1、Chapter 11 Price Strategies,11.1 Factors Affecting Pricing,11.1.1 Pricing Objectives 1. Profit-Oriented Price Objectives 2. Sales-Oriented Price Objectives 3. Status Quo Price Objectives 11.1.2 Product Costs 1. Fixed Costs Fixed costs are those that are fixed in total, no matter what quantity is pro
2、duced. Among these fixed costs are rent, depreciation, managers salaries, and property insurance.,2. Variable Costs Variable costs are those variable expenses that are closely related to output, including expenses for parts, wages, packaging materials and sales commissions. 3. Total Costs Total cost
3、s are the sum of total fixed and variable ones. Changes in the total cost depend on variations in total variable costs, since the total fixed cost remains unchanged. 4. Average Fixed Cost The average fixed cost is obtained by dividing total fixed costs by the related quantity. 5. Average Variable Co
4、st The average variable cost is obtained by dividing the total variable cost by the related quantity. 6. Average Cost The average cost is obtained by dividing the total cost by the related quantity.,11.1.3 Market Demands Between the lower and upper boundary for every product there is an optimum pric
5、e, which is a function of the demand for the product as determined by the willingness and ability of customers to buy. If market supply cannot satisfy demands, price increases. On the contrary, when supply is bigger than market demands, price drops consequently. Meanwhile, price affects market deman
6、ds and sales volumes as well. Therefore, organizations should understand the degree that market demands are affected by pricing changes. Price elasticity is the index to show how responsive demand will be to a change in price. The price elasticity of demand is given by the following formula: Price E
7、lasticity of Demand = % change in quantity demanded % change in price,11.1.4 Competition Pricing policies are depending on not only reactions of customers, but also competitors. Competition behavior changes when competitive environment and competitive advantages change in different market structures
8、. There are four basic kinds of market situations: pure competition, oligopoly, monopolistic competition and monopoly. Companies apply different pricing methods in different market structures. In pure competition situation, prices are set completely by the market. Companies accept market prices and
9、have no right of price setting. In monopolistic competition, companies produce differentiated products and set prices according to product differentiation degree and prices set by competitors. In oligopoly situation, companies are dependent on and influenced by each others, therefore, price setting
10、should consider reactions of competitors. Any price fluctuation will lead to responding reactions. In the perfect monopoly situation, there is no competition and the only seller has total control on market price.,11.1.5 Legal Aspects of Pricing Policies In order to help the economy to operate more e
11、ffectively in the interests of customers, governments use legislations and policies to manage organizations pricing decisions. Pricing legislations normally focus on price composition, changes of pricing, price level and price management. Organizations therefore need to understand and follow pricing
12、 legislations to make the right pricing decisions and protect their own interests. Furthermore, in the daily operation organizations should pay close attention to policies and legislations concerning currency, finance, commerce and distribution.,11.2 Elementary Pricing Methods,11.2.1 Cost-Oriented P
13、ricing Cost-oriented approaches which are the most commonly used pricing methods set prices according to costs. Prices must be equal to or higher than the cost of products. Normally, organizations which apply cost-oriented pricing set prices by adding a given amount of profits to the cost of a produ
14、ct. 1. Cost Plus Pricing Some organizations set prices by using a cost plus method that is, a given amount added to the cost of a product, to obtain the selling price. The cost plus is usually stated as percentage, rather than dollar amounts. The price calculation formula is as follows: Selling pric
15、e = Total cost per unit (1 + Mark-up),This approach has some advantages. Firstly, it is simple and makes good sense. Secondly, if different companies in the same industry use the cost plus to set prices, they often use similar mark-up percentages because their operating expenses are similar. Consequ
16、ently, products are sold at about the same price and the price war can be avoided. Lastly, this method is acceptable to both sellers and buyers. To the seller, it covers total expenses and provides a given amount of profits. Buyers are happy as well since prices are affordable. 2. Average-Cost Prici
17、ng Average-cost pricing involves adding a reasonable mark-up to the average cost of a product. Average cost per unit is identified from past records. Dividing the total cost for the past year by the number of units produced or sold in that period provides an estimate of the average cost per unit for
18、 the next year. The producer sets the price by applying a mark-up to the estimated average cost per unit. Average cost per unit = Total cost (past year) Number of units produced or sold (past year) Selling price = Average cost per unit (1 + Mark-up),The success of the average-cost pricing depends on
19、 some estimate of demand in the coming period to allow the calculation of a realistic average cost. In stable situations, prices set by this method may yield profits. When demand is variable, the average-cost pricing is even more risky. The major limitation to this approach is that no consideration
20、is given to cost variations at different levels of output. 3. Target Return Pricing Target return pricing adding a target return to the cost of a product has become a popular strategy. The price setter seeks to earn a percentage return on investment, or a specific total dollar return. While the expe
21、cted quantity is not sold, the return is much lower than the expectation. 4. Break-Even Analysis Pricing Break-even analysis evaluates whether the organization will be able to break even, that is, cover all of its costs with a particular price.,This method focuses on the break-even volume, that is,
22、the quantity at which the organizations total cost will just equal its total revenue. The break-even volume can be calculated using the following formula: Break-even volume = Fixed cost (Price Variable cost) Break-even price = Total fixed cost Break-even volume + Variable cost per unit Break-even an
