Speaking of multi-product pricing we must address the elephant in the room. Cannibalization and Revenue Dilution are big items that need to be addressed and understood.
Cannibalization: This is when a company offers a new product or service that takes revenue from their other products or services. Cannibalization is very common in certain industries such as mobile phones, laptop computers and even airlines or other transportation services. Companies create new versions of their products or services to remain competitive and often that means they may cannibalize their own products of slightly older models or other services.
Revenue Dilution: This is where companies lower prices in order to increase sales, hence diluting yields. There is some overlap with cannibalization but not always. It is possible to dilute revenue without launching new products or services. Sometimes intentionally and sometimes unintentionally if pricing policies are not thought through or not managed properly.
Cannibalization and revenue dilution often make executive management nervous since they have to manage the expectations of shareholders and other investors. It is not uncommon to have heated discussions internally when such an idea is proposed. Sales and Marketing often argued that it is better to dilute themselves than for the competition to dilute their revenue. The Finance department is usually very resistant and does not want to rock the boat with such ideas.
As mentioned it is possible to cause revenue dilution by not offering multiple products or services. A case in point, one logistics company was experiencing revenue dilution and did not realize it. The company offered international air express services and had only one service, air express. Often when the company’s salespeople would talk with potential customers the customers would mention they have different needs and were willing to pay for air express service but also needed a less expensive, slower air economy service. One customer stated they needed to ship about 100 tons per month as air express (1-2 days transit) to a factory in Thailand, but also had 150 tons per month that they wanted to send as air economy (4-6 days transit) for a cheaper price. So what did the salesperson do? He offered the lowest price for all 250 tons of shipments to help achieve his sales goals, but the logistics company had to send it all as air express which cost much more and resulted in very poor profitability! The company was already experiencing revenue dilution and cannibalization because they did not offer multiple services.
By offering two services the logistics company could earn a higher price for air express and a more affordable price for air economy thus improving their air express yields, and aligning prices with the cost to provide each service. In the end that is exactly what the company eventually did and the results were just as predicted. Their premium air express service saw yields rise and the economy air service met the needs of their customers at lower, more cost effective price points.
Other companies such as mobile phone manufacturers or companies of other electronic devices will routinely cannibalize the products by offering new models often at higher prices, and lower the prices of their older models. This is perfectly fine as long as the revenue and profit overall from all their products increase. Basically, the company is adding value to its product lines and attracting a broader segment of customers at different price points.
To close this article there are ways to minimize cannibalization and revenue dilution by targeting a different group of customers and by creating products or services that are differentiated. If creating similar products or services and offering to the same customer base then that will cause people to substitute their purchases from one product or service to another resulting in cannibalization and revenue dilution. Please see the related articles below which will help explain how to avoid this problem.
Related articles in this blog: The Art of Pricing, Marketing and Pricing, Segment Pricing, Fenced Pricing, and Multi-Product Pricing.
Three Tree Solutions 