Chapter 6: Pricing Products

What is price?
• Price is the amount of money charged for a good or
service
• Price is the sum of all the values that consumers
exchange for the benefits of having or using the
product or service.
Price is the only element in the marketing mix that
produces revenue; all other elements represent
costs

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Factors Affecting Price Decisions

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1.Internal factors
Marketing objectives
– Common objectives include:
. survival,
. current product maximization,
. market share leadership,
. product quality leadership
– May also want to set low prices to:
. prevent competition from entering the market,
. reduce prices to create excitement for a product
. draw more customers into a retail store
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• Marketing mix strategy
– Price is a part of the 4Ps – price decisions must be
coordinated with product design, distribution, and promotion
to form a consistent and effective marketing program
– Primary positioning can often be built on price, and then
other marketing mix decisions can be based on the price
– Other companies de-emphasize price, and use other
marketing mix tools to create non price positions
– E.g. differentiate the marketing offer to make it worth the higher price
• Costs
– Cost is the floor to pricing – a company cannot consistently sell
below costs
– Fixed, variable, total costs

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Organizational considerations
– In small companies, top management often sets
prices
– In large companies, pricing is typically handled
by divisional or product line manager
– In industrial markets, salespeople may have
ranges for negotiation; top management may
still accept final prices
– However, there may be influences from all
around – sales and production managers,
finance managers, accountants

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2. External factors
a. Nature of the market and demand
– Market and demand set the upper limit on price [market demand on the
other hand is the perceived utility of the consumer]
Pricing in different types of markets
– Pure competition
– Many buyers and sellers, no single seller or buyer can significantly
affect market price
– => Price taker, no reason to spend too much time on marketing
strategy
– Monopolistic competition
– Many buyers and sellers, trading over a range or prices, caused by
differentiation
– Either the physical product can be varied in quality, features, style; or
the accompanying services can be varied => buyers see a difference in
sellers‘ products and are willing to pay different prices for them
– E.g. foods 6
– Oligopolistic competition
– A few sellers who are highly sensitive to each other's pricing and
marketing strategies; product can be uniform (steel, aluminum) or non
uniform (cars, computers)
– Difficult for new sellers to enter the market
– Seller interactions are game-theoretically complex
– Pure monopoly
– One seller, who may select price or quantity to sell
– Pricing depends on monopoly type
– Government monopoly => various options, e.g. price below cost for
social reasons, price to cover costs, price high to slow down
consumption
– Private regulated monopoly => allowed to sell at rates with “fair
return”

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Consumer perceptions of price and value
– Effective, buyer-oriented pricing involves understanding how
much value consumers place on the benefits they receive from the
product, and setting a price that fits this value

Competition
– Consumer can select competitor's product [or a substitute],
which affects maximum price
– High-price, high-margin strategy attracts competition, low-price,
low-margin strategy may keep them out
– Need to benchmark costs against competitors, so that an
informed decision can be made – e.g. intensive price competition
when you're not the lowest cost producer may be damaging

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 General Pricing Approaches
1. Cost-Based Pricing:
1.1 Cost-Plus Pricing
– Adding a standard markup to cost
✓ Markup pricing refers to the difference between the cost to produce
and market an item for sale, and the retail price that is charged for that
item.
✓ Typically, the markup is expressed as a fixed percentage, and is
determined by applying that percentage to the actual cost of the item.
✓ Markup price= unit cost
(1-desired rate of return)
e.g. - Variable costs: $20 - Fixed costs: $ 500,000
- Expected sales: 100,000 units
- Desired Sales Markup: 20%
Variable Cost + Fixed Costs/Unit Sales = Unit Cost
$20 + $500,000/100,000 = $25 per unit
Unit Cost/(1 – Desired Return on Sales) = Markup Price
$25 / (1 - .20) = $31.25 9
Limitation
– Ignores demand and competition
Advantage
– Popular pricing technique because:
• It simplifies the pricing process
• Price competition may be minimized
• It is perceived as more fair to both buyers and seller
1.2 Break-Even Analysis and Target Profit Pricing
– Break-even charts show total cost and total revenues at
different levels of unit volume.
– The intersection of the total revenue and total cost curves is
the break-even point.
– Companies wishing to make a profit must exceed the break-
even unit volume.

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Break-Even Volume = fixed cost
(price-variable cost)
• Assume Star hotel has the following costs:
Fixed costs (FC): $ 500,000
Variable cost/unit (VC): $ 10.00
Recalling that BE = FC/(P-VC), calculate the break-even unit volume at selling prices of
$15.00 and $20.00 per unit.
• How many units would need to be sold if a profit of $250,000 was desired?
Q= FC + Profit = 500000+250,000 = 150,000
P-VC 5

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Value-Based Pricing:
– Uses buyers’ perceptions of value rather than seller’s costs to set
price.
– Measuring perceived value can be difficult.
– Value pricing at the retail level
• Everyday low pricing (EDLP) vs. high-low pricing

Cost-Based Versus Value-Based Pricing

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Competition-Based Pricing:
– Also called going-rate pricing
– May price at the same level, above, or below the
competition
– Bidding for jobs is another variation of competition-based
pricing
– Going rate pricing used especially when demand elasticity
is unknown, and company wants to rely on “collective
wisdom” of the industry
– Sealed bid pricing – used when companies bid for jobs,
bid is set based on estimations of the competitors' bids
(with attention to its costs, of course)

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 Pricing objectives
Pricing objectives include:
• Survival
• Profit maximization
• Market share leadership
• Customer retention and relationship building
• Attracting new customers
• Opposing competitive threats
• Increasing product excitement

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 New-Product Pricing Strategies
Two Broad Strategies
• Market skimming pricing – set a high initial price
• Market penetration pricing – set a low initial price
Market skimming pricing is a strategy with high initial prices to
“skim” revenues layer-by-layer from the market.
Makes sense if...
– Product quality and image must support the price.
– Buyers must want the product at the price.
– The costs of producing a smaller volume cannot be so high
that they cancel the advantage of higher prices.
– Competitors should not be able to enter the market easily
and undercut the high price.

