Chapter 3 Customer Perception Driven Pricing

Chapter 3

Customer Perception Driven Pricing

Using Conjoint Analysis to Identify Value Trade-Offs and Define Prices

Agenda

• How can the perceptions of customers be used to set prices?

• How can intangible value be quantified and used for pricing?

• What is conjoint analysis and how does it use customer perceptions to inform pricing?

• How does conjoint analysis compare to the other methods of price setting?

Matching the price setting approach to market stage

• Revolutionary markets• Lack of sufficient information required (for buyers and sellers) for

pricing• Rare and unique products• No reference products/ no elasticity of demand.

• Evolutionary markets• Markets in which products currently exist.• Customers and sellers are aware of the product categories• Conjoint analysis is very appropriate

• Mature markets• Products available in the markets for quite long time• Sold through matured markets• There is little product differentiation in commodity markets

Customer Perception Driven Pricing

• With evolutionary products, Customers… • have experience with the product category • can conceptualize potential variations on those products• understand the value of the benefits delivered • hold price expectations • can make informed tradeoffs between competing alternatives.

• Example• iPhone 2,3,4,5…., iPad mini, most of the electronic gadgets• Automobiles with automatic vs. manual transmissions

Why Conjoint

• Conjoint analysis provides much greater relevance and depth in price setting than other methods

• Discriminates between the benefits of specific brands, product attributes, service levels, market segments

• Narrower price bands than from Exchange Value Models

• More insight and relevance than from pure Economic Price Optimization

• Conjoint is pricing according to customer perceived value

Why conjoint

• In a real purchase situation, however, consumers do not make choices based on a single attribute.

• Conjoint analysis examines these tradeoffs to determine the combination of attributes that will be most satisfying to the consumer.

By using conjoint analysis a company can determine the optimal features for their product or service.

Conjoint analysis will identify the best advertising message by identifying the features that are most important in product choice.

Steps in conjoint analysis

• Determine attributes and attribute levels• Select product profiles to be measured• Choose a method of stimulus presentation• Decide on the response method• Collect and analyze the data• Interpret the results

Attributes and attribute levels

• Identify the relevant product attributes that are considered during choice

• Select attribute levels that represent the options actually available in the market

• Trade-off between the completeness of the representation and the complexity of the design

Product profiles

• Full factorial designs: all possible combinations of the levels of the various attributes

• Fractional factorial designs: • subset of all possible combinations

Example: Laptop Profiles

Brand Hard Drive RAM Screen Price

Dell 320 GB 2 GB 15.4 in $1,200

Apple 320 GB 4 GB 15.4 in $1,200

Dell 160 GB 4 GB 15.4 in $900

Apple 320 GB 2 GB 15.4 in $900

Dell 320 GB 4 GB 12.1 in $1,500

Apple 320 GB 2 GB 12.1 in $1,500

Apple 160 GB 4 GB 15.4 in $1,500

Apple 160 GB 2 GB 12.1 in $900

Apple 160 GB 4 GB 12.1 in $1,200

Dell 160 GB 2 GB 12.1 in $1,200

Dell 320 GB 4 GB 12.1 in $900

Dell 160 GB 2 GB 15.4 in $1,500

Methods of stimulus presentation

• Verbal descriptions

• Pictures• Actual products or prototypes

Response method

• Rankings or ratings of the product profiles in terms of preference, purchase probability, etc.

• Choice of a product from a set of product profiles

Conjoint creates Part-Worth Utility Functions

• Conjoint treats a product as a bundle of attributes, features, and benefits

• The resulting attribute to value relationship is called a part-worth utility function.

• The sum of the part worth utilities of a product is the consumer utility.

• Can identify the willingness-to-pay by consumers for products that don’t exist yet• Researchers can explore alternative variations of a product, even

products that do not yet exist, and identify the value customers would place on a product with the associated features

• Can be useful in uncovering new product compositions and potential price points that customers would accept

The Basics of Conjoint Analysis

• Suppose you wanted to book an airline travel and you had a choice of spending $400 or $700 for a ticket. The lower priced ($400) ticket is preferable.

