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Chapter 16
Developing A Price Structure
McGraw-Hill/Irwin
© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Managing Transactions
• In many firms, different people or organization units
play a role in price adjustments, such as various
discounts, loyalty refunds, advertising allowances,
trade deals, price promotions, freight allowances, …
• Thus, it is important to distinguish between
– List price - published or generally quoted unit price
– Invoice price - price after usual volume, trade, and cash
discounts
– Pocket price - price after all allowances , refunds and
discounts
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Discounts
• Trade- based on a distributor’s place in the
distributive sequence
• Functional- represent payment for performance of
certain marketing functions that would otherwise
be performed by the manufacturer
• Promotional- given to distributors as an
allowance for the distributors’ efforts to promote
the manufacturer’s product through local
advertising, special displays, or other promotions
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Discounts
• Cash- reward for the payment of an invoice or
an account within a specified period of time
• Advance-purchase- lower prices for early
purchases
• Peak-load pricing- higher prices during
periods of higher demand, and lower prices
during off-peak periods
• Quantity- granted for volume purchases
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Reasons for Cash Discounts
1. To encourage prompt payment of invoices
2. To reduce credit risks and the cost of
collecting overdue accounts
3. To follow industry or historical practice
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Problems of Cash Discounts
1. It may be more economical for a firm to borrow
money on a short-term basis than to offer cash
discounts
2. Large buyers may take the cash discount as a
matter of routine, even though the payment is
not made within the discount period
3. During period of inflation, many firms
experience a slow-down in the payment of bills
by customers
McGraw-Hill/Irwin
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Geographical Pricing Decisions
• F.O.B. origin pricing means the seller
quotes prices from the point of shipment
• Free On Board means it is the buyer’s
responsibility to select the mode of
transportation, choose the specific carrier,
handle any damage claims, and pay all
shipping charges
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Geographical Pricing Decisions
• Delivered pricing means the price quoted
by the manufacturer includes both the list
price and transportation costs
• Single-zone pricing- the seller receives a
different net return when transportation
costs for customers vary
• Multiple-zone pricing- delivered prices are
uniform within two or more zones
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Chapter 17
Pricing To and Through the
Channel
McGraw-Hill/Irwin
© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Legal Status of Functional
Discounts
• Discounts are lawful if they are offered to
all competing buyers of the same
distribution class on the same terms and if
the discounts accurately reflect cost
savings to the seller
– It is unlawful to discriminate in price when the
effect may be to lessen or injure competition
– Generally wholesalers have been given larger
discounts than retailers
McGraw-Hill/Irwin
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Types of Channel Structures
M
a
n
Type I
Traditional
Wholesaler
& Retailer
f
a
c
t
Type II
With
Dual
Distributor
u
r
e
Type III
Direct
to
Retailer
r
Type IV
Direct
to
End User
Dual
Distributor
Wholesaler
Retail
Sale
Retailer
E
McGraw-Hill/Irwin
u
n
Wholesale
Sale
d
Retailer
U
s
e
r
s
© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Consumer Promotions
• Price-off promotions involve temporary
price reductions to retailers with the intent
that savings will be passed along to
consumers
• Rebates reduce profits for companies and
dealers, but help move inventory, keep
product lines open, and help manufacturers
and dealers survive during difficult times
• Coupons offer buyers price reductions at
the point of sale
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Price Promotions
The underlying objective of a price
promotion to final customers should be to
focus on a price/market segment that is
more price sensitive or deal responsive
than existing buyers
If buyers do not perceive that there is a
"deal" or that there is an enhancement in
value, the discount strategy may not have
the desired impact on revenues
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Price Promotion as Price
Discrimination
Why aren’t all coupons redeemed?
• The perceived cost of redeeming coupons or
qualifying for the rebate is larger than the
perceived value of the coupon or rebate for
some buyers
– This allows the market to divide into two price
segments
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Who Redeems Coupons?
• 1. A higher percentage of coupon redemptions are
by nonloyal buyers and by buyers of low-share
brands
• 2. Higher coupon values are more likely to be
redeemed by nonbuyers than lower values. The
lower values are more likely to be redeemed by
loyal and semi-loyal buyers
• 3. Direct mail produces more redemptions by
nonbuyers
• 4. There is a lower percentage of female heads of
households employed full time in the heavy
coupon user group
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Immediate Effects of Price and
Sales Promotions
• There is a significant impact on brand sales.
• Brand switchers account for most of the
sales increase.
• The brand switching effect differs across
brands.
• Different forms of promotion have different
effects on sales.
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Intermediate Effects of Price and
Sales Promotions
• Whether promotions lead to repeat purchases
is unclear.
• The immediate sales effect is due to purchase
acceleration.
– Purchase acceleration occurs either because loyal
consumers buy larger quantities when the brand is
promoted and/or purchase the brand sooner than
normal.
– Forward buying is the purchasing of a product earlier
than normal.
• Increased price promotions can reduce baseline
sales.
