Pricing Considerations and Approaches Chapter 11.

Pricing Considerations Pricing Considerations and Approachesand Approaches

Chapter 11Chapter 11

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Objectives• Understand the internal factors Understand the internal factors

affecting a firm’s pricing decisions.affecting a firm’s pricing decisions.• Understand the external factors Understand the external factors

affecting pricing decisions, affecting pricing decisions, including the impact of consumer including the impact of consumer perceptions of price and value.perceptions of price and value.

• Be able to contrast the three Be able to contrast the three general approaches to setting general approaches to setting prices.prices.

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• ““Buyer-driven Buyer-driven commerce” commerce” concept offers concept offers lower prices to lower prices to consumers and the consumers and the ability to sell ability to sell excess inventory excess inventory to sellersto sellers

• 13.5 million user 13.5 million user customer basecustomer base

• Tremendous Tremendous growthgrowth

• Most deals relate Most deals relate to travel or time to travel or time sensitive / sensitive / perishable servicesperishable services

• Not all ventures Not all ventures have been have been profitableprofitable

• Some customers Some customers find it difficult to find it difficult to commit to commit to purchase prior to purchase prior to learning detailslearning details

Priceline.comPriceline.com

Case Study

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Price Has Many NamesPrice Has Many Names

What is Price?

• RentRent• FeeFee• RateRate• CommissionCommission• AssessmentAssessment

• TuitionTuition• FareFare• TollToll• PremiumPremium• RetainerRetainer

• BribeBribe• SalarySalary• WageWage• InterestInterest• TaxTax

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Definition

• PricePrice The amount of money charged The amount of money charged

for a product or service, or the for a product or service, or the sum of the values that sum of the values that consumers exchange for the consumers exchange for the benefits of having or using the benefits of having or using the product or service.product or service.

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• Dynamic Pricing on the Web allows Dynamic Pricing on the Web allows SELLERS to:SELLERS to: Charge lower prices, reap higher margins.Charge lower prices, reap higher margins. Monitor customer behavior and tailor Monitor customer behavior and tailor

offers.offers. Change prices on the fly to adjust for Change prices on the fly to adjust for

changes in demand or costs.changes in demand or costs. Negotiate prices in online auctions and Negotiate prices in online auctions and

exchanges.exchanges.

What is Price?

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• Dynamic Pricing on the Web Dynamic Pricing on the Web allows BUYERS to:allows BUYERS to: Get instant price comparisons Get instant price comparisons

from thousands of vendors.from thousands of vendors. Find and negotiate lower prices.Find and negotiate lower prices. Negotiate prices in online Negotiate prices in online

auctions and exchanges.auctions and exchanges.

What is Price?

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• Price and the Marketing Mix:Price and the Marketing Mix: Only element to produce Only element to produce

revenuesrevenues Most flexible elementMost flexible element Can be changed quicklyCan be changed quickly

• Price Competition Price Competition • Common Pricing MistakesCommon Pricing Mistakes

What is Price?

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Factors to Consider When Setting Price

• Marketing Marketing objectivesobjectives

• Marketing mix Marketing mix strategiesstrategies

• CostsCosts

• Organizational Organizational considerationsconsiderations

• Market positioning Market positioning influences pricing strategyinfluences pricing strategy

• Other pricing objectives:Other pricing objectives: SurvivalSurvival Current profit maximizationCurrent profit maximization Market share leadershipMarket share leadership Product quality leadershipProduct quality leadership

• Not-for-profit objectives:Not-for-profit objectives: Partial or full cost recoveryPartial or full cost recovery Social pricingSocial pricing

Internal Internal Factors Factors

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• CostsCosts


• Pricing must be Pricing must be carefully coordinated carefully coordinated with the other with the other marketing mix marketing mix elementselements

• Target costing is often Target costing is often used to support used to support product positioning product positioning strategies based on strategies based on priceprice

• Nonprice positioning Nonprice positioning can also be usedcan also be used


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• CostsCosts


• Types of costs:Types of costs: VariableVariable FixedFixed Total costsTotal costs

• How costs vary at How costs vary at different production different production levels will influence levels will influence price settingprice setting

• Experience (learning) Experience (learning) curve effects on pricecurve effects on price


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• CostsCosts


• Who sets the price?Who sets the price? Small companies: CEO Small companies: CEO

or top managementor top management Large companies: Large companies:

Divisional or product Divisional or product line managersline managers

• Price negotiation is Price negotiation is common in industrial common in industrial settingssettings

• Some industries have Some industries have pricing departmentspricing departments


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• Nature of market Nature of market and demandand demand

