Pricing IM
Content
Chapter 1: Introduction
1.1 Introduction
One of the challenges that international marketers face is trying to set prices for their products and services in foreign markets. There are many variable factors that influence international pricing, such as currency exchange rates, economic conditions, production expenses, your competitors and the consumers in your target market. International pricing strategies require careful planning and ongoing management in order to be effective. The production expenses associated with your products will depend on where your production facilities are located. If you produce all of your goods in your domestic market and only export overseas, these costs could remain quite high. The cost of production and distribution will put a limit on the minimum price you can set in the international market to still generate a profit. However, if you set up production in the foreign market you plan to sell to, you may be able to take advantage of low cost, easily accessible labour and low cost raw materials. This allows you to set a lower price in the foreign market than you would in your domestic market and still make positive returns. Your competitors can be a useful guide when setting prices in unfamiliar markets. If you are up against only local competition, you may be able to set a premium price and compete on the basis of better quality or innovative features, however, you need to establish what value your customers place on these features. If you are competing against other international organisations, your prices and product features will need to be very competitive with what they offer the market.
Another significant factor that international organisations need to take into account is the impact of fluctuations in currency exchange rates. If your domestic dollar is valued low, it can help you as exports will be cheaper for foreign buyers to purchase. However, an increase can make your exports expensive and less accessible to foreign markets. Exchange rate fluctuations also make it difficult when setting up foreign operations because the price of labour and materials can change dramatically over relatively short amounts of time. Ideally, you should look for markets where the economy and currency value have proven to be stable over a long period of time. When setting prices internationally, you also need to consider the standard of living and income levels in your target market. You need to look at how much people are willing and able to spend on your goods and services and set your prices accordingly. International marketers should also consider the buying behaviour of the population to determine what value people perceive certain products and services to be worth. Getting your international pricing strategies right is crucial to the success of your marketing efforts. The more you understand about your target market, the better you will be able to set your prices at a level that will appeal to consumers whilst still generating a positive return for your business.
Chapter 2: Pricing
2.1 Meaning
Pricing is one of the most critical parts of the marketing mix for international firms. Pricing, above all other elements of the marketing mix, is what creates revenue for the firm. The remaining “P’s (Product, Placement, and Promotion), contribute to cost for a company. It can be observed that pricing technique can either make or break expansion efforts. Marketers must work cooperatively with other organizational departments, mainly Finance, to integrate finance, accounting, manufacturing, tax and legal components into the chosen pricing strategy. One of the biggest obstacles for multinational firms to overcome is how to set prices across different countries. There are many factors to consider ensuring that parallel trade or gray market situations do not occur. Price will always vary from market to market. Price is affected by many variables: cost of product development (produced locally or imported), cost of ingredients, cost of delivery (transportation, tariffs, etc.), and much more. Additionally, the product’s position in relation to the competition influences the ultimate profit margin. Whether this product is considered the high-end, expensive choice, the economical, low-cost choice, or something in-between helps determine the price point. Price is the exchange value of goods and services. Developing a right pricing strategy is critical to an organisation’s success. Price is a significant variable, as in many cases; it is the main factor affecting consumer choice. Its significance is further emphasized as it is the only element of marketing mix that generates revenue and the others produce costs.
Definition –
A goal that guides a business in setting the cost of a product or service to potential consumers. A pricing objective underlies the pricing process for a product, and it should reflect a company's marketing, financial, strategic and product goals, as well as consumer price expectations and the levels of available stock and production resources.
Some examples of pricing objectives include maximizing short run profits, increasing sales volume, matching competitors' prices, encouraging smaller competitors to change industries, or meeting target rates of return. Each pricing objective requires a different price-setting strategy in order to successfully achieve business goals.
2.2
Objectives of Pricing
Pricing objectives or goals give direction to the whole pricing process. Determining what your objectives are is the first step in pricing. When deciding on pricing objectives you must consider: 1. The overall financial, marketing, and strategic objectives of the company; 2. The objectives of your product or brand; 3. Consumer price elasticity and price points; and 4. The resources you have available. Common objectives include the following: 1. Current Profit Maximization One potential pricing objective would be to simply seek to maximize our current profitability. A concern with this potential approach, however, is that it is short sighted in nature. Real consideration must be given to the potential negative lingterm impacts potentially associated with a going for broke strategy. 2. Current Revenue Maximization Another potential pricing objective would be to pursue the maximization of current revenue, as opposed to current profits. Under this option there would be little or no attention paid to profit margins. The logic behind this objective is that by increasing market share we will be able to address profitability down the road from an enhanced competitive position. 3. Maximize Quantity This pricing objective attempts to maximize the total number of units sold or customers served. The thinking behind this particular objective is that by selling large quantities of the product we will eventually put ourselves in the position to decrease long-term costs. Decreased long-term costs serve to ensure our competitiveness and provide a base for increased profitability. 4. Maximize Profit Margin Maximizing the unit profit margin is another possible pricing objective. In this case there is a need to recognize that the quantities sold will be low. 5. Quality Leadership
By establishing a relatively high price we are signaling to the market that we are a high quality supplier. This pricing objective aids on positioning the product as the quality leader. It must be understood with this approach that we are in all likelihood sacrificing the quantity of units sold in setting this objective 6. Partial Cost Recovery Partial cost recovery is possible in organizations in which there are other profitable products which would be able to absorb some of the costs associated with the product. In this case the organization may not need to obtain full cost recovery from the one particular product as its costs may be shared with other products. 7. Survival Establishing a survival pricing objective is a last gasp measure. Survival pricing is not a long-term objective. The intent with this objective is to select a price that covers costs while permitting the firm to remain in the market. Essentially we are trading profits for revenues which cannot continue forever. 8. Status Quo Price stabilization serves to avoid price wars with competitors while simultaneously maintaining an acceptable degree of profitability.
