In this interview with Invest Like The Best, Michael Mauboussin explains how to use a ‘value stick’ framework. Here’s an excerpt from the interview:
Mauboussin: Imagine a vertical stick from top to bottom. At the very top, you have willingness to pay. Below that is price, then cost, and at the bottom is willingness to sell.
Willingness to pay, what is that? The most somebody is willing to pay for a good or service. The difference between price and willingness to pay is consumer surplus. The difference between price and cost for the company is value creation for that company. And then willingness to sell is the price at which suppliers are willing to sell their goods or services to the company. Usually, the most important supplier is employees.
So aggregate value creation is the difference between willingness to pay and willingness to sell. The powerful point here is that companies focus less on raising prices, and more on increasing willingness to pay because if you increase willingness to pay and you don’t raise your price, you’ve increased consumer surplus – your customers are psyched.
Likewise, and this is, I think, much less intuitive but how do you lower willingness to sell? How do you make your employees feel fairly compensated at levels that might be lower than competitors? How do you make your suppliers feel happy to sell to you at lower prices than they might otherwise?
I think that is a really good way to think about businesses in general.
You can listen to the entire interview here:
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