CHAPTER 9 Pricing PDF

CHAPTER 9: Pricing Understanding and Capturing Customer Value First Stop: Peloton - Premium Priced. But It’s Not about the Price Peloton Pricing: ○ Peloton exercise bikes sell at a premium price of $1,895, plus a $39 monthly memb...

CHAPTER 9: Pricing Understanding and Capturing Customer Value First Stop: Peloton - Premium Priced. But It’s Not about the Price Peloton Pricing: ○ Peloton exercise bikes sell at a premium price of $1,895, plus a $39 monthly membership fee. ○ Despite high pricing, Peloton’s sales have doubled annually, driven by the COVID-19 pandemic and gym closures. Value Proposition: ○ Buying a Peloton offers more than a bike; customers buy into a lifestyle and a connected community. ○ Features include live-streamed classes, an internet-connected tablet, and a sense of community. Market Positioning: ○ Positioned similarly to fitness boutiques like SoulCycle, emphasizing experience and community rather than a simple workout. ○ Peloton offers a financing option for affordability, comparable to the cost of multiple in-person classes. Psychology of Pricing: ○ Higher pricing sometimes signals quality to consumers. Peloton’s initial lower price led to low demand due to perceived lack of quality. I - Major Pricing Strategies OBJECTIVE 9-1: Define price, identify the three major pricing strategies, and understand the role of customer value, company costs, and competitor strategies in pricing. DEFINITION - Price: The amount charged for a product or service, or the sum of values customers exchange for the benefits of using the product or service. Considerations in Pricing: 1. Customer Perceptions of Value: Sets the ceiling for pricing. 2. Product Costs: Sets the floor for pricing.  3. External/Internal Factors: Includes competitor strategies, marketing strategy and mix, and market demand. Three Major Pricing Strategies: 1. Customer Value-Based Pricing: Setting price based on customers’ perceptions of value rather than costs. 2. Cost-Based Pricing: Setting price based on production costs plus a target profit. 3. Competition-Based Pricing: Setting price based on competitor prices and strategies A. Customer Value-Based Pricing DEFINITION - Customer Value-Based Pricing: Setting price based on buyers’ perceptions of value rather than on the seller’s cost. Approach: ○ Begins with understanding customer value perceptions. ○ Sets price to align with perceived value, focusing on benefits to the consumer. Value-Based Pricing vs. Cost-Based Pricing: ○ Cost-Based Pricing: Product-driven, setting price to cover costs plus profit. ○ Value-Based Pricing: Customer-driven, setting price to reflect perceived value, which then guides product costs and design. 1. Good-Value Pricing DEFINITION - Good-Value Pricing: Offering the right combination of quality and service at a fair price. Characteristics: ○ Addresses changing consumer attitudes by providing quality at a reasonable price. ○ Examples include: ALDI: Offering quality basics at low prices through efficiency and streamlined operations. Mercedes-Benz CLA Class: Entry-level luxury models providing high value at a reduced price. Strategies: ○ Everyday Low Pricing (EDLP): Constant low prices with few discounts (e.g., Walmart).  ○ High-Low Pricing: Regular high prices with periodic promotions and discounts (e.g., department stores like JCPenney). 2. Value-Added Pricing DEFINITION - Value-Added Pricing: Attaching value-added features and services to differentiate offers and justify higher prices. Examples: ○ Philips: Innovations such as energy-efficient lighting solutions to add value. ○ YETI Coolers: Premium coolers with superior durability and insulation, perceived as valuable by outdoor enthusiasts. Strategy: ○ Focuses on enhancing the product to justify higher pricing, rather than merely competing on price. B. Cost-Based Pricing DEFINITION - Cost-Based Pricing: Setting prices based on the costs of producing, distributing, and selling the product, plus a fair rate of return for effort and risk. Pricing Concept: ○ Price Ceiling: Set by customer value perceptions. ○ Price Floor: Determined by production costs. ○ Cost-based pricing sets prices that cover costs and provide a fair return. Company Approaches: ○ Low-Cost Producers: Companies like Walmart and ALDI minimize costs to offer lower prices with smaller margins but higher sales. ○ High-Value Producers: Companies like Apple, BMW, and Steinway have higher costs to produce high-quality products, enabling them to charge premium prices. 