by Robert D. Kugel CFA | 2011-08-16 | Article ID: V11-23 | Article Type: VentanaView
Price and revenue optimization (PRO) and sales compensation and incentives are software applications that can yield functional synergies when used together. But since they typically are developed and sold by different kinds of software vendors, scant attention has been paid to the value of using them in tandem. But prices for both have dropped in recent years, making them affordable as a package for a variety of industries including manufacturing, distribution, general business services and financial services. Combining sales incentive management with PRO can give sales people and managers both the ability and the desire to adjust pricing to circumstances and produce the most profitable results. We advise companies that have adopted a PRO strategy to use an incentive management application also to support and reinforce their optimization efforts.
Price and revenue optimization is an analytics-driven business discipline that uses market segmentation techniques and historical data to set a price that represents the most an individual buyer is willing to pay. It is one example of how businesses have successfully applied predictive analytics to achieve both strategic and tactical objectives. Companies use PRO to achieve objectives such as increased profitability or higher market share while being able to adapt quickly to competitors’ moves.
The airline and hospitality industries were the first to adopt PRO in the 1980s as a strategic tool. The two share the same basic economics: The opportunity cost of unsold inventory (an unfilled airplane seat or a hotel bed) is very large compared to their incremental cost of sales. Airlines and hotels were able to be early adopters of PRO because they had computer-based reservation systems that enabled them to use historical data to develop and endlessly refine predictive models for automating pricing decisions and then apply them to their transactions. Well-established airlines with higher cost structures were able to use PRO to compete successfully with lower-cost upstart airlines, providing proof that it was a practical and effective discipline.
For both airlines and hotels parts of their prices are fixed at the time they are quoted and have no room for negotiation. Many other industries, though, can apply PRO to negotiated sales where the sales agent has latitude in setting the price. In these circumstances it makes sense to integrate sales incentive management with PRO. This combination can curb the common tendency of sales people to offer the lowest available price immediately and also give sales managers and representatives flexibility to apply their judgment to specific situations. For example, sales people might be allocated a set amount of pricing discounts during a period and allowed to apply this as they wish. The software also enables companies to modulate the degree of pricing flexibility according to product (to move inventory or meet market share goals), region (to open up a new sales territory), customer or time of month or quarter (to achieve sales volume objectives). The software can make it easy to a adjust incentives and track results while virtually eliminating the administrative chores of tracking the data and presenting it in the proper context.
Both of these applications are part of what we call sales performance management, and analysis of our benchmark research reveals an opportunity for vendors to better integrate these two areas. In any company that is using PRO and allows sales people flexibility in negotiating prices, the value of its price optimization strategy can be enhanced substantially with a complementary sales incentive management initiative. We advise such companies to explore the benefits of such a combined approach and vendors to offer packages that make it affordable to adopt and easy to use.