15e58d1

Ron Baker

Founder of VeraSage Institute

If one were to lay the two theories of value––labor and subjective––side by side, it would look like this:

Cost-Plus Pricing––Labor Theory of Value

Product » Cost » Price » Value » Customers

Pricing On Purpose––Subjective Theory of Value

Customers » Value » Price » Cost » Product

Cost-Plus Pricing, RIP

Cost accountants focus on the inside of an organization, yet all value takes place in theexternal world, beyond the four walls of the organization. By and large, accountants are not well equipped to judge and measure value, despite all the recent blather about activity-based costing.

A Tale of Two Automobiles

When Lee Iacocca developed the Ford Mustang, he reversed the order of the usual car-making pricing up to that point. Rather than giving his engineers carte blanche to develop a sports car and then marking up the resulting costs to arrive at a price—as GM did with the Corvette—he solicited the opinions of potential customers as to what features they would want in a sports car and what price they thought they would be willing to pay.

Knowing people liked the Corvette, but thought it was too expensive at $3,490, Iacocca wanted the price to be low enough to entice the potential sports car enthusiast. He then went to his engineers and asked if they could manufacture a sports car, with the desired features, sell it for no more than $2,500, and still turn an acceptable profit for Ford.

By building the Mustang on the Falcon’s chassis, in the first two years, it generated net profits of $1.1 billion (in 1964 dollars), far in excess of what GM had made on the Corvette. The average customer was spending another $1,000 on options, and while Ford projected that 75,000 units would be sold in the first year, the 418,812th Mustang was sold on April 16, 1965, only 13 months after the first rolled off the assembly line.

By comparison, the Corvette reached 1 million in sales in July 1992, with the release of a white convertible with red interior, mimicking the first one introduced in 1953.

2013_Mustang_V6_Performance_Package_blueck