Timing of Price Promotion Suppose that you are running a local mountain bike store and knows that you are looking at two types of customers. 10% are casual shoppers, who are willing to pay $3,000 for the bike. Yet they are happy to pay a discount price. Casual shopper only shops on Saturday & Sunday. 90% are deal seekers, who are only willing to pay $300 for the bike. Deal seekers check out the stores for prices 7 days a week. Your goal is to maximize the overall profit. 1 Dr. Yacheng Sun, UC Boulder

When to Price Promote? Mon Tue Wed Thur Fri Sat Sun Sale? Deal seekers Casual shoppers 2 Dr. Yacheng Sun, UC Boulder

Your goal is to maximize the overall profit. Suppose that you are running an online mountain bike store and knows that you are looking at two types of customers. 10% are casual shoppers, who are willing to pay $3,000 for the bike. Yet they are happy to see a discount price. Casual shopper shop online with equal probability in either of the 7 days. 90% are deal seekers, who are only willing to pay $300 for the bike. Deal seekers are online looking for deals 7 days a week. Your goal is to maximize the overall profit. 3 Dr. Yacheng Sun, UC Boulder

When to Price Promote? Mon Tue Wed Thur Fri Sat Sun Sale? Deal seekers Casual shoppers 4 Dr. Yacheng Sun, UC Boulder

Exam 1 Review 5 Dr. Yacheng Sun, UC Boulder Dr. Yacheng Sun UC Boulder

Price & Profit Profit = Total Revenue – Total Costs = (Unit Price x Quantity Sold) – Total Costs = (Unit Price x Quantity Sold) – Fixed Costs – Variable Costs = (Unit Price x Quantity Sold) – Fixed Costs – (Unit Cost x Quantity Sold) 6 Dr. Yacheng Sun, UC Boulder Dr. Yacheng Sun UC Boulder 6

Example Projected Costs and Revenues at Expected Sales = 1,000,000 units Total Direct Variable Costs $3,000,000 Direct Fixed Costs $4,000,000 Administrative Overhead $1,500,000 Full Cost $7,500,000 Revenue $10,000,000 Profit $1,500,000 7 Dr. Yacheng Sun, UC Boulder 7

Unit contribution, Margin and Markup Unit contribution is the difference between the price and the variable cost Margin: (Unit contribution)/(Unite Price) Markup: (Unit contribution)/(Unite Cost) 8 Dr. Yacheng Sun, UC Boulder

Margin Manufacturer’s margin Retailer’s margin Manufacturer Retailer Consumer Cost of sales: $1 Selling price: $1.50 Unit contribution: $.50 Margin: 33% $1.50 $2.00 Cost of sales: $1.50 Selling price: $2.00 Margin: 25% 9 Dr. Yacheng Sun, UC Boulder

Markup Manufacturer’s markup Retailer’s markup Manufacturer Retailer Consumer Cost of sales: $1 Unit contribution: $.50 Markup: 50% $1.50 $2.00 Cost of sales: $1.50 Markup: 33% 10 Dr. Yacheng Sun, UC Boulder

Relationship between Markup and Margin 1/Markup = (1/Margin) -1 A 25% markup = % margin A 20% markup = % margin A 25% margin = % markup A 50% margin = % markup Practice 11 Dr. Yacheng Sun, UC Boulder

Psychological Aspects of Pricing Perception Bias Weber-Fechner Law Status Quo Bias Prospect Theory 12 Dr. Yacheng Sun, UC Boulder

Shape of the Value Function (Prospect Theory) #1 V(w) <V(x)<V(y) #2 V(y)-V(x) <V(x)-V(w) Reference point Utility(+) #3 V(x) <-V(-x) Value function V(x) -x gains losses w x y V(-x) Disutility(-) 13 Dr. Yacheng Sun, UC Boulder 13

A Numerical Example What is the Utility for Option A? Option B: Straight $799.99 What is the Utility for Option A? Option A: $999.99 and $200 mail-in rebate What is the Utility for Option B? 14 Dr. Yacheng Sun, UC Boulder

Aggregate multiple losses Separate multiple gains Implications of PT Aggregate multiple losses Separate multiple gains Separate small gain and big loss Aggregate small loss and big gain 15 Dr. Yacheng Sun, UC Boulder

Price consumer is willing to pay Transaction Utility Reference price Price Transaction Utility $0 Economic Value For the consumer Price consumer is willing to pay 16 Dr. Yacheng Sun, UC Boulder

Formation of Reference Price Purchase context Cost Current price Past price Advertised price 17 Dr. Yacheng Sun, UC Boulder

Flanking Brands/Products 18 Dr. Yacheng Sun, UC Boulder

Alternative Approaches to Price Product Led Product Price Cost Customers Value Customer Led Customers Products Costs Prices Values Dr. Yacheng Sun, UC Boulder 19 Dr. Yacheng Sun UC Boulder 19

