Published on 18.09.2020
This article complements my presentation entitled Pricing Strategies in a Service Industry offered at the 2020 ATA Annual Conference.
Pricing is a major lever in business profitability. According to Deloitte, a 1% improvement in pricing, holding everything else constant, can boost company profits by roughly 11%.[1] That is a much greater impact than what is typically achieved by improvements in costs (both variable and fixed) or volume sold, again holding all other variables constant.
Yet, my consulting experience in the language services space shows that few LSPs make optimal use of the many (legal and legitimate!) strategies that could improve their pricing and, consequently, profitability.
The most basic rules of thumb for setting prices are based on costs. A business simply (and often indiscriminately) calculates the costs of (all) their inputs and applies a markup to arrive at a target price to charge. As straightforward and fool-proof as this may sound, it completely ignores two most important factors: customers and competitors. Your cost plus an X-percent markup may be way below or well above the amount your buyers are willing to pay (i.e., the value they derive from your services). Your cost and/or your markup may also be out of line with those of your competitors.
Knowing all your relevant costs IS important. It tells you how much you must charge at the very minimum in order to be profitable. A common source of mistakes in calculating costs is their classification. Not all of the costs that firms commonly keep track of are relevant for day-to-day pricing, and some less obvious costs must, in turn, be included in any such calculations. Salaries or office rent that you have to pay, at least in the short or medium term, regardless of whether new projects come in are not costs relevant to your pricing decisions. On the other hand, with limited (human/ time/space/IT) resources and when operating at or near capacity, there is a highly relevant opportunity cost, or simply put, the income you or your resources could be generating by doing something else. In short, costs matter for pricing only if they are incurred once a project is accepted.
While your costs set your floor, the ceiling for your pricing decisions is generally set by your customer’s willingness to pay, which will be capped at the value they derive from your service. Unlike basic cost-based pricing discussed above, customer-driven, value-based pricing is far from simple. Your customers have no incentive to report truthfully how much value a service they are about to buy from you will add for them. It takes thorough knowledge of your customer’s line of business, plenty of data, and sophisticated data analytics to get any actionable insights here.
However, even these two buckets of considerations do not give us a full picture without taking into account what your competitors are doing. You may have your relevant costs calculated and have a good estimate of what your potential client would be willing to pay. However, if you don’t know who else they have solicited quotes from and how much those providers may charge, you still stand to lose out. Quoting too high will cost you the business entirely. Quoting too low means winning the business but unnecessarily leaving money on the table.
The economic value customers derive from language services varies greatly, not only from customer to customer but also from one type of content to another for the same account. Any analysis starts with determining the closest substitute to the service in question, which represents the reference value. For new translation buyers, the substitute would be not buying the service (and, for instance, talking to customers in their non-native language). For existing buyers, the substitute would be their existing provider.The second step is to identify any differentiating factors of your service, which represents the differentiation value. By adding up the reference value and the differentiating value, you arrive at the economic value. Now, how do you account for the substantial differences in value to your customers when what you offer is typically a rather standardized service? The answer is threefold.
1. Price-discriminate by offering a vertical product line.
Knowing your customer’s true willingness to pay is a challenge. To induce self-selection, offer a menu of prices based on different levels of quality promise. In translation, the menu of choices may look something like this: translation by a senior linguist vs. junior linguist vs. lightly post-edited MT. Another type of vertical differentiation can be based on the level of service received: a dedicated team of project/account managers available 24/7 vs. a self-service online system. This strategy may have another added benefit: it sets a certain benchmark at the top and allows the other options to appear comparatively cheap. An unwelcome side effect of a vertical product line is clearly cannibalization: the risk of existing customers trading down; this can and must be accounted for when setting the exact specifications and prices for each of the service-level options.
2. Be flexible with your margin.
Once you know your costs and have an idea of what your customer’s willingness to pay is and what sort of competitive quotes they may be considering, you can adjust your target margin to win the business. An X% margin is great as long as it allows you to win the business. You certainly do not want to leave money on the table. But you also don’t want to entirely miss out on the opportunity. Realize that half of X% is just as acceptable—it is free money, after all, as you already have all your relevant costs covered.
The half of X% is acceptable as long as it doesn’t undermine your ability to charge your full target margin in other instances / for other accounts. One way of justifying a lower price (lower margin) is, once again, using an automated solution with less white-glove treatment. Also, consider lowering your margin on more standardized, easier-to-compare services when you know you can achieve a higher margin on a collateral service for which your client doesn’t have a benchmark so readily available.
3. Unbundle your services.
Translation has historically been a bundled service, very much like a traditional newspaper is composed of a bundle of sections and articles that cannot be purchased separately. Yet not every use case requires TEP (think low-risk documents with a short lifetime), DTP (online-only copy), or even project management (where the client serves herself through an automated system). It is in your best interest to allow customers to buy exactly what they need and not more than that, while certainly highlighting the preferred/recommended options and pointing out in very clear terms what essential components are not included and what risks are involved in any of the cheaper options.
Even with sophisticated corporate buyers, psychology of pricing plays its role. A discount always sounds friendlier than a surcharge even if the final price works out to be exactly the same. Psychologically, $99 seems a lot more than 1% less than $100. Spending plastic money / paying online typically hurts less than paying cash. Recurring subscriptions are sometimes easier to stomach than seeing the total rise with every word/minute ordered (the “taxi meter effect”), again even if the customer ends up paying more with the subscription.
This is a very brief primer highlighting some of the fundamental concepts of service pricing. For more context, do attend my presentation at this year’s ATA conference. With any further questions, feel free to
contact me at [email protected].
About the author:
Daniel Sebesta has worked as a linguist since 2003. He has an MBA with a specialization in pricing and strategy and is a member of the Professional Pricing Society. In addition to his translation work, he consults with companies on pricing, profitability, and language technology adoption.
He serves as assistant administrator of ATA’s Language Technology Division and is a member of the Divisions Committee. He divides his time between his two homes in Czechia and in the U.S.