Chapter 10 Merchandise Pricing

Controllable Factors in Pricing Many retailers focus too much on price. This conditions their customers to only purchase on sale. Overlooks the relationship price has with the other variables of the retailing mix. Two controllable factors in pricing are: Cost paid for the goods Desired gross margin

Pricing Objectives and Policies Should be made after careful consideration of the retailer’s… Mission statement, Goals/objectives, Strategy, and Operational mix Merchandise planning Promotional mix Building and fixtures Service levels

Interactive Pricing Decisions

Pricing Objectives Pricing objectives can fall into one of three general categories. Profit Oriented objectives Sales Oriented objectives Status Quo objectives

Profit Oriented Objectives Two types: Target Return Sets a specific level of profit or GM as an objective Note: This is the reason we calculate MU as a percentage of sales, rather than costs, a topic to be elaborated upon shortly Profit Maximization Seeks to obtain as much profit as possible Not simply where MC = MR Skimming Penetration Pricing

Sales Oriented Objectives Seek some specified level of unit sales, dollar sales, or market share, but does not mention profit. Important to remember though that market share is not always positively tied to profit. One can focus too much on merely pushing product and sacrifice GM to gain additional market share.

Status Quo Objectives Occur because the retailer is: Happy with the current trends (e.g., market share or profit levels) Too afraid of competitor retaliation Competing on something other than price

Pricing Policies Rules of action, or guidelines, that ensure uniformity of pricing decisions within a retail operation. Three general classes of pricing policies: Pricing “Below the Market” Pricing “At the Market” Pricing “Above the Market”

Pricing “Below the Market” Policies designed to regularly discount merchandise from the established market price. Leverage consumers’ price recall capabilities Studies have shown that roughly 50 – 60% of customers can recall prices within 5% of the actual price paid* (e.g., Dickson and Sawyer 1990) Goals: Build store traffic Generate higher levels of Gross Margin per Sq. Foot

Pricing “At the Market” A policy where retailer establish prices so as to remain competitive with one another on the pricing variable. Comparison shoppers Often requires having employees visit & shop competitors’ stores Comparison shopping enables the retailer to better understand consumers’ ranges of price acceptability. Price Zone A range of prices for a particular merchandise line that appeals to customers in a certain market segment.

Price Zones Reference Prices and Ranges* Can be affected by internal (memory) or external (POP signage highlighting “Distinctiveness” or “Consistency”) stimuli (e.g., Bolton et al. 2003; Pechmann 1996) Prospect Theory* (Kahneman and Tversky 1979) States that people are dramatically more effected by losses than by gains and become more risk adverse to perceived losses Prices perceived as higher than one’s “zone” are likely to be viewed as dramatically worse than the “gain” one would receive if they had fallen just within one’s acceptable zone.

Pricing “Above the Market” A policy where retailers establish high prices because non-price factors are perceived as more important by the target market. Cost structure High costs can force this Sales Volume Low volume coupled with high costs force this, and one should then focus on services offered or convenience Merchandise Offerings Services Offered Convenience & Hours of Operation

Specific Pricing Strategies Although not exhaustive, some of the more common pricing strategies used by retailers include: Customary pricing 7. Multiple-unit pricing Variable pricing 8. Bundle pricing Flexible pricing 9. Bait-and-switch pricing One-price policies 10. Private label pricing Odd pricing 11. High-low pricing Price lining 12. Leader pricing

Specific Pricing Strategies Customary pricing The retailer sets prices for goods and services and seeks to maintain those prices over an extended period of time. Variable pricing Recognizes that differences in demand and cost necessitate that the retailer change prices in a fairly predictable manner. Flexible pricing Encourages offering the same products and quantities to different customers at different prices (common for products sold using personal selling). One-price policy Establishes that the retailer will charge all customers the same price for an item. Not only does it speed up transactions, but also it reduces the need for highly skilled salespeople. Odd pricing Practice of setting retail prices that end in the digits 5, 8, 9—such as $29.95, $49.98, or $9.99.

