Pricing is a key element in any business model.
Unfortunately, experience shows it continues to be poorly understood and implemented. We have seen clients overcharge for products with no foundation for such high prices.
Equally, we have seen our clients under-charge for products, where they were in a good position to charge higher prices through well differentiated product offerings.
Burning Issues associate, Amit Vaidya, sent this piece from Spain, using a simple example that helps businesses better understand the impact that pricing can have on their business, and some of the pitfalls encountered by many. Although Amit specialises in the Pharmaceutical market, the illustration is equally applicable across all business sectors.
Previously published on LinkedIn
On Spain’s ‘Sunshine Coast’ (Costa del Sol) in the Region of Andalucia, a favourite for many locals and tourists is to spend a lazy afternoon savouring the local speciality of Paella with Sangria or whatever is their favourite tipple to accompany this rice dish. Paella is pronounced Pi-eya in Spanish, not Pi-ela. There are different variations of Paella based on the main ingredients:
Paella Mixta – meat (typically chicken or rabbit) with vegetables and maybe the odd prawn or two.
Paella Mariscos – seafood paella often with chicken but has shellfish and fish – mussels, clams, shell-on large prawns, squid and chunks of fish – usually chunks of Cod (Bacalou) or Hake (Merluza) or other white fish.
If you drive around, there are many restaurants offering Paella. Pricing for Paella is nearly always quoted as ‘per person, with minimum 2 persons’ (much like Chateaubriand in the UK). As it is usually made fresh with fresh ingredients, often there is a wait time of 30 – 45 minutes from ordering to eating. A decade ago, the price of seafood paella was fairly uniform at around €12 per person = €24 per couple. Today in January 2023, it is around €24 – €28 per person = €48 – €56 per couple. But it can be as much as €32 per person. That’s an expensive lunch for two persons at €64 plus drinks.
Approximately 30 kilometres East of Malaga there is a gorgeous Chiringuito (Beach Bar) on the Beach that makes Paella fresh every day, in open large pans on wood and charcoal fires. That enterprising owner bucked the trend with his pricing and service model.
What did he do to buck the trend?
He got a number of things right that I see clients so often get wrong.
- He offered a full menu service that was no different to the other beach bars along the beach. So to set himself apart and be different, he studied his competitors with their paella offering. My guess is that he came up with a way to differentiate how he was different and answer the question: “Why would someone eat paella at his restaurant and not those of the competitors along the beach?
The owner came up with the idea of making paella, fresh on open fires in front of customers, in huge Paella pans a metre or more in diameter (as in the photo above). The cooking was in front of customers, not in the back kitchen. Customers would be served from those huge paella pans and immersed in the scent of burning wood and charcoal and the view of open-fire fresh cooking.
He had 3 or 4 large paella pans on the go at one time. So gone was the 30-45 minutes wait from ordering to being served your paella.
- Instead of charging a premium price, he discounted the price. When others were charging €12 per person with a paella made in the back kitchen and customers could never really tell how fresh it really was, this owner discounted the price to €6 per person. He COULD have charged a premium price with a differentiated offering over his competitors. But he did not.
- He went further. Paella made fresh in front of customers was his Unique Selling Point (USP) that differentiated him from others. There must be no waste to be passed off the next day as ‘fresh paella’.
So to minimise waste, he offered ‘free refills’ of paella. You could literally go back for a second or third helping. This ‘eat as much as you can’ model made him very popular.
- The mixed seafood paella was delicious – plenty of seafood (the shellfish ingredients) such as Mussels that you could see the shells open as the cooking progressed, fresh squid (calamari), fresh cockles, clams, chunks of fish and large shell-on prawns together with chicken pieces. He could use fresh seafood because of the volume he could shift. And my guess is that this enabled him to buy these seafood ingredients at a good price. He made only mixed seafood paella.
- He moved away from the pricing model of everyone else, where the minimum order was for 2 persons. Here, one partner could order a paella portion and the other a steak or fish and chips or vegetarian option off the main menu. Something that was not possible at other restaurants and beach-bars if one partner wants to eat paella but the other one does not. And he went further by offering a half portion (smaller) size at a further reduced price for any adult or child that wanted a smaller portion.
He had a thriving business with rave reviews of TripAdvisor etc. People reviews included comments along the lines of “cheap freshly-made seafood paella with eat as you can pricing for one person” and “lots of fresh seafood that others skimp on, this place serves plenty of seafood in their paella”
A decade on, what has happened?
He still has many customers. BUT:
The reviews are now very mixed, and over the past few years I have been coming to Spain, there are reviews that express disappointment and it is growing each year. I was disappointed last year at his paella.
The price is now €10 a portion. Portion size is also smaller.
The ‘eat-all-you-can’ model with free refill model has gone out the window. Now you have to pay for a second portion – either charged at half portion or full portion size.
