Chapter 12:

Pricing Strategy for

Business Markets

PowerPoint by:
Ray A. DeCormier, Ph.D.
Central Ct. State U.

Chapter Topics
Understanding how customers value pricing is the
essence of the pricing process. Chapter topics include:
1.The central elements of the pricing process a value-

based strategy
2.How effective new product prices are established and

the need to periodically adjust the prices of existing

products
3.How to respond to a price attack by an aggressive

competitor
4.Strategic approaches to competitive bidding

CUSTOMER
VALUE

In B2B marketing, customer value is a

cornerstone

The unifying goal of marketers is to be better

than your very best competitor in providing
value

You get what you pay for is what many provide

A better approach: You get more than what you

pay for by offering lower cost and higher quality

How do customers view value?

Everything costs something (sacrifice)

Everything of value adds something (benefits)

Whats the difference?

Benefits Sacrifice = Value

DIFFERENTIATING THROUGH VALUECREATION

If relationships are more valuable to customers

than price and costs, then marketers need to
emphasize unique add-on benefits around:
1.
2.
3.
4.
5.

Building trust
Demonstrating commitment
Being flexible
Initiating joint ventures
Working on developing deeper relationships

These efforts enhance customer value & loyalty.

Research suggests that most companies offer

similar services, however, the following seem to be
more prominent.
1.

Service support
2. Personal interactions
3. Supplier know-how
4. Ability to improve customers time to market

Moderate differentiating factors include:

1. Product quality
2. Delivery
3. Acquisition and operation costs

Setting the Price

This is one of the most difficult issues that

face companies: What is the right price to
charge?

There is no easy solution or formula for proper

pricing.

Pertinent considerations include:

Pricing & profit objectives
2. Demand determinants
3. Cost determinants
4. Competition
1.

Key Components of the

Fig. 12.1
Price-Setting Decision Process

No easy formula for

pricing industrial
product or service

Decision is
multidimensional

Each interactive
variable assumes
significance

Set Strategic Pricing Objectives

Estimate Demand and the
Price Elasticity of Demand

Determine Costs and

their Relationship to Volume
Examine Competitors Prices and Strategies
Set the Price Level

Price Objectives
Pricing decision must be based on

marketing and overall corporate objectives.

Marketer starts with principal objectives

and adds collateral pricing goals:

Achieving target return on investment.

Achieving market-share goal.
Meeting competition.

Other objectives include competition,

channel relationships and product-line

considerations.

There are a number of issues when considering demand:

Usage and importance of the product/service by various
segments
Price Sensitivity (elasticity of demand)

1.
2.

3.

Assessing Value: Competitive Value comparisons

Assume same product by 2 different competitors
Assume: (A charges $24 ; B charges $20);

Why might a buyer prefer A over B?

Could it be that buyer prefers A more than B because
As total offering provides more value than B?

ASSESSING VALUE

Economic Value: Represents cost saving

and/or revenue gains when purchasing a
product (instead of next best alternative)
Commodity Value: Value customers assign
to features that resembles competitive
offerings
Differentiation Value: Represents the value
of features that are unique and different
from competitors

Fig 12.3

A Value-Based Approach for Pricing

Define the key market segments
Isolate the most significant drivers of value
in customers business
Quantify the impact of your product or service
on each value driver in customers business
Estimate the incremental value created by your product
or service, particularly for those features that are
unique and different from competitors offerings
Develop pricing strategy and marketing plan

SOURCE: Adapted from Gerald E. Smith and Thomas T. Nagle, How Much Are Customers Willing to Pay,
Marketing Research 14 (winter 2002): pp. 20-25.

I.

Goal is to identify significant drivers of

value

a.

Cost Drivers: Create value by economic savings

1.

Example: Machine can process more widgets/hr. with

less electricity and labor costs

Revenue Drivers: Add incremental value by

facilitating revenue or margin requirements

b.
1.

Example: Packaging is more attractive thus

increasing sales

Quantify impact of firms product/service on

customers business model

II.
a.

III.
a.
b.
c.

Does it make or save money? How much?

Compare firms product/service to next best

alternative (competitors product/service)
Isolate unique features that differ from
competitor
Do those features provide value that customer
cannot get elsewhere?
How much value does it create?

IV.

Understand how customer uses the product

and how much value will s/he realize

V.

Set the price & develop a responsive

marketing strategy

BENEFIT: Business marketer can gain a

competitive advantage by employing a
value based approach and by developing
tools to document and communicate their
unique value to customers.

