Price Concepts and Approaches

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Chapter 18

• Price Concepts and Approaches

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Chapter Objectives

• Outline the legal constraints on pricing.
• Identify the major categories of pricing
  objectives.
• Explain price elasticity and its determinants.
• List the practical problems involved in applying
  price theory concepts to actual pricing
  decisions.
• Explain the major cost-plus approaches to price
  setting.
• List the chief advantages and shortcomings of
  using breakeven analysis in pricing decisions.
• Identify the major pricing challenges facing
  online and international marketers.

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Pricing and the Law

• Price the exchange value of a good or service
  it represents whatever that product can be
  exchanged for in the marketplace. Price does not
  necessarily denote money barter.
• Robinson-Patman Act, Federal level sales to
  wholesalers, retailers, other producers
• Differences in price must reflect cost
  differentials
• Selling products at unreasonably low prices in
  order to drive competitors out of business is
  prohibited
• If price discounts and promotional allowances
  dont restrict competition, they are allowed

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• Unfair Trade Laws, State level
• Require sellers to maintain minimum prices for
  comparable merchandise. These laws were intended
  to protect small specialty shops.
• Designed to protect small stores and businesses
  from the predatory pricing practices of larger
  chain stores
• Fair Trade Laws, State level
• Allow manufacturers to stipulate minimum prices
  for their products and force retailers to adhere
  to them
• Invalid in 1975, Consumer Goods Pricing Act

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• Protecting Image by Avoiding Price Discounting

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Pricing Objectives and theMarketing Mix

• Prices, and the resulting sales, determine how
  much revenue a company receives
• Prices thus influence a firms profits

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• Profitability ObjectivesFor-profit firms must
  set prices with profitability in mind
• Profit Maximization point at which the
  additional revenue gained by increasing the price
  of a product equals the increase in total costs
• Target-Return Objectives Short-run or long-run
  pricing objectives of achieving a specified
  return on either sales or investment

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• Volume Objectives
• Sales maximization A minimum profit level is
  set and firms seek to maximizes sales
• Market-share objectives the goal set for
  controlling a portion of the market for a firms
  good or service
• The Product Impact of Market Strategies (PIMS)
  Project Research that discovered a strong
  positive relationship between a firms market
  share and product quality and its return on
  investment profitability

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• Figure 18.2
• Southwest Airlines Focusing on Product Quality
  and Market Share

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• Price as a Tool to Achieve Volume Objectives

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• Glad GladWare Containers
• Using Price to Achieve a Market Share Objective

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• Clorox
• Increasing Profitability through Product Quality
  and Market Share

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• Meeting Competition Seeks simply to meet
  competitors prices
• Value Pricing Pricing strategy that emphasizes
  the benefits derived from a product in comparison
  to the price and quality levels of competing
  offerings

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• Prestige Objectives Prices are set at a
  relatively high level in order to develop and
  maintain an image of quality and exclusiveness
  that appeals to status-conscious consumers
• WaterfordPrestige Pricing Maintains a
  High-Quality Image

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• Figure 18.3
• The Diamond is Forever Campaign Prestige
  Pricing

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Pricing Objectives of Not-for-Profit Organizations

• Profit maximization single events or a series
  of events
• Cost recovery recover only actual costs
• Market incentives offer lower-than-average
  pricing or a free service to encourage increased
  usage of their goods or services
• Market suppression- pricing used to discourage
  consumption parking fees and fines

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Price Determination inEconomic Theory

• Demand schedule of the amounts of a firms good
  or service that consumers purchase at different
  prices during a specified period
• Supply schedule of the amounts of a good or
  service that firms will offer for sale at
  different prices during a specified time period

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• Four Market Structures
• Pure Competition Market structure characterized
  by homogeneous products in which there are so
  many buyers and sellers that none has a
  significant influence on price agricultural
  commodities
• Monopolistic Competition Market structure
  involving a heterogeneous product and product
  differentiation among competing suppliers,
  allowing the marketer some degree of control over
  prices many retailers

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• Oligopoly Market structure involving relatively
  few sellers and barriers to new competitors due
  to high start-up costs petroleum refining,
  automobile industry
• Monopoly Market structure involving only one
  seller of a good or service for which no close
  substitutes exist utility companies

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• Distinguishing features of the Four Market
  Structures

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• Costing and Pricing Marketers generally set
  prices for a product that generates sufficient
  revenue to cover the costs of producing an
  marketing it
• Fixed costs are costs that are incurred
  regardless of the volume of a product produced
  and sold
• Variable costs are costs that rise or fall as
  the volume of a product produced and sold rises
  or falls
• Average costs are calculated by dividing total
  costs by the number of units produced.

