Parker Hannifin Corporation is a leading manufacturer of component parts used in aerospace, transportation, and manufacturing equipment. The company makes several hundred thousand partsfrom heat-resistant seals for jet engines and components used in the space shuttle to steel valves that hoist buckets on cherry pickers. Parker Hannifins motor and control products are integral components in global manufacturing and very few rivals have the same product breadth and clout with customers (original-equipment manufacturers) as the firm.² When Donald Washkewicz took over as chief executive, he came to an unnerving conclusion: the pricing approach that the company had followed for years was downright crazy.

For as long as anyone at the company could recall, the firm used this simple approach to determine the prices for its thousands of parts: Company managers would calculate how much it cost to make and deliver each product and then add a flat percentage on top, usually aiming for around a 35 percent margin. Across divisions, many managers liked this cost-plus approach because it was straightforward and gave them broad authority to negotiate prices with customers.

But the chief executive feels that the firm, which generates over 13 billion in annual revenues, may be severely restricting its profit growth. No matter how much a particular product is improved, the company often ends up charging the same premium that it would for a standard product. And if the company finds a way to make a product less expensively, it ultimately cuts the products price as well. I was actually losing sleep, recalls Donald Washkewicz, who believes that the company should stop thinking like a widget maker or a cost-plus price setter and start thinking like a retailer by determining prices by what customers are willing to pay.

Changing the firms pricing approach, however, is a complex task. The company has tens of thousands of products (1) some are high-volume commodities and there are large, formidable competitors; (2) some have unique features, fill niches in the market, and have limited competition; and (3) many are custom-designed for a single customer.

Describe the process that you would follow in performing an audit of the firm's product line to identify those products that represent the best and worst candidates for profit-margin expansion.

Provide a set of specific pricing guidelines that managers should apply as the traditional cost-plus approach is phased out and a value-based approach to pricing is implemented.