Doing the right thing costs more, do you pass those on to customers?

Milton Friedman wrote, “business of business is business”. Two companies seem to believe it is lot more than just making profit. They believe in doing the right thing, be it green manufacturing, sustainability, supply chain integrity, avoiding child labor or paying fair wages. They are Levi Strauss and Patagonia.

Their leaders recently participated in a Common Wealth Club Climate One forum for a discussion about their business and do-good principles. It is not that common for businesses to do the right thing for their customers, shareholders and employees but these two include doing the right thing for the world at large.

You should listen to full conversation (5th episode in the list) but here I want to point to two questions the moderator asked that are relevant to factors that drive us (marketers and product managers) – pricing and customer preference

When doing the right thing costs more or harder how do you manage that tension, pass that price on to consumers?

The moderator posed a open ended question but closed it right away with a question that requires a yes or no answer. Levi’s Strauss’ CEO made an excellent answer (applying all press training techniques),

“we fundamentally believe doing the right thing is ultimately good for the business. I truly believe what goes around comes around”

And he quickly pivoted to a story about terms of engagement they struck with their suppliers. (For sure we should learn his tactic on answering such pointed questions  – answer quickly albeit cryptically and bridge to something you want to convey. )  Yes doing the right thing costs more but that does not mean they are passing on those costs to customers as higher prices.

They are simply targeting those customer segments that value these non-product attributes and are willing to pay higher prices for a pair of jeans from a brand that is known to be doing good. Levi’s jeans don’t cost more because it costs them more to do the right thing but because their chosen customer segment values it enough to pay a higher price that is “ultimately more profitable for Levi’s”.

Next the moderator asked,

Do you think people who buy Levi’s jeans know and care about that?

Whether they do or don’t …. (he catches himself mid sentence)
Some do. And the one that do know and care about it, it is important to them.
Some don’t but as long as they are getting a good quality pair of jeans they are happy

Nicely summarizes his segmentation strategy but also illustrates a key point about what primary job were customers hiring Levi’s for. It is not for supporting a company that is doing the right thing. Customers are still buying a good pair of jeans, as an apparel, style statement etc. If Levi’s cannot fulfill that need better than other options then it does not matter how it is manufactured. Once they made the buy decision on the jeans they likely are willing to pay more than they would for another similar pair of jeans.

Customers hire your product for a basket of reasons but if it does not do the primary job it is hired to do then the rest does not matter.  Once the primary job is adequately met you can get them to pay more with the rest.

Do you know why your customers hire your products and what will drive them to pay more for your products?

Here is another company that got the primary job wrong and paid for its mistake: Sunchips Eco-friendly bags.

Wages, Revenue and Profit – Something NYTimes Should Understand

How cool is to work in Apple retail stores? I do not know but for some it does feel very very cool. Even feels like lifetime achievement for some as evidenced by them bursting into tears when they get the job offer. So writes The New York Times on its exposé piece on wages for Apple Retail Store employees. And what is the pay off for getting the priced position? How about $11.91 a hour.

The article laments at length about the low pages paid for Apple store employees despite the high revenue per store. In an telling infographic, Times compares the salaries as percentage of sales per square feet for Apple store and three other retail brands.  As it turns out Apple store employees make the least as percentage of sales per square feet, even less than Tiffany and Costco employees.

Times is worried about this inequality. It  says,

Worldwide, its stores sold $16 billion in merchandise.

But most of Apple’s employees enjoyed little of that wealth.

Unfortunately, Times got it backwards with respect to ratios and does not understand the concept of revenues, costs and profits.

The ratio of wages to sales is irrelevant. Every business, including NYTimes, will pay no more than the value added by any single employee. This is the upper bound,  the number gets pushed down due to supply and other externalities.  In case of Apple it appears some would even pay for the privilege of wearing the blue shirt.

Comparing that to sales misses the basic economic labor laws of supply and demand. If any, the Times should compare the ratio of sales per square feet generated to employee wages (the inverse ratio), which is a measure of the multiplier effect. Apple’s brand equity, marketing excellence, its products, its efficient supply-chain, operational efficiency and fan base allow it to achieve very high multiple compared to other retailers. That is a laudable feat.

On the question of sharing the wealth (profit) created, NYTimes likely needs basic lesson in factors of production and value creation.  Or even the simplest accounting statement would do,

Profits = Revenue  – Costs of production (including wages)

Profit is what is left when a business pays off costs of production including wages. Once the wages are paid, workers get no further claim on the profit which belongs only to the shareholders of the company.

What is next? Is NYTimes going to write a piece on why Apple charges $499 for a device that costs less than half to make?

Yellow Bananas and Black Model Ts

It is obvious to us now that Henry Ford should have allowed color choice and he would have sold lot more cars. He could have likely charged higher prices over black Model Ts as well. Was this not obvious to him?

Take a look at a present day product that we all consume almost everyday – Bananas. Unless you are a customer of Berkeley Bowl, it is likely you have bought just one variety of bananas. The brands could be Chiquita or Dole but there is only one kind of bananas.

Science Friday has an explanation for this dearth of choice,

… imagine a pipe from Ecuador to your supermarket that can only fit one variety of the world’s 1,000 banana varieties, and that’s basically the way it works.

In order to bring new bananas, you have to build entirely new infrastructure, ranging from plantation to shipping to packing methods and to ways to tell consumers about it.

So why not  do it? The old hands at Chiquita and Dole know only one way of doing things. They are not going to do it. Why not some entrepreneur disrupt the market and import new varieties?

The answer lies in the price we are willing to pay for bananas.

 The banana is the cheapest fruit in the supermarket

They are cheap because the suppliers made a choice to focus their limited resources. They decided to focus their investments and marketing muscles on just one variety.

It is an extremely high fixed cost business – building that virtual pipeline from Ecuador for handling another variety. The result? A split market unless the disruptors can grow the market enough (which is not really disruption).

But can’t they  recoup the fixed costs through higher prices for the new varieties

Unfortunately no. In any new product investment decision, pricing comes first. Given the low reference price set by current bananas how likely will the customer be willing to pay a higher price premium just for the variety? How big will the market be that is truly incremental?

Will the value from variety be clear to customer that they will pay premium for it? What is the additional marketing investment needed to convey the value message?

Even if the value is clear, is there value leakage that bring the value down?  For instance, are their customer behavior changes needed like

One of the reasons is that educational component in bringing the new variety. Baby bananas need to be served much more brown than a traditional Cavendish to taste right. But most people are used to that visual cue the Cavendish gives and so don’t allow them to go brown, and that’s been a real problem in getting people to actually like this variety.

All this capital and resources have opportunity costs – other fruits that can be profitably introduced or other business line altogether. There is no need to disrupt for the sake of disruption if there is no incremental profit.

When is not giving choice to customers is not all bad? When providing choice fail to deliver incremental profit.