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• The Concept Of Elasticity In Pricing Strategy
• Elasticity The measure of responsiveness of
  purchasers and suppliers to changes in price
  text definition.
• Elasticity The ratio of the incremental
  percentage change in one variable with respect to
  an incremental percentage change in another
  variable Wikipedia definition.
• Elastic Responsive
• Inelastic Unresponsive

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• The Concept Of Elasticity In Pricing Strategy
• Price elasticity of demand how sensitive is the
  quantity demanded to a change in the price of the
  good.
• Examples
• When the price of gasoline rises by 1 the
  quantity demanded falls by 0.2, so gasoline
  demand is not very price sensitive inelastic,
  unresponsive.
• When the price of gold jewelry rises by 1 the
  quantity demanded falls by 2.6, so jewelry
  demand is very price sensitive elastic,
  responsive.

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• The Concept Of Elasticity In Pricing Strategy
• Price elasticity of supply how sensitive is the
  quantity supplied to a change in the price of the
  good.
• Examples
• When the price of a DaVinci painting increases by
  1 the quantity supplied doesnt change at all,
  so the quantity supplied of DAVinci paintings is
  completely insensitive to the price perfectly
  inelastic, perfectly unresponsive.
• When the price of beef increases by 1 the
  quantity supplied increases by 5, so beef supply
  is very price sensitive elastic, responsive.

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• Determinants Of Elasticity
• Availability of substitutes the more possible
  substitutes the greater the elasticity. The
  number of substitutes depends on how broadly one
  defines the product.
• Degree of necessity or luxury luxury products
  tend to have greater elasticity. Some products
  that initially have a low degree of necessity are
  habit forming and can become necessities to some
  consumers.
• Proportion of the purchasers budget consumed by
  the item products that consume a large portion
  of the purchasers budget tend to have a greater
  elasticity.
• Time period considered elasticity tends to be
  greater over the long run because consumers have
  more time to adjust their behavior.
• Permanent or temporary price change a one-day
  sale will elicit a different response than a
  permanent price decrease.
• Price points decreasing the price from 2.00 to
  1.99 may elicit a greater response than
  decreasing it from 1.99 to 1.98.

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Price Elasticity of Demand for Various Goods
Inelastic

• Salt
• Matches
• Toothpicks
• Gasoline
• Residential natural gas short run
• Tobacco products
• Legal services short run
• Physician services
• Taxi short run

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Price Elasticity of Demand for Various Goods
Elastic

• Restaurant meals
• Airline travel long run
• Foreign travel long run
• Fresh green peas
• Fresh tomatoes
• Automobiles short run

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• Elasticity and Revenue
• Elasticity of demand exerts an important
  influence on total revenue as a result in the
  changes in the price of a good or service
• If demand for a product is relatively elastic,
  actually cutting prices might increase total
  revenue if demand is relatively inelastic,
  raising prices might increase total revenue.

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• Practical Problems of Price Theory
• Marketers may thoroughly understand price theory
  concepts but still encounter difficulty in
  applying them in practice.
• Practical limitations interfering with price
  setting include the facts that
• Some firms dont attempt to maximize profits
• Estimating demand curves is a difficult process
• The market determines prices
• The competition determines prices
• The customer determines prices

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Price Determination in Practice

• Cost-plus pricing practice of adding a
  percentage of a specified dollar amount (markup)
  to the base cost of a product to cover unassigned
  costs and provide a profit

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• Alternative Pricing Procedures
• Full-cost pricing uses all relevant variable
  costs and allocates fixed costs that cannot be
  directly attributed to the production of the
  specific item in setting a products price.
• Incremental-cost pricing attempts to overcome
  arbitrary allocation of fixed costs by only
  considering costs directly attributable to the
  product itself when setting prices

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• Breakeven analysis pricing technique used to
  determine the number of products that must be
  sold at a specified price in order to generate
  sufficient revenue to cover total cost
• Target Returns
• A desired dollar return
• A percentage of sales
• Evaluation of Breakeven Analysis
• next slide

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Toward Realistic Pricing

• In actual practice, most pricing starts with
  costing and margin targets are set
• The marketplace has a lot to do with pricing
• Consumers/Customers
• Competition
• Research aids in setting price points
• Focus Groups, not so good
• Test Markets, a lot better
• How do customers view your product, its perceived
  value, and what will they pay in a real life
  situation?

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• The Modified Breakeven Concept
• Pricing technique used to evaluate consumer
  demand by comparing the number of products that
  must be sold at a variety of prices in order to
  cover total cost with estimates of expected sales
  at the various prices

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• Yield Management pricing strategy that allows
  marketers to vary prices based on such factors as
  demand, even though the cost of providing those
  goods or services remains the same
• Designed to maximize sales in situations such as
  airfares, lodging, auto rentals, and theater
  tickets where costs are fixed

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Global Issues in Price Determination

• Global Prices must support the firms broader
  goals including
• Product development
• Advertising and sales
• Customer support
• Competitive plans
• Financial objectives

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• In General, there are five pricing objectives
  that firms can use to set prices in global
  marketing
• Profitability, volume, meeting competition, and
  prestige
• In addition international marketers work to
  achieve price stability
• Price stability is the ability to maintain
  consistent prices during major economic
  fluctuations and periods of political change

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End of Chapter Eighteen