Chapter 12
Price
Determination
12-1
Chapter Goals
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12-2
Meaning of price
Concept of price and value
Pricing objectives
Factors influencing price
Costs of producing and marketing a product
Approaches to determine price
Break-even analysis
Strategies related
.
Meaning of Price
PRICE
Dues
Wage
Tuition
Amount of money and/or
other items with utility
needed to acquire
a product
Interest
Rent
Commission
12-3
Salary
Fare
Importance of Price
Economy
Firm
Customer
12-4
Pricing Objectives: Profit-Oriented
Achieve a
Target
Return
Maximize
Profits
12-5
Pricing Objectives: Sales-Oriented
Increase
Sales
Volume
Maintain
or
Increase
Market
Share
12-6
Pricing Objectives: Status Quo
Meet
Competition
Stabilize
Prices
12-7
Factors Influencing Price
Estimated Demand
Expected price
Demand curve
Price elasticity
Competitive Reactions
12-8
Price and Marketing Mix
Distribution
Channels
Promotion
Price
Product
12-9
Costs for an Individual Firm
Inverse Demand
12-10
Cost-Plus Pricing
Setting the price of one unit
of a product equal
to the total cost of the unit
plus the desired profit on the unit
12-11
King’s Kastles
12-12
Markup Pricing
12-13
Break-Even Analysis
BREAK-EVEN POINT
The quantity of output
at which total revenue equals total costs
assuming a certain selling price
12-14
Computation of Break-Even Point
12-15
Break-Even Chart
12-16
Pricing and Competition
Perfect Competition
Above Competition
Below Competition
12-17
Value
12-18
12-19
The FOUR Generic Competitive
Strategies
Type of Advantage Sought
Market Target
Lower Cost
12-20
Overall Low-Cost
Broad
Leadership
Range of
Buyers
Strategy
Narrow
Buyer
Segment
or Niche
Focused
Low-Cost
Strategy
Differentiation
Broad
Differentiation
Strategy
Focused
Differentiation
Strategy
A Low-Cost Leadership Strategy
Objective
•
Open up a sustainable cost advantage over rivals,
using lower-cost edge as a basis either to
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–
12-21
Under-price rivals and reap market share gains OR
Earn higher profit margin selling at going price
Low-Cost Leadership
Keys to Success
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Make achievement of low-cost relative to rivals the
THEME of firm’s business strategy
Find ways to drive costs out of business year-after-year
Low-cost leadership means low
Low-cost leadership means low
OVERALL
costs,
not
low
OVERALL
costs,
notjust
just low
manufacturingor
or production
costs!
manufacturing
production
costs!
12-22
Approaches to Securing
a Cost Advantage
Approach 1
Do a better job than rivals of performing
value chain activities efficiently and cost
effectively
Approach 2
Revamp value chain to bypass some
cost-producing activities
12-23
Control
costs!
By-pass
costs!
Approach 1: Controlling the Cost
Drivers
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Capture scale economies; avoid scale diseconomies
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Capture learning and experience curve effects
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Manage costs of key resource inputs
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Consider linkages with other activities in value chain
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Find sharing opportunities with other business units
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Compare vertical integration vs. outsourcing
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Assess first-mover advantages vs. disadvantages
•
Control percentage of capacity utilization
•
Make prudent strategic choices related to operations
12-24
Approach 2: Revamping the Value
Chain
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Simplify product design
Offer basic, no-frills product/service
Shift to a simpler, less capital-intensive, or more streamlined
technological process
Find ways to bypass use of high-cost raw materials
Use direct-to-end user sales/marketing approaches
Relocate facilities closer to suppliers or customers
Reengineer core business processes---be creative in finding ways
to eliminate value chain activities
Use PC technology to delete works steps, modify processes, cut
out cost-producing activities
12-25
Characteristics of a
Low-Cost Provider
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Cost conscious corporate culture
Employee participation in cost-control efforts
Ongoing efforts to benchmark costs
Intensive scrutiny of budget requests
Programs promoting continuous cost improvement
• Low-cost producers champion FRUGALITY while
aggressively
INVESTING in cost-saving improvements!
