Module

In
Product and Pricing
Strategies

Michell joy d. senora

Bbte 3-2

Entrepreneurship

Product and Pricing

Strategies

What this module is about

Hello! We see each other again, dear student! I hope you will find this module interesting. This
module will be a new experience for you. Find a place where you can study the product and
Pricing strategies like in your school library to know all about this topic.

What you are expected to learn

In this module you are expected to

1. Discuss the product and pricing strategies.

2. Explain the different strategies of pricing.
3. Discuss the strategies and their functions.

How to learn from this module

I’d like you to view on your mind the pricing of goods. Do you have the desire to do in
pricing the products?
Don’t hesitate to try in pricing a product! This is very helpful to you if ever you will
conduct a business. You will gain knowledge in making a price for your own goods in the future!

Answer the activity and self check exercise honestly. Do not look at the key to correction.
Always remember that “Honestly is the best policy”. Let us work and help each other.
Pretest

Direction: Choose the letter with the correct answer.

1. It is the value of money that has been used up to produce something, and hence is not
available for use anymore.
a. cost b. price sensitivity c. competition. d. product lifecycle

2. It is a term that encompasses the notion of individuals and firms striving for a greater share of
a market to sell or buy goods and services.

a. cost b. price sensitivity c. competition d. product lifecycle

3. It is the of buyers shift based on a number of factors and your pricing strategy must shift with
them.

a. cost b price sensitivity c. competition d. product lifecycle

4. It is how you price, and what value you provide for that price.

a. cost b. price sensitivity c. competition d. product lifecycle

5. It is the manual or automatic process of applying prices to purchase and sales orders.

a. product b. cost c. pricing d. promotion

6. It is called the price of the company receives after accounting for discounts, promotions, and
other incentives.

a. effective price b. line pricing c. loss leader d. promotional pricing

7. It is called for a product that has a price set below the operating margin.

a. line pricing b. effective price c. product d. loss leader

8. It is the use of a limited number of prices for all product offerings of a vendor.

a. line pricing b. loss leader c. promotional pricingd. cost

9. It is one of the strategies of pricing that perform marketing analysis, segmentation, targeting,
and positioning.

a. calculate cost b. develop marketing strategy c. set pricing objective d. loss leader

10. It is one of the pricing strategies that include fixed and variable costs associated with the
product.

a. develop marketing strategy b. set pricing objective c. calculate cost c. line pricing

Lesson 1

Product and Pricing Strategy

PRODUCT PRICING STRATEGIES

Developing a pricing strategy perplexes many CEOs, marketing and sales executives, and brand
managers. It's not surprising really: real businesses don't always follow the pricing strategy
models that business schools and books on pricing strategy present. But there are a few basic
guidelines that can help take some of the mystery out of the process of establishing a successful
pricing strategy.

Pricing Pricing factors

The process of determining 1. Manufacturing cost 4. Market place

what a company will receive in 2. Competition 5. Market condition,
exchange for its products. 3. Quality of product.

Pricing is also a key variable in microeconomic price allocation theory.

Pricing is a fundamental aspect of financial modeling and is one of the four Ps of the mix. The
other three aspects are product, promotion, and place. Price is the only revenue generating
element amongst the four Ps, the rest being cost centers.
Pricing is the manual or automatic process of applying prices to purchase and sales orders, based
on factors such as: a fixed amount, quantity break, promotion or sales campaign, specific vendor
quote, price prevailing on entry, shipment or invoice date, combination of multiple orders or
lines, and many others. Automated systems require more setup and maintenance but may prevent
pricing errors. The needs of the consumer can be converted into demand only if the consumer
has the willingness and capacity to buy the product. Thus pricing is very important in marketing.

We consider that there are four basic components to a successful pricing

strategy:

1. Costs -focus on your current and future, not historical, costs to determine the cost basis for
your pricing strategy.

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.
2. Price Sensitivity-the price sensitivities of buyers shift based on a number of factors and your
pricing strategy must shift with them.

