CHAPTER 11PRICING

PRICING CONCEPTS Generating Revenue (income) Indicator of Quality

Flexibility of the Marketing Mix (4Ps) Price and Demand

PRICE VERSUS NON PRICE COMPETITION ‐ Price Competition Non–Price Competition

FACTORS AFFECTING PRICING DECISIONS Internal Factors External Factors

PRICING METHODS Recommended Retail Pricing Mark up Pricing ‐

1. PRICING CONCEPTSThese are some basic marketing concepts that relate to the pricing function of the business. A good understanding of these concepts will allow the marketer to address the complexity of pricing.

1.1 Generating Revenue (income)Price is the only element of the marketing mix (4Ps) that generates revenue for the business. The marketing functions are expenses or costs — such as the cost of goods sold, distribution expenses, sales staff salaries and promotional expenditure. Increased marketing funding increases the marketing input or effort, thereby leading to higher sales revenue. However, these costs must be efficiently managed in order to realize higher profits. An inflated price does not always generate higher revenue because sales volume (units sold) can fall. Similarly, a discounted price can lead to higher sales volume but not necessarily higher sales revenue.

1.2 Indicator of QualityIn the absence of product knowledge or past experience, consumers will resort to other indicators for quality assurance. Recall that reliability and durability are aspects of quality that are near impossible to determine prior to the actual use of the product. Price is often used as an indicator of such quality. Another commonly used indicator is, of course, the brand. The product’s country of origin can also be a useful sign.

2. FLEXIBILITY OF THE MARKETING MIX (4PS)

Price is also the most flexible marketing mix element because it can be quickly adjusted in response to changes in demand or competitors’ behavior.

Promotion is also another flexible “tool” to influence sales. It would be equally as easy for the competitors to match the new price or even the promotion.

If this should happen, the improved performance is not sustainable. Therefore, price discounts and increased promotion may only have a short‐term impact on

sales. For more sustainable advantage, a business needs to turn to the Product and Place elements,

which are very inflexible and the hardest to improve or adjust. Product innovations require massive funding, know how, technology, and sometimes luck‐ Improvements to Place such as increasing outlets, obtaining stronger retail support or securing

a prime location, can be difficult because independent retailers may be involved. A brand that has secured a prime shelf space in a retail outlet forces competing brands into less ideal spots. ‐

2.1 Price and DemandPricing is the most effective marketing mix element because it has a direct and immediate impact on demand — but only in the short term. It is true that price discounting can increase sales volume.‐

However, frequent price discounting will always be matched quickly by the competition. Regular price discounting encourages consumers to expect and seek discounts every time. Shoppers won’t even react to the sight of a 10% sale sign in a clothing store. A 20% discount may just about get us in.

3. PRICE VERSUS NON‐PRICE COMPETITIONBusinesses can compete in many ways to increase and maintain their market share or profitability. They can offer a product that competes on low price (price competition) or they can use a combination of product, promotion and distribution strategies to compete (nonprice competition).

3.1 Price CompetitionSellers of average or basic products can be very profitable if the low price drives sales volume upwards and costs are controlled. Many consumers are attracted to the low price that suggests value‐for money. Of course, the product must be of acceptable or reasonable quality. A hammer, no matter‐ how cheap, must be able to function reasonably well and must not pose a danger to the user.

Price competition increases the elasticity of demand, i.e., a small change in the price upward or downward will result in a big change in sales volume (demand).

Price competition also results in a static demand curve. The theoretical demand curve (D1) is fixed because no attempt has been made to improve the product. Therefore, the only way to increase sales volume is to reduce price — moving along the

demand curve.Price competition can be highly profitable. It relies on high sales volume through competitive pricing and the ability to control or reduce overall costs (e.g. economies of scale, efficient use of resources, reduced overheads and no frills products).‐

3.2 Non–Price CompetitionNon–price competition sees the seller attempting to emphasize special product features, superior product quality or other factors to significantly differentiate its product from the competition. Specialty brands are substantially distinguished from the rest. Buyers are less price sensitive and more brand loyal or brand insistent. They are attracted to the unique features of the product and are willing to pay a premium. Specialty brands have very few direct competitors.

Non price competition can lead to an‐ “inelastic demand”, i.e., a small change in the price upwards or downwards will result in a very small corresponding change to sales volume (demand). $80,000 luxury car will not lose sales following a 10% in price to $88,000 Non price competition can also lead to a‐ shift in the demand curve if considerable “improvements” are made to the product’s offering. Non price‐ competition, too, can be highly

profitable. It depends on high unit margin and loyal customers. The demand curve can shift due to external environment factors such as competition, seasonality and new legislation.

4. FACTORS AFFECTING PRICING DECISIONS4.1 Internal Factors

These factors are internal to the company and are usually controllable to a certain extent.

Target market. The price of the product obviously depends also on the target markets. Different customer groups will respond to price differently based on their ability or willingness to pay. Goods & services sold in upmarket suburbs may not be priced any higher, but they are less prone to discounting.

Marketing mix elements. The price charged also depends on the following marketing inputs:

1. BrandThe brand is an indicator of quality, an assurance of consistent quality, an extension of the buyer’s personality. All these can only increase the demand for the product. This is demand‐based pricing where the seller will charge a price according to the value attached to the product or brand.