Savings gained from using a product/service offering Defining VALUE Use Value (Utility) Savings gained from using a product/service offering Monetary gain from using a product/service offering Satisfaction received from using a product/service offering Economic Value/Exchange Value Value based on substitutes/alternatives in marketplace Calculated using reference value and differentiation value 20 Dr. Yacheng Sun, UC Boulder

Illustrating Value: Pricing of Market Research market research helps to provide information and reduce uncertainty in decision making 21 Dr. Yacheng Sun, UC Boulder

Calculation 1. Identify the status quo course of action when no market research is available, by calculating expected revenue and/or expected cost. 2. Identify the scenario in which market research can change the course of action and the associated odds. 3. Determine the gain conditional on that scenario. 4. Multiply the conditional gain and the probability for the occurrence of the scenario. 22 Dr. Yacheng Sun, UC Boulder

Prob. of Success Value of MR 1.0 0.8 0.6 0.4 0.2 0.8 0.6 0.4 0.2 23 23 Dr. Yacheng Sun, UC Boulder

Techniques for Measuring Price Sensitivity Variable Measured Uncontrolled Experimentally Controlled Actual Purchases • Historical Sales Data • Panel Data • Store Scanner Data • In-store Experiments • Laboratory purchase experiments Preferences and Intentions • Direct Questioning • Buy-response Survey • Depth Interview • Simulate Purchase Experiments • Trade-off (Conjoint) Analysis 24 Dr. Yacheng Sun, UC Boulder 24

Methods of Obtaining Data from respondents Pair-wise evaluation Rank-ordering product bundles Evaluating products on a rating scale 25 Dr. Yacheng Sun, UC Boulder 25

Conjoint Study Process Stage 1 —Designing the conjoint study: Step 1.1: Select attributes relevant to the product or service category, Step 1.2: Select levels for each attribute, and Step 1.3: Develop the product bundles to be evaluated. Stage 2 —Obtaining data from a sample of respondents: Step 2.1: Design a data-collection procedure, and Step 2.2: Select a computation method for obtaining part-worth functions. Stage 3 —Evaluating product design options: Step 3.1: Segment customers based on their part-worth functions, Step 3.2: Design market simulations, and Step 3.3: Select choice rule. 26 Dr. Yacheng Sun, UC Boulder 26

Conjoint Utility Computations k m j U(P) = S S aijxij j=1 i=1 P: A particular product/concept of interest U(P): The utility associated with product P aij: Utility associated with the jth level (j = 1, 2, 3...kj) on the ith attribute kj: Number of levels of attribute i m: Number of attributes xij: 1 if the jth level of the ith attribute is present in product P, 0 otherwise 27 Dr. Yacheng Sun, UC Boulder 27

Market Share and Revenue Share Forecasts Define the competitive set – this is the set of products from which customers in the target segment make their choices. Some of them may be existing products and, others concepts being evaluated. We denote this set of products as P1, P2,...PN. Select Choice rule Maximum utility rule Share of preference rule Logit choice rule 28 Dr. Yacheng Sun, UC Boulder 28

Market Share Computation (Frozen Pizza) Utility (Value) of each product for each customer. Maximum Utility Rule: If we assume customers will only buy the product with the highest utility, the market share for Meat Lover’s treat is 2/3 and for Veggie Delite is 1/3. Share of preference rule: If we assume that each customer will buy each product in proportion to its utility relative to the other products, then market shares for the three products are: Aloha Special (27.2%), Meat Lover’s Treat (27.9%) and Veggie Delite (44.9%). 29 Dr. Yacheng Sun, UC Boulder 29

Buyer Types 30 Dr. Yacheng Sun, UC Boulder 30

Cues for Identifying Customer Type Relationship Value Price Convenience Desire for interaction Emotional Involvement Loyalty Number/type of considered vendors People involved in decision Fast decisions Switching Costs Operational importance of differentiation 31 Dr. Yacheng Sun, UC Boulder 31

Conditions for Alternative Pricing Objectives SKIM PENETRATION NEUTRAL Low CMs Low Volumes Changes in Unit Price Drive Profit Large BE Sales Changes At or near capacity High CMs High volumes Changes in volume drive profitability Small BE Sales Changes Excess capacity Costs similar to competitors Sufficient CM to finance adv, etc. Little excess capacity Incremental capacity is expensive COSTS Low Price Sensitivity Reference Price Effect Price Quality Effect Difficult Comparison Effect High price sensitivity Total Expend Effect Large Part of End- Benefit Little differentiation Customers are more sensitive to other elements of the marketing mix CUSTOMERS This slide is a summary of the conditions leading to various pricing objectives that is discussed in detail in the chapter Limited threat of opportunism Limited opportunity for scale economies Sustainable differentiation Low threat brands Sustainable cost & resource advantage Competitors not willing to retaliate Financial strength Aggressive small share brands Avoid threat of retaliation Large share brands with a lot to lose Sustainable mktg mix advantages Oligopolies COMPETITION 32 Dr. Yacheng Sun, UC Boulder 32

Analytical Approaches to Profitability Analysis 33 33

Incremental Percent Breakeven Sales Changes 34 Dr. Yacheng Sun, UC Boulder 34