In this comprehensive guide to understanding equity in business, we'll discuss misconceptions about increasing revenue, how to avoid these pitfalls, and which equity you should focus your resources on in B2B. Let's dive in!
The 3 Ways to Make Money
There are a lot of misconceptions about growth. For instance, most business leaders view growth as taking last year’s revenue, setting a target, and using that to predict future revenue. While there are about a million ways to spend money in search of growth, there are only three ways to make money:
A: Acquire a New Customer. You find a new buyer and convince them to give you money.
X: Expanding Your Relationship with a Current Buyer. You convince one of your existing buyers to spend more money.
R: Retain a Current Customer. You can get money by not losing money; you can convince one of your current buyers not to leave and keep giving you their money.
That’s it.
Growth boils down to one simple equation: Current Revenue - Revenue from Lost Customers + Revenue from Expanding Relationships with Current Customers + Revenue from Acquiring New Buyers = Future Revenue. When the equation is all said and done, growth should look something like this:
So, given that there are only three ways to grow a business, what should business owners be doing? Typically, business owners are guilty of falling into either one of two traps:
Most business owners attack growth as a “backward” process, so they follow AXR instead of RXA.
Business owners are content with “fine” retention rates and not “fantastic” retention rates.
Sometimes, business people can live in the past. They may not be adopting the new ways and methods of doing business, and instead opting for outdated practices. What The Brookeside Group has studied is that many companies focus on AXR and not RXA.
So, why is this a problem? Well, all businesses have a natural life cycle. Successful companies will be centered around an amazing idea, one that can revolutionize an entire market. If you enter a market that lacks what you have to offer, then you will experience rapid early growth. During these early stages, it is time to focus on acquisition, and then expansion and retention.
However, most companies enter a mature market; one already saturated with competing ideas and businesses. Quite frankly, it is difficult to be a fledgling business in these times, as customer acquisition is challenging. The reason being is that most customers already have their needs met by another company. Having a good product or service is not enough nowadays— you have to be noticeably better than any other competitor to take away buyers from those companies.
In mature markets, RXA should be the primary goal, not AXR. Businesses need to focus on protecting and expanding current relationships instead of spending a myriad amount of money on acquiring new customers.
This leads to mistake number 2: being content with “fine” retention rates. Let’s say your company’s retention rate is 80%. You would say you are doing pretty well, right? Try to think of it like this: you are losing 20% of your clients every year. Therefore, it will only take 5 years before your average client leaves your company. But, what if you got retention rates up to 90%? Your average client would stay for 10 years!
Retention is not linear, it is exponential.
By focusing on retention rates, you can expand the profitability of your business, ultimately leading to growth.
Focus on Equity
So, how do you avoid these mistakes? How do you grow, then?
You have to focus on equity.
Let’s break equity down into a simple formula:
Imagine a pie. The pie represents the total value created by you and your buyer working together. Think of a slice of that pie (your value) as a paycheck. The buyer’s equity, the value they actually get (the amount of pie they take home) is their “asset” (the size of the total pie) minus their liability (the slice they give you). If the buyer perceives the pie to be large, then the slice you take doesn’t seem unreasonable.
On the other hand, if the buyer perceives the pie to be small, then giving you a slice of it can become quite contentious. The best outcome is that you would both walk out of the bakery with huge slices. The way to accomplish this is by growing the perceived size of the pie.
For a buyer, their perception of the pie can be broken down into three integrated sources of value, or “equities;” Product Equity, Brand Equity, and Sales Equity.
Product Equity: The tangible and intangible value a buyer receives from his perception of the product/service “asset,” including technical specifications, quality components and construction, functional performance, design, fit-for-purpose, etc.
Brand Equity: The tangible and intangible value a buyer receives from his perception of the brand offering the product or service (its name and symbols), including how well known, history of taking care of its customers, social acceptance, risk factors, etc.
Sales Equity: The tangible and intangible value a buyer receives from his perception of the relationship he has with his sales and account service teams, including their integrity, competency, recognition, proactivity, savvy, chemistry, etc.
All of these equities build upon each other, and if you want a big perceived pie, you have to have all three! If your buyer only perceives the product equity, then you have likely created a fairly small “value” pie and you will have to grapple for a slice. But, if you can convince your buyer that the product also has some brand equity wrapped around it, you’ve grown the perceived size of the pie, and, therefore, you can take your fair slice.
