Commoditization Has Nothing To Do With Commodities

Commoditization Has Nothing To Do With Commodities by Justin Crotty

March 19, 2008, 7:53 am
Filed under: IT Services, Managed Services

It continues to amaze me how we in the high tech industry continue to lament the impending commoditization and destruction of any profit stream we might currently be enjoying.  Impending doom and commoditization has been the channel chant for as long as I can remember.  Now in the managed service space we are hearing the same things – the gold rush is over, there is no opportunity left, we’re all doomed.

We have nobody to blame but ourselves.

Don’t believe me?  Next time you have ten minutes to kill, walk into any bakery in your town.  That’s right – a bakery.  One of those places that specializes in fancy cakes for weddings, birthdays, etc.  Take a look at some of the prices they are charging for their cakes.  Its not unheard of to see wedding cakes priced above $500 and often, into the thousands of dollars.

Last I checked a typical wedding cake, regardless of flavor, color, or variety is basically comprised of flour, eggs, vanilla, sugar, baking soda, and milk or cream.  Now, I’m no commodities expert, but in my opinion those ingredients are about as basic as commodities get. 

Maybe the average wedding or birthday cake has about $4.00 worth of ingredients in terms of cost of goods in it when it is sold to a consumer.  Yet that cake is then sold to the consumer, often without negotiation or haggle, for hundreds or thousands of dollars.  The profit is obvious – and extraordinary.

Why?  How can a bakery earn huge margins on products comprised entirely of commodities?  Especially commoditities that do not require significant skills or certifications to deliver?

The answer?  Two things: Value and solutions bundling.  Still don’t believe me?

Then try this:  Walk into said bakery and ask to see a list of ingredients in any particular cake you might select.  The bakery will comply and give you the ingredients list.  Now, ask that bakery to line item the cost of each of the ingredients that will be used to “build” your cake.  Then inform the bakery that you will be providing some of the ingredients on the list from other sources – presumably because you can get those ingredients cheaper someplace else –  and that you might make some ingredient substitutions to further reduce your costs.  See how the bakery handles that request.  They will likely ask you to leave.

Sound ridiculous?  Before you answer, think hard.  That’s exactly what we allow our customers to do to us in this business.  We present solutions to customers,  allow them to line item the ingredients of that solution, demand product substitutions or compare ingredient costs, and drive our value into the dirt.

Trent Dyrsmid, in his post to the Comptia Focus on MSP Blog is thinking along the same lines – How do I get my cake to come out right?  Trent gets it.

Bakeries protect their value in two ways.  First, they provide a very value-added service.  Who among us can possibly put together a spectacular wedding cake without trashing our homes or ruining the reception?  Second, they do not allow any modifications to the finished product.  You either take what they offer, with some minor decorative modification possibly, or you take your business somewhere else.  Bakeries do not allow their customers to unbundle their offerings – they will not tolerate your demands for a price list or for ingredient substitutions.  Why?  Because doing so would destroy their margins.

So why do we do it?  Let’s face it – the price of cakes is not going down.  The ingredients are all commodities and the price of those commodities rises every year.  So why do managed services providers fret about commoditization?  Because they know that in this space, we’ve trained our customers to expect it.  We’ve trained them to place no value on the skills and capabilities we bring to the table and instead we revert to the lowest common denominators when articulating our value and differentiation.  Can you image a bakery that listed on its business card as a value proposition “Certified ConAgra Flour Gold Partner?”  Or “Kroger Vanilla Extract Partner of the Year?”  Who would care?  Nobody.  What would it do for that bakery?  Nothing.

Maybe we should look closely at how businesses in commodities markets derive huge profits from the most basic selling principle: Provide a solid value for a fair price and focus on the value-add in the selling of the solution, not the commodity ingredients.  What do we have to lose?

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