Title: Pricing Products: Pricing Considerations and Strategies
1CHAPTER 7
- Pricing Products Pricing Considerations and
Strategies - Objective looking at the factors when setting
prices and examining the pricing strategies by
focusing on the problem of setting prices.
2Factors to Consider When Setting Prices
- A companys pricing decisions are affected by
- internal company factors
- external environmental factors
3Internal Factors Affecting Pricing Decisions
- Internal factors that affect pricing decisions
include - the companys marketing objectives
- marketing-mix strategy
- costs
- organization
4Marketing Objectives
- Before setting a price, the company must decide
on its overall strategy (target market, and
positioning, then its marketing mix). E.g. if a
car manufacturer decides to produce a new sports
car for the high-income segment, then the company
must charge a high price. - Then the company must consider its objectives,
before setting its price. Objectives would be - survival if a company is in trouble because over
capacity, heavy competition, or changing consumer
wants, in order to survive and increase demand,
the
5- company may set a low price. Here, the profits
are less important than survival. If the prices
cover the costs, they can stay in business but
survival is only a short-term objective. - current profit maximization some companies
estimate what demand and costs will be at
different prices and choose the price that will
produce the maximum current profit. Here,
short-term financial results (cash flow) are more
important than long-run performance. - market-share leadership some companies believe
that the company with largest market share will
enjoy the lowest costs and highest long-run
profit. That is why, in order to become the
market-share leader, they set their prices as low
as possible. - product-quality leadership if a company wants to
become the product-quality leader, it charges a
high price to cover the costs of RD.
6Marketing-Mix Strategy
- Decisions made for the other marketing mix
variables affect pricing decisions. The marketer
must consider the total marketing mix when
setting prices. - There are two alternatives. Either price
positioning determines the products marketing
mix or nonprice positioning determines the
products marketing mix. - In price positioning the company makes its
pricing decision first and then makes other
marketing-mix decisions on the prices that they
want to charge. This
7- technique is called target costing which
reverses the usual process of first designing a
new product, determining its cost, and then
asking the consumers how much they can pay for
it. Instead it starts with a target cost and
price in mind and works back. E.g. Compaq
Computer Corporation calls this process design
to price. Starting with a price target set by
marketing, and with profit margin goals from
management, the company determine what costs had
to be in order to charge the target price for its
Prolinea personal computer line. - In nonprice positioning the company deemphasize
price and use other marketing-mix tools to
differentiate the marketing offer to make it
worth a higher price. They believe that the best
strategy is not to charge the lowest price
because customers do not buy on price alone.
Instead they seek products that give them the
best value for their money.
8Costs
- Costs set the floor for the price that the
company can charge for its product. The company
wants to charge a price that both covers all its
costs for producing, distributing, and selling
the product and provides a fair profit. - A companys costs are two types fixed and
variable.
9- Fixed costs (also known as overhead) are those
that do not vary with production or sales level
e.g. rent, interest, heat, executive salaries. - Variable costs vary directly with the level of
production e.g. supplies. - Total costs are the sum of the fixed and variable
costs for any given level of production. - Management wants to charge a price that will at
least cover the total production costs at a given
level of production.
10Organizational Considerations
- Management must decide who will set the prices in
the company. - In small companies, prices are set by the top
management. - In large companies prices are set by divisional
or product line managers. - In industrial markets, salespeople may be allowed
to negotiate with customers within certain price
ranges set by the top management. - In industries where pricing is a key factor
(railroads, oil companies) there are pricing
departments reporting to the marketing department
or top management.
11External Factors Affecting Pricing Decisions
- External factors that affect pricing decisions
include - the nature of the market and demand
- competition
- other environmental elements
12The Market and Demand
- Before setting prices, the marketer must
understand the relationship between price and
demand for its product with the help of the
following - pricing in different types of markets
- consumer perceptions of price and value
- analyzing the price-demand relationship
13Pricing in Different Types of Markets
- The sellers pricing freedom varies with
different types of markets. Economists recognize
four types of markets which require different
pricing methods. - under pure competition the market consists of
many buyers and sellers trading in a uniform
commodity such as wheat, copper No single buyer
or seller has much effect on the going price. A
seller cannot charge more than the going price
because buyers can obtain as much as they need at
the going price. A seller cannot charge less as
well, because they can sell all they want at this
14- price. Here, marketing research, product
development, pricing, advertising and sales
promotion play little or no role. - under monopolistic competition the market
consists of many buyers and sellers who trade
over a range of prices than a single market
price. A range of prices occurs when buyers see
differences in sellers products and are willing
to pay different prices form them. Sellers try to
develop differentiated offers (with advertising,
branding) for different customer segments. - under oligopolistic competition the market
consists of a few sellers who are highly
sensitive to each others pricing and marketing
strategies. The product can be uniform (steel,
aluminum...) or nonuniform (cars, computers).
