How to Decommoditize a Product or Service
Before we talk about how to decommoditize a product or service, let’s talk about what a commodity is. A commodity is a product that is virtually identical to alternative products in a marketplace. This leads to buyers making their purchase decisions on price and availability alone. As a result, vendors are under price pressure, and commodity marketplaces typically return substandard profits to most of their vendors, as the lion's share of the business goes to the lowest-cost supplier. As a result, in most business-to-business markets, buyers pressure vendors to offer higher discounts, lower prices, and extra services. One tactic is to threaten to take the order to a competitor, who will often offer a lower price. The drumbeat of downward pricing pressure convinces salespeople, sales managers, and even some chief executives that low price is their buyers' primary or only decision driver. As a result, they gradually perceive their marketplace as "commoditized."
But most marketplaces are not commoditized. The low-cost supplier dominates very few markets. In fact, it is often noted (with surprise!) that the dominant player in a given market can maintain its dominance even with higher prices.
The classic example is Starbucks, which de-commoditized the coffee marketplace. Starbucks replaced the fifty-cent cup of Joe with a $3.00 "low end" product and successful offerings as high as $4.95. But Starbucks is a consumer product, and examples also abound in the business-to-business world. AMD routinely underprices Intel in the business of microprocessors, but Intel had just over 70% of the microprocessor market in the first quarter of 2022. VMWare confronts Citrix and Microsoft in the virtualization software market and a commanding portion of the market. Microsoft's Hyper-V and Citrix's XenApp are both offered for free, yet VMWare enjoys sales volume about three times as high. Microsoft, AMD, and Citrix are credible companies with quality, reliability, and world-class support histories. Nonetheless, like Starbucks, Intel and VMWare can hold commanding market shares and higher prices.
Are you a commodity? This would mean that your management team has failed to establish differentiators meaningful in your marketplace. You are a commodity when your market views you as nothing special and decides to buy from you primarily on your price. Feeling this pressure, you probably feel forced to cut prices and add more and more value to what you offer. You feel pressure to win customers by providing even "more for less."
But there is another way. Starbucks does it, Apple does it, Intel does it, VMWare does it, and John Deere does it. Zantac came into the market deliberately with prices 10% higher than the established leader. The list goes on and on. In nearly every industry, some companies have found ways to differentiate themselves from their cheaper competitors, to compete on bases other than price. They have escaped the commodity trap, and you can, too. These are some of the methods they have used:
Decide.
The most critical leap you need to take if you want to de-commoditize your business is a willingness to say no to a portion of your marketplace. You can't sell to everybody, and you can't sell to the part of the marketplace that views price as its most important decision driver. If the company's guiding principle is "we will never lose on price," it is admitting that it has failed to establish differentiators that its customers will pay for and in which it has confidence.
Remember when netbooks emerged, maybe 12 years ago. These PCs were defined by their low price point and low-powered processors. Industry analysts pressed Steve Jobs, the then CEO of Apple, to bring out a netbook. Jobs answered, "I don't know how we could bring out a quality product for $300.00". In that one sentence, he reaffirmed Apple's strong willingness never to price compete. Apple said "no" to the vast number of customers looking for cheap computers. If customers wanted a $300.00 computer, they would have to go elsewhere. In that statement, he also defined his marketplace: customers looking for quality and other differentiators. And Jobs had confidence in his differentiators' value to his segment of the market and their willingness to pay for them.
Segment.
The Decide step is a matter of attitude. It's a matter of will. It's a matter of confidence. The Segment step is a matter of research and analytics. Its importance cannot be overstated. A study by McKinsey and Company of the 100 largest corporations in America found that the decision of where to compete accounted for 80% of their differences in growth. If these companies competed in segments that were growing, they would grow. The segmenting step needs to be based on willingness-to-pay research and is a challenging, soul-wrenching process of deciding which segments you can serve most profitably, what segments you should say no to, and dedicated product development, partnering strategies, marketing resources, go-to-market strategies, and sales resources to serving those segments better than anyone else.
Differentiation.
Much of what leads to de-commoditization comes from meaningful differentiation. As mentioned above, commoditization comes from buyers who perceive their purchase options are virtually identical. Then the price becomes the deciding factor - the business mostly goes to the lowest-priced alternative.
Therefore, differentiation must be developed from a detailed understanding of what features, functions, and benefits potential customers value and specifically are willing to pay higher prices than other features, functions, and benefits. To find that out with the greatest accuracy, the gold standard is to conduct willingness-to-pay research into a company's marketplace and genuinely understand the differentiators that affect the monetary value perceived by customers and, therefore, how differentiation can support prices higher than the competition without a loss of sales volume to these.
Drive Customer Value.
This direction has been a staple of management seminars for nearly 50 years, but it rarely achieves the prominence in day-to-day management it should. Monitor customers' circumstances as they change constantly. This means you must continuously monitor your value creation landscape, continually finding new ways to improve customer value. Drive Customer Value dovetails with Segment, as different market segments will benefit from different parts of your offerings. Changes in your target segment can create singular opportunities to improve your perception of value.
Bundle.
Bundles are versions of your products – often several products grouped together – that solve a specific customer problem or give you access to the desired customer segment. When you identify a customer problem and present a commitment to solving it, this improves your perception of value in the eyes of the customer, enables you to close sales more readily, and often earn higher prices as well. Bundles typically do not need new product development; design them based on how your customers use your products. These use cases can be turned into usage notes, case studies, pre-installed configuration options, and combinations with other products – yours as well as complementary products from other vendors.
Unbundle.
Unbundles are offerings with specific attributes removed to offer a lower-price alternative. Well-designed unbundles can serve a segment unwilling to pay your standard prices, enabling you to earn profits from customers who would otherwise buy from competitors. They also give your sales channel (salesperson, menu, website) a way to respond to customers' demands for lower prices, forcing them to recognize the attributes' value and decide whether to pay for them.
Summary.
Commoditization is more often the perception than the reality. It is the natural result of customers constantly pressuring companies to lower their prices. When companies lack the structures and the sales skills to resist that pressure, they give in to it, compete primarily on price, and end up...commoditized.
Download our Guide to the 7 Easy Steps To Successfully Increase Prices.
Contact a pricing consultant to fix your pricing issue today.
