1. Exploring Business Models:
Pricing and Revenue Management

2. Learning Objectives
 Determine three foundations to pricing a service
 Compare cost based to activity based pricing
 Manage customer perceptions of non-monetary costs of
obtaining service
 Examine how revenue management can improve
profitability
 Reflect on the key ethical concerns in service pricing
 Study seven key questions for price schedule design

3. Background
 Pricing of services is complicated
 Eg diff fare schedules for a full price aircraft, tuition
fees etc
 Key goal is to manage revenues in certain way that
supports firms profitability objectives
 Real challenges are to price services for which
calculating unit costs are difficult and allocating fixed
costs is complex
 Increasingly customers complain of pricing
schedules which are confusing and unfair

4. Effective Pricing Is Central to Financial Success

5. What Makes Service Pricing Strategy
Different and Difficult?
 Marketing- depends upon good business model and
brings revenue
 Harder to calculate financial costs than a manufactured
good- no ownership of services
 Difficulty in defining a ―unit of service‖
 Services hard to evaluate
 Customers may be prepared to pay more for faster
delivery
 Delivery through physical or electronic channels—may
create differences in perceived value

6. Alternative Objectives for Pricing
 Revenue and profit objectives
 Seek profit
 Make largest possible cont or profit
 Achieve specific target level but no max profit
 Cover costs
Cover fully allocated costs, incremental costs
 Patronage and user-based objectives
 Build demand-maximize demand, full capacity utilization
 Build a user base- stimulate trial and adoption of
service, build market share or large user base

7. Pricing Strategy Stands on
Three Legs

8. The Pricing Tripod
Pricing strategy
Costs
Competition
Value to customer

9. The Pricing Tripod
 Costs: A firm needs to recover usually impose a min
price for a specific service offering and the
customers perceived value of the offering sets a
maximum or ceiling
 Price: charged by competitors for similar or
substitute services typically determines where the
price should be set
 Objectives : determine where actual prices should
be set given the feasible range provided by the

10. Cost-Based Pricing:
Traditional vs. Activity-Based Costing
 Traditional costing approach
 Labour and infrastructure costs are considered fixed costs
 Service firms have higher ratio of fixed to variable costs
found in manufacturing
 Cost reduction decisions often cut these costs which leads to
reduced service levels and unhappy customers
 Activity-based costing (ABC)
 Sets of delivery activities and related costs
 Firms can pinpoint profitability of different services, channels
etc
 When looking at prices, customers care about value to
themselves, not what service production costs the firm

11. Competition-Based Pricing
 When customers don’t see a difference between
competitive offerings, they choose the cheapest
 Price competition is reduced when
 Non- price related costs of using competing alternatives are
high
 Personal relationships matter Eg hairdresser, family medical
care
 Switching costs are high
 Time and location specificity reduce choice
 When competing on price take into account the entire
cost to customers including:
 All related financial and non-monetary costs PLUS switching
costs
 Compare this cost to the competition

12. Value-Based Pricing
Understanding Net Value
 Customers evaluate
competition by comparing their
perceived benefits to their
perceived outlays
 Net value= Perceived benefits-
Perceived costs,+ve diff=
greater value
 Service pricing strategies
should enhance perceived
value by:
 Reducing uncertainty
 Relationship enhancement
 Low cost leadership
 Manage value perception
Perceived
benefits
Time
e
Effort
Perceived
outlays

13. Service pricing strategy- enhance value by
• If customers unsure of value- they will
remain with the same supplier or not change
at all
• Benefit driven pricing and flat rate pricing
Reducing
uncertainty
• Discounts: for new customers ,not very attractive
• Creative schemes: price and non price reqd, give
vol discounts, pricing when two or more is bought
together
Relationship
enhancement
• Low priced services- appeal to customers with
budget issues
• Should convince customers that low price not
means poor quality but good value. Eg
SpiceJet,Jetlite
Cost leadership
• Value is subjective, customers lack expertise to assess the quality
and value they receive
• Credence services for which – diff to assess quality of service
,consultants must communicate time, research, professional
expertise and attention
Managing value
perception

14. Reduce Related Monetary and Non-
Monetary Costs
 Incremental financial outlays
 Includes the price of purchasing service and other expenses
 Expenses associated with search, purchase activity, usage
 E.g. Two theatre tickets also requires the cost of
parking, babysitters etc.
 Non-monetary costs
 Time costs: time usage
 Physical costs: fatigue and discomfort
 Psychological (mental) costs: mental effort, perceived
risk, cognitive dissonance, fear etc
 Sensory costs (unpleasant sights, sounds,
feel, tastes, smells)

