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Chapter # 16

Developing pricing


Price is the amount of money charged for a product

or service or the some of the values that consumer
exchange for the benefits of having or using the
product or service.
Fixed pricing – setting one price for all buyers
Dynamic pricing – charging different pricing
depending on individual consumers and situations.

Importance of Pricing

• Price is the only one element of marketing mix that

can generate revenue
• Most flexible element of the marketing mix
 Many companies do not handle pricing well -
• One problem – Companies are too quick to reduce
price to get sale rather convincing buyer that their
product are worth a higher price ;
• Other mistake – pricing is too cost oriented rather
customer value oriented.
Nine price-quality strategies

High Medium Low
U High 1. Premium 2. High-value 3. Super-value
4. Overcharging 5. Medium-value 6. Good-value
L Medium
T 7. Rip-off 8. False economy 9. Economy
y Low

Setting pricing policy

Selecting the pricing objective

Determining demand
Estimating cost
Analyzing competitor’s cost, price and offer
Selecting a pricing method
Selecting the final price

Step 1: Selecting the pricing objective

Five major objectives

• Survival - plagued with over capacity, intense
competition, or changing customer wants. Pricing
cover variable cost as well as a portion of fixed cost.

2. Maximum current profit - choose the price that

produces the maximum current profit, cash flow or
ROI. Company may sacrifice long run performance
by ignoring the effect of other mkt-mix, competitors
and legal restraints.

Step 1: Selecting the pricing
objective (cont…)
3. Maximum market share - higher sales volume
lead to lower unit cost - higher long run profit-set
lowest price due to price sensitive customer.
“Market penetration pricing”
4. Maximum market skimming - Setting a high price
for a product to maximize revenues.
Conditions: sufficient buyers, production cost not
high, high initial price not attract competitors, high
price communicate superior image.
5. Product quality leadership - high prices to cover
higher performance quality. 7
Step 2: Determining demand


P1 A. Inelastic Demand -
demand hardly changes with
a small change in price.
Q2 Q1
Quantity Demanded per Period

B. Elastic Demand -

demand changes greatly
with a small change in
Q2 Q1
Quantity Demanded per Period 8
Step 3: Estimating cost

Total Cost
Sum of the fixed and variable costs for a given
level of production

Variable Costs
Fixed Costs Costs that do vary directly
with the level of
(Overhead) Costs that production.
don’t vary with sales or
production levels. Raw materials, packaging
Salaries,Rent, interest
Step 3: Analyzing competitor’s
costs prices and offer

The firm take the competitor’s costs, price and

possible price reaction into account.
The firm first consider the nearest competitor’s
The firm’s positive differentiations feature

Step 4: Selecting a pricing method

Markup Pricing
Target-return Pricing
Perceived-Value Pricing
Going Rate Pricing
Auction type pricing
Group Pricing

Markup Pricing

Simplest pricing method - adding a standard markup to

the cost of the product.To illustrate mark- up cost,
suppose a manufacturer had the following cost and
expected sales.
Variable cost $ 10
Fixed cost $ 3,00,000
Expected unit sales 50,000
Unit cost = Variable cost + Fixed cost / unit sales
= 10+ $ 300000/50000 = $ 16
To earn 20% mark up on sale,
Mark-up Price = unit cost /1-desired return on sale
= $ 16 / 1-.2 = $ 20 12
Markup Pricing (cont…)

• Drawback : Mark up pricing works only if that price

actually brings the expected level of sales.

Mark-up pricing is still popular, because

• Perceived fairness to both buyers and sellers
• Sellers are more certain about costs than demand
• Minimizes price competition

Target-return Pricing

The price that would yield its target rate of return on

Target-return = Unit cost+ (Desired return* invested
capital)/ unit sales
Example: if unit cost is $16 and desired return is 20%,
invested capital $1000000, unit sales50000
=$16+(.20*$1000000) / $50000=$20

Target-return Pricing (cont…)
(Break even analysis)
Cost in dollar (thousands)

1,200 Total Revenue

Target Profit

800 ($200,000)
Total Cost
Break even point
Fixed Cost

10 20 30 40 50
Sales Volume in Units (thousands)

Break even volume = Fixed cost / (price – variable cost)

Perceived-Value Pricing

Perceived value is made up of several elements -

buyer’s image of the product performance, the
channel deliverables, the warranty quality, customer
support and softer attributes such as supplier
reputation, trustworthiness and esteem.
Price buyer – Stripped-down product & reduce
Value buyer – Keep innovating new value &
reaffirming their value.
Loyal buyer – invest in relation building & customer
Going Rate Pricing

Company sets prices based on what competitors

are charging.
The firm might charge the same, more or less than
major competitors
In oligopolistic industries, (steel,fertilizer) firms
normally charge the same price.
The smaller firms “follow the leader” changing their
price when the leader changes their price without
considering their demand or costs.

