PRICING STRATEGY

Module 3 – Price Structure

Midterm Examination

● Use of a characteristic such as gender,

PROBLEMS IN PRICE SEGMENTATION
● There are at least two difficulties in
accomplishing price segmentation:
○ One cannot expect customers to
voluntarily identify themselves as
willing to pay prices that are higher
than those paid by other customers.
★ Arbitrage – the practice of buying a
product at a low price in order to sell
it to others at a higher price
ACCOMPLISHING PRICE SEGMENTATION
★ Price fence - a means to charge different
customers different price levels for the
same products and services using the
same metrics.
race, religion, or ethnic group is very
likely to violate customer sensitivities and
should generally be avoided.
PRICE SEGMENTATION BY QUANTITY
● The best price for those customers who
buy larger quantities of a product is often
lower than that for those customers who
buy smaller quantities of the product.
COMMONLY USED PRICE SEGMENTATION
BY QUANTITY
● Order-size discount
● Cumulative-purchase discount
● Fixed-charge pricing
● Two-part pricing
● Step discounts

★ A price-segmentation fence is a
PRICE SEGMENTATION BY PRODUCT
criterion that customers must meet to
FEATURES
qualify for a lower price.

● Six major types of price-segmentation

fences:
○ Customer characteristics
○ Purchase quantity
○ Product features
○ Design of product bundles
○ Time of purchase or use
○ Place of purchase or use PRICE SEGMENTATION BY DESIGN OF
PRODUCT BUNDLES

CONSTRAINT ON THE USE OF CUSTOMER

CHARACTERISTICS
● A perception of unfairness is particularly
likely when it is perceived that other
customers are paying a lower price not
because of something these customers
choose to do but simply because of who
they are.

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 profitable to charge them lower per-unit
PRIORITY SEGMENTATION BY TIME
prices.
● Priority pricing
● When the best price for a product is
PRICE SEGMENTATION BY LOCATION higher for customers who are interested
in an optional product-enhancing feature
● FOB-origin (free on board) pricing or lower among customers who can
● Uniformed-delivered pricing tolerate an optional product-diminishing
● Zone pricing feature, then it may be profitable to use a
● Basing-point pricing feature-dependent premium or discount.
● Freight-absorption pricing
● When one product is more valued by one
SUMMARY of two segments and another product is
more valued by the other, then it may be
● Designing an optimal price structure that
profitable to sell a bundle containing both
effectively segments your market and
products at a price lower than the total
maximizes your profitable sales
charged for the two products purchased
opportunities is clearly among the most
separately.
difficult, but potentially rewarding,
aspects of pricing strategy.
● Many firms will be able to simultaneously
use more than one price-segmentation
● An important aspect of price structure
fence. Understanding the use of
concerns price segmentation, the
price-segmentation fences is of key
practice of a seller charging different
importance in a firm’s ability to use price
customers different prices for the same
to maximize profits
product.

● Price segmentation could be warranted

because some customers value the
product more than others, are more or
less costly to serve than others, or show
more or less price sensitivity than others.

● To accomplish price segmentation, it is

necessary to have a fence, or criterion
that customers must meet to qualify for a
lower price.

● It is possible to use an observable

characteristic of customers, such as age
or student status, as a price
segmentation fence, although such use
may be considered unfair.

