We’ve had some fun watching the battle of the retail titans–Amazon and Wal-Mart over books and toys for the Christmas season. The prime reason for the battle is that as Amazon encroaches into Wal-Mart’s retailing space, Wal-Mart wants to encroach back into books. Sure it makes sense. The current battle centers around top selling books that usually sell in the $20-$30 range. Both retailers are now locked in a race to the bottom to see how much money they each can lose–the current level is down to $9.00 and expected to go lower.

The book retailers like Barnes and Noble might be watching their demise as this dance of the titans is sure to crush at least some of the struggling book retailers. Ordinarily, I would say that this price war is a bad thing. Book sales are static–they actually declined a bit this year. As price competition heats up, it takes out profits and revenue. I like book stores–they’re great places to browse and buy books on a variety of interesting topics. I’d hate to see them go the way of the floppy disk. That is, if it weren’t for one thing—technology.

Though you couldn’t tell from the mountains of books I’ve got stuffed in different locations, they are actually quite inefficient. Once the author is done, they get type set, printed, stored, shipped, and stored again before we buy them. It costs a lot of money to do that. It burns trees, fuel, cash and patience. It’s tough to find subject areas or names in most books and they take up too much space when you read them–usually only once.

E-books, on the other hand, are quite efficient. They are easy to duplicate, store, transmit, research and read. In fact, it costs nothing to do any of that. The Amazon Kindle device holds the equivalent of 1,500 books in the space about the size of a comic book. It’s no wonder that between 1 and 2 million of them will be sold this year (including Sony!). While growth in books has stopped, growth in e-books roars on at 200% per year. Yet as good as that looks, their penetration in the overall sales of books is only 1%–they have a long way to go.

There are two things holding them back. The first is the book–I’m like a lot of people, I like to hold a book while I’m reading it. I’m proud of all of those books sitting on the shelf. There is a good story or an interesting insight in each of them. They are, to a certain extent, an indication of who I am–my interests and knowledge. Who am I going to impress with a Kindle sitting on my desk. But even this old dog is starting to realize that the day is going to come when I’ll be reading on an e-reader. I’ve already experimented with on-line newspapers and it’s not going to be long before the Boston Globe and The Wall Street Journal are going to loose a paper subscriber.

The Wall Street Journal will gain an on-line subscriber though. Due to news alerts and research capabilities, I’d be willing to pay the $1.99 a week for the on-line version, even though it’s only $.30 cheaper than the print version. The WSJ is smart because they’ve truly made their content e-friendly, unlike most of the other on-line efforts of the print publications.

It’s a bit different in books, and this is going to get me to my point. E-books from Amazon range in price from full price ($20-30 to a discounted $10). That’s not enough to make me switch and I’m probably like a whole bunch of other people. However, when e-books get down to the $2-3 range, this bad boy is going to rev up his electronics and move into this century. If I could do it with an I-Pod, I can do it with an e-reader.

My point is that the current price war between Amazon and Wal-Mart is about more than just retailing. It’s about a clash of technologies. It’s about getting more people to buy-on line–that’s efficient. Especially during the Christmas season where it saves time and gas. It’s also about moving away from printing presses, trucks, inventory and paper. This move is inevitable and it’s good for the economy and the environment. Traditional publishers are not going to be the ones to encourage us to make the move–they have too much money invested in printing presses. Their current pricing strategies are there to protect the sale of print books as much as to sell e-books. That’s too bad because it often limits access to knowledge. In text books for example, publishers for books for elementary school kids have found that demand for the e-books his tripled their book sales. More kids get to read, less money is spent inventorying old books–everybody wins here.

The current battle between Amazon and Wal-Mart is going to push the prices down of e-books to the point where we can’t help but adopt the technology. This is one price war that may damage the buggy whip manufacturers but it’s going to be good for the rest of us. Easier and cheaper access to the real thing of value–content and knowledge. The only question I have is what will I do with all those darn bookshelves.