There are few sellers because it is
15- difficult for new sellers to enter the market.
Each seller is alert to competitors strategies
and moves. If a steel company decreases its price
by 10 percent, buyers quickly switch to this
supplier. So that the other steelmakers must
respond by lowering their prices or increasing
their services. Here it is not certain that they
will get permanent results through such price
cuts. - In a pure monopoly, the market consists of one
seller. It would be a government monopoly, a
private regulated monopoly, or a private
nonregulated monopoly. Pricing is handled
differently in each case. A government monopoly
may have three objectives. (1) It might set a
price below cost because the product is important
for the buyers who cannot afford to pay full
cost. (2) Or the price might be set either to
cover costs
16- or to produce good revenue. (3) It can be set
quite high to slow down consumption. In a
regulated monopoly, the government permits the
company to set rates (but that should yield a
fair return). In a nonregulated monopoly, the
company is free to set a price at what the market
will bear. But they may not charge the highest
price for a number of reasons (1) not to attract
competition, (2) to penetrate the market faster
with a low price, or (3) to prevent government
regulation.
17Consumer Perceptions of Price and Value
- The consumer decides whether a products price is
right. That is why, pricing decisions are buyer
oriented like the other marketing-mix decisions. - Effective buyer-oriented pricing involves
understanding how much value consumers give to
the product and setting a price that fits this
value. But is not easy to measure the value
(intangible values are included e.g. taste,
environment, status) that consumers give to the
product. - If consumers perceive that the price is greater
than the products value, they do not buy the
product. If consumers perceive that the price is
below the products value, they buy but then the
seller loses from its profit opportunities.
18Analyzing The Price-Demand Relationship
- Each price that the company might charge will
lead to a different level of demand. - In the normal case, demand and price are
inversely related the higher the price, the
lower the demand. - In the case of prestige goods, the demand curve
sometimes slopes upward e.g. one perfume company
found that by raising its price, it sold more
perfume rather than less. Consumers thought that
the higher price meant a better perfume. - Most companies try to measure their demand curves
by estimating demand at different prices.
19Price Elasticity of Demand
- Marketers need to know price elasticity - how
responsive demand will be to a change in price.
If demand hardly changes with a small change in
price, we say that the demand is inelastic. If
demand changes greatly, we say that the demand is
elastic. - Buyers are less price sensitive
- when the product is unique or high quality or
prestige - when substitute products are hard to find or when
they cannot easily compare the quality of
substitutes
20- when the total expenditures for a product is low
relative to their income or when the cost of
buying a product is shared by another party. - If demand is elastic, sellers lower their price.
A lower price produces more total revenue when
the extra costs of producing and selling do not
exceed the revenue. - A. Inelastic demand
B. Elastic Demand - P2
P2 - P1
P1 - Q2 Q1
Q2
Q1 - Quantity demanded per period
Quantity demanded per period
21Competitors Costs, Prices, and Offers
- Another external factor affecting the companys
pricing decisions is competitors costs and
prices and reactions to the companys own pricing
moves. - The companys pricing strategy may affect the
nature of the competition e.g. if a company
follows a high-price strategy, it may attract
competition. A low-price strategy may stop
competitors or drive them out of the market.
Here, the company must learn the price and
quality of each competitors offer and price its
offer relative to competition.
22Other External Factors
- Some other factors must be considered when
pricing - economic conditions such as boom or recession,
inflation, and interest rates affect pricing
because they affect (1) the costs of production
and (2) consumer perceptions of the products
price and value. - resellers should be considered in pricing
because they should get a fair profit so that
they help the company to sell its products.
23- government laws that affect pricing must be
known so that the company makes sure that their
pricing policies are defensible. - social concerns the companys sales, market
share, profit goals must be viewed by societal
considerations.
24General Pricing Approaches
- Companies set prices by selecting a general
pricing approach that includes one or more of the
following factors (1) product cost, (2) consumer
perceptions of the products value - demand, (3)
competitors prices and other external and
internal factors. - Following pricing approaches are possible to use
- the cost-based approach (cost-plus pricing,
break-even analysis, and target profit pricing) - the buyer-based approach (value-based pricing)
- the competition-based approach (going-rate and
sealed-bid pricing)
25Major Considerations in Setting Price
LOW PRICE No possible profit at this price
Product costs
Competitors prices and other external and
internal factors
Consumer perceptions of value
HIGH PRICE No possible demand at this place
26Cost-Based Pricing
- A) Cost-plus pricing markup pricing
- is the simplest pricing method in which a
standard mark-up (profit margin) is added to the
cost of the product e.g. the cost of producing a
toaster is 16 and the producer wants to make a
25 profit, therefore sets the price at 20. - the biggest benefits of this approach is that
when all the companies use this approach, price
competition is minimized.
