1. Setting the Right Price
Lamb, Hair, McDaniel
Chapter 20 Setting the Right Price
CHAPTER 20
Setting the Right Price
© BUENA VISTA IMAGES/THE IMAGE BANK/GETTY IMAGES
All pricing objectives have trade-offs that managers must weigh.

2. Chapter 20 Setting the Right Price
Learning Outcomes
LO 1 Describe the procedure for setting the right price
LO 2 Identify the legal and ethical constraints on pricing decisions
LO 3 Explain how discounts, geographic pricing, and other special pricing tactics can be used to fine-tune the base price

3. Learning Outcomes LO 4 Discuss product line pricing
Chapter 20 Setting the Right Price
Learning Outcomes
LO 4 Discuss product line pricing
LO 5 Describe the role of pricing during periods of inflation and recession

4. How to Set a Price on a Product
Chapter 20 Setting the Right Price
How to Set a Price on a Product
Describe the procedure for setting the
right price
LO1

5. Exhibit 20.1 New-Product Development Process
Chapter 20 Setting the Right Price
Exhibit 20.1 New-Product Development Process
Fine-tune with pricing tactics
Choose a price strategy
Estimate demand, costs, and profits
Establish pricing goals
Results lead to the right price
Notes:
Setting the right price is a four-step process as shown in Exhibit 20.1.
LO1

6. Establish Pricing Goals
Chapter 20 Setting the Right Price
Pricing objectives fall into three categories:
Profit-Oriented
Sales-Oriented
Status Quo
Notes:
The first step in setting the right price is to establish pricing goals. In Chapter 19, we learned that pricing objectives fall into three categories—profit oriented, sales oriented, and status quo. These pricing goals are derived from the firm’s overall objectives.
A good understanding of the marketplace and of the consumer can tell a manager if a goal is realistic.
All pricing objectives have trade-offs. Reaching the desired market share often means sacrificing short-term profit, because without careful management, long-term profit goals may not be met.
Meeting the competition is the easiest pricing goal to implement. But demands and costs, the life-cycle stage, and other considerations can not be ignored when creating pricing objectives.
LO1

7. Choose a Price Strategy
Chapter 20 Setting the Right Price
Price Strategy
A basic, long-term pricing framework that establishes the initial price for a product and the intended direction for price movements over the product life cycle.
Notes:
The price strategy sets a competitive price in a specific market segment. Consequently, changing a price strategy can require dramatic alterations in the marketing mix, including the product itself.
Pricing a new product depends on the market conditions and the other elements of the marketing mix. For example, introducing a product resembling several others in the marketplace will have restricted pricing freedom. In contrast, introducing a product with no close substitutes will have considerable pricing freedom.
Most companies do not do a good job of researching price strategies.
LO1

8. Choose a Price Strategy
Chapter 20 Setting the Right Price
Status Quo Pricing
Price Skimming
Penetration Pricing
Charging a price identical to or very close
to the competition’s price.
A firm charges a high introductory price,
often coupled with heavy promotion.
A firm charges a relatively low price for a
product initially as a way to reach the
mass market.
Notes:
Companies that plan for creating a price strategy can select from three basic approaches: price skimming, penetration pricing, and status quo pricing. A discussion of each type follows.
LO1

9. Price Skimming LO1 Situations When Price Skimming Is Successful
Chapter 20 Setting the Right Price
Situations
When
Price Skimming
Is Successful
Unique Advantages/Superior
Legal Protection of Product
Blocked Entry to Competitors
Technological Breakthrough
Inelastic Demand
Notes:
Price skimming is a pricing policy whereby a firm charges a high introductory price, often coupled with heavy promotion. The term is derived from the phrase “skimming the cream off the top.”
Companies often use price skimming for new products when the product is perceived as having unique advantages. Over time the price will be lowered.
Additional situations when price skimming is successful are listed on this slide.
Firms often feel it is better to test the market at high prices and then lower the price if sales are too slow.
A price skimming strategy will encourage competitors to enter the market.
Discussion/Team Activity:
List companies and/or products that utilize a price skimming strategy.
LO1

10. Penetration Pricing LO1 Advantages Disadvantages
Chapter 20 Setting the Right Price
Advantages
Disadvantages
Can lead to lower cost per unit as production expands
Discourages or blocks competition from market entry
Boosts sales and provides large profit increases
Requires gear up for mass production
Selling large volumes at low prices
Strategy to gain market share may fail
Notes:
Penetration pricing is at the opposite end of the spectrum from price skimming.
By charging a low price for a product, a larger share of the market is captured, resulting in lower production costs.
It does, however, mean lower profit per unit, and a higher volume of sales is required to reach the break-even point. Penetration pricing does tend to discourage competition and is effective in a price-sensitive market.
LO1