Rafi Mohammed is one of the leaders in the pricing community.  His book The Art of Pricing is a worthwhile read and his blog often contains interesting commentary.  His most recent one describes an FCC auction for bandwidth in which bidders used the last three digits of a bid to signal their level of interest or their intent to fight hard for a particular piece of the spectrum.  For example, if a bidder wanted the Chicago market, it would add the numbers 234 to the end of the bid.  Research showed that bidders that did this had a much higher likelihood of winning that particular spectrum.

 Sellers use auctions to maximize the returns that they get from a sale.  More recently, buyers use “reverse auctions” to obtain products and services at the lowest possible costs.  Whether they are conducted on line or with an RFP process, the problem for sellers and buyers on the other side of the auction is that there are often so many bidders of differing level of quality and support that it is difficult for them to make any money if they should win.   Author Richard Thaler called this The Winner’s Curse in his book of the same name (the book is required reading for astute pricing managers!).

Because of “The Curse” (not to be confused with the Curse of The Bambino which was lifted for the Red Sox in 2004) many bidders will try to do things which limit the damage.  This is a common problem for sellers and they often have no legal response.   Sophisticated firms in competitive markets will often use Pricing Communications Systems (Discussed in Chapter 7 of Pricing With Confidence).  As part of those systems, they use “constituent communications” aka, signaling to try to influence the behaviors of competitors. 

Many industries use constituent communications to limit the damage of aggressive pricing behavior.  The steel and airline industries are two good examples.  The problem in the airline industry is that often competitors have dramatically different cost structures and the legacy airlines will try to signal that they are changing prices but the low cost airlines won’t follow.  This tactic has worked quite well, however, in the steel industry where a lead competitor like Nucor will announce in advance that they are raising prices and let other competitors follow.  Because of this, the steel industry has stabilized and until recently, has been making money through the downturn.  They recently saw a dip in profits when they misread the market turnaround and opened up too much capacity too soon–prices and profits dropped.  This type of communications is generally legal and it works.

The question I posed to Rafi is whether he thought trailing digits bidding was legal.  Gene Zelek of Freeborn and Peters in Chicago is one of the leading experts in this area–we’ll get him to weigh in on the subject too.  I’m not a lawyer but my sense is that it is legal.  As long as the communications is done one way and in a public venue, it’s not a conspiracy in the eyes of the law.  We’ll se how Rafi and Gene respond. 

The problem is that many pricing managers and senior executives don’t understand how critical knowledge of this area is.  A simple and innocent discussion about a customer and price between two competitors at a health club or a convention over drinks can represent a conspiracy.  I recall one case in Maryland where a Real Estate Broker stood up at a meeting of other brokers and said  that he was raising his rates to 7%.  Several attendees did the same.  That represented a conspiracy and they ended up being fined and going to jail.  They just didn’t understand the law.  Some companies have learned their lessons and have simple policies in place which educate and prevent employees from simple mistakes like this.  Companies that don’t put their executives and the actual companies at risk since the damages are tripled in some cases.

This is an important subject area that doesn’t get discussed enough.  As a result, many firms are unknowingly both at risk and in some cases in violation.  This is one area where an ounce of prevention is worth a pound of cure.  

Thanks to Rafi for bringing this point up and starting the discussion.

There was an article in today’s The Wall Street Journal that talked about how restuarants are using price discounting of drinks to try to stem the decline in customers.  The concern in the article is that they are discounting the most profitable part of their business–restuarant food generally has a 25% margin and drinks have a 75% margin.

There are times when discounting does work and this seems to be the case.  Why?  Because cheaper drinks will cause people to go to the restuarant who might not have normally gone.  While the profit margin might be lower, the increased volume and additional contribution makes up for the discount.  If the discount is taken by people who would normally show up, it might not be as productive.

