The Price is Right

Cheap! Cheap! Cheap! That’s the hungry cry of the marketplace. Faster is nice. Better is good. But cheap, cheap, cheaper is what fuels growth and accelerates market share. Innovation dangles the tantalizing promise of more for less. “More for less” is what customers say they want. Just ask Intel about its next-generation microprocessor or Merck about the impact of generic drugs on its bottom line.

That’s precisely why innovators have such a tortured relationship with price. Should they go for profit margins or for market share? Are they better off bundling in benefits or proffering discounts? How much of a premium can they command? What does it mean to say that the price is right?

These are excellent questions. Unfortunately, they have precious little to do with how people and organizations actually pay for innovation. The problem is a fundamental economic confusion between “price” and “cost.” Most innovators honestly believe the “price” they charge represents the customer’s “cost” of acquiring their brilliant innovations. It doesn’t. Not even close. Genuine innovation almost always creates a disjunction between the price that’s paid to acquire it and the actual costs of implementing it.

Customer cost-more than innovator’s price-is what really determines the success of innovative offerings. Software from Microsoft or San Mateo, CA-based e-business specialist Siebel Systems is stuffed with features and benefits customers may say they want. But it’s clear that this kind of innovation-laden “bloatware” imposes unique costs of its own, as the overwhelming majority of customers use only the tiniest fraction of all that functionality. It is not worth the perceived cost in time and effort to use the rest: the cure is worse than the disease. Why do the smarter software companies continually invest in user interface design? Because ease of use reduces the real costs of adoption.

Viewed in this light, cutting prices becomes the laziest possible way for innovators to reduce customer cost. The challenge is to identify the complex of variables that customers use to assess their own acceptable costs. Would Amazon still be alive if it had consistently taken two weeks to ship books to its customers in its early days instead of providing next-day and second-day delivery gratis? If the Israeli company Mirabilis’s ICQ instant Internet messaging service had become a conduit for disk-destroying viruses, would AOL have invested $400 million to acquire it? Of course not. Time, security and perception of risk are costs that innovators must abide. Too often, innovators prefer to focus only on the solutions their concepts attempt and ignore the new problems their products create.

These true-cost-of-innovation problems become acute at the organizational level, where human foibles become a factor. If a computer-aided design package is so powerful and easy to use that industrial designers and even, say, project managers can use it to reliably model new product features, the company’s engineers may be very unhappy. The innovation undermines their power and expertise. The engineers may do everything possible to stifle its adoption. Similarly, supply chain software that empowers local product teams at the expense of global procurement managers may face corporate resistance. Organizational politics and cultural differences are costs, too.

The medical marketplace is swamped with competing innovative diagnostics and therapies that often pit radiologists against internists against surgeons. Health maintenance organizations are notorious for their Byzantine referral services and illogical accounting for emerging treatments. Pharmaceutical companies are constantly trying to determine whether their new drugs should be targeted to patients, doctors and/or the health-care providers who ultimately pay for them. Nothing better illustrates this fundamental gap between the economics of price and cost in innovation than a hospital bill for a novel cancer therapy, with its jumble of itemized prices for each separate specialist, drug and procedure. No one knows how to price the costs associated with adopting a treatment.

The era of “faster, better, cheaper” innovation is hitting the point of diminishing returns. The lure of the “paradigm-busting breakthrough” that commands a premium price has proven chimerical. Market forces are driving companies to account for their real costs of doing business. The problem is- la Enron’s false partnerships-most companies that are pushing new innovations refuse to be honest about how their products’ promise translates into measurable performance.

Adopting and adapting an innovation is a cost of doing business. The price of procuring that innovation is just one variable in the total cost equation. Innovators that compete on price, features and functionality are missing the trend. They need to understand the costs associated with how innovative features diffuse throughout their customers’ organizations.

There are always two learning curves going on in innovation marketplaces: one where innovators figure out how to make the innovations faster, better and cheaper, and the other where customers and clients go beyond price to learn the real costs of implementing those ever faster, better and cheaper ideas. Innovators are usually overinvested in understanding their own learning curves and underinvested in learning about their customers. They’ll pay a price for that mistake.