Chapter 16

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Chapter 16

  1. 1. Pricing Chapter 16 Price
  2. 2. Introduction <ul><li>Companies face dynamic pricing challenges from local and international markets and are impacted from a variety of sources including macro and micro economic issues and competitors. </li></ul><ul><li>Price is equated to the sum of the values that consumers exchange for the benefits of having or using the product or service. </li></ul><ul><li>Price is one of the most important and far-reaching of the variables that marketing managers control. Price is the only element of the marketing mix that produces revenues. </li></ul>
  3. 3. Price defined <ul><li>Price is the amount of money charged for a product or service, or the sum of the values that consumers exchange for the benefits of having or using the product or service. </li></ul>
  4. 4. Internal factors affecting price <ul><li>Company’s marketing objectives </li></ul><ul><li>Marketing mix strategy </li></ul><ul><li>Costs </li></ul><ul><li>Organisation structure </li></ul>
  5. 5. Marketing objectives <ul><li>Pricing should augment the marketing mix strategy </li></ul><ul><li>Marketing objectives are reflected in the pricing decisions and include </li></ul><ul><ul><li>Survival </li></ul></ul><ul><ul><li>Current profit maximisation </li></ul></ul><ul><ul><li>Market share maximisation </li></ul></ul><ul><ul><li>Product-quality leadership </li></ul></ul><ul><ul><li>Full cost recovery </li></ul></ul><ul><ul><ul><li>Non profit hospitals </li></ul></ul></ul><ul><ul><li>Partial cost recovery </li></ul></ul><ul><ul><ul><li>Utilised by non profit organisations </li></ul></ul></ul>
  6. 6. Marketing mix strategy <ul><li>Price decisions are coordinated with product design, distribution and promotional decisions to form an effective integrated marketing programme. </li></ul><ul><li>Various strategies can be used depending upon the type of product and the environment in which it is involved. </li></ul><ul><li>Frequently pricing decisions are made first and the marketing mix evolves around that. </li></ul><ul><li>De-emphasis of price by using the other marketing mix tools to create non-price positions based upon differentiation and value. </li></ul>
  7. 7. Figure 16.1  Factors affecting price decisions
  8. 8. Costs <ul><li>Types of cost </li></ul><ul><ul><li>Fixed costs that do not vary with production or sales level. </li></ul></ul><ul><ul><li>Variable costs vary with level of production. </li></ul></ul><ul><ul><li>Total costs, sum of variable and fixed costs. </li></ul></ul>
  9. 9. Costs at different levels of production Figure 16.2  Cost per unit at different levels of production
  10. 10. Costs as a function of production experience Figure 16.3  Cost per unit as a function of accumulated production: the experience curve
  11. 11. External factors affecting pricing decisions <ul><li>The market and demand </li></ul><ul><li>Costs set the lower limit and demand sets the upper limit of price. This price-demand relationship is of fundamental importance to marketers. </li></ul>External factors include the nature of the market and demand, competition and other environmental elements.
  12. 12. Pricing in different types of market <ul><ul><li>Pure competition markets </li></ul></ul><ul><ul><ul><li>Uniform commodity </li></ul></ul></ul><ul><ul><ul><li>No single buyer or seller has much effect on the market price </li></ul></ul></ul><ul><ul><ul><li>Marketing mix has little impact </li></ul></ul></ul>
  13. 13. Pricing in different types of market <ul><ul><li>Monopolistic competition </li></ul></ul><ul><ul><ul><li>Buyers and sellers trade over a range of prices </li></ul></ul></ul><ul><ul><ul><li>Emphasis upon differentiation through the marketing mix </li></ul></ul></ul>
  14. 14. Pricing in different types of market <ul><ul><li>Oligopolistic competition </li></ul></ul><ul><ul><ul><li>Few sellers highly sensitive to each other’s price and marketing strategies </li></ul></ul></ul>
  15. 15. Pricing in different types of market <ul><ul><li>Pure monopoly </li></ul></ul><ul><ul><ul><li>Single seller controlling the market </li></ul></ul></ul>
  16. 16. Analysing the price-demand relationship Figure 16.4  Inelastic and elastic demand
  17. 17. <ul><ul><li>A measure of the sensitivity of demand to changes in price. </li></ul></ul><ul><ul><ul><li>Price elasticity of demand = </li></ul></ul></ul><ul><ul><li>Buyers are less price sensitive if product is unique and high in quality or image. </li></ul></ul><ul><ul><li>If demand is elastic, producers will lower price and generate more total revenue through greater demand at the lower price. </li></ul></ul>Price elasticity of demand <ul><ul><ul><li>% change in quantity demanded </li></ul></ul></ul><ul><ul><ul><li>% change in price </li></ul></ul></ul>
  18. 18. Price influence on profits <ul><ul><li>Profit is the balance of income generated minus the costs incurred to sell the product </li></ul></ul><ul><ul><li>Many financial management ratios </li></ul></ul><ul><ul><ul><li>Return on investment (ROI) </li></ul></ul></ul><ul><ul><ul><li>Return on sales </li></ul></ul></ul><ul><ul><ul><li>(EVA) Economic Value Added </li></ul></ul></ul>
