1. Pricing Strategies Key Learning Points
Pricing strategies & tactics (terminology).
The concept of value and the price-setting process.
Deciding how much of the strategic pricing gap to capture.
Linking elasticity to value and estimating the effect of a price change
According to McKinsey, “80 to 90 percent of all poorly chosen prices are too low… Companies habitually charge less than they could for new offerings. It’s a terrible habit.”

2. Pricing Strategies Customer Value Pricing (Demand-focused pricing)
Sets price based on the relative sharing of differentiation value); Company Objectives determine how much value to share or capture:
Penetration or Market Share Pricing
Gives most value to customers, builds share & goodwill & erects entry barriers; elastic demand, no sustainable advantage, market share objective…
Skimming or Prestige Pricing
Majority of value goes to firm to maximize profits – invites competitive entry; inelastic demand, multiple price segments, sustainable advantage…
Intermediate or Neutral Pricing
Equal sharing of value
Technical, Cost-focused Pricing
Full-Cost Pricing – Markup, Breakeven, Rate-of-return
Ignores competition and customer; most useful in stable supply & demand situations or unique, bidding situations with high uncertainty
Variable-Cost Pricing
Ignores fixed costs; useful to stimulate or shift demand for perishable offerings with seasonal demand.

3. Customer -- Psychological Aspects of Price
Value Is the Ratio of Perceived Benefits to Price
Evaluated by comparing focal offering to a reference value
Creates a price window for competitive offerings

4. The Price Setting Process
Define Price
Window
Set
Initial Price
Communicate Prices
to Market
Set initial price range based on differential value & relevant costs
Determine amount of differential value to be captured
Develop communication plan to ensure prices are perceived to be fair
Key Questions:
What is the role of costs in setting my initial price range?
What is appropriate price ceiling for this product?
How should I incorporate reference prices into my price window?
Key Questions:
Is price consistent with my business strategy & objectives (skimming vs. penetration)?
What are the non-value related determinants of price sensitivity?
What are the price-volume tradeoffs & impact on profitability?
Key Questions:
What is the best way to communicate price (changes) to customers?
What are the considerations for implementing significantly higher prices?
Topic: Overview of the Price Setting Process
Key Learning Points for Students
Realize the basic stages of the price setting process that apply to most pricing contexts
Introduce the concept of a price window and understand the determinants of the price floor and ceiling
Understand the rationale for setting an initial price and then testing in the market place
Teaching Recommendations
There are a number of new concepts introduced at this point in the chapter. It is recommended to spend some time ensuring students understand ideas like price window, price volume tradeoffs and pricing objectives
Discussion Question(s)
Divide the class into several groups with each assigned a different product category. Ask the students to make a list of all of the factors they would consider when pricing a new product in that category. Compare their answers and then show where they would fall in the price setting process.

5. Using Competitive Information to Define Price Window
Brand
Product of
Notes
Price per
Ounce ($)
Gallon ($)
Acqua Panna – Natural Spring
Italy (Florence)
1 liter glass bottle
16.85
Arrowhead – Mountain Spring
California
Plastic 28-pack
3.03
Dasani – Purified Drinking Water
USA
Plastic
11.36
Evian (Nomad) – Natural Spring
France (Alps)
Plastic 6-pack
15.77
Menehune – Purified Drinking Water
Aiea, HI
10.01
Perrier – Sparkling Natural Mineral
France
Green Glass
10.67
Rosauer’s Finest – Spring Water
Canada
Plastic/Pop Top
2.95
San Pellegrino – Sparkling Mineral
Italy (S.P.)
11.32
Talking Rain – Mountain Spring
Preston, WA
Plastic/Flavored
8.65
Voss – Virgin aquifer
Norway
Clear glass cylinder
23.26
City of Dallas– Residential
Pipes/Lake Water
The relevant question is:
Why are consumers willing to pay relatively steep prices for a commodity product?

