Chapter 14: Developing Pricing Strategies and Programs

LEARNING OBJECTIVES

After reading this chapter, students should:

Know how consumers process and evaluate prices

Know how a company should set prices initially for products or services

Know how a company should adapt prices to meet varying circumstances and opportunities

Know when a company should initiate a price change

Know how a company should respond to a competitor’s price change

CHAPTER SUMMARY

Despite the increased role of non-price factors in modern marketing, price remains a critical element of the marketing mix. Price is the only one of the 4Ps that produces revenue; the others produce costs.

In setting pricing policy, a company follows a six-step procedure. It selects its pricing objective. It estimates the demand curve—the probable quantities it will sell at each possible price. It estimates how its costs vary at different levels of output, at different levels of accumulated production experience, and for differentiated marketing offers. It examines competitors’ costs, prices, and offers. It selects a pricing method. It selects the final price.

Companies do not usually set a single price, but rather a pricing structure that reflects variations in geographical demand and costs, market-segment requirements, purchase timing, order levels, and other factors. Several price-adaptation strategies are available: (1) geographical pricing; (2) price discounts and allowances; (3) promotional pricing; and (4) discriminatory pricing.

After developing pricing strategies, firms often face situations in which they need to change prices. A price decrease might be brought about by excess plant capacity, declining market share, a desire to dominate the market through lower costs, or economic recession. A price increase might be brought about by cost inflation or over demand. Companies must carefully manage customer perceptions in raising prices.

Companies must anticipate competitor price changes and prepare a contingent response. A number of possible responses are possible in terms of maintaining or changing price or quality.

The firm facing a competitor’s price change must try to understand the competitor’s intent and the likely duration of the change. Strategy often depends on whether a firm is producing homogeneous or non-homogeneous products. Market leaders attacked by lower-priced competitors can choose to maintain price, raise the perceived quality of their product, reduce price, increase price and improve quality, or launch a low-priced fighter line.

OPENING THOUGHT

Students should have a good understanding of “price” in their role as consumers. The instructor is encouraged to expand the student’s definition of “a price” by using examples of different pricing structures (cell phone plans for example), promotional pricing, geographical pricing, and price discrimination.

An area for some misunderstanding for students new to marketing is how the firm reviews competitor’s reactions to price changes. Students will have some degree of difficulty in assuming the “role” of a competitor and formulating defensive and/or offensive plans to price changes.

Discriminatory pricing is also an area that students new to marketing can have some difficulty understanding for the first time. Although discriminatory pricing is not illegal, per se, the distinctions are sometimes porous between the two.

TEACHING STRATEGY AND CLASS ORGANIZATION

PROJECTS

At this point in the semester-long marketing plan project, students should be prepared to hand in their pricing strategy decisions for their fictional product/service. In reviewing this section, the instructor should make sure that the students have addressed all or most of the material, concerning pricing, covered in this chapter.

Consumer perceptions of prices are also affected by alternative pricing strategies. Marriott Hotels, for example, has different brands for differing price points. Building upon the Marriott example, students are to scan the environment to find examples of a company whose pricing strategy is closely tied to its branding strategy. Caution: students may want to list just the different price points in the same company such as Ford automobiles. What this project is designed to accomplish, is that students should note that the Lincoln line of cars are priced at a premium to the Ford and Mercury divisions. Good students will also have researched the actual percentage difference between the three divisions.

Sonic PDA Marketing Plan Pricing is a critical element in any company’s marketing plan, because it directly affects revenue and profit goals. Effective pricing strategies must consider costs as well as customer perceptions and competitor reactions, especially in highly competitive markets.

You are in charge of pricing Sonic’s first PDA. Review your SWOT Analysis and Competition Analysis. Also, think about the markets you are targeting and the positioning you want to achieve. Then, answer the following questions about pricing:

What should Sonic’s primary pricing objective be? Why?
Are PDA customers likely to be price-sensitive? Is demand elastic or inelastic? What are the implications of the answers for pricing decisions?
What price adaptations such as discounts, allowances, and promotional pricing should Sonic include in its marketing plan?

Document your pricing strategies and programs in a written marketing plan or type them into the Marketing Mix section of Marketing Plan Pro.

