Pricing Products and Services
I Nature and Importance of Price
A. What is a Price?
* Price is the money or other considerations (including other goods
and services) exchanged for the ownership or use of a good or
service.
 Barter - the practice of exchanging goods and services for other
goods and services rather than for money accounts for billions
of dollars annually in domestic and international trade.
B. Price as an indicator of value
* Price is often used to indicate quality or value when it is compared
With the perceived benefits of a product or service.
 Creative marketers engage in value pricing - the practice of
simultaneously increasing product and service benefits while
maintaining or decreasing price. Example: “supersizing”
C. Price in the Marketing Mix
*Pricing has a direct effect on a firm’s profits. This is apparent
from a firms profit equation:
Profit = total revenue - total cost
Profit =(unit price x quantity sold) - total cost
II General Pricing Approaches
A key to a marketing manager’s setting a final price for a product is to find
an approximate price level to use as a reasonable starting point.
A. Demand-Oriented Approaches
Demand -oriented approaches emphasize factors underlying expected
customer tastes and preferences more than such factors as cost, profit, and
competition when selecting a price level.
1. Skimming Pricing
a. A firm introducing a new or innovative product can use
skimming pricing, setting the highest initial price that customers
really desiring the product are willing to pay.
b. These customers are not very price sensitive. They weigh
the new product’s price and quality against the same
characteristics of substitutes.
c. As consumer demand is satisfied, the firm lowers the price
to attract another, more price sensitive segment
d. Skimming pricing gets its name from skimming successive layers
of “cream” or customer segments, as prices are lowered in a
series of steps.
2. Penetration Pricing
a. Setting a low initial price on a new product to appeal
immediately to the mass market. Penetration Pricing is
the exact opposite of skimming pricing.
b. Penetration pricing may follow skimming pricing:
* A company might initially price a product high to
attract price-insensitive consumers and recoup initial
R&D costs and introductory promotional expenses.
Then use penetration pricing to appeal to a broader
segment of the population and increase market share.
3. Prestige Pricing
a. Prestige Pricing - setting a high price so that quality- or
status conscious consumers will be attracted to the product
and buy it.
b. Although consumers tend to buy more of a product when the
price is lower, sometimes the reverse is true.
4. Odd-Even Pricing
a. Odd-even pricing - setting prices a few dollars or cents
under an even number ($499.99 vs. $500.00).
The overuse of odd-even pricing tends to reduce its
effect on demand.
5. Target Pricing
a. Manufacturers will sometimes estimate the price that the
ultimate consumer is willing to pay for a product. They
then work backward through markups taken by retailers
and wholesales to determine what price they can charge
to wholesalers for the product.
b. In target pricing, the manufacturer deliberately adjusts
the composition and features of a product to achieve the
target price to consumers.
6. Bundle Pricing
a. Bundle Pricing is the marketing of two or more products in
a single package price and is based on the idea that consumers
value the package more than the individual items.
b. Bundle Pricing provides buyers with a lower total cost, not
having to make separate purchases.
7. Yield Management Pricing
a. Yield management pricing is the charging of different prices
to maximize revenue for a set amount of capacity at any
given time.
b. This is often used by airlines, hotels, car rental firms engaged
in capacity management by varying prices based on time, day
week, or season to match demand and supply.
B. Cost-Oriented Approaches
With cost-oriented approaches, a price setter stresses the cost side of the
pricing problem, not the demand side. Price is set by looking at the
production and marketing costs and then adding enough to cover direct
expenses, overhead, and profit.
1. Standard Markup Pricing - adding a fixed percentage to the cost
of all items in a specific product class.
a. This percentage markup varies depending on the type of retail
store and product involved.
b. High volume products usually have smaller markups than lowvolume products
c. These markups must cover all expenses of the store, pay for
overhead costs, and contribute something to profits. For supermarkets this may be only 1 percent.
2. Cost plus Pricing
a. Many manufacturers, professional services, and construction firms
use this variation of standard markup pricing.
b. cost plus pricing involves summing the total unit cost of providing
a product or service and adding a specific amount to the cost
to arrive at a price.
c. Cost plus pricing is the most commonly used method to set prices
for business products or business-to-business marketers in the
service sector.
C. Profit-Oriented Approaches
A price setter may balance both revenues and cost to set price by either
setting a target of a specific dollar volume of profit or expressing this target
profit as a percentage of sales or investment.
1. Target Profit Pricing
a. Target Profit pricing - setting an annual target of a specific dollar
volume of profit.
b. To calculate a target profit price for a picture frame store:
Profit= total revenue - total cost
= (Price x Quantity sold) - (fixed Cost + (Unit
Variable Cost x Quantity sold))
c. This method depends on an accurate estimate of demand. Because
demand is difficult to estimate, this method has the potential for
disaster if the estimate is too high.
2. Target Return - on- sales Pricing
a. Target return on sales pricing involves setting a rice to achieve
a profit that is a specified percentage of the sales volume
b. Supermarkets often use this method due to the difficulty in
establishing a benchmark of sales or investment to show how
much of a firm’s effort is needed to achieve the target.
3. Target Return on Investment Pricing
Involves setting a price to achieve an annual target return on
Investment (ROI) that is mandated by a board of directors or
regulators.
D. Competition-oriented Approaches
Rather than emphasize demand, cost, or profit factors, a price setter can
stress what competitors or “the market” is doing.
1. Customary Pricing
a. Customary pricing - setting a price dictated by tradition, a
standardized channel of distribution, or other competitive
factors.
b. A significant departure from this price may result in the loss
of sales for the manufacturer.