Price elasticity measures how sensitive

customers are to price changes.

Price elasticity of demand refers to rate

of percentage change in quantity demanded
to percentage change in price.

Elasticity of Demand
Elastic
Elastic
Demand
Demand

Consumers buy more or less

of a product when the
price changes

Inelastic
Inelastic
Demand
Demand

An increase or decrease in
price will not significantly
affect demand

An increase in sales exactly

offsets a decrease in prices,
and revenue is unchanged

Unitary
Unitary
Elasticity
Elasticity

Elasticity of Demand
Elastic Demand Curve
D

Inelastic Demand Curve

Price

Price

D
Quantity

Quantity

Elasticity of Demand
Price
Price Goes...
Goes...

Revenue
Revenue Goes...
Goes...

Demand is...

Down

Up

Elastic

Down

Down

Inelastic

Up

Up

Inelastic

Up

Down

Elastic

Up or Down

Stays the Same

Unitary Elasticity

Satisfied customers are less price sensitive

therefore one strategy is to make our
customers very satisfied so price isnt as
much of a determinant.

Switching costs is a consideration depending

upon products. The more sophisticated and
unique the product is, and the more vested
interest (costs) in it is, the more apt for the
customer to not switch.

End Use: How important is the product as in

input into the total cost of the end product?
If

cost is insignificant, then demand is inelastic.

End-Market Focus: Since demand for many

industrial products is derived from the
demand for the product of which they are a
part, STRONG end user focus is needed.

Derived Demand
By understanding trends such as up or

down markets, up or down sectors, and

knowing that not all segments go up or
down at one time, if one is able to plan
for a two-tiered market focus, which
takes advantage of the market
variability
This strategy increases the chances for

success.

Value-Based
Segmentation
Some

industrial product may serve

different purposes for different markets.

Each

segment may value the product

differently.

By

identifying applications where the

firm has a clear advantage, and by
understanding the value of it to each
segment, marketer may be able to
administer price differentiation in each
segment.

TARGET PRICING & COSTING

Many companies base price off of costs

Problem: Method is internally driven, not market
driven

better approach is to use Target Pricing

It starts by examining and segmenting the market

2. Determine what type, quality and attributes each
segment wants at a pre-determined target price
3. Understand the perception of value to the target selling
price
4. Then calculate costs considering margins
1.

Cost Concept Analysis

Direct Traceable or Attributable Costs: All costs,

fixed or variable, that are solely incurred for a

particular product, territory, or customer (e.g., raw
materials)
Indirect Traceable Costs: All costs, fixed or

variable, that can be traced to a particular product,

customer or territory (e.g., general plant overhead)
General Costs: Costs that support a number of

activities not directly related to a particular

product (e.g., administrative overhead, R&D)

Target pricing forces marketers to

understand what buyers want and are
willing to pay.

Target costing forces companies to

understand their cost structure by
direct/indirect costs, fixed/variable
costs, and their contribution margins.

Combining target pricing and target

costing says that instead of using costcontrol techniques, a better approach is
to compute the total costs that must
not be exceeded, allowing for
acceptable margins.

Understanding Costs Helps

to Understand Pricing

When adding or deleting a line, successful marketers

know exactly what price points can weaken or break
the competition.

What proportion of cost is raw material or component

parts?
At different levels of product, how does cost vary?
At what production levels can economies of scale be
expected?
Does our firm enjoy cost advantages over competition?
How does the experience effect impact our cost
projections?

Competition establishes an upper limit on price.

Price is only a component of the cost/benefit

equation.

There are many ways to have a differential advantage

other than price: advanced features, technical
expertise, timely delivery and product reliability (zero
defects) to name a few.

Service and support also have a differentiating affect.

HYPER-COMPETITIVE SITUATIONS

In some industries rivals are fairly stable and the

competitive strategy is dont rock the boat.
Other industries, especially high-tech or high profit
industries, the competitive environment is wrought
with short-term and temporary advantages. These
are hypercompetitive environments with strong
rivalries.
The strategy to succeed is to create a temporary
advantage and destroy rival advantages by
constantly disrupting market equilibrium with new
products, lower prices, and strategic relationships.

In analyzing competitors responses to any

strategic move, a good idea is to consider
direct competitors and substitute their
actions from a cost perspective.

For example, one idea is to view competition

as Followers vs. Pioneers. More often,
pioneers face higher entry costs than
followers for various reasons.

