Ford's (F) - Get Report recent second-quarter pre-tax operating profits of $2.9 billion -- its best results in six years -- were recently announced with a "you ain't seen nothing yet" sense of optimism. So what is Ford's "secret sauce" to higher profits? The return to its road-tested bag of pricing tactics.
In my first pricing book,
The Art of Pricing
(Crown Business, 2005), I used Ford as the poster child example of the outsized profits that can be garnered from straightforward "better pricing" initiatives. In an interview with Lloyd Hansen, at the time the vice president of revenue management at Ford, he recalled the "Aha!" moment that led him to realize that pricing was a powerful strategy to focus on.
Throughout his career, Lloyd's efforts to improve profits had centered on cutting costs, a key component of every company's profit function. Echoing the concern of many executives I meet, he began to wonder if the Big Three automaker was pricing its products correctly. Intrigued, he ran an analysis of the effects on Ford's bottom line from an additional 1% of net profit margin and the results were startling. An extra penny in profit from each revenue dollar would increase Ford's net income by 33%, cash flow by 45%, and if sustained over time, boost Ford's market value by 45%.
Little did he know, but Lloyd Hansen was about to discover and implement one of the most profitable business strategies in the history of Ford. His four key pricing initiatives were easy to implement:
(1) Encourage and offer incentives to the sales force to sell the most profitable vehicles;
(2) Use discount "packages" to up-sell customers;
(3) Cross-sell financing from Ford Credit;
(4) Restructure the mix of fleet vehicle sales -- lessen the reliance on sales to rental car companies (which quickly resold cars on the used market, thus lowering resale prices) and put a greater emphasis on commercial and government fleet sales.
These four initiatives began as a one-year test in five out of Ford's 18 sales regions. At the end of the experimental year (1998), the regions that were doing business as usual missed their profit target by close to $300 million. The five that used the new pricing strategies collectively beat their profit target by approximately $1 billion. This over-the-top success led all 18 sales regions to quickly adopt these new pricing practices in 1999. Ford estimates that an extra $3 billion in annual profits resulted from these initiatives.
In 2010, Ford is again rallying around its consistent money-maker strategy of pricing. In the vein of its earlier strategies, Ford is focusing on:
(1) Setting prices that capture the high value of its products. Operating profit for every vehicle sold in North America rose from $2,265 in the first quarter to $2,905 in the second quarter;
(2) Offering consumers more options to choose high margin/high value items such as Sync communications systems, entertainment packages, and upgrades (heated leather seats, for instance);
(3) Creating value through unique differentiation. Emphasis is being placed on creating differentiated attributes that consumers are willing to pay premiums for such as style, quality, fuel economy, and high-tech features;
(4) Managing supply to avoid excess inventory. Production levels are constantly monitored to avoid excess supply which inevitably leads to unprofitable fire sales;
(5) Boosting the resale prices of its vehicles by restricting fleet sales to daily rental car companies.
The results of these straightforward pricing initiatives are impressive. Slightly more than half of Ford's $2.1 billion second-quarter automotive operations profits came from these pricing strategies.
A key benefit of focusing on better pricing is that prices can be changed on Sunday evening and new profits will start rolling in as early as Monday morning. Given the financial windfall reaped from Ford's initiatives, the top priority at every automaker -- including GM, Chrysler,
-- should be to uncover their billions in hidden profits by making basic improvements to their pricing strategy.
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