How do consumers process and evaluate prices?

Marketing Management

Fifteenth Edition

Chapter 16

Developing

Pricing Strategies

and Programs

Learning Objectives

16.1 How do consumers process and

evaluate prices?

16.2 How should a company set prices

initially for products or services?

16.3 How should a company adapt prices

to meet varying circumstances and

opportunities?

16.4 When and how should a company

initiate a price change?

16.5 How should a company respond to a

competitor’s price change?

Setting the Price

Table 16.2 Steps in Setting a Pricing Policy

Selecting the Pricing Objective
Determining Demand
Estimating Costs
Analyzing Competitors’ Costs, Prices, and Offers
Selecting a Pricing Method
Selecting the Final Price

Step 1: Selecting the Pricing Objective

• Survival

• Maximum current profit

• Other objectives

• Maximum market share

• Product-quality leadership

• Maximum market skimming

Step 2: Determining Demand

• Price sensitivity

• Estimating demand curves

– Surveys, price experiments,

& statistical analysis

• Price elasticity of demand

Figure 16.1 Inelastic And Elastic

Demand

Price Sensitivity

Table 16.3 Factors That Reduce Price Sensitivity

• The product is more distinctive.

• Buyers are less aware of substitutes.

• Buyers cannot easily compare the quality of substitutes.

• The expenditure is a smaller part of the buyer’s total income.

• The expenditure is small compared to the total cost of the end product.

• Part of the cost is borne by another party.

• The product is used in conjunction with assets previously bought.

• The product is assumed to have more quality, prestige, or exclusiveness.

• Buyers cannot store the product.

Step 3: Estimating Costs (1 of 3)

• Types of costs and levels of

production

– Fixed vs. variable costs

– Total costs

– Average cost

Figure 16.2 Cost per Unit at Different

Levels of Production per Period

Step 3: Estimating Costs (2 of 3)

• Accumulated production

– Experience/learning curve

Figure 16.3 Cost per Unit as a Function of Accumulated Production: The

Experience Curve

Step 3: Estimating Costs (3 of 3)

• Target costing

– Price less desired profit margin

– Costs change with production scale and experience.

They can also change as a result of a concentrated

effort by designers, engineers, and purchasing agents

to reduce them through target costing. Market research

establishes a new product’s desired functions and the

price at which it will sell, given its appeal and

competitors’ prices. This price less desired profit

margin leaves the target cost the marketer must

achieve.

Step 4: Analyzing Competitors’ Prices

• Firm must take competitors’ costs, prices, & reactions

into account

– Value-priced competitors

Step 5: Selecting a Pricing Method (1 of 6)

• Three major considerations in price

– Costs = price floor

– Competitors’ prices = orienting point

– Customers’ assessment of unique

features = price ceiling

Figure 16.4 The Three Cs Model

for Price Setting

Step 5: Selecting a Pricing Method (2 of 6)

• Markup pricing

– Add a standard markup to the product’s cost

  unit cost

Markup price 1 desired return on sales

 

Step 5: Selecting a Pricing Method (3 of 6)

• Target-return pricing

– Price that yields its target rate of return on investment

desired return invested capital Target-return price unit cost

unit sales

  

Figure 16.5 Break-Even for

Target-Return Price

Step 5: Selecting a Pricing Method (4 of 6)

• Perceived-value pricing

– Based on buyer’s image of product, channel

deliverables, warranty quality, customer support, and

softer attributes (e.g., reputation)

Step 5: Selecting a Pricing Method (5 of 6)

• Value pricing

• EDLP

– High-low pricing

• Going-rate pricing

– the firm bases its

price largely on

competitors’ prices

Step 5: Selecting a Pricing Method (6 of 6) • Auction-type pricing

– English (ascending)

 have one seller and many buyers. On sites such as eBay and

Amazon.com, the seller puts up an item and bidders raise their offer

prices until the top price is reached.

– Dutch (descending)

 feature one seller and many buyers or one buyer and many sellers. In

the first kind, an auctioneer announces a high price for a product and

then slowly decreases the price until a bidder accepts. In the other, the

buyer announces something he or she wants to buy, and potential

sellers compete to offer the lowest price.

– Sealed-bid

 feature one seller and many buyers or one buyer and many sellers. In

the first kind, an auctioneer announces a high price for a product and

then slowly decreases the price until a bidder accepts. In the other, the

buyer announces something he or she wants to buy, and potential

sellers compete to offer the lowest price.

