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Chapter 6
Pricing and Revenue
Management
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 1
What Makes Service Pricing Strategy Different
(and Difficult)?
 No ownership of services--hard for firms to calculate
financial costs of creating an intangible performance
 Variability of inputs and outputs--how can firms define a
“unit of service” and establish basis for pricing?
 Many services hard for customers to evaluate--what
are they getting in return for their money?
 Importance of time factor--same service may have more
value to customers when delivered faster
 Delivery through physical or electronic channels--may
create differences in perceived value
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 2
Objectives of Pricing Strategies
 Revenue and profit objectives
 Seek profit
 Cover costs
 Patronage and user base-related objectives
 Build demand
 Build a user base
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 3
The Pricing Tripod (Fig. 6.1)
Pricing Strategy
Competition
Costs
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Value to customer
Services Marketing 5/E
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Three Main Approaches to Pricing
 Cost-Based Pricing
 Set prices relative to financial costs
(problem: defining costs)
 Competition-Based Pricing
 Monitor competitors’ pricing strategy
(especially
if service lacks differentiation)
 Who is the price leader? (one firm sets the pace)
 Value-Based
 Relate price to value perceived by customer
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 5
Activity-Based Costing: Relating Activities to
the Resources They Consume
 Managers need to see costs as an integral part of a firm’s
effort to create value for customers
 When looking at prices, customers care about value to
themselves, not what production costs the firm
 Traditional cost accounting emphasizes expense
categories, with arbitrary allocation of overheads
 ABC management systems examine activities needed to
create and deliver service (do they add value?)
 Must link resource expenses to:
 variety of products produced
 complexity of products
 demands made by individual customers
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 6
Net Value = (Benefits – Outlays)
(Fig. 6.3)
Effort Time
e
Perceived
Outlays
Perceived
Benefits
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 7
Enhancing Gross Value
 Pricing Strategies to Reduce Uncertainty
 service guarantees
 benefit-driven (pricing that aspect of service that creates value)
 flat rate (quoting a fixed price in advance)
 Relationship Pricing
 non-price incentives
 discounts for volume purchases
 discounts for purchasing multiple services
 Low-cost Leadership
 Convince customers not to equate price with quality
 Must keep economic costs low to ensure profitability at low price
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 8
Paying for Service:
The Customer’s Perspective
Customer “expenditures” on service comprise both
financial and non-financial outlays
 Financial costs:
 price of purchasing service
 expenses associated with search, purchase activity, usage
 Time expenditures
 Physical effort (e.g., fatigue, discomfort)
 Psychological burdens (mental effort, negative feelings)
 Negative sensory burdens (unpleasant sensations affecting any
of the five senses)
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6- 9
Determining the Total Costs of a Service
to the Consumer (Fig. 6.4)
Price
Search Costs
Related Monetary
Costs
Time Costs
Purchase and
Use Costs
Operating Costs
Incidental
Expenses
Physical Costs
Psychological
Costs
Sensory Costs
After Costs
Necessary
follow-up
Problem
solving
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 10
Trading off Monetary and Non- Monetary Costs
(Fig. 6.5)
Which clinic would you patronize if you needed a chest
x-ray (assuming all three clinics offer good quality) ?
Clinic A
Clinic B
 Price $45
 Located 1 hour away
by car or transit
 Next available
appointment is in 3
weeks
 Hours: Monday –
Friday, 9am – 5pm
 Estimated wait at
clinic is about 2
hours
 Price $85
 Located 15 min
away by car or
transit
 Next available
appointment is in 1
week
 Hours: Monday –
Friday, 8am – 10pm
 Estimated wait at
clinic is about 30 45 minutes
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
Clinic C
 Price $125
 Located next to
your office or
college
 Next appointment
is in 1 day
 Hours: Mo –Sat,
8am – 10pm
 By appointment estimated wait at
clinic is about 0 to
15 minutes
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Increasing Net Value by Reducing
Non-financial Costs of Service
 Reduce time costs of service at each stage
 Minimize unwanted psychological costs of service
 Eliminate unwanted physical costs of service
 Decrease unpleasant sensory costs of service
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 12
Revenue Management: Maximizing Revenue
from Available Capacity at a Given Time
 Based on price customization - charging different customers
(value segments) different prices for same product
 Useful in dynamic markets where demand can be divided
into different price buckets according to price sensitivity
 Requires rate fences to prevent customers in one value
segment from purchasing more cheaply than willing to pay
 RM uses mathematical models to examine historical data
and real time information to determine
 what prices to charge within each price bucket
 how many service units) to allocate to each bucket
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 13
The Strategic Levers of
Revenue (Yield) Management
Price
Duration
Fixed
Predictable
Variable
Quadrant 1:
Quadrant 2:
Movies
Stadiums/Arenas
Function Space
Hotel Rooms
Airline Seats
Rental Cars
Cruise Lines
Unpredictable
Quadrant 3:
Quadrant 4:
Restaurants
Golf Courses
Continuing Care
Hospitals
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 14
Dealing with Common Customer Conflicts
Arising from Revenue Management
Customer conflict can arise from:
Marketing tools to reduce
customer conflicts:
 Perceived Unfairness & Perceived
Financial Risk Associated with
Multi-Tier Pricing and Selective
Inventory Availability
 Unfulfilled Inventory Commitment




Fenced Pricing
Bundling
Categorising
High Published Price
 Well designed Customer Recovery
Programme for Oversale
 Unfulfilled Demand of Regular
Customers
 Unfulfilled Price Expectation of
Group Customers
 Change in the Nature of the
Service
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
 Preferred Availability Policies
 Offer Lower Displacement Cost
Alternatives
 Physical Segregation & Perceptible
Extra Service
 Set Optimal Capacity Utilisation Level
Services Marketing 5/E
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Price Elasticity (Fig. 6.6)
Price per
unit of
service
Di
De
De
Di
Quantity of Units Demanded
De : Demand is price elastic. Small changes in price lead to big changes in demand.