Pricing Strategy
One of the four major elements of the marketing mix is price. Pricing is an important strategic issue because it is related to product positioning. Furthermore, pricing affects other marketing mix elements such as product features, channel decisions, and promotion. While there is no single recipe to determine pricing, the following is a general sequence of steps that might be followed for developing the pricing of a new product: 1. Develop marketing strategy - perform marketing analysis, segmentation, targeting, and positioning. 2. Make marketing mix decisions - define the product, distribution, and promotional tactics. 3. Estimate the demand curve - understand how quantity demanded varies with price. 4. Calculate cost - include fixed and variable costs associated with the product. 5. Understand environmental factors - evaluate likely competitor actions, understand legal constraints, etc. 6. Set pricing objectives - for example, profit maximization, revenue maximization, or price stabilization (status quo). 7. Determine pricing - using information collected in the above steps, select a pricing method, develop the pricing structure, and define discounts. These steps are interrelated and are not necessarily performed in the above order. Nonetheless, the above list serves to present a starting framework. 1. Marketing Strategy and the Marketing Mix Before the product is developed, the marketing strategy is formulated, including target market selection and product positioning. There usually is a tradeoff between product quality and price, so price is an important variable in positioning. Because of inherent tradeoffs between marketing mix elements, pricing will depend on other product, distribution, and promotion decisions. 2. Estimate the Demand Curve
Because there is a relationship between price and quantity demanded, it is important to understand the impact of pricing on sales by estimating the demand curve for the product. For existing products, experiments can be performed at prices above and below the current price in order to determine the price elasticity of demand. Inelastic demand indicates that price increases might be feasible. 3. Calculate Costs If the firm has decided to launch the product, there likely is at least a basic understanding of the costs involved; otherwise, there might be no profit to be made. The unit cost of the product sets the lower limit of what the firm might charge, and determines the profit margin at higher prices. The total unit cost of a producing a product is composed of the variable cost of producing each additional unit and fixed costs that are incurred regardless of the quantity produced. The pricing policy should consider both types of costs. 4. Environmental Factors Pricing must take into account the competitive and legal environment in which the company operates. From a competitive standpoint, the firm must consider the implications of its pricing on the pricing decisions of competitors. For example, setting the price too low may risk a price war that may not be in the best interest of either side. Setting the price too high may attract a large number of competitors who want to share in the profits. From a legal standpoint, a firm is not free to price its products at any level it chooses. For example, there may be price controls that prohibit pricing a product too high. Pricing it too low may be considered predatory pricing or "dumping" in the case of international trade. Offering a different price for different consumers may violate laws against price discrimination. Finally, collusion with competitors to fix prices at an agreed level is illegal in many countries.
Factors impacting on pricing in international markets
1. Market positioning of product or service via price in the target market, e.g. high price to signal high value and exclusivity. 2. Membership of tariff union such as the European Union: check all aspects of rules surrounding products or services originating in the union versus those imported from outside the union. 3. Prices already operating in home country where relevant. 4. Currency exchange rates with other countries, both actual and potential. 5. Costs of tariff and other barriers. 6. Any variation in local taxes, including value added tax. 7. Prices of similar products already available in the target country. 8. Trade discounts and other special deals already operating in the target country, e.g. regular discounts off the manufacturer’s list price for reaching volume targets. 9. Distributor markup already operating in the target country, i.e. the difference between the distributor’s price and the customer’s price. 10. For multinationals, the prices at which goods are transferred between subsidiaries – called ‘transfer pricing.’ 11. Availability of web-based selling structures and distributors both to reduce selling costs and to promote goods. 12. Possibility of parallel trade pricing, i.e. goods imported from low-tax country into parallel country with higher taxes. 13. Reaction of current competitors via price to new entrants.
Pricing Methods
To set the specific price level that achieves their pricing objectives, managers may make use of several pricing methods. These methods include:
Cost-plus pricing - set the price at the production cost plus a certain profit margin. Target return pricing - set the price to achieve a target return-on investment. Value-based pricing - base the price on the effective value to the customer relative to alternative products. Psychological pricing - base the price on factors such as signals of product quality, popular price points, and what the consumer perceives to be fair.
In addition to setting the price level, managers have the opportunity to design innovative pricing models that better meet the needs of both the firm and its customers. For example, software traditionally was purchased as a product in which customers made a one-time payment and then owned a perpetual license to the software. Many software suppliers have changed their pricing to a subscription model in which the customer subscribes for a set period of time, such as one year. Afterwards, the subscription must be renewed or the software no longer will function. This model offers stability to both the supplier and the customer since it reduces the large swings in software investment cycles. Price Discounts The normally quoted price to end users is known as the list price. This price usually is discounted for distribution channel members and some end users. There are several types of discounts, as outlined below.
Quantity discount - offered to customers who purchase in large quantities. Cumulative quantity discount - a discount that increases as the cumulative quantity increases. Cumulative discounts may be offered to resellers who purchase large quantities over time but who do not wish to place large individual orders.
Seasonal discount - based on the time that the purchase is made and designed to reduce seasonal variation in sales. For example, the travel industry offers much lower off-season rates. Such discounts do not have to be based on time of the year; they also can be based on day of the week or time of the day, such as pricing offered by long distance and wireless service providers.
Cash discount - extended to customers who pay their bill before a specified date. Trade discount - a functional discount offered to channel members for performing their roles. For example, a trade discount may be offered to a small retailer who may not purchase in quantity but nonetheless performs the important retail function.
Promotional discount - a short-term discounted price offered to stimulate sales.