6. Competitive Water Prices & the Price Window
Neutral or Intermediate Prices
Number of competitive offerings
Penetration Prices
Skimming Prices
$s per Gallon

7. Conceptualizing the Price Window and Market Segments with a Normal Bell Curve
Value Buyers
Price Sensitive
Price Insensitive
Low Price
Hi Price
Penetration Pricing Intermediate Pricing Price Skimming

8. Non-normal Distributions with Kinks Suggest Different Segments
Frequency of Observed Price Points
$s per Gallon

9. Price Windows for Milwaukee’s Best, Bud & Miller, and Michelob
Frequency of Observed Price Points
Price Driven
Value Driven
Brand
Driven
$s per Gallon

10. The Price Setting Process
Define Price
Window
Set
Initial Price
Communicate Prices
to Market
Set initial price range based on differential value & relevant costs
Determine amount of differential value to be captured
Develop communication plan to ensure prices are perceived to be fair
Key Questions:
What is the role of costs in setting my initial price range?
What is appropriate price ceiling for this product?
How should I incorporate reference prices into my price window?
Key Questions:
Is price consistent with my business strategy & objectives (skimming vs. penetration)?
What are the non-value related determinants of price sensitivity?
What are the price-volume tradeoffs & impact on profitability?
Key Questions:
What is the best way to communicate price (changes) to customers?
What are the considerations for implementing significantly higher prices?
Topic: Overview of the Price Setting Process
Key Learning Points for Students
Realize the basic stages of the price setting process that apply to most pricing contexts
Introduce the concept of a price window and understand the determinants of the price floor and ceiling
Understand the rationale for setting an initial price and then testing in the market place
Teaching Recommendations
There are a number of new concepts introduced at this point in the chapter. It is recommended to spend some time ensuring students understand ideas like price window, price volume tradeoffs and pricing objectives
Discussion Question(s)
Divide the class into several groups with each assigned a different product category. Ask the students to make a list of all of the factors they would consider when pricing a new product in that category. Compare their answers and then show where they would fall in the price setting process.

11. Economic Value Estimation Framework
Costs unique to doing business
with you
Positive
Differentiation Value
Negative Differentiation Value
Your unique value delivery
Price to capture a share of this value
Competitive Reference Value
Total Economic Value
Price of Next Best
Competitive
Alternative
This slide shows the basic method for determining the "economic value" to the customer. Economic value estimation is the price of the customer's best alternative (called the reference value) plus the value of what differentiates the offering from the alternative (called the differentiation value). Economic value estimation is an especially useful sales tool when buyers are facing extreme cost pressures and are, therefore, very price sensitive.
There are several basic components to economic value estimation. First, identify the closest competitive product to the firm’s product offering. This is the reference product; its cost is the “reference value.” Second, identify all positive factors that differentiate the firm’s product from the competitive reference product; these are sources or drivers of differentiation value. Once the positive differentiation factors have been identified, estimate what each source of differentiation value is worth to the customer. This is done by quantifying the savings and gains that customers would realize by using the firm’s product rather than the competitor’s. In business-to-business contexts savings relate to cost savings, such as savings on salaries, training, inventory, overtime wages, etc. Gains usually are derived from sales volume gains the customer might realize by using the firm’s product, or profit margin gains the customer may be able to realize by selling to customers at higher prices.
Third, estimate the negative differentiation value, which reflects sources or drivers of value on which the firm’s product is inferior to the competitor’s product. Finally, sum the reference value and differentiation value to determine the total economic value the customer would receive.

12. Defining the Price Window (& Objectives)
Positively Differentiated Offering
Negatively Differentiated Offering
Neutral or Intermediate Pricing
Topic: Price Windows
Key Learning Points for Students
Understand the concept of a price window
Illustrate how and why price window changes depending on whether the product is positively or negatively differentiated
Teaching Recommendations
There is an excellent numerical example illustrating the ramifications of pricing above or below the price window. Instructors might wish to illustrate that example on this slide
Discussion Question(s)
Why is a price window important? How does it help the organization?
What would happen if a positively differentiated product were priced bellow the reference price?
What are the implications for pricing above the price ceiling?
Price skimming captures high margins at the expense of sales volume. Prices are high relative to what the “middle market” is willing to pay. Viable when the profit from the price-insensitive segment exceeds profit from sales to larger market at lower price.
Penetration pricing sets price far enough below economic value (not below cost!) to attract and hold a large base of consumers. Generates sales volume (& lower marginal costs) at the expense of higher margins.

