Chapter 10: What a CEO needs to do

If a CEO asked me point-blank for advice on how to use price in the best way possible in
his/her company, what would I say? That is not a rhetorical question. I do hear that
question often, and I realize that a CEO is not looking for an answer that begins with “It
depends on your situation …” or “It’s really complicated.” They know that already. They want
more. One recent situation involved a CEO who had been promoted from within to run a
global company with annual revenues of more than $50 billion. He explained that his
company historically placed a huge emphasis on market share , to the point where that
“obsession” had taken root in the company’s culture. That may have been fi ne a few
decades ago, but the company now served far more mature markets than growing ones, he
noted. “So what should I do?” he asked. “What is your silver bullet or secret potion?” I
admitted of course that I didn’t have one. No one does. But I did have an answer. “Lead
your company with a strict profi t orientation,” I said. “And keep in mind that price is the
most effective profi t driver .” “Easier said than done,” he responded, reminding me that his
predecessor would publicly berate his direct reports who had lost market share . “That is
incredibly diffi cult.” I advised him to repeat the “profi t” mantra every day, as often as
possible. He of course will hear the message every time he says it, but others hear it only
once or twice and won’t get tired of it. He also needs to follow his words with consistent,
appropriate actions. One of the most important measures is to base the incentive system s
of the country managers strictly on profi t, not on revenue, volume , or market share
targets. There is also a tactical element which must reinforce the link between words and
action. His company should not start any price war s. It should not respond to every
aggressive move that competitors make. In countries or regions where the company has
market leadership, it should pursue price leadership through a consistent communication
campaign emphasizing the importance of price and value.

Though the long-term profi t orientation matters most, this CEO will need some successes
in the short term. The goal, however, remains: direct the company’s attention and energy
resolutely to a long-term profi t orientation. That requires a focus on value creation . The
most important aspect of price is and will be value to customer. “Good pricing has three
prerequisites: create value, quantify value, and communicate value,” I said in summary.
“That is when you get the price you deserve, the price you need for a profi table business.
And, last but not least, avoid price war s.” If a company can resist the temptation of price
war s and eliminate the stigma of market share losses, it can improve the profi t situation
for an entire industry. In Poland, the company’s subsidiary was number two. The new
country manager ended a price war, which paved the way for price increase s. The market
leader followed. The net result for the number two-company was higher profi ts and a slight
loss of market share. This success marked the fi rst time the CEO did not criticize a country
manager for losing market share, and this sent a powerful signal to the managers in other
countries. Price and Shareholder Value We learned as early as in Chap. 1 that profi t
maximization is the only sensible goal for pricing. When people talk of profi t maximization,
they usually refer to one period, for example a year or a quarter. In reality, one’s planning
horizon should be longer and not limited to one period. The short-term orientation—in
particular the typical quarterly fi xation of publicly traded companies—is one of the most
controversial aspects of capitalism. Management should focus on long-term profi t
maximization . That is identical to saying that a company should increase shareholder
value , or its market capitalization if the company is listed. Because price is the most
effective profi t driver , it follows automatically that price must take on a decisive role in
management’s efforts to increase shareholder value. This makes price a vital issue for top
management. If a company’s pricing drives its earnings, and earnings drive shareholder
value, how can a CEO not make pricing one of his or her highest priorities? Unfortunately,
price does not appear to be a high priority for many CEOs. Former Microsoft CEO Steve
Ballmer said that price is “really really important” but a lot of people “under-think it
through.” 1 Nor is price a high priority for the investment community at large. Though
references to price have become more frequent in recent years, you still fi nd them only
rarely in commentaries, in equity analyst reports, or similar documents. One exception is
this comment from investor Warren Buffett, who stated “The single most important
decision in evaluating a business is pricing power .” 2 Even private equity investors, whose
typical objective after taking over a company is to increase its value, rarely take advantage
of price opportunities. Instead they typically focus on cutting costs or driving volume
growth. Cost-cutting is internal and one sees the effects directly. Attempts to increase
volume usually do not draw a negative reaction from customers. But price increase s may
put customer relations hips at risk and the effects of price actions are often indirect. This
risk aversion and the perceived lack of control over the outcome make price actions a less
palatable option than cost-cutting and volume growth. The same thinking applies to
executives and senior management, where the commitment to pricing is often lacking. We
know that companies earn higher profi ts when their CEOs and the most senior managers
get personally involved in price management ; yet the attention that top managers actually
pay to pricing is limited in most companies.