International Pricing Approaches
Export Pricing A price is set for by the home-based marketing managers for the international market. The pricing approach is based upon a whole series of factors which are driven by the influences on pricing listed above. Non-cash payments Less and less popular these days, non-cash payments include counter-trade where goods are exchanged for goods between companies from different parts of the World. Transfer Pricing Prices are set in the home market, and goods are effectively sold to the international subsidiary which then attaches its own margin based upon the best price that local managers decide that they could achieve. Then mainstream approaches to pricing may be implemented - see below. Standardization versus adaptation Do you use a standard, common approach to pricing in each market, or do you decide to adapt the price to local conditions? Premium Pricing Use a high price where there is a unique brand. This approach is used where a substantial competitive advantage exists and the marketer is safe in the knowledge that they can charge a relatively higher price. Such high prices are charged for luxuries such as Cunard Cruises, Savoy Hotel rooms, and first class air travel. Penetration Pricing The price charged for products and services is set artificially low in order to gain market share. Once this is achieved, the price is increased. This approach was used by France Telecom and Sky TV. These companies need to land grab large numbers of consumers to make it worth their while, so they offer free telephones or satellite dishes at discounted rates in order to get people to sign up for their services. Once there is a large number of subscribers prices gradually creep up. Taking Sky TV for example, or any cable or satellite company, when there is a
premium movie or sporting event prices are at their highest – so they move from a penetration approach to more of a skimming/premium pricing approach. Economy Pricing This is a no frills low price. The costs of marketing and promoting a product are kept to a minimum. Supermarkets often have economy brands for soups, spaghetti, etc. Budget airlines are famous for keeping their overheads as low as possible and then giving the consumer a relatively lower price to fill an aircraft. The first few seats are sold at a very cheap price (almost a promotional price) and the middle majority are economy seats, with the highest price being paid for the last few seats on a flight (which would be a premium pricing strategy). During times of recession economy pricing sees more sales. However it is not the same as a value pricing approach which we come to shortly. Price Skimming Price skimming sees a company charge a higher price because it has a substantial competitive advantage. However, the advantage tends not to be sustainable. The high price attracts new competitors into the market, and the price inevitably falls due to increased supply. Manufacturers of digital watches used a skimming approach in the 1970s. Once other manufacturers were tempted into the market and the watches were produced at a lower unit cost, other marketing strategies and pricing approaches are implemented. New products were developed and the market for watches gained a reputation for innovation. The diagram depicts four key pricing strategies namely premium pricing, penetration pricing, economy pricing, and price skimming which are the four main pricing policies/strategies. They form the bases for the exercise. However there are other important approaches to pricing, and we cover them throughout the entirety of this lesson.
Psychological Pricing This approach is used when the marketer wants the consumer to respond on an emotional, rather than rational basis. For example Price Point Perspective (PPP) 0.99 Cents not 1 US Dollar. It's strange how consumers use price as an indicator of all sorts of factors, especially when they are in unfamiliar markets. Consumers might practice a decision avoidance approach when buying products in an unfamiliar setting, an example being when buying ice cream. What would you like, an ice cream at $0.75, $1.25 or $2.00? The choice is yours. Maybe you're entering an entirely new market. Let's say that you're buying a lawnmower for the first time and know nothing about garden equipment. Would you automatically by the cheapest? Would you buy the most expensive? Or, would you go for a lawnmower somewhere in the middle? Price therefore may be an indication of quality or benefits in unfamiliar markets.
Product Line Pricing Where there is a range of products or services the pricing reflects the benefits of parts of the range. For example car washes; a basic wash could be $2, a wash and wax $4 and the whole package for $6. Product line pricing seldom reflects the cost of making the product since it delivers a range of prices that a consumer perceives as being fair incrementally – over the range. If you buy chocolate bars or potato chips (crisps) you expect to pay X for a single packet, although if you buy a family pack which is 5 times bigger, you expect to pay less than 5X the price. The cost of making and distributing large family packs of chocolate/chips could be far more expensive. It might benefit the manufacturer to sell them singly in terms of profit margin, although they price over the whole line. Profit is made on the range rather than single items.
Optional Product Pricing Companies will attempt to increase the amount customers spend once they start to buy. Optional 'extras' increase the overall price of the product or service. For example airlines will charge for optional extras such as guaranteeing a window seat or reserving a row of seats next to each other. Again budget airlines are prime users of this approach when they charge you extra for additional luggage or extra legroom.
Captive Product Pricing Where products have complements, companies will charge a premium price since the consumer has no choice. For example a razor manufacturer will charge a low price for the first plastic razor and recoup its margin (and more) from the sale of the blades that fit the razor. Another example is where printer manufacturers will sell you an inkjet printer at a low price. In this instance the inkjet company knows that once you run out of the consumable ink you need to buy more, and this tends to be relatively expensive. Again the cartridges are not interchangeable and you have no choice.
Product Bundle Pricing Here sellers combine several products in the same package. This also serves to move old stock. Blue-ray and videogames are often sold using the bundle approach once they reach the end of their product life cycle. You might also see product bundle pricing with the sale of items at auction, where an attractive item may be included in a lot with a box of less interesting things so that you must bid for the entire lot. It's a good way of moving slow selling products, and in a way is another form of promotional pricing.
Promotional Pricing Pricing to promote a product is a very common application. There are many examples of promotional pricing including approaches such as BOGOF (Buy One Get One Free), money off vouchers and discounts. Promotional pricing is often the subject of controversy. Many countries have laws which govern the amount of time that a product should be sold at its original higher price before it can be discounted. Sales are extravaganzas of promotional pricing!
Geographical Pricing Geographical pricing sees variations in price in different parts of the world. For example rarity value, or where shipping costs increase price. In some countries there is more tax on certain types of product which makes them more or less expensive, or legislation which limits how many products might be imported again raising price. Some countries tax inelastic goods such as alcohol or petrol in order to increase revenue, and it is noticeable when you do travel overseas that sometimes goods are much cheaper, or expensive of course.
Value Pricing This approach is used where external factors such as recession or increased competition force companies to provide value products and services to retain sales e.g. value meals at McDonalds and other fast-food restaurants. Value price means that you get great value for money i.e. the price that you pay makes you feel that you are getting a lot of product. In many ways it is similar to economy pricing. One must not make the mistake to think that there is added value in terms of the product or service. Reducing price does not generally increase value.