1. Types of Costs DEFINITION - Fixed Costs (Overhead): Costs that do not vary with production or sales level (e.g., rent, salaries). DEFINITION - Variable Costs: Costs that vary directly with the level of production (e.g., materials used per unit). DEFINITION - Total Costs: The sum of fixed and variable costs for any given level of production.  Cost Management: ○ Companies must manage the difference between costs and prices to ensure profitability. ○ High costs relative to competitors can lead to higher pricing needs or reduced profit margins. 2. Cost-Plus Pricing DEFINITION - Cost-Plus Pricing (Markup Pricing): Adding a standard markup to the cost of the product. Example: ○ A retailer purchases a product at $20, applies a 50% markup, and sells it for $30. ○ Markup pricing provides a simplified approach, as sellers are generally more confident in cost estimates than demand forecasts. Break-Even and Target Return Pricing: DEFINITION - Break-Even Pricing (Target Return Pricing): Setting price to cover production costs or to achieve a specific return. ○ Break-Even Chart: Used to show the total costs and revenues at various sales volumes. ○ Formula: Break-even volume = Fixed costs ÷ (Price − Variable costs). Considerations: ○ While break-even pricing helps determine minimum pricing, it may ignore customer value and demand relationships. ○ Companies must balance target profits with realistic sales volumes at each price point. C. Competition-Based Pricing DEFINITION - Competition-Based Pricing: Setting prices based on competitors’ strategies, prices, costs, and market offerings. Key Questions: ○ How does the company’s offering compare in value to competitors?  ○ How strong are competitors, and what are their pricing strategies? Pricing Strategy: ○ The goal is not to match or beat competitors' prices but to set prices based on relative value. ○ Companies like Caterpillar demonstrate value-added pricing by showing added benefits that justify higher prices. Value Comparison Example: ○ Caterpillar Bulldozer: Priced at $500,000, offering $150,000 in additional lifetime value compared to a $420,000 competitor product, showing superior value for a premium price. II. Other Internal and External Considerations Affecting Price Decisions OBJECTIVE 9-2: Identify and define the other important external and internal factors affecting a firm’s pricing decisions. Internal Factors: Overall marketing strategy, objectives, marketing mix, and organizational considerations. External Factors: Market demand and environmental factors. A. Overall Marketing Strategy, Objectives, and Mix DEFINITION - Target Costing: Pricing that starts with an ideal selling price and then targets costs to ensure that the price is met. Role of Pricing in Marketing Strategy: ○ Price is integrated into the company’s broader marketing strategy and positioning. ○ Companies may use pricing to build brand perception (e.g., Tesla's premium positioning for high-end buyers). Price-Value Strategy Examples: ○ Casper: Promotes “a better night’s sleep for an amazing value.” ○ Harry’s: Emphasizes fair pricing for quality shaving products. ○ Topshop: Uses a “cheap couture” approach to offer affordable fashion.  Price Coordination with Other Marketing Mix Elements: ○ Decisions on product quality, distribution, and promotion can impact pricing. ○ Target costing is a common approach, starting with a price goal and designing products to meet that price (e.g., Honda Fit's design and price goal). Nonprice Positioning: ○ Some companies differentiate their offerings to justify higher prices, emphasizing value rather than price alone (e.g., Sleep Number beds with SleepIQ technology). B. Organizational Considerations Pricing Responsibility: ○ Small Companies: Prices often set by top management. ○ Large Companies: Prices typically set by divisional or product managers. ○ Pricing Departments: In industries where pricing is crucial (e.g., airlines, steel), pricing departments set or guide pricing decisions. C. The Market and Demand Understanding the Price-Demand Relationship: ○ Before setting prices, marketers must understand how price affects demand. ○ Consumers balance the price of a product against the benefits of owning it. 1. Pricing in Different Types of Markets Market Types: 1. Pure Competition: Many buyers and sellers trade uniform commodities; little impact on price by individual sellers. 