Capco Blog

Evolving pricing structures value customers

A renaissance is under way in bank pricing, driven primarily by the consensus that “good” growth is profitable growth. Today’s innovators are wisely aiming to set prices based on a fully integrated supply- and demand-side view of the drivers of profitability of their entire relationships with their customers. The result — customer value pricing — allows pioneering banks to more effectively target and acquire top prospects as well as maximize the depth, length and profitability — indeed, the value — of the client relationships they already have.

Customer value pricing provides a precise analytical view of how pricing drives customers’ take-up and use of a product — along with the downstream effects on the composition and use of their entire portfolio of financial products, the profitability and duration of their holdings and, indeed, the length of their overall relationship.

The journey toward this ultimate vision of customer value pricing begins — on the supply side — with understanding the impact of price on product profitability across at least a handful of observable customer and market segments. With a few notable exceptions, most financial institutions today — from credit unions to commercial banks — still struggle to establish a standard for calculating and forecasting product-level profitability. Even fewer have made the leap to a holistic view of cross-product profitability necessary to effectively estimate the lifetime profitability of their customers.

Most top-tier banks have successfully implemented some form of demand elasticity-based pricing, which aims to optimize the trade-off between price and volume by leveraging analytical insights into variations in customers’ price sensitivities. Banks on the road to customer value pricing are investing in leap-frogging basic differentiation of pricing by product flavor and market and are building more nuanced, highly granular pricing segmentation based on a range of customer characteristics that evolve throughout the customer and product life cycles. Today’s one- or two-factor pricing structures are quietly giving way to multi-factor “continuous” pricing structures that will ultimately be refreshed in real time.

Banks looking to move closer to customer value pricing should take the following steps:

  • Consolidate and accelerate disparate — and often competing — initiatives to calculate product profitability. Before banks can implement nuanced customer-based pricing mechanisms, they need to understand the basics of measuring and driving risk-adjusted profitability within current product silos. How do usage patterns vary by segment? What are the differences in customers’ price responsiveness? Setting the rules of the road for product and customer teams by establishing a line of business-wide — or even bank-wide — standards for the measurement and use of business economics can establish a robust foundation for later calculation of integrated, cross-product profitability over the life of the bank’s relationship with a customer.
  • Build an operating and technology model that enables product managers and marketers to effectively set, deploy and manage more complex pricing structures containing many more price points than they have historically had the capability to do. The platform should allow banks to rapidly develop and implement dynamic, tailored pricing structures, track the effectiveness of pricing in the marketplace in real time, and support the development of innovative sales support tools for front-line bankers responsible for communicating the bank’s pricing to customers.
  • Create organizational and governance mechanisms that support the new focus on actively using pricing to achieve specific income statement and balance sheet objectives. Developing the requisite analytical capabilities and operating and technology platforms only works if the bank actually has the right processes in place to strategically and tactically manage its pricing. What information and which stakeholders are consulted in setting prices on a day-to-day basis? Who is informed of changes, and when? Who has final approval authority? How is pricing communicated to the field? To customers? How is success measured? First and foremost, pricing must be viewed as a process that is replicated on a continuous basis, product by product, and customer by customer

The challenge for banks that want to create high-granular — even continuous — pricing structures are daunting, but not at all impossible. First, banks need to find a way to extract customer data from disparate legacy systems without having to reinvent the wheel. Technology solutions from several innovative vendors currently exist in the marketplace that can help banks access the information they need on an ongoing basis with minimal disruption to existing IT infrastructures.

Second, banks need to develop innovative organizational “bridges” to effectively execute a customer value pricing structure within the functional, rather than customer-oriented, operating structures that characterize most financial institutions and their supporting processes and systems today. The challenge lies in developing a customer-oriented pricing structure within a functional framework without having to replace the entire platform.

Banks that confront and overcome these hurdles and successfully implement dynamic pricing capabilities stand to gain a great deal. Customer value-oriented pricing deepens relationships with current customers and empowers banks to cherry-pick the most attractive prospects among competitors’ customers. Financial institutions that capitalize on the relative calm of the current economy to take the first steps toward a customer value approach to pricing will be in a favored position to successfully compete for customers, balances and fee-based services as the market — along with interest rates — recovers.

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