● When the best price for a product is

lower for customers who buy larger
quantities of the product, then it may be

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PRICING STRATEGY
Module 4 – Pricing and Costing
Midterm Examination
VALUE COMMUNICATION
● Value communication can have a great
effect on sales and price realization when
your product or service creates value
that is not otherwise obvious to potential
buyers.
ADAPTING THE MESSAGE FOR PRODUCT
CHARACTERISTICS
● Product characteristics that influence
buyer perceptions of key value drivers:
○ Relative costs for information of the
buyer.
○ Type of benefits sought— monetary
or psychological.
ADAPTING THE MESSAGE FOR PRODUCT
CHARACTERISTICS
★ Relative cost of search – is the financial
and nonfinancial cost, relative to the
expenditure in the category, that a
customer must incur to determine
differences in features and benefits
across alternatives.
○ Search goods
○ Experience goods
● Value-based communications must not
only be adjusted for product
characteristics such as cost of search
and benefit type, but also for the
customer’s purchase context.
● Consider how the message would have
to be adjusted depending on the
specifics of the purchase context.
THE BUYING PROCESS
● Awareness of need
● Search for more information
● Evaluation of alternatives
● Actual purchase decision
● Post-purchase contact with the firm
THE BUYING PROCESS: CUSTOMER
★ Origination – become aware of needs.
★ Information gathering – collects initial
product data to narrow down the choice
set.
★ Selection – gathers more detailed
information to make a choice based on
price and value.
★ Fulfillment – selects the distribution
channel from which to make purchases
and conducts transactions.
THE BUYING PROCESS: SELLER
★ Origination – encourage customers to
consider a purchase within the category.
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★ Information gathering – emphasize value
drivers for which the product has an
advantage.
★ Selection – create awareness of the
brand and its superiority in terms of the
most important value drivers.
★ Fulfillment – justify the price.
PRICE COMMUNICATION
● There are four aspects of price
perceptions that have implications for
price communications:
○ Proportional Price Evaluations
○ Reference Prices
○ Perceived Fairness
○ Gain-loss Framing
PROPORTIONAL PRICE EVALUATIONS
● Buyers tend to evaluate price differences
proportionally rather than in absolute
terms.
● Psychologists call this tendency the
Weber-Fechner effect.
● This can explain the appeal of “free”
services, which represent a 100%
reduction in price, over other lesser
discounts that have the same or even
greater value.
REFERENCE PRICES
★ Reference price – is what a buyer
considers a reasonable and fair price for
a product.
● Marketers also influence reference prices
by suggesting potential reference points.
● Promotional deals such as coupons,
rebates, and special package sizes can
influence reference prices strategically.
PERCEIVED FAIRNESS
● Fairness is, as one would suspect,
subjective. However, because of this, it is
also more manageable than one might
think.
● Companies that frequently adjust prices
are careful to set the “regular” price at
the highest possible level, rather than at
the average or most common price.
GAIN-LOSS FRAMING
● To make prices less objectionable, make
their opportunity costs (forgone gains)
rather than out-of-pocket costs.
● When a product is priced differently to
different customers and at different
times, set the list price at the highest
level and give most people discounts.
● Unbundle gains and bundle losses.
PRICE PROMOTION
★ Price promotion – is a marketing
technique where the price of a product is
kept reduced for a short period to build
customer loyalty and swell sales volume,
and then increased later on.
MODEL OF COMMUNICATION BY
PROMOTIONAL DISCOUNTS
★ Source – intended message
★ Target actions – inducement (low price)
★ Reciever – received message
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● Positive effects of price promotions
○ Price segmentation
○ Market size and share
● Negative effects of price promotions
○ Imperfect segmentation hedge
○ Customer churn
○ Reference price effect
○ Loss of price credibility
PRICE PROMOTION DESIGN
● Targeted
● Temporary
● Special
● Irregular
POPULAR FORMS OF PROMOTION DESIGN
● Coupons
● Trial offers
● Rebates
● Promotional bundles
★ Coupons – documents that entitles the
holder to a reduced price or X cents off a
product or service.
● Purpose
○ Reduce a price to price-sensitive
customers who will spend the
effort to clip coupons.
○ Induce customer to try products
for ____
○ Convert first time users to ____
○ Encourage large purchases
○ Increase usage
○ Protect market share against
competitors
★ Trial offers
● Trial offers – are simple price
promotions that the seller uses to
induce trial of its product.
● Made in the form of free samples,
small packages priced significantly
lower, or leased services and
software as a service wherein the
cost to enter the market is greatly
reduced from the full, regular price.
★ Rebates – money returned to the
customer based on a portion of the
purchase price.
● Retailers’ perspective: more
advantageous than coupons since
they increase demand, but the
retailer has no handling costs.
● Manufacturers like rebates because:
○ Many customers don't redeem.
○ They can offer price cuts to
customers directly.
★ Promotional bundles
● Price bundling: practice of offering
two or more different products or
services at one price.
● Multiple-unit pricing: similar to price
bundling except products or services
are similar rather than different.
★ Early purchase discount – payment of
the services in advance or paid in full to
avail of the discount.
Example: booking hotel accommodation,
airline tickets, and paying the tuition in
full.
SUMMARY
● An effective pricing strategy depends on
more than just value.
● Buyers are also influenced by how that
value is presented and communicated
through the price.
● Most customers lack the time or the
incentive to fully inform themselves about
their alternatives.
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● If you want them to recognize your value,
you have to make the process easier for
them by supplying them with information
about your offer and what you think it
should mean to them.

