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PRICING

PRICE
all that consumers exchange for the benefits of having or using a product

value
perceived benefits minus price

There are many names for price: You might be willing to pay higher taxes in return for better schools.  You are asked to pay a toll to travel on a faster highway.  You pay dues if you want to receive the benefits offered by an organization.

There can be additional costs above the price that is asked by the seller and that are not associated in an exchange between buyer and seller.  The cost of attending college is more than the tuition that is asked by the college; you might also have to quit your job and forgo future income, you lose time that could otherwise be used for recreation, etc.  Although these are costs to you, they are not part of the exchange and are not part of the asking price by the seller.  These costs to the prospective buyer are, nonetheless, issues that the seller must consider in attracting buyers when setting a price.


COST
Don't confuse the terms "cost" and "price" in dealing with organizational situations.  Price is what the seller is asking; cost has to do with expenses that are incurred as a result of doing business.

  • Fixed costs
    costs that do not vary with production or sales level

  • Variable costs
    costs that vary directly with the level of production

  • Total costs
    the sum of the fixed and variable costs for any given level of business

Break-even analysis looks at this relationship to determine the sales point where total revenues equal total costs.  This helps us to make marketing decisions in absence of the ability to make a forecast.


DEMAND CURVE
shows the maximum number of products that consumers will buy at a given price

a graph of the quantity of products expected to be sold at various prices if other factors remain constant

movement along the demand curve: normal stuff that you would have learned in your microeconomics course

Marketers play with other things though; e.g.:

  • shift of demand curve

  • shape of demand curve, e.g.:
    • prestige pricing
    • price lining

Consider, for example, the effects of promotion. By making prospective consumers aware of a product, sales can be increased without lowering price.  Movement is not along the demand curve, but the curve is instead shifted.

However, marketers can drastically alter the shape of the curve as well. 

If a young man wants to purchase a bottle of perfume as a gift for a girlfriend, which of the following bottles is he least likely to purchase?

  • $5
  • $10
  • $20
  • $40
  • $80

If he knows nothing about brand names or fragrances, he is likely to avoid the lower priced bottles.  Here, price might be seen as a surrogate indicator of quality, with what are apparently moderately priced brands being framed by low and high priced brands.  If there are many purchasers like this young man, then more bottles will be sold at the middle prices than at the highest or lowest prices.  This creates a demand curve that folds back upon itself - not the right-downward sloping demand curve that was popular in your introductory microeconomics course!

Indeed, all five bottles might have been produced by the same manufacturer, with the contents being identical, at a cost of production and distribution of $10 per bottle.  Bottles at $5 and $10 are displayed not with the expectation to sell at this price, but to help the unknowledgeable buyer feel more confident that the $20 and $40 bottles are reasonably priced products.

Price framing is being used when a store displays its own store brand of house paint that is labeled "good" on one bucket, "better" on another, and "best" on another.  This gives the prospective buyer a point of reference in making a decision as to what kind of paint s/he wants to buy.  With this point of reference, the prospective buyer is more likely to make a decision in that store to purchase rather than to shop around in other stores to make comparisons.  Displaying national brands at high prices next to moderately priced store brands and generics at low prices is another price framing strategy.

Surrogate indicators are used by prospective buyers when it is difficult to evaluate the qualities of a product or when the seller wants to assure the prospective buyer that the price is reasonable.  A current complaint by users of laptop computers, for example, is that it is difficult to tell which microprocessors are fastest; knowing the processor speed is not alone a sufficient guage as to its true processing speed or power.  Given this confusion, a prospective buyer might rely on surrogate indicators of quality, such as the brand name or the price.  Given a familiar brand name and an unfamiliar brand name, many prospective buyers will choose the familiar name; given a higher price and a lower price choice, many will choose the higher priced model on the expectation that it will be a less risky choice.  Brand name and price, then can be surrogate indicators of quality that the seller uses as a stragegy.  Maintaining confusion over product qualities, as some assert is being done with regard to the multitude of processors used in mobile computing devices, can be a deliberate strategy by the seller to cause buyers to rely on other factors that are less easily commoditized when making choices.

Prestige pricing is being used by a seller when it attempts to increase or maintain demand for a product with higher prices.  If the seller knows that some prospective buyers are willing to pay a higher price for an assurance of quality or for the prestige of owning a high priced product, then a higher price could increase demand for some segments of buyer.  For less than ten dollars, I can buy a digital watch that has a full-function calculator and a stopwatch with hundredth-second resolution.  So why would anyone prefer to pay $10,000 for a watch that doesn't have these advanced features - and skimps by not including a second hand and leaving half of the numbers off the of the face?  What would happen to the desirability of owning a Rolex watch if this brand name could be purchased in a digital full-function plastic version for ten dollars at Wal*Mart?