11. Status Quo Pricing LO1 Advantages Disadvantages Simplicity
Chapter 20 Setting the Right Price
Advantages
Disadvantages
Simplicity
Safest route to long- term survival for small firms
Strategy may ignore demand and/or cost
Notes:
Status quo pricing means meeting the competition’s prices by charging an identical price or very close to the competition’s price.
It is a simple method of pricing, but the strategy may ignore demand and/or cost. However, if the firm is small, meeting the competition’s prices may be the safest route to long-term survival.
LO1

12. The Legality and Ethics of Price Strategy
Chapter 20 Setting the Right Price
The Legality and Ethics of Price Strategy
Identify the legal and ethical constraints on pricing decisions
Notes:
Some pricing decisions are subject to government regulation.
LO2

13. The Legality and Ethics of Price Strategy
Chapter 20 Setting the Right Price
The Legality and Ethics of Price Strategy
Unfair Trade Practices
Price Fixing
Price Discrimination
Notes:
The issues that limit pricing decisions are unfair trade practices, price fixing, price discrimination, and predatory pricing.
Predatory Pricing
LO2

14. Unfair Trade Practices and Price Fixing
Chapter 20 Setting the Right Price
Unfair Trade Practices and Price Fixing
Unfair Trade Practices Acts
Laws that prohibit wholesalers and retailers from selling below cost.
Price
Fixing
An agreement between two or more firms on the price they will charge for a product.
Notes:
In over half the states, unfair trade practice acts put a floor under wholesale and retail prices, and selling below cost is illegal. Wholesalers and retailers must take a certain minimum percentage markup on their combined merchandise cost and transportation cost.
The most common markup figures are 6 percent at the retail level and 2 percent at the wholesale level. If a specific wholesaler or retailer can provide “conclusive proof” that operating costs are lower than the minimum required figure, lower prices may be allowed.
The intent of unfair trade practice acts is to protect small firms from retail giants like Walmart and Target, which operate efficiently on razor-thin profit margins. State enforcement of unfair trade practice laws has generally been lax, because low prices benefit local consumers.
Price fixing is illegal under the Sherman Act and the Federal Trade Commission Act.
Discussion Question/Team Activity
Research examples of cases tried under the Sherman and Federal Trade Commission Acts.
LO2

15. Predatory Pricing LO2 Predatory Pricing
Chapter 20 Setting the Right Price
Predatory Pricing
Predatory Pricing
The practice of charging a very low price for a product with the intent of driving competitors out of business or out of a market.
Notes:
Predatory pricing is illegal under the Sherman Act and the Federal Trade Commission. However, proving the use of this practice is difficult and expensive.
The Justice Department must show that the predator explicitly tried to ruin a competitor and that the predatory price was below the predator’s average variable cost.
LO2

16. Tactics for Fine-Tuning the Base Price
Chapter 20 Setting the Right Price
Tactics for Fine-Tuning the Base Price
Explain how discounts, geographic pricing, and other pricing tactics can be used to fine-tune the base price
LO3

17. Tactics for Fine-Tuning the Base Price
Chapter 20 Setting the Right Price
Tactics for Fine-Tuning the Base Price
Special pricing tactics
Discounts
Geographic pricing
Notes:
The base price is the general price level at which the company expects to sell a good or service. The general price level is correlated with the pricing policy: above the market, at the market, or below the market. The final step is to fine-tune the base price.
Fine-tuning techniques include discounts, geographic pricing, and other pricing tactics.
LO3

18. Discounts, Allowances, Rebates, and Value-Based Pricing
Chapter 20 Setting the Right Price
Discounts, Allowances, Rebates, and Value-Based Pricing
Quantity Discounts
Cash Discounts
Functional Discounts
Seasonal Discounts
Promotional Allowances
Rebates
Zero Percent Financing
Value-Based Pricing
Notes:
A base price can be lowered through the use of discounts and the related tactics of allowances, rebates, low or zero percent financing, and value-based pricing. Discounts are used to encourage customers to do what they would not ordinarily do, such as pay cash, take delivery out of season, or performing certain functions within a distribution channel.
The most common tactics are:
Quantity discounts with lower prices for buying in multiple units of above a specified dollar amount.
Cash discounts offered for prompt payment of a bill
Functional discounts (trade discounts) are offered when channel intermediaries perform a service for the manufacturer.
Seasonal discounts are lower prices for buying merchandise out of season.
Promotional allowances (or trade allowance) are payments to dealers for promoting the manufacturer’s products.
Rebates are cash refunds given for purchasing a product within a specified period.
Zero percent financing offers no interest charge to increase sales. However, it does cost the manufacturers.
Value-based pricing sets the price at a level that seems to the customer to be a good price compared to other prices.
LO3

