Topic 11 - Pricing

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This article is a topic within the subject Marketing Fundamentals.

Contents

Required Reading

Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall., pp. 286-317.

Price

[1] Price is the predetermined recompense in commercial exchanges. It is the amount of money charged for a good or service. It is the only ‘mix’ that produces revenue (& is flexible), all other elements are costs. Price is a key part of the overall value proposition by creating customer value & building customer relationships. Firms don’t set a single price; they adopt a pricing structure that covers different products in different lines. They also adjust product prices (which can often harm the firm e.g. by dropping prices rather than convincing buyers of product value) to reflect changes in costs & demand & to account for variations in buyers’ situations.

Factors Affecting Price

[2]

Internal Factors

  • Costs (Lower Limit) – sets the pricing floor
    • Fixed – costs that do not vary with sales/production levels.
    • Variable – costs that do vary with the level of production
    • Need to consider how costs change at different levels of production as part of a demand management strategy
      • SRAC & LRAC (economics) – different costs/prices at different stages
  • Marketing Objectives
    • Survival – staying in business whilst hoping conditions improve, primary factor is marginal businesses
    • Current Profit Maximisation – emphasize short term
    • Market Share Leadership – lower prices increase demand so that future volume brings profit. Reduce competition
    • Product Quality Leadership – higher prices increase perceptions of quality, linked to a niche strategy
  • Consistent Marketing Mix Strategy – price must support overall marketing mix & positioning strategy, signals info to buyer
    • E.g. a high performance, high quality product = charge a higher price (costs & price/quality interaction)
  • Organisation for Pricing – how the organisation delegates the pricing function & how it is related to overall goals

MARK1012111.jpg [3]

External Factors

  • Customer Perceptions of Value & Market Demand (Upper Limit)
    • Markets
      • Monopoly – a single seller, pricing linked to range of factors; threat of entry, regulation, costs, profit
      • Oligopoly – a few sellers sensitive to each other’s pricing/strategies, significant barriers to entry, C.Subst
      • Monopolistic – many sellers/buyers with a range of prices on products that are slightly differentiated
      • Perfect – many sellers/buyers trading a uniform commodity where no firm affects pricing, price = market
    • Perceptions of Price & Value & The LAW of DEMAND
      • Buyers decide prices & marketers must understand buyers motivations & use technical expertise + creative
      • The price-demand relationship varies from product to product
        • Price Elasticity of Demand (sensitivity of demand due changes in price)– Elastic or Inelastic
  • Competitors Pricing + Resellers Pricing Concerns
  • Economic Conditions – affects discretionary spending
  • Government, Regulation & Trade Practices

General Pricing Approaches

[4]

Cost-Plus Pricing

The Cost-Plus approach is widely used in FMCG as it is simple, certain (firms costs are more certain than demand), perceived fairness (ensures a profit for sellers & does not take advantage of high demand) & minimises pricing competition (if all firms use the method – similar prices). It involves adding a standard mark up to the cost (production, distribution & selling costs) of the product. However, this method ignores market demand factors.

Example – The unit variable cost is $47, fixed costs are $500,000, and volume is 20,000 units, intends a 20% mark-up on sales Cost per unit = $72. If a 20% mark up sales is used than - Price = COST/(1-DESIRED MARK UP) = 72/(1-0.2) = $90 Other cost orientated approaches include Break Even Analysis which identifies the minimum pricing level for a given quantity. Target Profit Pricing which links price to profit objectives above total costs, but ignores the law of demand. Firm must consider price impact on sales volume needed to reach target profits & the likelihood that the needed volume can be achieved.

Profit=Q×(P-UVC)- FC

Value Based Pricing

Value Based Pricing is the reverse of the cost based approach. It uses the buyer’s perception of value (not costs –hard to determine) as the key determinant of the price & utilises non price mix variables to help set a perceived value in the buyers mind. The marketer must know which benefits/features the consumer wants & is willing to pay for in setting a value-pricing goal. Consumers will not pay more than the perceived value. Hence it’s considered before the marketing program is set. Value Based Pricing entails Target Costingideal selling price is set on customer perceived value & costs are targeted to ensure that price is met.

  • Good Value Pricingoffering just the right combination of quality & good service that customers want at a fair price e.g. everyday low pricing
    • Less expensive versions of brand name - changing economic conditions (same for less or more for the same)
  • Value Added Pricingattaching value added features & services to differentiate a product to support higher prices & hence avoid price cuts to match competitors
    • Value Pricing – simultaneously increase product & service benefits whilst maintaining or decreasing price

MARK1012112.jpg

Competition Based Pricing

Competition Based Pricing involves setting prices based on competitors’ strategies, costs, prices & market offerings (is the product perceived as more [can charge higher price] or less [charge lower price or change perceptions] value?). Consumers judge product value against the prices competitors charge for similar products. If the market is dominated by large low cost producers, a firm may target unserved niches with value added products at higher prices e.g. Athletes Foot. If small companies with high prices charge lower prices. If products are less differentiated & more substitutable consumers will be price sensitive.

