Pricing & promotion

Paul Trott, Innovation Management and New Product Development, 4th Edition, © Pearson Education Limited 2008

Slide 12.1

Lecture 9

Pricing & Promotion

Refer to any introductory marketing text


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PRICE: A Definition

• Marketing involves the exchange of

something of value.

• Price is a statement of value because it is

the amount of money given in exchange

for a product or service.

• Price is an important component in the

marketing mix. In marketing, the strategic

skill is to build the products' worth and

increase its value to the consumer.


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WHAT IS PRICE?

Prices go by many names -

• rent, tuition, fee, fare, rate, interest, dues,

wages, premium, etc. -

• whatever it's called it is what one must give up

as an exchange for something of value


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PRICING - OVERVIEW (1)

• Consumers react to price more than they do

to other mix variables

• Most purchase decisions place price as the most

important consideration

• Impacts heavily on the exchange

• Decisions on setting price is often made

quickly after less analysis

• Often treated by product managers as

routine or intuitive, often based on cost


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PRICING - OVERVIEW (2)

• Cost based data is readily available in firm

• Product managers cannot charge price lower than cost (sets

floor)

• Customer more concerned about value rather than cost

• Price higher than value results in lost sales, leading to

lowering of price.

• Different prices produce different levels of demand

• Price is not determined by internal factors alone (costs) but

also by customers


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View of Pricing: Buyer vs Seller

Buyer View

• Price is something of value given up

• Purchasing power impacts on choices – price

determines what we buy

Seller View

• Price represents a revenue stream

• Contributes to profit

• Accumulation of costs

• Important in marketing mix


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Demand Curve


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Inelastic and Elastic Demand


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COSTS• Costs alone should never determine price

• Costs have a critical role in formulating price

strategy

• Pricing decisions relate to sales volume

• Sales involve cost of distribution and marketing

• Effective pricing requires an evaluation of buyers

will pay and on this basis set quantities to produce

and markets to serve.


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EXAMPLE

Camera company Olympus

• Determined what features future customers would

value

• MR- focus groups, interviews, and a complete

competitor analysis (capabilities)

• Set a price point for a new compact camera at

$100

• Subtracted margins for dealers, import costs, its

own margin and arrived at a preliminary target

cost

• This target cost forced scientists to develop anew

technology to meet the cost target


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Perceived Value

• Our reaction to price has a lot to do with

perceived value.

• Our notion what is a good and bad price.

• We compare price being charged to

perceived value or benefit that will arise

from purchase.

• We also compare price to a reference point

(like price paid before).


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Setting price

• The maximum price the product manager

can charge is the customer value.

• The minimum is the variable cost


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Price Bands Explained

• Prices can vary even within target segments

referred to as “price bands.”

• There is a positive relationship between

price and perceived quality.

• Curves in previous slide represent

distribution of prices within segment – more

the spread the wider the variation in price.


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Why do variations exist within

segments?• Consumers become brand loyal to certain products or suppliers

• In purchase decision they tend to rate price lower compared to other factors eg. reliability, brand equity, image, etc

• In some industries price is less visible (esp in industrial products – working of a price list). Compare this to a supermarket or shop where price is displayed.

• The larger the number of suppliers and the more intense the competition, the narrower the price band.


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Some key pricing questions

• How consumers make purchase decisions?

• How important is price in the overall decision?

• How important is price in the purchase decision

process for different individuals?

• How important is (total) product to the customer?

• To answer these you need in-depth knowledge of

the customer


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An Illustration of the Gap between Customer Value and Cost

Customer Value

Price (A) {keeping

value for firm – more

profit}

Price (B) { value

pricing}Cost

0

$


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Overall estimates of customer

value• Interview customers to determine economic

value or benefits of using the product

• Focus group and surveys

• Aims to measure willingness-to-pay


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Compositional approach and

Importance ratings• Direct customer questions about value of

product attributes

• Customers rank order or rate the importance of

product attributes

• Compared to substitutes or competitors

offerings


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Consumers Internal Reference

Prices• The “fair price, or what the product ought to cost the customer

• The price frequently charged

• The last price paid

• The upper amount someone would pay

• The lower threshold or lowest amount a customer would pay

• The price of the brand usually bought

• The average price charged for similar products

• The expected future price

• The typical discounted price


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Influences on the Product Manager’s Pricing

DecisionsPsychological aspects

• Reference prices

• Price/Perceived quality

Pricing objectives:

• Penetration

• Skimming

• Customer value cost

• Return-on-investment

• Stability

Industry conditions

• Threat of new entrants

• Power of buyers/suppliers

• Rivalry

• Substitutes

• Capacity situation

Stage of the

product life

cycle


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Factors Affecting Price


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EXTERNAL FACTORS

AFFECTING PRICING

DECISIONS• Demand levels

• Market structures

• Consumer Perceptions of Price and Value, price

sensitivity

• Demand-Price relationship, elasticity

• Competitors’ Prices and Offers

• Other External Factors- price protections


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Other Factors Affecting Price

• Stage of the product life cycle

• Category conditions

• Threat of new entrants

• Power of buyers/sellers

• Rivalry

• Pressure from substitutes

• Unused capacity


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Price & PLC• Introductory Stage

Skimming or Penetration Strategy?

