By John Roche, Haybrooke CEO
So, you know your cost rates to the last penny. You have clocked your machines performance levels and plotted the running speed curves to the ‘nth degree. You have meticulously fed this information into your estimating system and can now produce estimates for your customers with unparalleled accuracy.
What do you do?
You sell at prices that bear no resemblance, of course.
Well, it is not because you are an idiot; even though you probably feel like one.
To understand better how the methods for print estimating evolved and why the industry is seemingly stuck in the ‘cost-plus’ commercial thinking that began generations earlier, we first need to understand the mindset of yesteryear. Then we need to factor in the illusions of knowledge we depend upon for our final estimating decisions. And finally we need to ask the question, why do we still do it?
Let’s turn the clock back 100 years.
Back in the day, a printer was often asked to do a job without the customer requiring any idea of price in advance. Granted, they might have been offered a “rough guide” – but this would have been off the top of the printer’s head and absolutely non-committal. Only when the job was finished could the actual cost of producing it be determined. A mark-up (the ‘plus’ bit) would be added to the cost of production (the ‘cost’ bit) of typically 25%+; and thus the final selling price to the customer was determined.
This was cost-plus at its very best: the real cost, plus a genuine mark-up.
This commercial methodology was a cast-iron way for a printing company to make lots of money – and they did. It was common for the owners of printing businesses to be among the wealthiest entrepreneurs around. Indeed, many were rich, owning swathes of land and property. You simply couldn’t lose in the printing industry.
Then ‘estimating’ happened.
After a few generations of really good times, customers became more demanding. Some might say ‘more of a nuisance’, but let’s give them some credit; they did, after all, pay the wages. They now wanted to know in advance what a job was going to cost them and they wanted it to be more than just a guess on the back of a cigarette packet. So, the estimating department was born.
It wasn’t quite like the estimating departments of today. An estimate back then still remained a ‘guide’ in reality, as to how much a job was going to cost. Unforeseen circumstances in production, however, might easily lead to the price altering. The paper might not run so well on the machine. The ink might not dry as expected. It was a bugger to fold. Another shift might be needed to complete the job on time (at overtime rates, of course). All of these unforeseen events could easily add significant value to the final selling price.
It was common vernacular in the industry at this time to say to a customer:
“We quoted you ‘X’, but we need to add ‘Y’ for [whatever reason you care to insert here – commonly known as the ‘buggeration factor’] which means you will now be paying us ‘Z’”.
Customers didn’t complain too much, for this was a time when you could safely charge for pretty much every conceivable extra.
Many executives of a certain age fondly refer to this golden era of printing as the ‘heady days’ – when the cost-plus commercial model reigned supreme; and why not. It was a reliable way to make good money and provide a service that was much needed and valued by its customers. There was also a healthy drinking culture that surrounded the industry; but that was just a happy bonus. All in all, it was a great time to own and operate a printing company.
Then shit happened.
The party was over and the industry changed forever. Almost overnight, customers became super demanding. No longer were they happy to accept a guesstimate before placing a job; one that might wax and wane in price and was slave to the whim of the printer. No – they now wanted to know exactly what they were going to pay in advance. They didn’t want an estimate any more. They wanted a ‘quote’ – and they did not intend to pay a penny more than the price they were quoted.
Suddenly, all of the opportunities for charging extras that printers had previously counted upon to put some cream on the pudding were gone. The heady days gave way to a new era of cut-throat pricing that would last until the present day. ‘Cost-plus’, a commercial model that had once served the industry so well, now became its greatest nemesis.
The cost-plus trap
At face value, the cost-plus pricing mechanism seems sensible enough for a manufacturer, so why is it now failing the printing industry? What are its biggest flaws? Let’s find out.
To understand why cost-plus and the printing industry no longer work well together, we first need to understand the thinking behind this methodology for pricing. According to Wikipedia:
“Cost-plus pricing is a pricing strategy in which the selling price is determined by adding a specific mark-up to a product’s unit cost. Cost breakdowns must be deliberately maintained as this information is necessary to generate accurate cost estimates. Cost-plus pricing is especially common for utilities and single-buyer products that are manufactured to the buyer’s specification. The two steps in computing the price are to compute the cost and to add a mark-up. The total cost is the sum of fixed and variable costs. The mark-up is a percentage that is expected to provide an acceptable rate of return to the manufacturer. Buyers may perceive that cost-plus pricing is a reasonable approach. In some cases, the mark-up is mutually agreed upon by buyer and seller. In product areas that feature relatively similar production costs, cost-plus pricing can offer competitive stability if all firms adopt cost-plus pricing”.