How Price Can Increase Market Capitalization The relationship between market
capitalization and after-tax profi t is expressed as the price-earnings ratio, or PE ratio. As of
May 16, 2014, the average PE ratio for all 30 companies which constitute the Dow Jones
Industrial Average (DJIA) was 16.6. 3 In other words, the market valued the average
company at 16.6 times its profi t. The PE ratio can fl uctuate sharply over time, but the fi
gure of 16.6 is roughly in line with the long-term average for the DJIA stocks. In Fig. 5.2 we
presented the dramatic effect that a price of increase of 2 % could have on the profi tability
of selected public companies. Let’s assume that this price increase sticks and the PE ratio
remains constant. That allows us to calculate the effect a 2 % price increase has on a
company’s market capitalization . Figure 10.1 shows the results for the same companies
we looked at in Fig. 5.2. The PE ratio for the selected companies is 17.93, slightly higher
than the current PE ratio for the DJIA. If Sony succeeded in implementing a price increase
of 2 % across its entire product portfolio , its market capitalization would increase by
$42.73 billion. On average the companies in Fig. 10.1 would see their market capitalization
increase by $48.88 billion or by 26.7 % (based on the current average market capitalization
of $182.8 billion). The effect that such a relatively small price increase has on a company’s
value should be the more interesting and more relevant performance indicator for top
managers and business owners, because of its long-term nature. These numbers reveal in
a very impressive manner the sheer massive potential that pricing has to increase the value
of a company. I wonder how many leaders and business owners are aware of the leverage
effect of prices, never mind actually inspire their organizations to tap that effect through
professional pricing.

$120 Million More Through Pricing The following case proves that the impact of price and
profi t on shareholder value is not the stuff of theory and dreams. It is absolutely real. A
private equity investor was preparing to sell off one of the world’s leading parking garage
operators, a company it had owned for about fi ve years. The investor previously exhausted
all of its profi t growth potential through conventional means such as cutting costs and
adding more garages. However, it had not taken any systematic actions on the pricing side.
When a thorough analysis revealed potential for price increase s, especially in large cities,
the company acted swiftly. Instead of implementing an identical, across-theboard price
increase, it took a differentiated approach, basing the increases for an individual garage on
its attractiveness, capacity utilization , and competitive situation. The investor built the new
prices into the contracts with the garage lessors, thereby locking in an additional income
stream of $10 million per year. A few months after the implementation of the price
increases, the private equity investors sold the company at a PE ratio of 12. In one fell
swoop, the contractually secured profi t increase of $10 million increased the company’s
value by $120 million, which means that they got $120 million more than they had expected
prior to the price increases. This case shows that price increases can quickly and
massively increase the value of a company.

Price and Market Capitalization The equity markets are considered the most objective
evaluator of a company. The share price is supposed to refl ect all information available in
the market. That prompts the question of how price actions affect share prices. To my
knowledge, no one has made a representative study of those effects. One reason for this
may be the fact that information about the price situation of a company rarely if ever
appears in a standard company report. Unusual price actions, in contrast, can often
precipitate a signifi cant change in a share price. In what follows we will look at a selection
of case studies which show the sudden and dramatic infl uence that pricing can have on a
share price.

