1. Part 4 PRODUCT AND PRICE DECISIONS

2. 10: Product, Branding, and Packing Concepts
11: Business Markets and Buying Behavior
12: Developing and Managing Prices
13: Marketing Channels and Supply-Chain Management
14: Retailing, Direct Marketing, and Wholesaling

3. Chapter 12 Pricing Concepts and Management
Professor Jason C. H. Chen, Ph.D.
School of Business Administration
Gonzaga University
Spokane, WA 99258

4. Learning Objectives
To explore issues related to developing pricing objectives
To understand the assessment of the target market’s evaluation of price
To understand demand and the price elasticity of demand
To become familiar with demand cost, and profit relationships
To examine how marketers analyze competitors’ prices
To describe the bases used for setting prices
To explain the different types of pricing strategies
To understand the selection of a specific price
To explore the pricing of business products

5. The Nature of Price
The purpose of marketing is to facilitate satisfying exchange relationships between buyer and seller
Price – The value paid for a product in a marketing exchange
Barter – The trading of products
The oldest form of exchange
Corporate barter still occurs and amounts to an estimated $12 billion in annual U.S. sales

6. Nature of Price
Price is a key element in the marketing mix because it relates directly to the generation of total revenue
Profit = Total Revenue – Total Costs
Profit = (Price x Quantity Sold) – Total Costs
Because price has a psychological impact on customers, marketers can use it symbolically
Pricing high – emphasizes quality
Pricing low – emphasizes a bargain
Copyright © 2014 South-Western, Cengage Learning. ALL RIGHTS RESERVED.

7. Basis for Competition Price Nonprice ________ competition
A seller emphasizes a product’s low price and sets a price that equals or beats the competitors’ prices
It is a major drawback of price competition that competitors can meet or outdo an organization’s price cuts.
________ competition
Price
Emphasizing factors other than price to distinguish products through their distinctive features from competing brands
Advantage: Once customers have chosen a brand for non-price reasons such as unique features, they may not be attracted as easily to competing firms and brands.
__________ competition
Nonprice

8. Figure 12.1 - Stages for Establishing Prices

9. 1. Development of Pricing Objectives
Pricing objectives: Goals that describe what a firm wants to achieve through pricing
Form the basis for decisions for other stages of the pricing process
Must be stated explicitly and in __________ terms
Should include a time frame for accomplishing them
Influence decisions in many functional areas of a business
measurable

10. Pricing Objectives Survival Profit Return on investment Market share
Cash flow
Status quo
Status Quo: an organization is in a favorable position and desires nothing more than to maintain the status quo.
Product quality

11. 2. Assessment of the Target Market’s Evaluation of Price
Importance of price varies depending on:
Type of product and target market
Buyers are more sensitive to gasoline prices than luggage prices. Why?
Purchase _________ (and affects the buyer’s view of price)
Moviegoers would never pay in other situations the prices charged for soft drinks, popcorn, and candy at concession stands.
Helps marketers decide the emphasis on price in the overall marketing strategy (e.g., convenience and time saving)
Manufacturers focus on the value of products in communications with customers as consumers shop more selectively
situation
Gas price: purchase gas regularly and we notice fluctuations in price
Luggage price: as an investment and we expect to pay more.

12. 3. Analysis of Demand – Demand Curve
Graphical representation of the quantity of products expected to be sold at different prices holding other factors constant
Demand is inversely related to price for most products
Demand depends on factors in the marketing mix
Quality
Promotion
Distribution (Place + Time)
Not all types of demand conform to the demand curve

13. Figure 12.2 - Demand Curve Illustrating the Typical Price/Quantity Relationship
Prestige:
Price is jumped from P1  P2, the quantity is still increased

14. Demand Fluctuations Factors that can influence demand
Changes in buyers’ needs
Variations in the effectiveness of other marketing mix variables
Presence of substitutes
Dynamic environment
Changes in demand for some products (flowers, restaurants) is predictable but with other products (both from inside the company and outside the companies) demand may be less predictable
Organizations can develop new products and prices anticipating demand fluctuations

15. Assessing Price Elasticity
Price elasticity of demand – A measure of the sensitivity of consumer demand (for a product or product category) to changes in price
Demand for electricity is ________, when price increases from P1 to P2, demand decreases a small amount
Demand for recreational vehicles is ________ , when price goes up from P1 to P2, quantity demanded decreases a great deal
inelastic
elastic
Fig 12.3 Elasticity of Demand
Copyright © 2014 South-Western, Cengage Learning. ALL RIGHTS RESERVED.

