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Chapter 9 Pricing: Understanding and Capturing Customer Value
CHAPTER 9
PRICING: UNDERSTANDING AND CAPTURING CUSTOMER VALUE
PREVIEWING THE CONCEPTS – CHAPTER OBJECTIVES
1. Identify the three major pricing strategies and discuss the importance of understanding
customer-value perceptions, company costs, and competitor strategies when setting
prices.
2. Identify and define the other important internal and external factors affecting a firm’s
pricing decisions.
3. Describe the major strategies for pricing new products.
4. Explain how companies find a set of prices that maximizes the profits from the total
product mix.
5. Discuss how companies adjust their prices to take into account different types of
customers and situations.
6. Discuss the key issues related to initiating and responding to price changes.
JUST THE BASICS
CHAPTER OVERVIEW
Firms successful at creating customer value with the other marketing mix activities must capture
this value in the prices they earn.
Despite its importance, many firms do not handle pricing well.
In this chapter, we begin with the question, “What is a price?” Next, we look at three major
pricing strategies – customer value-based, cost-based, and competition-based pricing – and at
other factors that affect pricing decisions.
Finally, we examine pricing strategies for new-product pricing, product mix pricing, price
adjustments, and dealing with price changes.
ANNOTATED CHAPTER NOTES/OUTLINE
FIRST STOP
Amazon versus Walmart: A Price War for Online Supremacy
Each side is formidable in its own right. Walmart dominates offline retailing. It’s price-driven
positioning has made it far and away the world’s biggest retailer.
In turn, Amazon is the “Walmart of the Web”—our online general store. By one estimate,
Amazon captures a full one-third of all U.S. online buying.
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Chapter 9 Pricing: Understanding and Capturing Customer Value
If Amazon’s expansion continues and online sales spurt as predicted, the digital merchant will eat
further and further into Walmart’s bread-and-butter store sales.
Amazon’s online assortment outstrips even Walmart’s, and the online and mobile shopping
wizard is now moving into groceries, an area that currently accounts for 55 percent of Walmart’s
sales.
Walmart came late to online selling. It’s still trying to figure out how to efficiently deliver goods
into the hands of online shoppers. To catch up, Walmart is investing heavily to create a
next-generation fulfillment network.
Who will win the battle for the hearts and dollars of online buyers? Certainly, low prices will
continue to be important. But achieving online supremacy will involve much more than just
waging and winning an online price war.
It will require delivering low prices plus selection, convenience, and a world-class online buying
experience—something that Amazon perfected long ago. For Walmart, catching and conquering
Amazon online will require time, resources, and skills far beyond its trademark everyday low
prices.
INTRODUCTION
Companies today face a fierce and fast-changing pricing environment.
Yet, cutting prices is often not the best answer.
WHAT IS A PRICE?
In the narrowest sense, price is the amount of money charged for a product or service.
Use Key Term Price here.
More broadly, price is the sum of all the values that customers give up in order to gain the
benefits of having or using a product or service.
Price is the only element in the marketing mix that produces revenue.
Price is one of the most flexible marketing mix elements.
MAJOR PRICING STRATEGIES
Figure 9.1 summarizes the major considerations in setting price.
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Use Chapter Objective 1 here.
Use Figure 9.1 here.
Use Discussion Question 9-1 here.
Customer Value-Based Pricing
In the end, the customer will decide whether a product’s price is right.
Figure 9.1 suggests three pricing strategies: customer value-based pricing, cost-based pricing,
and competition-based pricing.
Use Figure 9.2 here.
Customer value-based pricing uses buyers’ perceptions of value, not the seller’s cost, as the
key to pricing.
Price is considered along with the other marketing mix variables before the marketing program is
set.
Figure 9.2 compares value-based pricing with cost-based pricing.
Cost-based pricing is product driven.
“Good value” is not the same as “low price.”
Two types of value-based pricing are good-value pricing and value-added pricing.
Use Key Terms Customer Value-Based Pricing and Good-Value Pricing here.