Pricing Objectives
Costs -focus on your current and future, not historical, costs to determine the cost basis for your
pricing strategy.
Common objectives include the following:

A. Current profit maximization - seeks to maximize current profit, taking into account revenue
and costs. Current profit maximization may not be the best objective if it results in lower long-
term profits.

B. Current revenue maximization - seeks to maximize current revenue with no regard to profit
margins. The underlying objective often is to maximize long-term profits by increasing market
share and lowering costs.

C. Maximize quantity - seeks to maximize the number of units sold or the number of customers
served in order to decrease long-term costs as predicted by the experience curve.

D. Maximize profit margin - attempts to maximize the unit profit margin, recognizing that
quantities will be low.

E. Quality leadership - use price to signal high quality in an attempt to position the product as
the quality leader.

F. Partial cost recovery - an organization that has other revenue sources may seek only partial
cost recovery.

G. Survival - in situations such as market decline and overcapacity, the goal may be to select a
price that will cover costs and permit the firm to remain in the market. In this case, survival may
take a priority over profits, so this objective is considered temporary.
H. Status quo - the firm may seek price stabilization in order to avoid price wars and maintain a
moderate but stable level of profit.

For new products, the pricing objective often is either to maximize profit margin or to maximize
quantity (market share). To meet these objectives, skim pricing and penetration pricing strategies
often are employed.

Skim pricing - attempts to "skim the cream" off the top of the market by setting a high price and
selling to those customers who are less price sensitive. Skimming is a strategy used to pursue the
objective of profit margin maximization.

Skimming is most appropriate when:

• Demand is expected to be relatively inelastic; that is, the customers are not highly price
sensitive.
• Large cost savings are not expected at high volumes, or it is difficult to predict the cost
savings that would be achieved at high volume.
• The company does not have the resources to finance the large capital expenditures
necessary for high volume production with initially low profit margins.

Penetration pricing pursues the objective of quantity maximization by means of a low price. It
is most appropriate when:

• Demand is expected to be highly elastic; that is, customers are price sensitive and the
quantity demanded will increase significantly as price declines.
 • Large decreases in cost are expected as cumulative volume increases.
• The product is of the nature of something that can gain mass appeal fairly quickly.
• There is a threat of impending competition.

Here are numerous terms and strategies specific to pricing:

Effective price

The effective price is the price the company receives after accounting for discounts, promotions,
and other incentives.

Line Pricing

Line Pricing is the use of a limited number of prices for all product offerings of a vendor. This is
a tradition started in the old five and dime stores in which everything cost either 5 or 10 cents. Its
underlying rationale is that these amounts are seen as suitable price points for a whole range of
products by prospective customers. It has the advantage of ease of administering, but the
disadvantage of inflexibility, particularly in times of inflation or unstable prices.

Loss leader

A loss leader is a product that has a price set below the operating margin. These results in a loss
to the enterprise on that particular item in the hope that it will draw customers into the store and
that some of those customers will buy other, higher margin items.

Promotional pricing

Promotional pricing refers to an instance where pricing is the key element of the marketing mix.

Price/quality relationship

The price/quality relationship refers to the perception by most consumers that a relatively high
price is a sign of good quality. The belief in this relationship is most important with complex
products that are hard to test, and experiential products that cannot be tested until used (such as
most services). The greater the uncertainty surrounding a product, the more consumers depend
on the price/quality hypothesis and the greater premium they are prepared to pay. The classic
example is the pricing of Twinkies, a snack cake which was viewed as low quality after the price
was lowered. Excessive reliance on the price/quantity relationship by consumers may lead to an
increase in prices on all products and services, even those of low quality, which causes the
price/quality relationship to no longer apply.

Premium pricing

Premium pricing (also called prestige pricing) is the strategy of consistently pricing at, or near,
the high end of the possible price range to help attract status-conscious consumers. Examples of
companies which partake in premium pricing in the marketplace include Rolex and Bentley.