We’re doing that now on the home front.  We usually go to a restuarant/bar in our downtown–the food is good and we know the bartenders and the crowd.  But the drinks go for $7 to $12.  We’ve started going to another bar on the other side of town where the food is cheaper and the drinks generally are a bit cheaper.  To provide more of an incentive, this bar has partnered with Bud to sell their Bud Select for two bucks a brew.  To add to that incentive, we get $5 coupons on the internet that we can use every time we go.  All that’s caused our bills to drop by about 40% and these guys also serve popcorn–one of my favorites.

In this case their discounting works even better because they’ve gotten a vendor to provide most of the discounts.  We’ve begun to develop a preferrence for the location and will probably continue to go there once this particular set of discounts end.  We’ve gotten to like the crowd and the bartenders.  One problem that we see is that it won’t work that well for Bud–once the discount on the Select ends, I’ll switch back to my usual brew. 

The point is that discounting should be strategic–it should buy you something.  That something could be increased revenue, increased loyalty and certainly increased profits.  There has to be that connection in the process. 

If all you’re doing is using discounting to close a deal, you might not be gaining any of this.  Just closing a deal is often poor justification for price discounting.   There are numerous reasons for this: you may not make any money on the order, you might have gotten it without discounting (believe it or not, this is often the case), or you may have a competitor respond and start a discount battle.

The trick is to be able to know the difference between discounting that works and discounting that doesn’t–that’s one big difference between strategic and tactical pricing.

Rags Srinivasan is one of the more insightful bloggers.  He backs his statements up with solid research and insight.  He recently took the pricing quiz on our website and sent the following e-mail: 

“By the way, I took the Pricing Quotient quiz in your web site. I am unable to pick one answer over the others to some of the questions. For example, the price of the bundle. All answers are possible and the marketer must choose the one that maximizes profit.”

He wrote an extensive and thoughtful post on why the last question in the quiz had no correct answer.   

Here’s the question in the quiz:

When bundling products for a solution, companies should:

1. Give the services away for free
2. Price the solution higher than the component offerings
3. Price the solution lower than the component offerings
4. Price the solution equal to the component offerings

The correct answer is 4.   I’ll get to that in a minute.  Rags points to three cases that point to no correct answer.

The first is when there is a bundle of higher quantities of the same product.  I call that a quantity discount.  Is it technically a bundle?  Yes.  The bundled per item price is still lower than the single item price so answer 4 would be correct.

The second case is a price for braiding at a hair salon.  The charge per braid is higher the more braids on the same head of hair–he takes this story from Steven Levitt of Freakonomics fame.  My cousin runs a hair salon and she would tell you that the reason that they charge more per braid for more braids is that they are smaller and more difficult and time consuming.  So Rags is right on this one.

Finally, Rags points to the difference between bundles that include integration of services and support.  In those cases, the cost of the bundle with the services could be more than the individual components without the services.  Once again, he is correct but on an important point of interpretation–one that causes lots of problem in the BTB world.  I’ve always said that the services have to be looked at as a separate “product” and charged for.  That way, when customers ask for discounts, the services can/should be taken away as part of the negotiations process.  If done properly, the issue of integration of services should meet the criteria of answer 4.

A common problem in BTB go-to-market strategies is that we “bungle the bundle”.  That is, we offer a bundle of multiple products and services.  Then, during customer negotiations, we list individual line items and begin to discount them so that the bundle is suddenly priced higher than the individual items.  This undermines the purpose of the bundle–to provide an incentive to customers to purchase the multiple items.

Correct bundles, with few exceptions (one of which Rags pointed out) need to have individual items priced higher than the bundle to work.  To execute properly, the individual items can’t be price discounted–the bundle should be.  That way you protect the original intent of the bundle.

By the way, one other time that you might price the items lower than the bundle is when research shows that there an interaction effect between product features.  That is, by combining two features, such as FM and stereo on a radio, it has a higher value than the total for the individual features, you can charge more for the bundle.   The problem with that is that most conjoint research designs assume that there is no interaction effect–another common mistake.  But we’ll save that discussion for when we’ve had a few drinks–it will be more interest.

