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Chapter 1 introduction to strategic pricing

Strategic pricing refers to maximize profit by making informed trade offs between price and
volume ( lower price to drive volume / give up volume by raising price)

Characteristics of strategic pricing

- Proactive = It involves analyzing market trends, customer behavior, and competitive
factors to determine the optimal pricing strategy.
- Profit driven = businesses will set prices based on a balance between customer
demand and the costs of production, to ensure that profits are optimized.
- Value based = businesses will set prices based on the perceived value of the product
or service to the customer, which can result in higher prices for products or services
that provide more value.

Elements of pricing strategy pyramid (bottom to top)

1. Value creation = identifying the value that the product or service offers to customers
and understanding how that value compares to competitors to establish a competitive
advantage.
2. Price and offer structure = involves determining the price of the product or service
and the structure of the offers. This includes deciding on pricing tiers, discounts, and
promotions that will attract and retain customers.
3. Value communication = involves effectively communicating the value of the product
or service to your target market. This involves creating a messaging strategy that
highlights the benefits of the product or service and how it solves customers' pain
points.
4. Pricing policy = involves establishing guidelines for pricing decisions and ensuring
that they are consistent with your business objectives. This includes setting minimum
and maximum prices, establishing price floors and ceilings, and developing pricing
rules for specific products or services.
5. Price setting/ level = involves determining the actual price of your product or service.
This can involve analyzing your costs, conducting market research, and setting
prices based on the value that your product or service offers to customers.

Tactical pricing orientations

- Cost driven pricing = price every product to yield a fair return over full cost
Total cost + volume = unit cost = target price (unit cost change with volume)
Change in revenue - change in variable cost= positive, more revenue is earned
Change in revenue - change in variable cost = negative, less revenue is earned.
- Customer driven pricing = pricing should reflect market conditions, based on how
much the customer is willing to pay. Authority is shifted to sales and product
manager. Problems: customers are rarely honest on how much they are willing to
spend and risks of product being underpriced.
- Competition driven pricing = price is determined by competitive conditions. Problems:
more market share may not translate to more profit. Price cutting is effective only for
the short term, long term cost of price cutting usually exceeds the short term benefit.
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Chapter 2 economic value

Value in pricing
Use value exchange/ economic value

The utility gained The maximum price that a fully informed customer
from using the would pay.
product/services
Total economic value = reference value +
Consumer differentiation value
surplus= use
value - market Reference value: the price of the customer’s best
price alternative

Differentiation value: The value to the customer

(+/-) of any differences between your offering and
the reference product.
- Monetary: cost savings or income
- Psychological: satisfaction.

Challenges in determining reference prices

- Product may not have a single competing product that customers would consider a
suitable alternative.
- Competitive prices may not publicly available/ may subject to negotiations
- Differences in service level and volume can result in seemingly irrational competitive
prices.

Value driver algorithms

Cost drivers Algorithm

Reduction in mounting cost (Current mounting costs) x (percent reduction in mounting

costs)

Reduction in procurement (Reduction in procurement costs) / (Number of units

cost ordered)

Reduction in defective board (Reduced number of defective board) x (cost per board) /
handling cost (number of units ordered)

Revenue drivers Algorithm

New contracts (Number of contractors as a percent of upgrade business) x

(percent of business a customer wins due to lower cost bids) x
(average contribution per contract)

Increased (Percent increase in throughput per measurement) x (dollar

throughput contribution per measurement) x (average number of
measurement)

Estimating monetary value

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1. Consider only the value of the difference between your product and the next best
competitive alternative product
2. Measure the differentiation value either as cost saved to achieve a particular benefit
or as extra benefits achieved for an identical cost.
3. The percentage increase in value may not be proportional to the percentage increase
of the effectiveness of the product.

Estimating psychological value

Conjoint analysis: (trade off analysis) (probabilistic methodology) that decomposes a
product into groups of features for customers to choose among various feature sets to
understand which they prefer that is used for optimizing product features, price elasticity,
optimal price point, willingness to pay, forecasting product demand, and value in brand.

