Chapter 25 – Price Planning

1. Chapter 25 – Price Planning

2. What is Price? • Price is the value of a good or service • Exchange: customer satisfaction for something else of value (money) • Oldest Form of Pricing – Barter System • Still used by some companies • For e.g. companies exchange advertising spots on each others websites

3. What is Price? • Relationship of Product Value • Value that a customer places on an item or service. • E.g. if customers believe they will gain a great deal of satisfaction from a product, they will place a high value on it. • Seller’s Objective – is to set a price high enough for the firm to make a profit but not so high that it exceeds the value potential customers place on the product.

4. What is Price? • Various Forms of Price • Price comes in Different Forms • One-time (bus fare) • Recurring (rent) • Annual (magazine subscription) • Time based (university tuition) • Other examples include: • Wages and salaries (labour) • Interest on Loan (money) • Bridge tolls • Shoe Price

5. What is Price? • Importance of Price • Price helps establish & maintain • Firm’s image • E.g. Walmart’s slogan, • “Always Low Prices. Always.” • Competitive edge • Some firms offer the lowest prices and match or beat the competitors’ prices. • Profits • Sales revenue = Quantity sold * Price • Profit = Sales revenue – Costs and Expenses • Profit increases if Costs and Expenses decrease or stay stable in addition to: • Quantity sold increases or • Price increases

6. Three Goals of Pricing 1. Earning a Profit • Return on Investment (ROI) • Profit = Sales Revenue – Costs and Expenses • Investment = Costs and Expenses • ROI = Profit / Investment • Firm may price its products in order to achieve a certain ROI. • Start with a target selling price • Determine how your firm can lower costs in order to achieve ROI

7. Three Goals of Pricing 2.Gain Market Share • Forgo immediate Profit for long-term gains in some other areas • E.g. Nintendo’s Wii Price < Sony Playstation 3 and Xbox 360 • Nintendo’s objective was to gain market share (54% in 2007) • How to improve market share? • Keep track of changing size of the market & growth of competitors • Decrease Selling Price • Increase advertising expenditures • Change product design • New distribution outlets. 3. Meet the competition • Meet the price of the competition • Compete on basis of nonprice competing factors • E.g. Quality or uniqueness of the product, convenience of business location or hours, & level of service etc.

8. Four Key Factors that Affect Pricing • Costs and Expenses • Responses to increasing costs and expenses • If prices of raw materials go up then selling price would probably increase to make up for this increase in Costs. • Reduce the size of an item before changing its selling price • Drop features that customers do not value. • E.g. some Airlines only offer beverages & not food to customers • Increase Price but add more features or upgrade the materials to justify the increase in price. • Responses to Lower costs and expenses • Prices may drop if firms find a way to increase efficiency and decrease costs • E.g. Cost of Personal Computer decreased significantly

9. Four Key Factors that Affect Pricing 1)Costs and Expenses Continued… • Break-Even Point • Calculate Break-Even point • Sales revenue = Quantity sold * Price • Sales Revenue = Costs and Expenses • Hence, Quantity sold * Price = Costs and Expenses • # of units that need to sold = Costs and Expenses / Price • After the break-even point is reached, business begins to make a profit on the product.

10. Four Key Factors that Affect Pricing 2)Supply and Demand • If price goes up, demand decreases • If price goes down, demand increases • Demand Elasticity • is the degree to which demand for a product is affected by its price. • Elastic Demand • When a change in price results in a change in demand • Inelastic Demand • When a change in price has a very little effect on demand for a product especially when there is no substitute for the product • E.g. Parents continue to purchase milk for their young children even when prices increase.

11. Four Key Factors that Affect Pricing 2)Supply and Demand Continued… • Law of Diminishing Marginal Utility • As price decreases, the demand would not keep increasing indefinitely i.e. Consumers will only buy so much of the given product • E.g. Sale on detergent – households may buy 5 bottles only. • 5 Factors that determine whether demand is elastic or inelastic • Brand loyalty (if customers are loyal then demand is inelastic) • Price relative to income (if price increase is significant relative to one’s income then demand is elastic) • availability of substitutes (if substitute available then elastic) • luxury Vs necessity (i.e. Wants VsNeeds  Elastic Vs Inelastic) • urgency to purchase (if purchase must be made immediately i.e. if you really need something then demand tends to be inelastic)

12. Four Key Factors that Affect Pricing • Consumer perceptions • Consumer perceptions about the relationship between price and quality play an important role in pricing. • A high price may suggest status, prestige, & exclusiveness. • Exclusiveness (i.e. limited edition of a product) – some firms limit the supply of an item in the market and charge a higher price to create the perception that its worth more than the others. • Personalized service can add to a consumer’s perceptions about price. • E.g. Five-Star restaurants offer fancy place settings, well-designed interiors, and an attentive wait staff to make your dining experience elegant.

13. Four Key Factors that Affect Pricing 4) Competition • A Firm can use a lower price when its target market is price conscious and vice versa. • If the product is perceived as unusual (i.e. distinct) by the customer then the firm has more freedom to set the price. • If the product is very similar to competition then price often becomes the sole basis on which customers make their purchase decisions. • If customers don’t see any difference between products, then they are more likely to buy less expensive brands.

14. Legal & Ethical Considerations for Pricing • Governments have enacted laws to control prices. • Some pricing practices might be legal but not ethical. • Price Fixing – occurs when competitors agree on certain price ranges within which they set their own prices. • Must have happened through communication between competing firms & can be proved if there is evidence of collusion (i.e. conspiracy) • Price Fixing is illegal b/c it eliminates competition. • Price Discrimination – occurs when a firm charges different prices to similar customers in similar situations.

15. Legal & Ethical Considerations for Pricing • Unit Pricing – allows consumers to compare prices in relation to a standard unit or measure such as an ounce or a pound. • Food Stores are most affected by these laws. • Resale Price Maintenance • A firm can tell retailers in advance that they will not be permitted to sell its products if they break the established pricing policy. • Manufacturer & retailer can come to an agreement to fix the maximum retail price as long as the price agreement is not an “unreasonable restraint” or considered “anti-competitive”

16. Legal & Ethical Considerations for Pricing • Unfair Trade Practices Law or Minimum Price Law • Prevents large companies with market power from selling products at very low prices to drive out their competition. • Law prevents retailers from selling goods below cost plus a % for expenses and profit. • In some states in the USA where minimum price laws are not in effect, an item priced at or below cost to draw customers into a store is called loss leader. • Means a firm takes a loss on the item to lead customers into the store. • Retailers select highly popular, well-advertised products to use as loss leaders.

17. Legal & Ethical Considerations for Pricing • Price Advertising - guidelines for advertising prices • Trade Commission • forbids a firm from advertising a price reduction unless the original price was offered to the public on a regular basis for a reasonable & recent period of time. • Forbids a firm from saying that its prices are lower than its competitors’ prices without proof based on large number of items. • A premarked or regular list price cannot be used as the reference point for a new sale price unless the item has actually been sold at that price. • Bait-and-Switch advertising – a firm advertises a low price for an item it has no intention of selling, is illegal.

18. Legal & Ethical Considerations for Pricing • Pricing Ethics • If you set a price higher than normal for a product in high demand, you are price gouging. • Gouging is unethical and against the law in states during national and state emergencies due to national disasters or strikes.