  19. 19. Competitors and other external factors impacting price <ul><li>Competitors’ costs, prices and offers </li></ul><ul><ul><li>Competitor price benchmarking gives a good indication of market price acceptance levels. </li></ul></ul><ul><li>Economic conditions such as recession. </li></ul><ul><li>Resellers and intermediaries. </li></ul><ul><li>Governmental influences such as tariffs on imports. </li></ul><ul><li>Social concerns </li></ul>
  20. 20. Pricing considerations <ul><li>Companies thus set prices according to 4 sets of factors: </li></ul><ul><ul><li>costs </li></ul></ul><ul><ul><li>consumer perception </li></ul></ul><ul><ul><li>competitors’ prices </li></ul></ul><ul><ul><li>societal consideration. </li></ul></ul>
  21. 21. Pricing objectives <ul><li>Income related </li></ul><ul><ul><li>how much money can we make? </li></ul></ul><ul><li>Volume related </li></ul><ul><ul><li>how many units can we sell? </li></ul></ul><ul><li>Competition related </li></ul><ul><ul><li>what share of the available business do we want? </li></ul></ul><ul><li>Societal </li></ul><ul><ul><li>what are our responsibilities to our customers and society as a whole? </li></ul></ul>
  22. 22. Figure 16.5  Primary considerations in price settings Pricing objectives
  23. 23. 1. Cost based pricing <ul><li>Cost-plus pricing </li></ul><ul><ul><li>Adding a standard mark-up to the cost of the product. </li></ul></ul><ul><ul><ul><li>Mark-up/down </li></ul></ul></ul><ul><ul><ul><ul><li>The difference between selling price and cost as a percentage of selling price or cost </li></ul></ul></ul></ul><ul><li>Break-even analysis and target profit pricing </li></ul><ul><ul><li>Setting price to break even on the costs of making and marketing a product. </li></ul></ul>
  24. 24. Figure 16.6  Break-even chart for determining target price Table 16.2  Break-even volume and profits at different prices *Assumes a fixed cost of €300,000 and a constant unit variable cost of €10.
  25. 26. 2. Value based pricing <ul><li>Setting price based on the buyers’ perceptions of product values rather than on the cost. </li></ul><ul><li>Underlying principle is to offer the right combination of quality and good service at a fair price. </li></ul><ul><li>Everyday low pricing is an important aspect of value pricing at the retail level. </li></ul>
  26. 27. Figure 16.7  Cost-based versus value-based pricing Source : The Strategy and Tactics of Pricing , 3rd edn by Thomas T. Nagle and Reed K. Holden (2002), p. 4. Reprinted by permission of Pearson Education, Inc., Upper Saddle River, NJ 07458. Cost-based vs. value-based pricing
  27. 28. 3. Competition based pricing <ul><li>Going-rate pricing </li></ul><ul><ul><li>Setting price based largely on following competitors’ prices rather than on company costs or demand. </li></ul></ul><ul><li>Sealed-bid pricing </li></ul><ul><ul><li>Potential buyers submit sealed bids , and the item is awarded to the buyer who offers the best price. </li></ul></ul><ul><ul><ul><li>English auction is where the price is raised until only one bidder remains. </li></ul></ul></ul><ul><ul><ul><li>Dutch auction is where prices start high and are lowered successively until someone buys. </li></ul></ul></ul><ul><ul><ul><li>Collective buying is where an increasing number of customers agree to buy as prices are lowered to the final bargain price. </li></ul></ul></ul><ul><ul><ul><li>Reverse auction is where the customers name the price that they are willing to pay for an item and seek a company willing to sell. </li></ul></ul></ul>
  28. 29. New product price setting <ul><li>Setting the price for new products is complex and challenging. </li></ul><ul><li>Different strategies will be used if the product is an imitator of an existing product versus an innovative product that is patent protected. </li></ul>
  29. 30. Pricing for new products with innovative features and benefits: <ul><li>Market skimming pricing </li></ul><ul><ul><ul><li>Pricing strategy used for new products that have unique features and benefits over the competition. </li></ul></ul></ul><ul><ul><ul><li>A high price is set for the new product to skim the maximum price and generate the most profit. </li></ul></ul></ul><ul><li>Market penetration pricing </li></ul><ul><ul><ul><li>Initial low price to penetrate the market and convert as many buyers onto the new product and grab a large market share. </li></ul></ul></ul><ul><ul><ul><li>This is a short-term strategy that is dangerous and needs to be supported by a robust range of products to leverage against. </li></ul></ul></ul>
  30. 31. Product-mix pricing strategies (1) <ul><li>Product line pricing </li></ul><ul><ul><li>Setting the price steps between various products in a product line, based on cost differences between the products, customer evaluations of the different features and the competitors’ pricing. </li></ul></ul><ul><li>Optional-product pricing </li></ul><ul><ul><li>The pricing of optional or accessory products along with a main product. </li></ul></ul><ul><li>Captive-product pricing </li></ul><ul><ul><li>Setting a price for products that must be used in conjunction with a main product, such as blades for a razor and film for a camera. </li></ul></ul>