Specific Pricing Strategies Price Lining Established to help customers make merchandise comparisons and involves establishing a specified number of price points for each merchandise classification. Trading up Occurs when a retailer uses price lining and a salesperson moves a customer from a lower priced line to a higher one. Trading down Occurs when a retailer uses price lining, and a customer initially exposed to higher-priced lines expresses the desire to purchase a lower-priced line.

Specific Pricing Strategies Multiple-unit pricing Price of each unit in a multiple-unit package is less than the price of each unit if it were sold individually. Bundle Pricing Selling distinct multiple items offered together at a special price. Bait-and-switch pricing Advertising or promoting a product at an unrealistically low price to serve as ‘‘bait’’ and then trying to ‘‘switch’’ the customer to a higher-priced product. Private-label brand pricing A private-label brand can be purchased by a retailer at a cheaper price, have a higher markup percentage, and still be priced lower than a comparable national brand. High-low pricing Use of high every day prices and low leader ‘‘specials’’ on items typically featured in weekly ads.

Specific Pricing Strategies Leader pricing Used when a high-demand item is priced low and heavily advertised in order to attract customers into the store. Loss leader - Extreme form of leader pricing where an item is sold below a retailer’s cost.

Using Markups Markup Selling price of the merchandise less its cost Equivalent to the good’s gross margin. The basic markup equation: SP = C + MU Where: C = Dollar cost of merchandise (per unit) MU = Dollar markup (per unit) SP = Selling price (per unit)

Basic Markup Formulas

Initial Versus Maintained Markup Initial markup The original markup of the good IM = (Original SP - C)/OSP Maintained markup The actual markup received upon the sale of the good MM = (Actual SP – C)/ASP

Initial Versus Maintained Markup Differences will often exist because: The need to balance demand with supply (e.g., taking a markdown to make the merchandise attractive). Stock shortages from theft by employees or customers, or by mis-marking the price when the goods were received. Employee or customer discounts. Cost of alterations not fully covered by fee charged to the customer. Cash discounts offered by suppliers to retailers to encourage prompt payment of bills decreases the cost of merchandise and cause the maintained markup to be higher than the initial markup.

Planning Initial Markup IM percentage (gross margin + alterations costs + reductions) (net sales + reductions) Markup determinants: As goods are sold through more retail outlets, the markup percentage decreases. The higher the handling, alteration/customization, and storage costs of the goods, the higher the markup should be. The greater the risk of a price reduction due to the seasonality of the good, the greater the magnitude of the markup percentage early in the season. The higher the demand inelasticity of price for the good, the greater the markup percentage.

Markdown Management Markdown Any reduction in the price of an item from its initially established price. Markdown percentage = Amount of reduction / original selling price

Markdown Policy Early markdown policy Advantages: Speeds the movement of merchandise. Enables the retailer to take less of a markdown per unit to dispose of the goods. Enables customers to still think of the good as fashionable, and the store has the appearance of having fresh merchandise. Allows the retailer to replenish lower-priced lines from the higher ones that have been marked down.

Markdown Policy Late-markdown policy Advantages: Allows goods to have a long trial period before a markdown is taken. Avoids disrupting the sale of regular merchandise by too frequently marking goods down. Curtails the frequency of the pure “bargain shopper” who is not the ideal customer.

Maintained Markup After planning, managing, & implementing markdowns, this is the “experienced” or “realized” markup. It is calculated as follows: MM = IM% – [(Red %) x (100% - IM%)] Red % = reduction percentage, or the amount of reductions taken divided by net sales

What You Should Have Learned… Chapter’s Learning Objectives The factors a retailer should consider when establishing pricing objectives and policies. The differences between the various pricing strategies available to the retailer. How retailers calculate the various markups. Why markdown management is so important in retailing and describe some of the errors that cause markdowns.