frequently play the role of value spendthrifts, giving value away through price concessions to make the sale, rather than value merchants., who sell profitable growth by stressing the superior value of the firm’s offerings.
Despite providing greater value than competitors, their business is forced to compete as a commodity and therefore does not get a fair return from its superior value.
The result, as in the case just examined, is that even though the supplier believed that its products and services had greater value than those of the next-best alternative, it ended up matching competitor prices. “Leaving money on the table,” as this supplier did, has a direct and substantial negative impact on the supplier’s profitability. Why does this happen as often as it does in business markets?
Purchasing managers in business markets are becoming increasingly sophisticated in their strategies and tactics. Increasingly held accountable for reducing costs, purchasing and other customer managers don’t have the luxury of simply believing suppliers’ claims of cost savings. A relatively easy and quick way to obtain savings is for purchasing managers to focus on price and obtain price concessions from suppliers. To enhance their negotiating power, purchasing managers attempt to convince suppliers that their offerings are the same as their competitors—that they could be easily replaced. In the face of such pressure, as the IC example illustrates, suppliers cave in and match competitor prices. It is a rare commodity in business markets to find firms that do business based on demonstrably superior value.
Senior managers of companies serving business markets—that is, firms, institutions, or governments—are frustrated that they often are cast as “commodity” suppliers. Their customers have been effective in demanding more but have been unwilling to pay for it. As the need to cut costs in companies continues, the pricing pressure that such customers place on their suppliers is not likely to abate. Thus, business as usual—or even doing more of the same with less, which is a common response—will not provide solutions worth pursuing.
Customer Value Management: A Progressive, Practical Approach
To combat price concessions and commoditization pressures, firms have to fundamentally reexamine their philosophy of doing business and how they put it into practice. Suppliers must adopt a philosophy of doing business based on demonstrated and documented superior value and implement that philosophy using an approach we call customer value management. Customer value management is a progressive, practical approach to business markets that, in its essence, has two basic goals:
1 Deliver superior value to targeted market segments and customer firms
2 Get an equitable return on the value delivered
Customer value management relies on customer value assessment to gain an understanding of customer requirements and preferences and what fulfilling those are worth in monetary terms. Although firms may be able to accomplish the first goal without any systematic assessment of customer value, it is unlikely that they will be able to accomplish the second goal without it. Simply put, to gain an equitable or fair return on the value their offerings deliver, suppliers must be able to persuasively demonstrate and document the superior value they provide customers relative to the next-best alternative.
“Green” Money Versus “Gray” Money
Senior managers at most firms in business markets have come to realize that if they can cut the cost of acquired goods and services, such procurement savings will fall to the bottom line as improved profitability. Thus, nearly every firm has set goals for purchasing to cut the cost of acquired goods and services. These goals are typically expressed as total cost reduction goals and tend to take one of two forms. They may be expressed as a targeted cost reduction amount, such as reducing the cost of acquired goods and services by $2 billion over three years (as one oil company did), or as a yearly percentage reduction, such as reducing costs by 10 percent, 5 percent, and 5 percent over three consecutive years (as one automotive manufacturer did). However, the translation of these goals into purchasing practice often leads to a bias that one purchasing director captured with the expression “green money versus gray money.” What did he mean by that?
Green money (the predominant color of U.S. currency) refers to cost savings for which purchasing managers can readily get credit, whereas gray money refers to cost savings that are difficult for them to claim. Getting three bids, picking the lowest one, and then negotiating a further price reduction is green money. It reflects directly on purchasing’s contribution to the goal that senior management has set. Acquiring an offering that provides a lower total cost of ownership but that may have a higher purchase price is gray money. Because of limited time and measurement capabilities, a purchasing manager may not be able to document that she has actually received the cost savings that the supplier assured her firm.
But it doesn’t have to be that way. A manufacturer of controls for automating manufacturing lines has its salespeople spend time at prospective customers gathering data on what controls would be required, what the total cost of them would be (not just purchase price, but all costs, such as installation and training), and what the payback period would be if the customer were to purchase them. The salesperson pulls this research together into a report that demonstrates the potential savings, which he then provides to the prospective customer. Whose name appears on the cover of the report? The purchasing manager’s. The supplier salesperson’s name appears nowhere on the cover of the report. Now, the purchasing manager can take this report to her senior management and say, “Look, I have been doing some research in conjunction with this supplier, and this is how we can save some money.” What has this supplier done? Enabled the purchasing manager to turn gray money into green money. It also has provided another benefit: allowing the purchasing manager to leverage her time, which is in short supply.
Demonstrating and Documenting Superior Value
Increasingly, to get an equitable or fair return, suppliers must be able to persuasively demonstrate and document the superior value their offerings deliver to customers. By “demonstrate,” we mean showing prospective customers convincingly beforehand what cost savings or added value they can expect from using the supplier’s offering relative to the next-best alternative. Value case histories are one tool that best-practice suppliers, such as Nijdra Groep in the Netherlands and Rockwell Automation, use to accomplish this. Value case histories are written accounts that document the cost savings or added value that reference customers have received from using a supplier’s market offering. Another way that best-practice firms, such as GE Infrastructure Water & Process Technologies and SKF, demonstrate the value of their offerings to prospective customers is through customer value assessment tools, which we term value calculators. These tools are spreadsheet software applications that salespeople or value specialists conduct on laptops as part of a consultative selling approach to demonstrate the value that customers likely would receive from their offerings.
Demonstrating superior value is necessary, but it is no longer enough to become a best-practice company in today’s business markets. Suppliers also must document the cost savings and incremental profits that offerings have delivered to customers. Thus, suppliers work with their customers to define the measures on which they will track the cost savings or incremental profit produced and then, after a suitable period of time, work with customer managers to substantiate the results.
Documenting the superior value delivered to customers provides four powerful benefits to suppliers. First, it enhances the credibility of the value demonstrations for their offerings because customer managers know that the supplier is willing to return later to document the value received. Second, documenting enables customer managers to get credit for the cost savings and incremental profit produced. Third, documenting enables suppliers to create value case histories and other materials