27- B) Break-even pricing or target profit pricing
- in which the firm tries to determine the price at
which it will break even or make the target
profit that it wants. - Target pricing uses the concept of a break-even
chart, which shows the total cost and total
revenue expected at different sales volume
levels. - E.g. fixed costs are 6 million, variable costs
are 5 per unit. The total revenue curve reflects
the price. If the revenue is 12 million on
800.000 units, the price is 15 per unit. -
28- At the 15 price, the company must sell at least
600.000 units to break even where the total
revenues equal to total costs, 9 million. If the
company wants to target 2 million profit, it
must sell at least 800.000 units to obtain 12
million total revenue needed to cover 10 million
total costs. - The higher the price, the lower the companys
break-even point. But as the price increases,
demand decreases. Although this approach helps
the company to determine minimum prices needed to
cover its expected costs and profits, they do not
take the price-demand relationship into
consideration.
29Break-even Chart for Determining Target Price
- Dollars
Total revenue -
Target profit (2 million) - 12
- 10
Total cost - 8
- 6
Fixed cost - 4
- 2
- 0
- 200 400 600 800
1000 Sales volume in units -
(thousands)
30Buyer-Based Pricing
- uses buyers perceptions of value as the key to
pricing. Here, the marketer set the price based
on the consumers desires and then design the
product and the other marketing-mix variables. - Cost-based pricing is product driven, but
buyer-based pricing is consumer driven.
Therefore, it begins with analyzing consumer
needs and value perceptions.
31Competition-Based Pricing
- A) Going-rate pricing
- in which a firm bases its prices on competitors
prices. The firm might charge the same, more or
less than its competitors. - Going-rate pricing is popular when elasticity of
demand is hard to measure and when the firms do
not want harmful price wars.
32- B) Sealed-bid pricing
- in which a firm bases its price on how it thinks
that competitors will price. Here, the firm wants
to win a contract and winning the contract
requires pricing less than other firms.
33New-Product Pricing Strategies
- Pricing strategies usually change as the product
passes through its life-cycle. At the
introduction stage, basically there are two types
of products - imitations of existing products and
innovative patent-protected product. - A company with an innovative patent-protected
product has two pricing strategies - Market-skimming pricing
- Market-penetration pricing
34Market-Skimming Pricing
- When a new product is introduced, the company
charges the highest price that it can to skim (as
skimming the cream on the top of the fresh milk)
the market. The objective is to earn the highest
possible gross profit. As initial sales slow
down, and competitors start to introduce similar
products, the company must lower its prices.
35- Here, the company skim off small but profitable
market segments. - Market skimming makes sense (1) when the
products quality and image support its high
price and enough buyers want it at that price,
(2) when the costs of producing a smaller volume
are not so high that they eliminate the
advantages of charging more, (3) when competitors
do not enter the market easily and cut the prices.
36Market-Penetration Pricing
- Market-penetration pricing is that setting a low
price for a new product in order to attract a
large number of buyers and a large market share. - The high sales volume results in falling costs
which helps the company to cut its price even
more. - Market-penetration makes sense (1) when the
market is price sensitive (2) When production and
distribution costs fall as sales volume
increases, (3) when the low price keeps the
competitors away.
37Product-Mix Pricing Strategies
- When the new products is part of product mix, the
strategy for setting a products price often has
be changed. Here, the firm looks for a set of
prices that maximizes the profits for the total
product mix. - The product-mix pricing strategies are
- product line pricing
- optional-product pricing
- captive-product pricing
- by-product pricing
- product-bundle pricing
38Product Line Pricing
- Companies usually develop product lines rather
than single products e.g. Nike, Kodak have
serious of products in the same product category.
In product-line pricing, the company must decide
on the price steps to set between the various
products in the line. - The price steps should take into account (1)
cost differences between the products, (2)
customer evaluations of their different features,
(3) competitors prices. Here, the marketers task
is to establish perceived quality differences
that support the price differences.
39Optional-Product Pricing
- Optional-product pricing offers to sell optional
or accessory products along with their main
product e.g. nowadays automobile companies like
Ford offer a set of popular options such as air
conditioning, power windows and door locks, and a
rear window defroster at a package price.
40Captive-Product Pricing
- Captive-product pricing is setting a price for
products that must be used along with a main
product. - Producers of the main products (e.g. computers,
cameras...) often price them low but charge more
for the supplies e.g. Polaroid prices its cameras
low but camera films high where it makes its
profit. Or Gilette sells low-prices razors but
makes money on the replacement blades.
41- This strategy is called two-part pricing. The
price of the service is broken down into a fixed
fee plus a variable usage rate. E.g. a telephone
company charges a monthly rate (the fixed fee)
plus charges for extras (the variable usage
rate). Amusement parks charge admission plus fees
for food, attractions and rides over a minimum
number. The fixed amount should be low enough to
attract usage of the service profit is made on
the variable fees.