The Day the Marlboro Man Fell Off His Horse On Friday, April 2, 1993, Philip Morris , the
maker of Marlboro, the world’s biggest cigarette brand , announced a massive price cut for
Marlboro cigarettes in the US market. The goal was to ward off no-name competitors, who
had captured an everincreasing market share . Philip Morris’s share price fell by 26 % that
same day, wiping out $13 billion in market capitalization and helping to drag down the
share prices of other leading consumer goods companies such as Coca-Cola and RJR
Nabisco. The DJIA declined by 2 % that day. Fortune described “Marlboro Friday” as the day
the Marlboro Man fell off his horse. Investors interpreted the price cut as a sign of
weakness and a concession by Philip Morris that it was unable to maintain high prices in its
fi ght against no-name competitors. The Marlboro Man, launched in 1954 and known
worldwide as one of the biggest marketing icons ever, had lost a price war . Investors took
his defeat as a general sign for the marketing ineffi ciency of leading brands. The declining
market capitalization s of leading US consumer product companies in 1993 prompted a
slight decline in advertising spending. That marked the fi rst such decline since 1970. This
event was considered to be the “death of a brand ” and as a sign for the rise of a new
consumer generation which gave more weight to the true value of a product rather than its
marketing.

20 % Off on Everything: The Praktiker Case Praktiker , a home improvement store chain in
Europe with 25,000 employees, hundreds of stores, and about $5 billion in revenue, had a
share price of over $40 in the middle of 2007. Building for years on its slogan “20 % off of
everything—except pet food,” Praktiker became Germany’s second-largest chain in the
category. Later on, Praktiker began launching campaigns based on discounts for specifi c
product categories, such as “25 % off of anything with a plug.” 4 Another Praktiker slogan
was “This is the price talking.” Praktiker positioned itself as the hard discounter in the home
improvement category and ultimately defi ned itself by these slogans. Praktiker ’s
aggressive price strategy led to disaster. By the end of 2008, its share price fell below $13.
The hard discount strategy had led Praktiker astray, and they ultimately had to abandon it.
The company took that bold step in 2010, running its “20 % off of everything” slogan for the
last time at year’s end. But the share price plunged again. In spring 2013 it was around
$1.90. Figure 10.2 shows the share price decline from 2007 to 2013. Praktiker ’s
management was criticized for playing down the complexity of the transition away from a “
discount culture,” noting that “as soon as it became clear that the new positioning would
take time and cost a lot of money, trust for the brand disappeared.” 5 Another report said
that “whoever boils down their magic formula to ‘20 percent off of everything—except pet
food’ doesn’t get what it’s about. Praktiker is a soulless company.” 6 Worth noting is that
while Praktiker stumbled, the rest of the category fl ourished. From 2008 to 2010 the
German home improvement chains saw their aggregate revenue rise by more than $1.3
billion to $24.7 billion. Praktiker fi led for bankruptcy in 2013, and has ceased operations.
Dieter Schindel, the chairman of the retailer Woolworth , spoke of the “ Praktiker
syndrome,” something which affl icted his own chain. Woolworth went into bankruptcy in
April 2009 and then tried a completely fresh start in Europe. Under the new concept, the
company consciously decided it would not succumb to the “Praktiker syndrome.” It made
direct, permanent price cuts on over 400 items, instead of making ongoing claims about
aggressive discounts. 7 The moral of this story: before committing a company to a
positioning solely dependent on low prices, one should consider the potential
consequences for profits—and thus for the share price . Following this statement, it should
be observed that once committed, a company’s attempts to move away from that policy
can have disastrous consequences.