15. Defining Total User Costs
Physical effort
Psychological
burdens
Sensory
burdens
Necessary
follow-up
Problem
solving
Incidental
expenses
Operating costs
Purchase
Time
Money
* Includes all five
cost categories
Search costs*
Purchase and
service encounter
costs
After costs*

16. Trading Off Monetary and Non-monetary
Costs

17. Revenue Management:
What It Is and How It Works

18. Revenue Management (RM)
 Sophisticated approach to manage supply and demand under varying degrees
of constraint- sets prices according to predicted demand levels among different
market segments
 RM charges more for customers booking service closer to time of consumption
instead of on a first come first served basis
 Charge different value segments different prices for same product
 Predicts how many customers will use a given service at a specific time at
each of several different price levels and then allocates capacity at each level
or price bucket
 If booking pace for a higher-paying segment is stronger than
expected, additional capacity is allocated to this segment and taken away from
the lowest- paying segment
 Rate fences allow customers to self segment on the basis of service
characteristics and willingness to pay.
 This helps companies restrict lower prices to customers willing to accept
certain restrictions

19. Key Categories of Rate Fences
Rate Fences Examples
Physical (product-related) Fences
Basic product  Class of travel (business/economy class)
 Size and furnishing of a hotel room
 Seat location in a theatre
Amenities  Free breakfast at a hotel, airport pickup, etc.
 Free golf cart at a golf course
Service level  Priority wait-listing
 Increase in baggage allowances
 Dedicated service hotlines
 Dedicated account management team

20. Key Categories of Rate Fences (2)
Table 5.2
Nonphysical Fences
Transaction Characteristics
Time of booking or
reservation
 Requirements for advance purchase
 Must pay full fare two weeks before departure
Location of booking or
reservation
 Passengers booking air tickets for an identical
route in different countries are charged
different prices
Flexibility of ticket
usage
 Fees/penalties for canceling or changing a
reservation (up to loss of entire ticket price)
 Nonrefundable reservation fees

21. Key Categories of Rate Fences
Nonphysical Fences (cont’d)
Consumption Characteristics
Time or duration of
use
 Early-bird special in restaurant before 6PM
 Must stay over on Saturday for airline, hotel
 Must stay at least 5 days
Location of
consumption
 Price depends on departure location, especially
in international travel
 Prices vary by location (between cities, city
centre versus edges of city)

22. Key Categories of Rate Fences Table 5.2
Nonphysical Fences (cont’d)
Buyer Characteristics
Frequency or volume of
consumption
 Member of certain loyalty tier with the firm
get priority pricing, discounts, or loyalty
benefits
Group membership  Child, student, senior citizen discounts
 Affiliation with certain groups (e.g., alumni)
Size of customer group  Group discounts based on size of group

23. Relating Price Buckets and Fences to
Demand Curve
Price
per
seat
Capacity of 1st
class cabin
Capacity of aircraftNo. of seats demanded
1st class
Full fare economy (no restrictions)
1 - week advance purchase
1 - week advance purchase, Saturday night stay
3 - week advance purchase, Saturday night stay
Specified flights, book on Internet, no
changes/refunds
Late sales through
consolidators/Internet, no
refunds
3-week advance purchase, Saturday night stay, $100
for changes
* Dark areas denote amount of consumer surplus (goal of segmented pricing is to reduce this)

24. Ethical Concerns in Service Pricing

25. Designing Fairness into Revenue
Management
 Design clear, logical, and fair price schedules and
fences
 Use high published prices and present fences as
opportunities for discounts rather than quoting lower
prices and using fence as basis to impose
surcharges
 Communicate consumer benefits of revenue
management
 Use bundling to ―hide‖ discounts
 Take care of loyal customers
 Use service recovery to compensate for overbooking

26. Putting Service Pricing into Practice

27. Pricing Issues:
Putting Strategy into Practice
 How much to charge?
 What basis for pricing?
 Who should collect payment?
 Where should payment be made?
 When should payment be made?
 How should payment be made?
 How to communicate prices?

28. Summary
 The three foundations to pricing a service are costs, competition and
value to customer
 Activity based pricing is better than traditional pricing approaches
 Incremental financial outlays and non-monetary such as physical effort
play a role in customers price perception
 Revenue management can improve profitability by allocating service
capacity to high paying customers and creating restrictions for low paying
customers
 Key ethical concerns in service pricing rest on clear, logical and fair
pricing
 There are seven key questions for price schedule design