Use Marketing Ethics here.
1. Good-value pricing involves offering just the right combination of quality and good
service at a fair price.
Everyday low pricing (EDLP). EDLP involves charging a constant, everyday low price
with few or no temporary price discounts.
High-low pricing involves charging higher prices on an everyday basis but running
frequent promotions to lower prices temporarily on selected items.
2. Value-added pricing is the strategy of attaching value-added features and services to
differentiate their offers and thus support higher prices.
Use Key Term Value-Added Pricing here.
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Use Discussion Question 9-2 here.
Use Marketing at Work 9.1 here.
Cost-Based Pricing
Whereas customer-value perceptions set the price ceilings, costs set the floor for the price that
the company can charge.
Cost-based pricing involves setting prices based on the costs for producing, distributing, and
selling the product plus a fair rate of return for effort and risk.
Types of Costs
Fixed costs (also known as overhead) are costs that do not vary with production or sales level.
Variable costs vary directly with the level of production. They are called variable because their
total varies with the number of units produced.
Use Key Terms Cost-Based Pricing, Fixed Costs (Overhead), and Variable Costs here.
Total costs are the sum of the fixed and variable costs for any given level of production.
Use Key Term Total Costs here.
Cost-Plus Pricing
Use Key Term Cost-Plus Pricing (Markup Pricing) here.
The simplest pricing method is cost-plus pricing (markup pricing) – adding a standard
markup to the cost of the product.
Does using standard markups to set prices make sense? Generally, no.
Markup pricing remains popular for many reasons.
1. Sellers are more certain about costs than about demand.
2. When all firms in the industry use this pricing method, prices tend to be similar and price
competition is thus minimized.
Another cost-oriented pricing approach is break-even pricing, or a variation called target
profit pricing. The firm tries to determine the price at which it will break even or make the
target profit it is seeking.
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Target return pricing uses the concept of a break-even chart, which shows total cost and total
revenue expected at different sales volume levels.
The major problem with this analysis is that it fails to consider customer value and the
relationship between price and demand.
Typically, as the price increases, demand decreases.
Use Key Term Break-even Pricing (Target Return Pricing) here.
Use Figure 9.3 here.
Competition-Based Pricing
Competition-based pricing involves setting prices based on competitors’ strategies, costs, prices,
and market offerings.
What principle should guide decisions about what price to charge relative to those of
competitors? The answer is simple in concept but difficult in practice.
Be certain to give customers superior value for the price.
Use Key Term Competition-Based Pricing here.
OTHER INTERNAL AND EXTERNAL CONSIDERATIONS AFFECTING PRICE
DECISIONS
Overall Marketing Strategy, Objectives, and Mix
Price is only one of the marketing mix tools that a company uses to achieve its marketing
objectives.
Price decisions must be coordinated with product design, distribution, and promotion decisions
to form a consistent and effective integrated marketing program.
Companies often position their products on price and then tailor other marketing mix decisions to
the prices they want to charge.
Target costing starts with an ideal selling price based on customer-value considerations, and
then targets costs that will ensure that the price is met.
Use Chapter Objective 2 here.
Use Key Term Target Costing here.
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Companies may deemphasize price and use other marketing mix tools to create nonprice
positions.
Organizational Considerations
In small companies, prices are often set by top management rather than by the marketing or sales
departments.
In large companies, pricing is typically handled by divisional or product line managers.
In industrial markets, salespeople may be allowed to negotiate with customers within certain
price ranges.
In industries in which pricing is a key factor, companies often have pricing departments to set the
best prices or to help others in setting them.
The Market and Demand
Pricing in Different Types of Markets
Pure competition: The market consists of many buyers and sellers trading in a uniform
commodity. No single buyer or seller has much effect on the going market price.
In a purely competitive market, marketing research, product development, pricing, advertising,
and sales promotion play little or no role. Thus, sellers in these markets do not spend much time
on marketing strategy.