• Competitors’ costs, Competitors’ costs, prices, and offersprices, and offers

• Other Other environmental environmental elementselements

• Types of marketsTypes of markets Pure competitionPure competition Monopolistic competitionMonopolistic competition Oligopolistic competitionOligopolistic competition Pure monopolyPure monopoly

• Consumer perceptions Consumer perceptions of price and valueof price and value

• Price-demand Price-demand relationshiprelationship Demand curveDemand curve Price elasticity of Price elasticity of

demanddemand

External External Factors Factors

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• Consider competitors’ costs, Consider competitors’ costs, prices, and possible prices, and possible reactions when developing reactions when developing a pricing strategy a pricing strategy

• Pricing strategy influences Pricing strategy influences the nature of competitionthe nature of competition Low-price low-margin Low-price low-margin

strategies inhibit strategies inhibit competitioncompetition

High-price high-margin High-price high-margin strategies attract strategies attract competitioncompetition

• Benchmarking costs against Benchmarking costs against the competition is the competition is recommendedrecommended


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• Economic conditionsEconomic conditions Affect production costs Affect production costs Affect buyer perceptions Affect buyer perceptions

of price and valueof price and value

• Reseller reactions to Reseller reactions to prices must be prices must be consideredconsidered

• Government may restrict Government may restrict or limit pricing optionsor limit pricing options

• Social considerations Social considerations may be taken into may be taken into accountaccount


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• Cost-Based Pricing: Cost-Based Pricing: Cost-Plus Cost-Plus PricingPricing Adding a standard markup to costAdding a standard markup to cost Ignores demand and competitionIgnores demand and competition Popular pricing technique because:Popular pricing technique because:

It simplifies the pricing processIt simplifies the pricing process Price competition may be minimizedPrice competition may be minimized It is perceived as more fair to both It is perceived as more fair to both

buyers and sellersbuyers and sellers

General Pricing Approaches

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Cost-Based Pricing ExampleCost-Based Pricing Example

Variable costs: $20 Fixed costs: $ 500,000Variable costs: $20 Fixed costs: $ 500,000

Expected sales: 100,000 units Desired Sales Markup: Expected sales: 100,000 units Desired Sales Markup: 20% 20%

Variable Cost + Fixed Costs/Unit Sales = Unit CostVariable Cost + Fixed Costs/Unit Sales = Unit Cost

$20 + $500,000/100,000 = $25 per unit$20 + $500,000/100,000 = $25 per unit

Unit Cost/(1 – Desired Return on Sales) = Markup PriceUnit Cost/(1 – Desired Return on Sales) = Markup Price

$25 / (1 - .20) = $31.25$25 / (1 - .20) = $31.25


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• Cost-Based Pricing: Cost-Based Pricing: Break-Even Break-Even Analysis and Target Profit PricingAnalysis and Target Profit Pricing Break-even charts show total cost and Break-even charts show total cost and

total revenues at different levels of unit total revenues at different levels of unit volume.volume.

The intersection of the total revenue and The intersection of the total revenue and total cost curves is the break-even point.total cost curves is the break-even point.

Companies wishing to make a profit must Companies wishing to make a profit must exceed the break-even unit volume.exceed the break-even unit volume.


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Break-Even Analysis and Target Profit PricingBreak-Even Analysis and Target Profit Pricing


Fixed Costs

Total Costs

Revenues

Sales Volume in Thousands of Units

Thousands of Dollars

0 10 20 30 40

1000

800

600

400

200

Break-even point

Target Profit $200,000

Quantity To Be Sold To Meet Target Profit

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• Value-Based Pricing:Value-Based Pricing: Uses buyers’ perceptions of value rather Uses buyers’ perceptions of value rather

than seller’s costs to set price.than seller’s costs to set price. Measuring perceived value can be Measuring perceived value can be

difficult.difficult. Consumer attitudes toward price and Consumer attitudes toward price and

quality have shifted during the last quality have shifted during the last decade.decade. Introduction of less expensive versions of Introduction of less expensive versions of

established brands has become common.established brands has become common.


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• Value-Based Pricing:Value-Based Pricing: Business-to-business firms seek to Business-to-business firms seek to

retain pricing powerretain pricing power Value-added strategies can helpValue-added strategies can help

Value pricing at the retail levelValue pricing at the retail level Everyday low pricing (EDLP) vs. high-Everyday low pricing (EDLP) vs. high-

low pricinglow pricing


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• Competition-Based Pricing:Competition-Based Pricing: Also called going-rate pricingAlso called going-rate pricing May price at the same level, above, May price at the same level, above,

or below the competitionor below the competition Bidding for jobs is another variation Bidding for jobs is another variation

of competition-based pricingof competition-based pricing Sealed bid pricingSealed bid pricing


Pricing Considerations and Approaches Chapter 11.

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