EMB 520: Ch 14 pricing strategies and programs 14e

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14Developing Pricing Strategies and Programs
1Price
•Only element of marketing mix that generates revenue
−Perhaps the easiest element of the marketing program to adjust
−Pricing decisions are very complex and difficult
−Holistic marketers must take into account many factors in making pricing decisionsSynonyms for Price
•Rent
•Tuition
•Fee
•Fare
•Rate
•Toll
•Premium
•Honorarium
•Special assessment
•Bribe
•Dues
•Salary
•Commission
•Wage
•Tax
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Common Pricing Mistakes
•Determine costs and take industry margins
•Failure to revise price to changes in market
•Setting price independently
•Failure to vary price by product item, market segment, distribution channels, and purchase occasion
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•For small company, by top management
•For large company, by division and product-line managers
•If price is very important,then by a separate price department
•In special case, by salespeople
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Who Sets Price? Consumer Psychology and Pricing
•Economists assume that consumers are price takers
•Marketers assume that consumers---
−process price information,
−interpret prices, and
−make purchase decision based on:
how they perceive price and
what they consider the actual price to be
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Consumer Psychology and Pricing
•Reference prices--comparing an observed price to an ‗internal reference price’ customers remember or to an ‗external frame of reference’ (posted ―regular retail price‖)
•Some reference prices:
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•―Fair price‖
•Typical price
•Last price paid
•Upper-bound price
•Lower-bound price
•Competitor prices
•Expected future price
•Usual discounted price
New-Product Pricing Strategies
•Market-skimming pricing
•Market-penetration pricingNew-Product Pricing Strategies
•Market-skimming pricing is a strategy with high initial prices to ―skim‖ revenue layers from the market and then lower it
−Product quality and image must support the price
−Buyers must want the product at the price
−Costs of producing the product in small volume should not cancel the advantage of higher prices
−Competitors should not be able to enter the market easilyNew-Product Pricing Strategies
•Market-penetration pricing sets a low initial price in order to penetrate the market quickly and deeply to attract a large number of buyers quickly to gain market share
−Price sensitive market
−Inverse relationship of production and distribution cost to sales growth
−Low prices must keep competition out of the market
Steps in Setting Price
Select the price objectiveDetermine demand
Estimate costsAnalyze competitor price mixSelect pricing method
Select final priceCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-11Step-1: Selecting the Pricing Objective
•Survival–cover variable and part of fixed cost
•Maximum current profit– rate of return
•Maximum market share– penetration pricing
•Maximum market skimming–set high price and slowly drop over time
•Product-quality leadership– affordable luxuries
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Step 2: Determining Demand
•Price sensitivity—quantity purchased at alternative prices
•Estimate demand curves
−Surveys—explorenumber of units consumers would buy at different proposed prices
−Price experiments—varyprices of different products in a store or chargedifferent prices for the same product in similar territories to see how the change affects sales
−Statistical analysis—reviewof past prices, quantities sold, and other factors can reveal their relationships.
•Price elasticity of demand—how elastic demand would be to a change in price
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-13Figure 14.1 Inelastic and Elastic DemandCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-14
Table 14.3 Factors Leading to Less Price Sensitivity
•The product is more distinctive
•Buyers are less aware of substitutes
•Buyers cannot easily compare the quality of substitutes
•Expenditure is a smaller part of buyer‘s total income
•Expenditure is small compared to the total cost
•Part of the cost is paid by another party
•Product is used with previously purchased assets
•Product is assumed to have high quality and prestige
•Buyers cannot store the product
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-15Step 3: Estimating Costs
•Types of costs
•Accumulated production
•Target costing−effort by designers, engineers, and purchasing agents to reduce cost
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Cost Terms and Production
•Fixed costs—cost that do not vary with production (overhead)
•Variable costs—vary with level of production
•Total costs—sum of fixed and variable costs
•Average cost —cost per unit at that level of production (total costs/production)
•Cost at different levels of production--Experience or learning curveTo price intelligently, management needs to know how its costs vary with different levels of production
Figure 14.3 Cost per Unit as a Function of Accumulated ProductionCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-18

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4Target CostingCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-19Step 4: Competitors’ Costs, Prices, and Offers
•Consider competitors‘ costs, prices and possible price reactions
−Higher price is justified, if firm‘s offer contains some additional features
oLow-price low-margin strategies inhibit competition
oHigh-price high-margin strategies attract competition
−Benchmark costs against the competitors‘
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Figure 14.4 The Three Cs Model for Price-SettingStep 5: Selecting a Pricing MethodCustomers‘ demand schedule, Cost function, Competitors‘ prices
Orienting PointStep 5: Selecting a Pricing Method
•Markup pricing
•Target-return pricing
•Perceived-value pricing
•Value pricing
•Going-rate pricing
•Auction-type pricing
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•The most elementary pricing method where a standard markup is added to product‘s cost.
