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Chapter 10: Price: What is the Value Proposition Worth?
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2.3.1 The Economy
Broad economic trends tend to direct pricing strategies. The
business cycle, inflation, economic growth, and consumer
confidence all help to determine whether one pricing strategy or
another will succeed.
During recessions, consumers grow more price sensitive. Many
firms find it necessary to cut prices to levels at which costs are
covered but the company does not make a profit to keep factories
in operation.
Inflation may give marketers cause to either increase or decrease
prices. First, inflation gets customers used to price increases.
They may remain insensitive to price increases, even when
inflation goes away, allowing marketers to make real price
increases. In periods of recession, inflation may cause marketers
to lower prices and temporarily sacrifice profits in order to
maintain sales levels.
Exhibit:
ForceFlex
Garbage Bag ad
Exhibit: P&G
Pampers
ad
p. 306 2.3.2 The Competition
Marketers try to anticipate how the competition will respond to
their pricing actions. It is not always a good idea to fight the
competition with lower prices. Pricing wars can change
consumers’ perceptions of what is a “fair” price, leaving them
unwilling to buy at previous price levels.
Generally, firms that do business in an oligopoly (in which the
market has few sellers and many buyers) are more likely to adopt
status quo pricing objectives in which the pricing of all
competitors is similar. Avoiding price competition allows all
players in the industry to remain profitable.
Firms in a purely competitive market have little opportunity to
raise or lower prices. Price is directly influenced by supply and
demand.
p. 306 2.3.3 Government Regulation
Governments in the United States and other countries develop two
different types of regulations, which have an effect on pricing.
First, a large number of regulations increase the costs of
production. Regulations for health care, environmental protection,
occupational safety, and highway safety, just to mention a few,
cause the costs of producing many products to increase. Other
regulations of specific industries such as those imposed by the
Food and Drug Administration (FD) on the production of food
and pharmaceuticals increase the costs of developing and
producing those products. In addition, some regulations directly
address prices.
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
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2.3.4 Consumer Trends
Consumer trends also can strongly influence prices. Culture and
demographics determine how consumers think and behave and so
these factors have a large impact on all marketing decisions.
2.3.5 The International Environment
The marketing environment often varies widely from country to
country. This can have important consequences in developing
pricing strategies.
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3. IDENTIFY STRATEGIES AND TACTICS TO PRICE
THE PRODUCT
In modern business, there seldom is any one-and-only,
now-and-forever, and best pricing strategy. Like playing a game
of chess, making pricing moves and countermoves requires
thinking two and three moves ahead.
3.1 Step 5: Choose a Pricing Strategy
The next step in price planning is to choose a pricing strategy.
3.2 Pricing Strategies Based on Cost
Marketing planners often choose cost-based strategies because
they are simple to calculate and relatively risk free. They promise
that the price will at least cover the costs the company incurs in
producing and marketing the product.
Cost-based pricing methods have drawbacks, however. They do
not consider such factors as the nature of the target market,
demand, competition, the product life cycle, and the product’s
image. The calculations for setting the price may be simple and
straightforward but accurate cost estimating may prove difficult.
The most common cost-based approach to pricing a product is
cost-plus pricing in which the marketer totals all the costs for the
product and then adds an amount (or marks up the cost of the
item) to arrive at the selling price. Many marketers use cost-plus
pricing because of its simplicity—users need only estimate the
unit cost and add the markup. To calculate cost-plus pricing,
marketers usually calculate either a markup on cost or a markup
on selling price. Keystoning is a retail pricing strategy in which the
retailer doubles the cost of the item (100 percent markup) to determine
the price.
Figure 10.11
Snapshot: Pricing
Strategies and
Tactics
p. 309 3.2.1 Pricing Strategies Based on Demand
Demand-based pricing means that the firm bases the selling price
on an estimate of volume or quantity that it can sell in different
markets at different prices. Firms must determine how much
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
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product they can sell in each market and at what price.
Today, firms find that they can be more successful if they match
price with demand using a target costing process. They first
determine the price at which customers would be willing to buy
the product and then works backward to design the product in
such a way that it can produce and sell the product at a profit.
With target costing, firms first use marketing research to identify
the quality and functionality needed to satisfy attractive market
segments and what price they are willing to pay before the
product is designed. The next step is to determine what margin
retailers and dealers require as well as the profit margin the
company requires. Based on this information, managers can
calculate the target cost—the maximum it will cost the firm to
manufacture the product. If the firm can meet customer quality
and functionality requirements and control costs to meet the
required price, it will manufacture the product.