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Long-Term Effects of Price and
Sales Promotions
• Concerns the ability of the brand to develop
a loyal following among its customers
– Buyers become loyal to the deal
– Consumers associate a frequently promoted
brand with lower product quality
– The strong short-term effects of price
promotions weakens over time and rarely
results in permanent shifts in category demand
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Requirements For
Segmented Pricing
• 1. Market segments must be separable.
– Sensitivities to price differences.
– Different channels of distribution available.
• Need to minimize leakage and diversion.
• 2. The different market segments must have
different price sensitivities and/or the firm
must incur different variable costs of
serving the segments.
• Price promotions provide an opportunity to differentiate
segments on the basis of price on a temporary basis.
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Advantages of Every Day Pricing
• Makes it easier to communicate to
customers and to establish a particular price
image
• May help reduce operating costs
– Reduced inventory and handling costs due to
steady and more predictable demand
– Reduced labor costs related to less frequent
temporary price reductions
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Price Matching Guarantees
• A price matching guarantee is a seller’s
policy and practice of actively matching a
lower price offered by other sellers on an
identical or similar item or refunding the
price difference for a period of time after
the sale has been made
• Effect on competition and market prices
McGraw-Hill/Irwin
© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Chapter 18
Legal Aspects of Pricing
Strategy
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
The Problem With the Justification
of Price Differentials
• This problem may arise
– 1. When a customer believes that he or she has
been illegally charged a price higher than the price
charged to other customers for the same product
– 2. When a competitor believes that a rival’s prices
are lower in markets where they both compete
than in markets where they do not compete
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The Problem With the Justification
of Price Differentials
• This problem may arise
– 3. When the government believes that competing
customers of a seller are charged different prices
– 4. When price changes might be justified to
customers, sales force, or a price control board
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Collusion
• Collusion among business rivals inevitably leads
to a monopoly outcome, typically higher prices
and profits that are shared by the colluding
organizations
• 1. Raise prices by restricting output or by dividing
the market into competition-free sub-markets
• 2. Reduce rivals’ revenues through boycotts or
predatory pricing
• 3. Impose rules of competition on the members of
the cartel
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Price Fixing
• Price fixing
Sherman Anti-Trust Act (1890)
Addresses issues related to:
– Price fixing
– Exchanging price information
– Price signaling
– Also affects issues of predatory pricing
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Price Fixing
• Exchanging price information
– A legal issue arises when there is an apparent
agreement to set prices based on the exchanged
price information
• Parallel Pricing and Price Signaling
– Parallel pricing is where firms follow price
changes made by the price leader in an industry
– Price signaling is when sellers achieve a
common understanding about prices and price
changes through public announcements
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Predatory Pricing
• Predatory pricing
– Predatory pricing is the cutting of prices to
unreasonably low and/or unprofitable levels so
as to drive competitors from the market
– If the price cutting is successful in driving out
competitors, then the price cutter may have
acquired a monopoly position via unfair means
of competition- a violation of section 2 of the
Sherman Act
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Price Discrimination
• Clayton Act (1914); Later amended by
Robinson-Patman Act (1936)
– Prohibits illegal price discrimination, not price
differences per se.
• Economic bases:
– Price differences not justified by cost differences or by
changes in demand.
– Two or more buyers of same product or service are
charged same price despite differences in costs of
serving these buyers.
McGraw-Hill/Irwin
© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Federal Trade Commission Act
• The Federal Trade Commission Act
(1914)
– Established the Federal Trade Commission,
prohibited “unfair methods of competition in
commerce, and unfair or deceptive acts or
practices in commerce”
– Wheeler-Lea Act (1938)
• Protection of the public from deceptive business
practices
• Prohibits false and misleading advertising and
provides more stringent penalties and enforcement
procedures
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The Affirmative Defenses
• Defense of meeting competition- a seller
may reduce prices in a good-faith attempt to
meet an equally low and lawful price of a
competitor
• Changing conditions of defense- prices
may be changed to reflect changing market
conditions or changes in the marketability
of the product
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© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
The Affirmative Defenses
• Cost justification defense- defense used if
the price differentials “make only due
allowance for differences in the cost of
manufacture, sale, or delivery resulting
from the differing methods or quantities in
which such commodities are to such
purchasers sold or delivered”
McGraw-Hill/Irwin
© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
Resale Price Maintenance
• Resale price maintenance is the
specification by the supplier
of the prices below or above
which channel members may not
sell the supplier's products.
The issue revolves around the
extent that manufacturers
may control prices at which
their prices are resold.
– The most important point of a
resale price maintenance
program
McGraw-Hill/Irwin
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Inc., All Rights Reserved.
Deceptive Price Promotions
• Price promotion offers can be
viewed as a healthy aspect of
price competition which
directly or indirectly helps
buyers save money. But when
such offers are false or
misleading, they become an
unfair practice that is
detrimental to both
competition and consumers.
McGraw-Hill/Irwin
© 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.