Value based segmentation refers to segmentation based on actual value perceived and
delivered to customers. Most other segmentation criteria correlate poorly with buyer’s
motivation to pay higher/lower prices.

Determine basic segmentation criteria → identifying discriminating value drivers →

determine operational constraints and advantages align with the value driver → create
primary and secondary segments → create detailed segment descriptions → develop
metrics and fences.

Chapter 3 price structure

Mechanism of segmented pricing
- Price offer configuration: can be configured for different segments based on the
different value associated with features, service, or both.
: offer bundles = single price for a bundle of features reduced transaction
costs, customers are less sensitive to the cost of value added features and services
when bundled as a single expenditure.
: selective uglification = adding features to the lower priced segment so that
the offer becomes unattractive to the higher priced segment.
- Price metrics: price metrics are the units to which the price is applied. Most metrics
are adopted by default or by tradition only. An effective metric can be a competitive
advantage to businesses. Facilitating different pricing for the same offer.
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: performance-based metric = ties what the customer pays for

product/service directly to the economic value received and incremental cost to
serve.shift the performance risk from buyer to seller, can be impractical if it requires
the buyer to provide performance information. Ex: internet ad pay per click through
instead of per exposure.
: Tie-Ins : contractually/technologically requires buyers to use the product
with materials sold by the seller at premium price. Effective for low knowledge buyers
or those who are reluctant to invest in a new product. Ex: HP prices their printers low
to make them competitive and prices the consumable inks at premium.
- Price fences: price fences are a means to charge different customers different
prices. Fixed criteria that customers must meet to qualify for a lower price.
: Buyer identification fences = based on observable characteristics that
signal buyers’ price sensitivity. Deal Proneness refers to a customer’s general
inclination to use promotional deals such as buying on sale or using coupons.
: purchase location fences = charging different prices to different locations
considering price sensitivity, cost, and competitions. Freight absorptions refers to
shipping costs that are handled by the seller to provide lower cost to the buyer in
selective location.
: time purchase fences = charging higher price when less price sensitive
customer at times they naturally purchase and charge lower price when it would be
inconvenient for them to purchase. There must be a natural difference in time of
purchase patterns for different segments of buyers.
: purchase quantity fences = practice of setting different prices for a product
or service based on the quantity purchased.
→ volume discount
→ order discount
→ step discount = decrease in prices as customers purchases more.
→ two-part pricing = charging customers both fixed fee and variable
fee based on their usage.

Chapter 4 price and value communication strategy

Importance of price and value communications
- Protect the product’s value proposition from competitions.
- Improve willingness to pay
- Increase the likelihood of purchase.
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Elements of price perception

- Proportional price evaluation
: Webber -Fechner effect = the tendency to evaluate price differences
proportionately.
: price perception depends on the percentage, not the absolute difference
: a series of smaller price increases is more successful than one large
increase. Buyers respond more to one large price cut than to a series of smaller
discounts.
: ex: a promotion of 50% discount/ cashback sounds more attractive even
though the value is only a small amount of money.
- Perceived fairness = Customer/s perceived fairness judgment is influenced by the
presumptions about the seller’s motives.
: Price cut during slow season to increase sales implies a “good” motive,
while price increase during high demand implies “bad” motive.
- Gain - loss framing = customers tend to evaluate prices in terms of gains or losses
from an expected price point.
: “save”, “free”, “extra”, imply gains….. Where “additional chargers”,
“surcharges” imply losses.
- Competitive reference effect = buyers will always compare prices of similar
products. When presented with 2 options, buyers typically choose the cheaper
options, while with 3 options, buyers may choose the one in the middle as a “save”
decision where it is neither the cheaper (lower quality) nor the most expensive ( too
expensive).
Buying Process
1. Origination = Customer becomes aware of need through a variety of mechanisms
some of which can be influenced by the seller.
2. Information gathering = customer collects initial product data with the objective of
narrowing down the choice.
3. Selection = customer gathered more detailed information to make a choice based on
price and value.
4. Fulfillment = customer selects distribution channel from which to make purchases
and conducts transactions.

