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Virtually no management focus on price Lack of formal education or publications Single biggest driver of pricing decisions is usually cost; however, cost should not be part of the equation Cost has nothing to do with price Myths Customers are price sensitive -- no, they are value sensitive Price is a competitive advantage -- only if you’re the low cost producer, of which there is only one and it’s driven by economies of scale Cost affects price -- cost has no impact on price, value does Summary Pricing is a very important business activity that deserves the focus of management Pricing is a human endeavor, modeling is inappropriate Companies make money on margins, not pricing Much more flexibility to pricing than anyone imagines
A 5% price cut = 50% profit reduction. Do not compensate based on revenue, you’re tacitly endorsing price cuts. Put production on the same margin as sales. This will encourage them to reduce costs. The more prices you have, the more volume and revenue you generate (price segmentation). Draw price/volume curve with only a few price levels versus a lot of price levels and watch the open spaces, missed revenue, disappear. Ways to vary price for the same product: timing - airline, hotel, utilities, Broadway, deliveries location - hotel, outlet malls, event seats bundling - integrated systems - PacFab, IT VARs volume - bogof, Sams customer ID - affinity cards, AARP product variations - color, package metering - utilities Nothing is sacred about the unit of sales. Sell what the customer wants thereby providing greater value.
Everything is relative: people situations perceptions
3. Revenue - Fixed and Variable Costs = Profits It’s a marketing expense to the seller because they are leaving money on the table. Top line is revenue; bottom line is profit
1. If a business has 40% margin and cuts price 10%, they must increase sales 33% to breakeven.-10 / 40-10 = 33% A 10% price increase could absorb a 20% reduction in sales. 3. To justify lowering prices not to lose business you must consider how much business you’d have to lose. A 5% price cut with a 40% margin would be justified only if you would lose at least 12.5% of your business. -5 / 40 = -12.5%
Customers define value Competitors help define the price band Costs are a given Constraints are perceived except for governmental Pricing is a marketing activity, not a business or cost analysis activity Pricing is a marketing activity not a business, or financial analysis, activity. Many creative solutions are available. Robinson-Patman (anti-price discrimination act) only prohibits different prices among competitors: “cost to serve” clause “competitive quote” clause Avoid collusion (e.g., ADM)
Variable costs for pricing purposes are specific to that particular customer: selling proposal development (new business investment) management time (planning & management) quality control (proofreading, mechanical art) credit special handling (packaging, presentation) There are things the customer sees value in and must be willing to pay for. Must find out what those things are and sell against them. These will vary by customer. Forward-looking = future expenses Incremental = special requests or needs Avoidable = make goods (6 Sigma, TQM help to reduce)
Price bands are wider than you think. Can always be wider. 50X is about as high as you can go (smallest observed was kraft paper @ 20%) Customers will always buy the most expensive first. Take margin where perception/value is higher and take add value. Drivers: perception, time, contract.
“Cost to serve” differences based on location, volume, etc. Pricing structure can be affected by government price controls, et. al. Customer buying process = 3-bid vs. non-shopper Uneven switching cost = supplemental product cost Uneven economic value to the customer = seasonal energy needs – gas in winter, electricity in summer
Unique value = customer benefit varies as different buyers realize different value (e.g., plastic pellets for a toy mftr. vs. stress ball mftr.) Substitute awareness = customer service vs. competition (supplemental product availability) Difficult comparison = structure prices differently, don’t quote to spec (prevent apples to apples comparison) Total expenditure = break down total cost of ownership (show l.t. benefits w/r to parts, service, maintenance) End-benefit = less price sensitive on less costly items (plastic pellets for toys vs. automobile dash boards) Shared cost = more price sensitive if you pay for the whole thing Sunk investment = make money on spares, parts, etc. (razor & blades) Price-quality = status/image of products/services (Toyota vs. Lexus) Inventory = more inventory equals more price sensitivity (pellets); shorten shelf life to shorten inventory cycle (OTC drugs); service business can sign contracts but the inventory is service
Margin bands are much bigger than pricing bands since margins increase exponentially: Invoice (tall curve) Pocket Price (medium)Margin (flatter) __________ ______________________________ External Components Internal Components More specialized = higher price due to greater customization
Strategic: 1) Price Leadership - high share, high technology, high quality 2) Price Signaling Tactical: 1) Moving your average price band up in the industry without anyone noticing 2) Reducing the dollars left on the table Industry price band is much bigger and wider. Show moving company price band within the industry price band
Skimming - targeting only most profitable or least price sensitive Sequential skimming - varying prices to above Penetration - increase price as gain share (Microsoft, Freightliner) Neutral - maintaining place within the industry price band (stay at high end) Buyer identification = Sam’s Purchase location = grocery stores – affluent, lower income, crime Time of purchase = in advance vs. at the door Purchase quantity = discounts Product design = modern vs. old (IPhone) Product bundling = integrated system, one stop shopping Tie-ins/metering = cell phones, water usage, electical usage
Pricing levers: 1) price level; 2) timing; 3) communication