Price lining, or line pricing, is being used when a seller offers a set price for all products in a class, and another set price for all products in another class. , A local charity thrift store saw its sales increase when it changed to this pricing strategy.  It had previously evaluated and tagged (priced) each item of clothing individually.  This was very time consuming, and to save time, it started asking its volunteer workers to more simply classify clothing as "good", "better", and "best".  These classes of clothing were then put on racks that each had a single price sign priminently displayed - $1, $2, and $4.  Although this strategy was implemented as a way to decrease the amount of time that volunteers had to invest in getting merchandise to the floor, the store manager was pleasantly surprised to find that it caused a substantial increase in sales.  The demand curve is now a stair-step shape, not a smooth curve.


PRICE COMPETITION
emphasizes matching or beating competitors' prices

movement along the demand curve

NONPRICE COMPETITION
emphasizes factors other than price in relation to competitors' products

shift of the demand curve

Western marketing tends to focus rarely on price competition and more on meeting the needs of prospective buyers.  With the exception of pure, undifferentiated commodities, price is only one of many product attributes.

Many complain that it is impossible to compete with Wal*Mart because its distribution system allows it to sell certain products at lower prices.  This is true and it privides Wal*Mart with a distinctive and sustainable competitive advantage.  However, this also provides smaller competitors with market opportunities, and it is difficult to be understanding of competitors who fail to realize this.  Wal*Mart advertises, "we sell for less"; they have never claimed to provide value-added service.  The success of Wal*Mart isn't simply because of its own strengths, but also because of the failure of competitors to to recognize its vulnerabilities in the strategies that it has chosen.

Consider an item such as a chain saw.  I am told (by a former employee) that a manufacturer of chain saws distributes its own national brand at Wal*Mart while distributing the same saw as a store brand through a competing retailer.  These saws are identical in every respect except for the color of paint and the stickers that indicate the brand name.  The manufacturer's marketing research found that the store brand is percieved by owners to be a high quality product, while owners of its own branded saws perceived these to be a low quality product.  Store brand owners claimed that the saw started easily, whereas manufacturer brand owners claimed that the saw was difficult to start.  The manufacturer believes that this is due to the ease of returning product to Wal*Mart with no questions asked.  The competitor employs salespeople who provide a lot of pre-sale nurturing; salesperple make sure that customers know the proper procedures for mixing gas and oil and for starting the saw before they leave the store with the new purchase.  Wal*Mart customers are on their own, and when Wal*Mart simply accepts a return with no questions asked, the buyer assumes that the product must indeed have been defective.

Competing solely on price, then, could ruin a brand name. 


PRICE ELASTICITY OF DEMAND
a measure of the sensitivity of demand to changes in price

          percentage change in quantity demanded
     E =  --------------------------------------
                percentage change in price

E>1 : elastic demand

E>1 : inelastic demand

E=1 : unitary demand

If the price of widgets is lowered by ten percent, would you expect an increase in sales of ten percent?
This would be designated as _____.)

When might you expect a demand increase of greater than ten percent?
(Designated as _____.)

When might you expect a demand increase of less than ten percent?
(Designated as _____.)

When might you expect a decrease in demand?


METHODS OF SELECTING PRICES

  • demand based
  • cost based
  • profit based
  • competition based


demand based methods

  • skimming
  • penetration
  • prestige
  • price lining
  • odd-even
  • bundle


cost based methods

  • standard markup
  • cost plus percentage of cost
  • cost plus fixed fee
  • experience curve


profit based methods

  • target profit
  • target return on sales
  • target return on investment


competition based methods

  • customary
  • above, at, or below market
  • loss leader (price leader)


MARKUP PRICING

A college bookstore purchases a marketing textbook from the publisher for $52.50 and sells it to students for $70.

The bookstore claims that they are receiving a reasonable return for their services on a markup of 25%.  Students claim, however, that the bookstore is receiving a 33% markup.  Who is right?

Markup as a Percentage of Cost

= Markup / Cost

Markup as a Percentage of Selling Price

= Markup / Selling Price

Both methods are correct and both methods are used.  Retailers tend to use selling price as the basis for markup simply because selling price is generally used when figuring markdowns.  For example, a suit normally sells for $100, but is advertised as on sale for a markdown of 10%.  A buyer would expect a markdown based on the regular price, so would expect a discount of $10 for a sale price of $90.  To be consistent with this definition of markdown, then markup in retailing is often figured on the basis of selling price, so a markup of 10% on $90 should go back up to the selling price of $100.


23 JUL 05