In the chapter entitled “Cost–Plus Pricing’s Epitaph,” Baker provides two excellent historical examples of how price–led costing has led to successful product developments. The first example, the Ford Mustang, was developed only after Lee Iacocca looked at the sports car market from the customers’ point of view. In other words, rather than developing a sports car then deciding its price based on its costs plus profit margin, Iacocca gathered the opinions of potential customers before even imagining the product.
The general opinion was that the Chevy Corvette, the only “genuine” American sports car on the market at the time, was well–liked but overpriced. Iacocca then set out to build a sports car with a price tag of no more than $2,500, which was around $1,000 less than the sticker price of the Corvette at that time (early 1960s). Only after this price was set were costs considered. By intentionally limiting costs in order to stay below the $2,500 price threshold, the Mustang was built not as originally envisioned, but in a way that kept the customers’ desire to own an affordable sports car in mind at all times. The ultimate result is that over 400,000 Mustangs were sold within 13 months of the release date in 1964. This far surpassed Ford’s expectation to sell 75,000 in the first year and netted Ford $1.1 billion in profit within its first two years on the market.
The second example of price–led costing that Baker cites is of the first home photocopier, developed by Canon. Keizo Yamaji of Canon set the upper parameter of the retail price at $1,200 and told his engineers that the copier must never need servicing, be no bigger than a large breadbox, and be developed within 18 months. What actually happened was the copier was a little bigger, a little pricier, took a little longer to produce, and required servicing but only on a limited basis. These factors, however, were far from indications of failure, as the resulting product shaped Canon’s future as a multibillion dollar company.
If pricing on purpose, or pricing based on the value the customer receives, then why should prices ever be cut? Baker explains that the competitor should not set the upper limit on price, and that ignorance and misunderstanding of value will create more competitive problems than the competitors themselves.
As we have heard before in the previous books examined herein, Baker states that price cuts should be avoided unless they form a part of a company’s marketing strategy or, in rare cases, they are actually too high. Otherwise, price cuts subsidize bad customers at the expense of good ones, which will inevitably generate ill–will amongst the customers who are actually the lifeblood of the company. This principle is referred to as Baker’s Law: Bad customers drive out good customers.
As Pricing on Purpose explores the practical and theoretical foundations for Baker’s subjective theory of value, careful consideration is given to customer value as it applies not only to products and services but also to the way they are sold.