CHAPTER 8

PRICING STRATEGY

PRICING STRATEGY

• Price Theory and Practice

• Incremental Pricing

• Bases for Price Decisions

• Price Discounts

• Special Pricing Issues

PRICE THEORY AND PRACTICE

• Price Theory (Economics) - Dominance of pricing

• Pricing in Practice (Business) - Influence of non-price factors

P

Q

D

D D

D1

1

Shifting the demand curve to the right(non-price)

USEFUL CONCEPTS FOR PRICING STRATEGY

• Price Elasticity– Elastic demand– Inelastic demand

• Cost Concepts– Fixed cost– Variable cost

INCREMENTAL PRICING

Using contribution to profit as the criteria for measuring profitability rather than net profit.

Contribution to Profit = Total Revenue – Variable Cost

Net Profit = Total Revenue – Total Cost

CONDITIONS FAVORABLE FOR INCREMENTAL PRICING

• Heavy Fixed Cost

• Excess Production Capacity

• Price-Sensitive Niche

• Isolate from Core Market

INCREMENTAL PRICING EXAMPLES

• Wall Street Journal

• Hotels

• Matinee movies

• Happy hour

WALL STREET JOURNAL(Yearly Rate)

Business Rate $150

Student Rate $50

Library Rate $300

INCREMENTAL PRICING OF SERVICES BY TIME

Hours in the Day Matinee movies

Days of the Week Weekend hotels

Seasons of the Year Income tax preparation

BASES FOR PRICE DECISIONS

• Based on Demand of Buyer

• Based on Cost of Seller

• Based on Competitor Prices

DEMAND-BASED PRICING

• New product pricing

• Perceived Value

• Yield Management

NEW PRODUCT PRICING

• New Product Skimming

• New Product Penetration

NEW PRODUCT SKIMMING

• Set high initial price

• Recover R&D quickly

• Drop prices over time

PRODUCT SKIMMING EXAMPLES

• Intel chips

• Flat panel TVs

• Smart Phones

NEW PRODUCT PENETRATION

• Set low initial price

• Gain market share

• Discourage competition

PRODUCT PENETRATION EXAMPLES

• Southwest airlines

• Two-Buck Chuck wine

• Samsung

PERCEIVED VALUE PRICING

• Rolex Watches

• 3M Post-It-Notes

• Business Lunches

YIELD MANAGEMENT PRICING

• Airlines

• Hotels

• Utility Pricing

COST-BASED PRICING

• Cost Plus

• Billable Hours

• Add-on Charges

• Markups

COST-BASED EXAMPLES

• Lawyer sets billable cost at $400 per hour

• Boeing has a cost-plus contract with NASA

• Star Furniture marks up their furniture 50% above cost

ADD-ON PRICE EXAMPLES

• Airlines

• Credit cards

• Telephone services

SPIRIT BAGGAGE FEESBook Over Phone $10

Roller Bag $30

Water $3

Boarding Passes $10Printed at Airport

Booking Over Internet $17

COMPETITION – BASED PRICING

•Competitive Price Wars

•Lower Cost

•Administered Pricing

COMPETITION-BASED EXAMPLES

• HEB Price War

• Two Buck Chuck Wine

• Price of Basic Steel

TWO BUCK CHUCK WINE

• Sold only in Trader Joe’s gourmet stores

• Overproduction of California grapes

• Produce own grapes at very low cost

PARKER HANNIFIN PRICING STRATEGY

“A” Products High-volume commodities

“B” Products More specialized niches

“C” Products Limited Competition

“D” Products No direct competitor

PRICE DISCOUNTS

• Cash Discounts – 5% off at Spec’s if you pay by cash

• Seasonal Discounts – Cheaper prices on December 26

• Trade Discounts – Cheaper prices to Wholesalers

• Promotional Discounts – Weekend specials at Supermarkets

SPECIAL PRICING ISSUES

• Pricing Choices

• Other Pricing Options

• Psychological Pricing

• Questionable Pricing

• Price Stability/Competition

PRICING CHOICES

• Fixed Pricing – Price is fixed by the seller at any one period of time

• Negotiated Pricing – Price is negotiated between a buyer and a seller for each transaction

FIXED PRICING

• Paying the monthly telephone bill

• Buying canned goods at the supermarket

• Parking at the Reliant Stadium

NEGOTIATED PRICING

• Buying an automobile

• Selling a house

• Garage sale

• Showrooming

OTHER PRICING OPTIONS

• Freemium Pricing

• Reference Pricing

• A La Carte Cable Pricing

PSYCHOLOGICAL PRICING

• $199.95

• $.99

• Buy one, get one free

QUESTIONABLE PRICING

• Bait and Switch

• Price Gouging

• Price Fixing

• Pricing of E-Books

PRICE MODELS FOR E-BOOKS

•Wholesale model

•Agency model

WHOLESALE PRICING MODEL FOR SELLING E-BOOKS

•Book publisher sets list price at $25

•Seller buys at $12.50 and sells for $25

•Amazon.com buys at $12.50 and sells for $9.99

AGENCY PRICING MODEL FOR SELLING E-BOOKS

•Book publisher sets list price at $25

•Apple receives 30% of list price $7.50 sold through iPads

•All sellers are required to sell book at $25 (including Amazon.com)

WHO WANTS PRICE COMPETITION?

• Discount retailers

• Foreign competitors

• Firms with low costs

• Internet Sellers

WHO WANTS PRICE STABILITY?

• Oligopolies

• Small businesses

• Professional services

• Traditional brokers and agents