Nine laws of price sensitivity and consumer psychology
In their book, The Strategy and Tactics of Pricing, Thomas Nagle and Reed Holden outline nine "laws" or factors that influence how a consumer perceives a given price and how price-sensitive they are likely to be with respect to different purchase decisions. They are: 1. Reference Price Effect – buyer’s price sensitivity for a given product increases the higher the product’s price relative to perceived alternatives. Perceived alternatives can vary by buyer segment, by occasion, and other factors. 2. Difficult Comparison Effect – buyers are less sensitive to the price of a known or more reputable product when they have difficulty comparing it to potential alternatives. 3. Switching Costs Effect – the higher the product-specific investment a buyer must make to switch suppliers, the less price sensitive that buyer is when choosing between alternatives. 4. Price-Quality Effect – buyers are less sensitive to price the more that higher prices signal higher quality. Products for which this effect is particularly relevant include: image products, exclusive products, and products with minimal cues for quality. 5. Expenditure Effect – buyers are more price sensitive when the expense, accounts for a large percentage of buyers’ available income or budget. 6. End-Benefit Effect – the effect refers to the relationship a given purchase has to a larger overall benefit, and is divided into two parts: Derived demand: The more sensitive buyers are to the price of the end benefit, the more sensitive they will be to the prices of those products that contribute to that benefit. Price proportion cost: The price proportion cost refers to the percent of the total cost of the end benefit accounted for by a given component that helps to produce the end benefit (e.g., think CPU and PCs). The smaller the given components share of the total cost of the end benefit, the less sensitive buyers will be to the component's price. 7. Shared-cost Effect – the smaller the portion of the purchase price buyers must pay for themselves, the less price sensitive they will be.
8. Fairness Effect – buyers are more sensitive to the price of a product when the price is outside the range they perceive as “fair” or “reasonable” given the purchase context.
9.
The Framing Effect – buyers are more price sensitive when they perceive the price as a loss rather than a forgone gain, and they have greater price sensitivity when the price is paid separately rather than as part of a bundle.
International Pricing Issues
Export Price Escalation: Exporting products requires more steps and higher risks than selling products domestically. To make up for incremental costs, such as shipping, insurance and tariffs, foreign retail prices may often become much higher than prices in the home country of where a product is produced. The most important questions to ask yourself as a marketer are: will my customers pay an inflated price for our products/services? and will the price of our product make allow us to compete successfully with other firms? – - If the answer to these questions are negative, then there are 2 approaches to dealing with price escalation. The first way is find a way to cut the export price, and the second is to position the product as a exclusive or premium brand.
Inflation: Intense and unrestrained inflation rates in countries can become a huge obstacle for multinational corporations. In places where inflation rates are rampant, setting prices and controlling costs are imperative, often involving complete dedication by marketing and financial divisions of an organization. There are many alternatives to protect against the affects of inflation. Common plans include modifying components of products or packaging materials, getting raw materials from low-cost suppliers, shortening credit terms, including escalator clauses in long-term contracts (used in many b2b situations), quoting prices in stable currencies and pursuing rapid inventory turnovers. When governments impose price controls, which may accompany wage freezes, companies must also adapt several plans of action. Often in these circumstances, businesses will alter their product lines to minimize negative affects from price controls, change defined market segments, launch new products, spark negotiations with the government, and try to better predict when pricing controls may occur. In extreme cases, companies may choose to exit foreign markets when inflation or pricing controls become too costly to the company. If, however, a company can better manage these challenges, they will gain a longterm competitive advantage by creating higher barriers to entry for potential new competitors.
Currency Movements
Exchange rates represent how much one form of currency is worth in terms of another. Political and economic conditions cause exchange rates to constantly fluctuate. With these rates so unstable, setting a price strategy that can combat these changes can be difficult. The two main pricing issues for managers are how much of the exchange rate gain or loss should be transferred to customers (the pass-through issue), and deciding what currency price quotes are given in.
Transfer Pricing
Another challenge facing organizations operating globally is how they handle sales transactions between related parts of the same company. Transfer pricing are the prices charged for transactions involving the trade of raw materials, components, finished goods, or services. Transfer pricing decisions involve the need to balance the interests of a variety of stakeholders including: the parent company, local country managers, host governments, domestic governments, and joint-venture partners. Some of the factors that influence transfer pricing decisions are the following: tax regimes, local market conditions, market imperfections, joint venture partners and the morale of local country managers. There are two major transfer pricing strategies, market-based transfer pricing and nonmarket-based pricing.
Anti-dumping Regulations
Dumping occurs when imports are sold at an unfair price. Recently the removal of trade barriers (tariffs, quotas) has caused countries to switch to non-tariff barriers such as anti-dumping laws in order to protect their local industries. It is important for multinational corporations to take into account anti-dumping laws when they determine their global pricing policy. If firms price too aggressively, this may cause antidumping measures that will hurt their competitive position. It is important to monitor how anti-dumping laws affect similar companies in your industry.
Price Coordination
The last issue that affects pricing in the global environment is price coordination. Price coordination is the relationship that exists between prices charged in different countries. Although the laws of economics indicate that prices should vary across region
so that overall profits are maximized, reality is just not that simple. In the majority of instances, markets cannot be separated perfectly, and too much price differentiation creates gray markets. So, when deciding on how to coordinate your pricing strategy, consider these factors:
o o o o o o o
The nature of your customers The amount of product differentiation Nature of your distribution channels Nature of you competition Market Integration Characteristics if your internal organization Government regulations
Countertrade
The international marketer can use countertrade to gain rewards when conducting business globally. Countertrade describes many unconventional trade-financing transactions that involve some form of non-cash compensation. In recent times, countertrade has become more popular. The most common forms of countertrade are barters, clearing arrangements, switch trading, buyback, counter-purchases and offsets. The most important idea to remember from countertrade is that its benefits may cause short-term or long-term benefits for your company, but there are potential risks involved.
