marketing strategy

Which Digital Cameras Offer the Best Value?

Posted by Roger J. Best on September 28, 2012
Pricing and Value Metrics / No Comments

PRODUCT PERFORMANCE

FIGURE 1: DIGITAL CAMERAS

The performance of competing products can be measured in a variety of ways. One source of product performance ratings is provided by Consumer Reports. CR rates products on a 5-point scale that ranges from poor to excellent for different aspects of performance. We converted the overall performance scores to a zero to 100 scale. A score of 50 would be average. Scores above 50 would be above average on overall performance.

Figure 1 illustrates the product performance ratings for ten digital cameras along with their retail selling price. The ten digital cameras displayed in this table ranged  50 to 90, with an average of 72. Selling prices ranged from $130 to $300 with an average price of $206.

WHAT IS A FAIR PRICE?

FIGURE 2: FAIR PRICE LINE AND CUSTOMER VALUE

When these ten digital cameras are graphed based on  performance and price we can see some obvious variance in the relationship, as shown in Figure 2. For example, the four digital cameras rated as 70 in performance vary in price from $130 to $230. The “Fair Price Line” in Figure 2 is a least-squares regression  estimate of the relationship between price and  performance. All Fair Price Lines run through the average of price and performance (shown in red). The Fair Price line represents what one would expect to pay for a digital camera based on performance. For example, the Canon A590 is priced at $180 with a performance rating of 80. The fair price based on the fair price line would be $223 for this level of performance.

WHAT IS CUSTOMER VALUE?

Customer value is the difference between a product’s fair price based on performance and its selling price. For example, the Canon A590 has a positive customer value of $43 as shown below:

The five digital cameras above the fair price line all have negative customer values as their selling prices exceed their fair price based on performance. The five digital cameras below the fair price line have a positive customer value that ranges $21 for the Pentax M50 to $71 for the Fuji. The fair price, selling price, and customer value is shown in Figure 3 for all ten digital cameras.

FIGURE 3: FAIR PRICE AND CUSTOMER VALUE

CUSTOMER VALUE AND PRICING

Digital cameras with a negative customer value are overpriced for their level of product performance.

Manufacturers have three options in an effort to improve customer value and offer a more competitive product:

  • Lower price while maintaining the current level of product performance
  • Improve product performance while maintaining the current selling price
  • Lower price and improve product performance to achieve a desired level of customer value

Products on or near the fair value line are priced at or close to their fair price add little or no customer value. The three pricing strategies above apply to these manufacturers as well.

What about a product that offers too much customer value? While positive customer value is attractive for customers, it is not beneficial to shareholders. The margins for these products could be higher while still offering an attractive customer value. For example, the Fuji J10 has a performance rating of 70 and is selling at a price of $130. However, the fair price for the J10 is $201, providing positive customer value of $71. At a selling price of $149 the Fuji J10 would still provide a positive customer value of $52 as shown below:

This is still a very attractive customer value and the value provided is still higher than any of the other competing digital cameras. At a selling price of $149, the company is able to add $19 of profit margin to each digital camera sold. In this example, we would argue that the company underpriced their digital camera based on their performance and the price-performance of competing products. The goal in value pricing is to find a selling price the offers an attractive customer value and provides a good profit margin for the company.

EXPERIMENT WITH VALUE PRICING

You can find this example at www.MBM-Best.com under the Chapter 4 Marketing Performance Tools. All the data presented in this blog is provided in tool 4.2, Price-Performance Value Mapping. By changing the price and/or performance of any digital camera you can see how their fair price and customer value changes. This example is also presented in Chapter 4 of Market-Based Management, 6th edition on pages 132 to 134.

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Apple’s Incredible 5-year Performance

Posted by Roger J. Best on February 22, 2012
Marketing Profitability / 8 Comments

Between 2007 and 2011, Apple’s sales grew from $24 billion (2007) to $108 billion (2011). This growth in sales is the equivalent of creating 12 average-sized Fortune 500 companies or creating a new company the size of Procter & Gamble ($82 billion in 2011).  However, the astronomical growth in sales is only half of the Apple success story.

As shown in Figure 1, Apple’s gross profit as a percent of sales also grew from 34 percent in 2007 to 42.2 percent in 2011, due to the exploding growth on higher margin products such as the iPhone and iPad. Apple was also able to reduce it’s spending on marketing and sales from 9.3 percent in 2007 to 5.3 percent in 2011. This allowed marketing profits as a percent of sales (marketing ROS) to grow from 26 percent in 2007 to 37 percent in 2011.

Marketing profits are measured as net marketing contribution (NMC). Net marketing contribution is composed of three major components: sales, percent gross margin and marketing & sales expenses (M&SE). In 2011, Apple marketing strategies produced total sales of $108.3 billion. The percent gross margin was 42.2 percent and their investment in marketing and sales was $5.7 billion. As shown below, this produced a net marketing contribution of roughly $39.9 billion.

Marketing profits pay for all other expenses, interest and taxes, resulting in a net profit, as shown in Figure 2. The goal of marketing strategies should be to grow net marketing contribution, not simply sales. Also shown in Figure 2 is the relationship between Apple’s net marketing contribution and operating income (profit before interest and taxes) for the last 5 years. This is an incredible correlation and one not found in all companies.

Marketing Profitability – Ratio Metrics

In order to make comparisons between different companies, many financial metrics are expressed as ratio or percentage metrics. Financial metrics, such as return on sales, return on assets, return on equity and return on capital, are percentage metrics that help gauge the relative performance of a business. The same issue is relevant for comparing the marketing profitability across businesses, product lines, or markets that are drastically different in sales.

To make fair performance comparisons we have two marketing profitability ratio metrics. The first is marketing return on sales. As shown below, this is simply the net marketing contribution produced by a region, market, or company divided by its sales. Apple’s marketing ROS in 2011 was 27.5 percent.

Marketing ROI

A topic that seems to perplex many is how to measure the return on a marketing and sales investment. We have taken a financial approach, which is simply net marketing contribution divided by the investment in marketing and sales needed to produce that level of net marketing contribution. As shown below, in Apple’s marketing ROI was 701 percent in 2011.

Figure 3 examines the relationship between marketing ROI and operating income as a percent of sales for a sample of Fortune 500 companies. In general, companies with a higher marketing ROI have a higher pre-tax return on sales. As shown, Apple has steadily improved its marketing ROI as it improved its operating income as a percent of sales. The growth rate of Apple sales and profits may be difficult to sustain at the levels of the past 5 years, but we can expect their marketing ROS and marketing ROI to remain at levels that other companies can only dream of.

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