2. Monopolistic Competition: Many sellers offer differentiated products; prices vary due to unique brand features (e.g., Bose differentiates through innovation and brand reputation). 3. Oligopolistic Competition: Few large sellers; pricing is competitive and responsive to other sellers’ strategies (e.g., Comcast and AT&T in cable). 4. Pure Monopoly: Single seller dominates; pricing varies depending on government regulation and competitive landscape.  2. Analyzing the Price-Demand Relationship DEFINITION - Demand Curve: A curve showing the number of units the market will buy at different prices over a given time period. Price and Demand: ○ Generally, as price rises, demand falls. ○ Strong brands (e.g., Apple) may have inelastic demand, where price increases minimally impact demand. 3. Price Elasticity of Demand DEFINITION - Price Elasticity: A measure of the sensitivity of demand to changes in price. Elastic vs. Inelastic Demand: ○ Inelastic Demand: Demand changes little with price changes. ○ Elastic Demand: Demand changes significantly with price changes. Pricing Strategy: ○ If demand is elastic, companies may lower prices to increase total revenue, provided the added sales cover the extra costs. C. The Economy Economic Impact on Pricing: ○ Economic conditions (e.g., boom, recession, inflation, interest rates) influence pricing strategies by affecting: Consumer Spending: Affects how much consumers are willing to pay. Product Price and Value Perceptions: Economic downturns often make consumers more value-conscious. Production Costs: Impacts the company’s cost to produce and sell. Value-For-Money Strategies: ○ In tough economic times, many companies emphasize value pricing without necessarily cutting prices. ○ Examples: Four Seasons Resorts offered additional nights free without reducing room rates. Ritz-Carlton provided a daily $100 resort credit while maintaining room prices. Pricing Strategies During Economic Hardships:  ○ Discounting: Short-term sales boosts through lower prices; however, this can harm brand perception and long-term profitability. ○ Reinforcing Brand Value: Rather than cutting prices, companies may redefine “value” by adjusting offerings to better meet budget-conscious needs. ○ Price Tiers: Some companies add both budget-friendly and premium lines to meet various customer segment needs. Example: JD.com introduced budget lines like Cute Pet (pet products) and Best Home (homeware) for cost-conscious consumers. Brand Reputation and Price Sensitivity: ○ Ethical Pricing During Shortages: Companies avoid price gouging, even during high demand, to maintain long-term brand reputation (e.g., COVID-19 shortages in sanitizers and masks). Customer Value Perception: ○ Consumers often evaluate value rather than price alone. Brands like Nike maintain high customer loyalty by offering perceived value beyond price. D. Other External Factors Reseller Reactions: ○ Companies must consider the impact of their prices on resellers, ensuring that pricing supports reseller profitability and encourages product support. Government Regulations: ○ Legal constraints may influence pricing, ensuring that prices comply with governmental standards and avoid price manipulation or gouging. Social Concerns: ○ Companies may need to temper short-term pricing goals with broader societal considerations, prioritizing long-term brand image and ethical standards. Linking the Concept: Customer Value Understanding Value Beyond Price: ○ Steinway Example: While a Steinway piano costs $87,000, owners perceive it as a great value, illustrating that value doesn’t always equate to a low price. ○ Comparison Exercise: Consider two competing brands in a familiar category (e.g., watches or electronics). Assess which offers the greatest value and whether value and price align. Value vs. Low Price: ○ Distinction: Value is the perceived worth of benefits received, whereas low price simply indicates affordability. ○ Value-Based Marketing: Companies should aim to deliver the best benefits at the price charged, regardless of whether the price is high or low.  IV - New Product Pricing Strategies OBJECTIVE 9-3: Describe the major strategies for pricing new products. Overview: When introducing a new product, companies choose between two main pricing strategies: Market-Skimming Pricing and Market-Penetration Pricing. A. Market-Skimming Pricing DEFINITION - Market-Skimming Pricing (Price Skimming): Setting a high price for a new product to maximize revenues layer by layer from customers willing to pay the high price; fewer but more profitable sales. Application: 1. Used by companies with innovative products (e.g., Apple uses this strategy for new iPhones and MacBooks). 