Chapter 6 price level

Challenges in price setting
- Understanding customer demand = analyzing the target market and determining the
price sensitivity of the customers.
- Competitor pricing = setting prices too high leads to customers turning to cheaper
products, while setting the prices too low will be perceived as low quality
products/services.
- Cost of production = the price set must be able to cover the production cost while
gaining profits.
- Market conditions = customers may be more price sensitive during an economic
downturn.
- Regulatory environment = some industries are heavily regulated such as
pharmaceutical companies.
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Price setting process

1. Define the price window = set the initial price range based on differential value and
relevant cost.
2. Set the initial price = determine the amount of different value to be captured with
price
3. Communicate the price to the market = develop a communication plan to ensure
prices are perceived to be fair.

Price window = range of acceptable price

Considerations in setting the initial price

1. Alignment with overall business strategy = price level should reinforce the overall
business strategy
2. Price volume trade- offs = costs are either fixed or variable. For fixed cost, small
decrease in price requires much smaller decrease in volume, while for variable cost,
small decrease in price requires large increases in volume.
3. Customer response = non value related factors, is the expenditure small? Is the price
unfair for customers?

Pricing objective
1. Skimming = maximize profit by selling off the full stock of the item and making sure
that it was sold at the highest price possible.
: the initial price is set high (near the ceiling), and will gradually lower down.
When demand is high, the price increases, while the demand drops off, it allows the
leftovers to not end up in the warehouse.
: condition: when customers are not price sensitive and product/service is
superior to the competitors.
2. Penetration = setting low price for a new product in order to penetrate the market
quickly and deeply.
: the initial price is set low (near the floor).
: the market must be highly price sensitive so a low price produces more
market growth. Production/distribution cost must fall as sales volume increases.
3. Neutral = the strategy focuses less on price, and more on product, place, and
promotion.
: is used when the condition is such that neither skimming or penetration
can be used. Such as the product is superior, but the market is price sensitive and
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the product is not much different from the ones in the market, but the market is not
price sensitive.

Price sensitive drivers

1. Size of expenditure = buyers are less sensitive to the prices of small expenditures
which in the case of household, id defined relative to income.
2. Shared costs = buyers are less price sensitive when some or all of the purchase
price is paid by others.
3. Switching costs = buyers are less price sensitive to the price of product the greater
the added cost (both monetary & non) of switching supplier.
4. 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 are high.
5. Importance of end benefit = buyers are less price sensitive when a product is a small
part of the cost of a benefit with high economic or psychological importance.
6. 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.
7. References prices = buyers are more price sensitive the higher the product's price
relative to the buyer's price expectation.
8. Perceived fairness = buyers are more price sensitive to a product's price when it is
outside the range that they perceived as fair or reasonable.
9. Price framing = buyers are more price sensitive when they perceive the price as a
loss rather than gain. They are more price sensitive when the price is paid separately
and not as a bundle.

Determining sensitive drivers

1. Price experimentation = test on a controlled sample of customers. Works when cost
of implementing is low.
2. Purchase intention surveys = used when price experimentation is impractical
3. Structured inference = leverage managerial knowledge with appropriate analysis.
4. Incremental implementations = test by making incremental change, used when price
changes are not costly to make or reverse.
5. Simulation = systematically explore the effects of competitor reactions to customer
responses to a price change.

WHEN COMMUNICATING THE NEW PRICE TO THE MARKET CUSTOMER MUST

UNDERSTAND THE RATIONALE FOR THE CHANGE AND MUST BELIEVE THAT THE
CHANGE IS FAIR.

