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Pricing Strategy Toolkit
 

Pricing Strategy Toolkit

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This toolkit provides an in depth discussion on Pricing Strategy, including Skimming vs. Penetration, Pricing Tactics, Product Adoption Lifecycle, Price Curve Analysis, and Price Sensitivity Analysis. ...

This toolkit provides an in depth discussion on Pricing Strategy, including Skimming vs. Penetration, Pricing Tactics, Product Adoption Lifecycle, Price Curve Analysis, and Price Sensitivity Analysis. Includes a Pricing Sensitivity Financial Model.


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  • 93 09/15/98 11 25

Pricing Strategy Toolkit Pricing Strategy Toolkit Presentation Transcript

  • PowerPoint Diagram Pack Pricing Strategy Toolkit This toolkit provides an in depth discussion on Pricing Strategy, including Skimming vs. Penetration, Pricing Tactics, Product Adoption Lifecycle, Price Curve Analysis, and Price Sensitivity Analysis. Includes a Pricing Sensitivity Financial Model.
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    PRICE REVENUES MARKET SHARE Σ Price: $XXMM Revenue: $XXMM
  • Contents
    • Pricing Strategy 4
      • Skimming vs. Penetration 5
      • Product Adoption Lifecycle 6
      • Advantages and Disadvantages 9
    • Pricing Approach 11
      • Data Collection 13
      • Price Curve Analysis 15
      • Price Sensitivity Analysis 19
      • Analysis Approach 20
      • Price Sensitivity Financial Model 26
    • Pricing Tactics and Terminology 29
  • To determine the optimal Pricing Strategy, we need to look at things within the context of the product’s adoption lifecycle
    • Product Adoption Lifecycle
    Number of customers Time “ The Chasm” INNOVATORS EARLY ADOPTORS EARLY MAJORITY LATE MAJORITY LAGGARDS
    • These people are committed to new products (particularly in technology) with the belief that sooner or later it is bound to improve our lives
    • Often known as technology enthusiasts, or “techies”
    • Represents 2.5% of market
    Source: Crossing the Chasm and Beyond, Moore and McKenna, 1999
    • Early adopters are visionaries
    • These people are true revolutionaries in business and government who want to use the discontinuity of any innovation to break from the past into a new future
    • It is said there is a “chasm” marking needs to overcome in this segment
    • 13.5% of market
    • Early majority customers are pragmatists
    • The believe in evolution, not revolution
    • These people will adopt new products only after a proven track record
    • Represents 34% of market
    • Late majority consumers share a conservative mindset
    • They are very price sensitive, highly skeptical, and demanding
    • These customers usually like very simple products—they only want the basic functionality
      • 34% of market
    • Laggards the ever-present critics
    • This segment is the very last to buy any product
    • The goal is not to sell to this group, but to sell around them
    • Represents 16% of market
    THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/
  • Pricing Skimming works best when introducing a new product with no competitive peers to capture the Early Market
    • When to Skim the Market
    Number of customers Time “ The Chasm” Market Skimmer INNOVATORS EARLY ADOPTORS EARLY MAJORITY LATE MAJORITY LAGGARDS It is typical to use a Price Skimming Pricing Strategy at the beginning of a product’s adoption lifecycle. This is because the initial buyers are not as price sensitive and more apt to purchasing new products. The risk is the “the chasm,” which is threshold that many new products fail to cross. Many new product are successful in selling to the Early Market. However, they never achieve the critical mass needed for mass consumer adoption. We say these products fell into a chasm. Many marketers try to bridge the chasm by dropping prices. This is often not the solution, because the issue is not of price, but the product itself. Consumers may be waiting for the product to prove itself or be more fully developed. Early Market THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/