• Growth StagePrice to gain or hold market share

Countering competitors’ pricing strategy

• Mature StageConstant price pressure

Price cutting

Lower margins

• Decline StageLow demand, low prices , slim margins


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Pricing Environment Analysis

• Threat of New Entrants

• Power of Buyers/Suppliers

• Rivalry

• Pressure from Substitutes

• Unused Capacity


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Market-Based Pricing Model

Cost targets established to meet

marketing objectives

Cost = $20

Unit margin= $20, % margin= 50%

Source: Market-Based Management Strategies by R. J. Best, © 1997.

Adapted by permission of Prentice-Hall, Inc., Upper Saddle River, NJ.

Net Price = $40

to the manufacturer

Target margins established based

on profit goals

Price = $40

Based on 20% wholesale margin

Net price set is selling price less

distribution costs

Price = $50

Based on 50% retail margin

Price discounted to achieve

desired reseller margins

Price = $100

Based on desired

product positioning

Price set to meet customer needs,

competition, and product

positioning

Pricing

Logic

Starts

Here

Logic Application


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Price to customer = $75

Based on stream of costsResult is price set to customers

Price to retailer = $37.50

Based on 50% retail margin

Resellers mark up price to

achieve desired margins

Price to Wholesaler = $30

Based on 20% wholesale margin

Set price to yield desired margin

and profits

Cost-Plus Pricing Model

Desired Unit Margin = $10

% margin = 33%

At target volume, what margin is

needed for set profitability?

Source: Market-Based Management Strategies by R. J. Best, © 1997. Adapted

by permission of Prentice-Hall, Inc., Upper Saddle River, NJ.

Logic Application

What is the total cost of making

the product?

Total Cost = $20

Fixed costs = $10, Variable = $10

Pricing

Logic

Starts

Here


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COST-PLUS PRICING• Historically common

• Pricing based on a fair return over all costs

• Starts with the cost of the product and desired margin

• Price is set and product sold to channel

• Channel margins are added

• Why is it impossible to determine a products unit cost before determining its price?

• Unit costs change with volume

• TC=FC+VC

• Unit cost is a moving target

• Price affects volume and Volume affects cost


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PROBLEMS WITH COST

PLUS PRICING• Difficult to determine in advance

• Difficult to allocate joint costs to specific products

• Not based on realistic profit or market share objectives

• Ignores elasticity of demand

• Generally disregards competition

• Buyers more concerned about value for money

• Difficult to determine fair return

• Ignores capital requirements and ROI

• Many costs vary with volume (which depends on price)


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BE MARKET SHARE• Market Share is contrained between 0 - 100 %

• BEMS a better framework from which to judge

profit potential and risk

• BEMS = (BE volume / Market Demand) x 100

• If Market demand = 1m units per year and BE

volume = 90,000

• BEMS = 9%

• If the firm’s target MS =10% there is risk of loss.

would feel more comfortable if BEMS was 3 - %


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QUESTION?Would market-

based prices differ in segments?• Market-based pricing starts with customers

• Goal is to create greater customer value

• Different market-price strategies would be

developed in response to different customer needs

• A price sensetive segment would be most attracted

to low pice regardless of additional product

benefits

• A quality - sensitive segment may pay more for

extra benefits they desire (product featues, service,

brand)

• See example on mobile phones


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QUESTION?

Is there a relationship between price and

market growth• Market growth and market demand are

often dependent on price levels

• At high prices many customers simply cannot enter the market

• As price of mobiles phones, computers decrease more customers enter the market

• Price therefore regulates both the size of the market and how fast it will grow

• see example


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EXAMPLE

• At $5 the estimated demand is 9000 units

• Price elasticity is -2.20

• 1% fall in price = 2.2% rise in demand

• 10% fall in price = 22% rise in dd = 10980

• Can continue to lower price to make demand grow till elasticity reaches -1.0. At this point sales revenue is maximum. At this point increase or decrease in price will result in lower sales revenue (but not necessarily profit)


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Price setting:

information needsIn order to set price, we need:

• An analysis of product costs.