• What if the only consideration in booking a travel was sitting in a regular or extra-wide seat? You would probably prefer an extra-wide seat.

• Finally, suppose you can take either a direct travel which takes three hours or a travel that stops once and takes five hours. Virtually everyone would prefer the direct travel.

A Practical Example of Conjoint Analysis

• Q: Would you prefer an airline travel with A or B?A: regular seats, that costs $400 and takes 5 hours.

B: costs $700 has extra-wide seats and takes 3 hours. • Extending this, we see that if seat comfort, price and duration

are the only relevant attributes, there are potentially eight travel choices.

Choice Seat Comfort Price Duration Choice Seat Comfort Price Duration

1 Extra-Wide $700 5 Hours 5 Regular $700 5 Hours




• Given the above alternatives:• Product 4 is very likely the most preferred choice. • Product 5 is probably the least preferred product. • The preference for the other choices is determined by what is

important to that individual.

• Conjoint analysis can be used to determine: • Relative importance of each attribute, attribute level, and

combinations of attributes. • If the most preferable product is not feasible for some reason, identify

the next most preferred alternative. • Using other information, such as background demographics be able to

identify market segments for which distinct products may be appealing.

Utility Value

• A traveler may like the comfort and arrival time of a particular travel, but reject purchase due to the cost.

In this case, price has a high utility value.

• Utility can be defined as a number which represents the value that consumers place on an attribute.

• Utility represents the relative "worth" of the attribute.

More ValueLess Value

Price Utility

$400 65$700 5

• This consumer places a greater value on a 3 hour travel (the utility is 42) than on a 5 hour travel (utility is 22).

• This consumer does not differ much in the value that he or she places on comfort. That is, the utilities are quite close (12 vs. 15).

• This consumer places a much higher value on a price of $400 than a price of $700.

• Average utilities can be calculated for all consumers or for specific subgroups of consumers.

A list of utilities for an individual consumer

Duration Utility

3 hours 425 hour3 22

Seat Comfort Utility

extra-wide seats 15regular seats 12

Price Utility

$400 61$700 5

Choice Seat Comfort Price Duration Choice Seat Comfort Price Duration





• Back to the question above: Would you prefer an airline travel with regular seats, that

costs $400 and takes 5 hours, or a travel which costs $700 has extra-wide seats and takes 3 hours?

For the consumer:

Utility value =15+5+42 =62

Utility value =12+61+22 =95

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Example: Mango Juice

• While fresh mango juice is common within tropical areas, it is harder to find in more northern latitudes

• Potentially, a new hot consumer product

• Mango juice is relatively expensive to produce in relation to other juices, such as grape or orange

• Producers vary between offering pure Mango Juice and Mango Fruit Blends

Attributes under Consideration

• 32 ounce container of Mango Juice has been determined

• Formulation:• Pure • Fruit Blend

• Branding• National Brand • Boutique Brand

• Price levels • $4 or • $7

• Each of three attribute is posed at two different levels for this example, but more attributes can be included and more levels can be considered

