Pricing Decisions

Learning Objectives After studying this chapter, you should be able to: 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 two general approaches to setting prices Discuss how companies use pricing strategies for different customers and situations

What is a Price? Price: the amount of money charged for a product or service, or the sum of values exchanged for the benefits of having or using the product or service Fixed pricing Dynamic pricing Only marketing mix element that produces revenue

Factors Affecting Pricing Decisions Marketing objectives: Survival Current profit maximization Market share leadership Product quality leadership Marketing mix strategy: Price should be consistent with other mix elements Target costing Non-price positions

External Factors Affecting Pricing Decisions Types of markets: Pure competition Monopolistic competition Oligopolistic competition Pure monopoly Competition: Consumers will compare High margins attract competition Benchmarking costs

Types of Costs Fixed costs: costs that do not vary with production Variable costs: costs that vary directly with the level of production Total costs: sum of fixed and variable costs

Cost Per Unit/Accumulated Production Experience (learning) curve: the drop in the average per-unit production cost that comes with accumulated production experience

How to set price?

General Pricing Approaches Cost-based pricing: Adding a standard markup to the cost of the product; using formula: Average unit cost = variable cost + (fixed cost / unit sales) Markup price = Unit cost / (1 - desired return on sales) Example: $10 + ($300,000/50,000) = $16 Selling price based on 20%: $16/(1 - .20) = $20 Double-check: $4 profit/selling price = 20% profit margin

Break-even Pricing Break-even (target profit) pricing: setting price to break even (or make a target profit) on the costs of making and marketing a product Break-even = fixed cost / (price - variable cost) Example (a): B/E = $300,000/($20 - $10) B/E = 30,000 units Example (b): B/E = ($300,000 + $75,000 profit)/($20 - $10) B/E = 37,500 units

Cost Versus Value Pricing Value-based pricing: setting price based on buyers’ perceptions of value rather than on the seller’s cost Everyday low pricing (EDLP): charging a constant low price with few discounts or promotional sales; used successfully by Wal-Mart, suits busy consumers, encourages impulse buying due to trust

Pricing Strategies New product pricing strategies Product Mix pricing strategies Price adjustment strategies

New-Product Pricing Strategies Market skimming pricing: setting a high price to skim maximum revenues layer by layer from the segments willing to pay the high price Market penetration pricing: setting a low price for a new product to attract a large number of buyers and achieve a large market share Figure 7.7

Product mix Pricing Strategies Product line pricing Optional- product pricing Captive- product pricing By-product pricing Product bundle pricing

Product Mix Pricing Strategies Product line pricing takes into account the cost differences between products in the line, customer evaluation of their features, and competitors’ prices Optional product pricing takes into account optional or accessory products along with the main product

Product Mix Pricing Strategies Captive-product pricing involves products that must be used along with the main product Two-part pricing involves breaking the price into: Fixed fee Variable usage fee

Product mix Pricing Strategies By-product pricing refers to products with little or no value produced as a result of the main product. Producers will seek little or no profit other than the cost to cover storage and delivery. Product bundle pricing combines several products at a reduced price

Price Adjustment Strategies Discount and Allowance pricing Reducing prices to reward customer responses such as paying early Segmented pricing Adjusting prices to allow for differences in customers, products, or locations Psychological pricing Adjusting prices for psychological effect Promotional pricing Temporarily reducing prices to increase short-run sales Geographical pricing Adjusting prices to account for geographic location of customers International pricing Adjusting prices for international markets Table 12.2

Price-Adjustment Strategies Promotional pricing is when prices are temporarily priced below list price or cost to increase demand Examples: Special event pricing Cash rebates Low-interest financing Longer warrantees Free maintenance

Price-Adjustment Strategies Geographic Strategies FOB (free on board) pricing means that the goods are delivered to the carrier and the title and responsibility passes to the customer Uniformed delivery pricing means the company charges the same price plus freight to all customers, regardless of location Zone pricing means that the company sets up two or more zones where customers within a given zone pay a single total price

Price-Adjustment Strategies Geographic Strategies Basing point pricing means that a seller selects a given city as a “basing point” and charges all customers the freight cost associated from that city to the customer location, regardless of the city from which the goods are actually shipped Freight absorption pricing means the seller absorbs all or part of the actual freight charge as an incentive to attract business in competitive markets

Price-Adjustment Strategies International pricing is when prices are set in a specific country based on country-specific factors Economic conditions Competitive conditions Laws and regulations Infrastructure Company marketing objective