This is really interesting to hear from your perspective! It brought to mind John Sterman's writing on supply chains in his book Business Dynamics, which I'm working through with a friend. The different stakeholders, where to draw model boundaries, and delays in the process all are covered. Curious: have you encountered anyone using system dynamics to try to improve accuracy of the costing process?
Just a small edit: if a product costs $1.00 to make and that you price it at $1.30, that is a 30% markup but effectively a 23% Gross Margin.
I think your piece is a great segue into another very relevant topic which is pricing: it is for sure fundamental to understand your costs when thinking about the pricing of a product, however many companies use this bottom-up approach only, without taking into account what the customer would ultimately be willing to pay for it.
It is not because your product costs X to make that a customer would necessarily be willing to pay X + 30% : in some cases it could be X+ 15% and in some X + 80%, depending on how much is the perceived value of the product to the customer.
Having transparency and control over your cost base is therefore an imperative from an operational standpoint but COGS should never solely determine a company's pricing strategy, a top-down approach to pricing (i.e. value based pricing) should always be preferred.
Ahh yes thanks for the math correction, I had thought about it as I was writing but didn’t bother to check. Thank you. I've thrown in the edit.
I agree on the customer not knowing the margins. It is all about perceived value and as soon as someone has a similar product in the market at a lower price that value becomes more difficult to defend. The more "me too" products exist the more that value proposition is eroded.
Cost is king, generally I’ve seen it more and more as a protection play but companies have backwards integrated a lot to protect versus shortages and to either buy open market or make internally themselves. As well as other companies have cut supply to raise prices because their expansion plans didn’t get the prices they thought it could.
By having the flexibility in inputs, it makes product management harder because you have one product but could be made two different ways but to the end user or sales person it’s the same. Internal vs open market just depends on the market pricing and where your production is located.
I haven’t personally experienced it. Usually the heat costing experience I’ve had was one person (usually a product manager) willing to take the time and dive deep and figure it out.
COGS... There are many studies showing a $1 reduction in COGS (per unit) is far more important that $1 increase in price. Then again, you can't save your way to success. It is a race to the bottom, and that is no fun at all.
I loved this moniker an old Six Sigma guy used say something like: "you can't cost cut your way to growth." Much of the chemical industry is in a race to the bottom on price and in the short term it's a zero-sum game when it comes to getting a new customer.
When one company seeks to divest their specialties business because it has become too commoditized due to lower priced competition another is willing to buy it because it's more "specialized" than what they are doing now.
This is really interesting to hear from your perspective! It brought to mind John Sterman's writing on supply chains in his book Business Dynamics, which I'm working through with a friend. The different stakeholders, where to draw model boundaries, and delays in the process all are covered. Curious: have you encountered anyone using system dynamics to try to improve accuracy of the costing process?
Thanks for the piece Tony!
Just a small edit: if a product costs $1.00 to make and that you price it at $1.30, that is a 30% markup but effectively a 23% Gross Margin.
I think your piece is a great segue into another very relevant topic which is pricing: it is for sure fundamental to understand your costs when thinking about the pricing of a product, however many companies use this bottom-up approach only, without taking into account what the customer would ultimately be willing to pay for it.
It is not because your product costs X to make that a customer would necessarily be willing to pay X + 30% : in some cases it could be X+ 15% and in some X + 80%, depending on how much is the perceived value of the product to the customer.
Having transparency and control over your cost base is therefore an imperative from an operational standpoint but COGS should never solely determine a company's pricing strategy, a top-down approach to pricing (i.e. value based pricing) should always be preferred.
Ahh yes thanks for the math correction, I had thought about it as I was writing but didn’t bother to check. Thank you. I've thrown in the edit.
I agree on the customer not knowing the margins. It is all about perceived value and as soon as someone has a similar product in the market at a lower price that value becomes more difficult to defend. The more "me too" products exist the more that value proposition is eroded.
Cost is king, generally I’ve seen it more and more as a protection play but companies have backwards integrated a lot to protect versus shortages and to either buy open market or make internally themselves. As well as other companies have cut supply to raise prices because their expansion plans didn’t get the prices they thought it could.
By having the flexibility in inputs, it makes product management harder because you have one product but could be made two different ways but to the end user or sales person it’s the same. Internal vs open market just depends on the market pricing and where your production is located.
I haven’t personally experienced it. Usually the heat costing experience I’ve had was one person (usually a product manager) willing to take the time and dive deep and figure it out.
Doesn’t mean other places aren’t doing it though
COGS... There are many studies showing a $1 reduction in COGS (per unit) is far more important that $1 increase in price. Then again, you can't save your way to success. It is a race to the bottom, and that is no fun at all.
I loved this moniker an old Six Sigma guy used say something like: "you can't cost cut your way to growth." Much of the chemical industry is in a race to the bottom on price and in the short term it's a zero-sum game when it comes to getting a new customer.
When one company seeks to divest their specialties business because it has become too commoditized due to lower priced competition another is willing to buy it because it's more "specialized" than what they are doing now.