chapter 1011

Pricing Products:Understanding and Capturing Customer Value

Pricing Products:Pricing Strategies

10 AND 11 10 AND 11

Learning Objectives

After studying this chapter, you should be able to:

1. Answer the question “What is price?” and discuss the importance of pricing in today’s fast-changing environment

2. Discuss the importance of understanding customer value perceptions when setting prices

3. Discuss the importance of company and product costs in setting prices

4. Identify and define the other important internal and external factors affecting a firm’s pricing decisions

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What Is Price?

Price is the amount of money charged for a product or service. It is the sum of all the values that consumers give up in order to gain the benefits of having or using a product or service.

Price is the only element in the marketing mix that produces revenue; all other elements represent costs

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Factors to Consider When Setting Prices

Customer Perception of Value

Value-based pricing uses the buyers’ perceptions of value, not the seller’s cost, as the key to pricing. Price is considered before the marketing program is set.

• Value-based pricing is customer driven• Cost-based pricing is product driven

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Factors to Consider When Setting Prices

Customer Perception of Value

Value-based pricing• Good-value pricing

• Offers the right combination of quality and good service to fair price

• Value-added pricing• Existing brands are being redesigned to

offer more quality for a given price or the same quality for less price

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Factors to Consider When Setting Prices

Customer Perception of Value (Good-Value Pricing)

Everyday low pricing (EDLP) involves charging a constant everyday low price with few or no temporary price discounts

High-low pricing involves charging higher prices on an everyday basis but running frequent promotion to lower prices temporarily on selected items

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Factors to Consider When Setting Prices

Customer Perception of Value (Value-Added Pricing)

Value-added pricing attaches value-added features and services to differentiate offers, support higher prices, and build pricing power

Pricing power is the ability to escape price competition and to justify higher prices and margins without losing market share

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Factors to Consider When Setting Prices

Company and Product Costs

Cost-based pricing involves setting prices based on the costs for producing, distributing, and selling the product plus a fair rate of return for its effort and risk

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Factors to Consider When Setting Prices

Company and Product Costs

Types of costs

• Fixed costs• Rent, salaries etc

• Variable costs• Raw materials, packaging etc

• Total costs• TC = TFC + TVC

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Factors to Consider When Setting Prices

Company and Product Costs – (1) Costs as a Function of Product Experience, Concept

Experience or learning curve is when the average cost falls as production increases because fixed costs are spread over more units

* Economies of Scale

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Factors to Consider When Setting Prices

Company and Product Costs – (2) Cost-Based Pricing

Cost-based pricing adds a standard markup to the cost of the product

markup price= unit cost

(1 - desired rate of return)

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Factors to Consider When Setting PricesCompany and Product Cost – (3) Break-Even

Analysis and Target Profit Pricing

Break-even pricing is the price at which total costs are equal to total revenue and there is no profit.

TC = TR

Target profit pricing is the price at which the firm will break even or make the profit it’s seeking

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Factors to Consider When Setting Prices

break-even = fixed cost

volume (price-variable cost)

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Break-Even Analysis and Target Profit Pricing

Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

Customer perceptions of value set the upper limit for prices, and costs set the lower limit

Companies must consider internal and external factors when setting prices

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Factors to Consider When Setting PricesOther Internal and External Considerations

Affecting Price Decisions

Internal factors• Marketing strategies• Organization

• Who should set the price and who can influence

• Objectives• Survival, profit maximization, customer retention etc

• Marketing mix• 4 P’s (Product, Place, Promotion and Price)

External factors• Market demand• Competitor’s strategies and prices

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Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

Types of markets• Pure competition• Monopolistic competition• Oligopolistic competition• Pure monopoly

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Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

Pure competition is a market with many buyers and sellers trading uniform commodities where no single buyer or seller has much effect on market price

Monopolistic competition is a market with many buyers and sellers who trade over a range of prices rather than a single market price with differentiated offers.

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Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

Oligopolistic competition is a market with few sellers because it is difficult for sellers to enter who are highly sensitive to each other’s pricing and marketing strategies

Pure monopoly is a market with only one seller. In a regulated monopoly, the government permits a price that will yield a fair return. In a non-regulated monopoly, companies are free to set a market price.

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Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

The demand curve shows the number of units the market will buy in a given period at different prices

• Normally, demand and price are inversely related• Higher price = lower demand• For prestige (luxury) goods, higher price can equal

higher demand when consumers perceive higher prices as higher quality

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Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

Price elasticity of demand illustrates the response of demand to a change in price

Inelastic demand occurs when demand hardly changes when there is a small change in price

Elastic demand occurs when demand changes greatly for a small change in price

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Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

Factors affecting price elasticity of demand• Unique product• Quality• Prestige• Substitute products• Cost relative to income

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Factors to Consider When Setting Prices

Other Internal and External Considerations

Affecting Price Decisions

Competition strategies and prices

Factors to consider• Comparison of offering in terms of customer value• Strength of competitors• Competition pricing strategies• Customer price sensitivity

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Factors to Consider When Setting Prices

Other Internal and External Considerations Affecting Price Decisions

Other external factors• Economic conditions

• Resellers’ response to price

• Government

• Social concerns

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TWO BROAD NEW-PRODUCT PRICING STRATEGIES

Market skimming pricingSetting a high price for a new product

to skim maximum revenues layer by layer from the segments willing to pay the high price.

Sony introduced HDTV, Blu-Ray Disc Player

Market penetration pricingSetting a low price for a new product

in order to attract a large number of buyers and a large market share.