The Devastating Effect of Price Wars: The Potash Oligopoly Case The global market for
potash—potassium compounds which are an important additive to fertilizers—used to be
dominated in relative peace by just three companies: Russia’s OAO Uralkali , Canada’s
Potash Corp. , and Germany’s K+S . Prices were relatively stable at around $400 per metric
ton. That all changed at the end of July 2013, when Uralkali announced three moves which
broke up the “informal cartel ” and sent stock prices into a tailspin. In keeping with a new “
volume over price” strategy, 8 Uralkali said that it would increase its production by 30 % in
the next year, offer more favorable prices to China (one of the world’s biggest consumers of
potash), and break off its joint sales organization relationship with its Belarusian sister
company. 9 The effect on the Uralkali ’s share price was immediate and huge, as shown in
Fig. 10.3 . In a 2-day period, shares of Uralkali fell by 24 %. The other competitors suffered a
similar fate: shares in Potash Corp. by 23 %, and shares in K+S by 30 %. The prospects for
K+S seemed particularly dire, as one analyst saw prices falling to as low as $288 per ton,
which is roughly equal to the production costs of K+S. Another analyst group lowered its
profi t forecast for K+S by 84 % in the aftermath of the Uralkali announcements. A few
months later, Uralkali effectively set a new fl oor for potash prices by signing a 6-month
deal with a Chinese consortium for $305 per metric ton, roughly 25 % below the prevailing
prices in the fi rst half of 2013. 10

Pride Before the Fall: The Netflix Case Netfl ix began as a DVD rental business. For a
monthly fee, you could borrow as many DVDs as you liked. They would arrive by mail, and
you would return them by mail when you were done. With this innovative business model ,
Netfl ix helped drive the huge DVD rental chain Blockbuster, which had thousands of stores
nationwide, into bankruptcy in 2009. Step by step, Netfl ix began to evolve into a movie
streaming service, and kept its simple price model of a low monthly subscription fee intact.
From 2010 onward the company was a true online star, boasting 25 million customers by
the summer of 2011 and facing virtually no competition. That such a successful company
can fall victim to pride is no surprise. On July 12, 2011, Netfl ix announced a price increase
of 60 % and attributed it to a sharp increase in its licensing costs. Those licensing costs,
however, didn’t interest Netflix customers one bit. They responded negatively, though the
company’s net loss of customers was not so large in percentage terms. Investors were
much less tolerant. They roughed up the company even more, causing the share price to
plummet by around 75 % over the ensuing three months. Netfl ix ’s market capitalization ,
which once topped $16 billion, eventually fell below $5 billion. Content suppliers cancelled
their license agreements. A weaker Netfl ix also became vulnerable to stepped-up attacks
from Amazon and Apple . 11 Figure 10.4 shows the movement of Netfl ix’s share price in the
three months after the price increase in July 2011. The moral: one should avoid arrogance
in pricing, especially after a run of enviable success.

A Failed Attempt to Trade Customers Up: The J.C. Penney Case In June 2011 the
department store chain J.C. Penney announced that former Apple executive Ron Johnson
would take over as CEO , effective November 1. Johnson wasn’t just any ordinary manager
getting elevated to a top executive job at a retailer .

He was the man behind the spectacularly successful Apple Stores, which he nurtured and
expanded since leading their launch in 2000. Prior to Johnson’s taking charge, J.C. Penney
sold almost three-quarters of its merchandise at discounts of 50 % or more. Without doing
an advance testing of the potential effects, J.C. Penney implemented a radical change to its
pricing on February 1, 2012. It eliminated almost all promotions and at the same time
initiated a signifi cant upgrade in merchandise to more expensive brands, which Penney
would sell in more than 100 separate boutiques. In response to critical questions about the
lack of advance testing, Johnson responded “we didn’t test at Apple.” 12 J.C. Penney’s
revenue fell by 3 % in its 2012 fi scal year, while costs rose because of the implementation
of the “trading up” strategy. These effects combined to turn an after-tax profi t of $378
million in 2011 into a loss of $152 million in 2012. When the retailer announced the hiring of
Johnson in the middle of 2011, its share price responded positively. As Fig. 10.5 shows, the
share price started to decline sharply after implementation of the new price strategy
began. Between January 30, 2012, and April 2, 2013, the company’s share price plunged
from $41.81 to $14.67, a decline of 65 %. During the same period, the DJIA rose by 16 %.
This requires no further comment. And how did the story end? Ron Johnson was fi red in
April 2013. Until 2015 the share price fell below $10. Discounts and Promotions: The
Abercrombie & Fitch Case In the third quarter of 2011, the fashion retailer Abercrombie &
Fitch launched a campaign of discounts and promotions. The combination of the price
cuts and a double-digit increase in unit costs put “signifi cant pressure on our gross
margins,” said CEO Mike Jeffries. Because making a price increase —or rescinding the
discounts—seemed feasible only after the holiday shopping season, the company
expected that its profi t would decline through the end of 2012. During the fi nancial crisis
after 2009, Abercrombie & Fitch suffered revenue declines because the company
steadfastly refused to undertake high-profi le promotions. The promotions in the third
quarter of 2011 did boost revenues, but the profi t margin s worsened. One investment fi rm
downgraded the stock, and a retail analyst wrote: “We now see greater gross margin
deterioration than we previously anticipated and believe the pace of margin recovery will
take longer than expected, particularly given management’s aggressive promotional stance
in the domestic channel.” 13 As Fig. 10.6 shows, Abercrombie & Fitch’s share price fell by
more than 30 % as a consequence of its price cutting. In 2015 it hovers around $20.

