PRICING STRATEGY

Module 5 – Setting Price Level and Pricing Over the Product Life Cycle
Midterm Examination

★ Price skimming – captures high margins

PRICE-SETTING PROCESS
at the expense of sales volume. Prices
● The goal of the price-setting process is are high relative to what the “middle
to set profit-maximizing prices by market” is willing to pay. Viable when the
capturing the appropriate amount of profit from the price-insensitive segment
differential value in each of the served exceeds profit from sales to a larger
segments. market at a lower price.

● Price-setting process ★ Penetration pricing – sets price far

○ Defining the price window enough below economic value (not below
○ Set initial price cost) to attract and hold a large base of
○ Communicate prices to the market consumers. Generated sales volume (&
lower marginal costs) at the expense of
★ Define price window – set initial price higher margins.
range based on differential value and
relevant costs.

★ Set initial price – determine the amount

of differential value to be captured.

★ Communicate prices to the market –

develop a communication plan to ensure
prices are perceived to be fair.

★ Defining the Price Window

● Price window – set for each segment
and is defined by the ceiling, the
highest allowable price point, and the
floor, the lowest allowable price
point.
○ Establish the price window for
each segment
○ Narrow the window based on
strategic objectives

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 ESTABLISHING AN INITIAL PRICE POINT not allowing price alone to
● There are three considerations when restrict it.
determining where in the price window to
set the initial price: FACTORS SUPPORTING SKIMMING
○ Alignment with Overall Business ● Riskiness (New Product)
Strategy ○ Economic risks
○ Price-Volume Trade-offs ○ Physical risks
○ Customer Response ○ Social risks

● Price-setting process: ● Protection of competitive products

○ Selecting the pricing objective
○ Determining demand FACTORS SUPPORTING PENETRATION
○ Estimating costs ● Low-priced products are the incentive to
○ Analyzing competitors’ costs, prices, the customer.
and offers ● Protection from price matching.
○ Selecting a pricing method ● Market conditions favoring a pioneering
○ Selecting final price advantage

BASIC STRATEGIES FOR SETTING PRICE STRATEGIC FACTORS IN THE SETTING OF

● Skimming the market INITIAL PRICES
● Penetration market pricing ● Factors supporting skimming
● Neutral market/in-line pricing ○ New product perceived as risky
○ Presence of protection against
PRICING OBJECTIVES competitive products
● There are three options for setting prices:
★ Skim the market ● Factors supporting penetration
○ Skim pricing (or skimming) – is ○ Ability of low price to serve as an
designed to capture high incentive to buy
margins at the expense of large ○ Protection against competitive price
sales volume. matching
○ Sequential skimming – is initially ○ Market conditions favoring a
priced for the least sensitive pioneering advantage
market, then successively lowers
the price to attract additional ● Use in-line pricing when market
segments conditions do not support skimming or
penetration.
★ Penetrate the market
○ Penetration pricing – involves DEFINING THE PRICE-VOLUME
setting a price low enough to TRADE-OFF
attract and hold a large base of
● Understand the financial trade-offs
customers.
between price and volume and then
analyze the market to estimate consumer
★ Neutral Market/In-Line Pricing
response.
○ Neutral pricing – involves a
strategic decision not to use
price to gain market share, while

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● Guide questions to pricing choice: outside the range that they perceive as
○ How much volume could I afford to “fair” or “reasonable”
lose before a particular price
increase would be unprofitable? ★ Price framing – buyers are more price
○ How much volume would I have to sensitive when they perceive the price as
gain in order for a particular price a “loss” rather than as a forgone “gain”.
decrease to improve my profitability? They are more price sensitive when the
price is paid separately rather than as a
PRICE SENSITIVITY DRIVERS part of a bundle.
★ Size of expenditure – buyers are less
sensitive to the prices of small
ESTIMATING CUSTOMER RESPONSE
expenditures which, in the case of APPROACHES
households, is defined relative to income.
★ Price experimentation – involves testing
★ Share costs – buyers are less price new prices on a controlled sample of
sensitive when some or all of the customers before rolling the price change
purchase price is paid by others. out to the entire market.

★ Switching costs – buyers are less ★ Purchase intention – surveys can be

sensitive to the price of a product the used when price experimentation is
greater the added cost (both monetary impractical, as is the case for many large,
and non-monetary) of switching infrequently purchased products (such as
suppliers. automobiles and enterprise software)
that don’t lend themselves to
★ Perceived risk – buyers are less price experimentation.
sensitive when it is difficult to compare
suppliers and the cost of not getting the ★ Structured inference by managers – is
expected benefits of a purchase is high. an approach that leverages managerial
market knowledge combined with
★ Importance of end-benefits – buyers are appropriate analysis to arrive at a sound
less price sensitive when the product is a price point.
small part of the cost of a benefit with
high economic or psychological ★ Incremental implementation – can work
importance. when none of the other methods for
estimating customer response are
★ Price-quality perceptions – buyers are practical or reliable enough to produce
less sensitive to a product’s price to the confident inferences.
extent that price is a proxy for the likely
quality of the purchase. ★ Simulations – provide a means to explore
systematically the effects of competitor
★ Reference prices – buyers are more price reactions to customer responses to a
sensitive the higher the product’s price price change.
relative to the buyers' price expectation.
PRICING NEW PRODUCTS
★ Perceived fairness – buyers are more ● New products represent a primary source
sensitive to a product’s price when it is of organic volume and profit growth.

