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Pricing: Approaches and Strategies Session 5 Chapter 10 & 11
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Pricing: Approaches and Strategies
Session 5Chapter 10 & 11
Objectiveso Understand the internal & external factors affecting a
firm’s pricing decisions.
o Be able to contrast the three general approaches to setting prices.
o Learn the major strategies for pricing imitative and new products.
o Understand how companies find a set of prices that maximizes the profits from the total product mix.
o Learn how companies adjust their prices to take into account different types of customers and situations.
o Know the key issues related to initiating and responding to price changes.
Priceo The amount of money charged for a product, or
the sum of the values that consumers exchange for the benefits of having/using the product or service.
o Price and the Marketing Mix• Only element to produce revenues• Most flexible element• Can be changed quickly
o Price as a tool of Competition
o Common Pricing Mistakes
Factors to Consider in Setting Price
o Marketing objectiveso Marketing mix strategieso Costso Organizational
considerations
o Market positioning influences pricing strategy
o Other pricing objectives:• Survival
• Current profit maximization
• Market share leadership
• Product quality leadership
o Not-for-profit objectives:• Partial or full cost recovery
• Social pricing
Internal Internal Factors Factors
o Marketing objectiveso Marketing mix strategieso Costso Organizational
considerations
o Pricing must be carefully coordinated with the other marketing mix elements
o Target costing is often used to support product positioning strategies based on price
o Non-price positioning can also be used
Internal Internal Factors Factors
Factors to Consider in Setting Price (contd.)
o Marketing objectiveso Marketing mix strategieso Costso Organizational
considerations
o Types of costs:• Variable• Fixed• Total costs
o How costs vary at different production levels will influence price setting
o Experience (learning) curve effects on price
Internal Internal Factors Factors
Factors to Consider in Setting Price (contd.)
Strategic Impact & Cost Analysis: Pareto Law EffectCitiBank NA Example
o 80% of Cost Structure on staff and even Marketing Expenses is caused by 20% of Accounts for their Low Deposits and high Transaction Volume.
o There are only few things that are really important.
o If you successfully improve 20% of the most important problems, you will gain the same effect as you would by improving the rest 80%. This represents a big advantage with respect to cost versus effect.
80%20%
20%80% No. of Customers
80%
20%No. of Services
Service Revenue
Customer Accounts for purification
Serv
ice
Ran
ge
for R
atio
naliz
atio
n
Customer/ Service for Elimination
20%
80%
Figure: Customer/Service Revenue Matrix
80%20%
20%80% No. of Customers
80%
20%No. of Services
Service Revenue
Customer Accounts for purification
Serv
ice
Ran
ge
for R
atio
naliz
atio
n
Customer/ Service for Elimination
20%
80%
Figure: Customer/Service Revenue Matrix
For an Effective Cost-Structure:o 20% of the Customers and 20% of the Services contribute 80% of Revenue.
o Rationalize 80% services & Purify 80% Accounts as they contribute only 20% of revenue.
o Eliminate Services & Accounts in the Bottom-Right-Cell as they are certainly running at a loss.
o Marketing objectiveso Marketing mix strategieso Costso Organizational
considerations
o Who sets the price?• In Small companies:
CEO or top management
• In Large companies: Divisional or product line managers
o Price negotiation is common in industrial settings
o Some industries have pricing departments
Internal Internal Factors Factors
Factors to Consider in Setting Price (contd.)
o Nature of market and demand
o Competitors’ costs, prices, and offers
o Other environmental elements
o Types of markets• Pure competition• Monopolistic competition• Oligopolistic competition• Pure monopoly
o Consumer perceptions of price and value
o Price-demand relationship• Demand curve• Price elasticity of demand
External External Factors Factors
Factors to Consider in Setting Price (contd.)
o Nature of market and demand
o Competitors’ costs, prices, and offers
o Other environmental elements
o Consider competitors’ costs, prices, and possible reactions when developing a pricing strategy
o Pricing strategy influences the nature of competition• Low-price low-margin strategies
inhibit competition
• High-price high-margin strategies attract competition
o Benchmarking costs against the competition is recommended
External External Factors Factors
Factors to Consider in Setting Price (contd.)
o Nature of market and demand
o Competitors’ costs, prices, and offers
o Other environmental elements
o Economic conditions• Affect production costs • Affect buyer perceptions of
price and value
o Reseller reactions to prices must be considered
o Government may restrict or limit pricing options
o Social considerations may be taken into account
External External Factors Factors
Factors to Consider in Setting Price (contd.)
1. Cost-Based Pricing: a) Cost-Plus Pricing• Adding a standard markup to cost• Ignores demand and competition• Popular pricing technique because:
• It simplifies the pricing process• Price competition may be minimized• It is perceived as more fair to both buyers and sellers
Example
Variable costs: Tk. 20 Fixed costs: Tk. 500,000Expected sales: 100,000 units Desired Sales Markup: 20%
Variable Cost + Fixed Costs/Unit Sales = Unit CostTk. 20 + Tk. 500,000/100,000 = Tk. 25 per unit
Unit Cost/(1 – Desired Return on Sales) = Markup PriceTk. 25 / (1 - .20) = Tk. 31.25
General Pricing Approaches
b) Break-Even Analysis & Target Profit Pricingo Break-even charts show total cost and total revenues at different
levels of unit volume.
o The intersection of the total revenue and total cost curves is the break-even point.
o Companies wishing to make a profit must exceed the break-even unit volume.
General Pricing Approaches (contd.)