Thanks to Rags for starting this discussion–we don’t do enough of that in the pricing field–here’s hoping for more.

Be Well—Reed

This has been the worst recession in my lifetime.  Business activity continues to be slow.  While there are signs that we may be at the bottom (why is that suddenly a good thing?) unemployment continues to rise.  Most companies are continuing in the survival mode.  They’re cutting expenses to the bone.  Capital projects are on hold.  Price discounting is used to keep the people busy or the plant active.  Comapanies are cutting prices where they have to and trying to hold when they don’t.  We’re all looking for the light at the end of the tunnel but aren’t sure what it will look like and when it will come.

I honestly don’t think the worst is over.  Yes, the recession might be over but there are lot of companies out there, big and small, that are on the brink of extinction.  They got there because they didn’t move fast enough to cut costs and inventory going into the recession (think GM and Chrysler and lots of technology/capital goods companies).  When the recession hit, cost cutting wasn’t going to be enough so they dramatically discounted their high value products.  Others, like United and the freight companies implemented unreasonable fees and alienated their loyal customers.  When the economy does grow again, these companies are going to quickly run out of cash and have a lousy business case with the banks and investors–an already skittish group.

There are companies that have survived during the downturn quite nicely.  I wrote recently about Oracle, once the poster child of discounting.  They’ve made lots of good acquisitions at low prices and rebuilt their value and pricing power.  And, they’ve leveraged both with good success.  Ford has gotten more customer focused and is beginning to see demand pick up in their popular models.  Cisco has held prices, continued to innovate and will be in fine shape when the global economy begins to rebound.  Microsoft will do just fine–especially with their new pricing and product strategy rolling out in several weeks.  They’re introducing a value priced flanking brand of Windows 7 and seem to have a good handle on getting customers to upgrade to the more functional suite of products.

A question for us all is: what should we do in anticipation of this blasted upturn that everyone seems to be talking about.  Here are a number of things to think about:

• First, don’t do anything until your business shows an uptick.  That could be in a number of areas of the future business dashboard: inquiries, proposals (a very dangerous indicator) or actual booked orders to mention a few.
• Now is a good time to review your strategy.  Don’t change it until you see the upturn.  For markets that are suddenly growing, a penetration strategy might be appropriate.  If you’ve been discounting the high value products to survive, you should be preparing to stop that once the markets do turn.  At least make sure you’ve identified the leading indicators we talked about above which would signal a change of strategy would be appropriate.
• Review existing policies and pricing systems and ask yourself a few questions: Are your pricing people disciplined about sticking to the process?  How well have your salespeople stuck to the rules and procedures?  If there is a disconnect–why does it happen?  If you’re reading this and don’t have any policies and procedures–now is a good time to begin to stitch them together.  Don’t worry about doing anything fancy here–just do something!
• Be ready to expand capacity.  Note I don’t say to expand capacity.  You should have a plan in place that identifies necessary resources to handle the increased demand when it comes.  Don’t jump the gun on this one.  With good pricing information systems (See chapter 8 in Pricing with Confidence!) most steel producers had held prices despite the dramatic drop in demand.  When they saw the possibility of a turnaround, a number expanded capacity.  But when the demand didn’t materialize–prices dropped dramatically–go figure!

Good pricers and managers are always looking ahead in the business cycle.  In upturns or in downturns, that’s true.  It’s a bit like walking a tightrope–you’ve always got to be ready to react but sometimes it’s just good to stay in balance.  If you don’t it’s a heck of a fall.

In prior years, I’ve been critical of Oracle’s heavy handed sales tactics which led to excessive end of quarter discounting–a problem that even they complained about on their web site.  But, in an effort to give credit when it’s due, I’ve got to hand it to Larry Ellison, CEO of Oracle for a number of recent moves which has built Oracle’s pricing power.  And, they’ve had the guts to exploit that power despite a dramatic economic downturn.