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● It represents an opportunity to redefine EXCHANGE VALUE MODELS
the process and considerations that ★ Exchange value models – quantify the
determine what and how customers price models knowing the boundaries of
purchase. a good price narrows pricing discussions
to a reasonable range of potential points.
INTRODUCTION STAGE
● During the introduction phase, a ★ Extreme boundaries – define the range
revolutionary product is launched, which of acceptable prices outside of which no
creates an entirely new market. rational buyer or seller would ever
transact.
★ Revolutionary products – represent only
a small fraction of the new products on ★ Narrow boundaries – define the range of
the market at any given time, and many prices that are most likely to encourage
researchers with a more critical bent customer transactions and leave the
would argue that truly revolutionary firm's most favorable positions.
products are launched sporadically on ○ These are lying within extreme
time scales of once every few years, if boundaries.
not decades.
● Strategies to be used
CUSTOMERS OF INTRODUCTORY MARKETS ○ Communicating value with trial
★ Tinkerers – are people who appreciate a promotions
new product due to its revolutionary ○ Communicating value with Direct
properties themselves. Sales
○ evaluate a new product, they seek to
explore its properties, capabilities ● Growth stage
and uses. ○ The growth phase of the product life
cycle is marked by rapid changes in
★ Visionaries - people who are seeking a every dimension of the newly
quantum leap forward in addressing a emerged market.
challenge. ○ Evolutionary products are products in
○ a business customer, who is seeking which specific features or benefits
an order-of-magnitude return on are added or subtracted from the
investment, not a standard small core product.
percentage of improvement with a
long-term payback. PRICING IN GROWTH MARKETS
● Pricing in growth markets shifts from
PRICING IN INTRODUCTORY MARKET exchange value models to customer
● To price a product within an introductory preference–based methodologies.
market, executives are usually best
served by using exchange value models. ● Competitors may begin to explore
add-ons, versioning, and unbundling.
● Exchange value models rely on internal
management’s assessment of the value ● Strategies to be used:
of a revolutionary product. ○ Pricing with a Differentiated Product
○ Pricing with Cost Leadership
○ Price Reductions in Growth

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 MATURITY STAGE ● Strategies to be used:
● In the mature phase of the product life ○ Retrenchment
cycle, demand growth, competitor ○ Harvest
turbulence, and rapid product evolution ○ Consolidation
are replaced with more predictable ○ Focus
industry dynamics.

SUMMARY
● Accuracy in price setting in mature
markets improves due to a better ● Despite the sophisticated tools and
understanding of the market. analytics available to marketers, price
setting ultimately comes down to using
● Pricing in maturity stage informed judgment to find a price that
○ During the mature phase, the balances costs, customer value, and
pressure to improve prices shifts the competitor responses.
pricing challenge from a focus on
establishing price structures and ● Product categories are observed to pass
setting price levels and toward the through phases of introduction, growth,
importance of managing price maturity, and eventual decline. This cycle
variances. is referred to as the product life cycle.
○ Due to competitive pressures and
customer heterogeneity, couponing, ● Each phase of the product life cycle can
discounting, and price promotions all be associated with specific growth
become more common practices. patterns, customer characteristics, and
pricing challenges.
● Strategies to be used:
○ Unbundling related products and ● Over the product life cycle, industry
services revenues are observed to start low
○ Improved estimation of Price during the introductory phase, increase
Sensitivity rapidly during the growth phase, stabilize
○ Improved Control and Utilization of or grow at the rate of population growth
Costs during the maturity phase, and decrease
○ Expansion of Product Line during the decline phase.
○ Reevaluation of Distribution Channels
● Over the product life cycle, industry
DECLINE STAGE profits are observed to be mostly
● While prices during declining markets negative during the introductory phase,
tend to be volatile, it is not possible to increase rapidly during the growth phase
make an a priori statement regarding the toward a maximum, stabilize or decline
direction of all prices. slightly during the maturity phase, and
decrease rapidly during decline.
● The goal of strategy in decline is not to
win anything; for some it is to exit with ● During the introduction phase, a
minimum losses. For others the goal is revolutionary product is launched that
simply to survive the decline with their creates an entirely new market.
competitive positions intact and perhaps Revolutionary products are products that
strengthened by the experience. satisfy a market need in a manner that
hitherto had never been considered.

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● Often, revolutionary products succeed by
fulfilling a latent demand. Latent demand
implies that the desire for the solution to
a problem existed prior to the launch of
the product, but that no viable solution
existed.

● In the growth phase of the product life

cycle, customers have been
characterized as Early Majority, Late
Majority, and Laggards. The Early
Majority group consists of customers
who seek incremental improvements and
appreciate the new product category for
its ability to deliver value with
manageable risk.

● Late Majority and Laggards include

customers who would have preferred that
the new product not have come into
existence but have been forced by reality
to adapt to the product.

● In the mature phase of the product life

cycle, demand growth, competitor
turbulence, and rapid product evolution
are replaced with more predictable
industry dynamics. Customer preference
techniques such as conjoint continue to
generate relevant prices in both
consumer and business markets of
sufficient size.

● During the mature phase, the pressure to

improve prices shifts the pricing
challenge toward a focus on managing
price variances.

● When markets are facing decline,

industry competitors can choose one of
four strategies: Retrenchment, Harvest,
Consolidate, and Focus.