered between Date 1 to Date 2 - {Insert dollar amount here}."

If you experience "fee resistance" then either you haven't adequately explained (or sold) the value of your services, you actually didn't deliver much value, or your customer simply doesn't get it.

Some people want to see justification for how you arrived at the total.

However, detail can be an illusion. Pushed hard enough, a professional services firm can cobble together a detailed invoice. Being facetious, instead of one fictitious number, you get a page of fictitious numbers that add to the same total.

In reality, the professional services relationship pricing model is based on the cost of delivering the service (hours recorded on a time billing system) with some adjustment up or down to take account of the value of the outcomes.

In a well balanced business relationship the customer doesn't particularly care how the total was arrived at and instead pays the fee because they value the services highly and shopping around is both too hard, not likely to achieve a more cost effective service, and in the process they may lose access to a trusted advisor.

Pro-active relationship pricing

The above examples of where you need to give ground on pricing are reactive situations; the customer made the call and you have reacted.

Relationship Pricing is also about being pro-active; you always want the customer to be seeing each invoice and thinking "bit steep, but fair enough."

Particularly when providing services (where the invoiced amount is calculated on time and materials), unjustifiable cost overruns can occur (i.e. your organization put more hours into a job than were needed). In this situation, you may choose to simply wear the extra cost and not pass it on to the client; it's not worth risking upsetting the client.

Alternatively, sometimes you nail a project quickly (usually because you know the subject well) and this is an opportunity to recover costs; again, the aim is to achieve a target average cost recovery to ensure the client relationship is valuable to you the supplier, and the customer feels they are getting value for money.

Relationship pricing is about achieving a sustainable win-win business relationship

Advantages of relationship pricing

  • Efficiency for both supplier and customer: relationship pricing enables both side to focus on collaborating to achieve business outcomes being comfortable that the remuneration structure is fair and reasonable for both parties. Becoming overly focused on managing price and spending time discussing charges is distracting.
  • Detailed billing systems lead to pointless conversations: The more detail you put into an invoice the more likely the customer will query it. This is particularly true when delivering services. Business relationships based on trust don't require a lot of detail, and as pointed out above asking for detail will simply invite creativity. I say "pointless conversations" because nit-picking invoices rarely achieves much for the customer and is time consuming for the supplier. A more sophisticated customer knows the supplier is profiting from them - should they really care how they are doing it? If they believe they are being gouged then they should take their business elsewhere, likewise the service provider needs to prudently ensure they are not being perceived as overcharging. Best achieved by not overcharging.
  • Finding customers is costly: Clearly, the cost of winning new business is high. An existing customer relationship is worth fighting for simply because if you decide to 'hang-tough' on pricing and not give an inch you may lose the customer and find that you need to ramp-up efforts to replace them.

Disadvantages of relationship pricing

  • Some customers are simply too hard to please: they try to make every post a winning post and will exploit your willingness to please. This is why it is important to monitor the overall profitability of the business relationship and ensure that despite sometimes accepting a loss or low margin transaction, on average you are reaching an acceptable level of profitability. However, sometimes the customer just isn't worth the low margins and the grief. Best to let them go and allow them to drive your competitors crazy. You might even recommend one.
  • Sales people can't help themselves: knowing that the organization is willing to be flexible on pricing is sometimes too tempting for some sales people or account managers, at the first hint of concern from the customer they drop the price. Again, this is easily monitored with modern accounting software where it is easy enough to push a button and find out the profitability of any customer. Monitoring and controls need to be put in place. Discounting is the laziest method of winning or retaining customers and needs to be deployed judiciously. Relationship managers need to be skilled in applying the occasional discount rather than adopting it as a routine practice.
  • Regular review and discipline is required: If you decide to adopt relationship pricing as a pricing strategy (as distinct from using it as an occasional tactic) then it is necessary to also have in place a regular review of customer profitability. Make sure it is meeting the objective of maintaining profitable customer relationships rather than just giving away margin.
  • Do you have the systems: Particularly true in larger organizations, sometimes the customer has relationships across many departments. In banking for example, the customer may have dealings with business cheque accounts, loans, credit cards, leasing, and foreign exchange. Each department has their own performance targets and systems may not enable the viewing of the total customer relationship profitability. This is an example where an organization that has invested in IT systems can gain a competitive advantage through relationship pricing.

By Justin Wearne

Further reading

Price strategy in marketing - summary and overview

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