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The price and quantity of goods available in a market The price and quantity of goods available in a market are determined by the demand for the good and the are determined by the demand for the good and the supply of a good available at any given time. supply of a good available at any given time.
What is Price: • Narrowly, price is the amount of money charged for a product or service. • Broadly, price is the sum of all the values that consumers exchange for the benefits of having or using the product or service.
We need to set price when we have:
a new product, or when we enter a new market with an existing product. How?
Need to decide what position you want your product to be in Static Analysis - assumes that competitors will not react to how a firm prices its products Dynamic Analysis - assumes that competitors will react to changes in prices of a firm’s products Static is very unrealistic. The Internet had influenced dynamic pricing in two ways: Decreased menu costs - cost to change the price Interactivity - ease of Internet interaction
Consumers are heterogeneous in their willingness to pay
Charge according to consumer price sensitivity. Make sure that people with inelastic demand pay more and people with elastic demand pay less. Make sure that prices directed at one segment cannot be taken advantage of by the other.
How should you achieve this?
Identify a “bad” for the high willingness to pay segment and bundle it with the product to create a product for the low segment This is where product design and pricing comes together.
The Seven Deadly Sins of Pricing
Philip Kotler identified 9 price-quality strategies
High Price High Quality Premium Over Charging Rip-off Low Quality High Value Mid Value
Low Price Super Value Good Value
False Economy Economy
The Pricing Pentagon
Set Pricing Objectives Analyze demand - Differentiate value relative to substitute products Draw conclusions from competitive intelligence -Strategically select target customers segments Select pricing strategy appropriate to the political, social, legal and economical environment - Predict strategic pricing/competitive reaction Determine specific prices - Select a pricing structure and price point.
Possible Pricing Objectives
Targeted profit return
Dollar or unit sales growth Market share growth
Match competitors’ price Non-price competition
Measure the impact of price change on total
revenue Predicts unit sales volume and total revenue for various price levels Different customers have different price sensitivities and needs
Impact of Cost on Pricing Strategy
Fixed and variable costs
Markup pricing, break-even pricing and rate-of-return pricing
3 types of relationships
Ratio of fixed costs to variable costs Economies of scales Cost structure
Price determination and managerial objectives
Prices serve three broad functions: 1. Prices raise revenue for the firm. 2. 3. Prices act as a rationing device. Prices indicate changes in the wants of consumers and induce suppliers to alter product accordingly.
• Pricing is key to managerial decision making • Firms with market power can raise prices without losing all customers. • A firm has market power when it faces a downward sloping demand curve. • Firms wish to capture as much consumer surplus as possible. • Firms achieve a target rate of return, target market share, stabilize output and match the competition.
Factors Affecting Pricing Decisions
Customer Value Perceptions Effective, customer-oriented pricing involves understanding how much value consumers place on the benefits they receive from the product and setting a price that captures that value.
Value-Based Pricing Vs. Cost-Based Pricing
Good-Value Pricing and Value-Added Pricing
Good-Value Pricing: Offering just the right combination of quality and good service at a fair price. Value-Added Pricing: Attaching value-added features and services to differentiate a marketing and offer and support higher prices, rather than cutting prices to match competitors.
Discussion: Impact of Ethics on Pricing
How should you price if your product is a life-
saving drug? What are the ethical considerations?
Customers have no choice Need to pay for the research When cheaper options doesn’t work Competition decides
Segmented demand, heterogeneous goods
Not a “demand curve”
for a homogeneous commodity, but segmented markets for related but very different products
Product made & priced
for one target income group/taste pattern; very hard to shift demand.