Still, your buyer ends up with more pie. If the buyer perceives the value trifecta of product, brand, and sales equity altogether, you are able to grab a large piece of pie and have plenty of pie (value) left over for your buyer. It’s a win-win solution.
Growth Opportunity in Product Equity
So, how do you grow product equity?
Every company is trying to grow in product equity; companies continuously search for ways to cut costs, increase efficiency, and deliver high-quality products to customers. Take a bushel of corn for example. The corn is fresh, it weighs 56 pounds, and it costs about $4.00 in today’s market.
Let us assume you are in the market for a bushel of corn. In this case, what you get (the bushel of corn) is your asset, and what it costs you (the $4.00) is your liability; the difference between the two represents your remaining “product” equity. Therefore, if you buy that same bushel of corn for $3.00, your perceived product equity would go up. At the same time, if that bushel of corn costs you $5.00, your perceived product equity would go down.
Challenges in Growing Product Equity
Any sale in product equity is driven by price, with the ultimate goal being to buy the same product at the lowest price possible. Most products and services nowadays resemble the bushel of corn scenario. This is part of the reason why selling products in mature markets is extremely difficult: similar products are being sold for competitive prices. Ultimately, almost no one is going to buy a product based on product equity alone. The result of this is companies fighting for customers, leading to low market returns.
One way to avoid this is by differentiating your product from the rest. However, this can be pretty difficult. You have to create a differentiation that customers care about, and that can be expensive to maintain. Many times, companies think that customers will care about product differentiation, but in reality, people rarely do. Additionally, it can be tough to sustain a differentiated product. In today’s fast-paced, interconnected world, there will likely be a more innovative product in a matter of months.
Patent protection can help for a little while, at least in the United States. Yet, as soon as a product loses its patent protection, there will be dozens of competing products in the market. Without investing heavily in research and development to figure out the next best product, profits would plummet. But, even with patent protection, creating product equity as a strategy for profitable growth typically fails.
Ultimately, relying on product equity to grow your company is difficult, and typically unprofitable, especially with B2B products, as it almost always leads to commoditization and price-based competition.
Growth Opportunity in Brand Equity
Brand equity can be as simple as slapping a label on a product or as complicated as spending millions of dollars to trademark a color. The ultimate goal of brand equity is for buyers to perceive a greater value from your product. This is particularly effective in consumer markets and has been used for quite a while.
Basically, brand equity represents a buyer’s “gut feeling” about a product, service, or organization. The brand is an implied promise, making any decision-making easy— you know what you are going to get!
Having a well-known and respected brand can increase the buyer’s perception of value and will often drive growth. Let’s say that demand slowed last year for your product. Rather than changing its product or lowering its price, you decide to increase its marketing and media investment.
This may work in the short run, but in general, relying on brand equity too often does not lead to profitable growth. There are a few reasons for this:
The cost of maintaining a brand is daunting.
Competitors can fight back with lower-cost unbranded offers.
There are too many strong brands, particularly in B2B.
It’s difficult to measure and therefore manage.
Challenges in Growing Brand Equity
The Cost of Maintaining is Daunting
When your growth is based on brand equity, the cost to maintain your position can become daunting. It is common for popular brands to “fight” their way to the number one spot, ultimately spending millions, or even billions of dollars, just to maintain share.
Competitors Fight Back
While the top brands fight each other for brand equity in an advertising arms race, there are constant invasions at the bottom from comparable generic brands that compete by offering greater product equity because of their lower price. Think about the over-the-counter pain reliever in your medicine cabinet right now.
Did you buy Tylenol or the store brand? They’re both 500 milligrams of acetaminophen, so your asset is the same, but your liability is vastly different. The store brand costs $3, while Tylenol costs $6. The store brand offers two times the product equity, yet acetaminophen produces more than $1 billion USD in annual sales for Tylenol products alone. Why do they think they can charge $6 a bottle when the exact same thing costs only $3 under a different label? While Tylenol and the store brand have the same product equity, its maker, Johnson & Johnson, feels it delivers to buyers significant value via increased brand equity, at least for some buyers.
Basically, if you have the “real” Tylenol manufactured by Johnson & Johnson and not store-brand acetaminophen pills, you are “wasting” your money. Admittedly, that is what an awful lot of us are doing.