Di : Demand for service is price inelastic. Big changes have little impact on demand.
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 16
Key Categories of Rate Fences
Rate Fences
(Table 6.2)
Examples
Physical (Product-related) Fences
Basic Product
Amenities
Service Level
Class of travel (Business/Economy class)
Size and furnishing of a hotel room
Seat location in a theatre
Free breakfast at a hotel, airport pick up etc.
Free golf cart at a golf course
Priority wait listing
Increase in baggage allowances
Dedicated service hotlines
Dedicated account management team
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 17
Key Categories of Rate Fences
(Table 6.2 cont’d)
Non Physical Fences
Transaction Characteristics
Time of booking or
reservation
Location of booking or
reservation
Flexibility of ticket
usage
 Requirements for advance purchase
 Must pay full fare two weeks before departure
 Passengers booking air tickets for an
identical route in different countries are
charged different prices
 Fees/penalties for canceling or changing a
reservation (up to loss of entire ticket price)
 Non refundable reservation fees
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 18
Key Categories of Rate Fences
(Table 6.2 cont’d)
Non Physical Fences (cont’d)
Consumption Characteristics
Time or duration of
use
 Early bird special in restaurant before 6pm
 Must stay over on Sat for airline, hotel
 Must stay at least five days
Location of
consumption
 Price depends on departure location, esp in
international travel
 Prices vary by location (between cities, city
centre versus edges of city)
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 19
Key Categories of Rate Fences
(Table 6.2 cont’d)
Non Physical Fences (cont’d)
Buyer Characteristics
Frequency or volume
of consumption
Group membership
Size of customer
group
 Member of certain loyalty-tier with the firm get
priority pricing, discounts or loyalty benefits
 Child, student, senior citizen discounts
 Affiliation with certain groups (e.g. Alumni)
 Group discounts based on size of group
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 20
Relating Price Buckets and Fences to the
Demand Curve (Fig. 6.7)
Price per
Seat
First Class
Full Fare Economy (No Restrictions)
One-Week Advance Purchase
One-Week Advance Purchase, Saturday Night Stayover
3-Week Advance Purchase, Saturday Night Stayover
3-Week Adv. Prchs, Sat. Night Stay., $100 for Changes
3-Wk Adv. Prchs, Sat. Night Stay, No changes/refunds
Late Sales through Consolidators/
Internet, no refunds
Capacity
of 1st-class
Cabin
Capacity
of Aircraft
No. of Seats Demanded
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 21
Ethical Concerns in Pricing
 Customers are vulnerable when service is hard to evaluate
or they don’t observe work
 Many services have complex pricing schedules
 hard to understand
 difficult to calculate full costs in advance of service
 Unfairness and misrepresentation in price promotions
 misleading advertising
 hidden charges
 Too many rules and regulations
 customers feel constrained, exploited
 customers unfairly penalized when plans change
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 22
Pricing Issues:
Putting Strategy into Practice (Table 6.3)
 How much to charge?
 What basis for pricing?
 Who should collect
payment?
 Where should payment be
made?
 When should payment be
made?
 How should payment be
made?
 How to communicate prices?
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 23
Consumption follows the Timing of Payments
Frequency of
Health Club Visits
Annual Payment Plan
Quarterly Payment Plan
Frequency of
Health Club Visits
(Research Insight 6.1)
Semiannual Payment Plan
Monthly Payment Plan
Time Line
Time Line
Source: John Gourville and Dilip Soman, “Pricing and the Psychology of Consumption,”
Harvard Business Review, September 2002, 90-96.
Slide ©2004 by Christopher Lovelock and Jochen Wirtz
Services Marketing 5/E
6 - 24