Can’t do it just by
Midrange Standard Economy
Product differentiation limits sales because… • Cannot reduce costs with an increase in production or without having to face increased marketing expenses. • Main constraint on sales is not “conditions of supply” but “conditions of demand” • Unlimited wants and Scarce resources. • Not “waste” but “opportunity” • In growing economy, new factory must have much more capacity than needed now. • In uncertain world, excess capacity needed to react to opportunities
Choose a Price Strategy
Price Skimming Price Skimming
Basic Strategies for Setting Prices
Penetration Pricing Penetration Pricing
Status Quo Pricing Status Quo Pricing
Inelastic Demand Superior Product
Situations When Price Skimming Is Successful
Legal Protection of Product Technological Breakthrough Limited Production
New-Product Pricing Strategies
Market-skimming pricing is a strategy with high initial prices to “skim” revenue layers from the market
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 easily
Situations When Penetration Pricing Is Successful
New-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
When to use: •Elastic demand •Economies of scale •Threat of strong competition
Status Quo Pricing
Situations When Status Quo Pricing Is Successful
Product Mix Pricing Strategies
Product Mix Pricing Strategies Product line pricing takes into account the cost differences between products in the line, customer evaluation of their features, and competitors’ prices Optional-product pricing takes into account optional or accessory products along with the main product Captive-product pricing involves products that must be used along with the main product Two-part pricing involves breaking the price into: Fixed fee Variable usage fee By-product pricing refers to products with little or no value produced as a result of the main product. Producers will seek little or no profit other than the cost to cover storage and delivery. Product bundle pricing combines several products at a reduced price
Discount and allowance pricing reduces prices to reward customer responses Strategies such as paying early or promoting the product – Discounts, Allowances Segmented pricing is used when a company sells a product at two or more prices even though the difference is not based on cost 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 legal Psychological pricing occurs when sellers consider the psychology of prices and not simply the economics 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
Price-Adjustment Strategies Promotional pricing is when prices are temporarily priced below list price or cost to increase demand •Loss leaders •Special event pricing •Cash rebates •Low-interest financing •Longer warrantees •Free maintenance Risks of promotional pricing: • Used too frequently, and copies by competitors can create “deal-prone” customers who will wait for promotions and avoid buying at regular price • Creates price wars Geographical pricing is used for customers in different parts of the country -world •FOB-origin pricing •Uniformed-delivered pricing •Zone pricing •Basing-point pricing •Freight-absorption pricing
FOB-origin (free on board) pricing means that the goods are delivered to the carrier and the title and responsibility passes to the customer. Uniformed-delivered pricing means the company charges the same price plus freight to all customers, regardless of location. Zone pricing means that the company sets up two or more zones where customers within a given zone pay a single total price Basing-point pricing means that 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, regardless of the city from which the goods are actually shipped Freight-absorption pricing means the seller absorbs all or part of the actual freight charge as an incentive to attract business in competitive markets Dynamic pricing is when prices are adjusted continually to meet the characteristics and needs of the individual customer and 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
Initiating Pricing Changes Price cuts is a reduction in selling price.
Excess capacity Increase market share
Price increases is an increase in selling price
Cost inflation Increased demand and lack of supply Buyers’ Interpretation to Price Changes Price cuts
New models will be available Models are not selling well Quality issues
Price increases Product is “hot” Company greed
Responding to Price 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?
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”
Competitor Price Cuts
Financial Trouble Financial Trouble
Decreasing prices may be a Decreasing prices may be a
desperate attempt to raise cash, desperate attempt to raise cash, or signal to competitors an or signal to competitors an interest in being acquired interest in being acquired
Typical motives for price cutting:
Attempting to Become Attempting to Become an Industry Leader an Industry Leader
Decreasing prices is sometimes Decreasing prices is sometimes
a show of strength to indicate a show of strength to indicate that a firm is doing well enough that a firm is doing well enough to withstand the lower prices to withstand the lower prices
Signaling Displeasure Over a Signaling Displeasure Over a Competitor’s Strategy Competitor’s Strategy
A firm can use a price cut to A firm can use a price cut to
punish a competitor for a change punish a competitor for a change in its strategy in its strategy
Estimate Competitor Response
Select potential prices
• Pick at least three potential prices • Must be prices that the firm could actually charge
Game out competitors reactions
• Do industry research to brief managers before game • Construct a scenarioplanning exercise • Use a multiperiod game for best results
Estimate revised price
• Use game results to estimate both the firm’s final price as well as competitors’ price points
Legality and Ethics of Price Strategy
Price Fixing Price Fixing
Price Discrimination Price Discrimination
Issues Issues That Limit That Limit Pricing Pricing Decisions Decisions
Predatory Pricing Predatory Pricing
Legality and Ethics of Price Strategy
Price fixing: Sellers must set prices without talking to competitors Price Discrimination
Charge different prices to different customers Transaction must occur in interstate commerce Seller must make two/ more sales w/in short time period Commodities of like grade and quality Must be significant competitive injury Sellers can argue price variations
Different Costs Different Market Conditions Competition
• Selling below cost with the intention of punishing a competitor or gaining higher long-term profits by putting competitors out of business