By failing to recognize potential cost

advantages of late entrants, the business
marketer can dramatically overstate costs
differences between earlier and later
entrants.
What might be the result of this mistake?

Followers vs.
Pioneers

Pricing Strategies

3 Major Pricing Strategies

1. Follow
2. Price

the Crowd

Skimming

3. Penetration

Pricing

Price Skimming
Price Skimming is charging a high initial price
Price Skimming:
Appropriate for distinctly new products
Provides the firm with opportunity to profitably reach

market segments not sensitive to high initial price

Enables marketer to capture early profits
Enables innovator to recover high R&D costs more
quickly
Strategy: As the product goes through its product

life cycle, the strategy is to lower the price in line with

production and demand capacity.

Penetration Pricing is charging a very low initial

price.
Penetration Pricing is appropriate when there is:
High price elasticity of demand
Strong threat of imminent competition
Opportunity for substantial production cost
reduction as volume expands

Price Discrimination
The Robinson-Patman Act of 1936:
holds that it is unlawful to discriminate
in price between different purchasers of
commodities of like grade and quality
where the effect of such discrimination may
be substantially to lessen competition or
tend to create a monopoly, or to injure,
destroy or prevent competition..

EVALUATING A COMPETITIVE
THREAT

When a PRICE WAR occurs, what should you do?

Should you:
Lower

your price?
Ignore it?
Raise it?

That is what a competitive threat is all about.

Competitive
price or low
cost product
entry

Accommod
ate or
Ignore

Is your
No position in
other
markets at
risk?

No

Is there a
response that
Yes
would cost less
than the
preventable sales
lost?

Yes

No

Does the
value of
the
markets at
risk justify
the cost of
response?
Yes
Respon
d

No

If you
respond, is
competitio
n willing
and able
to
reestablish
the price
difference?

No

Yes
Will the multiple
responses required to
match a competitions
cost less than the
preventable sales loss?
Yes
Respon
d

Source: Figure from How to Manage an Aggressive Competitor by George E. Cressman, Jr. and
Thomas T. Nagle from BUSINESS HORIZONS 45 (March-April 2002): p. 25. Reprinted with permission from Elsevier.

Respon
d

1.

Before responding, ask: Do the benefits

justify the costs?

a.

If responding to a price change is less costly

than losing a sale, then do it.

b.

If competitor threat only affects a small

segment, the revenues lost from ignoring it
may be so small that it is not worth it.

c.

In other words, Why lower the price to lose

revenue from other segments too?

Evaluating a Competitive
Threat

2.
If you respond to the threat, is the
competitor willing to merely reduce price
again to restore the price difference?
Matching

a price cut is ineffective if the

competitor will merely lower the price
again.
Therefore, try to understand what the
competitor is trying to do.
1.Do they want % share of market?
2.Do they just want to clear inventory?
3.Do they just want to recoup some of their
investment quickly?

EVALUATING A COMPETITIVE
THREAT
3. Will the multiple responses that may be
required still cost less than the avoidable sales
loss?

One consideration is the industry. In highcapital and labor-intensive industries, it is

better to cut the prices only to the point of
variable cost levels.
The objective is to try to capture some
contribution margin, if possible.
Strategy: Build into your products high
switching costs.

Evaluating a Competitive Threat

4.
Is your position in other markets at risk
if the competitor increases their % share of
market?
Strategically, does the value of all the
markets that are at risk justify the cost of
responding to a price war?
Before responding, make sure you
understand all of the ramifications, i.e., lost
markets, gained markets, and even
bankruptcy.

Competitive Bidding
Certain groups do bidding
1.Governments
2.Large companies (using preferred

suppliers) bid for:

a. Non-standard material
b. Complex designs and difficult
manufacturing methods

TYPES OF BIDDING

Closed bidding: Suppliers submit a written bid

on a specific contract and all bids are opened
simultaneously and often job goes to lowest
bidder
On-line sealed bids: on-line auctions
Open bidding: more informal.
When it is hard rigidly define requirements
Prices may be negotiated.
Prices may be negotiated

Bidding is costly and time consuming.

A. Simultaneous
B. All

bids often used.

participants see the bids.

C. Goal:
D. Can

push price down.

damage supplier-customer
relationships

Choose bid opportunities with care

Find contracts that offer the most promise

Remember that the low bidder may be able

to secure much more business that is
profitable
over the longer term

How likely will follow-on business occur???

46