Pricing Products: Pricing Considerations and Strategies Chapter 10 Pricing Products: Pricing Considerations and Strategies

Road Map: Previewing the Concepts Identify and explain the external and internal factors affecting a firm's pricing decisions. Contrast the three general approaches to setting prices. Describe the major strategies for pricing imitative and new products. Explain how companies find a set of prices that maximizes 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 initiating and responding to price changes.

Factors Affecting Price Decisions (Fig. 10-1)

Internal Factors Affecting Pricing Decisions: Marketing Objectives Survival Low Prices Hoping to Increase Demand. Current Profit Maximization Choose the Price that Produces the Maximum Current Profit, Etc. Marketing Objectives Market Share Leadership Low as Possible Prices to Become the Market Share Leader. Product Quality Leadership High Prices to Cover Higher Performance Quality and R&D.

Four Seasons Hotel Four Seasons uses the product quality leadership strategy. It starts with very high quality service, then charges a price to match. http://www.fourseasons.com

Internal Factors Affecting Pricing Decisions: Marketing Mix Strategy Customers Seek Products that Give Them the Best Value in Terms of Benefits Received for the Price Paid. Price Product Design Distribution Promotion Nonprice Positions

Types of Cost Factors that Affect Pricing Decisions Fixed Costs (Overhead) Costs that don’t vary with sales or production levels Executive Salaries, Rent Variable Costs Costs that do vary directly with the level of production Raw materials Total Costs Sum of the Fixed and Variable Costs for Any Given Level of Production

External Factors Affecting Pricing Decisions Market and Demand External Factors Affecting Pricing Decisions Competitors’ Costs, Prices, and Offers Other External Factors Economic Conditions Reseller Reactions Government Actions Social Concerns

Market and Demand Factors Affecting Pricing Decisions Pricing in Different Types of Markets Pure Monopoly Single Seller Pure Competition Many Buyers and Sellers Who Have Little Effect on the Price Oligopolistic Competition Few Sellers Who Are Sensitive to Each Other’s Pricing/ Marketing Strategies Monopolistic Competition Many Buyers and Sellers Who Trade Over a Range of Prices

Demand Curve (Fig. 10-2)

Price Elasticity of Demand A. Inelastic Demand - Demand Hardly Changes With a Small Change in Price. Price P2 P1 Q2 Q1 Quantity Demanded per Period B. Elastic Demand - Demand Changes Greatly With a Small Change in Price. Price P’2 P’1 Q2 Q1 Quantity Demanded per Period

Major Considerations in Setting Price (Fig. 10-3)

Cost-Based Pricing Certainty About Costs Factors Situational Unexpected Attitudes of Others Ethical Ignores Current Demand & Competition Cost-Plus Pricing is an Approach That Adds a Standard Markup to the Cost of the Product Simplest Pricing Method Pricing is Simplified Price Competition Is Minimized Fairer to Buyers & Sellers

Breakeven Analysis or Target Profit Pricing (Fig. 10-4) Tries to Determine the Price at Which a Firm Will Break Even or Make a Certain Target Profit. 2 4 6 8 10 12 200 400 600 800 1,000 Total Revenue Target Profit ($2 million) Cost in Dollars (millions) Total Cost Fixed Cost Sales Volume in Units (thousands)

Cost-Based Versus Value-Based Pricing (Fig. 10-5)

Discussion Question After examining Figure 10-5, compare and contrast cost-based pricing and value-based pricing. What are situations that favor each pricing method? Companies set prices by selecting a general pricing approach that includes one or more of the following three sets of factors. Notice that this question focuses on the first two of these factors. Each is summarized below for your convenience. The simplest pricing method is cost-plus pricing--adding a standard markup to the cost of the product. This is common in construction, among professionals (such as doctors and lawyers), or companies dealing with the government (aerospace companies). Does using standard markups to set prices make sense? Generally, no. Any pricing method that ignores demand and competitor prices is not likely to lead to the best price. Still, however, this method remains popular because sellers are more certain about costs than about demand, prices within an industry seem to be standard (as in the medical field), and many feel that cost-plus pricing is fairer to both buyers and sellers. A variation of the above cost-oriented approach is break-even pricing (or a variation called target profit pricing) where the firm tries to determine the price at which it will break even or make a target profit it is seeking. See Figure 10-5 for additional details. An increasing number of companies are basing their prices on the product’s perceived value. Value-based pricing uses buyers’ perceptions of value, not the seller’s cost, as the key to pricing. Value-based pricing means that the marketer cannot design a product and marketing program and then set price. Price is considered along with the other marketing-mix variables before the marketing program is set. A company using value-based pricing must find out what value buyers assign to different competitive offers. However, measuring perceived value can be difficult. For more information on value pricing see Figure 10-5 and Marketing at Work 10-2.