● When communicating prices, you should

actively minimize customers’ adverse
feelings about paying it.

● By controlling price progressions,

reference prices, and perceptions of
fairness, you can reduce negative
reactions without reducing your margins.

● Price promotions are a form of price

segmentation in which prices are
reduced for those with a lower
willingness to pay and regular prices are
offered to those with a higher willingness
to pay.

● Price promotions generate increased

sales primarily through encouraging
brand switching and secondarily through
increasing the size of the market.

● In general, price promotions should strive

to be targeted toward marginal
customers. Other design criteria for price
promotions include a desire for them to
be temporary, special, and irregular.

● Price promotions take many forms,

including specially marked packages,
coupons, trial offers, trade deals,
promotional sales, discounts, promotional
bundles, and rebates. Each format of a
price promotion has its strengths and
weaknesses in targeting specific types of
customers and achieving different
marketing objectives.

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PRICING STRATEGY
Module 5 – Setting Price Level and Pricing Over the Product Life Cycle
Midterm Examination

★ Price skimming – captures high margins

PRICE-SETTING PROCESS
● The goal of the price-setting process is
to set profit-maximizing prices by
capturing the appropriate amount of
differential value in each of the served
segments.
at the expense of sales volume. Prices
are high relative to what the “middle
market” is willing to pay. Viable when the
profit from the price-insensitive segment
exceeds profit from sales to a larger
market at a lower price.

● Price-setting process ★ Penetration pricing – sets price far

○ Defining the price window
○ Set initial price
○ Communicate prices to the market
★ Define price window – set initial price
range based on differential value and
relevant costs.
enough below economic value (not below
cost) to attract and hold a large base of
consumers. Generated sales volume (&
lower marginal costs) at the expense of
higher margins.

★ Set initial price – determine the amount

of differential value to be captured.

★ Communicate prices to the market –

develop a communication plan to ensure
prices are perceived to be fair.

★ Defining the Price Window

● Price window – set for each segment
and is defined by the ceiling, the
highest allowable price point, and the
floor, the lowest allowable price
point.
○ Establish the price window for
each segment
○ Narrow the window based on
strategic objectives

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 ESTABLISHING AN INITIAL PRICE POINT not allowing price alone to
● There are three considerations when restrict it.
determining where in the price window to
set the initial price: FACTORS SUPPORTING SKIMMING
○ Alignment with Overall Business ● Riskiness (New Product)
Strategy ○ Economic risks
○ Price-Volume Trade-offs ○ Physical risks
○ Customer Response ○ Social risks

● Price-setting process: ● Protection of competitive products

○ Selecting the pricing objective
○ Determining demand
○ Estimating costs
○ Analyzing competitors’ costs, prices,
and offers
○ Selecting a pricing method
○ Selecting final price
FACTORS SUPPORTING PENETRATION
● Low-priced products are the incentive to
the customer.
● Protection from price matching.
● Market conditions favoring a pioneering
advantage

