Pricing excellence drives topline growth, boosts profits, and is a company’s most effective profit driver. But how can pricing be discussed transparently with analysts and used to fulfill shareholders’ value creation targets for the year ahead? Simon-Kucher meets this challenge with its new metric, Enterprise Value of Pricing ® (EVP) and introduces four scenarios for harnessing pricing power.
C-level executives at leading publicly traded companies are no strangers to pricing power. They are fully aware of the untapped profit potential in their topline that could be harnessed through better pricing. Yet talking about pricing and topline growth with shareholders without hard facts opens up a real can of worms. On the one hand, it’s important to send a compelling message about pricing and make comparisons with others in the industry. Do so and risk revealing too much private data, or get tangled up in subjective assumptions and rhetoric.
Until now, even the best of equity stories have failed to include one meaningful indicator for pricing. But in the eyes of investors and analysts, the truth is in the numbers. Qualitative assumptions and back-of-the-envelope calculations are no powerful way to link pricing to company value. What’s been needed until now is one simple KPI that clearly expresses the direct impact of pricing power.
Enter the EVP: an analytical snapshot
With its Enterprise Value of Pricing ® (EVP), Simon-Kucher is the first to build the bridge and provide a reliable method for measuring the impact of pricing on shareholder value. This groundbreaking and rigorous approach inspired by the Gordon Growth model provides an analytical snapshot that incorporates market expectations and supports insightful apples-to-apples comparisons across companies and industries. It uses a rich and consistent set of publicly available data, and portrays enterprise value and the benefits of improved pricing in the same units. The EVP can change perspectives, guide planning decisions, and simplify communication. Simon-Kucher clients who have already implemented the EVP have seen their profits increase by up to five percentage points in EBITDA.
“Until now, even the best of equity stories have failed to include one meaningful indicator for pricing.”
So how does it all work? The EVP ratio compares the additional enterprise value generated by a one-percent price increase (Value of Price) to analysts’ expectations for the change in enterprise value over the coming 12 months (Value of Expected Growth).
Let’s say you have an EVP of 0.6. That means that exercising pricing power, as defined by making a one-percent price increase stick, can account for 60 percent of the increase in enterprise value that analysts expect for the next 12 months. In other words, if analysts expected your enterprise value to grow by $3 billion, pricing would be able to supply $1.8 billion of that increase. The higher this percentage or ratio (as shown by the EVP), the stronger the argument that your firm can invest its scarce resources in pricing initiatives as opposed to other growth initiatives.
Pricing power: Opportunity, home run, defense, or weapon?
Not only is the EVP an effective tool for communicating with shareholders without revealing private data, this innovative metric also provides immediate information on how to prioritize pricing initiatives. Simon-Kucher experts describe four scenarios that correspond to the EVP and how in each case executives can best exercise their pricing power.
With a positive EVP, analysts expect growth in enterprise value in the coming year. The only question is how much pricing contributes to achieving that growth. An EVP of 0 to 1 indicates a significant growth opportunity, with enhanced pricing playing a strong role. To exceed or surpass market expectations, companies should focus on investments in pricing, as these have better returns than other growth initiatives.
With an EVP greater than 1, the opportunity for growth is immense and can be acted on immediately in a homerun move. This indicates pricing power has been underestimated or underutilized, with enormous potential to exceed analysts’ expectations. Here even small successes or quick wins can have a positive, material effect on enterprise value.
In contrast, a negative EVP signals that pricing improvements are an urgently needed measure to mitigate poor growth expectations. A value between 0 and -1 requires companies to use pricing as a defensive tool against a lack of analyst confidence in the firm or sector as a whole. This could be due to a poor pricing climate, price wars, unsuccessful attempts to innovate, or outdated strategies. Here pricing initiatives are essential to offset doubts, improve market performance, and create a foundation for more sustainable growth.
If the EVP is less than -1, unlocked pricing power will be a turnaround weapon to transform analysts’ views and eradicate negative sentiments. While structural issues in the market may be a contributing factor, companies with an EVP this low have probably neglected or underestimated pricing in their strategic planning, resource allocation, and market communication. There’s a strong opportunity to shake up the market, and pricing excellence can lead the way.
One powerful number: the EVP
Simon-Kucher’s Enterprise Value of Pricing ® bridges the gap between successful pricing initiatives and shareholder value. As this robust metric is derived entirely from a company’s own publicly available data, CEOs and CFOs can now talk intelligently, comfortably, and openly about pricing and incorporate it into their equity story without raising any alarm bells.
Rather than a gut-feeling that pricing needs to improve, the EVP also gives C-levels confidence that enhancing pricing power will ultimately translate into greater enterprise value. Using this one powerful number, they can explain growth strategies, defend pricing and value initiatives, and identify and seize pricing opportunities. Pricing no longer needs to be a third-rail topic.
Are you a C-level executive at a publicly traded company? Let us introduce you to the EVP in more detail and show you how to use it to your advantage!