Bibliography 1. http://www.businessdictionary.com/definition/pricingobjective.html#ixzz2udiIDyuW
1.1 Introduction
One of the challenges that international marketers face is trying to set prices for their products and services in foreign markets. There are many variable factors that influence international pricing, such as currency exchange rates, economic conditions, production expenses, your competitors and the consumers in your target market. International pricing strategies require careful planning and ongoing management in order to be effective. The production expenses associated with your products will depend on where your production facilities are located. If you produce all of your goods in your domestic market and only export overseas, these costs could remain quite high. The cost of production and distribution will put a limit on the minimum price you can set in the international market to still generate a profit. However, if you set up production in the foreign market you plan to sell to, you may be able to take advantage of low cost, easily accessible labour and low cost raw materials. This allows you to set a lower price in the foreign market than you would in your domestic market and still make positive returns. Your competitors can be a useful guide when setting prices in unfamiliar markets. If you are up against only local competition, you may be able to set a premium price and compete on the basis of better quality or innovative features, however, you need to establish what value your customers place on these features. If you are competing against other international organisations, your prices and product features will need to be very competitive with what they offer the market.
Another significant factor that international organisations need to take into account is the impact of fluctuations in currency exchange rates. If your domestic dollar is valued low, it can help you as exports will be cheaper for foreign buyers to purchase. However, an increase can make your exports expensive and less accessible to foreign markets. Exchange rate fluctuations also make it difficult when setting up foreign operations because the price of labour and materials can change dramatically over relatively short amounts of time. Ideally, you should look for markets where the economy and currency value have proven to be stable over a long period of time. When setting prices internationally, you also need to consider the standard of living and income levels in your target market. You need to look at how much people are willing and able to spend on your goods and services and set your prices accordingly. International marketers should also consider the buying behaviour of the population to determine what value people perceive certain products and services to be worth. Getting your international pricing strategies right is crucial to the success of your marketing efforts. The more you understand about your target market, the better you will be able to set your prices at a level that will appeal to consumers whilst still generating a positive return for your business.
Chapter 2: Pricing
2.1 Meaning
Pricing is one of the most critical parts of the marketing mix for international firms. Pricing, above all other elements of the marketing mix, is what creates revenue for the firm. The remaining “P’s (Product, Placement, and Promotion), contribute to cost for a company. It can be observed that pricing technique can either make or break expansion efforts. Marketers must work cooperatively with other organizational departments, mainly Finance, to integrate finance, accounting, manufacturing, tax and legal components into the chosen pricing strategy. One of the biggest obstacles for multinational firms to overcome is how to set prices across different countries. There are many factors to consider ensuring that parallel trade or gray market situations do not occur. Price will always vary from market to market. Price is affected by many variables: cost of product development (produced locally or imported), cost of ingredients, cost of delivery (transportation, tariffs, etc.), and much more. Additionally, the product’s position in relation to the competition influences the ultimate profit margin. Whether this product is considered the high-end, expensive choice, the economical, low-cost choice, or something in-between helps determine the price point. Price is the exchange value of goods and services. Developing a right pricing strategy is critical to an organisation’s success. Price is a significant variable, as in many cases; it is the main factor affecting consumer choice. Its significance is further emphasized as it is the only element of marketing mix that generates revenue and the others produce costs.
Definition –
A goal that guides a business in setting the cost of a product or service to potential consumers. A pricing objective underlies the pricing process for a product, and it should reflect a company's marketing, financial, strategic and product goals, as well as consumer price expectations and the levels of available stock and production resources.
Some examples of pricing objectives include maximizing short run profits, increasing sales volume, matching competitors' prices, encouraging smaller competitors to change industries, or meeting target rates of return. Each pricing objective requires a different price-setting strategy in order to successfully achieve business goals.
2.2
Objectives of Pricing
Pricing objectives or goals give direction to the whole pricing process. Determining what your objectives are is the first step in pricing. When deciding on pricing objectives you must consider: 1. The overall financial, marketing, and strategic objectives of the company; 2. The objectives of your product or brand; 3. Consumer price elasticity and price points; and 4. The resources you have available. Common objectives include the following: 1. Current Profit Maximization One potential pricing objective would be to simply seek to maximize our current profitability. A concern with this potential approach, however, is that it is short sighted in nature. Real consideration must be given to the potential negative lingterm impacts potentially associated with a going for broke strategy. 2. Current Revenue Maximization Another potential pricing objective would be to pursue the maximization of current revenue, as opposed to current profits. Under this option there would be little or no attention paid to profit margins. The logic behind this objective is that by increasing market share we will be able to address profitability down the road from an enhanced competitive position. 3. Maximize Quantity This pricing objective attempts to maximize the total number of units sold or customers served. The thinking behind this particular objective is that by selling large quantities of the product we will eventually put ourselves in the position to decrease long-term costs. Decreased long-term costs serve to ensure our competitiveness and provide a base for increased profitability. 4. Maximize Profit Margin Maximizing the unit profit margin is another possible pricing objective. In this case there is a need to recognize that the quantities sold will be low. 5. Quality Leadership
By establishing a relatively high price we are signaling to the market that we are a high quality supplier. This pricing objective aids on positioning the product as the quality leader. It must be understood with this approach that we are in all likelihood sacrificing the quantity of units sold in setting this objective 6. Partial Cost Recovery Partial cost recovery is possible in organizations in which there are other profitable products which would be able to absorb some of the costs associated with the product. In this case the organization may not need to obtain full cost recovery from the one particular product as its costs may be shared with other products. 7. Survival Establishing a survival pricing objective is a last gasp measure. Survival pricing is not a long-term objective. The intent with this objective is to select a price that covers costs while permitting the firm to remain in the market. Essentially we are trading profits for revenues which cannot continue forever. 8. Status Quo Price stabilization serves to avoid price wars with competitors while simultaneously maintaining an acceptable degree of profitability.