ASSIGNMENTS

Small Group Assignments

Marketers recognize that consumers often actively process price information, interpreting prices in terms of their knowledge from prior purchasing experience, formal communications, informal communications, point-of-purchase, or online resources. Purchase decisions are based on how consumers perceive prices and what they consider to be the current actual price—not the marketer’s stated price. In small groups, ask the students to choose a service good, such as education, legal advice, tax advice, or other such services, and have them map out their perception of prices and what they consider to be the current actual price. Finally, students should compare and contrast their perceptions with the stated or published prices for these services. In completing this assignment, students should explain the differences between perception and stated prices in terms of consumer buying behavior models from Chapter 6 of this text.

Many consumers use price as an indicator or quality. As a group assignment, students should choose a product produced by a firm. Subsequently, the students should conduct a small research project (utilizing the material learned from Chapter 4) and either, confirm, or deny this relationship for the chosen product. For example, do more women or men rely on price as an indicator of quality for product X? If there is a difference, what is the quantifiable difference in terms of marketing research data? Does this difference suggest that marketer’s must or can revise, or revamp price clues to reach their target market?

Individual Assignments

Table 14.1 lists some possible consumer reference prices. Students should read Russell S. Winer’s, “Behavioral Perspectives on Pricing,” and “Buyer’s Subjective Perceptions of Price Revisited,” in Issues in Pricing: Theory and Research, ed. Timothy Devinney, Lexington, MA: Lexington Books, 1988, pp. 35–57. Students should comment on whether or not these consumer reference prices are applicable to today’s consumers; whether this list is inclusive, or are there new consumer reference price points that have developed due to the use of the Internet?
Table 14.3 lists nine factors that the authors contend leads to less price sensitivity in consumers. Choosing a product that is available online and in stores (books or tires, for example) students are to research the various pricings available to consumers through the various Internet shopping gateways and retailers. After collecting this data, ask the students to comment on whether or not, the variety of price points found, can lower price sensitivity to the item or increase consumer’s price sensitivity because of the variety of differing prices found for the same item.

Think-Pair-Share

For many firms pricing is the domain of the financial disciplines in the company. Using accepted accounting and financial processes, some companies’ price strictly according to these models. Assign students the assumed role of “defenders” of this practice and others as “innovators,” challenging these models and supporting some of the newer pricing models such as “perceived” and “value” pricing for products. Have the students come prepared to defend their positions using the concepts developed in this chapter.

Paul W. Farris and David J. Reibstein, in their article, “How Prices, Expenditures, and Profits Are Linked,” Harvard Business Review (November-December 1979); pp. 173–184, found a relationship between relative price, relative quality, and relative advertising (their findings are summarized in the chapter). Students should read the full report, and then be prepared to discuss the validity of this study in light of the consumer information explosion that has occurred due to the emergence of the Internet. Are these relationships still valid today? If not, why or what has caused them to change?

MARKETING TODAY—CLASS DISCUSSION TOPICS

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. Sellers can however, charge different amounts to different classes of buyers in the case of customer-segment pricing, product-form pricing, image pricing, channel pricing, location pricing, and timing pricing. Airlines and other yield pricing industries use these practices on a daily basis.Other industries offer senior citizen and student discounts. Yet other companies are guilty of first or second-degree price discrimination.

Knowing now what you know about the concepts of pricing decisions facing firms, is price discrimination (first, second, or third degree) a philosophy that aids a company in brand building, defeats the purpose of price as a “clue” to quality, or is price discrimination one of the “realities” of the marketplace that companies must follow to remain competitive?

Additional comments can be solicited from the students regarding the ethics of legal price discrimination as it pertains to society as a whole. For example, is the practice of senior citizen discounts inherently unethical because it differentiates one segment of society from another?

END-OF-CHAPTER SUPPORT

MARKETING DEBATE—Is the Right Price a Fair Price?

Prices are often set to satisfy demand or to reflect the premium that consumers are willing to pay for a product or service. Some critics shudder, however, at the thought of $2 bottles of water, $150 running shoes, and $500 concert tickets.

Take a position:Prices should reflect the value that consumers are willing to pay versus prices should primarily just reflect the cost involved in making a product or service.

Pro: Price, perhapsmore than any other element of the marketing mix, communicates value to the consumer. In the consumer-decision making process, we have learned that customers are value-maximizers. They form an expectation of value and act on it. A buyer’s satisfaction is a function of the product’s perceived performance and the buyer’s expectations. So, if the product meets these consumers’ value definitions and the given price point reflects these values, price is seen as acceptable. If the price and the product’s value definition in the minds of the consumer are not consistent, sales will decline and prices will drop until prices reach equilibrium with the consumers’ definition of value.

