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MKTG 6214 Glenn Voss

Pricing Strategy & Tactics – Chs . 1-3. Define Strategic Pricing & 5 elements of a pricing strategy: (1) Value creation, (2) Price and offer structure (3) Value communication, (4) Pricing policy, & (5) Price setting; Define Value and explain its role in pricing strategy;

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MKTG 6214 Glenn Voss

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  1. Pricing Strategy & Tactics – Chs. 1-3 • Define Strategic Pricing & 5 elements of a pricing strategy: (1) Value creation, (2) Price and offer structure (3) Value communication, (4) Pricing policy, & (5) Price setting; • Define Value and explain its role in pricing strategy; • Show how value-based segmentation enables companies to more profitably align its offerings with differences in what consumers are willing to pay; and • Examine mechanisms to maintain segmented structures: (1) Price-offer configuration, (2) Price metrics, & (3) Price fences. MKTG 6214 Glenn Voss

  2. MKTG6214 Course Materials Textbook: • The Strategy and Tactics of Pricing, 5th edition, 2011, Nagle, Hogan, and Zale Cases: • 2 Cases in course packet at Study.net Password: MKTG6214 • Springfield Nor’easters case available online User Name: Password: Lectures and Discussions: • In conjunction with cases & handouts of slides

  3. Assessment & Grade Distribution • 2 Written Case Analyses 20 (completed in groups of 1-6) • Final Examination 10 • Total 30 Cox Recommended Grade Distribution A/A- 40% B/B+ 50% B-… 10%

  4. Modeling the Marketing Process SWOT Analysis Company Customers Competitors Collaborators Context Market Segmentation Selection & Targeting Product/Service Offering Positioning Create Value Product/Service Offering Place/ Channel Promotion/ Communication Pricing Customer Relationship Management Communicate, Capture & Share Value Customer Acquisition Customer Retention Sustain Value Revenue & Profits

  5. The Strategic Pricing Pyramid Price Level Price setting Pricing Policy Negotiation Tactics & Criteria for Discounting Communicate, Capture, & Share Value Price/Value Communication Communication, Value Selling Tools Price Structure Metrics, Fences, Controls Value Creation Economic Value, Offering Design, Segmentation Create Value Price setting is just the “tip of the iceberg” of a profitable pricing strategy.

  6. Value-Based Pricing Effective pricing strategies should be based on three factors: Competition Costs Pricing Strategy Customers Objective: Maximize the difference between the value created for the customer and the company’s costs to provide that value. The Value-based Pricing Process CUSTOMER VALUE PRICE COST PRODUCT

  7. Value Creation • Defining VALUE • Use Value (Utility) • Monetary gain (or savings) from using a product/service offering • Psychological benefits (or costs) associated with using a product/service offering • Economic Value • Calculated using reference value and differentiation value • Reference Value • Refers to the price of the consumer’s “best” alternative. • Differentiation Value • Refers to the value of whatever differentiates the offering from the alternative(s). Can be positive or negative. Total economic value represents the maximum price that a fully-informed consumer would be willing to pay for a product/service offering.

  8. Economic Value Estimation Framework Costs unique to doing business with you Positive Differentiation Value Negative Differentiation Value Your uniquevaluedelivery Price to capture a share of this value Reference Value Total Economic Value Price of Customer’s Next Best Alternative

  9. Economic Value Estimation Example – Heavy equipment manufacturer Add’l warranty cost = -$1050 Higher residual value = $1200 Parts inventory program savings = $1250 Total offering economic value $79,950 Invoice processing consistency savings = $1500 Differentiation Value = $7,450 How much of the Differentiation Value do you Capture versus Share with your Customers Fuel economy savings = $2200 Increased revenue from higher uptime = $2350 Reference Competitive alternative for this customer = $72,500 Reference price = $72,500

  10. Economic Value Analysis • Step 1: Identify Reference Value • Reference value is calculated as the price of the best perceived alternative, not necessarily the next best competitive alternative, with regard to form, function, effectiveness, and/or efficacy. • Step 2: Estimate Differentiation Value • Determine the value drivers – those attributes that impact customer perceptions and purchase choice • Are they monetary gains or cost savings? • Are they psychological benefits or costs?

  11. Comment regarding differentiation value . . . . In most cases, the components making up differentiation value can be quantified to some extent. Some consumers, however, will pay more for a product simply because of the brand name – despite the fact that the tangible value of the product may be substantially lower than alternatives available to them. Therefore, the brand name can often be a component of the differentiation value (brand equity). What type of differentiation value does a brand name provide?