13. Customer -- Psychological Aspects of Price
Value Is the Ratio of Perceived Benefits to Price
Evaluated by comparing focal offering to a reference value
Creates a price window for competitive offerings
Linking Elasticity and Value Estimates
As differential value increases, elasticity decreases
Marketers can effectively use price to signal quality when:
Consumers lack information
Product quality is difficult to assess before (experience goods) or even after (credence goods) purchase

14. Estimating Customer Value
Estimating Customer Value MKTG 6223: Understanding What Customers Value MKTG 6214: Advanced Pricing Management
Estimating Customer Value
Economic Value Method
Survey-Based Methods
Direct Purchase Observation
Quantify the objective value of attributes
Self-report willingness-to-pay
Conjoint studies
Estimate price elasticity based on purchase data, perhaps in conjunction with an experiment

15. Financial Analysis in Marketing K&P Chapter 2
Marketing Pro Formas
Breakeven Analysis
Customer Lifetime Value (CLV)
Sales Forecasts
Demand Elasticity
Channel Margin Calculus

16. Price Experiment for Mobile Phone
Inelastic demand
-.50
Elastic demand
-2.83

17. E = Demand Elasticity wrt Price
Necessary to Evaluate Price-Volume Trade-offs
% change in demand
E =
% change in price
Price D from 1200  900
(24% - 41%)/24%
Ecar phone=
= -2.83
( )/1200
Price D from 600  900
(41% - 45%)/41%
Ecar phone=
= -.50
( )/900
If the absolute value of E is < 1.0, demand is inelastic
If the absolute value of E is > 1.0, demand is elastic

18. Elasticity – a visual representation . . . .
Price
Elastic: customers are very sensitive to price changes when there is no differential advantage between substitutes – grains, fruits and vegetables, paper clips, rubber bands P2 P1 P2
Price elasticities on average ≈ -2.5
unit elastic (i.e., e = -1) P1
Inelastic: customers are not very sensitive to price changes when there is strong differential advantage and few substitutes – gemstones, transplant organs Q2 Q1 Q2 Q1
Quantity Demanded

19. Break-even (B/E) Sales Analysis Formula
Price Change (No change in costs):
% B/E unit sales D = — %DP
%CM’ + %DP
— $DP
$CM’ + $DP or
For example, your current contribution margin is 50%; that is, unit variable costs are 50% of price
What % unit sales increase is necessary for a 10% price decrease to breakeven?
— %DP
%CM’ + %DP
10%
50% - 10% =
10%
40% =
25% =
25%
-10%
B/Ee =
= -2.5

20. Estimating the Effect of a Price Change See Kerin & Peterson, Ex. 8.2
Cost, Volume, and Profit Data
Unit sales volume
1,000
Unit selling price
$10
Unit variable cost $5 $2
Unit contribution (margin)
50% $8
80%
Fixed costs
$3,000
$6,000
Net profit
$2,000
Break-even Sales Change
PD%
QD% e
For a price reduction of
-20%
66.7%
-3.3
33.3%
-1.7
-10%
25.0%
-2.5
14.3%
-1.4
-5%
11.1%
-2.2
6.7%
-1.3
For a price increase of 5%
-9.1%
-1.8
-5.9%
-1.2
10%
-16.7%
-11.1%
-1.1
20%
-28.6%
-20.0%
-1.0
Topic: Price-volume tradeoffs
Key Learning Points for Students
Breakeven calculations are an effective way to compare different scenarios associated with different prices.
This tool can be used to explore the profit implications of different prices. Starting with the baseline scenario (the row for 0%), suppose you wanted to simulate the effect of lowering price by 5%. The breakeven sales change varies, depending on your product’s baseline Contribution Margin. If your product had a low contribution margin (say 20%), then your unit volume would have to be 33% greater using this slightly lower price -- compared to your baseline scenario of 0%.
Teaching Recommendations
Ask students to explain a given cell in the Breakeven Sales Change Matrix shown in this slide. Many software companies like Microsoft have high CMs -- perhaps 90%. Suppose Microsoft was considering reducing their prices on Microsoft Office by 20%; how many more units would they need to sell annually to achieve the same profitability they would achieve under the baseline (0%) scenario? Answer: 29%.
How would this change for a product with 40% CMs, or 20% CMs? Note that for a 20% CM product, a 25% price reduction would require an infinite increase in sales volume.