  • Penetration Pricing works best as the product reaches the Mainstream Market and it becomes a race to grab share
    • When to Penetrate the Market
    Number of customers Time “ The Chasm” Market Penetrator INNOVATORS EARLY ADOPTORS EARLY MAJORITY LATE MAJORITY LAGGARDS Pricing Penetration Strategy is often adopted as the new product is about to reach the Mainstream Market. At this point, adoption it at its highest rate. Copy cat companies are quickly entering into the market, increasing supply, thus also putting pricing pressure on the product. At this point, this is a race to capture market share and become a market leader. Therefore, many companies, incumbents and new entrants will adopt pricing Penetration Strategy to absorb share. Large companies may engage in predatory pricing to increase barriers to entry and drive out smaller players. Mainstream Market THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/
  • A key reason to skim the Early Market is to capture as much consumer surplus as possible—there is no reason to leave money on the table
    • Price Skimming – Advantages & Disadvantages
    – +
    • Slower market penetration and adoption
    • Likewise, inventory turnover will be lower
    • Encourages competition from new entrants because of the high margins and uncaptured market share
    • High margins may result in operational inefficiencies, since there will be less incentive to keep costs low
    • Allows us to capture as much consumer surplus as possible
    • Maximizes margins, receiving “monopoly profits”
    • Builds a high quality brand image, since consumers associate high price with better quality
    • Skimming can be used to segment the market—and reduce the price for lower, more price sensitive segments
    ADVANTAGES DISADVANTAGES Consumer surplus is the difference between the highest price the consumer is willing to pay and the price they are actually paying Pricing Skimming Pricing Strategy works well when introducing a new product where there are no or few competitive products. A high price point allows us to capture the early adopters, who are not price sensitive. EXAMPLE This strategy is typically used for high-end electronics, e.g. high definition TVs. THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/
  • Tabulate your pricing data to show the relationships among price point, market share, and sales
    • Pricing Data Collection (2 of 2)
    ILLUSTRATIVE DATA Note that there may be limits to how much share you can actually capture and still remain profitable—at a certain point of lowering your price, you will be losing money In this data set, notice how sales from just the Early Market exceed sales for someone owning 95% of the market THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ $13,250,000,000 $15,750,000,000 84% 2,500,000 5% $6,300 $25,000,000,000 $30,000,000,000 83% 5,000,000 10% $6,000 $35,062,500,000 $42,562,500,000 82% 7,500,000 15% $5,675 $43,600,000,000 $53,600,000,000 81% 10,000,000 20% $5,360 $50,000,000,000 $62,500,000,000 80% 12,500,000 25% $5,000 $56,250,000,000 $71,250,000,000 79% 15,000,000 30% $4,750 $59,500,000,000 $77,000,000,000 77% 17,500,000 35% $4,400 $62,000,000,000 $82,000,000,000 76% 20,000,000 40% $4,100 $63,000,000,000 $85,500,000,000 74% 22,500,000 45% $3,800 $62,500,000,000 $87,500,000,000 71% 25,000,000 50% $3,500 $59,400,000,000 $86,900,000,000 68% 27,500,000 55% $3,160 $55,500,000,000 $85,500,000,000 65% 30,000,000 60% $2,850 $48,750,000,000 $81,250,000,000 60% 32,500,000 65% $2,500 $42,000,000,000 $77,000,000,000 55% 35,000,000 70% $2,200 $33,750,000,000 $71,250,000,000 47% 37,500,000 75% $1,900 $24,000,000,000 $64,000,000,000 38% 40,000,000 80% $1,600 $12,750,000,000 $55,250,000,000 23% 42,500,000 85% $1,300 ($1,350,000,000) $43,650,000,000 -3% 45,000,000 90% $970 ($16,625,000,000) $30,875,000,000 -54% 47,500,000 95% $650 ($33,000,000,000) $17,000,000,000 -194% 50,000,000 100% $340 Profit Revenue Margin Customer Volume Market Share Unit Price
  • What is the price point to maximize profits?