12-26
The Competitive Strengths of
Low-Cost Leadership
12-27
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Better positioned than RIVAL COMPETITORS to
compete offensively on basis of price
•
Low-cost provides some protection from bargaining
leverage of powerful BUYERS
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Low-cost provides some protection from bargaining
leverage of powerful SUPPLIERS
•
Low-cost provider’s pricing power acts as a significant
barrier for POTENTIAL ENTRANTS
•
Low cost puts a company in position to use low price as a
defense against SUBSTITUTES
A Low-Cost Strategy Works Best
When:
12-28
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Price competition is vigorous
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Product is standardized or readily
available from many suppliers
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There are few ways to achieve
differentiation that have value
•
Most buyers use product in same ways
•
Buyers incur low switching costs
•
Buyers are large and have significant bargaining
power
Pitfalls of Low-Cost Strategies
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•
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Being overly aggressive in cutting price (revenue
erosion of lower price is not offset by gains in sales
volume--profits go down,not up)
Low cost methods are easily imitated by rivals
Becoming too fixated on reducing costs
and ignoring
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Buyer interest in additional features
– Declining buyer sensitivity to price
– Changes in how the product is used
•
Technological breakthroughs open up cost reductions
for rivals
12-29
Differentiation Strategies
Objective
•
Incorporate differentiating features that cause buyers to prefer
firm’s product or service over the brands of rivals
Keys to Success
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Find ways to differentiate that CREATE VALUE for buyers and
that are NOT EASILY MATCHED or CHEAPLY COPIED by
rivals
• Not spending more to achieve differentiation than the price
premium that can be charged
12-30
The Appeal of Differentiation
Strategies
•
12-31
A powerful competitive approach when
uniqueness can be achieved in ways that
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Buyers perceive as valuable
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Rivals find hard to match or copy
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Can be incorporated
at a cost well below
the price premium
that buyers will pay
Which hat
is unique?
The Benefits of Successful
Differentiation
A product / service with unique and appealing
attributes allows a firm to
4
Command a premium price and/or
4
Increase unit sales and/or
4
Build brand loyalty
= Competitive Advantage
12-32
Types of Differentiation Themes
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Unique taste -- Dr. Pepper
Special features -- America Online
Superior service -- FedEx, Ritz-Carlton
Spare parts availability -- Caterpillar
Engineering design and performance -- Mercedes
Prestige -- Rolex
Quality manufacture -- Honda , Toyota
Technological leadership -- 3M Corporation, Intel
Top-of-the-line image -- Ralph Lauren, Chanel
12-33
Sustaining Differentiation: The Key to
Competitive Advantage
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Most appealing approaches to differentiation:
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Those hardest for rivals to match or imitate
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Those buyers will find most appealing
Best choices for gaining a longer-lasting, more profitable
competitive edge:
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New product innovation
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Technical superiority
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Product quality and reliability
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Comprehensive customer service
12-34
Where to Find Differentiation
Opportunities in the Value Chain
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Purchasing and procurement activities
Product R&D activities
Production R&D; technology-related activities
Manufacturing activities
Outbound logistics and distribution activities
Marketing, sales, and customer service activities
Activities,
Costs, &
Margins of
Suppliers
12-35
Internally
Performed
Activities,
Costs, &
Margins
Activities, Costs,
& Margins of
Forward Channel
Allies &
Strategic Partners
Buyer/User
Value
Chains
Signaling Value as Well as Delivering
Value
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Buyers seldom pay for value that is not
perceived
Signals of value may be as important as
actual value when
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Nature of differentiation is hard to quantify
– Buyers are making first-time purchases
– Repurchase is infrequent
– Buyers are unsophisticated
12-36
The Competitive Strengths of a
Differentiation Strategy
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12-37
Buyers develop loyalty to brand they like best--can beat
RIVAL COMPETITORS in the marketplace
Mitigates bargaining power of large BUYERS since other
products are less attractive
Differentiation puts a seller in better position to withstand
efforts of SUPPLIERS to raise prices
Buyer loyalty acts as a barrier to POTENTIAL
ENTRANTS
Differentiation puts a seller in better position to fend off
threats of SUBSTITUTES not having comparable features
A Differentiation Strategy Works Best
When:
12-38
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There are many ways to differentiate a product that
have value and please customers
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Buyer needs and uses are diverse
•
Few rivals are following a similar type of
differentiation approach
•
Technological change is fast-paced
and competition is focused on evolving product
features
What Can Make a
Differentiation Strategy Fail
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12-39
Trying to differentiate on a feature buyers do not perceive as
lowering their cost or enhancing their well-being
Over-differentiating such that product
features exceed buyers’ needs
Charging a price premium that
buyers perceive is too high
Failing to signal value
Not understanding what buyers want or prefer and
differentiating on the “wrong” things
Competitive Strategy Principle
A low-cost producer strategy can defeat a
differentiation strategy when buyers are
satisfied with
a standard product and do not
see extra attributes as worth
paying for!