People will buy a premium priced product because:

• They believe the high price is an indication of good quality;

• They believe it to be a sign of self worth - "They are worth it;" it authenticates the buyer's
success and status; it is a signal to others that the owner is a member of an exclusive
group;
• They require flawless performance in this application - The cost of product malfunction
is too high to buy anything but the best - example: heart pacemaker.

Nine Laws of Price Sensitivity

A. 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.

B. Difficult Comparison Effect Buyers are less sensitive to the price of a known / more
reputable product when they have difficulty comparing it to potential alternatives.

C. 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.

D. 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.

E. Expenditure Effect Buyers are more price sensitive when the expense accounts for a large
percentage of buyers’ available income or budget.
F. 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.
G. Shared-cost Effect The smaller the portion of the purchase price buyers must pay for
themselves, the less price sensitive they will be.

H. 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.
I. 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.

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.

3. Competition. Pay attention to them, but don't copy them . . . when it comes to pricing strategy
they may have no idea what they're doing.

Competition, according to the theory, causes commercial firms to develop new products, services
and technologies, which would give consumers greater selection and better products. The greater
selection typically causes lower prices for the products, compared to what the price would be if
there was no competition (monopoly) or little competition (oligopoly).

Three levels of economic competition have been classified:

a. The most narrow form is direct competition (also called category competition or brand
competition), where products which perform the same function compete against each other. For
example, one brand of pick-up trucks competes with several other brands of pick-up trucks.
Sometimes, two companies are rivals and one adds new products to their line, which leads to the
other company distributing the same new things, and in this manner they compete.
b. The next form is substitute or indirect competition, where products which are close
substitutes for one another compete. For example, butter competes with margarine, mayonnaise
and other various sauces and spreads.

c. The broadest form of competition is typically called budget competition. Included in this
category is anything on which the consumer might want to spend their available money. For
example, a family which has $20,000 available may choose to spend it on many different items,
which can all be seen as competing with each other for the family's expenditure.

In addition, companies also compete for financing on the capital markets (equity or debt) in order
to generate the necessary cash for their operations. An investor typically will consider alternative
investment opportunities given his risk profile and not only look at companies just competing on
product (direct competitors). Enlarging the investment universe to include indirect
competitors leads to a broader peer universe of comparable, indirectly competing companies.

4. Product Lifecycle. How you price, and what value you provide for that price, will change as
you move through the product lifecycle.

Product life cycle (PLC)

Like human beings, products also have their own life-cycle. From birth to death human beings
pass through various stages e.g. birth, growth, maturity, decline and death. A similar life-cycle is
seen in the case of products. The product life cycle goes through multiple phases, involves many
professional disciplines, and requires many skills, tools and processes. Product life cycle (PLC)
has to do with the life of a product in the market with respect to business/commercial costs and
sales measures.

The life of a product is the shortest of three different aspects of system life:
a. Useful Life (utility). This is the obvious notion of equipment lifetime, in which eventually
equipment wears out to the point it is beyond reasonable repair.

b. Technological Life (obsolescence). A system may become expensive or impractical to

maintain even though it still is theoretically repairable or operable in general. For example, it
may be impossible to find technicians trained in repairing vacuum-tube operated computers, or it
may be impossible to find replacement parts for 16 Kb DRAM chips. Or the system may simply
not incorporate the latest technology that in and of itself is seen desirable by users (for example,
a rotary dial telephone system).

c. Economic Life (cost of operation). A system may still be functional, but become too
expensive to be worth continuing to use. One example is because of a high cost of repair using
obsolete components (this is a typical problem in long-lived embedded systems). Another reason
may be that newer versions can be purchased and have lower operating costs so that the
"payback" period of making that purchase is brief. This has, for example, happened recently with
fuel-efficient furnaces and air conditioners.

Lessons of the product life cycle (PLC)

 It is claimed that every product has a life period, it is launched, it grows, and at
some point, may die. A fair comment is that - at least in the short term - not all products or
services die. Jeans may die, but clothes probably will not. Legal services or medical services may
die, but depending on the social and political climate, probably will not.

