Value to Customers Comes from?

Why do you think 10oz mini Pita pockets are priced 18% more than 12oz pita pockets?

Don’t just focus on quantity consumed? Value to customers comes from many aspects – from ease of use, convenience, fit, …

To be precise customers value a product that is a better fit for the job at hand and easy to hire for that job. Be it form factor or ease of doing business.

Focusing on just one aspect leads you to not capture your fair share of the value created. What you see is the case of value staircase the flip side of value waterfall.

Plug the value leaks, you get to capture a share of it as better price.

How do you determine what your customers value?

 

The $10,000 Smartphone

Print version of Fortune poses the question to its readers,

Are you ready for $10,000 smartphone?

Then teases us with a promise to answer

Who buys these phones and why?

Un-Fortun(e)-ately it is asking the wrong question and fails to answer who and why in its article. The digital version does not commit these mistakes opting for a benign informational title.

Asking its readers whether they are ready for $10,000 smartphone is wrong because that’s not whom Vertu is targeting. Opinions of the columnist or the comments of their readers are irrelevant. You should consider the possibility Vertu understands

1. Who their target customers are? (Hint: Not Fortune readers, likely Richistan )
2. What job are they hiring the luxury phones for? (Hint: conspicuous consumption)
3. What is their phone’s competition? (Hint: not $650 iPhone, likely other luxury products)
4. What their willingness to pay and wherewithal to pay are? (Hint: No pricing pressure here)
5. What budget will customers pay from? (Hint: not their smartphone budget)
6. How to reach them? (Hint: Not through Fortune magazine)

Fortune quotes McKinsey study (don’t you love those sentences that start with, “McKinsey study states …”),

brand needs to continue building on its heritage — highlighting the skill of its craftsmen

And guess what? Each Vertu phone is assembled by a single craftsman and Vertu shows it off to its customers at its manufacturing site.

You don’t believe $10,000 price tab is due to the labor cost, do you? Or that the craftsmen are more precise and produce better quality smartphone than the automated machinery that can assemble parts with near perfect precision? In this case McKinsey finding is partly correct.

It is true Vertu wants to highlight the skill of craftsmen but not to the target segment buying the watch  but to us in the peanut gallery (and Fortune readers) how great the craftsmanship is so our admiration makes it worth it for those buying the $10,000 smartphone.

Finally an IDC analyst interviewed for the story states,

“even capturing 1% of the $295 billion global smartphone business would be an achievement for the firm”

If you followed the real target segment and understand the job they are hiring Vertu for you will see how irrelevant the size of smartphone market is or the share to capture. Vertu is not competing for the job of iPhone/Galaxy and customers are not paying for it from their budget for smartphone (as a utilitarian device).

The real market size should be based on luxury spend and the market share question is how much of that spend on Gucci handbags and Tiffany’s diamonds can Vertu capture.

The moral of the story is, your understanding of business opportunity, market size, market share, competition, pricing and likelihood of success will all be wrong if you do not start with customer segment and what they are trying to get done.

How do you size your business opportunity?

 

 

Do you need to maintain pricing parity across all channels?

Let us look at this case study:

Airport terminals are not gourmet ghettos. We mostly get a food court with the usual chain restaurants. Wouldn’t it be great to give the travelers – locals, those in transit, and visitors – a taste of the local flair? Phoenix airport is trying to do exactly that. They are giving the local coffee shops, bakeries and restaurants an opportunity to open their shop at the airport terminal.

It does provide the local businesses a new revenue opportunity by adding a new sales channel. Forty million people pass through Phoenix airport every year. That is a large Target Addressable Market (TAM), even a 5% conversion with average tab of $8 means adding another $16 million in new revenue from one location. There is also the positive side effect of marketing exposure.

But it does come with many drawbacks.

First the rent at airport can be up to 10 times what these local restaurants pay in city locations. Second the hassle and costs associated with security and regulations. Third the additional infrastructure cost in equipment and other things to make the place resemble the city location. Lastly, customers want to pay same price they pay at city locations.

