Marketing Management

Pricing
The Commercial Exchange

Product

Seller Buyer

Something
in exchange

• Product: Good or service

• Buyer: Consumer or business
customer
• Something in exchange: Price
What is Price

 Price is something which is given in return for a product in commercial

exchange.
 If the product in the commercial exchange is a good, then the product price
will be called as price
 However, if it is a service, then the product price may well go by one of the
variety of the possible names.
1. Rent
2. Fees
3. Premium
4. Fare
5. Toll
Pricing as a Marketing Activity

 Marketing activities are those actions an organization can take for the
purpose of facilitating commercial exchanges.
 There are four categories of marketing activities- Marketing Mix.
 Product: Designing, naming and packaging goods and/or service to satisfy
customer needs
 Place: Efforts to make product available at the times and places that
customer want
 Promotion: Communicating about the product
 Price: Determining what must be provided by customer in return for the
product
 Product
Create Value
 Place
 Promotion

 Price Harvests Value

 Three Levels of Price Management
Key Issues

Industry Demand, Supply, Cost dynamics

Product/Market Price/benefit position relative to competitors

Transaction Decide each price for customer transaction

The Price Funnel
Pricing

Level-1 Marketing Economics

Economics of Spatial
Static Pricing
Competition

Level-2 Dynamic Pricing Economics of

Segmented Pricing

Price Promotion Economics of

Information
Behavioral Pricing

Pricing & Marketing

Asymmetric
Mix Variables Information

Miscellaneous PRICE
PREMIUM
Impacting Profits- Power of 1 Percent

• Profit
Profit = Quantity X (Price – Variable Costs) – Fixed Costs

π = Q (P – V) – F

Volume or Quantity Sold (hence the Q)

Price (P)
Profit (π)
Variable Costs (V)
Fixed Costs (F)

9
Impacting Profits- Power of 1 Percent

1
0
Changing Pricing Environment

 Internet has changed how buyers and sellers interact.

 It allowed sellers to discriminate between buyers and buyers to discriminate between
sellers.
 Buyers can:
 Get instant price comparisons from thousand of vendors: Skyscanner.
 Name their price and have it met
 Sellers can:
 Monitor customer behaviour and tailor offers to individuals
 Give certain customers access to special prices
Early Pricing Practices

 In earliest commercial exchanges, goods or services were exchanged for other goods or
services.---Barter
 Barter makes exchanges difficult.
 Because of inefficiencies of barter, overtime it became clear that best medium of exchange
is one that is finely divisible, such as the metals of various weights used in coins.
 This use of coins and notes to represent them led to national systems of money (Dollar,
Rupee).
 It is prices expressed in such monetary terms.
Three Categories of Pricing Issues
 As the use of pricing in monetary terms proliferated among human societies, various issues
began to arise: These fall in to three categories:
1. Buyer-seller interactivity
2. Price Segmentation
3. Price Format
Buyer Seller Interactivity:
 Throughout most of the history, prices were not fixed amounts that are displayed/advertised as
today.
 Rather prices were negotiated during an interaction between the buyer and seller.
 Mutual consensus on reservation price/asking price-Interactive price
 Bad customer experience
 Concept of fixed price evolved.
 Price Segmentation
 Buyer seller negotiation allowed seller to charge different prices to different buyers.
 This practice of charging different customers different prices for the same item is known as
price segmentation.
 In order to accomplish price segmentation with fixed prices, it is necessary to have more
than one price for a single product.
 How to effectively develop price segmentation remains challenge.
 Price Format
 The third category of pricing issues involves how price is expressed when it is
communicated to potential customers.
 This form of expression of price is known as price format.
Setting the Price

 Where would one start in setting an item’s initial price?

 Survey of price setters of both goods and services found that the most commonly used
starting point fro an item’s price is its cost.
 The second most commonly used starting point is the price of similar items sold by one or
more competing companies.
 Third, is the value of the benefits that the item creates by satisfying the needs of the
customer.
Setting The Price

Setting the
Price

Cost based Competition Value based

pricing based pricing pricing
Cost-Based Pricing
 When the setting of an item’s initial price begins with a consideration of the item’s costs,
the process is known as costs-based pricing.
 The logic of cost-based pricing is very simple
 An items selling price should be greater than what it costs to produce or acquire that item.
 The simplest form of cost based pricing is referred to as cost-plus pricing.
 Cost Plus Pricing
 It involves determining the amount to be added to an items cost and then adding the
amount to arrive at the items price.
 If C is an item’s cost, then its price (P) is calculated as
 P= C + added amount
 It is quite common among companies that sell customized products.
Cost-Based Pricing
 Mark-up Pricing
 It is the amount added to an items cost (C) expressed as a percentage of that cost.
 M=(added amount/C)*100
 P= C+ [(M/100)*C]
 For example: To set initial price of portable audio devices, a consumer electronics retailer might
apply 150 per cent markup. If the retailer pays $50 for a particular MP3 player, it would use
following calculations to set a $125 price for that item:

 P= $50 + [(150/100)*$50]
 P= $50 + (1.5*$50)
 P=$50 +$75
 P=$125
Cost-Based Pricing
Manufacturer ($5)

Wholesaler
$5- Cost to acquire
+ $1- Mark-up (20%)
=$6

Retailer
$6- Cost to acquire
+ $6- Mark-up (100%)
=$12
Advantages/Disadvantages of Cost
based Pricing
 Advantages:
1. Simplicity
2. Economical
 Disadvantages:
1. Not useful in realizing total profits
Competition based pricing

 When the setting of an items initial price begins with the examination of competitors
prices, the process is known as competition based pricing.
 When the sellers intent is to match the levels of competitors prices, the method is often
referred to as parity pricing.
 Seller may also choose to set the prices lower or higher than competitors
Value (Customer) based pricing

 Identify the price of the competing product that customer views as the best substitute. This
is the reference value
 Identify all the factors that differentiate your product from this competing product. These
are the differentiating factors.
 Determine the monetary value to customer of each of these differentiating factors. These
are the positive and negative differentiation values.
 Sum the reference value and the differentiation values to determine the total value to the
customer (VTC or EVE), the maximum that someone fully informed of the products
benefits would be willing to ay for the product.
 Cost based vs. Value based Pricing

Product Cost Price Value Customers

Customers Value Price Cost Product

Steps involved in setting pricing policy

1. Selecting the pricing objective

2. Determining Demand
3. Estimating costs
4. Analysing competitors costs, prices and offers.
5. Selecting the pricing method
 Step 1: Selecting the Pricing Objective
 Survival
 Companies pursue survival as their major objective when they are plagued with
overcapacity, intense competition, or changing consumer wants.
 As long as prices cover variable costs and some fixed costs, companies stay in business
 Survival is a short-run objective.
 E.g: Telecom companies in India
 Maximum Current Profit
 Many companies try to set a price that will maximize current profits.
 They estimate the demand and costs associated with alternative prices and choose the price
that produces maximum current profit, cash flow, or rate of return on investment.
 This strategy assumes the firm knows its demand and cost functions.
 Maximum Market Share
 Some companies want to maximize their market share.
 They believe that a higher sales volume will lead to lower unit costs and higher long-run
profit.
 This practice is called market-penetration pricing.
 The set the lowest price assuming market is price sensitive.
 E.g: Texas Instruments famously practiced market penetration for years.
 Maximum Market Skimming
 Companies unveiling a new technology favor setting high prices to maximize market
skimming.
 This is also called market-skimming pricing, where prices start high and are slowly
lowered over time.
 Market skimming makes sense under the following conditions:
1. A sufficient number of buyers have a high current demand.
2. The high initial price does not attract more competitors to the market.
3. The high price communicates the image of a superior product.
 Step 2: Determining Demand
 Marketers need to know how responsive, or elastic, demand is to a change in price
 If demand hardly changes with a small change in price, we say the demand is inelastic.
 If demand changes considerably, demand is elastic.
 If demand is elastic, sellers will consider lowering the price.
 A lower price will produce more total revenue as long as the costs of producing and selling
more units do not increase disproportionately
 Step 3:Estimating Costs
 Types of Costs and Levels of Production
 A company’s costs take two forms, fixed and variable.
 Fixed costs (also known as overhead) are costs that do not vary with
production or sales revenue.
 Variable costs vary directly with the level of production.
 Total costs consist of the sum of the fixed and variable costs for any
given level of production.
 Average cost is the cost per unit at that level of production, it equals
total costs divided by production.
 To price intelligently, management needs to know how its costs vary
with different levels of production.
 Accumulated Production
 As company gains experience, processes get streamlined and hence average cost falls with
accumulated production experience.
 The decline in the average cost with accumulated production experience is called as
experience curve or learning curve.
 Step 4: Analyzing Competitors’ Costs, Prices, and Offers
 Within the range of possible prices determined by market demand and company costs, the
firm must take competitors’ costs, prices, and possible price reactions into account.
 The firm should first consider the nearest competitor’s price.
 The introduction of any price or the change of any existing price can provoke a response from
customers, competitors, distributors, suppliers, and even the government.
 Step 5: Selecting a Pricing Method
 Given the customers’ demand schedule, the cost function, and
competitors’ prices, the company is now ready to select a
price.
1. Costs set the floor to the price.
2. Competitors’ prices and the price of substitutes provide an
orienting point.
3. Customers’ assessment of unique features establish the price
ceiling.

The Three “Cs” model of price setting