2. Gradually lowers prices as the product ages to attract other market segments. Conditions for Effectiveness: 1. The product’s quality and brand image must support the high price. 2. Production costs for smaller volumes should not cancel out profits from the higher price. 3. Limited competition to avoid undercutting. B. Market-Penetration Pricing DEFINITION - Market-Penetration Pricing: Setting a low initial price for a new product to attract a large number of buyers and gain a large market share quickly. Application: 1. Aims to attract price-sensitive customers and quickly build a large customer base. 2. Example: Amazon used penetration pricing with its Echo Dot and Prime Video service to build a strong initial customer base. Conditions for Effectiveness: 1. Market must be highly price-sensitive to respond to low prices. 2. Production and distribution costs should decrease as sales volume increases. 3. Low prices should help keep competitors out, ensuring the company can maintain its low-price position.  V - Product Mix Pricing Strategies OBJECTIVE 9-4: Explain how companies find a set of prices that maximizes the profits from the total product mix. Overview: When a product is part of a product mix, the firm’s pricing strategy aims to maximize overall profitability rather than for each product individually. Key strategies include product line pricing, optional-product pricing, captive-product pricing, by-product pricing, and product bundle pricing. A. Product Line Pricing DEFINITION - Product Line Pricing: Setting price steps between various products in a product line based on cost differences, customer perceptions of value, and competitors’ prices. Application: ○ Companies with multiple product lines, such as Microsoft, set price steps for different models to reflect value differences and appeal to various customer segments. ○ Example: Microsoft’s Surface line ranges from the affordable Surface Go to the premium Surface Studio, with different prices for varying configurations. B. Optional-Product Pricing DEFINITION - Optional-Product Pricing: Pricing optional or accessory products along with a main product. Application: ○ Customers can choose optional features that enhance the main product’s value (e.g., car accessories like remote start systems or premium sound). ○ Companies decide which features are included in the base price and which are offered as add-ons. C. Captive-Product Pricing DEFINITION - Captive-Product Pricing: Setting a price for products that must be used alongside a main product (e.g., razor blades for razors, games for video game consoles). Application: ○ Main products are often sold at low prices, while high-margin captive products provide substantial profits. ○ Examples:  Nintendo: Sells Switch consoles at minimal profit but gains revenue from game sales. Gillette: Sells low-cost razor handles but profits from high-margin replacement cartridges. Challenges: ○ Must balance main-product and captive-product pricing to avoid customer resentment. ○ Excessively high prices on captive products may push customers toward lower-priced competitors (e.g., Gillette faced competition from Dollar Shave Club and lowered cartridge prices). Service Variation - Two-Part Pricing: Service pricing with a fixed fee plus variable usage (e.g., amusement park entry fee plus fees for additional in-park purchases). D. By-Product Pricing DEFINITION - By-Product Pricing: Setting a price for by-products to offset disposal costs and help make the main product’s price more competitive. Application: ○ By-products with market value can help reduce main product costs by generating additional revenue. ○ Example: Poultry processors, like Perdue Farms, sell chicken feet to China where they are considered a delicacy, turning what was once waste into a $40 million profit center. E. Product Bundle Pricing DEFINITION - Product Bundle Pricing: Combining several products and offering the bundle at a reduced price. Application: ○ Bundles encourage sales of products consumers might not buy individually. ○ Examples: Fast-food combos (burger, fries, drink). Microsoft Office 365 subscriptions (Word, Excel, PowerPoint, Outlook). Telecommunication bundles (TV, phone, internet) by companies like Comcast and Verizon. VI - Price Adjustment Strategies and Price Changes OBJECTIVE 9-5: Discuss how