19. Value-Based Pricing Value-Based Pricing is… LO3
Chapter 20 Setting the Right Price
Value-Based Pricing is…
setting the price at a level that seems to the customer to be a good price compared to the prices of other options.
Notes:
The basic assumption with value-based pricing is that the firm is customer driven, seeking to understand the attributes customers want in the goods and services they buy and the value of that bundle of attributes to customers.
LO3

20. Pricing Products Too Low
Chapter 20 Setting the Right Price
Pricing Products Too Low
Managers attempt to buy market share through aggressive pricing.
Managers have a natural tendency to want to make decisions that can be justified objectively.
Notes:
Pricing products too low reduces company profits. This happens for two reasons:
The company is attempting to buy market share through aggressive pricing.
Managers have a tendency to make decisions that can be justified objectively. As a result, pricing decisions are made based on current costs, projected short-term share gains, or current competitive prices rather than on long-term profitability.
LO3

21. Geographic Pricing LO3 FOB Origin Pricing Uniform Delivered
Chapter 20 Setting the Right Price
FOB Origin
Pricing
Uniform
Delivered
Zone Pricing
Freight
Absorption
Basing-Point
The buyer absorbs the freight costs from the shipping point (“free on board”).
The seller pays the freight charges and bills the purchaser an identical, flat freight charge.
The U.S. is divided into zones, and a flat freight rate is charged to
customers in a given zone.
The seller pays for all or part of the freight charges and does not pass them on to the buyer.
The seller charges freight from a basing point, regardless of the city from which the goods are shipped.
Notes:
The most common methods of geographic pricing are described on this slide.

22. Other Pricing Tactics LO3 Single-Price Tactic
Chapter 20 Setting the Right Price
Single-Price Tactic
All goods offered at the same price
Flexible Pricing
Different customers pay different price
Professional
Services Pricing
Used by professionals with experience,
training or certification
Price Lining
Several line items at specific price points
Leader Pricing
Sell product at near or below cost
Bait Pricing
Lure customers through false or misleading
price advertising
Odd-Even Pricing
Odd-number prices imply bargain
Even-number prices imply quality
Price Bundling
Combining two or more products in a
single package
Two-Part Pricing
Two separate charges to consume a single good
Notes:
Other pricing tactics are unique and defy neat categorization. Managers use these tactics to stimulate demand for specific products, to increase store patronage, and to offer a wider variety of merchandise at a specific price point. These pricing tactics are described on this slide.
Discussion/Team Activity:
Discuss products and/or businesses that utilize these pricing tactics.

23. Product Line Pricing LO4 Discuss product line pricing
Chapter 20 Setting the Right Price
Product Line Pricing
Discuss product
line pricing
LO4

24. Product Line Pricing Product Line Pricing is… LO4
Chapter 20 Setting the Right Price
Product Line Pricing
Product Line Pricing is…
setting prices for an entire line of products.
Online
Beauty.com
Does Beauty.com use a product line pricing strategy? Choose a brand and view the product list and pricing sheet. What evidence do you see of product line pricing? Of other pricing strategies?
Notes:
In product line pricing, the manager tries to achieve maximum profits for the entire line rather than for a single component of the line.
LO4

25. Relationships among Products
Chapter 20 Setting the Right Price
Relationships among Products
Complementary
Substitutes
Neutral
Notes:
In setting product line prices, the manager first determines the relationship among the products in the line:
Complementary: An increase in the sale of one good causes an increase in demand for the complementary product.
Substitutes: Two products in a line can be substitutes for each other. If buyers buy one item in the line, they are less likely to buy a second item in the line.
Neutral: A neutral relationship can exist between two products. Demand for one of the products is unrelated to demand for the other.
LO4

26. Chapter 20 Setting the Right Price
Joint Costs
Joint Costs
Costs that are shared in the manufacturing and marketing of several products in a product line.
Notes:
If costs are shared in the manufacturing and marketing of several products in the product line, product pricing is more difficult.
Some common assignments of joint costs include a weight basis, market value, or quantity sold.
Discussion/Team Activity:
Name products that may require joint cost pricing.
LO4

27. Pricing during Difficult Economic Times
Chapter 20 Setting the Right Price
Pricing during Difficult Economic Times
Describe the role
of pricing during periods of inflation
and recession
LO5