Yield management pricing, another type of demand-based
pricing, is a pricing strategy used by airlines, hotels, and cruise
lines. Firms charge different prices to different customers in order
to manage capacity while maximizing revenue. This strategy
works because different customers have different sensitivities to
price. The goal of yield management pricing is to accurately
predict the proportion of customers who fall into each category
and allocate the percentage of the airline or hotel’s capacity
accordingly so that no product goes unsold.
Figure 10.12
Snapshot: Target
Costing Using a
Jeans Example
p. 310 3.2.2 Pricing Strategies Based on the Competition
Sometimes a firm’s pricing strategy involves pricing its wares
near, at, above, or below the competition. A price leadership
strategy, which usually is the rule in an industry dominated by
few firms and called an oligopoly, may be in the best interest of
all firms because it minimizes price competition. Price leadership
strategies are popular because they provide an acceptable and
legal way for firms to agree on prices without ever talking with
each other.
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3.2.3 Pricing Strategies Based on Customers’ Needs
When firms develop pricing strategies that cater to customers,
they are less concerned with short-term results than with keeping
customers for the long term.
Firms that practice value pricing or everyday low pricing
(EDLP), develop a pricing strategy that promises ultimate value
to consumers. What this means is that, in the customer’s eyes, the
price is justified by what they receive.
Exhibit: Priceline
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
When firms base price strategies solely or mainly on cost, they
are operating under the old production orientation and not a
customer orientation. Value-based pricing begins with customer,
then considers the competition, and then determines the best
pricing strategy.
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3.2.4 New Product Pricing
When a product is new to the market or when there is no
established industry price norm, marketers may use a skimming
price strategy, a penetration pricing strategy, or trial pricing when
they first introduce the item to the market.
Setting a skimming price means that the firm charges a high,
premium price for its new product with the intention of reducing
it in future response to market pressure.
If a product is highly desirable and it offers unique benefits,
demand is price inelastic during the introductory stage of the
product life cycle, allowing a company to recover
research-and-development and promotion costs. When rival
products enter the market, the price is lowered in order for the
firm to remain competitive. Firms focusing on profit objectives in
developing their pricing strategies often set skimming prices for
new products.
A skimming price is more likely to succeed if the product
provides some important benefits to the target market that make
customers feel they must have it no matter what the cost.
For a skimming price to be successful there should also be little
chance that competition can get into the market quickly. In
addition, the market should consist of several customer segments
with different levels of price sensitivity.
Penetration pricing is the opposite of skimming pricing. In this
situation, the company prices a new product very low to sell more
in a short time and gain market share early on. One reason
marketers use penetration pricing is to discourage competitors
from entering the market. The firm first out with a new product
has an important advantage. Experience shows that a pioneering
brand often is able to maintain dominant market share for long
periods. Penetration pricing may act as a barrier-to-entry for
competitors if the prices the market will bear are so low that the
company will not be able to recover development and
manufacturing costs.
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
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Trial pricing means that a new product carries a low price for a
limited time to generate a high level of customer interest. Unlike
penetration pricing, in which the company maintains the low
price, in this case it increases the trial price after the introductory
period. The idea is to win customer acceptance first and make
profits later.
3.2.5 Price Segmentation
Price segmentation is the practice of charging different prices to
different market segments for the same product. Peak load
pricing is a pricing plan that sets prices higher during periods
with higher demand. Surge pricing is a pricing plan that raises
prices of a product as demand goes up and lowers it as demand
slides.
Bottom of the pyramid pricing is innovative pricing that will
appeal to consumers with the lowest incomes by brands that wish
to get a foothold in bottom of the pyramid countries.
p. 312 3.3 Step 6: Develop Pricing Tactics
Once marketers have developed pricing strategies, the last step in
price planning is to implement them. The methods companies use
to set their strategies in motion are their pricing tactics.
p. 313 3.3.1 Pricing for Individual Products
The way marketers present a product’s price to a market can make
a big difference. The following are examples:
Two-part pricing requires two separate types of payments to
purchase the product. Payment pricing makes the consumer think
the price is “do-able” by breaking up the total price into smaller
amounts payable over time. Decoy pricing is a pricing strategy
whereby a seller offers at least three similar products; two have
comparable but more expensive prices and one of these two is less
attractive to buyers, thus causing more buyers to buy the higher
priced more attractive item.
Exhibit: Dank
Furniture
ad
►Marketing Moment In-Class Activity
Ask students to think of examples of products (besides cars) that use payment pricing. Who is the
target market (people who may not be able to afford the product)? Are there any ethical concerns
to this tactic? How would you advertise the price?
p. 313 3.3.2 Pricing for Multiple Products
A firm may sell several products that consumers typically buy at
one time. Price bundling means selling two or more goods or
services as a single package for one price—a price that is often
less than the total price of the items if bought individually.