With price discrimination, a firm sets two or more distinct prices for discrimination a product. Higher prices are for inelastic segments and lower prices for elastic ones. Customer-based price discrimination—Prices differ by customer category for the same good or service. Product-based price discrimination—A firm markets a number of features, styles, qualities, brands, or sizes of a product and sets a different price for each product version. Time-based price discrimination—A firm varies prices by day versus evening, time of day, or season. Place-based price discrimination—Prices differ by seat location, floor location, or geographic location. When a firm engages in price discrimination, it should use yield management pricing—whereby it determines the mix of pricequantity combinations that generates the highest revenues for a given time. 40
consumers exactly what they consumers exactly what they are willing to pay for product are willing to pay for product (e.g., 1–1 price haggling) (e.g., 1–1 price haggling)
First Degree — Charge First Degree — Charge
Second Degree — Charge Second Degree — Charge consumers exactly what they consumers exactly what they are willing to pay for first unit of are willing to pay for first unit of good as well as additional units good as well as additional units (e.g., volume pricing) (e.g., volume pricing)
consumers into distinct consumers into distinct segments, charging different segments, charging different prices to different segments prices to different segments (e.g., movie-theater pricing) (e.g., movie-theater pricing)
Third Degree — Divide Third Degree — Divide
Fine Tuning the Base Price
Quantity Discounts Quantity Discounts Cash Discounts Cash Discounts Functional Discounts Functional Discounts
Common Common Tactics Tactics for for Fine-Tuning Fine-Tuning the Base Price the Base Price
Seasonal Discounts Seasonal Discounts Promotional Allowances Promotional Allowances Rebates Rebates
Special Pricing Tactics
Single-Price Tactic Flexible Pricing Price Lining
All goods at the same price Different customers pay different price Several line items at specific price points
Loss Leader Pricing Sell product at near or below cost Bait Pricing Odd-Even Pricing Price Bundling Two-Part Pricing
Lure customers through false or misleading price advertising Odd-number prices imply bargain Even-number prices imply quality Combining two or more products in a single package Two separate charges to consume a single good
Information Needed for Price Change
Customers’ ability & willingness to buy; customer
lifestyle; benefits sought; characteristics of the product. Need to know everything about the competitors
How would competitors react to our price change? (see following slide) In obtaining competitors’ information, remember the value of the information
New-Product Pricing Strategies
Charging a high price initially and reducing the price over time Commonly used when introducing new & innovative products in the ASPAC region Charging a low price when entering the market to capture market share Used when competitors are closing in with similar or better products Pricing somewhere in between the skimming strategy and the penetration strategy
Pricing Strategies for Established Products
Three strategic alternatives:
1. 2. 3.
Maintain the price if you are the leader Reduce the price e.g. Increase the price
One-price policy—setting one fixed price
for all markets Flexible-price policy—setting different prices in different markets based on:
Geographic Location, Time of delivery, or The complexity of the product
How much flexibility in price?
Depends on the Demand-Cost gap and the influence of
competition, social, legal and ethical considerations Example: Life-saving drugs
When pricing products in different lines, must
take cross-elasticities of demand across the set of products into consideration
The idea is to maximize the profits of the entire
organization rather than that of a single product or a single line
Leasing is more common for industrial
Singapore Airlines sold many of their aircraft and lease them back for their operations
There is a growing trend toward leasing
consumer goods as well
e.g. Leasing of office equipment
Reactions to Price Change
Customers are more sensitive to price changes
if the products cost a lot and/or are bought frequently Competitors may see each of your price change as a fresh challenge and react according to its self-interest at the time. Need to estimate each close competitor’s likely reaction
Responding to Competitors’ Price Change
If competitors lower price for homogenous products
Try augmenting the product If it doesn’t work or if it is not likely to work, then meet the price cut head-on If competitors raise price In a homogeneous market, follow if you think the whole market is likely to follow In a non-homogeneous market, evaluate The reason for the competitor price change If the price increase is temporary The effect on your market share & profit The likely responses from the other competitors 52
When a Market Leader is Being Attacked on Price
Maintain price Raise perceived quality Match competitors’ price Increase price and improve quality
Impact of Discounting on Brand Equity
Why discount? Problems emerging with discounts The value equation (V=Q/P)
Price wars are frequent in industries where Cost differentiation opportunities exists Capital is intensive and products are homogeneous
What is it? Yield management goals Industries that benefited from yield management Common variables
Will the Internet Commoditize Prices?
The Internet Will Lead to Price Commoditization
The Internet Will Not Commoditize Prices
The Internet makes vast amounts of Even if all else is equal, brand will information available to consumers. still command a premium As a result, markets will become Providers are able to differentiate more efficient, and differences in their offerings by bundling products and pricing willdecrease products and services; consumers will place a premium on attractive Consumers on the Internet are not restricted by geography when "bundles" making their purchases, so they are The Internet makes it possible for free to choose among a wider consumers to create their own range of providers and may switch products and bundles more frequently The Internet offers consumers a On the Internet, providers have new convenient purchasing difficulty differentiating their experience that they are willing to products; they find it hard to pay for compete on anything but price
Levers & the Stages of Customer Relationships
Exploration/ Exploration/ Expansion Expansion
Click-through promotions Web-referral promotions Specialty negotiated promotions (e.g., hotels) Bricks-and-clicks promotions Web price discounts Bundle Frenzy pricing Prestige Price as a sign of quality Hi-Lo Dynamic pricing EDLP
Targeted Promotions Future price promotions Justify prices Loyalty programs
Tiered loyalty programs Wide variety of pricing plans Become affiliates Profit-enhancing programs Volume-discount promotions Targeted promotions Future price promotions Fairness Two-part pricing EDLP
Discontinue pricing promotions Reconfigure loyalty programs Decrease profit programs
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