Auction type pricing

English auctions – one seller & many buyer

Dutch auctions – one seller & many buyer, or many
seller & one buyer
Sealed-bid auctions – submit one bid and do not
know other bid.

Step 6: selecting the final price

Psychological Pricing
Gain-and-risk-sharing pricing
The influence of other marketing -mix elements
Company pricing policies
Impact of price on other parties

Psychological Pricing

 Psychology considered not simply the economics.

 Price as a quality indicator
 Image pricing effectively ego-sensitive products – perfume
 Reference price a mental benchmark
 Odd number – $299 instead of $300.

Gain-and-risk-sharing pricing

Buyer may resist accepting a seller’s proposal because of

a high perceived level of risk.

The seller has the option of offering to absorb part or all of

the risk if he does not deliver the full promised value.

The influence of other marketing
-mix elements

Relationship among relative price, relative quality, and

relative advertising
Average quality-high advertising-premium price
High quality-high advertising-highest prices
High price-high advertising-lifecycle stage for market

Impact of price on other parties

Distributor and dealer

Sales force
Competitors react
Govt. Intervene and prevent

Price adaptation strategies

Geographical Pricing
Price discounts and allowances
Promotional pricing
Discriminatory pricing
Product-mix pricing

Geographical Pricing

Adjusting prices to account for the geographic location

of customers
• Uniform -delivered pricing
• Zone pricing pricing
• Basing-point pricing &
• Freight-absorption pricing

Price discounts and allowances

 Cash discount - prompt payment-2/10,net30

 Quantity discount - large volume buyers
 Functional discount- perform certain functions-
selling, storing, and record keeping.
 Seasonal discount-price reduction out of season.
 Allowances -
Trade-granted for turning in an old item when

buying a new one.

Promotional-reward for participating in ad, and

sales promotion.
Promotional pricing

 Loss-leader pricing– supermarkets and department

stores often drop the price to stimulate additional store
 Special-event pricing
 Cash rebates-Help clear inventories without cutting
the stated list price-specified time period.
 Low interest financing-Without cutting price can offer
low interest financing.
 Longer payment terms
 Warranties and service contracts
 Psychological discounting
Discriminatory pricing

 Customer segment pricing - Each segment pays

different prices for same product
 Product-form pricing - Product versions priced
according to cost
 Location pricing-Price changes with location - cost
 Image pricing – based on image pricing
 Channel pricing-price depends on whether it is
 Time pricing-Price for specific period
Product-mix pricing

• Product Line Pricing - setting price steps between

product line items - between $300 to $500.
• Optional-Product Pricing - pricing optional or
accessory products sold with the main product - car
• Captive-Product Pricing - pricing products that must
be used with the main product - film with camera.
• Two-part pricing - consisting of a fixed fee plus a
variable usage fee - telephone line.
• By-Product Pricing - pricing by-products to make the
main product price more attractive i.e. Lumber mills
• Product-Bundle Pricing - combine several products in
a bundle,offer at reduced price 29
Initiating price cuts

Several situation leads to price cuts -

excess capacity
“follow the leader price”
decline market share
drive to dominate market share through lower cost
Price cutting strategy involves possible traps –
low-quality trap
fragile-market-share trap
shallow-pockets trap

Initiating price increase

The following circumstances lead to prices increases

Cost inflation
Over demanded
Company decide whether to increase sharply or raise
it by small amount by several times.

Reaction to price change

• Customer reactions – if price cut can be interpreted

in the following ways
 the item is replaced by new one
 the is faulty & not selling well.
 the firm is financially trouble
 quality has been reduced
A price increase deter sales but carry positive some
meaning – the item is hot and represent good value.
• Competitor reactions
 Market share objective – match the price change
 profit-maximization objective – improving product
quality or increasing advertising budget. 32
Responding to competitors’ price changes

Brand leader can response several ways:

Maintain price
Maintain price and value add
Reduce price
Increase price and improve quality
launch a low-price fighter line