On the face of it, this seems a good fit for the printing industry, so why isn’t it working? Wikipedia again:
“Although the cost-plus method of pricing has limited application, it is commonly used for the purpose of ensuring a firm is “breaking even” and not operating at a loss. In spite of its ubiquity, economists rightly point out that it has serious methodological flaws. It takes no account of demand and there is no way of determining if potential customers will purchase the product at the calculated price.”
This sounds like a serious flaw to the model as far as the printing industry is concerned. First, it takes no account of demand – a crucial factor in the current industry. Second, it seems that the cost-plus ideology can quickly deteriorate into a cost-plus-nothing survival strategy (i.e. the desire to simply break even); or worse, a cost-plus-heavy-discounting running out of options desperation model. Or worst of all, a don’t-know-my-own-costs-plus-ridiculously-heavy-discounting slit my own throat ‘coz I know I’m going down might as well buy that new press last ditch attempt at survival model.
Regardless, whatever variant of the basic cost-plus commercial model a printer currently has in place, there is still no way of guaranteeing its customers will actually purchase at the prices tendered; for customers do not always pay sustainable prices for printed work – knowingly or unknowingly.
Cost-plus clearly does not work in many circumstances in the printing industry, then.
Why is this?
The economists view
There is a formula used by economists to predict if cost-plus will work well in any given sector. At a fundamental level, it measures the so-called ‘elasticity’ of pricing in the market. If pricing is relatively inelastic, cost-plus tends to work well. However, if pricing is relatively elastic in a market, then cost-plus tends not to work so well.
The measure of whether pricing is said to be elastic or inelastic depends upon how prices for goods sold in the market react to certain purchasing criteria, such as a change in demand and the availability of suppliers. The pricing in the printing industry can be considered quite elastic by these measures, which, as adapted from Wikipedia, are:
- Availability of suppliers
The more suppliers available, the higher the elasticity is likely to be, as buyers can easily switch from one supplier to another.
- Complexity of specification
The more complex the specification of a good (or service), the lower the elasticity – a sophisticated product with few alternative suppliers to produce it, for example.
- Percentage of spend
The higher the percentage of the buyers overall (marketing) spend that the product’s price represents, the higher the elasticity tends to be, as buyers will pay more attention when purchasing because of the cost.
- Product necessity
The more necessary a good is, the lower the elasticity, as people will attempt to buy it no matter what the price is, such as the case of bottled water in a perceived upcoming shortage.
- Relationship duration
The longer the same supplier is used, the higher the elasticity is likely to become, as buyers find they have the time and inclination to search for alternative suppliers.
- Supplier loyalty
An attachment to certain suppliers, either out of tradition or loyalty, can override sensitivity to price changes, resulting in more inelastic demand.
- Availability of suppliers – increases elasticity
- Complexity of specification – reduces elasticity
- Percentage of spend – increases elasticity
- Product necessity – reduces elasticity
- Relationship duration – increases elasticity
- Supplier loyalty – reduces elasticity
So, best application of the cost-plus commercial model, using the above criteria as a guide, is in a market with:
- Complex products
- Necessary products
- Loyal client bases
Worst application of the cost-plus commercial model, using the same criteria, is in a market with:
- A large availability of suppliers
- Significant customer spending on products
- Long term buyer / supplier relationships
These both sound like relatively different sectors of the printing industry.
It is suggestive that a potentially good application of the cost-plus commercial model might be in the point of sale and packaging sectors. Here, the products are typically quite complex and have good utility – especially when it comes to packaging for foodstuff’s. Moreover, customers tend to be loyal as quality assurance is of paramount importance.
However, in the general commercial print sector of the industry, things are different. There are a large number of suppliers competing for the same work. Significant percentages of customer’s marketing spend is devoted to printed materials. And a lot of effort is expended by suppliers attempting to maintain long-term relationships with customers. The utility of the product is also, by some measures, significantly lower. These elements are all suggestive that the cost-plus commercial model is absolutely wrong for this sector.
