Episode #0074 - Intro to price optimisation

Pricing College Podcast

In this episode of pricing college - we discuss what pricing optimisation is and where to start.

This is different to pricing strategy - and is a more numeric, data driven topic requiring specialist skill sets.

We run through the basics

In today's episode, we want to give a brief introduction to one of the more technical but useful pricing techniques which are pricing optimisation. So Joanna, what is pricing optimisation?

I think in its most simple form price optimisation is a very analytical, scientific price-setting algorithm or process. I hope that that does sound simple and I'm trying to break it down. But I think the outcome is quite clear. Why people use it is to drive almost immediate revenue or margin from that price algorithm. Now an algorithm is almost like a fancy word. Like a formula that somebody’s come up with for pricing to increase or decrease prices in the right way. Either not too high, or not too low across categories and products. This is very significant for all types of businesses. Especially businesses with lots of customers, lots of different customer groups or many products line like thousands and thousands of SKUs. You really need a better way to set and manage pricing. A lot of businesses now are investing in a price algorithm for those difficult price rise times. So they know that they're not just doing a blanket price increase across the board across all of their products. Because it's just easier to do it that way or a business that's looking to improve profitability in a certain timeframe. For both of those conditions, businesses now are using more sophisticated price algorithms. That have either been developed by a pricing team or by a consultancy or by an IT vendor.

I think price optimisation is not something that you do straight off the bat if you're not a skilled or experienced pricer. It's something where there's a lot of technical know-how and ability required. This is often where consultants will come in and help teams with this or upscale in that regard. It's certainly not just a blanket price increase, with price optimisation in many areas, prices could decrease. You'd be looking across the more profitable lines or the more popular lines of your SKUs. It is also often referred to as SKU optimisation also. You have to bear in mind that a lot of companies in different sectors may have thousands of different SKUs. So we're not talking about one or two lines here. In many companies, we could be talking about multiple thousands of lines. And that can lead to obviously a huge amount of data crunching, data analytics and real expertise has the algorithms and the computer number-crunching building that is required.

Now often when you say price optimisation businesses think, does that mean large increases across the board? Will that affect our large customer accounts or which can be and often are quite price-sensitive? What will happen? Will it drive customers away? Will we lose huge amounts of cash flow if we implement this price optimisation process? And the answer is no. Actually, price optimisation doesn't focus on those big accounts or top-selling products. Because those are the sort of you have to protect those. You've got to be careful about what you do with that. Because there is so much attention on that if it's via your procurement teams, customer procurement teams. They all know the prices there or shoppers who get these sorts of goods every day. Their staple goods habitual purchases they know the prices of these products. So you don't want to move the price the prices around too much. But you do want to know especially I think just talking about the shopping experience. If shoppers do want to have promotions and discounts so you've got to know what level of discount to give them. If you give them too much you lose margin. If you don't give them enough, you don't get enough traffic. They don't buy it or that. Or if you give them too much they might hoard all those sorts of things. So a price algorithm will look at those things and these things are called conditions that are set in the algorithm. But ultimately, to keep it simple a price algorithm protects large accounts and products. So it doesn't do much with that. It sort of looks at them at the middle sort of range of your products and customers to see what you can do there but taking again a risk free approach but optimises the tail end of customers or products. Because that's your low-risk radar type of product group. But even then it's done with restrictions in mind between price parameters. It's taking tiny little clips of increase is here and there. Maybe adjustments and that could be lowering prices here and there just to drive volume. So it's looking at volume metrics, looking at the margin, profitability revenue, and the goals of the business will be set within that algorithm as well. These are called business conditions. So it is quite a sophisticated process and as Aidan says, there are a few leading pricing teams and experts out there that can do this for you internally and we know of those. But ultimately a lot of this area has been sort of managed by consultants and IT vendors. But a lot of that expertise is now becoming more widespread as more businesses buy these optimisations software tools. And some good pricing managers have been able to refine algorithms and even recreate them from scratch.

I think to some extent, it's a different approach than pricing strategy putting in place the value-based culture that you're looking for. There's a lot of data analytics here and using capacity and elasticity and those sort of aspects filter into this on SKU by SKU basis. Obviously, you still have to have the strategy in place, you have to understand stuff. But this is much more of an implementation aspect of implementation, optimisation. It's something that should be done on a regular ongoing basis. You can buy off the shelf software for more simple businesses. And then for obviously larger businesses, you'll be utilising your ERP systems and digging through the information that you have. But yeah, it's I think this is something certainly that will be covered in much more detail in smaller aspects in future podcasts. But it's just something we want to introduce a day to raise.

Feel free if you're thinking about price optimisation you've heard other business leaders using optimisation techniques feel free to touch base with us. We're happy to point you in the right direction. Give you some additional insights into what we know how this has worked out in Australian businesses. On what type of team can manage that sort of internal capability. If you need additional cash flow, it's a difficult time and a recovery. We're in the recovery stage. A lot of companies are thinking okay, we need to drive profitability. How can we get more margin in the next three months? A very difficult problem but achievable but needs to be done in the best way. So, feel free just to get in touch and we can talk you through some of those ideas. Yeah, that's it for me today. So yeah, that number-crunching to look forward I guess.