Price Discipline Increases a Company’s Market Value: A Telecom Case Now let’s look at a
positive case. The US market for data and wholesale voice services is famous for its price
war s. Once a company puts its network cables in the ground, it has hardly any variable
costs . This makes it very tempting to use aggressive prices to attract customers. One
leading US company fi nally had enough of this strategy, after its share price fell by 67 %
over a 2-year period. Simon-Kucher & Partners developed a comprehensive program to
help the company stabilize its prices. The new program imposed strict price discipline on
the sales force. At an earnings press conference, the company announced that it had seen
its fi rst success with the new strategy. Its share price rose signifi cantly that same day and
eventually doubled within six months. Figure 10.7 shows the share price movement of the
company before and after the introduction of the program. Some of its competitors
witnessed the success and followed suit with their own form of price discipline, making
this case a textbook example of strategic price leadership . The company’s management
commented on the upward trend in the share price by saying: “We are pleased with the
results of our continued disciplined approach to pricing. Third quarter performance refl
ects positive industry dynamics including continuing moderation of price compression.”
Analysts also praised the newfound price discipline: “The company’s increase in wholesale
price s is part of a general trend that price pressure is easing, a healthy pricing trend. More
stable pricing should help all the players.”

These cases show that price measures can have a dramatic impact on share price s and
market capitalization s. It would seem prescient for senior management and investor
relations departments to take the role of price more seriously, and communicate its
importance more vigorously. Avoiding serious pricing mistakes would seem to be even
more important than fi nding the right price strategy . Companies must absolutely avoid
both kinds of mistakes: the ones with sudden short-term effects—such as Marlboro’s, J.C.
Penney’s, or Abercrombie & Fitch ’s—as well as mistakes in long-term price positioning ,
such as Praktiker ’s. Taking the correct price decisions does not impact share prices
immediately, but rather with some delay. That is because such decisions are normally not
spectacular; they simply bring a company closer and closer to its desired price position.
The effects are asymmetric. A poor price decision—as the previous examples showed—
can have an immediate and devastating impact on a share price. A sound price decision
often takes time to show its full effects, translating into a modest but steady improvement
in share prices as the equity markets take notice.

Pricing and Financial Analysts Analyst reports play a very important role for investors. After
everything I have said above, one would expect that topics such as price level , pricing
competence, and pricing power would appear prominently in analyst reports. But that is
not the case. Only rarely do we see statements about prices in these reports, and when we
do, it is usually some triviality such as the fact that a company is a premium supplier .
When the reports do address pricing, they usually do so superfi cially. But this seems to be
gradually changing in the aftermath of the fi nancial crisis . Analysts have begun to pay
more attention to pricing. Perhaps the comment from Warren Buffett on pricing power has
something to do with that. No one else’s words carry greater weight or have a wider
audience in the investment community than his. One analyst report from a large banking
group offers proof that the tide may be turning. 14 Entitled “Global Equity Strategy,” the
report goes into extensive depth and detail on the signifi cance of price and pricing power
for the evaluation of stocks.