BASIC STRATEGIES FOR SETTING PRICE STRATEGIC FACTORS IN THE SETTING OF

● Skimming the market
● Penetration market pricing
● Neutral market/in-line pricing
PRICING OBJECTIVES
● There are three options for setting prices:
★ Skim the market
○ Skim pricing (or skimming) – is
designed to capture high
margins at the expense of large
sales volume.
○ Sequential skimming – is initially
priced for the least sensitive
market, then successively lowers
the price to attract additional
segments
★ Penetrate the market
○ Penetration pricing – involves
setting a price low enough to
attract and hold a large base of
customers.
★ Neutral Market/In-Line Pricing
○ Neutral pricing – involves a
strategic decision not to use
price to gain market share, while
INITIAL PRICES
● Factors supporting skimming
○ New product perceived as risky
○ Presence of protection against
competitive products
● Factors supporting penetration
○ Ability of low price to serve as an
incentive to buy
○ Protection against competitive price
matching
○ Market conditions favoring a
pioneering advantage
● Use in-line pricing when market
conditions do not support skimming or
penetration.
DEFINING THE PRICE-VOLUME
TRADE-OFF
● Understand the financial trade-offs
between price and volume and then
analyze the market to estimate consumer
response.

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● Guide questions to pricing choice:
○ How much volume could I afford to
lose before a particular price
increase would be unprofitable?
○ How much volume would I have to
gain in order for a particular price
decrease to improve my profitability?
PRICE SENSITIVITY DRIVERS
★ Size of expenditure – buyers are less
sensitive to the prices of small
expenditures which, in the case of
households, is defined relative to income.
★ Share costs – buyers are less price
sensitive when some or all of the
purchase price is paid by others.
★ Switching costs – buyers are less
sensitive to the price of a product the
greater the added cost (both monetary
and non-monetary) of switching
suppliers.
★ Perceived risk – buyers are less price
sensitive when it is difficult to compare
suppliers and the cost of not getting the
expected benefits of a purchase is high.
★ Importance of end-benefits – buyers are
less price sensitive when the product is a
small part of the cost of a benefit with
high economic or psychological
importance.
★ Price-quality perceptions – buyers are
less sensitive to a product’s price to the
extent that price is a proxy for the likely
quality of the purchase.
★ Reference prices – buyers are more price
sensitive the higher the product’s price
relative to the buyers' price expectation.
★ Perceived fairness – buyers are more
sensitive to a product’s price when it is
outside the range that they perceive as
“fair” or “reasonable”
★ Price framing – buyers are more price
sensitive when they perceive the price as
a “loss” rather than as a forgone “gain”.
They are more price sensitive when the
price is paid separately rather than as a
part of a bundle.
ESTIMATING CUSTOMER RESPONSE
APPROACHES
★ Price experimentation – involves testing
new prices on a controlled sample of
customers before rolling the price change
out to the entire market.
★ Purchase intention – surveys can be
used when price experimentation is
impractical, as is the case for many large,
infrequently purchased products (such as
automobiles and enterprise software)
that don’t lend themselves to
experimentation.
★ Structured inference by managers – is
an approach that leverages managerial
market knowledge combined with
appropriate analysis to arrive at a sound
price point.
★ Incremental implementation – can work
when none of the other methods for
estimating customer response are
practical or reliable enough to produce
confident inferences.
★ Simulations – provide a means to explore
systematically the effects of competitor
reactions to customer responses to a
price change.
PRICING NEW PRODUCTS
● New products represent a primary source
of organic volume and profit growth.
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● It represents an opportunity to redefine
the process and considerations that
determine what and how customers
purchase.
INTRODUCTION STAGE
● During the introduction phase, a
revolutionary product is launched, which
creates an entirely new market.
★ Revolutionary products – represent only
a small fraction of the new products on
the market at any given time, and many
researchers with a more critical bent
would argue that truly revolutionary
products are launched sporadically on
time scales of once every few years, if
not decades.
CUSTOMERS OF INTRODUCTORY MARKETS
★ Tinkerers – are people who appreciate a
new product due to its revolutionary
properties themselves.
