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Price Waterfalls: a Revenue Control Perspective
How Price Waterfalls are used in Revenue Control to establish the actual revenue and KPIs to control.
This is an article in a series about Revenue Control. Check out the main article on Revenue Control here.
Price Waterfalls have been a key component in B2B pricing programmes for a long time:
The concept is rather straightforward: build an illustration starting typically with a list price and then show all discounts, rebates and other monies paid to the customer. The end point is most often called the "Pocket Price" to signify the price you can actually put in your pocket at the end of the day, or rather year, though names like "net net price" or "triple net" are also quite common. Such price waterfalls are great in pricing analytics, as they show what kind of real pricing is achieved in B2B.
When doing Revenue Control, price waterfalls are also key. They serve the purpose of defining the scope of the revenue to control. But while revenue control is not possible to conduct without a price waterfall, revenue control will not necessarily use all parts of the price waterfall. Rather, what is needed in Revenue Control is one or more KPIs (Key Performance Indicators) from the Price Waterfall, such as:
- Pocket Price: this is a key Revenue Control KPI as it indicates what revenue is actually pocketed. Sometimes, it is the straight Pocket Price that is used and then compared with a Floor Price, i.e. the lowest acceptable pocket price for a given customer/channel/product/country/etc. But sometimes it is also beneficial to make a slightly adjusted Pocket Price where certain discounts and rebates are either excluded (e.g. if the customer doesn't recognize them as monies flowing) or hypothesized to having certain standard values rather than actual monies spent. The advantage is to get to an approximate number for final pocket revenue that can be communicated to the sales force and sometimes the customer.
- Spending levels: the absolute or relative difference between List Price and Pocket Price. This number shows how much revenue is discounted effectively to the customer and is useful to monitor over time, to see if overall discounting goes up or down, even if pocket price might stay constant.
- Next unit price: this number shows what price the customer pays if he orders one unit more. The difference to pocket price is that the next unit price doesnt include certain fixed-sum fees. Next Unit Price is highly useful when looking at international price comparisons or look to prevent channel polution or international parallel trade. Customers will often buy and trade on next unit price rather than the real pocket price.
Once the KPIs and the price waterfall is established, the next step is comparing these KPIs with one or more targets. The most prevalent target is the so-called "Floor Price", i.e. the minimum pocket price accepted. However, a really good Revenue Control system also has other targets. One particularly good one is "Target Price", which is then what the price ideally should be, as opposed to the minimum acceptable Floor Price or the actual, current Pocket Price. The advantage of having both a Floor Price and a Target Price, over just a Floor Price, is that if there is only a Floor Price, sales teams have a psycological tendency to go for the lowest possible price, which in that case is the Floor Price. If on the other hand there is also a higher Target Price, the raise to the floor is less prevalent.
We will in an upcoming article look in further detail at Floor Prices, Target Prices, and KPI communication.