Fixed Costs
Total Costs
Revenues
Sales Volume in Thousands of Units
Tho
usa
nds
Tak
a
0 10 20 30 40
1000
800
600
400
200
Break-even point
Target Profit Tk. 200,000
Quantity To Be Sold To Meet Target Profit
Fixed Costs
Total Costs
Revenues
Sales Volume in Thousands of Units
Tho
usa
nds
Tak
a
0 10 20 30 40
1000
800
600
400
200
Break-even point
Target Profit Tk. 200,000
Quantity To Be Sold To Meet Target Profit
2. Value-Based Pricingo Uses buyers’ perceptions
of value rather than seller’s costs to set price.
o Measuring perceived value can be difficult.
o Consumer attitudes toward price and quality have shifted during the last decade.• Introduction of less
expensive versions of established brands has become common.
General Pricing Approaches (contd.)
o Business-to-business firms seek to retain pricing power• Value-added strategies
can help
o Value pricing at the retail level• Everyday low pricing
(EDLP) vs. high-low pricing
3. Competition-Based Pricing• Also called going-rate pricing• May price at the same level, above, or below the
competition• Bidding for jobs is another variation of competition-
based pricing• Sealed bid pricing
General Pricing Approaches (contd.)
o Market-Skimming Pricing• Setting a high price for a new product to skim maximum revenues
layer by layer from segments willing to pay the high price.
o Market-Penetration Pricing• Setting a low price for a new product in order to attract a large
number of buyers and a large market share.
o Market Rate Pricing • Ceding the initiative to the key competitors to set the price.• Dangerous for leaving the strategic initiative to competitors• Potential threat of ‘Sudden Price Shift’ by newer, or ‘Changes in
delivery system capability’.
o Relationship Pricing• Different price for Different class of customers depending on
relationship and the potentiality of cross-selling or future business.
Other Pricing Approaches
o Product Line Pricing• Setting price steps between
product line items.•Line of products rather single one• Price points
o Optional-Product Pricing• Pricing optional or accessory
products sold with the main product
o By-Product Pricing• Pricing low-value by-products to
get rid of them
Product Mix Pricing Strategies
o Captive-Product Pricing• Pricing products that must
be used with the main product
• High margins are often set for supplies
• Services: two-part pricing strategy
• Fixed fee plus a variable usage rate
o Product Bundle Pricing• Pricing bundles of products
sold together
Price Adjustment Strategies
o Discount / allowance o Segmentedo Psychologicalo Promotional
o Types of discounts• Cash discount• Quantity discount• Functional (trade) discount• Seasonal discount
o Allowances• Trade-in allowances• Promotional allowances
StrategiesStrategies
Price Adjustment Strategies (contd.)
o Discount / allowance o Segmentedo Psychologicalo Promotional
o Types of segmented pricing strategies:• Customer-segment• Product-form pricing• Location pricing• Time pricing
o Also called revenue or yield management
o Certain conditions must exist for segmented pricing to be effective
StrategiesStrategies
Conditions Necessary for Segmented Pricing Effectiveness
o Market is segmentable
o Lower priced segments are not able to resell
o Competitors can not undersell segments charging higher prices
o Pricing must be legal
o Costs of segmentation can not exceed revenues earned
o Segmented pricing must reflect real differences in customers’ perceived value
o Discount / allowance o Segmentedo Psychologicalo Promotional
o The price is used to say something about the product.
• Price-quality relationship
• Reference prices
• Differences as small as five cents can be important
• Numeric digits may have symbolic and visual qualities that psychologically influence the buyer
• Odd• rounding
StrategiesStrategies
Price Adjustment Strategies (contd.)
o Discount / allowance o Segmentedo Psychologicalo Promotional
o Temporarily pricing products below the list price or even below cost
o Loss leaders• Special-event pricing• Cash rebates• Low-interest financing, longer
warranties, free maintenance
o Promotional pricing can have adverse effects
StrategiesStrategies
Price Adjustment Strategies (contd.)
Promotional Pricing Problems
o Easily copied by competitors
o Creates deal-prone consumers
o May erode brand’s value
o Not a legitimate substitute for effective strategic planning
o Frequent use leads to industry price wars which benefit few firms
o Customer Discrimination • for students only
o Product-form Discrimination • Telecom products
o Place Discrimination • service at ATM versus at counters
o Time Discrimination • peak -hours/ off-peak-hours
Price Discrimination
o Initiating Price Cuts is Desirable When a Firm• Has excess capacity• Faces falling market share due to price competition• Desires to be a market share leader
o Price Increases are Desirable• If a firm can increase profit, faces cost inflation, or faces
greater demand than can be supplied.
o Methods of Increasing Price
o Alternatives to Increasing Price• Reducing product size, using less expensive materials,
unbundling the product.
Price Changes
o Buyer reactions to price changes must be considered.
o Competitors are more likely to react to price changes under certain conditions.• Number of firms is small• Product is uniform• Buyers are well informed
o Respond to Price Changes only if: • Market share / profits will be negatively affected if nothing is
changed.• Effective action can be taken:
• Reducing price• Raising perceived quality• Improving quality and increasing price• Launching low-price “fighting brand”
Price Changes (contd.)
o Pricing within Channel Levels• Price-fixing
• Competitors can not work with each other to set prices
• Predatory pricing• Firms may not sell below cost with the intention of punishing a
competitor or gaining higher long-run profits or running a competitor out of business.
o Pricing across Channel Levels• Price discrimination• Retail price maintenance• Deceptive pricing
• Bogus reference / comparison pricing• Scanner fraud• Price confusion
Public Policy and Pricing