Captive pricing is a pricing tactic a firm uses when it has two
products that work only when used together. The firm sells one
item at a very low price and then makes its profit on the second
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
high-margin item.
Marketing Moment In-Class Activity
Ask students to identify how fast food restaurants use product bundling? (Example: Happy Meal)
Are there any ethical concerns (i.e., people eating more because they ‘get a deal’)?
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3.3.3 Distribution-Based Pricing
Distribution-based pricing is a tactic that establishes how firms
handle the cost of shipping products to customers near as well as
far.
F.O.B. pricing is a tactic used in business-to-business marketing.
Often
a company states a price as F.O.B. factory or F.O.B. delivered.
F.O.B. stands for “free on board,” which means the supplier pays
to have the product loaded onto a truck or some other carrier. Also
—and this is important—title passes to the buyer at the F.O.B.
location. F.O.B. factory or F.O.B. origin pricing means that the cost
of transporting the product from the factory to the customer’s
location is the responsibility of the customer. F.O.B. delivered
pricing means that the seller pays both the cost of loading and the
cost of transporting to the customer, amounts it includes in the
selling price.
International Delivery Pricing Terms of Sale
CIF (cost, insurance, freight) is used for ocean
shipments. It means the seller quotes a price for the
goods (including insurance), all transportation, and
miscellaneous charges to the point of debarkation from
the vessel.
CFR (cost and freight) means the quoted price covers
the goods and the cost of transportation to the named
point of debarkation but the buyer must pay the cost of
insurance. This term is typically used only for ocean
shipments.
CIP (carriage and insurance paid to) and CPT
(carriage paid to) include the same provisions as CIF
and CFR. However, they are used for shipment by
modes other than water.
When a firm uses uniform delivered pricing, it adds an average
shipping cost to the price, no matter what the distance from the
manufacturer’s plant—within reason.
Freight absorption pricing means the seller takes on part or all of
the cost of shipping. This policy works well for high-ticket items,
for which the cost of shipping is a negligible part of the sales
price and the profit margin.
Exhibit: The Art
of Shaving
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
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3.3.4 Discounting for Channel Members
A list price, also referred to as a suggested retail price, is the
price that the manufacturer sets as the appropriate price for the
end consumer to pay. In pricing for members of the channel,
marketers recognize that retailers and wholesalers have costs to
cover and profit targets to reach as well. They often begin with
the list price and then use a number of discounting tactics to
implement pricing to members of the channel of distribution.
Such tactics include the following:
Trade or functional discounts: Because the channel
members perform selling, credit, storage, and
transportation services that the manufacturer would
otherwise have to provide, manufacturers normally
offer trade or functional discounts to channel
intermediaries. These discounts are usually set
percentage discounts off the suggested retail or list
price for each channel level.
Quantity discounts: To encourage larger purchases from
distribution channel partners or from large
organizational customers, marketers may offer quantity
discounts, or reduced prices for purchases of larger
quantities. Cumulative quantity discounts are based on
a total quantity bought within a specified time, often a
year/. They encourage a buyer to stick with a single
seller instead of moving from one supplier to another.
Cumulative quantity discounts often take the form of
rebates, in which case the firm sends the buyer a
rebate check at the end of the discount period or,
alternatively, gives the buyer credit against future
orders. Non-cumulative quantity discounts are based
only on the quantity purchased with each individual
order and encourage larger single orders but do little to
tie the buyer and the seller together.
Cash discounts: Many firms try to entice their
customers to pay their bills quickly by offering cash
discounts.
Seasonal discounts: Seasonal discounts are price reductions
offered only during certain times of the year.
p. 315 4. PRICING AND ELECTRONIC COMMERCE
Because sellers are connected to buyers around the globe as never
before through the Internet, corporate networks, wireless setups,
and marketers can offer deals tailored to a single person at a
single moment. Many experts suggest that technology is creating
a consumer revolution that might change pricing forever—and
perhaps create the most efficient market ever. The Internet also
enables firms that sell to other businesses (B2B firms) to change
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
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their prices rapidly as they adapt to changing costs.
4.1 Dynamic Pricing Strategies
One of the most important opportunities the Internet offers is
dynamic pricing, in which the seller can easily adjust the price to
meet changes in the marketplace.
4.2 Internet Price Discrimination
Internet price discrimination is an Internet pricing strategy that
charges different prices to different customers for the same
product. Is price discrimination illegal? As long as the company
doesn’t charge different prices based on a demographic
characteristic such as gender or race, it is not. Whether it is
ethical, however, is debatable.