Highly elastic markets, which include the general commercial sector of the printing industry, manifestly conform to the laws of supply and demand. What we are actually describing when we use this term, then, is the elasticity of pricing felt in the market as prices go up and down in response to the drivers previously identified – customer demand may be construed among them, but it is only a piece of the overall commercial equation.
There is no doubt that the demand for printed products by customers has some influence on how a printer prices its work. In general terms, if a printer is busy, its prices go up. If a printer is in need of work, its prices will reduce, especially when up against a direct competitor to win it. The abundance of other suppliers, over-capacity, high spends and long-term customer relationships contributes to this pricing pressure. This is pricing elasticity.
So, we have learned that commoditised markets tend to suffer from the most pricing elasticity, due to the waxes and wanes of what could also be said to be the ‘law of supply and demand’ – but it is, in fact, more complicated than this. This aside, general commercial print is increasingly considered as a commodity in today’s market; and this might explain why it behaves like one, in pricing terms at least. However, thinking of print as a commodity brings with it a whole host of other problems.
Economists use a term called ‘perfect competition’. Perfect competition emerges in the conditions of a ‘perfect market’. A perfect market is a one that is in commercial equilibrium. It is characterised by having a large number of buyers and sellers, producing homogeneous products the qualities and characteristics of which do not vary between suppliers.
The printing industry is not a perfect market but it does possess many of the characteristics of the idealised economic model of one. This comes with a range of economic and commercial difficulties.
Wikipedia perhaps sums it up best, with some of my own critical [additions]:
“Economic profit does not occur in markets in long term equilibrium. As new firms enter the industry [or existing firms become more efficient], they increase the supply of the product available in the market. These firms charge a lower price to entice consumers to buy the additional supply forcing all firms to compete for customers. Incumbent firms within the industry face losing their existing customers and are therefore forced to lower their prices. New firms will continue to enter the industry, [and existing firms continue to become more efficient], until the price of the product is lowered to the point that it is the same as the average cost of producing the product [or lower], and all of the economic profit disappears. Profit can, however, return in perfectly competitive markets in the short run, as firms continue to jostle for market position. Long-lasting economic profit in a competitive market is thus viewed as the result of constant cost-cutting and performance improvements of industry competitors allowing costs to be below the market-set price [resulting in a constant flow of firms exiting the industry].”
This may represent a rather bleak outlook to a printer. But there is opportunity in every difficulty; and the economics of the printing industry is open to exploitation by those companies willing to commit to better, more efficient ways of producing print.
Video killed the radio star
The first nail in the coffin of otherwise profitable returns from cost-plus in the general commercial sector of the printing industry came about with the advent of instant communications. And, this time, it wasn’t video that killed the radio star; it was email.
Before email, a customer of print found it difficult and time consuming to communicate with multiple potential suppliers in order to obtain a price for a job. The modus operandi of the day was the humble telephone. This meant that buyers would be content with one or two prices from trusted suppliers and they would rarely deviate away from existing relationships. The industry was therefore saturated with ‘loyal’ customers. And, as we saw earlier, customer loyalty is a driver of inelastic pricing. A printer could still use cost-plus as a basis for calculating selling prices and its customers would nearly always be willing to pay the asking price without complaint or (too much) negotiation.
Next, video did kill the radio star. Well, not video exactly, but the digital age, certainly. At around the same time that email had already begun to change how customers engaged with printers in the industry, the necessity for print itself began to alter, too. Where there used to be only three primary channels to market for brands – TV, radio and printed media (in all its formats) – there was now a new kid on the block: the internet.
The internet positioned print like never before; as a non-essential and increasingly unnecessary product. As we have now learned, product necessity is one of the key drivers of inelastic pricing; but the seeming requirement for printed media was now rapidly diminishing. So bad did it become that some predicted the need for print would soon disappear altogether, completely replaced by digital alternatives.
Pricing inelasticity had taken two hits, then. The first was the introduction of email that encouraged customers of print to ‘shop around’. The second was the advent of the internet and the resulting repositioning of print as a potentially unnecessary product. As such, print became an elastically priced commodity whose only real drivers now, were the forces of supply and demand. This was at a time when the demand for print was waning and the number of printing companies ramping up efficiency was on the increase.