Pricing Strategy
One of the four major elements of the marketing mix is price. Pricing is an important strategic issue because it is related to product positioning. Furthermore, pricing affects other marketing mix elements such as product features, channel decisions, and promotion. While there is no single recipe to determine pricing, the following is a general sequence of steps that might be followed for developing the pricing of a new product: 1. Develop marketing strategy - perform marketing analysis, segmentation, targeting, and positioning. 2. Make marketing mix decisions - define the product, distribution, and promotional tactics. 3. Estimate the demand curve - understand how quantity demanded varies with price. 4. Calculate cost - include fixed and variable costs associated with the product. 5. Understand environmental factors - evaluate likely competitor actions, understand legal constraints, etc. 6. Set pricing objectives - for example, profit maximization, revenue maximization, or price stabilization (status quo). 7. Determine pricing - using information collected in the above steps, select a pricing method, develop the pricing structure, and define discounts. These steps are interrelated and are not necessarily performed in the above order. Nonetheless, the above list serves to present a starting framework. 1. Marketing Strategy and the Marketing Mix Before the product is developed, the marketing strategy is formulated, including target market selection and product positioning. There usually is a tradeoff between product quality and price, so price is an important variable in positioning. Because of inherent tradeoffs between marketing mix elements, pricing will depend on other product, distribution, and promotion decisions. 2. Estimate the Demand Curve
Because there is a relationship between price and quantity demanded, it is important to understand the impact of pricing on sales by estimating the demand curve for the product. For existing products, experiments can be performed at prices above and below the current price in order to determine the price elasticity of demand. Inelastic demand indicates that price increases might be feasible. 3. Calculate Costs If the firm has decided to launch the product, there likely is at least a basic understanding of the costs involved; otherwise, there might be no profit to be made. The unit cost of the product sets the lower limit of what the firm might charge, and determines the profit margin at higher prices. The total unit cost of a producing a product is composed of the variable cost of producing each additional unit and fixed costs that are incurred regardless of the quantity produced. The pricing policy should consider both types of costs. 4. Environmental Factors Pricing must take into account the competitive and legal environment in which the company operates. From a competitive standpoint, the firm must consider the implications of its pricing on the pricing decisions of competitors. For example, setting the price too low may risk a price war that may not be in the best interest of either side. Setting the price too high may attract a large number of competitors who want to share in the profits. From a legal standpoint, a firm is not free to price its products at any level it chooses. For example, there may be price controls that prohibit pricing a product too high. Pricing it too low may be considered predatory pricing or "dumping" in the case of international trade. Offering a different price for different consumers may violate laws against price discrimination. Finally, collusion with competitors to fix prices at an agreed level is illegal in many countries.
Factors impacting on pricing in international markets
1. Market positioning of product or service via price in the target market, e.g. high price to signal high value and exclusivity. 2. Membership of tariff union such as the European Union: check all aspects of rules surrounding products or services originating in the union versus those imported from outside the union. 3. Prices already operating in home country where relevant. 4. Currency exchange rates with other countries, both actual and potential. 5. Costs of tariff and other barriers. 6. Any variation in local taxes, including value added tax. 7. Prices of similar products already available in the target country. 8. Trade discounts and other special deals already operating in the target country, e.g. regular discounts off the manufacturer’s list price for reaching volume targets. 9. Distributor markup already operating in the target country, i.e. the difference between the distributor’s price and the customer’s price. 10. For multinationals, the prices at which goods are transferred between subsidiaries – called ‘transfer pricing.’ 11. Availability of web-based selling structures and distributors both to reduce selling costs and to promote goods. 12. Possibility of parallel trade pricing, i.e. goods imported from low-tax country into parallel country with higher taxes. 13. Reaction of current competitors via price to new entrants.
Pricing Methods
To set the specific price level that achieves their pricing objectives, managers may make use of several pricing methods. These methods include:
Cost-plus pricing - set the price at the production cost plus a certain profit margin. Target return pricing - set the price to achieve a target return-on investment. Value-based pricing - base the price on the effective value to the customer relative to alternative products. Psychological pricing - base the price on factors such as signals of product quality, popular price points, and what the consumer perceives to be fair.
In addition to setting the price level, managers have the opportunity to design innovative pricing models that better meet the needs of both the firm and its customers. For example, software traditionally was purchased as a product in which customers made a one-time payment and then owned a perpetual license to the software. Many software suppliers have changed their pricing to a subscription model in which the customer subscribes for a set period of time, such as one year. Afterwards, the subscription must be renewed or the software no longer will function. This model offers stability to both the supplier and the customer since it reduces the large swings in software investment cycles. Price Discounts The normally quoted price to end users is known as the list price. This price usually is discounted for distribution channel members and some end users. There are several types of discounts, as outlined below.
Quantity discount - offered to customers who purchase in large quantities. Cumulative quantity discount - a discount that increases as the cumulative quantity increases. Cumulative discounts may be offered to resellers who purchase large quantities over time but who do not wish to place large individual orders.
Seasonal discount - based on the time that the purchase is made and designed to reduce seasonal variation in sales. For example, the travel industry offers much lower off-season rates. Such discounts do not have to be based on time of the year; they also can be based on day of the week or time of the day, such as pricing offered by long distance and wireless service providers.
Cash discount - extended to customers who pay their bill before a specified date. Trade discount - a functional discount offered to channel members for performing their roles. For example, a trade discount may be offered to a small retailer who may not purchase in quantity but nonetheless performs the important retail function.
Promotional discount - a short-term discounted price offered to stimulate sales.