42By-Product Pricing
- Setting a price for by-products in order to make
the main products price more competitive. - In by-product pricing, the manufacturer looks for
a market that would buy the companys by-products
and accepts the price that covers more than the
cost of storage and delivery.
43Product-Bundle Pricing
- Combining several products and offering the
bundle at a reduced price. E.g. season tickets of
sports teams is cheaper than the cost of single
tickets, hotels and agencies special priced
packages, software packages of computer makers. - This approach can promote the sales of products
that consumers might not otherwise buy, but the
combined price must be low enough to get them to
buy the bundle.
44Price-Adjustment Strategies
- Companies adjust their prices according to the
differences in customers and changing situations.
There are several price adjustment strategies - discount and allowance pricing
- segmented pricing
- psychological pricing
- promotional pricing
- geographic pricing
- international pricing
45Discount and Allowance Pricing
- Discount is a straight reduction in price on
purchases during a stated period of time. There
are different types of discounts - cash discount is a price reduction to buyers who
pay their bills promptly. - quantity discount is a price reduction to buyers
who purchase in large volume. - functional discount (trade discount) is offered
by the seller to trade channel members who
perform certain functions like selling, storing,
record keeping. - seasonal discount is a price reduction to buyers
who purchase merchandise or services out of
season.
46- Allowances are another type of reduction from the
list price. - trade-in allowances are price reductions given
for turning in an old item when buying a new one
which is common in the automobile industry - promotional allowances are payments or price
reductions to reward dealers for participating in
advertising and sales-support programs.
47Segmented Pricing
- Adjusting the basic prices to allow differences
in customers, products, and locations. In this
approach, the company sells a product or service
at two or more prices. There are different
segmented pricing forms - in customer-segment pricing different customers
pay different prices for the same product or
service e.g. museums charge students and senior
citizens lower.
48- in product-form pricing different versions of
the product are priced differently but not
according to differences in their costs e.g. the
most favorite or top model of the product line
may have higher price. - in location pricing a company charges different
prices for different locations, even though the
cost of offering each location is the same e.g.
theatres vary their seat prices, universities
charge higher tuition for out-of-state students - in time pricing a firm varies its price by the
season, the month, the day, and even the hour
e.g. telephone companies offer lower off-peak
charges, resorts give seasonal discounts.
49Psychological Pricing
- Price says something about the product,
especially about its quality. - in psychological pricing sellers consider the
psychology of prices rather than economics. - E.g. Heublein priced its new vodka brand high
against Smirnoff which gave the customers the
impression that Heublein is better than Smirnoff,
therefore, the sales grow rapidly. - The difference between 300 and 299.95 is just
five cents but the psychological difference can
be much greater. Some consumers will see the
299.95 as a price in the 200 range rather than
the 300 range.
50Promotional Pricing
- Temporarily pricing products below list price,
and sometimes even below cost, to increase
short-run sales. There are several forms - loss leaders supermarkets generally price a few
items as loss leaders to attract customers to the
store in the hope that they will buy other items
at normal markups.
51- special-event pricing products are priced low in
certain seasons to draw more customers. - cash rebates are offered to customers who buy
the product from dealers within a specified time.
Rebates would be offered as low-interest
financing, longer warranties, or free maintenance
to reduce the consumers price. - discounts would be offered to reduce the price
for the customer.
52Geographic Pricing
- Deciding how to price products for customers
located in different parts of the country or
world. Here, the company must decide whether to
charge the distant customers higher to cover its
shipping costs. - in FOB-origin pricing (free-on-board) the
customer is responsible to pay for the shipping. - in uniform delivery pricing the company charges
the same price plus the average shipping cost,
regardless of the customers location.
53- in zone pricing the company sets up two or more
zones. All customers within a given zone pay a
single total price the more distant the zone,
the higher the price. - in basing-point pricing the seller selects a
given city as a basing point and charges all
customers the shipping cost from that city to the
customer location. - in freight(cargo)-absorption pricing the seller
absorbs (covers) all or part of the actual
freight (shipping) charges to get some desired
customers.
54International Pricing
- Companies that market their products
internationally must decide what prices to charge
in different countries. - The company either set a uniform price or adjust
their prices to reflect local market conditions. - Factors that influence price adjustment would be
- economic conditions
- competitive situations
- laws and regulations
55- costs e.g. a pair of Levis is sold for 30 in the
US, but 63 in Tokyo and 88 in Paris. Or
McDonalds Big Mac is 2.25 in the US but 5.75
in Moscow. - Selling strategies and market conditions e.g. a
Gucci handbag is 60 in Milan but 240 in the US.