It was the end of profitable pricing based upon the commercial principles of cost-plus. Well, not quite. As stated earlier, there remained pockets of opportunity for printers to earn a decent living but, to gain access to this bounty they would need to be prepared to implement and oversee constant cost-cutting and performance improvements in their businesses. Only then could they win out over the competition and carve out a profitable slice of the market for themselves.
Recall that cost-plus does not work particularly well in markets where there is a large availability of suppliers servicing customers possessing significant spends on print in long term buyer / supplier relationships. However, given the assessments made above, we can refine this statement further and say:
Cost-plus can work well in markets where there is a large availability of suppliers servicing customers possessing significant spends on print in long term buyer / supplier relationships, only when suppliers are willing to implement and oversee constant cost-cutting and performance improvements in their businesses to out-compete other suppliers in the sector.
In other words, if you want to compete in a cost-plus dominated marketplace, cost cutting and efficiency improvements are a fact of life – and possibly the only real means of long-term survival.
What to do?
Let’s recap. The cost-plus commercial model is a potentially bad fit in markets where there is no customer loyalty, relatively low desirability for the printed product in comparison to other marketing channels, yet relatively high print spends nevertheless, and a large part of the demand is for simplified product formats. We have also shown that cost-plus can be made to work in these exact conditions with a constant round of cost-cutting and efficiency improvements in order to outperform the competition. You could call it ‘success by brute force’ and it wouldn’t be too disingenuous.
For many printers, however, there simply isn’t the enthusiasm, let alone the financial and human resources available, to embrace these methods. So, are there any alternatives?
Well, yes, there are; but they are not nearly as accessible.
Given the parameters that determine the suitability of a market for cost-plus pricing, rather than try and make the model work by squeezing production, the same outcome can be achieved by manipulating the inputs. That is, the cost-plus commercial model could be made to work better by creating greater customer loyalty, and convincing buyers that print is not just desirable but needed, and encouraging the uptake of more complex products. These three elements, when combined, might conspire to achieve a similar effect to an overall increase in efficiency in the supply chain – in principle, at least.
- But how does a printer go about creating customer loyalty?
- And how do they convince buyers and marketers that print is more than just desirable; it is actually needed?
- And what differentiates products in such a manner that buyers come to prefer complex products over simpler alternative formats?
Answers on a postcard, please. In the meantime, let’s take an educated guess:
Customer loyalty is created when a company offers products or services in such a manner that the customer wants to come back in the future to buy more stuff. It is based upon six key pillars of customer excellence:
- Social values
They are listed here in order of importance. In a recent brand loyalty survey (source available) respondents were asked which of these pillars acted as the biggest drivers of loyalty. Here is how the numbers stacked up:
Customers care a lot about quality and they care a lot about customer service. Next, price and convenience are important and are pretty much on a par with each other. Finally, commitment to social values and supplier status play relatively minor roles in building loyalty by comparison. No surprises here then, really. So, how come in the printing industry the key driver of the majority of purchasing decisions always seems to be around price?
You have probably heard it said, but the assumption in the marketplace by most clued-up buyers is that quality and customer service are givens. That is, wherever they choose to buy print, they will experience similar levels of these first two pillars of customer excellence. This may be flawed thinking as some printing companies will no doubt wish to testify. The fact remains, however, that most buyers perceive that they will receive roughly the same quality of product and customer service levels wherever they choose to buy the printed product.
This leaves price and convenience as the two major determinants of customer loyalty. Note: not the two major determinants of a purchasing decision per se; but of customer loyalty itself. In other words, printers can only encourage customer loyalty by offering permanently low prices in the most convenient manner possible.
‘Permanently low prices’, means an ongoing commitment to cost cutting and production improvements. ‘Convenience’ might mean, among other things, the deployment of technology that will make the customers life easier; both in terms of obtaining prices in the first place and then placing orders with the supplier. The closer the supplier can make the customer experience feel like ‘Amazon’ in this respect, the better (get in touch with the author for more about this).
Print is needed?