Attribute Alternatives

Price

Ingredient Ingredient

Brand

Pure Mango Juice

Premium Niche Brand

$7

Mango Fruit Blend

Premium Niche Brand

$7

Pure Mango Juice

Premium Niche Brand

$4

Mango Fruit Blend

Premium Niche Brand

$4Pure Mango

JuiceNational Brand$7

Mango Fruit Blend

National Brand$7

Pure Mango Juice

National Brand$4

Mango Fruit Blend

National Brand$4

Rank Ordering

Price


Brand

Pure Mango Juice

Premium Niche Brand

$7Rank = 6

Mango Fruit Blend

Premium Niche Brand

$7Rank = 8

Pure Mango Juice

Premium Niche Brand

$4Rank = 2

Mango Fruit Blend

Premium Niche Brand

$4Rank = 4

Pure Mango Juice

National Brand$7Rank = 5

Mango Fruit Blend


Pure Mango Juice


Mango Fruit Blend


Scoring

Price


Brand

Pure Mango Juice

Premium Niche Brand

$7Score = 2

Mango Fruit Blend

Premium Niche Brand

$7Score = 0

Pure Mango Juice

Premium Niche Brand

$4Score = 6

Mango Fruit Blend

Premium Niche Brand

$4Score = 4

Pure Mango Juice

National Brand$7Score = 3

Mango Fruit Blend


Pure Mango Juice


Mango Fruit Blend


Part Worth Utility

Feature Part Worth Utility

Ingredient Pure Mango (2+3+6+7)/4 4.5Fruit Blend (0+1+4+5)/4 2.5

Brand Premium Niche

(2+0+6+4)/4 3.0

National (3+1+7+5)/4 4.0

Price $7 (2+0+3+1)/4 1.5$4 (6+4+7+5)/4 5.5

• Part-worth Utility is found by averaging product scores among attribute • Part Worth Utility measured in Utils, an economist metric of utility.

Product Utility

• To find the utility of a product, we simply add the part worth utilities • We can see that the part-worth utility valuation creates the same utility

ranking as was reported in the survey ranking

Product Utility (Utils) Utility Ranking

Pure Mango, Premium Niche Brand, $7 4.5 + 3.0 + 1.5 = 9.0 6Mango Fruit Blend, Premium Niche Brand,

$72.5 + 3.0 + 1.5 = 7.0 8

Pure Mango, Premium Niche Brand, $4 4.5 + 3.0 + 5.5 = 13.0 2Mango Fruit Blend, Premium Niche Brand,

$42.5 + 3.0 + 5.5 = 11.0 4

Pure Mango, National Brand, $7 4.5 + 4.0 + 1.5 = 10.0 5Mango Fruit Blend, National Brand, $7 2.5 + 4.0 + 1.5 = 8.0 7

Pure Mango, National Brand, $4 4.5 + 4.0 + 5.5 = 14.0 1Mango Fruit Blend, National Brand, $4 2.5 + 4.0 + 5.5 = 12.0 3

Using Utility to determine Price Differentials

• Because price was one of the attributes being measured in the conjoint analysis, we can place a monetary value on Utils.• Over the price range from $7 to $4, the part-worth utility

ranges from 5.5 to 1.5. • Thus, a differential Utility is valued at $.75/util

5.15.5

4$7$

Util

Potential Compelling Offers

• The preference value this participant places on a national brands versus boutique brands is 1 util, or $0.75. • The premium niche brand detracts value from the product for this

participant with respect to national brands.

• The preference value this participant places on a Pure Mango Juice versus a Mango Fruit Blend is 2 utils, or $1.50. • Purity in mango juice adds value for this participant.

• Potential products.• Market a boutique brand of pure mango juice competing against an

established national brand of mango fruit blend priced at $4 would have to market their product at a price less than $4.75 to attract this research participant.

• $4.75 is found by adding the util difference between premium niche versus national (-1.0 utils) and the util difference between pure mango juice and mango fruit blend (2.0 utils), which yields 1 util, where 1 util is valued, by the customer, at $.75

Class Work-3

• Question-3 on Page 57

5 Steps to Conjoint Analysis

1. Attributes Definition

2. Stimulus Presentation

3. Response Measurement

4. Evaluation Criterion

5. Data Analysis

Summary

• Conjoint analysis tends to dominate pricing challenges with evolutionary, differentiated products

• Conjoint analysis treats a product as a sum of its parts, including features, attributes and benefits

• Conjoint analysis reveals the part-worth utility that customers place on specific attributes.

• Dispersion between the part-worth utility functions of customers can be used to identify market segments and estimate market shares of products serving those market segments.

Chapter 3 Customer Perception Driven Pricing

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