Of course, the Tylenol marketing team would argue that they’re selling reliability and safety, despite the product being the exact same. Over the years, J&J has spent billions of dollars on Tylenol advertising to create brand equity, ultimately making us believe that we should pay twice as much for their bottle of acetaminophen. Today, you can view Tylenol ads on television, online, in magazines, in newspapers, on billboards, in doctor’s offices, at bus stops— everywhere.
This can be applied to almost every B2C consumer product on the planet. There will always be a generic version of a product or service that’s cheaper than the branded version, but one brand will spend millions to promote some differentiated aspect of their product or service in order to justify the increased price. Sometimes it works, sometimes it does not.
Too Many Strong Brands
But, what about in B2B markets? Does spending money on brand equity work?
In B2B, relying on brand equity becomes even more difficult to argue because there are already too many strong brands. Since many brands are already well-established and reputable, none are truly “differentiated;” they are all average because they are equally good. No professional services buyer is willing to pay a premium price for one over the other.
The companies above are well-regarded and some of the most respected brands in their industry. When all offerings are equally good, they are all equally average and no buyer will pay more for one over the others. In other words, having a good brand is expected.
Difficult to Manage
Finally, even when brand equity is strategically important, it is difficult to measure and manage. Translating brand equity into business results, such as customer retention, expansion, and acquisition, is debatable. In fact, a survey of nearly 200 senior marketing managers concluded that only 26% found their “brand equity” metric very useful.
While Product and Brand Equity can definitely bring growth for businesses, having good products and done are already expected as the bare minimum to compete in the market. What may differentiate B2Bs from their competitors is how they create exceptional buyer value.
So how do you apply this to your business?
Earning Sales Equity is Key to Profitable Growth
Let's recap. Sales equity is defined as “the tangible and intangible value a buyer receives from his perception of the relationship he has with his sales and account service teams, including their integrity, competency, recognition, proactivity, savvy, chemistry, etc.”
Product equity and brand equity are the minimum requirements in B2B. If you want to create exceptional buyer value, you have to create sales equity!
Let’s say your company has developed a good product and brand. Unfortunately, the same can be said about your competitors, thus making all of you the same. The majority of companies can no longer achieve profitable growth relying on product equity or brand equity alone, especially in B2B markets.
For the majority of B2B companies, the only way to differentiate your business is by building a solid account team that can create sales equity with a buyer.
It is hard to replicate sales equity, but easier to differentiate.
Your experience is not the same as another company’s experience. Because of this, organizations will cater to the client’s needs, making a customized and outstanding experience for them. Companies will compete by wrapping their product and brand in a client-focused delivery, which creates greater perceived value for the buyer; this builds sales equity.
Take insurance for example. Insurance can easily be compared to product equity: a certain amount of coverage and deductibles are offered for a given price. Additionally, the industry is populated with numerous strong, stable, well-respected brands. Consequently, the industry has evolved into a price battle. It is easy for a buyer to compare shops and switch insurance companies at each renewal date.
Even in B2B commercial insurance where annual insurance premiums cost millions of dollars, the buyer will ask their insurance broker to “market their account” every couple of years. Basically, buyers will ask a few insurance companies to bid on their program to see who offers the lowest price; they believe that the product and brand equity of competing insurance companies is largely the same.
B2B Relationships Matter
Yet, a lower price may not be compelling enough for buyers to switch their insurance.
Why?
Because many businessmen are willing to sacrifice money for trust, good communication, and an understanding of their company’s goals. For example, if your financial advisor or accountant left for another firm, you would probably follow them.
Basically, relationships matter; your clients are paying for a service and a relationship.
And this should be what you want from all of your salespeople and account teams— account teams that create exceptional value for each individual customer. Enough value that buyers are willing to pay more than they would for the same product from your competitor! Ultimately, to create value for your company, building relationships and sales equity is a must.
As we've mentioned, growing your retention rates can expand the profitability of your business. And the way to retain customers and clients is to build a fantastic relationship with them.
Tell us, which equity your B2B would focus on? Do you see your growth in product, brand, or sales equity? What steps are you taking to increase your retention rates, and ultimately - your revenue? Share it in the comments!
Co-written by Alexis Audeh and Kristel Pineda