○ evaluate a new product, they seek to
explore its properties, capabilities
and uses.
★ Visionaries - people who are seeking a
quantum leap forward in addressing a
challenge.
○ a business customer, who is seeking
an order-of-magnitude return on
investment, not a standard small
percentage of improvement with a
long-term payback.
PRICING IN INTRODUCTORY MARKET
● To price a product within an introductory
market, executives are usually best
served by using exchange value models.
● Exchange value models rely on internal
management’s assessment of the value
of a revolutionary product.
EXCHANGE VALUE MODELS
★ Exchange value models – quantify the
price models knowing the boundaries of
a good price narrows pricing discussions
to a reasonable range of potential points.
★ Extreme boundaries – define the range
of acceptable prices outside of which no
rational buyer or seller would ever
transact.
★ Narrow boundaries – define the range of
prices that are most likely to encourage
customer transactions and leave the
firm's most favorable positions.
○ These are lying within extreme
boundaries.
● Strategies to be used
○ Communicating value with trial
promotions
○ Communicating value with Direct
Sales
● Growth stage
○ The growth phase of the product life
cycle is marked by rapid changes in
every dimension of the newly
emerged market.
○ Evolutionary products are products in
which specific features or benefits
are added or subtracted from the
core product.
PRICING IN GROWTH MARKETS
● Pricing in growth markets shifts from
exchange value models to customer
preference–based methodologies.
● Competitors may begin to explore
add-ons, versioning, and unbundling.
● Strategies to be used:
○ Pricing with a Differentiated Product
○ Pricing with Cost Leadership
○ Price Reductions in Growth
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 MATURITY STAGE
● In the mature phase of the product life
cycle, demand growth, competitor
turbulence, and rapid product evolution
are replaced with more predictable
industry dynamics.
● Accuracy in price setting in mature
markets improves due to a better
understanding of the market.
● Pricing in maturity stage
○ During the mature phase, the
pressure to improve prices shifts the
pricing challenge from a focus on
establishing price structures and
setting price levels and toward the
importance of managing price
variances.
○ Due to competitive pressures and
customer heterogeneity, couponing,
discounting, and price promotions all
become more common practices.
● Strategies to be used:
○ Unbundling related products and
services
○ Improved estimation of Price
Sensitivity
○ Improved Control and Utilization of
Costs
○ Expansion of Product Line
○ Reevaluation of Distribution Channels
DECLINE STAGE
● While prices during declining markets
tend to be volatile, it is not possible to
make an a priori statement regarding the
direction of all prices.
● The goal of strategy in decline is not to
win anything; for some it is to exit with
minimum losses. For others the goal is
simply to survive the decline with their
competitive positions intact and perhaps
strengthened by the experience.
● Strategies to be used:
○ Retrenchment
○ Harvest
○ Consolidation
○ Focus
SUMMARY
● Despite the sophisticated tools and
analytics available to marketers, price
setting ultimately comes down to using
informed judgment to find a price that
balances costs, customer value, and
competitor responses.
● Product categories are observed to pass
through phases of introduction, growth,
maturity, and eventual decline. This cycle
is referred to as the product life cycle.
● Each phase of the product life cycle can
be associated with specific growth
patterns, customer characteristics, and
pricing challenges.
● Over the product life cycle, industry
revenues are observed to start low
during the introductory phase, increase
rapidly during the growth phase, stabilize
or grow at the rate of population growth
during the maturity phase, and decrease
during the decline phase.
● Over the product life cycle, industry
profits are observed to be mostly
negative during the introductory phase,
increase rapidly during the growth phase
toward a maximum, stabilize or decline
slightly during the maturity phase, and
decrease rapidly during decline.
● During the introduction phase, a
revolutionary product is launched that
creates an entirely new market.
Revolutionary products are products that
satisfy a market need in a manner that
hitherto had never been considered.
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● Often, revolutionary products succeed by
fulfilling a latent demand. Latent demand
implies that the desire for the solution to
a problem existed prior to the launch of
the product, but that no viable solution
existed.

