Value-Based Pricing

Most products are still priced according to what they cost to produce. But some manufacturers and IT vendors employ an alternative approach, using information technology to help estimate how much value a product would provide to the buyer, then basing its price on that value.

For example, one pharmaceutical maker priced a new antiulcer drug, but not by adding up the costs of developing and manufacturing the medication and tacking on the amount of profit it wanted to make, says George Cressman, a product pricing consultant at Strategic Pricing Group Inc. in Marlboro, Mass.

Instead, the company used value-based pricing techniques to justify a higher price than it might otherwise have been able to get from medical insurers. Its weapon: studies that showed the new drug could help patients avoid expensive surgery, which in turn would lower costs for the insurance companies.

The goal is to avoid setting prices above the ceiling of what someone will pay -- and also to make sure you don't give away the store by charging too little.

The problem with traditional cost-based pricing approaches "is you don't know what value your product offers to customers," Cressman says. "You can end up leaving money on the table and not getting paid what your product is worth."

Pricing Strategies

Strategic Pricing Group is a consulting firm that helps corporations design and implement value-based pricing strategies. Its clients include companies in mainstream manufacturing markets such as chemicals, pharmaceuticals and metals.

Another client, a chemical company, based the price of its pipe-sealing gaskets on the cleanup costs and potential liabilities that buyers could avoid because of the products' ability to prevent chemical leaks and spills, Cressman says. He declined to identify either company.

Some software vendors, such as i2 Technologies Inc. in Dallas and Aspect Development Inc. in Mountain View, Calif., use value-based pricing. Their software license fees depend on the amount of internal savings that individual customers expect to get by using the applications -- a figure the two sides try to determine during a presales consultation.

To assess a product's value for one of its clients, Strategic Pricing Group starts by conducting in-depth interviews with a set of the manufacturer's customers that are similar to one another -- sometimes eight to 10 companies, sometimes "significantly more" than that, Cressman says.

Each interview can last as long as two hours. Shorter surveys of customers are usually too superficial to produce the detailed information needed to "show them what impact (a product) will have on their business and what it's worth to them," he adds.