Even though its validity is questionable, it can offer a useful 'model' for managers to keep
at the back of their mind. Indeed, if their products are in the introductory or growth phases, or in
that of decline, it perhaps should be at the front of their mind; for the predominant features of
these phases may be those revolving around such life and death. Between these two extremes, it
is salutary for them to have that vision of mortality in front of them.

However, the most important aspect of product life-cycles is that, even under normal
conditions, to all practical intents and purposes they often do not exist (hence, there needs to be
more emphasis on model/reality mappings). In most markets the majority of the major brands
have held their position for at least two decades. The dominant product life-cycle, that of the
brand leaders which almost monopolize many markets, is therefore one of continuity.

Thus, the life cycle may be useful as a description, but not as a predictor; and usually
should be firmly under the control of the marketer. The important point is that in many markets
the product or brand life cycle is significantly longer than the planning cycle of the organizations
involved. Thus, it offers little practical value for most marketers. Even if the PLC (and the
related PLM support) exists for them, their plans will be based just upon that piece of the curve
where they currently reside (most probably in the 'mature' stage); and their view of that part of it
will almost certainly be 'linear' (and limited), and will not encompass the whole range from
growth to decline. Product life cycle means how a product runs throughout all of his life.

To say that a product has a life cycle is to assert four things:

 • that products have a limited life,
• product sales pass through distinct stages, each posing different challenges, opportunities,
and problems to the seller,
• profits rise and fall at different stages of product life cycle, and
• Products require different marketing, financial, manufacturing, purchasing, and human
resource strategies in each life cycle stage.

Limitations

The PLC model is of some degree of usefulness to marketing managers, in that it is based on
factual assumptions. Nevertheless, it is difficult for marketing management to gauge accurately
where a product is on its PLC graph. A rise in sales per se is not necessarily evidence of growth.
A fall in sales per se does not typify decline. Furthermore, some products do not (or to date, at
the least, have not) experienced a decline. Coca Cola and Pepsi are examples of two products
that have existed for many decades, but are still popular products all over the world. Both modes
of cola have been in maturity for some years.

Another factor is that differing products would possess different PLC "shapes". A fad product
would hold a steep sloped growth stage, a short maturity stage, and a steep sloped decline stage.
A product such as Coca Cola and Pepsi would experience growth, but also a constant level of
sales over a number of decades. It can probably be said that a given product (or products
collectively within an industry) may hold a unique PLC shape, and the typical PLC model can
only be used as a rough guide for marketing management. This is why its called the product life
cycle. The duration of PLC stages is unpredictable. It is not possible to predict when maturity or
decline will begin. Strict adherence to PLC can lead a company to misleading objectives and
strategy prescriptions.

Pricing Before You Build

Establishing a pricing strategy is an activity that should be completed before you start product
development. The only way to accurately determine how much money you can afford to spend
on development, support, promotion and the other costs associated with a product is to analyze
how much of that product you will sell, and at what price. That's the heart of a successful pricing
strategy.

Use the Right Costs

A successful pricing strategy is your means of making a profit today, not of recovering costs
spent a year ago. Don't use the cost of developing your current product as the basis for its price.
Instead, use the current costs of developing your new products as the basis of the price of your
current product.

Raise Price to Exploit a Reticence to Switch

Once the customer is yours, the situation switches in your favor. One of the resistance factors
your sales force encounters on a new sale is reticence to switch. An existing customer is still
unwilling to learn something new, only now they're afraid to switch FROM you, not TO you.
They would much prefer to add the functionality of your product enhancements instead of
learning how to use something new. For you, price sensitivity is much lower as comfort and ease
factors increase. So you might raise your update pricing accordingly.