Last week’s BusinessWeek had an article titled Oracle Has Customers Over a Barrel.   The article talks about two primary things.  First, that Oracle has moved off its strategy of innovating from within to innovating by buying other companies.   In the past two years, Oracle has purchased $45 Billion in software and services companies in a move to become a more important and fuller service supplier for their customers.  This evolution of strategy is a good one.  As companies get bigger, they can not only innovate from within, they can also use profits to acquire other companies that have developed the innovations that the they’ve  missed or moved slowly on.

The problem with the acquisition approach to innovation is that most companies do poorly at bringing the new companies into the fold.  And, they don’t effectively leverage the increased value with better selling and pricing tactics.  In a follow-on article, Aaron Pressman points to two industry giants, Microsoft and once mighty Motorola that have failed miserably in the acquisition front.  But he also credits companies like Oracle, IBM and Cisco, the poster child for good acquisition strategy, because they do it right.

The point that I want to make is that Oracle wouldn’t have been on the good guy list if they hadn’t fixed their desperation pricing problem.  Several years ago, shortly after they purchased PeopleSoft, Oracle was still struggling with desperation pricing.  They were closing too many of their deals at high discounts–usually at the end of a quarter.  With the recent surge of acquisitions, they have not only done well at integrating the new companies into their portfolio, they have also done well at leveraging the new value by not discounting prices as much as the past.

In fact, customers are beginning to worry about the leverage that Oracle has in pricing.  Are they leaving the fold?  No, because the switching costs and the value are too high to justify the move.  We all know about the poker playing tactics customers, especially large ones use to get high value for low prices.  I’m pleased to see that at least one supplier has decided to turn the tables and do a better job executing price discipline.   The results to stockholders are dramatic–while other tech firms have struggled in the downturn, Oracle has healthy sales and profit growth and their stock price is surging as a result.

I’ve been struck by fees over the past month of traveling and think it’s worthwhile to make a few comments about the pesky things.  Fees can be effective facilitator of increased profits.  But they can also drive customers to increase switching and higher price sensitivity if not used carefully.  There is a balance between excessive fees and fair ones that pricing professionals and marketers need to be aware of.

Last year, we moved our business and personal banking accounts to a local bank due to two things.  I started the move when the big bank we were working with started charging me a fee for a monthly wire transfer.  The was just $15 but I kept a big balance in my accounts and was a good customer.  It just didn’t seem fair.  I knew that it didn’t cost them anywhere near that much to handle the transaction (it’s all electronic anyway).  I met with the branch Assistant Manager and he said that he couldn’t waive the charge.  I knew that wasn’t true.  We were also getting lousy service on our business account so we moved all accounts to a local bank where we are dealing with a VP Branch Manager who had been in the position for quite a few years.  We now get great service and no extra fees.

What’s the message?  Fees can cause loyal customers to switch when they are perceived as not being reasonable.  What is reasonable?  Security fees on airline tickets are reasonable because of all that security we see at the airport these days.  Plus, all the airlines charge the fee.  Fuel surcharges when gas prices are high are reasonable but they’re not when the price of gas goes down.  We rejected several moving quotes this year because they were still charging the fees even though the price of gas had dropped over a buck.

Baggage charges for the airlines appear to be reasonable because of the handling of the baggage.  Plus, they often get charged to vacation travelers who are not high value, loyal customers of the airlines.  Me?  I never check luggage.  Even if I did, it would probably be on American and they waive the fee for their loyal customers.  That’s effective use of fees.

