Strategy for Value Capture

Industry and Competitive Analysis

Karel Cool
The BP Chaired Professor of European Competitiveness

© Karel Cool, INSEAD, 2007

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The Value Creation Dilemma

• Customers want “Value for Money”

• Shareholders want “Money for Value”

How to resolve...

© Karel Cool, INSEAD, 2007

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Price: The Great Profit Driver

base case 10% improvement

p = 100 p = 110
c = 50 c = 45
v=1m v = 1.1 m
f = 20 f = 18

100
p 33%

c 16%
50
v 16%

f 7%

© Karel Cool, INSEAD, 2007

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Prices, Contribution and Profit

c = 50 c = 70

p 33% p 100%

c 16% c 70%

v 16% v 30%

f 7% f 20%

...the pricing lever is more important if contribution is small

© Karel Cool, INSEAD, 2007

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The Strategic Importance of Pricing

“...the great majority of the traveling public will buy on

price ... [but] some people will pay a slight premium. I
want to stress that when I say ‘slight’ I mean precisely
that. In our case, we’re talking on average 5% ... However,
that 5% translates into an extra £ 250 million a year.”

Sir Colin Marshall

Chairman, British Airways

© Karel Cool, INSEAD, 2007

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The Profit Maximizing Price

Contribution
p
- actual =

- potential =

100

50 c

1 3

... is customized

© Karel Cool, INSEAD, 2007

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Price Customization

• newspapers at the stand vs. by mail

• cable in rural areas vs. in cities

• on-line searches vs. hard copy print

• over night vs. regular mail delivery

• life insurance at different ages

... may reflect different costs

© Karel Cool, INSEAD, 2007

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Different Prices for Similar Products

• 1st hour in a downtown parking ($8) vs. the 3rd hour ($2)
• hair cut for kids vs. adults;
• purchases by club vs. non-club members
• airline tickets bought at different times
• journal subscription for students vs. faculty
• alcohol for medical or alcoholic beverages
• grapes in champagne vs. table wine
• software for new customers vs. existing customers

... how to discover the willingness to pay ?

© Karel Cool, INSEAD, 2007

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Pricing Along the Curve

• physical characteristics

• personal information

• purchase location

• asking questions

• auctions

• product design

• bundling of products

• time of purchase

© Karel Cool, INSEAD, 2007

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Asking Questions

selling a car ...

... are you new to this area ? ... what does he know ?

... what kind of car do you drive ? ... what did he spend ?

... what do you do for a living ? ... what could he spend ?

... where do you live ? ... how important is our location ?

... are you looking at other cars ? ... how aware is he of alternatives ?

© Karel Cool, INSEAD, 2007

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Product Bundling

Morning ad. Evening ad.

Grocery 1000 400

Theatre 700 600

© Karel Cool, INSEAD, 2007

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Time of Purchase

• time customization

• peak-load pricing

... different demand at different times & no storage possible

• yield management

... selective discounting at selected times

© Karel Cool, INSEAD, 2007

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Yield Management

seat allocation

100

0 30
days prior to departure

© Karel Cool, INSEAD, 2007

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Pricing with Multiple Units per Customer

• volume discounts
for different customers

c
1 2 3 q

• quantity dependent discounts

for the same customer
p

c
1 2 3 q

© Karel Cool, INSEAD, 2007

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Pricing with Multiple Units per Customer

• two-part pricing
for the same customer

c
1 2 3 q

• metering

Rate per copy from same original

total monthly minimum 1-3 4-10 11+
$ 185.00 4.6¢ 3.0¢ 2.0¢

© Karel Cool, INSEAD, 2007

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Requirements for Effective Price Customization

Avoid trading ...

• some products are difficult to re-sell

• warranties tied to a region

• non-tariff barriers

• government rules

• vertical integration

• different products for different markets

• contractual specifications

© Karel Cool, INSEAD, 2007

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Requirements for Effective Price Customization

Implementation ...

• clear communication

• competitive retaliation

• cost of complexity

© Karel Cool, INSEAD, 2007

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Appendix

Self Selection

© Karel Cool, INSEAD, 2007

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Posting Prices

• maximum willingness to pay ($) for return on:

Friday Saturday Sunday

Business 1200 600 400

Tourism 350 350 350

• customers choose the return which maximizes their surplus (S):

S = [maximum willingness to pay] - [price paid]

© Karel Cool, INSEAD, 2007

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Posting Prices
Case 1: return possible on friday ($1200) or saturday ($350) only

Tourist: Sf = 350 - 1200 = - 850

Ssa = 350 - 350 = 0
Business: Sf = 1200 - 1200 = 0
Ssa = 600 - 350 = 250

T and B return on saturday: 350 + 350 $700

Case 2: return possible on friday ($949) or saturday ($350) only

Tourist: Sf = 350 - 949 = - 599

Ssa = 350 - 350 = 0
Business: Sf = 1200 - 949 = 251
Ssa = 600 - 350 = 250

T returns on saturday and B on Friday: 949 + 350 $1299

© Karel Cool, INSEAD, 2007

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Posting Prices

Case 3: return possible on friday ($1149) or saturday ($550) and sunday ($350)

Tourist: Sf = 350 - 1149 = - 799

Ssa = 350 - 550 = -200
Ssu = 350 - 350 = 0
Business: Sf = 1200 - 1149 = 51
Ssa = 600 - 550 = 50
Ssu = 400 - 350 = 50

T returns on sunday and B on friday: 1149 + 350 $1499

© Karel Cool, INSEAD, 2007

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Posting Prices
Two part pricing: car rental

Low
F
h
p High

Proposed rate Customer 1 Customer 2

- customer 1 does not rent at [F,p] since the fixed fee F is too high
- customer 2 does not rent at [F,p] since the price / km p is too high

A choice among two different two-part prices satisfies each customer

© Karel Cool, INSEAD, 2007