The purpose – or ‘utility’ – of print can be a tough property to measure. What is prints practical purpose? In some cases, printed products can be easily assigned utility. A 3D end-of-aisle shelving unit, for example, holds pots of cooking sauce and puts them on display for the convenience of the consumer who will look at them, pick them up and then buy them. That is a real, measurable utility function. Similarly, even a humble beer mat can be said to have a measurable utility. It sits on a table and stops beer running down a glass from staining the surface. Is that needed? Sure!
These are examples of what might be called practical utility. The printed product in these cases actually have a designated function in the real world and perform some sort of task or job; such as holding stuff, or soaking up beer on a table. But what about a fashion magazine? What is its utility?
Now we enter murky waters. The utility function of a fashion magazine is much harder to define. First off, it is not a practical utility, but an abstract utility. This means its utility is in the mind of the consumer. Of course, aficionados of fashion might assign a very high utility to a printed fashion magazine with pictures of the Breton Stripe dominating summer attire, whilst gleaning knowledge and know-how relating to the fashion industry. Should it happen upon the table of a car mechanic, on the other hand, it might very quickly be given a new utility; that of becoming a coffee cup coaster – not unlike a beer mat. But this is not its intended utility.
Convincing buyers of printed products of its underlying utility, then, can be troublesome. The only way to do this is to drill home the efficacy of print when compared to other media. Its utility function then becomes less abstract and is increasingly measurable in the real world. It is only real-world metrics that are taken seriously by print buyers.
In the spring 2017 edition of Print Power magazine, for example, it states on the inside front cover that adding print to the media mix can improve ROI by 17%. This is a great utility function: to improve the ROI in marketing spend by a measured amount. Elsewhere in the magazine, on page 10, it states that “87% of US millennials read at least one print magazine every month”. This might be great, but it is not a utility function. At best, it is an abstract utility that offers little persuasion to a marketer to spend money on the printed medium. There is nothing wrong with it as a positioning statement, of course, but for the industry to be able to persuade buyers that print is needed, it has to find more compelling ways of selling prints utility.
Given the choice, most printers tend to shy away from complex products and stick with simpler formats. There are many reasons for this, but the two key drivers tend to be the availability of skilled staff and access to suitable production equipment; usually in that order. The reason why the production of complex products can lend itself to cost-plus pricing is the lack of availability of alternative products elsewhere in the market. There is no great advantage to manufacturing complex printed products, however, unless it improves the practical utility of the product in some way.
For example, if a customer wants a printed magazine to hand out at an open-air festival to serve as a guide for visitors, the printer might suggest an increase in the complexity of the product by recommending a laminate to the outer cover. This laminate is not just for show, but will actually increase the practical utility of the product by making it more durable and, to some extent, weatherproof. Not all printers offer laminating services and this means that should the customer decide that this increase in utility offers an advantage, the price will now become slightly less important than it was previously. It is improvements in practical utility that the customer will value above all others. An increase in abstract utility, on the other hand, such as the addition of gold foil blocking, for example, might make it a more attractive product, but it won’t increase its practical utility to any great extent.
Unless a printer intends to move out of the market niche they currently operate in altogether, however, it remains quite difficult to increase the complexity of a product for the purposes of reducing pricing pressure.
There is, however, an altogether alternative approach. Rather than make the printing industry a good ‘fit’ for the cost-plus commercial model, it could adopt a completely different pricing model. Indeed, there exists such a model; and it is called Value-based pricing. Wikipedia:
“Value-based pricing in its literal sense implies basing pricing on the product benefits perceived by the customer instead of on the exact cost of developing the product.”
For this approach to work well, the industry as a whole has to become much better at selling the benefits of the printed product to its target audience; and the value it adds to brands and brand owners alike. Indeed, evidence of this approach has become much more noticeable in recent years with the likes of the BPIF, Print Power and Two Sides all doing their bit to champion print as a communications channel with high utility and consumer benefit.
It is at odds with this powerful message, then, that the industry at large continues to price its products as a commodity using cost-plus as the basis of every critical commercial decision. Moreover, if the printed word genuinely does possess an intrinsic value that surpasses the cost of production, it might be considered as one of the greatest oversights in the industry’s long and prestigious history that this is not somehow built into the commercial proposition to its consumers.
And until we figure out how to do this, production evangelists are going to continue to be very busy indeed.