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Market penetration pricing sets a low initial price in
order to penetrate the market quickly and deeply to
attract a large number of buyers quickly to gain market
share.
Makes sense if...
– Price sensitive market
– Production and distribution costs must fall as sales
volume increases
– Low prices must keep competition out of the
market.

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 Product-Mix Pricing Strategies
Product line pricing takes into account the cost
difference between products in the line, customer
evaluation of their features, and competitors’ prices.

Normal Hair Anti-dandruff Hair Fall Defense Oily Hair

– the price differences represent the perceived quality differences

11-17
Optional product pricing takes into account optional or accessory
products along with the main product. – Decide which items to
include in the base price and which to offer as options
pricing optional or accessory products sold with the main product
For example : a car buyer may choose to order a GPS navigation system
& Bluetooth wireless communication.
Refrigerators come with optional ice maker

New car with sports rims

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Captive product pricing involves products that must be used
along with the main product.
Pricing products that must be used with the main product
– Price the main, or driver product low and seek high margins
on the supplies
• For services: two-part pricing is where the price is broken into
fixed fee and variable usage fee.
– Decide how much to charge for the basic service and how
much for the variable usage
– The fixed amount should be low enough to induce usage of
the service; profit can be made on the variable fees
example: when you visit a park , you pay a ticket charge + fee for
food and additional features
By-product pricing refers to products with little or no value
produced as a result of the main product.
- Producers will seek little or no profit
- Producers should accept any price that covers more than
the cost to cover storage and delivery. 19
Product bundle pricing combines several products and
offer the bundle at a reduced price.
• Price bundling can promote the sales of products

1 bottle: $2.70 Bundled 2 bottles: $4.90

11-20
 Price Adjustment Strategies
Companies adjust basic prices to account for various
customer differences and changing situations.
• Discount and allowance pricing
• Segmented pricing
• Psychological pricing
• Promotional pricing
• Geographical pricing
• Dynamic pricing
• International pricing

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Discount and allowance pricing reduces prices to reward
customer for certain responses such as paying early, volume
purchases, and off-season buying.
– Discounts
• Cash discount for paying promptly
• Quantity discount for buying in large volume
• Functional (trade) discount for selling, storing,
distribution, and record keeping
– Allowances
• Trade-in allowance for turning in an old item when
buying a new one
• Promotional allowance to reward dealers for participating
in advertising or sales support programs

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Segmented pricing is used when a company sells a product at two
or more prices even though the difference is not based on cost.
• Adjust basic prices to allow for differences in customers, products,
and locations
✓ Customer segment pricing is when different customer pay for
different prices for the same product or service.
✓ Product form segment pricing is when different versions of the
product are priced differently but not according to differences in cost.
✓ Location pricing is when the product is sold in different geographic
areas and priced differently in those areas even though the cost is the
same.
✓ Time pricing is when a firm varies its prices by the season, the month,
the day, and even the hour.
• Airlines, hotels and restaurants – revenue management or yield
management

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Psychological pricing occurs when sellers consider the
psychology of prices and not simply the economics.
– Reference prices are prices that buyers carry in their
minds and refer to when looking at a given product.
– Nothing current prices
– Remembering past prices
– Assessing the buying situations

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Promotional Pricing
• Loss leaders are products sold below cost to attract customers in the
hope they will buy other items at normal markups.
• Special event pricing is used to attract customers during certain
seasons or periods.
• Cash rebates are given to consumers who buy products within a
specified time.
• Low interest financing, longer warrantees, and free maintenance
lower the consumer’s “total price.”
Geographical pricing is used for customers in different parts of the
country or the world.
– FOB pricing
– Uniformed delivery pricing
– Zone pricing
– Basing point pricing
– Freight absorption pricing 25
• FOB (free on board) pricing means that the goods are placed
free on board a carrier. At that point the title and responsibility
passes to the customer, who pays the freight from the factory to
the destination.
• Uniformed delivery pricing means the company charges the
same price plus freight to all customers, regardless of location.
• Zone pricing means that the company sets up two or more
zones where customers within a given zone pay a single total
price.
• Basing point pricing means that a seller selects a given city as
“basing point” and charges all customers the freight cost
associated from that city to the customer location regardless of
the city from which the goods are actually shipped.
• Freight absorption pricing means that the seller absorbs all or
part of the actual freight charge as an incentive to attract
business in competitive markets.

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• Dynamic pricing is when prices are adjusted continually to
meet the characteristics and needs of the individual customer
and situations.
• International pricing is when prices are set in a specific
country based on country-specific factors.
– Economic conditions
– Competitive conditions
– Laws and regulations
– Infrastructure
– Company marketing objectives

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 Price Changes
Initiating Pricing Changes
• Price cuts is a reduction in selling price.
– Excess capacity
– Increase market share
• Price increases is an increase in selling price
– Cost inflation
– Increased demand and lack of supply
Buyers’ Interpretation to Price Changes
• Price cuts
– New models will be available
– Models are not selling well
– Quality issues
• Price increases
– Product is “hot”
– Company greed
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Responding to Price Changes
• Questions
– Why did the competitor change the price?
– Is the price cut permanent or temporary?
– What is the effect on market share and profits?
– Will competitors respond?
• Solutions
– Reduce price to match competition
– Maintain price but raise the perceived value through
communications
– Improve quality and increase price
– Launch a lower-price “fighting brand”

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