Monopolistic competition: The market consists of many buyers and sellers who trade over a
range of prices rather than a single market price. A range of prices occurs because sellers can
differentiate their offers to buyers.
Oligopolistic competition: The market consists of a few sellers who are highly sensitive to
each other’s pricing and marketing strategies.
There are few sellers because it is difficult for new sellers to enter the market.
Pure monopoly: The market consists of one seller. The seller may be a government monopoly, a
private regulated monopoly, or a private nonregulated monopoly.
Analyzing the Price-Demand Relationship
The relationship between the price charged and the resulting demand level is shown in the
demand curve (Figure 9.4).
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Use Key Term Demand Curve here.
Use Discussion Question 9-2 here.
Use Figure 9.4 here.
In a normal case, demand and price are inversely related; that is, the higher the price, the lower
the demand.
In a monopoly, the demand curve shows the total market demand resulting from different prices.
If the company faces competition, its demand at different prices will depend on whether
competitors’ prices stay constant or change with the company’s own prices.
Price Elasticity of Demand
Price elasticity: How responsive demand will be to a change in price.
If demand hardly changes with a small change in price, we say demand is inelastic.
If demand changes greatly with a small change in price, we say the demand is elastic.
Use Key Term Price Elasticity here.
Use Discussion Question 9-3 here.
Use Marketing by the Numbers here.
The Economy
Economic conditions can have a strong impact on the firm’s pricing strategies.
In the aftermath of the recent Great Recession, consumers have rethought the price-value
equation. Many consumers have tightened their belts and become more value conscious.
The most obvious response to the new economic reality is to cut process. Rather than cutting
prices, many companies are shifting their marketing to focus on more affordable items in their
product mixes.
Remember, even in tough economic times, consumers do not buy based on price alone.
The key is to offer great value for the money.
Other External Factors
The company must also consider what impact its prices will have on other parties in its
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environment, such as resellers and the government.
Social concerns may have to be taken into account.
Use Linking the Concepts here.
NEW-PRODUCT PRICING STRATEGIES
Market-Skimming Pricing
Market-skimming pricing (or price skimming) is setting high initial prices to “skim”
revenues layer by layer from the market.
Market skimming makes sense under certain conditions.
1. The product’s quality and image must support its higher price and enough buyers must
want the product at that price.
2. The costs of producing a smaller volume cannot be so high that they cancel the advantage
of charging more.
3. Competitors should not be able to enter the market easily and undercut the high price.
Use Key Term Market-Skimming Pricing (Price Skimming) here.
Use Chapter Objective 3 here.
Market-Penetration Pricing
Market-penetration pricing is setting a low initial price in order to penetrate the market
quickly and deeply—to attract a large number of buyers quickly and win a large market share.
Several conditions must be met for this strategy to work.
1. The market must be highly price sensitive so that a low price produces more market
growth.
2. Production and distribution costs must fall as sales volume increases.
3. The low price must help keep out the competition, and the penetration pricer must
maintain its low-price position.
Use Discussion Question 9-4 here.
Use Key Term Market-Penetration Pricing here.
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PRODUCT MIX PRICING STRATEGIES (Table 9.1)
In product line pricing, management must decide on the price steps to set between the various
products in a line.
Use Table 9.1 here.
The price steps should take into account cost differences between the products in the line.
Use Key Term Product Line Pricing here.
Use Chapter Objective 4 here.
Optional product pricing is offering to sell optional or accessory products along with a main
product.
Use Key Term Optional Product Pricing here.
In captive product pricing, companies make products that must be used along with a main
product.
Use Discussion Question 9-3 here.
Use Key Term Captive Product Pricing here.
In the case of services, captive-product pricing is called two-part pricing. The price of the
service is broken into a fixed fee plus a variable usage rate.
Using by-product pricing, the company seeks a market for the by-products produced in the
generation of some products and services.
Use Key Term By-Product Pricing here.
Using product bundle pricing, sellers often combine several of their products and offer the
bundle at a reduced price.
Use Key Term Product Bundle Pricing here.
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