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Price-Led Costing

The problem is not with technology. It is with mentality.

Traditionally, Western companies have started with costs, put a desired profit margin on top, and arrived at a price. This is cost-led pricing. In price-led costing, the price the customer is willing to pay determines allowable costs, beginning with design costs and ending with service costs. Marketing provides information on the price the customer is willing to pay for the value the product or service provides.

A cross-functional team starts its analysis of costs by taking this price as a given. The team then subtracts the profit required to compensate the enterprise for capital investment and risk, and arrives at an allowable cost for a product or service. Then it proceeds to make the tradeoffs between the utility provided by a product and allowable costs. Under price-led costing, the entire economic framework focuses upon creating value for the customer and meeting cost targets while earning the necessary rate of return on investment.

ACTION POINT: Examine the cost-and-pricing procedures used in your organization. Are they cost-led pricing or price-led costing? Focus on creating value for your customer and implement price-led costing.

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* Source: The Daily Drucker by Peter F. Drucker

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