16. Assessing Price Elasticity
If marketers can determine the price elasticity of demand, setting a price is much easier
By analyzing total revenues as prices change, marketers can determine whether a product is price elastic
If demand is _________, total revenue changes in the same direction (note: with positive sign)
If demand is _______, a change in price causes and opposite change in total revenue (with negative sign)
Price elasticity of demand = % change in quantity demanded
% change in price
inelastic
elastic
Copyright © 2014 South-Western, Cengage Learning. ALL RIGHTS RESERVED.

17. Exercise – Multiple Choice
If Carnival Cruise Lines increased the price of its seven-day cruise package by 10 percent and, as a result, experienced a 20 percent decline in customer bookings, Carnival's demand would be:
a. steady.
b. inelastic.
c. elastic.
d. prestige.
e. marginal.
ANSWER: _____
What is the Price elasticity of demand ?
-20%
10%
= - 2 c
The negative sign indicating the inverse relationship between price and demand (i.e., demand is elastic)

18. 4. Demand, Cost, and Profit Relationships
Customers are becoming less tolerant of price increases forcing manufacturers to find new ways to control costs
Companies must set prices that cover costs and meet customers’ expectations
Two approaches to understanding demand, cost, and profit relationships:
__________ analysis
______ ____ analysis
Marginal
Break-even

19. Marginal Analysis
Examines what happens to a firm’s costs and revenues when production changes by ____ unit
Types of potential costs
Fixed costs: Do not vary with changes in the number of units produced or sold
Average fixed cost: Fixed cost per unit produced
Variable cost: Vary directly with changes in the number of units produced or sold
Average variable cost: Variable cost per unit produced
one

20. Marginal Analysis (cont.)
Total cost: Sum of average fixed and average variable costs times the quantity produced
Average total cost: Sum of the average fixed cost and the average variable cost
Marginal cost (MC): Extra cost incurred by producing one more unit of a product
Marginal revenue (MR) – the change in total revenue resulting from the sale of an additional unit of product

21. Marginal Analysis (cont.)
Any unit for which MR exceeds MC adds to a firm’s profits
Any unit for which MC exceeds MR subtracts from profits
The firm should produce at the point where MR equals MC because that is the most profitable level of production
However, marginal analysis is only a model
Marginal analysis offers little help in pricing new products
Marketers can benefit by understanding the relationship between marginal cost and marginal revenue in setting prices of existing products

22. Table 12.1 - Costs and Their Relationships
6(b)-6(a)
($20)
AVC is lowest
continue to fall
until the MC is to increase
ATC is lowest

23. Figure 12.4 - Typical Marginal Cost and Average Total Cost Relationship
The marginal cost curve crosses the average total cost curve at its lowest point, which is the point where production is the most efficient (e.g., economy of scale) in terms of costs.

25. Figure 12.5 - Typical Marginal Revenue and Average Revenue Relationship
Each additional unit of product sold provides the firm with less revenue than the previous unit sold.
Marginal revenue decreases as price decreases and quantity sold increases.
Eventually, marginal revenue will reach zero, and the sale of additional units actually causes the firm to lose money.

26. Table 12.2 - Marginal Analysis Method for Determining the Most Profitable Price
3(b)-3(a)
6(b)-6(a)
Which point is with the highest profit?
Profit is the highest at the point where MC=MR (i.e., price is 33) – next slide (Fig 12.6)

27. Figure 12.6 - Combining the Marginal Cost and Marginal Revenue Concepts
Most marketers can benefit by understanding the relationship between marginal cost and marginal revenue in setting prices of existing products.

28. Break-Even Analysis
Break-even point: Point at which costs of producing a product equal the revenue made from selling the product
Knowing the number of units necessary to break even is important in setting the ______
Helps a firm to calculate how long it will take to recoup expenses at different price points
Break-even point = fixed costs
per-unit contribution to fixed costs
= fixed costs
price-variable costs
price

29. Figure 12.7 - Determining the Break-Even Point

30. Break-Even Analysis (An example) (p.340)
Knowing the number of units necessary to break-even is important in setting the price
If a product priced at $100 per unit
Has an average variable cost of $60 per unit
The contribution to fixed cost is $40
If total fixed costs are $120,000, the break-even point in units is determined as follows
Break-even point = fixed costs
per-unit contribution to fixed costs
= fixed costs
price – variable costs =
= ,000 units
In terms of dollar sales volume is 3,000 * $100 or $300,000
$120,000
$40
Copyright © 2014 South-Western, Cengage Learning. ALL RIGHTS RESERVED.