● In the growth phase of the product life

cycle, customers have been
characterized as Early Majority, Late
Majority, and Laggards. The Early
Majority group consists of customers
who seek incremental improvements and
appreciate the new product category for
its ability to deliver value with
manageable risk.

● Late Majority and Laggards include

customers who would have preferred that
the new product not have come into
existence but have been forced by reality
to adapt to the product.

● In the mature phase of the product life

cycle, demand growth, competitor
turbulence, and rapid product evolution
are replaced with more predictable
industry dynamics. Customer preference
techniques such as conjoint continue to
generate relevant prices in both
consumer and business markets of
sufficient size.

● During the mature phase, the pressure to

improve prices shifts the pricing
challenge toward a focus on managing
price variances.

● When markets are facing decline,

industry competitors can choose one of
four strategies: Retrenchment, Harvest,
Consolidate, and Focus.

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PRICING STRATEGY
Module 6 – Price & Strategy Implementation within the Firm
Midterm Examination
EMBEDDING STRATEGIC PRICING IN THE
ORGANIZATION
● Many organizations struggle to
implement and maintain pricing
strategies and these are the reason why:
○ Pricing may “come off the tracks”
and there is often no clear ownership
of and responsibility for pricing
outcomes.
○ Conflicted motivation of decision
makers
○ Inconsistent application of pricing
strategies
● Organization covers the entire structure
of the pricing function.
● Motivation involves using principles, data,
and analytics, and performance metrics
and incentives that encourage the right
behaviors by both the organization and
the individual.
THE FOUNDATION FOR PRICING STRATEGY
IMPLEMENTATION
ORGANIZING
● Organizations must create a small pricing
committee within each business unit that
were tasked with managing pricing
policies and execution.
● Organization must form a
corporate-supported pricing council
composed of representatives from the
pricing committees at the business units.
ORGANIZATIONAL STRUCTURE
● Designing an organizational structure for
the pricing function involves establishing
formal reporting relationships for the
managers responsible for managing the
pricing process.
● The expert resource role can be
effective with a centralized pricing
function supporting multiple divisions
where each unit operates in distinct
markets.
★ Functional coordinator - is asked to take
control of the pricing processes.
★ Commercial partner - role when it is
given authority over both pricing
decisions and processes.
★ Figurehead - occurs when the pricing
organization owns the right to make key
decisions but does not have the power to
enforce those decisions in the market
place.
ROLE FOR PRICING FUNCTION
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 PRICING STRUCTURE
★ Center of scale – which pricing decisions
are made and managed at the corporate
level.
★ Center of Expertise - characterized by
the business units maintaining control of
the pricing decisions and pricing
processes.
★ Dedicated Support Unit - business unit
has a dedicated pricing group that is only
loosely aligned with corporate pricing (if
that function even exists).
DECISION RIGHTS
● Formal structure is not the only
consideration when organizing for
pricing.
● Failure to formally allocate pricing
decision rights leads to more inconsistent
pricing and greater conflict as managers
attempt to influence pricing decisions.
★ Input rights - enable an individual to
provide information before the decision is
made.
★ Make rights - belong to only one person
or committee.
★ Ratification rights - provide a
mechanism for senior managers to
overturn pricing decisions when they
conflict with broader organizational
priorities.
★ Notification rights - allocated to
individuals that will use or be affected by
the pricing decisions in other
decision-making processes.
TYPES OF DECISION RIGHTS
PRICING PROCESS
● Ineffective pricing processes:
○ Frequent deviations from agreed
price schedules and unclear pricing
authority
○ Frequent non-standard customer
requests
○ A large number of uncollected
charges and an increased number of
write-offs
○ Excessive unearned discounts and
waived upcharge
○ Increased pricing errors
○ Increased order processing and
fulfillment errors
● Pricing process:
○ Define Major Pricing Activities
○ Map Current Processes
○ Identify Profit Leaks
○ Redesign Process
CUSTOMER ANALYTICS
★ Customer analytics is the use of data to
understand the composition, needs and
satisfaction of the customer.
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PERFORMANCE TREND ANALYSIS