4.3 Online Auctions
Online auctions allow shoppers to bid on everything from
bobbleheads to health-and-fitness equipment to a Sammy Sosa
home-run ball. Auctions provide a second Internet pricing
strategy. Perhaps the most popular auctions are the C2C auctions
such as those on eBay. The eBay auction is an open auction,
meaning that all the buyers know the highest price bid at any
point in time. On many Internet auction sites, the seller can set a
reserve price, a price below which the item will not be sold.
A reverse auction is a tool used by firms to manage their costs in
business-to-business buying. While in a typical auction, buyers
compete to purchase a product, in reverse auctions; sellers
compete for the right to provide a product at, hopefully, a low
price.
4.4 Freemium Pricing Strategies
A freemium strategy is a business strategy in which a product in
its most basic version is provided free of charge but the company
charges money (the premium) for upgraded versions of the
product with more features, greater functionality, or greater. The
freemium pricing strategy has been most popular in digital
offerings such as software media, games, or web services where
the cost of one additional copy of the product is negligible.
4.5 Pricing Advantages for Online Shoppers
The Internet creates unique pricing challenges for marketers
because consumers and business customers are gaining more
control over the buying process. Consumers have become more
price sensitive.
►Marketing Moment In-Class Activity
Ask if a student or someone the student knows participated in an e-bay auction. How is it
emotionally different from just going to the store and paying the price on the price tag (emotional
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
excitement)? How does this kind of consumer behavior exemplify the “experience economy?”
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5. PSYCHOLOGICAL, LEGAL AND ETHICAL ASPECTS
OF PRICING
5.1 Psychological Issues in Setting Prices
Much of what we’ve said about pricing depends on economists’
notion of a customer who evaluates price in a logical, rational
manner.
5.1.1 Buyers’ Pricing Expectation
Often consumers base their perceptions of price on what they
perceive to be the customary or fair price. When the price of a
product is above or sometimes even when it is below what
consumers expect they are less willing to purchase the product.
Figure 10.13
Snapshot:
Psychological,
Legal, and
Ethical Aspects
of Pricing
►Marketing Moment In-Class Activity
Ask students to write down their “internal reference price” for products they are likely to
purchase (i.e., CD, can of pop, fast food dinner, computer, jeans, shoes). Compare prices between
students. Why are some internal reference prices consistent while others are different?
p. 318 5.1.2 Internal Reference Prices
Sometimes consumers’ perceptions of the customary price of a
product depend on their internal reference price. That is, based on
experience, consumers have a set price or a price range in mind
that they refer to in evaluating a product’s cost.
In some cases, marketers try to influence consumers’ expectations
of what a product should cost when they use reference-pricing
strategies. For example, manufacturers may compare their price to
competitors’ prices when they advertise. Similarly, a retailer may
display a product next to a higher-priced version of the same or a
different brand.
Two results are likely: On the one hand, if the prices (and other
characteristics) of the two products are close, the consumer will
probably feel the product quality is similar. This is an
assimilation effect. On the other hand, if the prices of the two
products are too far apart, a contrast effect may result, in which
the customer equates the gap with a big difference in quality.
p. 319 5.1.3 Price–Quality Inferences
Consumers make price-quality inferences about a product when
they use price as a cue or an indicator of quality. If consumers are
unable to judge the quality of a product through examination or
prior experience, they usually will assume that the higher-price
product is the higher-quality product.
Brain scans show that—contrary to conventional wisdom—
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
consumers who buy something at a discount experience less
satisfaction than people who pay full price for the very same
thing. Researchers call this the price-placebo effect.
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5.2 Psychological Pricing Strategies
Setting a price is part science, part art. Marketers must understand
psychological aspects of pricing when they decide what to charge
for their products or services.
5.2.1 Odd–Even Pricing
Marketers have assumed that there is a psychological response to
odd prices that differ from the responses to even prices. Habit
may also play a role. Research on the difference in perceptions of
odd versus even prices indeed supports the argument that prices
ending in 99 rather than 00 lead to increased sales.
Some prices are set at even numbers because of necessity. Lottery
tickets and admission to sporting events are two examples. Many
luxury items such as jewelry, golf course fees, and resort
accommodations use even dollar prices to set them apart. When
prices are given with dollar signs or even the word dollar,
customers spend less.
5.2.2 Price Lining
Marketers often apply their understanding of the psychological
aspects of pricing in a practice they call price lining, whereby
items in a product line sell at different prices, or price points. If
you want to buy a new digital camera, you will find that most
manufacturers have one “stripped-down” model for $100 or less.