Step 6: Selecting the Final Price

• Additional factors to select final price:

‒ Impact of other marketing activities

‒ Company pricing policies

‒ Gain-and-risk-sharing pricing

‒ Impact of price on other parties

Adapting the Price (1 of 5)

• Geographical pricing

– Barter

– Compensation deal

– Buyback arrangement

– Offset

Adapting the Price (2 of 5)

• Price discounts and allowances

Table 16.4 Price Discounts and Allowances

Discount: A price reduction to buyers who pay bills promptly. A typical example is “2/10, net 30,”

which means payment is due within 30 days and the buyer can deduct 2 percent by

paying within 10 days.

Quantity Discount: A price reduction to those who buy large volumes. A typical example is “$10 per unit for

fewer than 100 units; $9 per unit for 100 or more units.” Quantity discounts must be

offered equally to all customers and must not exceed the cost savings to the seller.

They can be offered on each order placed or on the number of units ordered over a

given period.

Functional Discount: Discount (also called trade discount ) offered by a manufacturer to trade-channel

Members if they perform certain functions, such as selling, storing, and record keeping.

Manufacturers must offer the same functional discounts within each channel.

Seasonal Discount: A price reduction to those who buy merchandise or services out of season. Hotels,

motels, and airlines offer seasonal discounts in slow selling periods.

Allowance: An extra payment designed to gain reseller participation in special programs. Trade-in

allowances are granted for turning in an old item when buying a new one. Promotional

allowances reward dealers for participating in advertising and sales support programs.

Adapting the Price (3 of 5)

• Loss-leader pricing

• Special event pricing

• Special customer pricing

• Cash rebates

• Low-interest financing

• Longer payment terms

• Warranties/service

contracts

• Psychological

discounting

Adapting the Price (4 of 5)

• Price discrimination

– occurs when a company sells a product or service at two or more prices

that do not reflect a proportional difference in costs. In first-degree price

discrimination, the seller charges a separate price to each customer

depending on the intensity of his or her demand. In second-degree price

discrimination, the seller charges less to buyers of larger volumes. In

third-degree price discrimination, the seller charges different amounts to

different classes of buyers, as in the following cases

– Customer-segment pricing

– Product-form pricing

– Time pricing

– Image pricing

– Location pricing

– Channel pricing

Adapting the Price (5 of 5)

• Price discrimination

– Yield pricing

 The airline and hospitality industries use yield

management systems and yield pricing, by which

they offer discounted but limited early purchases,

higher-priced late purchases, and the lowest rates

on unsold inventory just before it expires.

Initiating and Responding to Price

Changes (1 of 2)

• Initiating price cuts

– Domination of market

 Either the company starts with lower costs than its competitors,

or it initiates price cuts in the hope of gaining market share and

lower costs.

• Price-cutting traps

– Low-quality: Consumers assume quality is low

– Fragile market share: Consumers assume quality is low

– Shallow pockets: Higher-priced competitors match the lower

prices but have longer staying power because of deeper cash

reserves

– Price war:Competitors respond by lowering their prices even

more, triggering a price war

Initiating and Responding to Price

Changes (2 of 2)

• Initiating price increases

‒ Delayed quotation pricing

‒ The company does not set a final price until the product is finished or delivered. This

pricing is prevalent in industries with long production lead times, such as industrial

construction and heavy equipment.

‒ Escalator clauses

‒ The company requires the customer to pay today’s price plus all or part of any inflation

increase that takes place before delivery. Escalator clauses base price increases on some

specified price index. They are found in contracts for major industrial projects, such as

aircraft construction and bridge building.

‒ Unbundling

The company maintains its price but removes or prices separately one or more elements that

were formerly part of the offer, such as delivery or installation. Car companies sometimes

add higher-end audio entertainment systems or GPS navigation systems to their vehicles as

separately priced extras.

Initiating Price Increases

Table 16.5 Profits before and after a Price Increase

Blank Before After Blank

Price $10 $10.10 (a 1% price increase)

Units sold 100 100 Blank

Revenue $1,000 $1,010 Blank

Costs −970 −970 Blank

Profit $30 $40 (a 33 ⅓% profit increase)

Initiating and Responding to Price

Changes

• Anticipating competitive responses

• Responding to competitors’ price changes

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How do consumers process and evaluate prices?

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