Is Your Goal Volume or Profit?

naphtali-marshall-13585-unsplash_goalTaylor Swift and some other performers appear to have decided the old concert ticket-pricing model was not profitable enough and they have changed pricing strategies.  Historically the most common strategy has been to price tickets low enough to ensure a rapid sellout of each venue.  The sellouts provided bragging rights and strengthened demand for the artists by provoking fans’ fear of missing out (FOMO).  The rapid sellouts also provided opportunities for scalpers to buy large blocks of tickets and resell them at much higher prices, which meant much of the income from the concert ended up in scalpers’ pockets rather than the artists.  Now Miss Swift and others have decided profit is more important than volume, and initial ticket prices are much higher.

The question being revisited by these musicians is the same question faced by thousands of companies – Is your strategic objective to maximize volume or maximize profit?  All companies must answer that question.  Failure to do so usually means neither volume nor profit will be maximized. So, to provide an answer, we urge clients to consider:

  • Where they compete now and in the future
  • How they can win in those competitive environments
  • How much of their costs are fixed (land, buildings, machinery, etc.) versus variable (labor, raw materials in production, etc.)?
  • How their value proposition and cost structure might change as they progress through their life cycle

If a company is creating a new market or new market niche, it may be important to build critical mass early in the process.  Doing so might enable them to spread their infrastructure costs over a wider base of business.  In that case, it could make sense to use penetration pricing which offers low prices to stimulate demand quickly.  Amazon started this way, selling books at low prices but rapidly generating volume to lower the cost per transaction of their e-commerce systems.  They correctly bet that customers would welcome the ease and efficiency of ordering books online after trying it, and much lower prices would induce customers to try the service.  In this situation, attracting the critical mass of volume was much more important than profit.

Apple is an example of a company with a more complex answer to the question.  demand_profit_1-300x200As they began to compete in the mobile phone market, their strategy was to win with a superior, premium product.  Although they could increase demand with lower prices, there was a very large segment of customers who would pay premium prices for their premium product, so the iPhone price was set relatively high.  Apple also recognized the variable cost to produce each phone was significant, and much like in the Example Demand & Profit Curve nearby, at some point lower prices would reduce overall profit.

Apple’s additional complexity came from apps and music.  The company recognized that as more people used apps on their iPhones, more developers would create new apps.  And, as they learned from iPods, people would use their phones as personal music players if they could get whatever music they wanted quickly and easily.  Apple recognized the apps and music helped create an entire ecosystem centered around their phone; and they set the prices of them low to attract more volume.

Amazon has also been able to build an ecosystem around their e-commerce platform.  As customers’ appreciation of the efficiency of Amazon’s ordering system increased, Amazon continued to add new categories of products available which increased customer use of their system.  That created a virtuous cycle of expanding their ecosystem.

Although many try, most businesses are not like Amazon or Apple.  They are in markets that do not offer the opportunity to create an ecosystem.  They experience demand and profit curves like our example chart above.  Those businesses need to make money to provide a return on capital and stay in business.  In my opinion, that means profit should be more important than volume; and pricing strategies should therefore be established to optimize profit, not unit sales.

The decision of whether the strategic objective should be volume or profit always rests with the owners and managers, but it is a decision they should make explicitly before setting a pricing strategy.  Management should also clearly communicate the objective to the sales, marketing, and pricing teams so they are working harmoniously.  Similarly, the incentive systems should be consistent.  That is, if profit is the primary objective, employees should be rewarded for greater profit, not greater volume.  If the entire team is clear on the objective and their efforts complement each other, you will make more money – much like the musical artists are now doing.

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