I have started flying a lot on Northwest (Now part of Delta) because they are the only direct flight to a new client.  Northwest has a fee of $20 for a better seat–a lot like Jet Blue.  On a recent flight, I noticed that they only had one regular seat for no extra fee–it was way in the back of the bus and a middle seat.  So, I paid the fee for an aisle seat up front–it was worth it because the aircraft was packed.  If it hadn’t been packed, meaning that the airline was not showing available cheaper but still better seats, I would have switched to American and taken the hop through Chicago.  Not the case here and I felt the fee was fair.  We had to change flights and had to pay a $50 change fee–again.  Fair?  Yes, but I’m feeling a little nickel and dimed by these guys.  If the fees continue, I’ll probably say the heck with it and start doing the indirect on American–do you get the picture here?  Even though we have a client paying the charges, I’ll still switch because I don’t think it’s fair!

Southwest has begun charging a $10 fee for those people who want to get to the front of the line.  For business people, it means a front row seat, a guaranteed place for the luggage and first off at landing–not a bad deal.  That’s a well chosen fee for a target market of people who will be willing to pay the fee and think it’s fair.  I do wonder what the impact will be on people who are the casual traveler–will they get angry when people pay to cut to the front of the line?  It should be interesting.

The bottom line is that fees are an important consideration for companies that are looking for ways to increase profits and charge for special services.  Whether to a general population or to specific segments, when those fees are viewed as fair—they can be effective ways to call out the special features and services that customers can receive if they want to pay.   When fees are viewed as unfair by an increasing percentage of the population, however, they can cause increased switching and a declining population of loyal customers–something that has to be monitored over time.  Yes it is tricky but if properly managed, fair fees work and can be a significant boost for profits.

Pricing communications is about using public (aka, legal) communications to advise “constituents” about your pricing intentions.  It is about sending those intentions to three primary groups—customers, competitors and salespeople.  Note that it is not legal to communicate directly with competitors about pricing since it represents collusion in the eyes of the law.  But it is perfectly legal to communicate your intentions in an open channel such as the press–it’s done all the time despite what your overly conservative legal department might say.   By the way, if your legal department does disagree with this point, contact Gene Zelek at Freeborn and Peters in Chicago–he’ll set them straight.

In mature markets and bad economic times, your objective should be to achieve a stable competitive environment since price wars will cause sales to drop and profits to disappear.  The way to achieve that is to a) test that your competitor is rational, b) signal to the open market (and that competitor) that you are going to raise or stabalize prices and c) hope that the competitor follows.  If they don’t, it’s usually a good idea to send a shot across their bow by dropping a low price quote to their largest customer knowing that they might have to match it.  Risky?  Sure, but to succeed with pricing in mature markets, you’ve got to take a proactive stance to your communications and pricing tactics to achieve stability.

As an example, MedAssets  “help(s) hospitals develop defensible pricing strategies through Web-based technology and consulting solutions that improve profitability and offer pricing transparency for consumers choosing where to spend their health care dollars.”  What they really do is help hospitals develop better pricing communications systems by doing two things.  First, they encourage the hospitals to establish a solid pricing strategy and to make the subsequent prices “transparent”.  That is, the prices have to be fair across all patients so that the patients perceive them as being fair and makes them more likely to select that hospital for a procedure.  This approach reduces price negotiations in both BTB and BTC environments. 

 Second, MedAssets shows the hospitals how to justify those prices by communicating about all of the things the hospital does to increase safety and the quality of care, thus positioning the prices as being fair (notice how the word “fair” keeps coming up?).  Finally, though they don’t say this in the article, the communications sends a message to other hospitals that a “bomb them back to the stone ages” price war doesn’t do anybody any good.  Bottom line–MedAssets helps hospitals develop a better pricing communications system resulting in more stable prices.

Along these lines, the global consolidation in the brewing industry has helped to stabilize competitive prices for beer in Europe in the United States.  Over the past few days, there has been a foaming series of press announcements from the majore brewers–InBev/Anheuser-Busch, MillerCoors and Heineken to name a few, that they’re all going to raise prices.  The price increase comes despite the declining volume in beer sales (not my fault!) due to the global economic downturn.  It’s an indication of two things.  First that the consolidation in the beer industry is helping to stabilize profits and revenue in the industry.  Second, that the companies that are doing the consolidation have great pricing managers who understand how to leverage pricing power and use great pricing communications to do it.