2. Product qualityThis is largely cost‐based pricing because it can be assumed that high quality products cost more to make, and that buyers are willing to pay more for quality.

3. FeaturesAnother cost based consideration because additional features cost more to provide. Consumers‐ expect to pay more for more features.

4. Place of availabilityWhy is a can of Coke $2.00 from a vending machine, $1.60 from a convenience store, 80 cents from a supermarket shelf? This is both cost based & demand based pricing because there is increased‐ ‐ cost of extra handling or providing convenience, such as from a vending machine.

5. Level of promotionIt has been argued that increased advertising pushes up costs and, therefore, prices. It is actually not always the case. Advertising stimulates consumer demand, which in turn can lead to price increase.

Pricing objectives. These are the financial goals that a company intends to achieve through its pricing policies. These objectives are often based on sales volume, sales value, survival, profit, return on investment, market share, and cash flow and so on.

Ex: long term market share growth often comes at the expense of short term profit, as the business‐ ‐ increases marketing expenses and reduces price to grab sales from the competition. The increased sales volume will lead to economies of scale and other efficiencies, driving unit cost down. Businesses not interested in high sales volume can be profitable by charging a higher price to compensate for the low volume.

4.2 External FactorsInternal price setting by the supplier may end up with a price that is very different from the actual price that the consumer ends up paying. Price setting is definitely one decision that is most affected by the largely uncontrollable external factors.

Trade demands. Retailers have different mark ups. Identical products sold in both pharmacies and supermarkets will‐ command different prices. Supermarkets have very narrow margins but high stock turnover. Also, retailers can pressure the supplier into reducing its wholesale price.

Buyer response. Influenced by whether the market is more price sensitive or more brand loyal. The “yeast extract” market is definitely brand loyal — with most preferring Vegemite® or nothing. In this case, a low‐priced alternative will only attract the tiniest of the minority while Vegemite continues with its premium.Price sensitive markets seek low price over minor product differences. Therefore, competitive pricing is necessary to appeal to the majority.

Competition. Price decision is influenced by the nature and intensity of competition, e.g. monopoly, oligopoly, monopolistic competition and pure competition. Also, it is impossible to predict competitors’ reaction to a pricing strategy.

Legal consideration. Pro competitive and consumer protection laws restrict the ability of the business to overcharge‐ buyers, mislead buyers or engage in collusion to control prices. Laws prohibiting price fixing, resale price maintenance and exclusive dealing, are designed to force businesses to compete on price.

Other environmental forces. The travel and tourism industry has to deal with seasonality, while exporters & importers are concerned with the exchange rate. Operating expenses and overheads are considered the normal cost of doing business, and are quite manageable. However, occasionally, the business could be faced with an unforeseen cost hike that needs to be passed on to the customer.

5. PRICING METHODS

There are simply too many factors, especially external ones, that render Pricing the riskiest and the most unstable of the marketing mix (4Ps) elements. The supplier has better control over pricing if its products are sold directly to consumers or if they are sold through agents or brokers. If independent retailers are employed, the suppliers may encounter some uncooperative retailers. The actual retail price can be autonomously set by these retailers.

5.1 Recommended Retail PricingThe price that the consumer pays must be of great concern to the supplier (manufacturer or importer). However, having determined the “best” final price for the product, the supplier cannot force its independent retailers to charge that price — resale price maintenance is illegal in Australia.

That price can only be suggested, i.e., the recommended retail price (RRP). The law allows and expects retailers to charge a price much lower than the RRP in order to compete against one another. The term “discount” usually means giving a discount off the RRP.

Following are some important RRP issues and benefits:

1. The RRP is used as a guide for the retailers: They may not all follow, but better than not having one. Discount retailers take advantage by placing their own discounted price right next to the RRP giving the impression of big savings. 2. The RRP is also a guide for the consumers who now know roughly how much to pay — definitely not more. 3. Having an RRP allows the supplier to advertise a price – otherwise no price will be mentioned in its advertisements. 4. RRP pricing differentiates full price resellers from discounters. ‐ Traditionally, department stores and specialty stores charge the full price, around the RRP. Discount stores charge a discount off the RRP.The marketplace forces these full price stores to price match or even price beat any advertised price. ‐ ‐ ‐5. The supplier can encourage near RRP pricing by fostering a relationship with its retailers‐ through personal selling and incentives. Apple’s range of products is known for its uniform pricing. Very rarely would an independent retailer offer a discount (of the RRP).

Having a uniform retail price is ideal for the sellers and the profit margins are both maintained. If these retailers are cooperating rather than competing, they could be accused of price‐fixing.

5.2 Mark‐up Pricing

In practice Store based retailers know their competitors well. They know their shoppers well. So, they‐ will autonomously add the desired or appropriate amount of mark up.‐

This is the most straight–forward method of pricing and is most commonly used by independent retailers. The supplier effectively loses control over the final price of its product. That’s pricing in the real world.‐The law is very clear with regards to resale price maintenance. The only ways that suppliers can more effectively “control” the retail price is to either appoint these independent retailers as agents or sell direct, i.e., do their own retailing. Suppliers can operate their own outlets, sell on line via the internet‐ or other direct marketing means.