International Pricing Approaches
Export Pricing A price is set for by the home-based marketing managers for the international market. The pricing approach is based upon a whole series of factors which are driven by the influences on pricing listed above. Non-cash payments Less and less popular these days, non-cash payments include counter-trade where goods are exchanged for goods between companies from different parts of the World. Transfer Pricing Prices are set in the home market, and goods are effectively sold to the international subsidiary which then attaches its own margin based upon the best price that local managers decide that they could achieve. Then mainstream approaches to pricing may be implemented - see below. Standardization versus adaptation Do you use a standard, common approach to pricing in each market, or do you decide to adapt the price to local conditions? Premium Pricing Use a high price where there is a unique brand. This approach is used where a substantial competitive advantage exists and the marketer is safe in the knowledge that they can charge a relatively higher price. Such high prices are charged for luxuries such as Cunard Cruises, Savoy Hotel rooms, and first class air travel. Penetration Pricing The price charged for products and services is set artificially low in order to gain market share. Once this is achieved, the price is increased. This approach was used by France Telecom and Sky TV. These companies need to land grab large numbers of consumers to make it worth their while, so they offer free telephones or satellite dishes at discounted rates in order to get people to sign up for their services. Once there is a large number of subscribers prices gradually creep up. Taking Sky TV for example, or any cable or satellite company, when there is a
premium movie or sporting event prices are at their highest – so they move from a penetration approach to more of a skimming/premium pricing approach. Economy Pricing This is a no frills low price. The costs of marketing and promoting a product are kept to a minimum. Supermarkets often have economy brands for soups, spaghetti, etc. Budget airlines are famous for keeping their overheads as low as possible and then giving the consumer a relatively lower price to fill an aircraft. The first few seats are sold at a very cheap price (almost a promotional price) and the middle majority are economy seats, with the highest price being paid for the last few seats on a flight (which would be a premium pricing strategy). During times of recession economy pricing sees more sales. However it is not the same as a value pricing approach which we come to shortly. Price Skimming Price skimming sees a company charge a higher price because it has a substantial competitive advantage. However, the advantage tends not to be sustainable. The high price attracts new competitors into the market, and the price inevitably falls due to increased supply. Manufacturers of digital watches used a skimming approach in the 1970s. Once other manufacturers were tempted into the market and the watches were produced at a lower unit cost, other marketing strategies and pricing approaches are implemented. New products were developed and the market for watches gained a reputation for innovation. The diagram depicts four key pricing strategies namely premium pricing, penetration pricing, economy pricing, and price skimming which are the four main pricing policies/strategies. They form the bases for the exercise. However there are other important approaches to pricing, and we cover them throughout the entirety of this lesson.
Psychological Pricing This approach is used when the marketer wants the consumer to respond on an emotional, rather than rational basis. For example Price Point Perspective (PPP) 0.99 Cents not 1 US Dollar. It's strange how consumers use price as an indicator of all sorts of factors, especially when they are in unfamiliar markets. Consumers might practice a decision avoidance approach when buying products in an unfamiliar setting, an example being when buying ice cream. What would you like, an ice cream at $0.75, $1.25 or $2.00? The choice is yours. Maybe you're entering an entirely new market. Let's say that you're buying a lawnmower for the first time and know nothing about garden equipment. Would you automatically by the cheapest? Would you buy the most expensive? Or, would you go for a lawnmower somewhere in the middle? Price therefore may be an indication of quality or benefits in unfamiliar markets.
Product Line Pricing Where there is a range of products or services the pricing reflects the benefits of parts of the range. For example car washes; a basic wash could be $2, a wash and wax $4 and the whole package for $6. Product line pricing seldom reflects the cost of making the product since it delivers a range of prices that a consumer perceives as being fair incrementally – over the range. If you buy chocolate bars or potato chips (crisps) you expect to pay X for a single packet, although if you buy a family pack which is 5 times bigger, you expect to pay less than 5X the price. The cost of making and distributing large family packs of chocolate/chips could be far more expensive. It might benefit the manufacturer to sell them singly in terms of profit margin, although they price over the whole line. Profit is made on the range rather than single items.
Optional Product Pricing Companies will attempt to increase the amount customers spend once they start to buy. Optional 'extras' increase the overall price of the product or service. For example airlines will charge for optional extras such as guaranteeing a window seat or reserving a row of seats next to each other. Again budget airlines are prime users of this approach when they charge you extra for additional luggage or extra legroom.
Captive Product Pricing Where products have complements, companies will charge a premium price since the consumer has no choice. For example a razor manufacturer will charge a low price for the first plastic razor and recoup its margin (and more) from the sale of the blades that fit the razor. Another example is where printer manufacturers will sell you an inkjet printer at a low price. In this instance the inkjet company knows that once you run out of the consumable ink you need to buy more, and this tends to be relatively expensive. Again the cartridges are not interchangeable and you have no choice.
Product Bundle Pricing Here sellers combine several products in the same package. This also serves to move old stock. Blue-ray and videogames are often sold using the bundle approach once they reach the end of their product life cycle. You might also see product bundle pricing with the sale of items at auction, where an attractive item may be included in a lot with a box of less interesting things so that you must bid for the entire lot. It's a good way of moving slow selling products, and in a way is another form of promotional pricing.
Promotional Pricing Pricing to promote a product is a very common application. There are many examples of promotional pricing including approaches such as BOGOF (Buy One Get One Free), money off vouchers and discounts. Promotional pricing is often the subject of controversy. Many countries have laws which govern the amount of time that a product should be sold at its original higher price before it can be discounted. Sales are extravaganzas of promotional pricing!
Geographical Pricing Geographical pricing sees variations in price in different parts of the world. For example rarity value, or where shipping costs increase price. In some countries there is more tax on certain types of product which makes them more or less expensive, or legislation which limits how many products might be imported again raising price. Some countries tax inelastic goods such as alcohol or petrol in order to increase revenue, and it is noticeable when you do travel overseas that sometimes goods are much cheaper, or expensive of course.
Value Pricing This approach is used where external factors such as recession or increased competition force companies to provide value products and services to retain sales e.g. value meals at McDonalds and other fast-food restaurants. Value price means that you get great value for money i.e. the price that you pay makes you feel that you are getting a lot of product. In many ways it is similar to economy pricing. One must not make the mistake to think that there is added value in terms of the product or service. Reducing price does not generally increase value.