Chapter 7 price competition

Game theory
- Positive- sum games = those in which value is created for participants, simply by
participating in competition. Ex. Competing by creating innovative products/services
- Negative-sum games = those in which the process of competition imposes costs on
the participant. The longer the conflicts, the more likely it is for the winner to find that
playing was not worth the costs Ex. Competing through price wars.

3 ways to achieve competitive advantage

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- Needs based positioning = serving the needs of only a particular customer segment
by tailoring the operations to meet the unique needs of the segment more cost
effectively. Ex. Javara
- Access based positioning = Access can be a function of geography or customer
scale providing a unique cost and service advantage. Ex. Indomaret
- Focus based positioning = developing a unique capability to do one of more narrowly
focused activities that add value to the value chain across industries. A focused
supplier must closely monitor and coordinate its operations with other suppliers. Ex.
Moka

Responses to competitive pricing

1. Ignore = keep the existing price
2. Accommodate = adjust the company strategy to minimize the impact
3. Respond = reduce the price to eliminate competitor (attack) or reduce the price to
convince the competitor to back off (defend)

Flow chart of reacting to competitor

Strategic position refers to the cost structure of the company. The cost of reacting to
price refers to the profit reduction resulting from lowering the price to match the competitors
price.

When should companies compete on price?

- When the company's low price is a competitive advantage that the competitors are
unable to match
- When the company's product offering is attractive to a small share of the market,
making retaliatory actions by the competitor unlikely.
- When the company can effectively subsidize losses in one market because it can
generate by selling complementary products.
- When the price competition expands a market sufficiently that industry profitability
can still grow.
How to selectively communicate information?
- Pre-announce price increases
- Show willingness and ability to defend
- Backup opportunities with information.
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ME Review

ROBLOX CASE 1
a.Which mechanism(s) of segmented pricing is(are) used by ROBLOX? (chp 3)
Based on the three mechanisms of segmented pricing (price-offer configuration, price
metrics, and price fencing), ROBLOX primarily utilizes price fencing as a mechanism of
segmented pricing.

Price fencing involves setting different prices for different customer segments based on
predefined criteria, such as location, membership level, or purchase history. It aims to create
barriers or distinctions between customer segments to capture different levels of willingness
to pay.

ROBLOX adjusts prices based on geographic location (market demand and purchasing
power may vary in each country or region), offers different pricing tiers for premium
memberships which are ‘classic’, ‘turbo’, and ‘outrageous’ (users can choose between
monthly or annual subscription plans), and provides personalized pricing or discounts based
on users' purchase history (eg: users who’ve made frequent purchases in the past may be
offered special discounts or promotions as an incentive to continue spending on the
platform). Price fencing allows ROBLOX to cater to different segments of users with varied
pricing options.

Note:Price-offer configuration involves offering varied prices or promotions to

customer segments based on demographics, behavior, or market conditions. It
includes strategies like discounts or customized pricing. Price metrics use different
pricing units based on consumption or usage, such as quantity, time, or service level,
allowing for pricing flexibility based on customer usage.

b.Based on how the pricing scheme is presented, which elements of price perception
are used? (chp 4)
The perceptions of pricing communications refer to how customers perceive and interpret
pricing information provided by businesses. They include proportional price evaluation,
gain-loss framing, perceived fairness, and reference price.

Roblox uses gain-loss framing to highlight potential savings or benefits of longer-term

commitments by offering monthly or annual plan options, encouraging users to perceive
these plans as cost-effective (with lower monthly prices for annual subscriptions).

Roblox uses perceived fairness to emphasize additional benefits of higher-priced

subscription plans, allowing users to assess the level of service and make judgments about
the price fairness based on perceived value.

Roblox uses reference price as a pricing tactic by offering different pricing tiers for premium
memberships, allowing users to compare and evaluate the value of each plan relative to a
standard or reference price. This can impact users' perception of value and willingness to
pay for different membership options.
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Roblox prioritizes subjective customer perceptions (perceived fairness) over objective

economic factors (proportional price evaluation) in its pricing strategy.