21. Planned Prices and Margins for a Software Product
Collaborators -- Channel Margin Analysis Cases May Require Price-Setting to Intermediaries
Planned Prices and Margins for a Software Product
Retail Price
$500
What if you wanted a $400 MSRP?
$400
Cost of Goods Sold
Manufacturer Price
Wholesale Price
Retail Price RM
40%
Wholesale Price
$300
$120
$192
$240
GM goes to 72/192 = 37.5%
Or reduce COGS 20% to $96
WM 20%
Manufacturer Price
$240 GM
50%
Start with a retail price for an illustrative product, e.g., a software product that sells at retail for $500. Then calculate the margin retailers receive for retailing the product; for example, software specialty stores would likely receive 40 percent margins for this type of software product. Therefore, to accommodate a 40 percent retail margin the product must have a wholesale price of $300. If wholesale distributors were involved in the channel they would also receive a margin, say 20 percent. Consequently, to accommodate the wholesale margin the manufacturer’s price would have to be $240. If the manufacturer wanted a 50 percent margin, then the target cost of goods sold for the manufacturer would have to be $120.
Cost of Goods Sold
$120
COGS
50%

22. Unit Profit Margin Analysis
Altius Weighted Average
Victor TX
Victor
Elevate
Current Share of Sales
70%
30%
Retail price
$48.00
$39.00
$27.00
Retailer gross profit
Retailer gross margin %
15.0%
20.0%
Manufacturer price
Manufacturer variable cost
Manufacturer unit contribution
Manufacturer gross margin %
$45.30
$6.80
70% x % x 39 =
$7.20
$5.85
$5.40
$33.15
30%  $9.95
$7.75
70% $23.21
64%
Value of market share point ($M) ?

23. Current Market Share and Gross Profit for Altius's Product Line
Victor TX
Victor
Market share, retail dollar sales (%)
55.2%
Unit volume (M)
Retail sales ($M) % of $483M
$266.6
$0.00
Retailer gross margin (%)
15.0%
Manufacturer sales ($M)
Manufacturer gross margin (%)
70.0%
Gross profit ($M)
Victor TX 70% of unit volume
30.0%
Market share, unit sales (%)
45.2%

24. Victor Price Cut Analysis
Current price
$2 Retail Price Cut
$4 Retail Price Cut
Retail price
$39
$37
$35
Retailer margin
15%
Altius price
$31.45
Altius variable cost
Altius unit contribution
Altius gross margin
70%
$33.15
$9.95
$23.21
— $DP
$CM’ + $DP
BE= =
— %DP
%CM’ + %DP
BE= =
- -5.1%
70%-5.1%
Altius Manufacturer Price Change %
Unit sales increase to maintain profit
% Retail price change
Elasticity required to break even
Victor Market Share increase required to break even
Victor Market Share required to break even
Altius Market Share required to break even
-5.1%
7.9%

25. The Price Setting Process
Define Price
Window
Set
Initial Price
Communicate Prices
to Market
Set initial price range based on differential value & relevant costs
Determine amount of differential value to be captured
Develop communication plan to ensure prices are perceived to be fair
Key Questions:
What is the role of costs in setting my initial price range?
What is appropriate price ceiling for this product?
How should I incorporate reference prices into my price window?
Key Questions:
Is price consistent with my business strategy & objectives (skimming vs. penetration)?
What are the non-value related determinants of price sensitivity?
What are the price-volume tradeoffs & impact on profitability?
Key Questions:
What is the best way to communicate price (changes) to customers?
What are the considerations for implementing significantly higher prices?
Topic: Overview of the Price Setting Process
Key Learning Points for Students
Realize the basic stages of the price setting process that apply to most pricing contexts
Introduce the concept of a price window and understand the determinants of the price floor and ceiling
Understand the rationale for setting an initial price and then testing in the market place
Teaching Recommendations
There are a number of new concepts introduced at this point in the chapter. It is recommended to spend some time ensuring students understand ideas like price window, price volume tradeoffs and pricing objectives
Discussion Question(s)
Divide the class into several groups with each assigned a different product category. Ask the students to make a list of all of the factors they would consider when pricing a new product in that category. Compare their answers and then show where they would fall in the price setting process.

26. Happy Pricing!

27. Review Questions
What are 2 Customer Value Pricing (i.e., Demand-focused Pricing) strategies?
What are 2 Cost-focused Pricing strategies?
How do we define value?
What are the three steps in the Price-Setting process?
What is the link between pricing strategy and competitive advantage?