Study the Competition

Study the competition, but don't react and don't copy them, since they're likely making mistakes
anyway. Let them guide you in terms of where you set your boundaries, and in terms of counter
offensives you can launch to deal with obvious bonehead pricing on their part. And remember
this as well: any move you make can be countered by them just as easily. Don't get caught in a
no-win price war--which may hurt your product, their product and devalue your marketplace.
Align with the Product Life Cycle

How high or low you set your price is also going to be driven by where your product is in its life
cycle. In general, the farther along you go toward the Decline phase the lower your price should
be, since your market will be (a) saturated with product and (b) have increased price sensitivity
as their knowledge of the products increases. One technique to consider is unbundling support,
training and services from the product itself, which will allow you to lower price without
discounting.

Now that you know all about the Product and Pricing Strategy, Let’s make an activity to refresh
your mind about the topic.

Activity 1 Role Playing

Mechanics
The class will divide into 3 groups. They will pick a card to know what they are going to do.
Group 1 will present a direct competition in a dramatic way. Group 2 will present an indirect
competition in a comedic way. And the last group, group 3 will present a budget competition in a
musical way. The best presentation will be the winner.

How did you find the activity? Is it interesting? I know it’s hard to act and present it in the class
but I think you’ve enjoyed a lot. Try to master the different strategies in product and pricing
because it may help you if ever you will conduct a small business in the future, it is easier for
you to start and manage it well.

Let’s see whether you have learned something from the discussion. Answer the self check
exercise as follows.
Self check
Direction: Write True if the statement is true else False.

______1. Pricing is also a key variable in microeconomic price allocation theory.

______2. Costs -focus on your current and future, not historical, costs to determine the cost basis
for your pricing strategy.
______3. Indirect competition is the broadest form of competition is typically
______4. Skim pricing attempts to skim the cream off the top of the market by setting a high
price and selling to those customers who are fewer prices sensitive
______5. Cost plus pricing set the price at the production cost plus a certain profit margin.

Post Test
Direction: Choose the letter with the correct answer.

1. It is the value of money that has been used up to produce something, and hence is not
available for use anymore.

a. cost b. price sensitivity c. competition. d. product lifecycle

2. It is a term that encompasses the notion of individuals and firms striving for a greater share of
a market to sell or buy goods and services.

a. cost b. price sensitivity c. competition d. product lifecycle

3. It is the of buyers shift based on a number of factors and your pricing strategy must shift with
them.

a. cost b price sensitivity c. competition d. product lifecycle

4. It is how you price, and what value you provide for that price.

a. cost b. price sensitivity c. competition d. product lifecycle

5. It is the manual or automatic process of applying prices to purchase and sales orders.

a. product b. cost c. pricing d. promotion

6. It is called the price of the company receives after accounting for discounts, promotions, and
other incentives.

a. effective price b. line pricing c. loss leader d. promotional pricing

7. It is called for a product that has a price set below the operating margin.

a. line pricing b. effective price c. product d. loss leader

8. It is the use of a limited number of prices for all product offerings of a vendor.

a. line pricing b. loss leader c. promotional pricingd. cost

9. It is one of the strategies of pricing that perform marketing analysis, segmentation, targeting,
and positioning.

a. calculate cost b. develop marketing strategy c. set pricing objective d. loss leader

10. It is one of the pricing strategies that include fixed and variable costs associated with the
product.

a. develop marketing strategy b. set pricing objective c. calculate cost c. line pricing

Key to Correction 1. a
2. b
Pretest 3. b
4. d
5.c 6.a
6.a 7. d
7. d 8.a
8.a 9.b
9.b 10.c
10.c

Self Check
1. True
2. True
3. False
4. True
5. True

References

Estelami, H: "Consumer
Perceptions of Multi-Dimensional
Post test Prices", Advances in Consumer
1. a Research, 1997.

2. b Nagle, Thomas and Holden, Reed.

The Strategy and Tactics of Pricing.
3. b
Prentice Hall, 2002. Pages 84-104.
4. d
Mind of Marketing, "How your
5.c pricing and marketing strategy
should be influenced by your
customer's reference point"

Dolan, Robert J. and Simon,

Hermann (1996). Power Pricing.
The Free Press. ISBN 0-684-83443-
X.

^Bernstein, Jerold: "Use Suppliers

Pricing Mistakes", Control, 2009.