Bmgt 411 chapter_12
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BMGT 411: Chapter 12
Developing Pricing Strategies and Programs
Chapter Questions
• How do consumers process and evaluate prices?
• How should a company set prices initially for products or services?
• How should a company adapt prices to meet varying circumstances and opportunities?
• How should a company initiate a price change and respond to a competitor’s price change?
Premium Pricing
Synonyms for Price
• Rent
• Tuition
• Fee
• Fare
• Rate
• Toll
• Premium
• Honorarium
• Special assessment
• Bribe
• Dues
• Salary
• Commission
• Wage
Internet: Empowers Consumers
Common Pricing Mistakes
• Determine costs and take traditional industry margins
• Failure to revise price to capitalize on market changes
• Setting price independently of the rest of the marketing mix
• Failure to vary price by product item, market segment, distribution channels, and purchase occasion
5C’s of Pricing Inputs
• Customers
• Company
• Competition
• Collaborators (Distribution)
• Context
Consumer Psychology and Pricing• Reference prices: Comparing an observed price to an internal reference
price they remember or an external frame of reference such as a posted “regular retail price”
• Kohl’s uses reference pricing to make their sales look even bigger
• Price-quality inferences: When consumer’s use price as an indicator of quality
• Luxury cars, perfume, designer clothes
• Price endings: $299 Vs $300, consumers process prices left to right, $299 seems like it is in the $200 range Vs $300 range
Steps in Setting Price
1. Select the price objective
2. Determine demand
3. Estimate costs
4. Analyze competitor price mix
5. Select pricing method
6. Select final price
Step 1: Select the price objective
1. Survival Pricing: Often a short term objective if they are plagued with overcapacity, intense competition, or changing customer wants (Blackberry?)
2. Maximum Current Profit: Estimating the demand, competition and choose a price that yields a maximum profit, cash flow, or ROI (Business to Business markets where there is lower competition)
3. Market Penetration Pricing: Setting the lowest price, leading to higher volume, lower unit costs, and higher long run profit (Walmart, Target)
4.Market-Skimming Pricing: Prices start high, and as demand increases, prices slowly drop over time (Roku Box)
5. Product Quality Leader Pricing: High prices that come with tastes, quality, or customer service (BMW, Apple)
Step 2: Determine demand
• Price sensitivity: How customers react to higher and lower prices
• Rule of thumb: less sensitive to low cost items and items bought infrequently
• Because food is purchased so often, it is often noticed and very sensitive to price changes
• Estimate demand curves: Estimating different demands based on different pricing strategies. Often meeting in the middle to set prices
• Price elasticity of demand: Depends on how responsive, or elastic, demand is to a change in price
Inelastic Demand
Demand hardly changes with a small change in price - demand is inelastic - If gas went up 5%, demand would almost remain unchanged
Elastic Demand
When demand changes considerable when prices change, we call that demand is elastic- Example - Beef and other Food sources (Because there are often cheaper substitutes)
Table 12.1 Factors Leading to Less Price Sensitivity
• The product is more distinctive
• Buyers are less aware of substitutes
• Buyers cannot easily compare the quality of substitutes
• Expenditure is a smaller part of buyer’s total income
• Expenditure is small compared to the total cost
• Part of the cost is paid by another party
• Product is used with previously purchased assets
• Product is assumed to have high quality and prestige
• Buyers cannot store the product
Step 3: Estimating Costs
• Types of costs:
• Fixed Costs: Overhead, do not vary with increased production (Rent, salaries, etc)
• Variable Costs: Varies directly with the level of production (Raw materials)
• Total Costs: The sum of the fixed costs and variable costs for a given level of production
• Average Cost: The cost per unit at the total level of production
Step 3: Estimating Costs
Figure 12.1 Cost per Unit as a Function of Accumulated Production
Target CostingBringing down the costs to target levels marketers want to achieve
Step 4: Analyzing Competitor’s Costs,
Prices, and Offers
Step 5: Selecting a Pricing Method
• Markup pricing
• Target-return pricing
• Perceived-value pricing
• Value pricing
• Going-rate pricing
• Auction-type pricing
Markup Pricing
• Unit Cost = Variable Cost + Fixed Costs/Unit Sales
• = $10 + $300,000/50,000 = $16 Per Unit
• If they wish to earn 20 percent markup, the formula is as follows
• Markup Price = Unit Cost/ (1 - Desired return on sales)
• = $16 / (1 - .2) = $20
Variable Cost Per Unit: $10 !Fixed Costs: $300,000 !Expected Unit Sales: 50,000 !Invested Capital = $1,000,000
Target Return Pricing
• Target Return Cost = Unit Cost + (Desired Return x Invested Capital)/ Unit Sales
• If they wish to earn 20 percent markup, the formula is as follows
• $16 + (.2 x $1,000,000)/50,000 = $20
Variable Cost Per Unit: $10 !Fixed Costs: $300,000 !Expected Unit Sales: 50,000 !Invested Capital = $1,000,000
Target Return Pricing
Figure 12.3 Break-Even Chart for Determining Target-Return Price and Break-Even Volume
Target Return Pricing - Break Even Point
• Break Even Volume = Fixed Cost / (Price - Variable Cost)
• = $300,000/ ($20 - $10) = 30,000
Variable Cost Per Unit: $10 !Fixed Costs: $300,000 !Expected Unit Sales: 50,000 !Invested Capital = $1,000,000
Perceived Value Pricing
Basing the price on the customer’s perceived value
Value Pricing
Winning loyal customers by charging a fairly low price for a quality offering!EDLP Model - Everyday Low Price!High Low Pricing - Charges higher prices on everyday items partnered with sales
Other Pricing Methods
• Going Rate Pricing: Charging based mostly on what other competitors are charging, not very scientific
• Popular in business to business marketing with little competition, and service industries (Plumbers, etc)
• Auction Pricing: Bidding the price up or down
• English - One seller, many buyers (Ebay Model)
• Dutch, or Reverse - Buyer announces something they want to buy, and sellers compete to offer the lowest price (Popular in the printing industry)
Step 6: Selecting the Final Price
• Impact of other marketing activities: Prices must align with overall brand strategy, image, and customer expectations
• Company pricing policies: Cannot alienate customers with pricing that does not fit the companies model
• Impact of price on other parties: Will partners be left with room to make a profit as well? They may not carry the product if not
• In 2009, Costco stopped selling Coke due to a pricing dispute
Other Pricing Considerations
Geographical Pricing: Pricing varies by locationVery common in the hotel business, same hotel in different locations are very different prices
Other Pricing Considerations
• Discount: Discount for paying bills within a desired timeframe
• Quantity discount: Discount to buyers who buy large volumes
• Functional discount: Discount offered for selling or storing a product
• Seasonal discount: Discounts on out of season goods
• Allowance: Example, trade ins, discounts for displaying product
Promotional Pricing Tactics
• Loss-leader pricing
• Special-event pricing
• Cash rebates
• Low-interest financing
• Longer payment terms
• Warranties and service contracts
• Psychological discounting
Differentiated Pricing
• Customer-segment pricing: Students or Senior Citizen Pricing
• Product-form pricing: Different versions of the product are priced differently
• Channel pricing: Different pricing for different channels (Coke in vending, restaurants, C-store)