28. Cost-Oriented Tactics Demand-Oriented Tactics
Inflation
Chapter 20 Setting the Right Price
Cost-Oriented Tactics
High Inflation
Demand-Oriented Tactics
Notes:
When the economy is characterized by high inflation, special pricing tactics are often necessary.
LO5

29. Cost-Oriented Tactics
Chapter 20 Setting the Right Price
Problems with Cost-Oriented Tactics
A high volume of sales on an item with a low profit margin may still make the item highly profitable.
Eliminating a product may reduce economies of scale.
Eliminating a product may affect the price-quality image of the entire line.
Notes: One common cost-oriented tactic is culling products with a low profit margin. However this tactic may backfire for the three reasons listed on this slide.
LO5

30. Cost-Oriented Tactics
Chapter 20 Setting the Right Price
Delayed-quotation pricing – used for industrial installations and many accessory items; firm price is not set until the item is finished or delivered
Escalator pricing – final selling price reflects cost increases incurred between the order time and the delivery time
Hold prices constant, but add new fees
Notes:
Cost-oriented tactics include delayed-quotation pricing, which is used for industrial installations and accessory items. Price is not set until the item is either finished or delivered. Examples: Builders of nuclear power plants, ships, airports, and office towers.
Escalator pricing is similar to delayed-quotation pricing in that the final selling price reflects costs increases incurred between the time an order is placed and the time delivery is made.
Another tactic is to hold prices constant but add new fees.
LO5

31. Cost-Oriented Tactics
Chapter 20 Setting the Right Price
Increased
Production
Costs
Decreased
Demand
Price
Increase
Maintaining a Fixed Gross Margin
Notes:
Any cost-oriented pricing policy that tries to maintain a fixed gross margin under all conditions can lead to a vicious circle, as shown in the diagram on this slide. A price increase will result in decreased demand, which in turn increases production costs because of lost economies of scale. Increased production costs require a further price increase, etc.
LO5

32. Demand-Oriented Tactics
Chapter 20 Setting the Right Price
Price Shading
The use of discounts by salespeople to increase demand for one or more products in a line.
Notes:
Demand-oriented tactics use price to reflect changing patterns of demand caused by inflation or high interest rates.
Often price shading becomes habitual and is done routinely without much forethought.
LO5

33. Demand-Oriented Tactics
Chapter 20 Setting the Right Price
Strategies to
Make Demand
More Inelastic
Cultivate selected demand
Create unique offerings
Change the package design
Heighten buyer dependence
Notes:
To make the demand for a good or service more inelastic and to create buyer dependency, a company can use the strategies as shown on this slide:
Cultivate selected demand: Target prosperous customers who will pay extra for convenience or service.
Create unique offerings: By studying buyers’ needs, the seller can design distinctive products to fit a buyers’ needs and establish a beneficial relationship.
Change the package design: Companies pass on higher costs by shrinking the product sizes but keep prices the same.
Heighten buyer dependence: Provide additional value-added services and training with product offerings to freeze out competition and support higher prices.
LO5

34. Bundling or Unbundling
Recession
Chapter 20 Setting the Right Price
Value-Based Pricing
Bundling or Unbundling
Notes:
Effective pricing tactics during recession are value-based pricing and bundling.
Value-based pricing stresses to customers that they are getting a good value for their money.
Bundling or unbundling of features or services gives a perception of higher value. Bundling can be demonstrated in vacation packages that include lodging, meals, massages, etc.
LO5

35. Renegotiating contracts Keeping the pressure on
Supplier Strategies
during Recession
Chapter 20 Setting the Right Price
Renegotiating contracts
Offering help
Keeping the pressure on
Paring down suppliers
Notes:
In a recession, prices often fall so that companies can maintain demand for their products. Falling prices are an incentive to lower costs since falling prices mean lower profits or no profits. Suppliers can be excellent sources of cost savings. Some ways companies can use cost-saving strategies with suppliers are listed on this slide.
Renegotiating contracts: Demanding lower prices or rebidding the contracts.
Offering help: Help suppliers’ plants reorganize and increase productivity.
Keeping the pressure on: Set annual, across-the-board cost-reduction targets.
Paring down suppliers: Reduce the number of suppliers and boost purchases from those that remain.
LO5

36. Setting the Right Price
Chapter 20 Setting the Right Price
Chapter 20 Videos
Setting the Right Price
Compare the pricing strategies of method, ReadyMadeMag, and Acid+All. Do all of these relatively new brands use the same strategy? Explain.
Beyond the Book

37. Part 6 Videos Beyond the Book Pricing Decisions
Chapter 20 Setting the Right Price
Part 6 Videos
Pricing Decisions
Beyond the Book