12-40
The Strategy Clock
Note: The strategy clock is adapted from the work of Cliff Bowman (see D. Faulkner and C. Bowman, The Essence of
Competitive Strategy, Prentice Hall, 1995.) However, Bowman uses the dimenstion ‘Perceived Use Value’.
Exhibit 5.2a
12-41
The Strategy Clock
Exhibit 5.2b
12-42
“No Frills” Strategy
Low price
Low perceived product/service benefits
Focus on price-sensitive market segment
• Commodity-like products or services
• Price-sensitive customers
• High buyer power and/ or low switching
costs
• Small number of providers with similar
market shares
12-43
Low Price Strategy
Lower price than competitors
Maintain similar product/service benefits
Public sector – year on year efficiency gains
• Pitfalls of low price strategy
– Margin reduction (competitor reaction)
– Inability to reinvest leading to loss of perceived
benefit of product
• Need a low cost base
– Low cost itself not a basis for advantage
– Low cost achieved in ways that competitors
cannot match to give sustainable advantage
12-44
Differentiation Strategies
Offering benefits different from competitors
Widely valued by buyers
Better products/services at same or higher price
Public sector - centre of excellence
• Success depends on
– Identification of strategic customers and
knowing what they value
– Knowing the competitors
• Narrow competitor base – focused differentiation
• Wide competitor base – address bases of
differentiation valued by customers
12-45
Hybrid Strategy
Simultaneously achieving differentiation and
a price lower than competitors
• Achieve greater volumes
• Clarity about activities on which
differentiation can be built (core
competences)
• Reduce costs on other activities
• Entry strategy in market with established
competitors
12-46
Focused Differentiation
High perceived product/service benefits to
selected market segment (niche)
Premium products, heavily branded
12-47
• Choice to be made between focused differentiation
and broad differentiation if growth required
• Difficult when the focus strategy is only part of an
organisation’s overall strategy
• Possible conflict with stakeholder expectations
• New ventures start off focused, but need to grow
• Market situation may change, reducing differences
between segments
Failure Strategies
Do not provide perceived value-for-money in
terms of product features, price or both
• Increase price without increasing
product/service benefit
• Reduce benefits whilst maintaining price
12-48
Earnings in cost and differentiating
strategies…..
• ROI = OPERATING INCOME /
INVESTMENT
• ROI = OI/I; ROI = OI/ SALES * SALES/I
MARGIN
12-49
TURNOVER
Price Determination Process
12-50
Competition
Low Price
Price
NonPrice
12-51
Value Pricing
Stable Price
Emphasize other parts
of marketing mix
Market-Entry Strategies
Market-Skimming
Pricing
Set a relatively high price.
See when this strategy is
Possible: page 361
Market-Penetration
Pricing
Low initial price
See when this strategy is
Possible: page 361
12-52
Discounts and Allowances
Quantity
Discounts
Reductions based on
size of purchase
Reductions based on buyer
Trade
Discounts performing marketing functions
Deductions based on
Cash
Discounts paying within a specified time
12-53
Pricing Strategies
Oneprice
High-Low
pricing
Flexibleprice
Everyday low price
See each one explained on pages 369 & 370
12-54