Pricing

What are the issues ?

Price cannot be considered in isolation of value

Value Price

Product

Facility

Service

Expertise

Reputation

Money

Time

Inconvenience

Risk Taking

Price cannot be determined in isolation by the seller Price is the “meeting point” between the buyer and the seller Customer wants Value > Price. Company wants Price > Cost.

# of Customers

Average Size

Of a Customer

High

Low

High Low

B2B

B2C

Individually Negotiated Price

Standard Price List

Standard Price

But negotiated discounts

Different Price Lists

For different classes of customers

We refer to strategic pricing ; not tactical pricing. It really depends on “Value Spread” and not cost.

Value

Price

Cost

Customer Surplus

Seller’s Surplus

Value

Created

/ Added

Subjective

Decision

Objective

3 Main determinants of pricing are 1. Value the customer places on the product 2. Cost incurred by the marketing company 3. Asymmetrical influencing relationship ( who needs the other more ?)

Apart from being an “Exchange Value” Price is a signal

Other things being equal ; Price signals quality

Other things being equal; Price signals who is it meant for

Organization structural effect on pricing

Time effect : senior people can have longer planning horizons

Portfolio effect : senior people, large portfolios, impact is spread

Pricing is driven by how the company

wants to respond to expectations of its stakeholders

COMPANY Sales, Margins, Utilization, Geographic Penetration

CUSTOMERS Positioning in the mind of the customer

Customer loyalty and purchase behavior

COMPETITORS Market share

COLLABORATORS ROI of collaborators

CONTEXT Compliance with statutes

Achieve a sale of 60000 cars in “C” segment cars in one year

Example : Increase sales by 25% in a market growing by 15%. Increase plant utilization of X factory by 20%. Put pressure on competitor X to revise his plans.

Strengthen our dealer network in North.

Pricing in Practice

Setting Price for the first time

Changing the price because … The sale is declining

The market share is declining

When the price is higher (lower) than competitors.

When middlemen seem disinterested

Imbalance in product line prices.

If existing price created distortion in the positioning

Changes in the environment that affect rules, values, costs

You need to know your costs well for pricing

The ratio of fixed costs to variable costs

The economies of scale / learning curve

The cost structure of a firm vis-à-vis competitors.

Out-of-pocket costs

Incremental costs

Opportunity costs

Replacement costs.

You need to know your competition well

Published competitive price lists and advertising

Competitive reaction to price moves in the past

Timing of competitors’ price changes and initiating factors

Information on competitors’ special campaigns

Competitive product line comparison

Assumptions about competitors’ pricing/marketing objectives

Competitors’ reported financial performance

Estimates of competitors’ costs—fixed and variable

Expected pricing retaliation

Analysis of competitors’ capacity to retaliate

Financial viability of engaging in price war

Strategic posture of competitors

Overall competitive aggressiveness

How will demand be affected

Ability of customers to buy.

Willingness of customers to buy.

Place of the product in the customer’s lifestyle

Benefits that the product provides to customers.

Prices of substitute products.

Is demand unfulfilled or is the market saturated?

Strategies

New Products: Skimming Strategy

Definition: Setting a relatively high price during the initial stage

of a product’s life.

Objectives To serve customers who are not price conscious while the market is at the

upper end of the demand curve and competition has not yet entered the

market.

To recover a significant portion of promotional and research and

development costs through a high margin.

Requirements: : Heavy promotional expenditure to introduce product, educate consumers,

and induce early buying.

Relatively inelastic demand at the upper end of the demand curve.

Lack of direct competition and substitutes.

Expected Results: Market segmented by price-conscious and not so price conscious

customers.

High margin on sales that will cover promotion and research and

development costs.

Opportunity for the firm to lower its price and sell to the mass market

before competition enters.

New Products: Penetration Strategy

Definition: Setting a relatively low price during the initial stages

of a product’s life.

Objectives To discourage competition from entering the market by quickly taking a

large market share and by gaining a cost advantage through realizing

economies of scale

Requirements: Product must appeal to a market large enough to support the cost

advantage.

Demand must be highly elastic in order for the firm to guard its cost

advantage

Expected Results: High sales volume and large market share.

Low margin on sales.

Lower unit costs relative to competition due to economies of scale.

Established Products: Maintain the Price

Definition: To maintain position in the marketplace (i.e., market

share, profitability, etc)

Objectives: Maintain Status Quo

Requirements: Firm’s served market is not significantly affected by changes in the

environment.

Uncertainty exists concerning the need for or result of a price change.

Firm’s public image could be enhanced by responding to government

requests or public opinion to maintain price.

Expected Results: Status quo for the firm’s market position.

Enhancement of the firm’s public image.

Established Products: Reduce the Price

Objectives: To act defensively and cut price to meet the competition.

To act offensively and attempt to beat the competition.

To respond to a customer need created by a change in the environment.

Requirements: Firm must be financially and competitively strong to fight in a price war if

that becomes necessary.

Must have a good understanding of the demand function of its product.

Expected Results: Lower profit margins (assuming costs are held constant).

Higher market share might be expected, but this will depend upon the

price change relative to competitive prices and upon price elasticity.

Established Products: Increasing the Price

Objectives: To maintain profitability during an inflationary period.

To take advantage of product differences, real or perceived.

To segment the current served market.

Requirements: Relatively low price elasticity but relatively high elasticity with respect to

some other factor such as quality or distribution.

Reinforcement from other ingredients of the marketing mix; for example, if

a firm decides to increase price and differentiate its product by quality, then

promotion and distribution must address product quality.

Expected Results: Higher sales margin.

Segmented market (price conscious, quality conscious, etc.).

