Marketing Management

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• Marketing Management
• Pricing Strategy
• Session 6
• Fall 2004

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1. Pricing - Introduction

• Managers biggest marketing headache
• What is the objective? What is the right price?
• Pricing is the firms attempt to capture the
  value created by the product. Value pricing.
• But costs

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Course Outline
1.Overview
Environment
7.Competitors
Buyers
2.Strategy
9.Retailers
5.Products
Wholesal.
4.Segmentation
6.Pricing
3.Market
Cases Advertising
Research
9.Sales
Force
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2. Pricing Problem

• You have just transferred from another division
  and been appointed manager of a division that
  sells replacement parts for air conditioners to
  wholesalers. The division has been losing money
  during the last 2 years, and your mandate is to
  turn the situation around quickly.
• You decide to examine all aspects of the
  divisions performance. You appoint five members
  to a pricing committee and ask them to recommend
  a procedure for reviewing the pricing decisions
  for major parts sold by the division.
• Consider part 1006. The price history of part
  1006 is that the price was 20 per unit until
  April 1, 2001, when it increased by 50 to 30.

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Demand

• Month 2000 2001 2002 2003
• January 12 14 12 7
• February 13 13 15 8
• March 18 20 16 11
• April 25 23 18 14
• May 29 27 20 19
• June 32 30 23 24
• July 42 33 26 26
• August 48 31 29
• September 38 28 24
• October 38 25 18
• November 20 14 12
• December 10 9 5

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Costs

• The equipment necessary to produce this part
  costs about 20,000 (depreciated in 10 years),
  and the marginal cost of production of the part
  is about 10 per unit.
• How would you go about choosing the best price
  for each of the parts? How do you apply this
  methodology to part 1006?

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Issues

• Demand sensitivity
• Costs
• Complements or substitutes
• Dynamics loyalty, experience curves
• Information
• Psychological issues
• Competition

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Basic Trade-off

• Margin per Unit lt-gt Total demand

Price
Demand
Marg. Cost
Volume
0
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3. Main Result
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Mark-Up

Price Elasticity
Price - Marg. Cost
where

• Mark-Up

Price

• Price Elasticity Percentage change in demand

induced by 1 change in Price

• Notes ? fixed costs do not matter?
• ? price-elasticity 1

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Factors Affecting Price Sensitivity

• Customer economics
• Will the decision-maker pay for the product him
  or herself?
• Does the cost of this item represent a
  substantial percentage of the total expenditure?
• Is the buyer the end-user? If not, will the buyer
  be competing on price in the end-user market?
• In this market, does a higher price signal higher
  quality?
• Customer Search and Usage
• Is it costly for the buyer to shop around?
• Is the time of the purchase or the delivery
  significant to the buyer?
• Is the buyer able to compare the price and
  performance of alternatives?
• Is the buyer free to switch suppliers without
  incurring substantive costs?

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4. Multiple Products(Company selling multiple
products)

• 1. Related Demands, Independent Costs
• 2. Independent Demands, Related Costs

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Related Demands, Independent Costs

• Complements raising the price of one brand
  decreases
• demand for the other
• Examples ? TVs and VCRs
• Result

Price of TVs
gt Demand for VCRs
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Mark-Up
Price Elasticity
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Related Demands, Independent CostsInvestment in
Goodwill, W-O-M

• Cuts in price in the present increase demand in
• the future.
• Examples ? launching new products
• ? new restaurants
• ? new car models
• Price Penetration

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Mark-Up
Price Elasticity
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Related Demands, Independent Costs

• Substitutes raising the price of one brand
  increases
• demand for the other
• Examples ? ice-cream
  frozen-yogurt
• ? chicken or
  lamb plate
• (at a
  restaurant)
• Result

Price of ice-cream
gt Demand for Frozen-Yogurt
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Mark-Up
Price Elasticity
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Multiple Products(Company selling multiple
products)

• 1. Related Demands, Independent Costs
• 2. Independent Demands, Related Costs

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Independent Demands, Related CostsExperience
Curves

• Average cost decreases with cumulative production
• Examples airplanes, semiconductors, computers
• Result 1
• Result 2 Adjust Marginal Cost to the average of
• marginal costs throughout the
  future
• Result 3 Prices go down through time

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Mark-Up
Price Elasticity
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Independent Demands, Related Costs Peak and
Non-Peak Demands

• Examples electricity, hotels, airlines,
  telephones
• Periods of peak demand where capacity is
  completely
• utilized
• Periods of non-peak demand where there is excess
• capacity
• Two types of cost ? costs of operation
• ? costs of
  increasing capacity
• Solution adjust marginal cost
• ? period of non-peak demand Marg. Cost is just
• marginal cost of operation.
• ? period of peak demand Marg. Cost is marg.
  cost of
• operation plus the costs of adding one unit to
  capacity.

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5. Price Discrimination

• two units of the same product sold at different
  prices
• Examples
• Objective get more of the value consumers obtain
  from
• consuming the product/service
• Problem ARBITRAGE
• Examples ? gray markets
• ? false student card to
  get student's
• discount

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Types of Price Discrimination

• 1. Price Discrimination with Direct Signals
• 2. Price Discrimination by Self-Selection
• Product line design for segmentation

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Price Discrimination with Direct Signals

• Use of some exogenous signal age, sex,
  occupation,
• location, first time vs. second time buyer, etc.
• Examples

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Types of Price Discrimination

• 1. Price Discrimination with Direct Signals
• 2. Price Discrimination by Self-Selection
• Product line design for segmentation

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Segmentation Problem

• Suppose that you are managing the product line of
  a cellular telephone company. You are considering
  revising your product offerings. You requested a
  market research study which uncovered the
  following two market segments
• Heavy-users Use the cellular phone very
  intensely. For the first 100 minutes of usage
  they are willing to pay about 100, and they can
  use up to 1000 minutes. This segment is about 10
  of the market.
• Emergency-users Use the telephone only for
  crucial calls. For the first 40 minutes they are
  willing to pay about 40, and they can use up to
  500 minutes. This segment is about 90 of the
  market.
• What would be your segmentation strategy?

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6. Key Takeaways

• Pricing as capturing value being created value
  pricing
• Price sensitivity
• Golden rule of pricing
• Multiple products
• complements
• substitutes
• penetration pricing
• price skimming durables
• experience curves
• capacity constraints
• Price discrimination direct signals,
  self-selection
• Self-selection constraints (lower
  quality/quantity of low quality products).