  12. Economic Value Analysis • Step 1: Identify Reference Value • Reference value is calculated as the price of the best perceived alternative, not necessarily the next best competitive alternative, with regard to form, function, effectiveness, and/or efficacy. • Step 2: Estimate Differentiation Value • Determine the value drivers – those attributes that impact customer perceptions and purchase choice • Are they monetary gains or cost savings? • Are they psychological benefits or costs? • Identify attributes that differentiate between your product and the competitive reference product. What benefits or costs are associated with your product? How can you quantify each benefit and cost? • Gather data that can be used to assign the monetary amount to each value driver (e.g., in-depth customer interviews, surveys, focus groups) • Focus on the underlying customer business model (what drives the business model will typically drive the value perceptions of the customer) • Value drivers can vary across customers & across time • Determine the value derived from a bundle of features

  13. Estimating Psychological ValueImpact of Warranty Length on Willingness to Pay MKTG 6223    Understanding What Customers Value Segment B — Innovators Revenue Contribution $4,041,864 (~ 10,100 units) $ (M) $626,904 Price ($) Segment E — Budget Shoppers $261,496 $2,020,788 (~ 5,800 units) $ (M) Price ($)

  14. Cost of a Surge (minor) Labor $ 9,000 Incremental materials, fuel $ 6,000 Lost Production (8 hours to restart.) $80,000 $95,000 Pricing Russian TechnologyQuiz Cost of a Surge (major) Labor $ 24,000 Incremental materials, fuel $ 11,000 Equipment (new compressor) $180,000 Lost Production (24 hr. To restart) $240,000 $455,000 Frequency of minor surge per compressor .4 per year Frequency of major surge per compressor = .004 per year

  15. Pricing Russian TechnologyQuiz 1. What is the economic value of this product? 2. How close to this value would customers be willing to pay? 3. Why might customers object to paying the full economic value? 4. What would you do to overcome those objections? What price do you think Compressor Controls should charge for this product & why?

  16. The price of the most basic of commodity products . . . . The relevant question is: Why are consumers willing to pay relatively steep prices for a commodity product?

  17. Price StructureTactics for Pricing Differently Across Segments Market Segmentation – organizing the market into homogeneous groups (or segments) that the firm can effectively & efficiently target. Market Segmentation Selection & Targeting Product/Service Offering Positioning Create Value Product/Service Offering Place/ Channel Promotion/ Communication Pricing Customer Relationship Management Communicate, Capture & Share Value Customer Acquisition Customer Retention Sustain Value Revenue & Profits

  18. High Value A B C D Low Segment Size The Reason for Segmented Pricing A one-size fits all approach to pricing reduces profitability and intensifies customer pricing pressure ….leaves money on the table for these customers and communicates that value does not have to be paid for… 2 Setting price here 1 ….and misses growth opportunities by pricing these customers out of the market 3

  19. Maxim. contribution w/: 1 Price ($10) VC equal to Contribution equals 2 Prices ($15, $8) VC equal to Contribution equals 5 Prices ($20  $6) VC equal to Contribution equals $10 $5 $250 $10 $5 $750 $10 $5 $1750 $10 $5 $0 $10 $5 $0 $2750 $15 $5 $500 $15 $5 $1500 $8 $5 $1050 $8 $5 $750 $8 $5 $0 $3800 $20 $5 $750 $15 $5 $1500 $10 $5 $1750 $8 $5 $750 $6 $5 $200 $4950 Benefits of Price Segmentationwith 5 Segments (A, B, C, D, E) Percent of Market Segment Size Reservation Price = A 5 50 $20 B 15 150 $15 C 35 350 $10 D 25 250 $ 8 E 20 200 $ 6 Total 100% 1000

  20. Careful Analysis is Required to Avoid Nonprofitable Segmentation & Proliferation SKU Velocity Analysis focuses on SKUs that drive a majority of revenue & volume Identify opportunities for SKU rationalization Focus price improvement efforts on the top moving SKUs

  21. Benefits of Price Segmentation Can Change with Ambiguous Reservation Prices Percent of Market Segment Size Reservation Price ≈ 30% buy next higher-priced option if target price not available A 5 50 $20 B 15 150 $15 C 35 350 $10 D 25 250 $ 8 E 20 200 $ 6 Total 100 1000 Examples: You stop at a gas station, get out, and discover that there is only premium gas available. Do you buy or leave? You go to the ballpark and discover that there are only premium seats available. Do you buy or leave?