There are many questions here. Primarily should a business consider adding airport location given the huge exposure and opportunity. That is a topic for another day or you can hire me to help you with the analysis. Here I want to address just the last drawback

Customers want to pay same price they pay at city locations. One restaurant decided to do just that,

what you pay for a salad at Chelsea’s original Phoenix location is what you’ll pay at the airport.

Is that the right thing to do? Doesn’t it matter that the restaurants incur significant incremental costs when they open a sales channel in airports? Shouldn’t that costs be offset with a price markup on products? How should the pricing be for a new sales channel?

If you know the answers you can skip the rest of the article.

Here is what you need to consider.

Where do you start for pricing? You start with customer segments based on their needs. In airports you have

1. Those who hire your restaurant as a better (healthier, tastier, fresher …) alternative to greasier and generic options available. This segment includes some members from all travelers.
2. Your loyal locals who are happy to have their favorite option available before they board the plane (without having to make a side trip).
3. Those who hire products simply based on price.
4. Those who hire products based on brand – a local restaurant likely has no brand recognition outside of locals going through the airport
5. Lastly, most ignore this segment, those who work at the airport and need better options for their meals.

This is a case of adding top-right and bottom-left quadrants from Customer Jobs Growth Matrix.

The question of price parity does not come into play with (3) and (4) and anyone that is not local in (1). Stated another way you only need to worry about pricing parity if they already have a reference price – what they pay at your city locations.

Your options?

You could maintain pricing parity as long as the profits far outweigh profits from opening other city locations for the same investment. That is consider your opportunity costs. But don’t charge same price because it is the “right” thing to do or your locals demand that. This is as bad as simply adding your airport cost overheads to your local prices.

You have access to a segment (likely large and constantly refreshed) who value the better options at airports and have higher willingness to pay. You should find a way to capture this value with better pricing.

If only you could do third degree price discrimination – say asking for driver’s license – and give a price discount to locals you are good. But that is a hassle and mostly not something you want to do because of overall customer experience.

That leaves you the following options to capture additional value from customers choosing your restaurant in the airport location (that flows from the recommendations in the Growth Matrix)

1. Price Higher and Use Cost Argument – Recognize it is okay to not serve all customers. Don’t focus on 40 million customers, ficus on who perceive higher value from our offerings. Do a marketing research if need be. You may want to give up on some of your locals buying at airport and choose to target only those with higher willingness to pay.
   Most times you can convince locals of hardships in running your restaurant in airports and charge a premium over your city location prices. You are not doing cost based pricing – you will set prices based on what customers are willing to pay at airports – you are only using cost to justify higher prices.
2. Product Mix – Play with your product mix. Add newer options that are available only in airport locations and charge a premium for them. These could be simple variations of your menu choices. You should do this even if you don’t have pricing pressure.
3. Creative Packaging – Consider different sizes – think smaller for same prices as city locations. A 10-20% decrease in marginal cost can stand in for not raising prices. Apply creative messaging like -ToGo, OnAir etc. You should do this even if you don’t have pricing pressure.

The cardinal rule however is start with customer segments before you decide on pricing. Be it opening an airport location, adding food cart version of your restaurant or serving down markets with your enterprise products – start with customer segments, their needs and their current alternatives.

How do you set pricing for your different sales channels?

Serving New Jobs of Customers You Already Have

Let us look at this news story that is more than three years old and comes to us from NPR on a story on how Holywood gets fed.

In the old days, craft service  didn’t deal with food at all, because there was no free food service on the studio sets. Actors simply brought their own food in brown bags, and there was a break for lunch.

But then hours on set really began to stretch out. ”Now you get into issues of people being tired, being hungry,” Conover says. “Well, who’s gonna order the pizza? We’ll have the craft service guy do it.” Craft service was already doing odd jobs: digging a hole to place a camera at ground level, laying out protective material on sets — and cleanups, too. (Source: NPR)

Previously I discussed a real simple yet powerful variation of Ansoff Growth Matrix – one that is fitted to look at customers and customer jobs instead of markets and products. Customer jobs in its essence is a customer need (utilitarian or hedonistic) and customers buy products (or hire them) to fulfill those needs.