Competition-Based Pricing Methods for Setting Prices Going-Rate Company Sets Prices Based on What Competitors Are Charging Sealed-Bid Company Sets Prices Based on What They Think Competitors Will Charge ?

New-Product Pricing Strategies Use Under These Conditions: Product’s Quality and Image Must Support Its Higher Price. Costs Can’t be so High that They Cancel the Advantage of Charging More. Competitors Shouldn’t be Able to Enter Market Easily and Undercut the High Price. Market-Skimming Setting a High Price for a New Product to “Skim” Maximum Revenues from the Target Market. Results in Fewer, But More Profitable Sales. I.e. Intel

New-Product Pricing Strategies Use Under These Conditions: Market Must be Highly Price-Sensitive so a Low Price Produces More Market Growth. Production/Distribution Costs Must Fall as Sales Volume Increases. Must Keep Out Competition & Maintain Its Low Price Position or Benefits May Only be Temporary. Market Penetration Setting a Low Price for a New Product in Order to “Penetrate” the Market Quickly and Deeply. Attract a Large Number of Buyers and Win a Larger Market Share. I.e. Dell

Interactive Student Assignments Form students into groups of three to five. Which pricing strategy--market skimming or market penetration--does each of the following companies use? McDonald’s, Sony (television and other home electronics), Bic Corporation (pens, lighters, shavers, and related products), and IBM (personal computers). (a) McDonald’s generally introduces a new product with promotional pricing in order to induce trial. Eventually McDonald’s ends the promotion and sells the product at its higher regular price. (b) Sony uses a skimming strategy in the sense that it tries to attract the cream of the TV-buying market to its high-priced, high-quality products. It tends to maintain its high prices, rather than follow a strategy of lowering its prices over time to skim successive market segments. (c) BIC Corp. consistently uses penetration pricing to build markets and gain large shares. For example in its effort to find a new market to supplement its core businesses of pens and disposable razors, BIC introduced a line of fragrances in Europe and the U.S.-- at only $4 for a quarter-ounce spray bottle. (d) IBM is normally a high-priced seller in the information-processing industry, and its price cuts generally appear to be in response to competitors’ actions or unexpectedly low sales rather than part of a planned market-expansion strategy.

Product Mix-Pricing Strategies: Product Line Pricing Involves setting price steps between various products in a product line based on: Cost differences between products, Customer evaluations of different features, and Competitors’ prices.

Product Mix-Pricing Strategies Optional-Product Pricing optional or accessory products sold with the main product. i.e camera bag. Captive-Product Pricing products that must be used with the main product. i.e. film.

Product Mix-Pricing Strategies By-Product Pricing low-value by-products to get rid of them and make the main product’s price more competitive. I.e. sawdust, Zoo Doo Product-Bundling Combining several products and offering the bundle at a reduced price. I.e. theater season tickets.

Discount and Allowance Pricing

Segmented Pricing

Psychological Pricing Considers the psychology of prices and not simply the economics. Customers use price less when they can judge quality of a product. Price becomes an important quality signal when customers can’t judge quality; price is used to say something about a product. Retail $100.00 Cost $3.00

Promotional Pricing Loss Leaders Special-Event Pricing Cash Rebates Low-Interest Financing Longer Warranties Free Maintenance Discounts Loss Leaders Temporarily Pricing Products Below List Price Through:

Other Price Adjustment Strategies Geographical Pricing Pricing products for customers located in different parts of the country or world. i.e. FOB-Origin, Uniform- Delivered, Zone, Basing- Point, & Freight-Absorption. Adjusting prices for customers in different counties. Price Depends on Costs, Consumers, Economic Conditions, Competitive Situations, & Other Factors. International Pricing

Initiating Price Changes Price Increases Why? Cost Inflation Overdemand: Company Can’t Supply All Customers’ Needs Price Cuts Why? Excess Capacity Falling Market Share Dominate Market Through Lower Costs

Reactions to Price Changes Being Replaced by Newer Models Price Cuts Are Seen by Buyers As: Number of Firms is Small Product is Uniform Buyers are Well Informed Competitors Mostly React When: Current Models Are Not Selling Well Company is in Financial Trouble Quality Has Been Reduced Price May Come Down Further

Assessing/Responding to Competitor’s Price Changes (Fig. 10-6)

Public Policy Issues in Pricing (Fig. 10-7)

Rest Stop: Reviewing the Concepts Identify and explain the external and internal factors affecting a firm's pricing decisions. Contrast the three general approaches to setting prices. Describe the major strategies for pricing imitative and new products. Explain how companies find a set of prices that maximizes 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 initiating and responding to price changes.