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Pricing
What Is a Price?
• Narrow Definition: The amount of money
charged or paid for a product or service.
• Broad Definition: The sum of all values
consumers exchange for the product or
service.
– Time Costs
– Cognitive and Emotional Costs
– Transaction Costs
Internal and External Factors Affect Prices
Value-Based Pricing vs. Cost-Based Pricing
Internal Factors Affecting Pricing Decisions
• Company and Product Costs:
– Fixed Costs:
• Costs that do not vary with production or sales level.
– Variable Costs:
• Costs that vary directly with the level of production.
Cost-Based Pricing Methods
• Cost-plus pricing
– Add a standard markup to the cost of the product
• Break-even pricing
– Pricing to break-even (Why?!)
• Target-profit pricing
– Pricing to meet a profit objective.
• Formulas
– Standard Markup
– Break-even
– Target Profit
Break-Even Chart for Determining Price
Internal Factors Affecting Pricing Decisions
• Marketing Mix Strategy:
– Price must be coordinated with the other three P’s
(Product, Promotion and Place) to form a
consistent and effective marketing program.
External Factors Affecting Pricing Decisions
• The Market and Demand:
– Costs set price floors; demand sets price ceilings.
– Supply and Demand Curves
– Pricing in different types of markets:
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Pure competition
Monopolistic competition
Oligopolistic competition
Pure monopoly
– Price elasticity of demand.
– Cross price elasticity of demand.
What kind of markets do the following
companies/products compete in?
(Pure competition, Monopolistic Competition, Oligopoly, or Pure Monopoly)
External Factors Affecting Pricing Decisions
• Competition’s Prices Affect Our Price
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What are our competitors charging? How and Why?
Will our pricing attract, restrict, or drive out competitors?
How does our value compare to the competition’s?
How strong/permanent are current competitors?
How does competition influence price sensitivity?
Avoiding price wars
• Other External Factors
– Economy
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Inflation
Purchasing Power
Business Cycle (Boom, Recession, Depression)
Counter-cyclical products
Questions du Jour
Which products sell better in a lousy economy?
Can companies ever raise prices in a lousy
economy?
New-Product Pricing Strategies –
Market Skimming
– Initially set a high price
for a new product so as
to “skim” revenues
layer by layer from the
market.
– Lower prices over time,
“skimming” revenue
from different demand
tiers.
– Initially make fewer, but
more profitable sales.
• Best used when:
– Higher quality /
”premium” product.
– Lower Fixed Cost
structure.
– Competitors with similar
quality cannot easily
undercut price.
New-Product Pricing Strategies –
Penetration Strategy
– Set a low initial price
so the brand to
“penetrates” the
market quickly.
– Eventually raise prices
when wide adoption
and brand loyalty have
been achieved.
• Best used when:
– Market is highly price
sensitive.
– High fixed cost structure.
– Need to keep
competition out or
effects are only
temporary.
Which pricing strategy (skimming
or penetration) is normally used
when a new prescription drug is
introduced in the U.S.?
Why?
Product Mix Pricing Strategies
• Product line pricing
• Optional-product
pricing
• Captive-product pricing
• By-product pricing
• Product bundle pricing
Product Line Pricing
• Sets price steps between
various product line items
based on:
– Cost differences between
products
– Customer demand for
additional/different
features
• Price-Value Gradients
Optional-Product Pricing
• Definition:
– Pricing optional or accessory products sold with
the main product
– Examples:
• Cruise control added to basic car.
• Computer sold with additional RAM (memory)
• Rental car sold with “luxury” or size upgrade
– Often abused in “Bait and Switch” tactics
Captive-Product Pricing
• Definition:
– Pricing products that must be used with the main
product
– Base product is relatively “cheap” or free
– Replacement product is relatively “expensive”
– Examples:
• Replacement cartridges for Gillette razors.
• Toner/ink for HP printers.
• Replacement car parts sold at car dealers
Product Bundle Pricing
• Definition:
– Multiple products sold together for one price
– Creates perception of savings
– Eases decision-making and ordering for consumers
– Examples:
• Computer package: PC, monitor, software, and printer.
• McDonald’s Value Meal: Burger, Fries and Drink
• Vacation package: Flight, hotel and meals
Question du Jour
When are companies better off bundling prices?
When are companies better off charging
separate prices for each item?
Price Adjustment Strategies
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Discount and allowance pricing
Price discrimination (Segmented pricing)
Psychological pricing
Promotional pricing
Dynamic pricing
Discounts and Allowances
• Discounts
– Cash
– Quantity
– Seasonal
• Allowances
– Trade-in
– Promotional
Seasonal Discount: Christmas cards purchased out of season, such as
in March or July, are often sold at a discount.
• Dangers of discounts
Price Discrimination
(Segmented Pricing)
• Definition:
– Selling a product or service for
different prices to different people,
where differences in price are not
driven by different costs.
• Types:
1. First Degree – by person
2. Second Degree – self-selection
(menus)
3. Third Degree – by market
Pricing at Disney World
hotels varies by time of year.
Psychological Pricing
• Considers the psychological effects of prices –
usually irrational responses.
• Economic consideration of prices diminished.
• Standard practice among most retailers
Even-Odd Pricing
• Why do marketers use the following prices?
Question du Jour
What impression are consumers left with when
they see even-numbered prices like
$12 ?
Price as Signal of Quality
• The typical Price-Quality Inference
• Effects of price changes on quality inferences
• When pricing is NOT used as a quality signal
– Extensive product knowledge/expertise
– Repeat buys
Reference Prices
• What is a fair price for gas?
Possible Consumer Reference Prices
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“Fair Price”
Average Price
Typical price
Last price paid
Upper-bound price
Lower-bound price
Competitor prices
• Expected future price
• Usual discounted price
• Phantom prices
Promotional Pricing Techniques
• Cash Rebates
• Special-Event Pricing
• Loss Leaders
• Low-Interest (or
Free) Financing
• Deals (BOGOs)
• Clearance Sales
Promotional Pricing –
Deals, Clearance Sales and 0% Financing
Promotional pricing creates
excitement and a sense of urgency.
Hi-Low Pricing vs. EDLP
Which strategy is more profitable?
Dynamic Pricing
Adjusting prices continually to
meet the characteristics and
needs of continuously changing
supply and demand.
Internet Price Shopping
Have consumers benefitted?
Initiating Price Changes
• Price cuts
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Falling sales or market share – demand issues
Grab market share from competitors
Lower production/service costs
Respond to competitor’s price drop
Consumers have less purchasing power
• Price Increases
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Cost inflation
Over-demand
Match competitor’s increase
Market leadership
Time
When Cutting Price is a Bad Idea
How would consumers likely
react if Joy suddenly cut its
price in half?
Assessing and Responding to
Competitor Price Changes
Public Policy Issues in Pricing