The current combination of shipping challenges and surging economies has caused an inflationary shock. The result? Significant price increases. Many companies have been caught off guard by this development and – in an effort to maintain their margins and thus enable re-investments in their business – they automatically raise prices. While this is an understandable reaction, our advice would be to deploy a very nuanced, strategic increase rather than a generic one, designed to simply pass-through higher costs. We defined 3 key questions regarding customer segmentation, willingness to pay, and communication that should be the foundation for this strategic approach.
With prices for raw materials, energy, and shipping still increasing and amid ongoing uncertainty about when they will stabilize, there is no better time for companies to consider strategic price increases. Their goal is not only to minimize margin erosion, but also to ensure sufficient funds to re-invest into the company for future development, to enable employee growth, and to support causes. The challenge: Increasing prices in an already inflation-ridden economic climate requires thoughtful strategic reasoning and execution.
3 key considerations for strategic price increases
Companies need to define a suitable strategy to capture incremental willingness to pay without alienating consumers. Where to start? An effective price increase strategy revolves around three key questions that companies should consider:
1. What is the strategic rationale behind the price increase?
Analyzing and defining the goal of your price increasing measure is paramount to its success. With more than thirty-five years of pricing expertise, Simon-Kucher can help guide companies to:
- Align prices to willingness-to-pay: Implement a pure price increase across the portfolio (with no incremental value) to correct for systematic undercharging.
- React to competition: Create an appropriate competitive gap that aligns to relative price positioning in the market. This may include following competition or maintaining a favorable competitive position.
- Charge for added consumer value: Ensure that innovations in the product or service roadmap are properly captured in the portfolio and any new value provided is properly monetized.
- Pass costs through: Determine whether it’s necessary to pass through some or all of the costs to the consumer.
- Differentiate product roles: Ensure companies are taking a segmented approach to price increases and maintaining core strategy (e.g., land and expand or traffic-driving vs. margin-building) for their entire portfolio of products and services.
2. How much should I increase prices?
Another important decision to consider for a strategic price increase approach is the height of increase. It is often most effective to keep your prices just below consumers’ psychological thresholds. There tends to be minimal elasticity when price increases do not cross these key thresholds, which enables many companies to maximize revenue and profit with minimal impact to volume. The strength of these key price points are company and strategy related. The magnitude of the price increase is best determined in one of two ways:
- Less frequent but larger price increases: This scenario works best for companies that do not make revolutionary changes but collect a lot of small improvements to their offering over time. This is also a good option if the operational complexity of implementing a price increase is prohibitive. In this situation, it is best to shift prices to the next level.
- Frequent but smaller price increases: This scenario is effective for companies that are continuously rolling out new features, benefits, products, and services that provide value to consumers. In this situation, smaller price increases work best. A good rule of thumb is to raise prices by roughly 10 percent.
In both cases, it’s important to estimate the potential churn or backlash to the desired price increases. We recommend conducting a market survey to understand the acceptability of price increases across consumers and to quantify the net impact to their business.
3. How should I communicate the price increase to my existing consumers?
Defining a strategic price increase approach can be challenging and requires significant preparation. We can help guide best practices for the key consideration companies need to undertake in this regard. In certain situations, price increases may not need to be communicated to existing customers.
What are the key components for communicating your price increases (if you choose to do so)?
- Determine the optimal communication channels whether it is push (e-mail or app notification etc.) or pull (via website, blog posts etc.)
- Highlight the rationale and context for your price increase by linking it clearly to the benefits consumers will receive from the incremental value added to products and services or investments in innovation.
- Be transparent but minimize the magnitude by choosing to communicate either the total price increase or the percentage, whichever creates less friction.
- Give advance notice and grant a grace period if relevant (typically applies to subscriptions / recurring purchases)
Conclusion: A strategic approach and clear communications are keys to a successful price increase plan
Many factors should be considered to implement a successful price increase strategy. Considering three core questions will help you to define a suitable strategic approach. Keeping in mind how much you charge -- and how you communicate it -- are both equally important for successful price increases. And once you determine your process, your optimized pricing will enable you to cushion the inflationary shock most effectively.