−Markup Price= Unit Cost ÷(1 –Desired Return on Sales)
−For example: If VC per unit: $10, FC: $300,000, expected unit sales: 50,000 and desired markup on sales: 20%
•Unit Cost =$10+($300,000/50,000)= $16
•Markup Price= $16 ÷(1-0.20) = $20
Markup PricingCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-23
•Markups vary with management decisions
−Markups are higher on seasonal, specialty, slow- moving and inelastic demand items
•Pros and cons are:
−Simple and perceived as fairer to both
−Keeps competition minimum
−Ignores demand and competition
Markup Pricing
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• Firm determines the price that yields its target
rate of return on investment
− For example: If investment= $1,000,0000; unit
sales= 50,000; per unit cost= $16 and desired
ROI= 20%
Target-Return Pricing (TRP)
UnitSales
(DesiredRe turn)(InvestedCapital)
TRP = UnitCost+
20
50 000
0 2 1 000 000
16 $
,
( . )($ , , )
TRP  $  
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Figure 14.5 Break-Even Chart for Determining
Target-Return Price and Break-Even Volume
= 30,000(units)
$20 - $10
$300,000
=
Price - VC
FC
BEV =
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Perceived Value Pricing
• A customer driven approach where price is
based on the buyers‘ perceived value
• Perceived value is made up of:
− Buyer‘s image of the product performance
− The channel deliverables
− The warranty quality
− Customer support
− Softer attributes like supplier‘s reputation,
trustworthiness and esteem
• Methods to determine perceived value:
− Managerial judgments within the company
− Value of similar products
− Focus groups
− Surveys
− Experimentation
− Analysis of historical data
− Conjoint analysis
• Three types of buyers: price, value and loyal
Perceived Value Pricing
Two faces or a vase?
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Value Pricing
• Charging a fairly low price for a high-quality
offering to win loyal customers
• Be a low-cost producer through reengineering
the firm‘s operations, without sacrificing
quality
• Types of value pricing:
− Everyday low pricing
− High-low pricing
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Dollar Store Pricing
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6Going Rate Pricing
•The firm bases its price largely on competitors‘ prices
•Price may be the same, more, or less than its competitors
•Pros and cons:
−The collective wisdom of the industry
−Less attention to its own costs or demand
−Used when difficult to measure costs, demand- elasticity, and competitive response
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Auction-Type Pricing
EnglishDutchSealed-Bid Ascending bids1-Seller--Buyers
Descending bids
1 Auctioneer-Buyers
Sellers-1 Buyer
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Step 6: Selecting the Final Price
•In selecting the final price, consider the following:
−Impact of other marketing activities
−Company pricing policies
−Gain-and-risk sharing pricing
−Impact of price on other parties
Copyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-33ADAPTING THE PRICE
•Companies don‘t set a single price but rather develop a pricing structure that reflects variations in---
--Geographical demand and costs
--Market-segment requirements
--Purchasing timing
--Order levels
--Delivery frequency
--Guarantees and service contacts
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Price Adaptation or Price Adjustment StrategiesDiscount and allowance pricingSegmented pricingPsychological pricing
Promotional pricingGeographic pricing
Dynamic pricingInternational pricingGeographical Pricing
•Geographicalpricing is used for customers in different parts of the country or the world
•The issues are:
–Higher prices to distant customers?
–Lower prices to win additional traffic?
–How to account for exchange rates and the strength of different currencies?
–How to get paid?