More importantly, the mixed seafood paella is not seafood at all. It is mainly chicken paella with one or two large shell-on prawns. There is almost an absence of the ingredients that earned him his fame and reputation – the expensive and fresh seafood and shellfish ingredients.
His pricing model has now become flawed on several fronts:
- If you want Paella, €10 for what is really just cheap 2-3 chicken portions with rice is not value for money. For that price you can have half a fresh roast chicken with chips and fresh salad (really fresh, not from a bag of mixed-leaf-salad from your supermarket).
- If you go for a second helping of a full portion, you are now into the €20 per person for cheap chicken paella. This brings you into stones throw of your competitors on the same beach charging €24 per person for mixed seafood paella with plenty of fresh seafood ingredients.
- The cost of seafood has risen exponentially over a decade from over-fishing and the fresh nature of catching seafood. The cost of chicken has not increased as much due to intensive farming. Raising prices and increasing chicken content is not value-for-money. It dilutes his USP.
This business owner made several mistakes in his pricing model:
- He raised his prices but cut down on both the quality and the content of ingredients.
- In doing so, he threw his USP out of the window where he should have embraced and retained it with expert pricing advice.
- His repeat customer rate has likely dropped judging by the customer reviews. My wife and I were going to go on this visit to Spain, as we did in prior years. But we felt that the price was too much for smaller portion size with no seafood and the loss of free refill meant that we would instead eat genuine seafood paella more local to us (we are staying 50kms west of that paella beach bar). We would rather pay the €24 per person minimum 2 persons AND experience real original fresh ingredients instead of a cheap copy of paella that was really just over-priced chicken and rice, and where the USP is now that it was cooked on open fire in front of us.
Had I been his pricing guru, I would have proposed one or more of the following for his consideration:
- Offer a budget choice with free-refills in a medium plate size of chicken paella with vegetables (omit the seafood altogether) and price at €7 once you calculate it gives you a decent operating margin based on cost of ingredients and labour and overheads.
- Offer a real seafood paella with fresh ingredients with very little chicken but much more real seafood on a larger plate at €15 once he calculates it gives him a decent operating margin. There should be no free refill. The plate is bigger anyway, and therefore so is the portion size versus the budget choice chicken and vegetable paella. Offer a refill at €10 based on a medium size portion as in the cheap budget chicken refill.
- Market his USP as freshly made paella made in front of customers on open fire, but no minimum persons specified, enabling only one of the partners to enjoy the paella while the other has free choice from the rest of the menu, with no half an hour wait for service.
- His pricing should remain competitive and he must build a new value-for-money proposition but keep reviewing the market for pricing: Can he get products at a better discount based on higher purchase volumes? Can he secure a reliable local fisherman for 90% of his needs, without relying on going to market?
- Finally, never ever take your eyes off the ball. Review what your competitors are doing, and how does that compare with their value proposition versus yours. Review pricing under changing economic climates.
This Beach Bar had first-player, first-to-market advantage. He capitalised on it, but then took it easy.
Faced with escalating costs of ingredients, he pared back quality and raised prices. To do this without considering the consequences and original value proposition is a fatal mistake.
Quality and the experience that it gives, is what people pay for. Put another way, people pay for the value they believe they receive. It’s why car buyers prefer Mercedes over a KIA. The experience of owning and driving a Mercedes is very different to driving a KIA, but they are both cars that take you from A to B.
Trying to sell a KIA at Mercedes price is never going to happen. This beach bar has come close to it. And I suspect they will see more negative reviews condemning price and citing poor quality.
First-player advantage only lasts for so long. It can kick- start and propel a business into market dominance. Then everyone is going to sharpen their business model to devour your market share. You need a plan on how to stay ahead in business. This is a major weakness in many businesses. They lack such plans and become complacent, often taking drastic action to manage costs without considering the medium and long term impact on their business.
To stay ahead it needs constant innovation of pricing and business models. No business should ever stand still.
I have used an example of a beach bar selling paella but pricing pharmaceutical products also has challenges. The principles I have used around differentiated offering and ability to command a premium price apply to service providers in a B2B setting, pharmaceutical companies, industrial distribution and small start-ups.
I work with clients on pricing and market access models for their pharmaceutical treatments as well as B2B service providers. Some clients have an internal market access and pricing team – usually of mixed abilities – and always ones where I can add value and improve their results on pricing and market access. Others have Business Development Managers who find it easier to discount services than hold firm on prices because they fail to see the USP in their offering from a customer perspective.
They sell at discount, when they could have sold at full premium price – much like our beach bar who discounted his price where he could have sold at higher price and lower volume but higher margin. The beach bar had to be good at forecasting demand on how many paella he could sell per day. Wastage on a discounted price / lower margin can erode or even eliminate the lower margin achieved. Forecasting is perhaps something for a future article.
If this article stimulates your thoughts, feel free to set up a call with us to see we can help your business review your commercial and pricing models and be more profitable. Follow this link to the ‘Contact us’ page: