Chapter 10 - 11 Pricing Products: Pricing Considerations and Approaches Pricing Strategies

Learning Goals Identify and define the internal factors affecting a firm’s pricing decisions Identify and define the external factors affecting pricing decisions, including the impact of consumer perceptions of price and value Contrast the three general approaches to setting prices

Learning Goals Identify and define the internal factors affecting a firm’s pricing decisions Identify and define the external factors affecting pricing decisions, including the impact of consumer perceptions of price and value Contrast the three general approaches to setting prices

Definition Price The amount of money charged for a product or service, or the sum of the values that consumers exchange for the benefits of having or using the product or service.

Price has Many Names Bribe Salary Wage Interest Tax Tuition Rent Fare Toll Premium Retainer Bribe Salary Wage Interest Tax Rent Fee Rate Commission Assessment

What is Price? Dynamic Pricing on the Web allows SELLERS to: Monitor customer behavior and tailor offers. Change prices on the fly to adjust for changes in demand or costs. Aid consumers with price comparisons. Negotiate prices in online auctions and exchanges.

Online travel seller Orbitz guarantees the lowest price

What is Price? Price and the Marketing Mix Common Pricing Mistakes Only element to produce revenues Most flexible element Can be changed quickly Common Pricing Mistakes Reducing prices too quickly to get sales Pricing based on costs, not customer value

Factors to Consider When Setting Price Market positioning influences pricing strategy Other pricing objectives: Survival Current profit maximization Market share leadership Product quality leadership Internal Factors Marketing objectives Marketing mix strategies Costs Organizational considerations

In these ads, State Farm positions on “relationships,” Allstate positions on “price”

Factors to Consider When Setting Price Internal Factors Pricing must be carefully coordinated with the other marketing mix elements Target costing is often used to support product positioning strategies based on price Non-price positioning can also be used Marketing objectives Marketing mix strategies Costs Organizational considerations

Discussion Question You are the marketer of a new high-end coffee maker. What should you consider when planning your: Price Product Place Promotion The price for this product should be high enough that it communicates the quality of this product. The product itself must choose materials, design, colors and functionality to justify the high price. The product should be distributed in higher-end specialty retailers and perhaps should not be distributed through mass merchandisers. The marketer must communicate the additional value that warrants the higher price. The ads must also be targeted to the consumer who has the income and the psychographic qualities to demand this product.

Factors to Consider When Setting Price Internal Factors Types of costs: Variable Fixed Total costs How costs vary at different production levels will influence price setting Marketing objectives Marketing mix strategies Costs Organizational considerations

Cost per Unit at Varying Production Levels

Factors to Consider When Setting Price Internal Factors Types of costs: Variable Fixed Total costs How costs vary at different production levels will influence price setting Experience (learning) curve affects price Marketing objectives Marketing mix strategies Costs Organizational considerations

The Experience Curve

Factors to Consider When Setting Price Internal Factors Who sets the price? Small companies: CEO or top management Large companies: Divisional or product line managers Price negotiation is common in industrial settings where pricing departments may be created Marketing objectives Marketing mix strategies Costs Organizational considerations

Learning Goals Identify and define the internal factors affecting a firm’s pricing decisions Identify and define the external factors affecting pricing decisions, including the impact of consumer perceptions of price and value Contrast the three general approaches to setting prices

Factors to Consider When Setting Price Types of markets Pure competition Monopolistic competition Oligopolistic competition Pure monopoly Consumer perceptions of price and value Price-demand relationship Demand curve Price elasticity of demand External Factors Nature of market and demand Competitors’ costs, prices, and offers Other environmental elements

The Mastercard “Priceless” campaign helps show that prices are somewhat intangible and can be relative to the consumer and the situation Marketing in Action

Factors to Consider When Setting Price Types of markets Pure competition Monopolistic competition Oligopolistic competition Pure monopoly Consumer perceptions of price and value Price-demand relationship Demand curve Price elasticity of demand External Factors Nature of market and demand Competitors’ costs, prices, and offers Other environmental elements

The Demand Curve

Factors to Consider When Setting Price Consider competitors’ costs, prices, and possible reactions when developing a pricing strategy Pricing strategy influences the nature of competition Low-price low-margin strategies inhibit competition High-price high-margin strategies attract competition Benchmarking costs against the competition is recommended External Factors Nature of market and demand Competitors’ costs, prices, and offers Other environmental elements

Prices for MP3 players get more competitive with the help of online shopping agents like PriceGrabber.com

Factors to Consider When Setting Price External Factors Economic conditions Affect production costs Affect buyer perceptions of price and value Reseller reactions to prices must be considered Government may restrict or limit pricing options Social considerations may be taken into account Nature of market and demand Competitors’ costs, prices, and offers Other environmental elements

Learning Goals Identify and define the internal factors affecting a firm’s pricing decisions Identify and define the external factors affecting pricing decisions, including the impact of consumer perceptions of price and value Contrast the three general approaches to setting prices

Major Considerations in Setting Price

General Pricing Approaches Cost-Based Pricing: Cost-Plus Pricing Adding a standard markup to cost Ignores demand and competition Popular pricing technique because: It simplifies the pricing process Price competition may be minimized It is perceived as more fair to both buyers and sellers

General Pricing Approaches Cost-Based Pricing Example - Variable costs: $20 - Fixed costs: $ 500,000 - Expected sales: 100,000 units - Desired Sales Markup: 20% Variable Cost + Fixed Costs/Unit Sales = Unit Cost $20 + $500,000/100,000 = $25 per unit Unit Cost/(1 – Desired Return on Sales) = Markup Price $25 / (1 - .20) = $31.25

General Pricing Approaches Cost-Based Pricing: Break-Even Analysis and Target Profit Pricing Break-even charts show total cost and total revenues at different levels of unit volume. The intersection of the total revenue and total cost curves is the break-even point. Companies wishing to make a profit must exceed the break-even unit volume.

General Pricing Approaches Break-Even Analysis and Target Profit Pricing Revenues 1000 800 600 400 200 Target Profit $200,000 Total Costs Break-even point Thousands of Dollars Fixed Costs 0 10 20 30 40 Quantity To Be Sold To Meet Target Profit Sales Volume in Thousands of Units

Cost-based versus Value-based Pricing

General Pricing Approaches Value-Based Pricing: Uses buyers’ perceptions of value rather than seller’s costs to set price. Measuring perceived value can be difficult. Consumer attitudes toward price and quality have shifted during the last decade. Value pricing at the retail level Everyday low pricing (EDLP) vs. high-low pricing

The discount retailer Target has begun to offer “no wait” medical clinics in some stores at lower prices than traditional health care institutions 10 - 38 Marketing in Action Source: Business Week

General Pricing Approaches Competition-Based Pricing: Also called going-rate pricing May price at the same level, above, or below the competition Bidding for jobs is another variation of competition-based pricing Sealed bid pricing

Competitive Prices on Music Downloads Marketing in Action

Learning Goals Identify and define the internal factors affecting a firm’s pricing decisions Identify and define the external factors affecting pricing decisions, including the impact of consumer perceptions of price and value Contrast the three general approaches to setting prices

Pricing Strategies

Case Study Kmart Kmart failed to deliver on its value proposition Once the top discount retailer in the U.S. Wal-Mart positioned on price and Target as “upscale discount” Kmart tried a value repositioning approach which turned to a price war with Wal-Mart Kmart failed to deliver on its value proposition Forced into bankruptcy and closing of nearly 1/3 of stores Kmart emerged from bankruptcy in May 2003 How are they positioned now? 11 - 44

Learning Goals Describe the major strategies for pricing imitative and new products Explain how companies find a set of prices that maximize the profits from the total product mix Discuss how companies adjust their prices to take into account different types of customers and situations Discuss the key issues related to imitating and responding to price changes

Definitions Market-Skimming Pricing Market-Penetration Pricing Setting a high price for a new product to skim maximum revenues layer by layer from segments willing to pay the high price. Market-Penetration Pricing Setting a low price for a new product in order to attract a large number of buyers and a large market share.

Skimming Pricing Example Most consumer electronic products enter at a high price with skimming. For example, the iPod entered around $259 in 2004. Check the current price at amazon.com Click on iPod for website Marketing in Action

Learning Goals Describe the major strategies for pricing imitative and new products Explain how companies find a set of prices that maximize the profits from the total product mix Discuss how companies adjust their prices to take into account different types of customers and situations Discuss the key issues related to imitating and responding to price changes

Product Mix Pricing Strategies Product Line Pricing Setting price steps between product line items. Price points Optional-Product Pricing Pricing optional or accessory products sold with the main product

Click on screenshot for website Product Line Pricing Oral B has a full line of electric toothbrushes. Visit the site to see the products and examine attributes which justify price differences Click on screenshot for website Marketing in Action

Product Mix Pricing Strategies Captive-Product Pricing Pricing products that must be used with the main product High margins are often set for supplies Services: two-part pricing strategy Fixed fee plus a variable usage rate

Captive Product Pricing Companies like Gillette will often price the razor at or below cost and make the profit on the blades Marketing in Action

Product Mix Pricing Strategies By-Product Pricing Pricing low-value by-products to get rid of them Product Bundle Pricing Pricing bundles of products sold together

Click on screenshot for website How does AOL bundle? Click on screenshot for website Marketing in Action

Learning Goals Describe the major strategies for pricing imitative and new products Explain how companies find a set of prices that maximize the profits from the total product mix Discuss how companies adjust their prices to take into account different types of customers and situations Discuss the key issues related to imitating and responding to price changes

Price Adjustment Strategies Types of discounts Cash discount Quantity discount Functional (trade) discount Seasonal discount Allowances Trade-in allowances Promotional allowances Discount / allowance Segmented Psychological Promotional Geographical International

This small inn located in a summer resort uses seasonal discounts Marketing in Action

Price Adjustment Strategies Types of segmented pricing strategies: Customer-segment Product-form pricing Location pricing Time pricing Also called revenue or yield management Certain conditions must exist for segmented pricing to be effective Discount / allowance Segmented Psychological Promotional Geographical International

Movie theatres, resorts and hotels often use segmented pricing for children Marketing in Action

Price Adjustment Strategies Conditions Necessary for Segmented Pricing Effectiveness Market must be segmentable Segments must show different demand Pricing must be legal Costs of segmentation cannot exceed revenues earned Segmented pricing must reflect real differences in customers’ perceived value

Price Adjustment Strategies The price is used to say something about the product. Price-quality relationship Reference prices Differences as small as five cents can be important Numeric digits may have symbolic and visual qualities that psychologically influence the buyer Discount / allowance Segmented Psychological Promotional Geographical International

Psychological Pricing This ad for a luxury priced car attempts to show that Mercedes owners form important relationships with their cars Marketing in Action

Price Adjustment Strategies Temporarily pricing products below the list price or even below cost Loss leaders Special-event pricing Cash rebates Low-interest financing, longer warranties, free maintenance Promotional pricing can have adverse effects Discount / allowance Segmented Psychological Promotional Geographical International

Promotional Pricing Cell phone marketers will take a loss on the phone to use as a promotional discount Marketing in Action

Price Adjustment Strategies Promotional Pricing Problems Easily copied by competitors Creates deal-prone consumers May erode brand’s value Not a legitimate substitute for effective strategic planning Frequent use leads to industry price wars which benefit few firms

Price Adjustment Strategies Types of geographic pricing strategies: FOB-origin pricing Uniform-delivered pricing Zone pricing Basing-point pricing Freight-absorption pricing Discount / allowance Segmented Psychological Promotional Geographical International

Price Adjustment Strategies Prices charged in a specific country depend on many factors Economic conditions Competitive situation Laws / regulations Distribution system Consumer perceptions Corporate marketing objectives Cost considerations Discount / allowance Segmented Psychological Promotional Geographical International

Learning Goals Describe the major strategies for pricing imitative and new products Explain how companies find a set of prices that maximize the profits from the total product mix Discuss how companies adjust their prices to take into account different types of customers and situations Discuss the key issues related to imitating and responding to price changes

Price Changes Initiate price cuts when a firm: Has excess capacity Faces falling market share due to price competition Desires to be a market share leader Initiate price increases when a firm can increase profit faces cost inflation faces greater demand than can be supplied

Price Changes Alternatives to Increasing Price Explore more cost effective production or distribution Reduce product size Remove features Unbundle the product

Price Changes Buyer reactions to price changes must be considered. Competitors are more likely to react to price changes under certain conditions. Number of firms is small Product is uniform Buyers are well informed

Responding to Competitors’ Price Changes Evaluate the competitors’ reason for the price change Evaluate marketplace response to the price change Considers own product’s strategy

Responding to Competitors’ Price Changes

Kellogg’s Responds to Price Cuts In 1995, a government study called “Consumers in a Box” called for lowering of cereal prices. Cereal prices had increased faster than most other food products. They were the leader and their cost structure supports their existing prices. They had no need to go lower since they knew Kmart could not support their position for the long term. Marketing in Action

Kellogg’s Responds to Price Cuts In 1996, Kraft announced 20% across the board price cut. Kellogg’s followed with 19% cut. Kellogg’s also introduced lower price bagged cereal. Marketing in Action

Public Policy and Pricing Pricing within Channel Levels Price-fixing Competitors cannot work with each other to set prices Predatory pricing Firms may not sell below cost with the intention of punishing a competitor or gaining higher long-run profits or running a competitor out of business.

Public Policy and Pricing Pricing across Channel Levels Price discrimination Retail price maintenance Deceptive pricing Bogus reference / comparison pricing Scanner fraud Price confusion

Learning Goals Describe the major strategies for pricing imitative and new products Explain how companies find a set of prices that maximize the profits from the total product mix Discuss how companies adjust their prices to take into account different types of customers and situations Discuss the key issues related to imitating and responding to price changes