31. c Q/A – Multiple Choice How? 2000 = 60,000 / (60-X) Solve for X
The Highland Racquet Club found that with annual fixed costs of $60,000, its break-even point is 2,000 members
when the membership charge is $60 per person per year. What is the variable cost per person for Highland?
a. $45
b. $50
c. $30
d. $25
e. $40
ANSWER: ______
How?
2000 = 60,000 / (60-X)
Solve for X c

32. Break-Even Analysis
To use break-even analysis effectively, marketers should determine the break-even point for each of several alternative prices
Helps compare the relative effects on total revenue, total costs, and the break-even point
Helps identify highly undesirable prices that should definitely be avoided
Can be used to determine whether and when a product will achieve a break-even volume
This approach assumes the quantity demanded is basically fixed and the major task is to set prices to recover costs

33. Factors Affecting Pricing Decisions
Organizational and marketing objective
Pricing objectives
Costs
Other marketing mix variables
Pricing decisions
Legal and regulatory issues
Channel member expectations
Competition
Customer interpretation and response

34. 5. Evaluation of Competitors’ Prices
Marketers should use competitors’ prices to establish their own prices
Competitors’ prices may be closely guarded
Pricing above competition creates an ________ image (eg, Apple brand products)
Pricing below competition can ________ market share
exclusive
increase

35. 6. Selection of a Basis for Pricing
Establishing prices involves selecting a basis for pricing
Cost and demand
Competition
Appropriate pricing basis is affected by:
Type of product
Market structure of the industry
Brand’s market share position relative to competing brands
Customer characteristics

36. Cost-Based Pricing
Adding a dollar amount or percentage to the cost of the product
Cost-plus pricing: Seller’s costs are determined and a specified dollar amount or percentage of the cost is added to the seller’s cost
Markup pricing: Product’s price is derived by adding a markup to the cost of the product
Markup - Predetermined percentage of the cost
Markup as percentage of cost = Markup/Cost
Markup as percentage of selling price = Markup/Selling price

37. Markup as % of Selling Price
Markup Pricing
Markup can be stated as a percentage of cost of making the product or a percentage of selling price
Assume a retailer purchases a can of tuna at 45 cents and adds a 15 cent markup to the cost making the price 60 cents.
Markup as % of Cost =
Markup
Cost 15 45
33.3%
Markup as % of Selling Price =
Markup
Selling Price 15 60
25.0%
Copyright © 2014 South-Western, Cengage Learning. ALL RIGHTS RESERVED.

38. Demand-Based and Competition-Based Pricing
Demand-based pricing: Customers pay a higher price at times when demand for the product is strong and a lower price when demand is weak
Marketers must be able to calculate how much customers will buy at different price points
Competition-based pricing: Organization considers costs to be secondary to competitors’ prices
Importance of this method increases when competing products are homogeneous

39. 7. Selection of a Pricing Strategy
Pricing strategy - Course of action designed to achieve pricing objectives
Helps marketers to solve the practical problems of setting prices
Extent to which a business uses the pricing strategies depends on:
Pricing and marketing objectives
Markets for its products
Degree of product differentiation
Product’s life-cycle stage

40. Figure 12.8 - Types of Pricing Strategies

41. New-Product Pricing Price skimming Penetration pricing
Charging the highest possible price for a product during the introduction stage of its life-cycle (no competition)
Price skimming
Setting a low price for a new product (and look for market share)
Penetration pricing
Economy pricing
Keep costs low and the service basic (no frills), set price low
Premium pricing
unique product, set price high

42. PRICE QUALITY Pricing Strategies Matrix Skimming Premium Economy
High
Skimming
Premium
PRICE
Economy
Penetration
Economy pricing – keep costs low and the service basic (no frills), set price low
Penetration pricing – looking for market share, set price low
Skim pricing – no competition, go after price-insensitive customers, set price high
Premium pricing – unique product, set price high
Why “penetration” pricing strategy is a correct one (by Hutcherson)?
Yes, Price – low (low cost so that can attract customers and LOCK IN), especially for the new products
Quality – High (difficult to substitute)
Low
QUALITY
Low
High
Figure: Pricing Strategies Matrix

43. Differential Pricing Differential pricing Negotiated pricing
Charging different prices to different buyers for the same quality and quantity of product
Differential pricing
Final price is established through bargaining between the seller and the customer
Negotiated pricing
Setting one price for the primary target market and a different price for another market
Secondary-market pricing
Temporary reduction of prices on a patterned or systematic basis
Periodic discounting pricing
Reducing prices temporarily on a nonsystematic basis
Random discounting pricing

44. Psychological Pricing
Encourages purchases based on consumers’ emotional responses
Setting prices using odd numbers that are slightly below whole-dollar amounts
Odd-number pricing
Packaging together two or more identical products and selling them at a single price
Multiple-unit pricing