Con: Marketers have an obligation to the consumers to produce products (or services) that meet consumer needs at the lowest price possible. Fair pricing does not assign any consumer “value” definition into its equation and it should not because each consumer will have differing definitions of “value” according to their prejudices. When marketers try to “assign” a “value definition” to its product, it runs the risks of alienating current customers and missing other potential customers. Therefore, assigning a “fair” price, composed of actual costs plus fair margins, allows the marketer to maximize their customer bases.

MARKETING DISCUSSION

Think of the various pricing methods—markup pricing, target-return pricing, perceived value pricing, value pricing, going rate pricing, and auction-type pricing. As a consumer which method do you personally prefer to deal with. Why? If the average price were to stay the same, which would you prefer: (1) for firms to set one price and not deviate, or (2) to employ slightly higher prices most of the year, but slightly lower discounted prices or specials for certain occasions.

Student answers will differ. However, the following notation from research is worth re-enforcing during the class discussions.

The two different pricing strategies have been shown to affect consumer price judgments:
Deep discounts (EDLP) can lead to lower perceived prices by consumers over time than frequent shallow discounts (high-low) even if the actual averages are the same.

MARKETING SPOTLIGHT—eBay

Discussion Questions:

1)What are the key success factors for eBay?

They have allowed customers to state their perceived value of the product and the buyer’s image of product performance.
Channel deliverables.
Warranty quality.
Customer support.
Supplier reputation.
Trustworthiness.
Esteem.
Allows customers to view the going-rate pricing of products immediately.
Accounted for geographical pricing.

(i)Market-segment pricing.

(ii)Purchase timing.

(iii)Order levels.

(iv)Delivery frequencies.

(v)Guarantees.

j.Allowed companies to adjust prices to accommodate differences in customers, products, locations and so on.

k.Allowed companies to test new pricing levels, product specifications, and new products.

l.Who has eBay appealed to?

(i)Price buyers.

(ii)Value buyers.

(iii) Loyal buyers.

2) Where is eBay vulnerable?

Changes to technology.
Problems in/with technology.
Credibility of the sellers.
Governmental regulation.
Competitive reactions:

(i)Other auction-type Web sites.

(ii) Companies starting their own auction-type operations.

3) What should eBay watch out for?

Consumer changes in buying patterns and priorities.
Consumer’s loss of enthusiasm for the process (newness wears off).
Competition.
Governmental controls or changes in laws (taxation).

4)What recommendations would you make to senior marketing executives moving forward?

Continue to build upon the key aspects of the consumer’s image of the firm.
Continue to build upon the trustworthiness and reputation of the firm.
Monitor competition.

DETAILED CHAPTER OUTLINE

Price is the one element of the marketing mix that produces revenue; the other elements produce costs. Prices are perhaps the easiest element of the marketing program to adjust. Price also communicates to the market the company’s intended value positioning of its product or brand. A well-designed and marketed product can command a price premium.

Pricing decisions are clearly complex and difficult. Holistic marketers must take into account many factors in making pricing decision—the company, customers, competition, and marketing environment. Pricing decisions must be consistent with the firm’s marketing strategy and its target markets and brand positionings.

UNDERSTANDING PRICING

Price is not just a number on a tag or an item.

A)Throughout most of history prices were set by negotiation between buyers and sellers.

B)Setting one price for all buyers is a relatively modern idea.

C)Today the Internet is partially reversing the fixed pricing trend.

D)Traditionally, price has operated as the major determinant of buyer choice.

E)Price remains one of the most important elements determining market share and profitability.

How Companies Price

Companies do their pricing in a variety of ways.

A)In small companies, prices are often set by the boss.

B)In large companies, pricing is handled by division and product-line managers.

C)In large companies, top management sets general pricing objectives, policies, and often approves the prices proposed by lower levels of management.

D)In industries where pricing is a key factor, companies will often establish a pricing department to set or assist others in determining appropriate prices.

E)Many companies do not handle pricing well.

F)Others use price as a key strategic tool.

1)There are customized prices and offerings based on segment value and costs.

G)Effectively designing and implementing pricing strategies requires a thorough understanding of consumer pricing psychology and a systematic approach to setting, adapting, and changing prices.

Consumer Psychology and Pricing

Marketers recognize that consumers often actively process price information, interpreting prices in terms of their knowledge from prior purchasing experiences, formal communications, and point-of-purchase or online resources.

A)Purchase decisions are based on how consumers perceive prices.

B)What they consider the current actual price—not the marketer’s stated price.

C)Consumers may have a lower price threshold below which prices may signal inferior or unacceptable quality.

D)Upper price threshold above which prices are prohibitive and seen as not worth the money