Value based pricing, setting the price of a product based on the perceived value to your customer, is a complex topic given the array of factors that can go into a customer's perception of value. This is often contrasted with cost plus pricing, which is based on how much it costs to produce a product plus some producer defined "margin". Value based pricing might be considered something of an ideal for both the producer and the consumer, but there are some interesting edge cases that are aggravated by our accounting systems.
One value based pricing scenario is if the cost of some aspect of your customer's existence can be calculated and the value of your product significantly reduces that cost then you can price your product so that you "split the difference" with your customer. The customer's costs go down when they purchase your product and you sell your product and presumably make a profit. Lots of subtlety in the ultimate price, but that's generally the pattern.
I was listening to Dan Carlin's Hardcore History this morning. This is a podcast that I HIGHLY recommend since it will give you a better handle on what humans are really like. In this episode he describes an instance of value based pricing that I think is pretty interesting. During the early portion of WWII the Axis powers (Germany, Japan, etc.) conquered a huge portion of the available planet. Imagine if at their peak the Axis had said, "Hey Allies, tell you what. We'll give back 50% of all we've conquered and we can call the rest of the war off. Everybody wins." By current accounting methods and short-sighted MBA decision making this would have been a great deal. The Allies would have gained a large piece of land and would avoid the costs of continuing the war. Of course it didn't happen that way. The Allies declared Total War and demanded Unconditional Surrender, which turned out to be the right thing to do. At least in this case.
I've often asserted that "the answers are not in the spreadsheet". This is because the spreadsheet only provides a "keyhole" view of the situation. Today, data driven decision making is all the rage, but it's the same problem. It doesn't make you aware of or ask questions about factors that aren't in the spreadsheet or the explicitly gathered data. Worse yet, it can cause you to believe that factors not in the spreadsheet are irrelevant. Note that this is not to say that the spreadsheet is irrelevant, just insufficient and potentially misleading.
That being said, we are computational devices. We have no choice. We make decisions and those decisions are a function of the information that's available to us. Whatever the source of that information. Our decisions generally improve as more relevant information is considered. In the WWII case above, simple instantaneous benefit or even near term future benefit would not have been sufficient information to make a good decision. The Axis needed to be crushed for the sake of the wellbeing of the rest of the planet. For the Allies to make the decision that they did required including more data than was included in the offer. First, looking at the recent past and noticing that the perceived 50% gain is actually a 50% loss, the territory that wouldn't be returned. Second, that leaving the Axis intact would perpetuate their threat to future security and any near term gains would likely be lost over the longer term. This consideration is a process that I call upscoping.
If a decision is a function of a collection of known factors then these factors are called the decision context. The trick is that the decision context is a function of a collection of other factors. This is the decision context's context. In order to trust that the factors in a decision's context are sufficient it's important to evaluate the decision context's context. Calling WWII off after a 50% loss would have in fact benefited many people, particularly those who lost their lives after a deal like this might have been made, but it would have been a significant loss and source of problems for all of the Allies. Note that a decision context's context's context may also need to be evaluated. This progression often leads to a philosophy, a collection of "terminating" factors that aren't further evaluated, just so we can make a decision and get on with life.
Our accounting systems are weak because they don't demand inclusion of these extended factors. They can be included because arithmetic is fairly agnostic. Choosing to include these factors is more of an art than a technology. Attempts are made in several domains. Certified B Corporations are an interesting example. Systems thinking and systems analysis may be the nearest things we have to a methodical approach to considering these extended factors. In my opinion, these are skills that should intentionally be taught to our kids at an early age. Unfortunately, the opposite seems to be the case. We have far too much investment in teaching philosophies that terminate thinking far too soon.
No comments:
Post a Comment