So, next time you’re at the bar bemoaning how hard pricing is in your company, raise a glass to good  pricing firms that have great pricing communications systems to improve profits regardless of what the economic times are.  Don’t worry, you’ll get there some day.  In the mean time, enjoy!

We’ve been working with a number of firms in recent month.  In most cases, their failure is that they are too customer oriented.  They do a great job listening to and solving customer problems.  Their service and support people are responsive and always get the job done.  Their technical people do a great job making sure the products and services work.  Each of these companies read the book on customer satisfaction and make sure that all of their people know that their job is to satisfy customers.

The problem is that few of these companies make a good return on these efforts.  Their profits are low.  Miserably low.  Why?  Because those customers who love the products and services, who really appreciate the support and are glad to be buying from those companies have turned procurement over to professionals who have learned that when they negotiate hard, prices will fall–even for high value goods and services.

It doesn’t do us any good to service our customers well if we aren’t going to get paid for it.  Good pricing is all about understanding our value and subsequent pricing power.  Procurement professionals’ job is to get us to forget that.  Their job is to convince us that there is no value and to get us to panic and drop price.  Our job as pricing professionals is to understand when that is happening and stick to our guns and insist on the value is real and that our prices are fair.

Customer orientation is good to a point.  And the point that it stops is when we don’t get paid for the things we do for customers.  Good pricing people do understand that and take those things away when customers don’t want to pay for them.  That is good negotiating.  That is playing the game that procurement people play.  We’ve got to learn to play it at least as well as they do.  Now, if we could just get our senior executives to learn to play the game as well too!

Several months ago, I had a chance to speak with a number of insurance industry executives about pricing strategy and execution.  One of the most common comments I got about their pricing was “it’s a race to the bottom”.  That is, industry practices keep focusing on price discounting to win business. 

This morning’s articlefrom Reuters talks about how Aetna is getting hit due to rising medical costs and that they are pursuing a “strategy of corrective pricing”.   Funny, I’ve been studying pricing strategy and tactics for over twenty years and have never heard of the strategy of corrective pricing.  Certainly, if costs are going up, prices have to go up as well–if that is “corrective” then so be it.  I don’t think that the article points to the real problem in the insurance industry.

Insurance is sold by agents to companies and people.  Those agents are pretty good at lining up a bunch of insurance underwriters (the guys who provide the insurance) on a spread sheet and going for the lowest cost.  The problem is that the lowest cost provider could have lousy customer service or  stringent payment policies which actually hurt the real customer–the employee–when they most need it.  To make matters worse, even the good insurers have a lousy vision of where and how they do provide value and succumb to this mindless price competition.  The entire culture of the insurance business is to play this game. 

To make matters worse, not only are their costs rising, but they don’t know what their real costs really are.  This causes them to succumb to cost averaging which makes their high profit business look less profitable than it really is and their low profit business appear more profitable.  It puts them at a competitive disadvantage where they are most profitable.

Lost in this process is the poor sales and services people.  They spend their days responding to requests for quotes, knowing that they can only win a small percentage.  They never get a chance to sell value because their companies don’t understand what it is.

Yes, it is a race to the bottom.  The government has actually encouraged the race by putting some of it’s TARP funds into insurance companies that have reached the bottom.  The sad truth is that it doesn’t have to be like this.  There are a few companies out there, Liberty Mutual is one, that have a good understanding of their value, expect their salespeople to have confidence in that value and prices when they sell, know their costs and don’t chase unprofitable business for the sake of revenue.  No, it’s not easy to do this.  It takes courage and sometimes it takes nerves of steel.  I will say that it’s a heck of a lot better than the alternative.  Just ask Aetna.