Maybelline High Definition Mascara

Product Mix Pricing Strategies

• Product line pricing

• Optional-product pricing

• Captive- product pricing

• By-product pricing

• Product bundle pricing

1. Product Line Pricing

Setting prices for a closely related set of products or for a product line.

Different elements of the product line can be used to appeal to different segments of the market.

The product can differ in small ways, such as features or complementary

Example, Coke, Diet Coke, Cherry Coke, and Vanilla Coke, the prices are quite similar

2. Optional-Product Pricing

• Offering to sell optional or accessory products along with their main product.

• Example, I-Pod buyers may choose extra accessories such as travel chargers, external transmitters, speakers and armbands.

3. Captive-Product Pricing

– Applies to products that are used together when one of the product fills a sustainable need.

– Example, Gillette prices razors rather modestly but makes huge margins on the blades.

4. By-Product Pricing

• Manufacturers will seek a market for its by-products and should accept any price that covers more that the cost or storing and delivering them.

• Meat processes, petroleum, agriculture products, chemicals etc

• Example, zoo sells manure to farmers

5. Price Bundling (Product Bundle Pricing)

– Takes a set of products, offers them to customers in a package, usually price the package lower than sum of the individual components.

– Often consisting of models that slow sellers, specially priced to eliminate inventory

– But, some of the bundle can be prices higher than the sum of the product, example, McD-Happy Meals

– Nevertheless, you as a product manager shall seek ways to unbundled the product package to allow customers to choose what they want to pay for

Price Adjustment Strategies

• Discount and allowance pricing• Segmented pricing• Psychological pricing• Promotional pricing• Geographical pricing• International pricing

Price Adjustment Strategies

Pricing Strategies

• Discounts• Cash discount for paying promptly• Quantity discount for buying in large volume• Functional (trade) discount for selling, storing,

distribution, and record keeping

• Allowances• Trade in allowance for turning in an old item when

buying a new one• Promotional allowance to reward dealers for

participating in advertising or sales support programs

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Price Adjustment Strategies

Pricing Strategies

Discount and allowance pricing reduces prices to reward customer responses such as paying early or promoting the product

• Discounts• Allowances

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Price Adjustment StrategiesPricing Strategies

Segmented pricing is used when a company sells a product at two or more prices even though the difference is not based on cost

• Customer segment pricing• Product form segment pricing

• Different versions of the product are priced differently

• Location pricing• Charge different price for different location

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Price Adjustment StrategiesPricing Strategies

Psychological pricing occurs when sellers consider the psychology of prices and not simply the economics, the price is used to say something about the product.

• Reference prices are prices that buyers carry in their minds and refer to when looking at a given product• Noting current prices• Remembering past prices• Assessing the buying situations

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Price Adjustment Strategies

Promotional pricing is when prices are temporarily priced below list price or cost to increase demand.

• Loss leaders• Special event pricing• Cash rebates• Low interest financing• Longer warrantees• Free maintenance

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Pricing Strategies

Price Adjustment Strategies

Pricing Strategies

Risks of promotional pricing• Used too frequently, and copies by

competitors can create “deal-prone” customers who will wait for promotions and avoid buying at regular price

• Creates price wars

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Price Adjustment Strategies

Pricing Strategies

Geographical pricing is used for customers in different parts of the country or the world

• FOB (Free-On-Board) pricing• Uniformed delivery pricing• Zone pricing• Basing point pricing• Freight absorption pricing

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Price Adjustment StrategiesPricing Strategies

• Dynamic pricing• when prices are adjusted continually to meet the

characteristics and needs of the individual customer and situations

• International pricing• prices are set in a specific country based on

country-specific factors• Economic conditions• Competitive conditions• Laws and regulations• Infrastructure• Company marketing objective

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Price ChangesInitiating Pricing Changes

Price cuts is a reduction in price• Excess capacity• Increase market share

Price increases is an increase in selling price• Cost inflation• Increased demand and lack of supply

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Price Changes

Buyer Reactions to Pricing Changes

• Price cuts• New models will be available• Models are not selling well• Quality issues

• Price increases• Product is “hot”• Company greed

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Price Changes

Responding to Price Changes

Questions• Why did the competitor change the price?• Is the price cut permanent or temporary?• What is the effect on market share and

profits?• Will competitors respond?

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Price Changes

Responding to Price Changes

Solutions• Reduce price to match competition• Maintain price but raise the perceived value

through communications• Improve quality and increase price• Launch a lower-price “fighting brand”

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Public Policy and Pricing

Pricing Within Channel Levels

Price fixing: Sellers must set prices without talking to competitors

Predatory pricing is prohibited. Selling below cost with the intention of punishing a competitor or gaining higher long-term profits by putting competitors out of business

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Public Policy and Pricing

Pricing Across Channel Levels

Robinson Patman Act prevents unfair price discrimination by ensuring that sellers offer the same price terms to customers at a given level of trade

• Price discrimination is allowed:• If the seller can prove that costs differ when selling to

different retailers• If the seller manufactures different qualities of the same

product for different retailers

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Public Policy and Pricing

Pricing Across Channel Levels

Retail (resale) price maintenance is when a manufacturer requires a dealer to charge a specific retail price for its products.

Deceptive pricing occurs when a seller states prices or price savings that mislead consumers or are not actually available to consumers

Both are prohibited under the LAW!11-39

Public Policy and Pricing

Pricing Across Channel Levels

Deceptive pricing occurs when a seller states prices or price savings that mislead consumers or are not actually available to consumers

• Scanner fraud failure of the seller to enter current or sale prices into the computer system

• Price confusion results when firms employ pricing methods that make it difficult for consumers to understand what price they are really paying

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