It is worth reviewing a few key points of this study. The analysts concluded that pricing “is
abnormally important: we calculate a price increase of 1 % point raises fair value on a
discounted cash fl ow base by 16 %,” a confi rmation of what we repeatedly said in this
book. The report also analyzed individual industries with respect to their pricing power . It
recognized high pricing power in premium cars, luxury goods, tobacco products,
technology products, investment banks, software, and maintenance contracts. In contrast,
it identifi ed mass-market cars, tourism, airlines , consumer electronics (e.g., cameras),
and media as industries with extremely weak pricing power. The analysts also assessed the
pricing power of individual companies, attributing high pricing power to BMW , Imperial
Tobacco , Daimler , Goldman Sachs , Oracle , and SAP . Companies they considered to
have weak pricing power include Solarworld , Peugeot Citroen, Fiat , Nike , and the
drugstore chain CVS. There can be no doubt: factors such as pricing power , price position,
and pricing competence are signifi cant both for shareholder value and for evaluating
stocks. But two reasons explain why these aspects historically receive only scant coverage
in analyst reports. First, balance sheets and income statements do not contain any direct
information on prices. Granted, this information does appear occasionally in the
comments in annual reports, but such statements follow no standard format and are
therefore hard to compare across companies. Second, the very high importance of price
for shareholder value may not be fully understood, not only per se but also relative to other
factors which determine shareholder value, such as capital costs. The most important
drivers of a company’s value and its share price are profi t and growth. Companies which
deliver strong consistent results in both areas year after year will create shareholder value
and become popular among investors. During Jack Welch’s tenure as CEO from 1982 to
2001, General Electric ’s revenue increased from $27 million to $130 million. In the same
period, profi t increase d sevenfold, with steady gains year after year. Adjusted for stock
splits and dividends, GE’s share price rose from 53 cents to $27.95 over that 20-year
period. That is an increase of 5,273 % … and not for some start-up, but rather for a
company that has been a component of the DJIA since 1897. GE is the only company which
can make that claim. For a time GE was the world’s most valuable company, later eclipsed
by Microsoft and Apple , two other companies with an amazingly long run of higher growth
and higher profi ts. One very compelling question is the following: How much does growth
contribute to a company’s value, and how much comes from profi t? One would think that
this question has been investigated thousands of times. But that is not the case. One of the
few people to explore this question was the late investment banker Nathaniel J. Mass, who
published his fi ndings in an article in Harvard Business Review in 2005. 15 He developed
an indicator which he called “relative value of growth” or RVG. The RVG showed how much
1 % of revenue growth contributed to shareholder value relative to 1 % of profi t growth. For
example, an RVG of 2 means that revenue growth of 1 % would contribute twice as much to
shareholder value as a 1 % improvement in margins, which a company could achieve
through higher prices or lower costs. But Mass did not explicitly study the role that price
plays in shareholder value. If we want to understand that role, we need to break down
growth into its constituent parts. The term “growth” normally means revenue growth. But
revenue growth comes about in many different ways. If volume rises by 5 % at constant
prices, revenue will increase by 5 %. If prices increase by 5 % and volume remains
constant, this also results in revenue growth of 5 %. Company reports rarely distinguish
between these two fundamentally different forms of growth. As we know from Fig. 5.3,
these two scenarios have sharply different effects on profi t and therefore on shareholder
value . Using the example from Fig. 5.3, pure “price growth” results in profi t growth of 50 %,
whereas pure “volume growth” increases profi t only by 20 %. In reality, these two growth
drivers (volume and profi t) could come in any conceivable combination (i.e., both go up,
one goes up, the other down). If volume and prices both rise, as they did for a time in the oil
market, revenue and profi t will experience very strong growth. Revenue can grow when
prices decline and unit sales grow disproportionately, and vice versa. The study conducted
by Mass did not distinguish between these different forms of growth. Implicit in his
analysis, however, is the assumption that growth is purely volume based. It would be more
revealing to distinguish between volume growth and price growth, but unfortunately that is
diffi cult. Annual reports and income statements do not provide any data to go on. Analysts
should try to include more price-related data in their studies, similar to the equity report I
cited earlier. It is urgently necessary to devote more research on the link between price and
shareholder value .