Possibly higher unit sales, if differentiation is effective

Price Flexibility Strategy: One Price

Definition: Charging the same price to all customers under

similar conditions and for the same quantities.

Objectives: To simplify pricing decisions.

To maintain goodwill among customers.

Requirements: Detailed analysis of the firm’s position and cost structure as compared with

the rest of the industry.

Information concerning the cost variability of offering the same price to

everyone.

Knowledge of the economies of scale available to the firm.

Information on competitive prices; information on the price that customers

are ready to pay.

Expected Results: Decreased administrative and selling costs.

Constant profit margins.

Favorable and fair image among customers.

Stable market.

Price Flexibility Strategy: Flexible Pricing

Definition: Charging different prices to different customers for

the same product and quantity.

Objective: To maximize short-term profits and build traffic by allowing upward and

downward adjustments in price depending on competitive conditions and

how much the customer is willing to pay for the product.

Requirements: Usually implemented in one of four ways: by market / by product,

by timing / by technology.

Other requirements include

A customer-value analysis of the product, An emphasis on profit margin rather than just volume. A record of competitive reactions to price moves in the past.

Expected Results: Increased sales, leading to greater market share.

Increased short-term profits.

Increased selling and administrative costs.

Legal difficulties stemming from price discrimination.

Product Line Pricing Strategy

Definition: Pricing a product line according to each product’s

effect on and relationship with other products in that line,

whether competitive or complementary.

Objective: To maximize profits from the whole line, not just

certain members of it.

Requirements: Have the information needed to implement the

strategy. Usually this strategy is implemented in one of four

ways: For a product already in the line, strategy is developed according to the

product’s contributions to its pro rata share of overhead and direct costs.

For a new product, a product/market analysis determines whether the

product will be profitable. Pricing is then a function of costs, profit goals,

experience, and external competition. to price moves in the past.

Leasing Strategy

Definition: An agreement by which an owner (lessor) of an

asset rents that asset to a second party (lessee). The lessee

pays a specified sum of money, which includes principal and

interest, each month as a rental payment.

Objective: To enhance market growth by attracting customers who cannot buy

outright.

To realize greater long-term profits; once the production costs are fully

amortized, the rental fee is mainly profit.

To increase cash flow.

To have a stable flow of earnings.

To have protection against losing revenue because of technological

obsolescence

Expected Results: Well-balanced and consistent pricing schedule across the product line.

Greater profits in the long term.

Better performance of the line as a whole.

Leasing Strategy

Requirements: Necessary financial resources to continue production of subsequent

products for future sales or leases.

Adequate computation of lease rate and minimum period for which lease is

binding such that the total amount the lessee pays for the duration of the

lease is less than would be paid in monthly installments on an outright

purchase.

Customers who are restrained by large capital requirements necessary for

outright purchase or need write-offs for income tax purposes.

The capability to match competitors’ product improvements that may make

the lessor’s product obsolete.

Expected Results: Increased market share because customers include those who would have

forgone purchase of product.

Consistent earnings over a period of years.

Greater cash flow due to lower income tax expense from depreciation write-

offs.

Increased sales as customers exercise their purchase options.

Bundling-Pricing Strategy -1

Definition: Inclusion of an extra margin in the price to cover a

variety of support functions and services needed to sell and

maintain the product throughout its useful life.

Objective: In a leasing arrangement, to have assurance that the asset will be properly

maintained and kept in good working condition so that it can be resold or

re-leased.

To generate extra revenues to cover the anticipated expenses of providing

services and maintaining the product.

To generate revenues for supporting after-sales service personnel.

To establish a contingency fund for unanticipated happenings.

To develop an ongoing relationship with the customer.

To discourage competition with “free” after-sales support and service.

Bundling-Pricing Strategy - 2

Requirements: Well-balanced and consistent pricing schedule

across the product line. This strategy is ideally suited for

technologically sophisticated products that are susceptible to

rapid technological obsolescence because these products are

generally sold in systems and usually require the following: Extra technical sales assistance.

Custom design and engineering concept for the customer,

Peripheral equipment and applications,

Training of the customer’s personnel, and

Strong service/maintenance department offering prompt responses and

solutions to customer problems.

Expected Results: Asset is kept in an acceptable condition for resale or release.

Positive cash flow.

Instant information on changing customer needs.

Increased sales due to “total package” concept of selling because

customers feel they are getting their money’s worth.

Price Leadership Strategy

Definition: This strategy is used by the leading firm in an

industry in making major pricing moves, which are followed by

other firms in the industry.

Objectives: To gain control of pricing decisions within an

industry in order to support the leading firm’s own marketing

strategy (i.e., create barriers to entry, increase profit margin,

etc.).

Requirements: An oligopolistic situation.

An industry in which all firms are affected by the same price variables (i.e.,

cost, competition, demand).

An industry in which all firms have common pricing objectives. (d) Perfect

knowledge of industry conditions; an error in pricing means losing control.

Expected Results: Prevention of price wars, which are liable to hurt all parties involved.

Stable pricing moves.

Stable market share.

Pricing Strategy to Build a Market

Definition: Setting the lowest price possible for a new product

Objectives: To seek such a cost advantage that it cannot ever

be profitably overcome by any competitor.

Requirements: Enough resources to withstand initial operating losses that will be

recovered later through economies of scale.

Price-sensitive market.

Large market.

High elasticity of demand.

Expected Results: Start-up losses to build market share.

Creation of a barrier to entry to the industry.

Ultimately, cost leadership within the industry.

Expected Results: Prevention of price wars, which are liable to hurt all parties involved.

Stable pricing moves.

Stable market share.