45. Psychological Pricing
Pricing a product at a moderate level and displaying it next to a more expensive model or brand
Reference pricing
Packaging together two or more complementary products and selling them at a single price
Bundle pricing
Pricing products low on a consistent basis
Everyday low prices (EDLP)
Pricing certain goods on the basis of tradition
Customary pricing

46. Product-Line Pricing Basic product in a product line is priced low
Establishing and adjusting the prices of multiple products within a product line
Basic product in a product line is priced low
Price on the items required to operate or enhance it are higher
Captive pricing
Highest-quality product or the most-versatile and most desirable version of a product in a product line is assigned the highest price
Premium pricing
Selling goods only at certain predetermined prices that reflect explicit price breaks
Price lining

47. Promotional Pricing
Price is often coordinated with promotion as a marketing mix
Products priced below the usual markup, near cost, or below cost
Price leader
Advertised sales or price cutting linked to a holiday, season, or event
Special-event pricing
Pricing of a product at a specific level and simultaneously comparing it to a higher price
Comparison discounting

48. Determination of a Specific Price
Pricing strategy - Yields a certain price that may need refining
Helps in setting final price
Marketers may need to refine this price in order to make it consistent with circumstances
In order to set prices, marketers must:
Establish pricing objectives
Have considerable knowledge about target market customers
Determine demand, price elasticity, costs, and competitive factors

49. Pricing for Business Markets
Establishing prices for business markets differ from setting prices for consumers due to:
Size of purchases
Transportation considerations
Geographic issues
Types of pricing associated with business products
Geographic pricing
Transfer pricing
Discounting

50. Geographic Pricing Deals with delivery costs
F.O.B. origin pricing - Price of merchandise at the factory before shipment
F.O.B. destination - Price indicating the producer is absorbing shipping costs

51. Transfer Pricing
One unit in an organization sells a product to another unit
Determined by calculating the cost of the product which can vary depending on the types of costs included in the calculations
Choice of the costs to include when calculating the transfer price depends on:
Company’s management strategy
Nature of the units’ interaction

52. Table 12.3 - Discounts Used for Business Markets

53. Price Discounting
Trade (functional) discounts – a reduction off the list price a producer gives to an intermediary for performing certain functions
Cash discounts – price reduction given to buyers for prompt payment or cash payment
Seasonal discounts – price reduction given to buyers for purchasing goods or services out of season
Allowances – concession in price to achieve a desired goal
Quantity discounts – Deductions from the list price for purchasing in large quantities. Can be either:
Cumulative discounts which are quantity discounts aggregated over a stated time period
Noncumulative discounts which are one-time price reductions based on the number of units purchased, the dollar value of the order, or the product mix purchased
Copyright © 2014 South-Western, Cengage Learning. ALL RIGHTS RESERVED.

54. Video Case 12.1
Pricing at the Farmers’ Market

55. Summary
This case examines the issues associated with direct selling and pricing for farmers at local markets. Selling directly to the public enables farmers to build relationships with local shoppers and encourage repeat buying week after week as different items are harvested. It also allows farmers to realize a larger profit margin than if they sold to wholesalers and retailers because there are no intermediaries. In addition, consumers are willing to pay a higher price for top-quality local products, and even more for products that have been certified organic by a recognized authority. However, competition between farmers, markets, and traditional grocery stores is a factor that influences pricing.

56. 1. In the pursuit of profits, how might Urban Farmz use a combination of cost-based, demand-based, and competition-based pricing for the products it sells? Explain your answer.
Encourage students to be creative. Cost-based pricing adds a dollar amount or percentage to the cost of the product. Demand-based pricing is based on the level of demand for the product.
Competition-based pricing is influenced primarily by competitors’ prices. Urban Farmz should be using all of these strategies and tailoring them to specific products.

57. 2. Urban Farmz wants to price the organic soap at $15
2. Urban Farmz wants to price the organic soap at $15.95 per bar, while the soap maker prices the same soap at $14 per bar. What perceptions do you think consumers will have of each price? What recommendations do you have regarding this price difference?
Consumers may have different perceptions—they may believe that the Urban Farmz bar is fairly priced since they can buy it directly without ordering it online, or they may believe that Urban Farmz is adding an unfair market.
However, given the requests of the soap maker, Urban Farmz should charge the higher price. Consumers may not want to buy online or pay for shipping, and Urban Farmz will still make a profit.

58. 3. Would you recommend that Urban Farmz use promotional pricing at the farmers’ markets where it regularly sells its products? If so, which techniques would you suggest, and why?
Generally, Urban Farmz should not use promotional pricing because it sends a signal to consumers about the quality of their unique products. However, bulk discounts or similar promotions may help stimulate business.