A better-quality but still moderately priced model likely will be
around $200, while a professional quality camera with multiple
lenses might set you back $1,000 or more. Price lining provides
the different ranges necessary to satisfy each segment of the
market.
For marketers this technique is a way to maximize profits. A firm
charges each customer the highest price the he is willing to pay.
5.2.3 Prestige Pricing
Sometimes luxury goods marketers use a prestige pricing strategy
that turns the typical assumption about price-demand
relationships on its head: Contrary to the “rational” assumption
that we value a product or service more as the price goes down, in
these cases, believe it or not, people tend to buy more as the price
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
goes up!
Use website here: www.landsend.com Lands’ End website
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5.3 Legal and Ethical Considerations in B2C Pricing
The free enterprise system is founded on the idea that the
marketplace will regulate itself. Unfortunately, the business world
includes the greedy and unscrupulous. Government has found it
necessary to enact legislation to protect consumers and to protect
businesses from predatory rivals.
5.3.1 Deceptive Pricing Practices
Unscrupulous businesses may advertise or promote prices in a
deceptive way. The Federal Trade Commission (FTC), state
lawmakers, and private bodies such as the Better Business Bureau
have developed pricing rules and guidelines to meet the
challenge.
Another deceptive pricing practice is the bait-and-switch tactic,
whereby a retailer will advertise an item at a very low price—the
bait—to lure customers into the store. However, it is almost
impossible to buy the advertised item—salespeople like to say
(privately) that the item is “nailed to the floor.” The salespeople
do everything possible to get the unsuspecting customers to buy a
different, more expensive, item—the switch.
It is complicated to enforce laws against bait-and-switch tactics
because these practices are similar to the legal sales technique of
“trading up.” Simply encouraging consumers to purchase a
higher-priced item is acceptable, but it is illegal to advertise a
lower-priced item when it’s not a legitimate, bona fide offer that is
available if the customer demands it. The FTC may determine if
an ad is a bait-and-switch scheme or a legitimate offer by
checking to see if a firm refuses to show, demonstrate, or sell the
advertised product; disparages it; or penalizes salespeople who do
sell it.
p. 321 5.3.2 Loss-Leader Pricing and Unfair Sales Acts
Some retailers advertise items at very low prices or even below
cost and are glad to sell them at that price because they know that
once in the store, customers may buy other items at regular prices.
Marketers call this loss leader pricing; they do it to build store
traffic and sales volume.
Some states frown on loss leader practices so they have passed
legislation called unfair sales acts (also called unfair trade
practices acts). These laws or regulations prohibit wholesalers
and retailers from selling products below cost. These laws aim to
protect small wholesalers and retailers from larger competitors
Copyright © 2018 Pearson Education, Inc.
Chapter 10: Price: What is the Value Proposition Worth?
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because the “big fish” have the financial resources that allow
them to offer loss leaders or products at very low prices—they
know that the smaller firms can’t match these bargain prices.
5.3.3 Misleading Merchandising
Sometimes, the merchandising activities in the retail store are
deceptive or at least suspicious. Consumers assume that items in
an end-aisle display are being sold at a discounted price. When
retailers display regularly priced merchandise in these displays,
they may be accused of taking advantage of consumers.
5.4 Legal Issues in B2B Pricing
Some of the more significant illegal B2B pricing activities include
price discrimination, price fixing, and predatory pricing.
5.4.1 Illegal Business-to-Business Price Discrimination
The Robinson-Patman Act includes regulations against price
discrimination in interstate commerce. Price discrimination
regulations prevent firms from selling the same product to
different retailers and wholesalers at different prices if such
practices lessen competition.
5.4.2 Price-Fixing
Price fixing occurs when two or more companies conspire to
keep prices at a certain level. Horizontal price-fixing occurs when
competitors making the same product jointly determine what
price they each will charge. Sometimes manufacturers or
wholesalers attempt to force retailers to charge a certain price for
their product. When vertical price-fixing occurs, the retailer that
wants to carry the product has to charge the “suggested” retail
price.
5.4.3 Predatory Pricing
Predatory pricing means that a company sets a very low price for
the purpose of driving competitors out of business. Later, when
they have a monopoly, they turn around and increase prices.
►ETHICS CHECK
Find out what other students taking this course would do and why
at www.mymktlab.com
If you were advising Uber’s executives, would you encourage
them to end the service’s surge pricing strategy to prevent the
company from losing customers who are angry about such price
hikes?
Ripped from the
Headlines:
Ethical/
Sustainable
Decisions in the
Real World
Real People, Real Choices: Here’s My Choice at Converse
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Chapter 10: Price: What is the Value Proposition Worth?
Betsy chose option #1.
Copyright © 2018 Pearson Education, Inc.