Note: Proportional Price Evaluation refers to customers evaluating the price of a

product or service in relation to its perceived value or affordability. Customers may
compare the price of a product or service with their perception of its benefits,
features, or quality to determine if it is worth the cost.

c.Which price sensitivity drivers are relevant in communicating the pricing structure
of the Builders Club? (chp 6)
Price sensitivity drivers help businesses understand how customers react to pricing
changes. Businesses use these drivers to optimize pricing decisions for revenue, profitability,
and customer satisfaction. They also enable segmentation, customization, and effective
pricing tactics for competitive advantage. Price Sensitivity Drivers include:
•Size of Expenditure - Customers are more price sensitive when the amount they spend on a
product or service is significant relative to their overall budget. Higher-priced items or
services are often subject to more price scrutiny compared to lower-priced ones.
• Shared Costs - Customers who share the costs of a product or service with others tend to
be more price sensitive due to less control over the pricing decision
• Switching Costs - Customers who face high costs, both monetary and non-monetary, when
switching from one product or service to another are often less price sensitive. Eg: High
contract termination fees reduces price sensitivity
• Perceived Risks - Customers may be more price sensitive when they perceive higher risks
associated with a product or service
• Importance of end-benefit - Customers tend to be more price sensitive when the
end-benefit they derive from a product or service is perceived as less important (eg: want <
need).
• Price Quality Perceptions - Customers associate higher prices with higher quality, so they
can be less price sensitive if they suspect a high-priced product has high quality
• Reference Prices - Buyers are more price sensitive the higher the product’s price relative to
the buyer’s 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 a forgone “gain”. They are more price sensitive when the price is paid separately
rather than as part of a bundle.

The drivers that are relevant in communicating the pricing structure of the Builders Club
include:
1. Size of expenditure: for monthly subscriptions
2. Shared costs: if paid by parents
3. Perceived risks: free (for trials)
4. Reference prices: as explained in the price perceptions 1b)
5. Perceived fairness: as explained in the price perceptions
6. Price framing: as explained in the price perceptions

d.Which communication strategy (based on relative cost of search and type of

benefit) is most suitable for Roblox’s Builders Club?
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As Roblox is considered to be a low-involvement product that provides psychological

benefits in the form of fun rather than economic benefits, the most suitable communication
strategy for Roblox's Builders Club would be to highlight the psychological benefits of playing
the game and provide assurance through gaming influencers. This approach can help
convey the message that playing Roblox is enjoyable and fun, using influencers to create a
sense of trust and excitement among potential customers.

ROLLED ICE CREAM CASE 2

a. Calculate the economic value of the rolled ice cream.
Economic Value = Reference Value + Positive Dilterentiation Value - Negative Differentiation
Value
Economic Value = $3.00 ÷ $1.00 + $0.50 - $0.50 = $4.00 (positively differentiated offering)

b. Identify the price window of your rolled ice cream by calculating the price
floor and the price ceiling. (chp 6)
Price window = between price floor and price ceiling / between reference value and econ
value
Price floor = reference value
Price ceiling = economic value
Price window = $3.00 - $4.00

c.Which pricing strategy do you think is the most suitable for the new ice cream
parlor: skimming, penetration, or neutral? (chp 6)
• Skimming is used for superior/unique products where customers are not price sensitive.
Initial price is high and gets lower as more competitors enter the market.
• Penetration is used when many similar products exist in the market where customers are
price sensitive. Price is low at first and gets gradually higher as demand grows over time.
• Neutral is used when neither skimming nor penetration can be applied.

(Is rolled ice cream a unique product or just another fad of ice cream?
Are the customers typically price sensitive or not?)
Rolled ice cream isn’t a unique product in which customers are typically price sensitive,
hence, penetration pricing strategy is appropriate.

d.Based on your answer in (c), please set the initial price.

For a price window between $3.00-$4.00,
when penetration pricing is used, initial
price will be $3.00.