  31. 32. Product-mix pricing strategies (2) <ul><li>By-product pricing </li></ul><ul><ul><li>Using the by-product pricing method, the manufacturer seeks markets for the by-products of the main product production and recoups costs of waste from the production process. </li></ul></ul><ul><ul><li>This may include the metal shavings from steel cutting, being gathered and processed as scrap metal. </li></ul></ul><ul><li>Product bundle pricing </li></ul><ul><ul><li>Strategy used to combine several products and offering the bundle of products at a reduced rate, thus leveraging the entire range of products. </li></ul></ul>
  32. 33. Table 16.4  Product-mix pricing strategies Product-mix pricing strategies (3)
  33. 34. Price adjustment strategies Table 16.5  Price adjustment strategies
  34. 35. Discount and allowance pricing <ul><li>Basic price adjustments to reward loyalty </li></ul><ul><ul><li>Cash discount </li></ul></ul><ul><ul><li>Volume or quantity discount </li></ul></ul><ul><ul><li>Quantity premium </li></ul></ul><ul><ul><li>Functional discount (trade discount) </li></ul></ul><ul><ul><li>Seasonal discount </li></ul></ul><ul><ul><li>Trade-in allowance </li></ul></ul><ul><ul><li>Promotional allowance </li></ul></ul>
  35. 36. Segmented pricing <ul><li>Segmented pricing allows for differences in customers, products and locations. The differences in prices are not based on differences in cost. </li></ul><ul><ul><li>Customer-segment pricing </li></ul></ul><ul><ul><li>Product-form pricing </li></ul></ul><ul><ul><li>Location pricing </li></ul></ul><ul><ul><li>Time pricing </li></ul></ul>
  36. 37. Psychological pricing <ul><li>A pricing approach that considers the psychology of prices and not simply the economics; the price is used to say something about the product. </li></ul><ul><ul><li>Includes reference pricing, which are prices that are set in buyers’ minds and refer to when they look at a given product. </li></ul></ul>
  37. 38. Promotional pricing <ul><li>Temporarily pricing products below the list price and sometimes even below cost, to increase short-run sales. </li></ul><ul><li>Dangers include creating ‘deal prone’ customers and the risk of precipitating price wars. </li></ul>
  38. 39. Geographical pricing (1) <ul><li>Pricing based on where the customers are located. </li></ul><ul><li>Free on board FOB-origin pricing </li></ul><ul><ul><li>Goods are placed free on board a carrier; the customer then pays the freight from the factory to the destination. </li></ul></ul><ul><li>Uniform delivered pricing </li></ul><ul><ul><li>Company charges the same price plus freight to all customers, regardless of their location. </li></ul></ul>
  39. 40. Geographical pricing (2) <ul><li>Zone pricing </li></ul><ul><ul><li>Company sets up different trading zones. All customers within a specified zone pay the same price. The more distant the zone, the higher the price. </li></ul></ul><ul><li>Basing-point pricing </li></ul><ul><ul><li>Seller specifies a specific city as a basing point and charges all customers the freight cost from that city to the customer location, regardless of the city from which the goods are actually shipped. </li></ul></ul><ul><li>Freight-absorption pricing </li></ul><ul><ul><li>Company absorbs all or part of the actual freight charges in order to get business. </li></ul></ul>
  40. 41. Price changes <ul><li>Initiating price cuts </li></ul><ul><ul><li>Excess capacity </li></ul></ul><ul><ul><li>Follow the leader </li></ul></ul><ul><ul><li>Response to falling market share </li></ul></ul><ul><ul><li>Domination through lower costs </li></ul></ul>
  41. 42. Price changes <ul><li>Initiating price increases </li></ul><ul><ul><li>Can be extremely beneficial profit wise but care needed regarding elasticity of demand. </li></ul></ul><ul><ul><li>Cost inflation. </li></ul></ul>
  42. 43. Price changes <ul><li>Buyer reactions to price changes </li></ul><ul><ul><li>Do not interpret in a straight forward way. </li></ul></ul><ul><ul><li>Very sensitive and unexpected reactions abound. </li></ul></ul>
  43. 44. Price changes <ul><li>Competitor reactions to price changes </li></ul><ul><ul><li>Competitors more likely to react if number of firms are small and the product is uniform. </li></ul></ul><ul><ul><li>Variable response to price changes based upon the competitive market position. </li></ul></ul>
  44. 45. Figure 16.9  Assessing and responding to a competitor’s price cut
  45. 46. Four typical responses to a competitor’s change in price: <ul><li>Reduce price </li></ul><ul><li>Raise perceived quality </li></ul><ul><li>Improve quality and increase price </li></ul><ul><li>Launch low-price ‘fighting brand’ </li></ul>
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