Price and Private Equity Investors The typical business model of private equity investors
involves acquiring a company at a favorable price, and then trying to raise its profi ts as
quickly as possible. The fi rst target of that effort is usually costs. Applying their experience,
investors strive to achieve short-term improvements. In addition they typically tackle the
topic of growth, usually focusing on entry into new segments or new markets, often foreign
markets. In short the acquired company simply needs to move more units. So we are
talking here about volume growth. Private equity investors often shy away from trying to
achieve profi table growth through higher prices. One reason is that the investors are often
not very familiar with the markets the acquired company competes in, and therefore
expend their energy on measures which are less risky than price moves. Furthermore, the
people the private equity investors put in charge to oversee these changes normally have
considerable experience with rationalization, but much less experience with marketing or
trading up. The parking garage example earlier in this chapter proved, though, just how
much potential lies in using price actions as a way to drive growth and profi t. Private equity
investors do not always recognize this potential, because it is harder to quantify than the
effects of cost cuts.

One other explanation is that price measures—similar to innovation processes— require a

longer term orientation. Often one doesn’t get to a desired price level with one big move,
but rather with a series of smaller ones spread out over years. Private equity investors
should also take this untapped price potential into account in their due diligence phase. It
is not always easy to assess that potential, especially prior to an acquisition, but price and
pricing power nonetheless remain vital factors in determining the potential shareholder
value . One must not forget the comment of Warren Buffett on pricing power. The attitude of
private equity investors has also begun to change, though. Texas Pacifi c Group , which
ranks as one of the largest private equity fi rms with more than $50 billion invested, treats
pricing with great care and has frequently hired SimonKucher & Partners as a consultant.
More and more private equity fi rms are recognizing the profi t and value potential which
pricing offers and have begun to examine it systematically. Particularly important to them is
how stable and sustainable the price position is.
The Key Role of Top Management Pricing belongs on the CEO ’s desk. That is clear, but
reality looks much different. Simon-Kucher & Partners investigated deals for one of the
world’s largest automotive suppliers . In its negotiations with car companies, this supplier
would usually set an internal minimum price or fl oor price at which a deal would still be
accepted. We found out that nearly all of the contracts the supplier won came at the
respective minimum price. As we showed these results to the supplier’s CEO, he went
berserk. He didn’t know the details of the pricing process , especially the setting of a fl oor
price. Otherwise he would not have been so surprised at hearing these fi ndings. The CEO
of an engineering company, who found it tiresome to go through a price “chess match” for
every new project, laid down the following rule for his sales force: every project with a gross
margin of less than 20 % requires his personal approval. That sounds rational, doesn’t it?
He told me that one year later, his salespeople rarely submitted deals for his approval
anymore. So far so good! Then I asked him what the margins on the deals looked like. “They
are always at 20.1 percent,” he said. “Before we had occasionally gross margins of 24 or 25
percent or even more. But not anymore.” That was the natural consequence of such a one-
sided process rule. Why should a salesperson make his life more diffi cult in a negotiation
with a customer by pursuing a margin of 25 %, when a margin of 20.1 % is perfectly fi ne
with his own CEO? If one asks top managers for certain details about prices, such as price
gaps to competitors or across countries, the managers will often pass. Of course one
cannot expect a top manager to know every price and the details behind it. But he or she
should be informed about fundamental facts, processes, and results. Should companies
reward top managers with price-based incentives? In principle that is possible. Managers
could receive such rewards for achieving price

increase s, meeting or exceeding infl ation rates, adjusting to competitors’ prices, or