2. Above - At or Below Market Pricing
a. The “market price” of a product is what customers are
willing to pay, not necessarily the price that the firm sets.
b. Set a market price for a product or product class based on a
subjective feel for the competitors’ price or market price
as a benchmark.
c. Above-market pricing sets a premium price for a product.
d. At market pricing establishes the going market price or
reference point in the minds of their competitors
e. Below market pricing sets a market price below the prices
of nationally branded competitive products to promote a value
image among buyers.
3. Loss-Leader Pricing
Deliberately selling a product below its customary price, not to
Increase sales but to attract customers attention in the hopes that
They will buy other products as well, such as discretionary items
with large markups.
III ESTIMATING DEMAND AND REVENUE
Marketing Executives must also translate the estimate of customer demand
into estimates of revenues the firm expects to receive.
*How much would consumers be willing to pay for a product? If the
price kept going up, at some point they will quit buying it.
Conversely, if the price kept going down, they would buy more.
 How much more of a product needs to be sold to make up for the
lower price per unit? The answer depends on the demand curve.
1. The demand curve - a graph relating quantity sold and price,
which shows the maximum number of units that will be sold
at a given price.
2 Price Elasticity of Demand
a. Marketers are especially interested in how sensitive consumer
demand and the firm’s revenues are to changes in the product’s
price.
b. This is measured by price elasticity of demand, the percentage
change in quantity demanded relative to a percentage change in
price.
*A product with elastic demand is one in which a slight
decrease in price results in a relatively large increase
in demand, or units sold.
 A product with inelastic demand means that slight
increases or decreases in price will not significantly affect
the demand, or units sold for the product.
IV DETERMINING COST, VOLUME, AND PROFIT
RELATIONSHIPS
While revenues are the monies received by the firm from selling its
Products or services to customers, costs or expenses are the monies the
Firm pays out to its employees and suppliers.
A. The Importance of Controlling Costs
* Total Cost (TC) is the total expense incurred by a firm in producing
And marketing a product. Total cost is the sum of fixed cost and
Variable cost, or TC= FC + VC
 Fixed Cost (FC) is the sum of the expenses of the firm that are
stable. For example, rent on the building, executive salaries
 Variable Cost (VC) is the sum of the expenses of the firm
that vary directly with the quantity of a product that is produced
and sold, such as the direct labor, direct materials and sales
commissions.
 Variable Cost expressed on a per unit basis is called unit variable
Cost (UVC)
Many firms go bankrupt because their costs get out of control,
causing their total costs to exceed their total revenues over an
Extended period of time.
B. Break Even Analysis
* Break even analysis - is a technique that analyzes the relationship
between total revenue and total cost to determine profitability at
various levels of output.
 The break even point (BEP) is the quantity at which total revenue
and total cost are equal. Profit then comes from all units sold
beyond the BEP.
BEP = Fixed Cost
Unit Price - Unit Variable Cost
BEP = Fixed Cost divided by (Price - Unit Variable Cost)
For example: Using a small picture frame store, a BEP (break even
point) quantity for the number of pictures needed to be sold to
cover fixed costs can be calculated. IF FC (fixed costs) = $28,000
P (price) = $100 and UVC = $30, the BEP is:
BEP = $28,000
$100 - $30
BEP = 400 pictures
At less than 400 pictures the picture frame store incurs a loss
At more than 400 pictures, the picture frame store makes a profit.
V SETTING A FINAL PRICE
The final price set by the marketing manager serves many functions:
 It must be high enough to cover the cost of providing the product
and meet the objectives of the company
 It must be low enough that customers are willing to pay it. But
not too low, or they may think they’re purchasing an inferior
product.
Step 1. Select an Approximate Price level
 Consider pricing objectives and constraints first, then choose
among the general pricing approaches - demand, cost, profit,
or competition-oriented - to arrive at an approximate price level
Step 2 Set the list or Quoted Price
A seller must decide to follow a one-price or flexible price policy.
*A one price policy involves setting one price for all buyers of
a product or service.
*A Flexible price policy sets different prices for products and
services depending on individual buyers and purchase situations in
light of demand, cost and competitive factors.
Step 3 Make Special Adjustments for the List or Quoted Price
If a firm sells its products to multiple wholesalers and retailers in the
distribution channel, it will make a number of adjustments to the list price.
1. Discounts - are reductions from list price that a seller gives a
Buyer as a reward for some activity of the buyer that is favorable
to the seller.
a. Quantity Discounts - reductions in unit costs for an large quantity
order. These are offered to all firms in the distribution channel.
b. Seasonal discounts - used by manufacturers to encourage buyers
to stock inventory earlier than their normal demand would require.
c. Trade discounts - are used by manufacturers to reward wholesalers
and retailers for marketing functions they will perform in the
future.
d. Cash discounts - Are used by manufacturers to encourage retailers
to pay their bills quickly.
2. Allowances - like discounts - are also reductions from list
or quoted prices.
a. Trade in allowances - are price reductions given when a
used product is part of the payment on a new product.
b. Promotional allowances - actual cash payments or extra
free goods sellers in the channel can qualify for.
c. Everyday low pricing - is the practice of replacing promotional
allowances with lower manufacturer list prices.
3. Geographical Adjustment
Are made by manufacturers or even wholesalers to list or quoted
prices to reflect the cost of transportation of the products from seller
to buyer.
a. FOB Free on board some vehicle at some location.
b. Uniformed delivered pricing - the price the seller quotes includes
all transportation.