    • Pricing Curve Analysis – Example 3
    PRICE REVENUES / PROFITS MARKET SHARE The price associated with the highest peak of the Profit Curve (orange) is about $3,800, which translates to about a 47% market share Plot based on illustrative data from previous slide THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ Revenue Profit Price
  • Step 1. Determine the key drivers of Price Sensitivity
    • Price Sensitivity Analysis – Step 1
    There are 9 drivers to Price Sensitivity. However, depending your offering(s), only a subset of these drivers are relevant. Determine the drivers that are most relevant. Source: The Strategy and Tactics of Pricing, Nagle and Holden 1 2 3 4 5 6 7 8 9     THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ Buyers are more price sensitive when they perceive the price as a loss rather than a forgone gain, and they have greater price sensitivity when the price is paid separately rather than as part of a bundle. The Framing Effect Buyers are more sensitive to the price of a product when the price is outside the range they perceive as “fair” or “reasonable” given the purchase context. Fairness Effect The smaller the portion of the purchase price buyers must pay for themselves, the less price sensitive they will be. Shared-cost Effect The effect refers to the relationship a given purchase has to a larger overall benefit, and is divided into two parts: Derived demand : The more sensitive buyers are to the price of the end benefit, the more sensitive they will be to the prices of those products that contribute to that benefit. Price proportion cost : This refers to the percent of the total cost of the end benefit accounted for by a given component that helps to produce the end benefit (e.g. think CPU and PCs). The smaller the given components share of the total cost of the end benefit, the less sensitive buyers will be to the component's price. End-Benefit Effect Buyers are more price sensitive when the expense accounts for a large percentage of buyers’ available income or budget. Expenditure Effect Buyers are less sensitive to price the more that higher prices signal higher quality. Products for which this effect is particularly relevant include: image products, exclusive products, and products with minimal cues for quality. Price-Quality Effect The higher the product-specific investment a buyer must make to switch suppliers, the less price sensitive that buyer is when choosing between alternatives. Switching Costs Effect Buyers are less sensitive to the price of a known / more reputable product when they have difficulty comparing it to potential alternatives. Difficult Comparison Effect Buyer’s price sensitivity for a given product increases the higher the product’s price relative to perceived alternatives. Perceived alternatives can vary by buyer segment, by occasion, and other factors. Reference Price Effect
  • Step 2. Score the impact of each relevant Price Sensitivity driver
    • Price Sensitivity Analysis – Step 2
    Continuing on our example from the previous slide, we have down-selected to the 4 Price Sensitivity drivers listed below (in green). In this next step, we score the impact of driver on a scale from 1-3, with 3 being the most impactful. TOTAL SCORE: 8 (out of a possible score of 12) THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ Buyers are more sensitive to the price of a product when the price is outside the range they perceive as “fair” or “reasonable” given the purchase context. Fairness Effect Buyers are less sensitive to price the more that higher prices signal higher quality. Products for which this effect is particularly relevant include: image products, exclusive products, and products with minimal cues for quality. Price-Quality Effect The higher the product-specific investment a buyer must make to switch suppliers, the less price sensitive that buyer is when choosing between alternatives. Switching Costs Effect Buyer’s price sensitivity for a given product increases the higher the product’s price relative to perceived alternatives. Perceived alternatives can vary by buyer segment, by occasion, and other factors. Reference Price Effect 3 (Strong impact) 2 1 (Minimal impact) 3 (Strong impact) 2 1 (Minimal impact) 3 (Strong impact) 2 1 (Minimal impact) 3 (Strong impact) 2 1 (Minimal impact)
  • Step 3. Determine the Point of Perfect Elasticity and map the score to a pricing sensitivity elasticity factor
    • Price Sensitivity Analysis – Step 3
    Once we have a Pricing Elasticity “score,” we need to translate this score to an elasticity factor. This factor represents the relationship between pricing change and the resulting demand change. To determine this factor, we need to create a translation table that maps the score to a factor. This mapping is anchored by 3 key values: the upper bound, the lower bound, and the point of perfect elasticity. SCORE ELASTICITY FACTOR
    • Anchor the upper bound elasticity factor against the highest score—in this case 12. The value of this factor should be greater than 100%.
    • You should anchor the lowest possible score (i.e. the number of drivers) against the lower bound factor of 0%.
    • The Point of Perfect Elasticity is the 100%. This means, for every percentage change in price, there is the same percentage change in units sold. For companies with a stronger brand, the Point of Perfect Elasticity should be anchored higher than the mid-point score (e.g. 7 or higher in this example); and vice versa for weaker brands.