reducing discounts. Sometimes companies formulate explicit price goals. Toyota uses a
system of relative price s, under which they express their own prices relative to the average
prices of the relevant competitive models. In some years, the company issued specifi c
instructions on how managers should change these relative prices. Precise goals such as
these can be good starting points to encourage and reward desired pricing behaviors.
Nonetheless, I generally advise against such incentives for top managers, although I do
advocate them for salespeople. The business owner or the board which would grant these
incentives generally does not know what price measures lend themselves best to
increasing shareholder value . Companies should instead offer incentives based on
increases in shareholder value and not on the individual instruments for achieving it, such
as price. The Toyota example leads to another insight, namely that creating a price metric
for top managers to use can be very helpful. I consider relative price s to be a very
meaningful indicator. One can calculate them not only at the individual product level, but
also for product groups, for business units, for individual countries, or for the entire
company. Using such “key pricing indicators,” top managers can make a fundamental
assessment of their company’s price position and how it changes. 16 My insistence that
top managers devote more time and energy to pricing should not in any way imply that the
CEO should involve himself or herself in all manner of price negotiation s. In some isolated
cases such involvement might be necessary, but it also has its disadvantages. The CEO of a
large logistics service provider made a habit of visiting the CEOs of his customers in the
automotive industry once a year. These CEOs regularly brought up the topic of price and
managed to extract additional price concession s from the logistic company’s CEO. These
meetings undermined the months-long efforts of his sales teams. Simon-Kucher & Partners
recommended that the CEO stop making these annual visits. He followed our advice, and
his company’s margins improved. Fortunately there are CEOs who do indeed pay a lot of
attention to pricing. One of these was Wendelin Wiedeking during his years as CEO of
Porsche . He personally involved himself in important price decisions and was fully versed
in the details. Extremely professional price management , including CEO involvement, is
one of the reasons Porsche has become the world’s most profi table automaker. In 2013,
Porsche achieved an operating return on sales of 18.0 %, up from 17.5 % in the prior year.
The numbers of all other companies in the automotive industry pale in comparison. Pricing
at General Electric also enjoys the close attention of top management. In 2001 GE installed
Chief Pricing Offi cers in each of its divisions and had them report directly to the division
leader. A few years later, CEO Jeff Immelt noted the positive effect these new positions had.
Price discipline had tightened considerably, and the company did a better job of achieving
its target prices. The Chief Pricing Offi cers

had also taken on an instructional role, ensuring much better preparation for price
negotiation s. All in all, Immelt said that his expectations were exceeded by a wide margin.
Hidden Champions, relatively unknown world market leader s in their respective industries,
are also characterized by heavy involvement of their CEOs in price questions. 17 Because
of this focus, these executives know all the details of the business, which enables them to
make qualifi ed judgments and take on a leading role in resolving price issues. The prices
Hidden Champions charge are usually 10–15 % above market levels; yet the companies are
global market leaders. Their returns likewise outpace industry averages by a factor of 2.4.
18 The involvement of the CEO in pricing plays no small role in this level of success. The
Global Pricing Study, which Simon-Kucher & Partners conducted in 2011 and again in 2012,
illuminated and confi rmed the critical role of top management in pricing. 19 The 2012
study, which included 2,713 managers from over 50 countries and a large cross section of
industries, took a deep look at the role of top management in pricing. Companies whose
top managers took a strong, personal interest in pricing stood out compared to companies
whose senior executives did not take on such an active role, as the following results show.
For companies with strong CEO involvement: – The pricing power was 35 % higher. – The
success rate for implementing price increase s was 18 % higher. – 26 % more achieved
higher margins after the price increase s, which means that they were not just passing on
higher costs to their customers. – 30 % had a special pricing department, which in turn had
an additional positive effect on profi ts. The study showed that companies with strong
pricing power had 25 % higher returns than those who didn’t. One should always be careful
about causality assumptions when interpreting these kinds of results. But these fi ndings
do support the statement that higher profi ts are likely to result when the CEO gets involved
in pricing. To say it one more time: pricing belongs on the CEO’s desk!