Here is how the growth matrix looks like with customers and jobs.

 Any business that is either trying to break in (startup) or trying to expand (enterprises) has four paths based on this matrix and related actions that go with those options. One of the options is:  Serving new jobs of customers you already have (that is jobs you did not serve in top left quadrant).

When customers already hire your products for certain jobs you have an incredible opportunity to understand  rest of their jobs and identify those that you could serve with simple product pivot. You can’t go after every job. Strategy is about making choices. Your choice has to be based on opportunity size, your cost to fill that job better than what customers hire to do the job and your likelihood of success.

In the case of Craft Service featured in the NPR story their customers originally had hired them for different job. The new job of feeding the production crew did not exist or had alternatives (brown-bagging). A change in environment created this new job that needed addressing.

It is likely Craft Service did not actively make a strategic decision to take on food service. But they did their current job so well that their customers sought them out to fill new jobs. As managing food service fit  within the realm of what Craft Service was doing it was a right product pivot.

While Craft Service got lucky, if we want to take this path to grow our business we must be constantly engaging with our customers to surface new jobs that our offerings would serve better than current alternatives while making a profit for us. Sometimes better product positioning would suffice, other times product pivots are required.

How do you find the jobs your customers hiring products for?

Customer Job To Be Done Growth Matrix

There is a very simple way to think about how to grow business. It requires us to think in terms of markets and products.

Markets – Current market segment you play in and new markets you do not serve yet
Products – Your existing products and new products you have not built yet (and are outside of your current product line)

That gives us four ways to grow any business

1. Sell more of what you make now in markets you already play
2. Sell something new – not just product extension, something outside your product line – in markets you already play
3. Enter new markets with your current products
4. Enter new markets with something new - not just product extension, something outside your product line

It is more popularly known as Ansoff Growth Matrix.

The matrix tells us it is easier to do 1 and gets progressively difficult to do steps 2, 3 and 4.

Loyalty proponents believe in staying with 1 and may be add a bit of 2. Product proponents get bored with 1 and want to build new and great (facebook phone). Those who believe buying growth spend more time and resources on 2 and 3 by acquiring businesses that sell in new markets or acquiring companies outside their core (eBay/Microsoft acquiring Skype)

There is a problem with this matrix. It is product driven as opposed to being customer needs (jobs to be done)  driven. When you look through the lens of your current products and new products you end up with approaches like unnecessary M&A and Facebook phone that are not aligned with how customer needs and how those needs are changing.

Let us redraw the matrix but now with Customers (customer segments) and Jobs as the two axes. If you are not aware of the “jobs to be done metaphor“, please see here before reading further.

Briefly, the metaphor asks us to think about customer needs as jobs to be done. Customers hire products among many alternatives to fulfill those jobs.

Now it is not anymore the question of how to sell more of same products or build new products but a question of what are the current jobs we are addressing and what new customers and new jobs provide us opportunities for growth with our core competence.

Here is the recommended strategy for each quadrant

1. Existing Customers and Jobs: Continue product evolution that cements your product as the best candidate for the job.  
2. Existing Customers and New Jobs: The new jobs could arise because of trends impacting customers or simply adjacent jobs you never positioned your product for. Remember positioning is telling customers which job your product is applying for. Instead of going after jobs that are outside your core competence you are better off investing your limited resources on evolving customer jobs and related jobs that can be served by product pivots vs. completely new products (facebook phone)
3. New Customers and Jobs you currently address with Existing Customers: Here the invariant is the jobs – two different segments have the same job to be done but you chose one segment over other and now considering serving the second segment. Understand the reasons why you did not choose that segment in the first place – is it the challenges in reaching them?, is it their willingness to pay? etc.
   Understand that different customer segments have different alternatives for the same job and hence different reference price. Choosing to serve lower willingness to pay segment should not come at the expense of price erosion in higher willingness to pay segment.
   My recommendations are to focus on packaging and pricing innovations that help protect current profits and add net new profits from new segments. It is not revenue growth at the expense of overall profit drop.
4. New Customers and New Jobs: You still have the option of better product positioning to help capture new markets. But most times you are looking at completely new jobs that require product innovations and business model innovations.
   But the advantage is your focus on customer jobs and not on products – your innovations are aligned with customer jobs. While this step once again proves to be most resource intensive with most uncertainty, taking the jobs approach helps you ease into this without taking big risks, pie in the sky product innovation or expensive acquisitions.

