Pricing Strategy - A Focus On Profit, Not Sales

Pricing Strategy:
A focus on profit, not sales

Supply & Demand
Price supply
demand
Quantity

“Making it up on quantity”
Required increase in sales volume (%) 100
80
60
40
20% price 20
decrease
20 40 60 80
20% price 20 Variable unit cost
increase as % of price
40
60
80
Acceptable decrease in Sales Volume (%) 100

Pricing over Product Life Cycle
Introduction Growth Maturity Decline

Differences in pricing strategies
In a “dumb industry”
Operators fight with price
Customers become more price sensitive
In a “smart industry”
Operators fight with…
More complex pricing
More varied pricing plans
Greater subtlety of pricing options
Greater use of techniques from other fields

PRICINGSTRATEGY
How companies make pricing decisions…
“Pricing strategy always has been more of a poker game than a science.”
William T. Moran, Admar Research
“Successful pricing is an art, not a science.”
John I. Leahy, Black & Decker
“Pricing decisions are not easy to make; they are often inherently ‘soft’.”
William E. Johnson, William E. Johnson Assoc.

Pricing Strategy
Pricing Objectives
Pricing Concerns: 4 C’s
Pricing Models
Price Bundling
Price Segmentation
Price Plan

1. Objectives in Setting Price
Increase profits
Attract new customers
Maintain current customers
Increase profit per customer
Introduce new product
Generate cash
Improve ROI

Attract New Customers
Introductory coupons / discounts
provide incentive
maintain reference price
Trial offers
increase familiarity
reduce risk
Problem
perceived as unfair

Maintain Current Customers
Meet competition
matching prices
add to bundle (as long as customers want it!)
Create barriers to exit
contracts / subscriptions
automatic billing
phone numbers (no longer in the U.S.)
family plans
Provide loyalty programs
frequent flyer
Starbuck cards

Increase Profit per Customer
Increase prices
reduce product? (candy bar pricing)
justify/ notify / base on costs
Adjust product mix
sales incentives for more profitable business
Adjust customer mix
teenagers vs. seniors
Charge for extras
what’s valuable to customer and cheap to company
Get money up front
Prepaid subscriptions

Introduce New Product
Skimming: Adjusts prices down over time:
PROS: skims off maximum profit for each segment
establishes high reference price
CONS: attracts competition
difficult to administer
Penetration: Starts at lowest possible price
PROS: penetrates market quickly
keeps out competition
CONS: creates low reference price
misses full profit potential

2. Concerns in setting price: 4C’s
Competition Customer
Cost Custom

3. Pricing Models
Cost-based Pricing
Value-based Pricing
Flat-Rate Pricing
Ala-Carte Pricing
Two-Part Pricing
Peak Load / Congestion Pricing
Dynamic Pricing

Cost-based vs. Value-based
Cost-based
most common pricing method
easiest pricing method
considered fair
difficult to allocate fixed costs
sub-optimal profits
Value-based
optimal profits
requires research
complicated to administer
can be considered unfair

Flat-Rate Pricing
Single rate per time period:
PROS:
provides unlimited use
increases use
simple to explain & bill
popular with customers / low risk
CONS:
difficult to predict average price
unfair in that some people subsidize others
fair in that charges are predictable

Ala-Carte Pricing
Variable rate depending on use:
PROS:
considered fair
greater choice
greater control
CONS:
more difficult to explain
more difficult to bill
more risk

Two-part Pricing I
Combines flat rate plus variable: e.g., monthly fee plus cost per minute (declining?)
PROS
spreads costs more fairly
CONS
perceived as hassle
unpredictable

Two-Part Pricing II
Combines down-payment & flat rate per month:
PROS:
covers fixed costs immediately
spreads customer’s costs
fits customer’s monthly budget
generates financing revenues
predictable / low risk
CONS:
increases total cost to customer
requires long-term billing

Peak Load / Congestion Pricing
Variable rate depending on time of day or week:
PROS:
spreads use
encourages use in unpopular time
considered fair
easy to explain
CONS:
difficult to bill

Dynamic Pricing
Variable rate for each customer:
PROS:
maximizes profit per customer
CONS:
difficult to implement
requires detailed demand schedule
difficult to explain
considered unfair

4. Price Bundling / Unbundling
With own products / services
bikini top with bottom
seats in car
training with purchase
McDonalds’ Happy Meals
season tickets

With other products / services
discount cost of buns with hot dog purchase
“free” parking lot with grocery store
“free” Microsoft software with computer
include airline tickets with tour

Benefits of Bundling/Unbundling
Bundling
provide unique assortment
sell unpopular with popular
provide added incentive to purchase or to stay
hide / disguise price
Unbundling
competitive defense
better serve customer
increase revenues
Mixed

5. Price Segmentation
Big opportunity:
Computer allows finer discrimination
Customers want choice but not confusion

Segments
Consumer type

age
sex
income
education
geography, etc.

Use of product

sports information
financial reports
information, etc.
Service level
speed
quality
7/24/365
options / content
Urgency of need
immediate
soon
overnight

Segments
Volume of use:
emergency only
limited usage
quantity discount
unlimited usage
Time of use:
off-peak
normal working hours
unrestricted

Longevity of customer
special extras for longevity
loyalty programs
Length of contract
1, 2, 3 year sliding scale
Attitudes
high tech (image)
utility
Finances
flush
tight

6. Pricing Plan
Determine target market(s).
What do those consumers want?
What can you give them that competitors cannot? (or haven’t thought of yet)
What are their financial impediments?
How can you structure your pricing to solve their problems?
How profitable will that be?

Summary of Strategy
Objectives of price vary; profit is #1
Pricing concerns are the 4C’s
cost / competition / customer / custom
Pricing models can be mixed and matched
Bundling can be with both self & others
Segmentation should be fine tuned
Plan should be based on each market segment

Thank You!