  22. Mobile Customer Prices Paid per Minute (Virgin Ex 9b)

  23. Maxim. contribution w/: 1 Price ($10) VC equal to Contribution equals 2 Prices ($15, $8) VC equal to Contribution equals 5 Prices ($20  $6) VC equal to Contribution equals $10 $5 $250 $10 $5 $750 $10 $5 $1750 $10 $5 $375 $10 $5 $0 $3125 $15 $5 $500 $15 $5 $1500 $8-15 $5 $1785 $8 $5 $750 $8 $5 $180 $4715 $20 $5 $750 $15 $5 $1500 $10 $5 $1750 $8 $5 $750 $6 $5 $200 $4950 Benefits of Price Segmentation Given Ambiguous Reservation Prices Percent of Market Segment Size Reservation Price ≈ 30% buy next higher-priced option if target price not available A 5 50 $20 B 15 150 $15 C 35 350 $10 D 25 250 $ 8 E 20 200 $ 6 Total 100 1000

  24. Benefits of Price Segmentation Given Ambiguous Reservation Prices & Incremental VC & FC Percent of Market Segment Size Reservation Price ≈ 30% buy next higher-priced option if target price not available A 5 50 $20 B 15 150 $15 C 35 350 $10 D 25 250 $ 8 E 20 200 $ 6 Total 100 1000 Maxim. contribution w/: 1 Price ($10) VC equal to Contribution equals 2 Prices ($15, $8) VC equal to Contribution equals 5 Prices ($20  $6) VC equal to Contribution equals $10 $5.40 $240 $10 $5.30 $720 $10 $5.20 $1680 $10 $5.10 $365 $10 $5.00 $0 $3000 $15 $5.50 $480 $15 $5.40 $1440 $8-15 $5.30 $1694 $8 $5.20 $700 $8 $5.10 $168 $4482 $20 $5.80 $710 $15 $5.70 $1395 $10 $5.60 $1540 $8 $5.50 $625 $6 $5.40 $120 $4390 Add $.10 in VC for each incremental price point above $6 (higher VC for higher-priced products) & $.10 additional FC per product/price offering greater than 1.

  25. Value Based Market Segmentation – pp. 40-456 Steps for Value Based Segmentation

  26. Three Mechanisms to Maintain Segmented Structures

  27. Pricing Menus Map Price StructureHelp Customers Trade Up or Trade Down A “Fixed Price, Flexible Offer” Menu

  28. Examples of Tiered Offers in Software Professional SRP $299.99 All in Standard + MS Access Developer SRP $529.99 Development Tools to Build Own Applications Standard SRP $219.99 Pro SRP $279.95 All in Basic + Create Customized forms, Tools to Track add’l items Basic SRP $199.95 Premier SRP $399.99 All in Pro + Daily Sales Summary, Retail Specific Reports

  29. Price Offer ConfigurationPrinciples For Offer Creation Toilet on the plane Beverages First to Board Premium Seats WiFi Access On-Board Entertainment Bag Check

  30. Price Metrics Criteria For Evaluating Price Metrics - Exhibit 3.4 Potential Metrics Tracks with Differences in Value Across Segments 1 Tracks with Differences in Cost-to-Serve 2 Easy to Measure and Enforce 3 Facilitates Favorable Positioning against Competition 4 Aligns with How Buyers Experience Value in Use 5 Optimal Metric

  31. Value-based Pricing Metrics Market Traditional Metrics Value-based Metrics Real Estate Want Ads $ / column inch $ / property value Aircraft Engines $ / engine $ / hour of use Information service $ / minute $ / download

  32. Example: Innovative Price Metrics Can Unlock Value and Ignite Growth iTunes Why did this new pricing model have such an impact on sales?

  33. iTunes’ New Price Metric Re-Aligned Price and Value iTunes Old Metric $ / CD New Metric $ / Song Overpayment Value Inducement Value of Song Value of CD Price of Song Price of CD

  34. Price Fences • Price Fences are a means to charge different customers different prices. • Types include • Buyer identification fences (e.g., airlines, student/senior, membership) • Purchase location fences (e.g., grocery chains, real estate) • Time purchase fences (e.g., fashion, yield management - hotels, airlines…) • Purchase quantity fences • Volume discount • Order discount • Step discount • Two-part pricing (e.g., printer and cartridges)

  35. Next Week: Price Setting and Value Communications or How to price bottled air to morons…

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