• Expected profit levels.

• Market needs and wants.

• Competition and lead times.

• Expected buying responses of market segments.

• The key to determining price is the understanding of the value that customers place on the product.


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Selecting the price strategy

• How much flexibility is there for price

levels How far above cost should a firm

price a new product — skimming versus

penetration options?

• How visible should price be in the

promotion of a new product?

• Illustrative pricing strategies (see exhibit

10.8)


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Pricing an innovative product

• Market Skimming Strategy

• Market Penetration Strategy


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MARKET-SKIMMING

PRICING.• High initial prices to skim maximum profits from each successive layer of the target market.

• Skimming strategies typically set a price as high as some segments will bear.

• Used when the cost of producing small volume are not prohibitive.

• Works well only when product quality, image, and innovation are sufficiently distinct


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EXAMPLE

• Market Skimming Pricing

Eg Polaroid’s original instant camera charged

the highest price it could

As segment got saturated it lowered price to

capture the next layer of the price sensitive

customers


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MARKET-PENETRATION PRICING.

• Some innovations are priced low upon

introduction in order to capture large market

share quickly thus penetrating the market.

• Works well in highly price sensitive

markets with volume potential.

• Helps accelerate overall market adoption

rates.

• Discourages competitors from entering.


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EXAMPLE

• Market Penetration Pricing

Eg Microsoft with Windows 95 set the price

as low as possible to win large market share

(when its costs began to fall it cut price

even further)

Eg Netscape browser started off free. Once it

captured 80%of market it introduced better

versions for a low price to retain customer

base.


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Question?

• How do you decide whether a low or a high

price strategy is appropriate for a new

innovative product?

• What would you need to consider?


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The Communications MixCompany mission

or vision

Unit communication plan

and objectives

Unit marketing plan

Overall business plan

Communications strategies

Advertising Public relations Sale

promotion

Direct

marketingPackaging

and graphicsAdvertising objectives

Advertising

strategy

Advertising

tactics


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Strategic Advertising Objectives


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Types of Advertising Objectives

• Customer-Focused Objectives

• Exposure-Oriented Objectives

• Specific Objectives


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Factors Affecting the Advertising and Promotion Budget

1. The product is relatively standardized (as opposed to

when the product is produced or supplied to order).

2. There are many end users.

3. The typical purchase amount is small.

4. Sales are made through channel intermediaries

rather than directly to end users.

5. The product is premium priced.

6. The product has a high contribution margin.

7. The product or service has a small market share.


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Trade Promotions

• Financial incentives and discounts given to

retailers and distributors

• Slotting allowances, point of purchase

displays, contests, training programs

• Aim to secure shelf space and prominance in

the store

• A brand at eye level increases sales


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SALES PROMOTION consists of various

incentives, mostly short term, intended to stimulate

quicker and/or greater purchase of particular

goods/services by end-user consumers or value

chain organizations.

The strategy process is similar to the design of

advertising strategy.

SALES PROMOTION STRATEGY


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Aims of consumer promotions

• Change choices

• Enhance the attitudes and loyalty towards a

brand

• Sampling – to create brand associations and

kick-start WOM

• Markets are becoming more precise in how

they deliver samples – point of use – eg Dove

body wash and deodorants handed to gym

users at end of session.


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Why do markets sponsor events?

• To identify with particular target market or lifestyle –

linking brands to events – eg Subaru – skiing events –

4WD cars

• To increase awareness of company or product

• To reinforce band association / perception – eg Seiko

as official timer at Olympics

• To enhance corporate image and commitment to

community- eg Colgate Palmolive sponsoring the

Starlight Foundation


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Impacts of Promotion

• Temporary retail price reductions substantially increase sales

• The frequency of deals changes the consumer’s reference price

• Cross-promotional effects are asymmetric, and promoting higher quality brands affects weaker brands


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Impacts of Promotion (cont)

• Display and feature advertising have strong

effects on item sales

• Advertised promotions can result in

increased store traffic

• Promotions affect sales in complementary

and competitive categories


Slide 12.52

PromotionComponents

Public

Relations

Direct

Marketing

Sales

Promotion

Personal

Selling

Advertising

Interactive/Internet

Marketing

Composition of Promotion Strategy


Slide 12.53

EXAMPLES OF COMMUNICATIONOBJECTIVES

Need Recognition

Finding Buyers

Brand Building

Evaluation of Alternatives

Decision to Purchase

Customer Retention

Documents

Pricing & promotion