companies adjust and change their prices for different types of customers and situations. Overview: Companies adjust their prices to account for customer differences and changing situations through seven main strategies: discount and allowance pricing, segmented pricing, psychological pricing, promotional pricing, geographical pricing, dynamic/personalized pricing, and international pricing. A. Discount and Allowance Pricing DEFINITION - Discount: A straight reduction in price on purchases during a specified period or on larger quantities. Types of Discounts: 1. Cash Discount: Reduction for prompt payment (e.g., "2/10, net 30" means a 2% discount if paid within 10 days). 2. Quantity Discount: Reduction for large-volume purchases. 3. Functional Discount (Trade Discount): Reduction for trade-channel members performing certain functions (e.g., record keeping). 4. Seasonal Discount: Reduction for out-of-season purchases. DEFINITION - Allowance: Promotional money given by manufacturers to retailers in return for agreement to feature the product. Types of Allowances: 1. Trade-In Allowance: Reduction for trading in an old item (common in the auto industry). 2. Promotional Allowance: Payments or reductions rewarding dealers for advertising and sales support. B. Segmented Pricing DEFINITION - Segmented Pricing: Selling a product or service at two or more prices where price differences are not based on cost differences. Forms of Segmented Pricing: ○ Customer-Segment Pricing: Different prices for different customers (e.g., student and senior discounts).  ○ Product Form Pricing: Different versions of a product priced differently (e.g., economy vs. business class). ○ Location-Based Pricing: Different prices in different locations (e.g., in-state vs. out-of-state tuition). ○ Time-Based Pricing: Prices vary by season, month, day, or hour (e.g., happy hour discounts at restaurants). Conditions for Effectiveness: ○ Market must be segmentable, with segments showing varying degrees of demand. ○ Legal compliance and perceived value must justify price differences. C. Psychological Pricing Overview: ○ Psychological Impact: Price influences perceptions of quality; consumers often perceive higher-priced products as higher quality. ○ Reference Prices: Prices buyers carry in their minds to compare with actual prices. Examples: ○ High-Price Perception: Expensive perfume is perceived as special due to its high price. ○ Dunkin’s S!p Café Experiment: Repackaging Dunkin’ coffee under a new high-end brand showed how price context affects perceptions. ○ Keurig’s High-End Model: Introducing an expensive model makes standard models seem more affordable. Price Endings: ○ Prices ending in "9" often signal bargains (e.g., $29.99 vs. $30). ○ Higher-end retailers might use whole numbers (e.g., $200) for regular-priced items, while "99" endings suggest discounts. ○ Apple uses $999 for psychological pricing to stay just below a major threshold ($1,000). D. Promotional Pricing Overview: Temporarily pricing products below list price (or even below cost) to create buying urgency and excitement.  Forms of Promotional Pricing: ○ Discounts: Reducing prices to boost sales or clear inventory. ○ Special-Event Pricing: Seasonal or event-based discounts to attract more customers (e.g., holiday electronics sales). ○ Limited-Time Offers: Flash sales create urgency and a sense of luck among buyers. ○ Cash Rebates: Manufacturers offer direct-to-consumer rebates on select purchases. ○ Low-Interest Financing, Extended Warranties, or Free Maintenance: Often used in the auto industry to reduce perceived consumer costs. Challenges: ○ Frequent promotions can create "deal-prone" customers who wait for discounts. ○ Constant price cuts may erode brand value and confuse customers. E. Geographical Pricing DEFINITION - Geographical Pricing: Setting prices based on customers' locations. Geographical Pricing Strategies: 1. FOB-Origin Pricing: Customer pays shipping from the factory; price varies by distance. 2. Uniform-Delivered Pricing: Same price plus average shipping cost for all customers. 3. Zone Pricing: Prices vary by predefined zones; distant zones have higher prices. 4. Basing-Point Pricing: Charges are calculated from a designated "basing point," regardless of shipping location. 5. Freight-Absorption Pricing: Seller absorbs shipping costs to win business or penetrate competitive markets. F. Dynamic and Personalized Pricing DEFINITION - Dynamic Pricing: Continuously adjusting prices based on real-time conditions in the marketplace. DEFINITION - Personalized Pricing: Adjusting prices based on individual customer characteristics and buying behaviors.  