Nine laws of price sensitivity and consumer psychology
In their book, The Strategy and Tactics of Pricing, Thomas Nagle and Reed Holden outline nine "laws" or factors that influence how a consumer perceives a given price and how price-sensitive they are likely to be with respect to different purchase decisions. They are: 1. Reference Price Effect – buyer’s price sensitivity for a given product increases the higher the product’s price relative to perceived alternatives. Perceived alternatives can vary by buyer segment, by occasion, and other factors. 2. Difficult Comparison Effect – buyers are less sensitive to the price of a known or more reputable product when they have difficulty comparing it to potential alternatives. 3. Switching Costs Effect – the higher the product-specific investment a buyer must make to switch suppliers, the less price sensitive that buyer is when choosing between alternatives. 4. Price-Quality Effect – buyers are less sensitive to price the more that higher prices signal higher quality. Products for which this effect is particularly relevant include: image products, exclusive products, and products with minimal cues for quality. 5. Expenditure Effect – buyers are more price sensitive when the expense, accounts for a large percentage of buyers’ available income or budget. 6. End-Benefit Effect – the effect refers to the relationship a given purchase has to a larger overall benefit, and is divided into two parts: Derived demand: The more sensitive buyers are to the price of the end benefit, the more sensitive they will be to the prices of those products that contribute to that benefit. Price proportion cost: The price proportion cost refers to the percent of the total cost of the end benefit accounted for by a given component that helps to produce the end benefit (e.g., think CPU and PCs). The smaller the given components share of the total cost of the end benefit, the less sensitive buyers will be to the component's price. 7. Shared-cost Effect – the smaller the portion of the purchase price buyers must pay for themselves, the less price sensitive they will be.
8. Fairness Effect – buyers are more sensitive to the price of a product when the price is outside the range they perceive as “fair” or “reasonable” given the purchase context.
9.
The Framing Effect – buyers are more price sensitive when they perceive the price as a loss rather than a forgone gain, and they have greater price sensitivity when the price is paid separately rather than as part of a bundle.
International Pricing Issues
Export Price Escalation: Exporting products requires more steps and higher risks than selling products domestically. To make up for incremental costs, such as shipping, insurance and tariffs, foreign retail prices may often become much higher than prices in the home country of where a product is produced. The most important questions to ask yourself as a marketer are: will my customers pay an inflated price for our products/services? and will the price of our product make allow us to compete successfully with other firms? – - If the answer to these questions are negative, then there are 2 approaches to dealing with price escalation. The first way is find a way to cut the export price, and the second is to position the product as a exclusive or premium brand.
Inflation: Intense and unrestrained inflation rates in countries can become a huge obstacle for multinational corporations. In places where inflation rates are rampant, setting prices and controlling costs are imperative, often involving complete dedication by marketing and financial divisions of an organization. There are many alternatives to protect against the affects of inflation. Common plans include modifying components of products or packaging materials, getting raw materials from low-cost suppliers, shortening credit terms, including escalator clauses in long-term contracts (used in many b2b situations), quoting prices in stable currencies and pursuing rapid inventory turnovers. When governments impose price controls, which may accompany wage freezes, companies must also adapt several plans of action. Often in these circumstances, businesses will alter their product lines to minimize negative affects from price controls, change defined market segments, launch new products, spark negotiations with the government, and try to better predict when pricing controls may occur. In extreme cases, companies may choose to exit foreign markets when inflation or pricing controls become too costly to the company. If, however, a company can better manage these challenges, they will gain a longterm competitive advantage by creating higher barriers to entry for potential new competitors.
Currency Movements
Exchange rates represent how much one form of currency is worth in terms of another. Political and economic conditions cause exchange rates to constantly fluctuate. With these rates so unstable, setting a price strategy that can combat these changes can be difficult. The two main pricing issues for managers are how much of the exchange rate gain or loss should be transferred to customers (the pass-through issue), and deciding what currency price quotes are given in.
Transfer Pricing
Another challenge facing organizations operating globally is how they handle sales transactions between related parts of the same company. Transfer pricing are the prices charged for transactions involving the trade of raw materials, components, finished goods, or services. Transfer pricing decisions involve the need to balance the interests of a variety of stakeholders including: the parent company, local country managers, host governments, domestic governments, and joint-venture partners. Some of the factors that influence transfer pricing decisions are the following: tax regimes, local market conditions, market imperfections, joint venture partners and the morale of local country managers. There are two major transfer pricing strategies, market-based transfer pricing and nonmarket-based pricing.
Anti-dumping Regulations
Dumping occurs when imports are sold at an unfair price. Recently the removal of trade barriers (tariffs, quotas) has caused countries to switch to non-tariff barriers such as anti-dumping laws in order to protect their local industries. It is important for multinational corporations to take into account anti-dumping laws when they determine their global pricing policy. If firms price too aggressively, this may cause antidumping measures that will hurt their competitive position. It is important to monitor how anti-dumping laws affect similar companies in your industry.
Price Coordination
The last issue that affects pricing in the global environment is price coordination. Price coordination is the relationship that exists between prices charged in different countries. Although the laws of economics indicate that prices should vary across region
so that overall profits are maximized, reality is just not that simple. In the majority of instances, markets cannot be separated perfectly, and too much price differentiation creates gray markets. So, when deciding on how to coordinate your pricing strategy, consider these factors:
o o o o o o o
The nature of your customers The amount of product differentiation Nature of your distribution channels Nature of you competition Market Integration Characteristics if your internal organization Government regulations
Countertrade
The international marketer can use countertrade to gain rewards when conducting business globally. Countertrade describes many unconventional trade-financing transactions that involve some form of non-cash compensation. In recent times, countertrade has become more popular. The most common forms of countertrade are barters, clearing arrangements, switch trading, buyback, counter-purchases and offsets. The most important idea to remember from countertrade is that its benefits may cause short-term or long-term benefits for your company, but there are potential risks involved.
Bibliography 1. http://www.businessdictionary.com/definition/pricingobjective.html#ixzz2udiIDyuW