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7Geographical Pricing
•FOB-origin pricing–the seller delivers goods to the carrier of buyer free of costs
•Uniformed-delivered pricing–the seller charges the same price plus freight to all customers, regardless of location
•Zone pricing–the seller sets up 2 or more zones where customers within a given zone pay a single total price
•Basing-point pricing–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
•Freight-absorption pricing–the seller absorbs all or part of the actual freight charge as an incentive to attract business
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Discount and Allowance PricingCash–pricereductionforpayingpromptly(2/10,net30)
Quantity–pricereductionforbuyinginlargevolumeFunctional(trade)–discountisofferedtochannelmembersforperformingselling,storing,distribution,etcSeasonal–pricereductionforbuyinggoodsoutofseason Discounts
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Discount and Allowance Pricing
Allowances Tradeinallowance–forturninginanolditemwhenbuyinganewonePromotionalallowances–rewarddealersforparticipatinginadvertisingorsalessupportprogramsCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-39
Promotional Pricing
•Promotional pricing is when prices are temporarily reduced below list price or cost to increase demand
WarrantiesandServiceContracts:Addfreeorlowcost
warrantyorservicecontractLongerPaymentTerms:Stretchloansoverlongerperiods, loweringinstallmentsLow-interestFinancing:Offercustomerslow-interestfinancing,notcuttingpriceCashRebates:Offercashrebatestosellproductswithinaspecifiedtime
SpecialEventPricing:Setspecialpricesinsomeseasons
todrawinmorebuyers
LossLeaderPricing:Dropthepriceonwell-knownbrandto
booststoretraffic
•Promotional pricing strategy is called a ‘zero- sum game‘ because:
–If it works, competitors copy it and the firm loses its effectiveness and if it doesn‘t work, it wastes money that could have been put into other marketing tools
•Moreover, it has some adverse effects:
–Creates deal-prone consumers who are not willing to buy at a regular price
–Erodes brand‘s value
–Leads to industry price wars
–Not a legitimate substitute for effective strategic planning
Promotional PricingCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-41Segmented or Differentiated Pricing
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Segmented pricingis used when a company sells a product at two or more prices even though the difference is not based on cost

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8Segmented or Differentiated PricingCopyright © 2013 Pearson Education, Inc. Publishing as Prentice Hall14-43
Segmented pricingis used when a company sells a product at two or more prices even though the difference is not based on cost
Segmented or Differentiated Pricing
•Customer-segment pricing
•Product-form pricing
•Image pricing
•Channel pricing
•Location pricing
•Time pricing
•Yield pricing
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•To be effective:
–Market must be segmentable
–Segments must show different degrees of demand
–Watching the market cannot exceed the extra revenue obtained from the price difference
–Must be legalOther Pricing Methods
•Psychological pricing occurs when sellers consider the psychology of prices and not simply the economics e.g. $295
•Dynamic pricing is when prices are adjusted continually to meet the characteristics and needs of the individual customer and situations
•Reference prices are prices that buyers carry in their minds and refer to when looking at a given product
–Noting current prices
–Remembering past prices
–Assessing the buying situations
•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
Other Pricing Methods
Price Changes
Initiating Pricing ChangesPrice cuts occur due to:
•Excess capacity
•Increased market share
•Drive to dominate market through lower cost
•Recession
Price increase from:
•Cost inflation
•Increased demand
•Lack of supplyPrice ChangesPrice increases
•Product is ―hot‖
•Company greedPrice cuts
•New models will be available
•Models are not selling well
•Quality issues
•Price cut is imminent
•Financial trouble
Buyer Reactions to Pricing Changes

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9Traps in Price Cutting Strategies
•Low-quality trap–buyers assume low-quality
•Fragile-market-share trap–company buy market share not market loyalty
•Shallow-pockets trap–competitors match lower price and stay longer
•Price-war trap–competitors respond by lowering prices
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Price ChangesMethods for Increasing Prices
•Delayed quotation pricing
•Escalator clauses
•Unbundling
•Reduction of discounts
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•Shrinking the amount of product instead of raising the price.
•Substituting less expensive materials
•Reducing or removing product features
•Removing or reducing product services
•Using less expensive packaging material
•Reducing the no. of sizes and models offered
•Creating new economy brands
Alternative Approaches to Price Increase
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Price ChangesPrice Changes
Questions
•Why did the competitor change the price?
•Is the price cut permanent or temporary?
•What is the effect on market share and profits?
•Will competitors respond?
Responding to Price ChangesPrice Changes
Solutions
•Reduce price to match competition
•Maintain price but raise the perceived value through communications
•Improve quality and increase price
•Launch a lower-price ―fighting‖ brand
Responding to Price ChangesPrice Changes
Responding to Price Changes