  • Economic Value Pricing – involves ‘packaged pricing’ e.g. installation/maintenance, applicable for industrial markets
  • Going-Rate Pricing - prices based on what competitors are charging, popular in markets where elasticity is unknown
  • Sealed-Bid Pricing – competition between sellers attempting to underprice each other but try to cover costs govt contracts

Relationship Pricing

A company may sell at lower prices to a high volume, loyal customer.

  • Special Relationship – supplier & customer share a special relationship, work together to reduce time & costs
  • Enrichment – deeper relationship where 1 party is willing to help another party reduce its costs
  • Shares Risks & Rewards – alliance or joint venture

4 New Product Pricing Strategies: Introduction Stage of PLC

  • Skimming Strategysetting a high price for a new product to ‘skim’ maximum revenue layer by layer from segments willing to pay a high price  product quality/image must warrant high price
    • Fewer, more profitable sales
  • Penetration Strategysetting a low price for a new product to attract a large number of buyers
    • Obtain a large market share - greater loyalty
    • Higher volumes drive costs down further

MARK1012113.jpg

When pricing an imitative new product, positioning problems occur & the firm may opt for price parity (same as competitor)

9 Price/Quality Strategies

[5] MARK1012114.jpg

Product Mix Pricing Strategies to Maximise Profit on the Entire Product Mix

[6]

  • Product Line Pricingsetting price steps between each product in a line (setting prices across an entire product line)
    • Account for cost differences & changes in customer value perceptions
  • Captive Product Pricing – pricing products that must be used with the main product e.g. Gillette blades high margins
  • Product Bundle Pricing – pricing bundles of products sold together usually lower than the sum of all product prices
  • Optional Product Pricing – pricing optional products sold with main product e.g. low base 4 cars attracts, buyers buy costly add-ons
  • By-Product Pricing – pricing low value by-products e.g. waste from production allowing producers to lower costs/prices
    • E.g. meat abattoirs sell by product to pet food manufacturing firms

Adjustment Strategies

[7] Firms adjust prices to account for various customer differences & changing situations. Price adjustment strategies include:

  • Discounts & Allowance Pricingreducing prices to reward customer responses e.g. paying early, buying in bulk, non-seasonal
    • Cash (pay promptly), quantity, trade (channel members), seasonal discounts & trade in or promotional allowances
  • Segmented Pricingadjusting prices to allow for differences in customers, products or locations need different segment = different demand
    • Customer Segmented Pricing – target a specific segment e.g. senior citizen discounts
    • Product Form Pricing – varying costs based on various versions (with different features) & not production costs
    • Location Pricing – preferences where different locations have different perceived values e.g. theatre/plane seating
    • Time Pricing – lower prices in off season, peak/off peak pricing
  • Psychological Pricing – based on the reference price consumers carry in their mind when considering seller prices
    • Price/Quality Relationship particularly when quality is hard to judge. References include past prices
  • Promotional Adjustments refer to temporary reductions (below list/cost) that are used to attract customers:
    • Loss Leaders – below cost pricing to attract attention & persuade consumers to buy additional products
    • Special Events – pricing used in slow seasons
    • Cash Rebates / Low Financing – offering extras to convince customers ‘on the brink’ of purchase
    • Value Pricing – offering the right combination of quality & good service at a fair price
  • Geographical Pricing – adjust to account for geographic location of customers FOB/uniform/zone/basis-point/absorption
  • Dynamic Pricing – adjusting prices to continually meet the characteristics & needs of individual customers & situations
  • International Pricing – adjusting prices for international markets e.g. costs of selling differences, taxes, FOREX, economy

Price Change Reasons

[8]

  • Price Cuts - Overcapacity, Falling Demand & Market Share, Attempt to Dominate the Market & Gain Economies of Scale
  • Price Increases - CPI & Speculation, Excess Demand, Increase Margins

Buyers usually react directly to price changes but not always &/or in the same way e.g. a price rise may improve quality perception or create a greedy company image & a price decrease may mean product problems. Competitors will react particularly if there are only a few sellers with uniform products & buyers are well informed.

Setting a Pricing Policy

[9]

  1. Selecting the Pricing Objective
  2. Determining Demand
  3. Estimating Costs
  4. Analysing Competitor Costs, Prices & Other Offers
  5. Selecting A Pricing Method
  6. Selecting Final Price

End

This is the end of this topic. Click Marketing Fundamentals to go back to the main subject page for Marketing Fundamentals

References

Textbook refers to Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall.

  1. Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall., pp.286-288
  2. Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall., pp.294-299
  3. Mohammed Razzaque, UNSW
  4. Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall., pp.288-294
  5. Mohammed Razzaque, UNSW
  6. Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall., pp.301-302
  7. Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall., pp.303-313
  8. Armstrong G., Adam S., Denize, S. and Kotler P.(2012) Principles of Marketing, 5th Edition, Sydney, Pearson/Prentice Hall., pp.314-315
  9. Mohammed Razzaque, UNSW
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