There you have it, your recipe for growth derived from customer job to be done.

Do you still believe freemium has not run its course?

Let me start by reiterating my past objections about giving Apps away for free in the hope of getting attention now and monetization later. Call it by whatever portmanteau you wish – freemium etc. or use the justification that free is free marketing. It does not matter if customers are not hiring your App for a job they are willing to pay for and you do not take the time and effort to understand customer jobs and position your App for the right job.

The App economy tempts us all with billion customers – small percentage of a large number is still a large number. But trying to target billion customers is what SurveyGizmo CEO described as shotgun approach to marketing.

And guess what? You are not the only one with the same shotgun – the App ecosystem has made the same shotgun available to everyone. There are many just like you and their App just like yours with the same hope of converting the same 1-2% of users into paying customers.

With hundreds of thousands of games, productivity tools and other apps already on the market, and thousands more launched every week, many startups are finding that their ideas aren’t so unique after all. (source)

With all these thousands of look alike Apps, the small percentage of large number becomes small fraction of the small percentage of a large number. Which I assure you is a really small number.

The odds of striking gold in the apps business are quite long. While there are more than 800,000 mobile apps available in Apple Inc.’s App Store, only 80 of them generated more than $1 million in revenue during the fourth quarter, according to research firm Distimo

That is the chances of an App making $4 million a year is 1 in 10,000. And there is no point in trying to do expected value math here because the winner takes it all.

And it turns out Free is not even close to free marketing or to be precise marketing is not free even for free Apps. If you want any thing close to decent installs (let alone frequent usage) it takes considerable marketing resources.

In this environment, well-heeled companies with big marketing budgets hold sway.

It gets worse than Free – you end up paying users to install and tell others about the App as the App maker Mouthee found out

Mouthee ran promotions—giving out free iTunes gift cards or other gifts to users who signed up their friends—which would bring a spike in downloads, but the boost would taper off after a week or so,

Let us recap the App situation

1. There are hundreds if not thousands with App just like yours
2. They are free as well
3. Free isn’t free marketing and marketing isn’t free
4. Building passionate user base is a myth and the chances a newbie App maker without marketing resources will make it into Top 250 is less than 2%
5. Chances your freemium App will make $4 Million a year is 1 in 10,000

Finally even when you gain millions of installs, your users can stay on free version longer than your startup can stay solvent,

There are so many startups that die with a whimper

Do you still believe freemium has not run its course?

Cast aside these fads and start with the business first principles to go from plan to profit.

Start with the customers, not your App. The App could be new but the customer needs are not. Whether it is a “bits” product with zero marginal cost or “atoms” product with non-zero marginal cost, customer needs come first. In fact, it is not a product until you have identified a set of customers whose needs you meet and who want to pay you for that value.

Make your choice. Successful strategy involves making choices. You cannot treat billion users as customers. Getting 90 percent of customers to take free Hershey’s chocolates with the hope that they will pay more for extras or will upgrade later is not a strategy.

Get your fair share of the value created. Charging for the product is still the simplest of all business models. Product and platform innovation do not mean business model innovation like freemium (which should never be called a business model). If your product adds compelling value to customers, charging for it is simply getting your fair share of the value created. You do not have to be ashamed of making a profit.

How do you go from plan to profit?