    SCORE ELASTICITY FACTOR Once you have picked your 3 anchor points, the remaining elasticity factor values should fall into place. THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ ? ? ? ? ? ? ? ? ? ? 3 4 5 6 7 8 9 10 11 12 0% 37.5% 50% 62.5% 75% 87.5% 100% 130% 160% 190% 3 4 5 6 7 8 9 10 11 12
  • 5. Create your Price Sensitivity formula
    • Price Sensitivity Analysis – Step 5
    ∆ price = ------------------------------ Price new – Price original Price original If < threshold_of_no_elasticity , ∆ price Units new = Units original DEFINITION SCENARIO A If > threshold_of_no_elasticity , ∆ price Units new = Units original ( 100% – ∆ price + threshold_of_no_elasticity) SCENARIO B If < threshold_of_no_elasticity , ∆ price Units new = Units original ( 100% + ∆ price – threshold_of_no_elasticity) SCENARIO C We have converted these formulas into an Excel model, embedded into the following slide THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/
  • The first step is to decide on your high level pricing strategy—to skim or to penetrate?
    • Price Sensitivity Model Documentation (1 of 2)
    • Modify the assumptions in the yellow cells.
      • Total Possible Score
      • Lowest Possible Score
      • Price Elasticity Score
      • Elasticity Factor Upper Bound
      • Point of Perfect Elasticity
      • Threshold of No Elasticity
    • These values drive the model are defined in the previous slides
    THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/
  • Price Discrimination OVERVIEW
    • EXAMPLE(S)
    • Movie theatres sell tickets using a price discrimination tactic at 2 levels—1), different prices to different ages groups (e.g. student discount) and 2) different prices for movies held at different times (e.g. Matinee special).
    • RELATED PRICING TACTIC(S)
    • Loss Leader Pricing
    • Predatory Pricing
    • Cost-Plus Pricing
    THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ Pricing discrimination is when you charge different prices for the same product/service in different markets. This requires each market to be impenetrable, so that members of one market can’t switch into another market to attain better pricing. This also requires each market to have different levels of price sensitivity. It is important to understand the local regulations that may affect one’s ability to implement pricing discrimination rules. For instance, manufacturers of hard goods cannot sell their products to similarly situated retailers at different prices per the Robinson-Patman Act.
  • Predatory Pricing OVERVIEW
    • EXAMPLE(S)
    • Microsoft has often been criticized in using predatory pricing to maintain dominant market share. An example would be Microsoft offering Internet Explorer for free when competing with Netscape (back in 1996).
    • Similarly, when new versions of Microsoft Windows are released, Microsoft provides the latest operating system to computer manufacturers for free. This is why, when a new version of Windows is released, you will often machines with the newer version to be cheaper than machines with the previous version.
    • RELATED PRICING TACTIC(S)
    • Loss Leader Pricing
    • Price Discrimination
    • Marginal Cost Pricing
    THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ Predatory pricing is an aggressive way of pushing out smaller players and erecting barriers to entry. It is the act of deliberately price cutting to force rival players out of business, because these rivals cannot afford to compete at such a loss. Only strong players with a “war chest” can afford this strategy, since they will be losing money with each sale. This is anti-competitive and illegal if it can be proved.
  • Marginal Cost Pricing OVERVIEW
    • EXAMPLE(S)
    • Online hotel reservation services, like PriceLine, encourage hotels to adopt marginal cost pricing for unsold rooms. In other words, hotels can offer last minute deals to sell unfilled rooms at cost.
    • Airlines sometimes also use this tactic to fill unsold seats.
    • RELATED PRICING TACTIC(S)
    • Loss Leader Pricing
    • Price Discrimination
    • Predatory Pricing
    THIS IS A PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/ Marginal cost pricing is selling a product at the incremental cost of producing 1 more such product. In other words, it is selling a product at 0 profit. This is typically used when the fixed costs are high and have already been covered by initial sales. The remaining unsold products, e.g. excess capacity, are sold are marginal costs.
  • END OF PARTIAL PREVIEW You can preview the full PowerPoint document and download it at http://learnppt.com/powerpoint/
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