Capture more value

When Switzerland-based Vestergaard introduced its LifeStraw technology, it proved it could innovate. LifeStraws remove 99.99999% of bacteria and 99.9% of protozoan cysts from contaminated water. The product is a favorite of aid organizations: Over the past decade, LifeStraws have been distributed after almost every disaster.

But not every place with bad drinking water is a relief zone; 780 million people in the world lack access to clean water in their daily lives. So Vestergaard saw a much larger potential market than its NGO customer base – and proved that it could innovate in another way. The challenge was LifeStraw’s cost, which is beyond the means of most households in developing countries. The company found a clever solution: carbon offset credits. Thanks to the worldwide carbon emissions trade, any documented C02 savings can now be monetized – and using LifeStraws means not having to burn petrol or wood to boil dirty water. Vestergaard’s Carbon For Water initiative has enabled hundreds of thousands of Kenyan families to pay for its product, growing its business substantially.

Both kinds of innovation – one in value creation, the other in value capture – are important. To benefit from both, companies need to think about value capture more imaginatively and as a matter of course.

THE INNOVATION BLIND SPOT. One reason value-capture innovation tends to be overlooked is that companies that do it well often simultaneously innovate in value creation, and the latter tends to take center stage.

For example, when Netflix became a mortal threat to Blockbuster, it was easy to chalk up its victory to greater value creation. And it’s true that Netflix deftly capitalized on new digital capabilities to offer personalized recommendations and could avoid presenting customers with shelves picked clean of current hits. But the death blow came from the value-capture side. The brick-and-mortar incumbent’s revenue model relied heavily on late fees. Netflix introduced a subscription model that milked higher revenue from the same tendency to be tardy – without vilifying customers in the process.

CHANGING THE PRICE-SETTING MECHANISM. A potential innovation involves the mechanism or rationale by which prices are established. The most familiar of them is value-based pricing, which occurs when a company stops setting prices by simply marking up production costs or calibrating against competitors’ prices and instead charges according to the offering’s worth to the customer.

A good example involves ecosyn-lubric, a product sold by Bossard, which supplies fasteners to John Deere and other manufacturers (full disclosure: I am a member of Bossard’s board). Bossard discovered that its customers’ workers were spending more time manually lubricating screws than putting machines together – with messy and uneven results. So it teamed up with a chemical company to find a way to deliver fasteners with lubricant already uniformly applied. Bossard does not disclose profit margins for individual items; however, its operating margin is about twice the industry average. It’s safe to say that the substantially higher price of Bossard’s lubricated screws is not based on their production cost. More likely, Bossard priced ecosyn-lubric to capture a fair share of the savings its customers experience.

Another approach is to create a structure in which different customers are charged different prices depending on their willingness to pay. An entertaining application of the strategy is the Bierbörse (“beer exchange”) in Germany’s Berliner Republik restaurant. The fact that the price of a beer changes dynamically over the course of an evening is largely a novelty – watching the monitors update in real time gives customers something fun to talk about. But it also smooths demand and averts the slow service that often comes during peak hours.

• CHANGING THE PAYER. Perhaps the most familiar examples are in media businesses, where content is expensive to produce and consumption is subsidized by advertisers – an arrangement known as a two-sided market model. Many types of businesses have relationships with consumers whom others would like to reach; they could probably succeed as two-sided markets selling access to the valuable networks they have assembled if they pay careful attention to how much each side pays.

Cardea, for instance, is a “meta-consultancy” that helps companies find the best consulting firms for their various managerial challenges (recommending one for, say, a cost-reduction analysis and another for a merger). The firm found that many companies resisted what they saw as a surcharge on already expensive services. Its fortunes improved when it changed its value-capture model and charged referrals to the consultants instead of their clients

Consultants accept the arrangement because Cardea’s referrals reduce the acquisition costs they normally incur to gain new business.

• CHANGING THE PRICE CARRIER. What is the “price carrier” in your offering? In simple terms, it’s the part of the experience you hang the price tag on. Someone might patronize a McDonald’s restaurant because he needs a Wi-Fi connection or wants to bring the kids to a PlayPlace on a rainy day. But McDonald’s doesn’t charge for either of those things. The price for a visit, regardless of what one values about the experience, is carried by the food and beverage order. A strategic question many companies should ask: Is the price tag affixed to the right part of the package, and what would happen – to profits and to other players in the market – if it were moved?

• CHANGING THE TIMING. The preceding innovations all assume a fairly simultaneous exchange of value. But some famous cases of “desynchronized” exchange also suggest ways to innovate.

For example, ink-jet printers are cheap, but the replacement cartridges are expensive. Elevator companies apply the same logic. Schindler can install elevators at a very competitive price because the installation comes with a profitable 10-year service contract. As these examples indicate, changing the timing is usually tied to a price-carrier change; indeed, the model might be seen as a special instance of a price-carrier innovation.

•  CHANGING THE SEGMENT. The first four categories of innovation capture value within the existing customer base. The fifth captures it from customers new to the firm or the market. This path starts with two steps: Identifying customers who are unwilling or unable to pay current prices but display a need for a given offering, and then determining how to create a profitable offering for them.

A prime business-to-business example is Xiameter. Dow Corning, one of the largest producers of industrial silicone, identified four needs-based segments of the market. Among customers seeking innovative solutions, proven solutions, or cost-effective solutions, it was well positioned. It was much less competitive among those in the fourth segment, price seekers – customers uninterested in features and services and focused solely on obtaining the lowest price. To address that segment without weakening its value proposition to the others, Dow Corning created not just a new offering but a new brand, one with a substantially different business model. Xiameter is an Internet-based platform that offers silicone without also providing consulting and other related services, thus permitting a very different pricing approach.

Stefan Michel