Applications: ○ Dynamic Pricing: Common in industries like airlines, hotels, sports, and ridesharing (e.g., Uber’s surge pricing). ○ Personalized Pricing: Online sellers (e.g., Amazon) customize prices for individuals based on their behavior, search history, and location. Challenges: ○ Poorly managed dynamic pricing can cause price wars, customer resentment, and brand damage (e.g., airline fare spikes after a rail service shutdown). G. International Pricing Overview: Companies marketing internationally must consider local factors, adjusting prices based on each country's conditions. Factors Affecting International Pricing: ○ Economic Conditions: Variations in local economic stability and purchasing power. ○ Competitive Situations: Local competition may dictate pricing adjustments. ○ Government Regulations: Tariffs, import taxes, and restrictions can impact final prices. ○ Market Preferences: Varying consumer perceptions and preferences across countries. ○ Cost Adjustments: Shipping, insurance, exchange rates, and distribution costs affect prices. Targeting Emerging Markets: ○ Companies may create low-cost, functional product versions to reach lower-income markets, offering affordable prices without compromising aspirational value. ○ Example: Samsung offers mid- and lower-priced phones for emerging markets, leading in unit sales globally. H. Price Changes 1. Initiating Price Changes ○ Price Cuts: 1. May be initiated due to excess capacity, falling demand, strong competition, or a weakened economy.  2. Aim to increase sales and market share, but can lead to price wars if competitors react by cutting prices. 3. Example: Wavestorm surfboards used low prices to dominate the market and increase accessibility. ○ Price Increases: 1. Can enhance profitability, especially when costs increase or demand exceeds supply. 2. Risks being perceived as price gouging (e.g., during the COVID-19 pandemic, some retailers faced lawsuits over price gouging). 3. Companies may use "shrinkflation" to avoid direct price hikes, reducing product size rather than raising prices (e.g., reducing sheets in Kleenex or adjusting the shape of Toblerone). 4. Communicate reasons for price increases to maintain fairness with customers. Buyer Reactions to Price Changes: ○ Price Increases: May suggest higher quality or exclusivity but can also appear as greed. ○ Price Cuts: Can signal a better deal, but may lower perceived quality and damage brand prestige. Competitor Reactions to Price Changes: ○ Competitors are likely to react in markets with few sellers, where products are uniform, and prices are transparent. ○ Competitor reactions vary; a price cut could indicate a bid for market share or suggest financial challenges. 2. Responding to Price Changes ○ Analyze the competitor’s intentions and likely market impact. ○ Response Options: 1. Hold Price: Maintain current price, anticipating little market share loss. 2. Match Price Cut: Reduce price to avoid losing market share but risks lower margins. 3. Enhance Perceived Value: Maintain price but invest in product or promotional enhancements. 4. Improve Quality and Increase Price: Justify a higher price with enhanced product quality. 5. Launch a Fighter Brand: Introduce a low-price brand to compete without affecting premium brands. VII - Public Policy and Pricing Overview: Pricing practices are regulated by laws to ensure fair competition and protect consumers from deceptive practices.  A. Pricing within Channel Levels Price-Fixing: Illegal for competitors to collude on prices (e.g., Apple fined for e-book price-fixing). Predatory Pricing: Selling below cost to drive competitors out of the market is prohibited. Proving intent can be challenging, as pricing below cost can also be legitimate competitive practice. B. Pricing across Channel Levels Robinson-Patman Act: Prevents unfair price discrimination by requiring equal terms for customers at the same trade level. Retail Price Maintenance: Manufacturers cannot dictate retail prices for dealers but may suggest MSRP. Deceptive Pricing: Illegal to set misleading reference prices or discounts (e.g., Michael Kors sued for outlet pricing discrepancies). Scanner Fraud and Price Confusion: Retailers must accurately reflect current prices in their systems to avoid unintentional overcharges.