23、alysis is a useful tool for analyzing costs and evaluating profits in different market environments. However, it does not consider the effect of price on the quantity that customers will be willing to purchase. To achieve the most profitable price, marketers should attempt to estimate demands. While
24、 break-even analysis is a simple and helpful tool for evaluating options, it is often misunderstood. Beyond the break-even volume, profits seem to be growing continually. However, this is rarely true. Most managers face downward-sloping demand curves and total revenue curves do not continue to climb
25、.,11.2.2 Demand-Oriented Pricing Demand-oriented pricing can be called as “customer-oriented pricing” or “market-oriented pricing”. It focuses on customer needs and sets prices according to market demands and customers price sensitivity. Demand-oriented pricing does not have direct relation with cos
26、ts and is flexible to change while market demands are changing. 1. Perceived-Value Pricing Organizational buyers evaluate how a purchase will affect their total costs and many marketers take this into account when estimating demand and setting prices. They utilize perceived-value pricing, which invo
27、lves setting prices that will capture some of what customers will save by substituting the companys product for the one currently being used.,The way to set price by applying perceived-value pricing is stated in the following: First step: Set original price according to product quality, functions, s
28、ervice level and other factors. Second step: Estimate sales volumes and assumed target profit. Third step: Forecast target costs. Total target cost = Sales Total target profit Total tax OR: Target cost per unit = Price per unit Target profit per unit Tax per unit Fourth step: Make decision. If real
29、costs target costs, target profit can be achieved, the original price can be set as selling price; if real costs target costs, target profit cannot be achieved, the company should decrease real costs or target profit level.,2. Reversely Pricing Reversely pricing involves setting an acceptable final
30、consumer price and working backwards to calculate what a producer can charge. It is commonly used by producers of final consumer products The producer starts with the real price for a particular item and subtracts the typical margins that channel members expect. This provides the approximate price t
31、hat the producer can charge. The average or planned marketing expenses are then subtracted from this price to determine how much can be spent on producing the item. 3. Discrimination Pricing Discrimination pricing sells a product or service at two or more prices, even though the difference in prices
32、 is not based on those in costs but according to customer demands. By applying discrimination pricing, companies can adjust their basic prices to allow for differences in customers, products and locations.,There are several forms of discrimination pricing that are listed in the following: (1) Custom
33、er-based pricing Customer-based pricing charges different customers for different prices when they buy the same product or service. (2) Location-based pricing Location-based pricing charges different prices for different locations. (3) Time-based pricing Using time-based pricing, a company varies it
34、s price by the season, the month, the day, and even the hour. (4) Product-based pricing Under product-based pricing, different versions of the product are priced differently according to different demands, even though there is no big difference in costs.,11.2.3 Competition-Oriented Pricing Price set
35、ting decisions are made by applying appropriate pricing methods according to the competitive position in the target market. It considers not only costs and market demands, but also the competition structure and level of the target market. Competition-oriented pricing focuses on competition and sets
36、prices according to prices charged by competitors. It adjusts pricing methods with the change of competition. The feature of competition-oriented pricing is that the price setting does not have direct relation with product costs and market demands. It sets prices with the consideration of the compet
37、itive power of a products price in the market. There are some disadvantages of competition-oriented pricing. First, it pays too much attention to price competition and neglects competitive advantages that could be formed by other marketing mixes. Second, excessive competition on price will lead to l
38、ittle profit because of price war. Moreover, it is difficult to evaluate exactly changes of competitors price.,1. Going-Rate Pricing Every company faces competition sooner or later in the market of monopolistic competition and pure competition. When this happens, deciding how high or low a price is
39、set may be relative not only to the market demand curve, but also to prices charged by competitors. Most companies choose to obtain average profits by keeping their prices on the average market level. Going-rate pricing avoids price war and helps the sound development for the whole industry since or
40、ganizations keep the same price to obtain the average profit when costs, product functions and deal conditions are nearly the same. It is easy to set prices by applying going-rate pricing because it does not consider costs and market demands. Meanwhile, it saves time and money of marketing research
41、and reduces risks of price fluctuation. In practice, the price is formed by two ways. In the pure competition market, no one has the right to decide the market price. Therefore, the price is formed when price agreement is reached between organizations. In the monopolistic competition market, a few l
42、arge organizations in the industry set price first, and then others follow it or use it as reference price.,Organizations may lose profit when applying going-rate pricing when costs increase higher than the average cost of the industry. Non-price competition becomes the major competition method if p
43、rices are set nearly the same. Companies should keep their competitive advantages by competing on quality, brand, service, and advertisement and distribution channel. 2. Offensive Pricing Offensive pricing sets prices lower or higher than competitors prices to build different product image. Product-
44、based pricing is one type of it. The application of offensive pricing requires that organizations are capable of gaining large market shares in an industry or in a certain area and customers have realized the relation between the organization and its products. A large amount of money spent on advert
45、isement, package and after-sale service is necessary to the companies which have established best quality and high price image. All in all, in order to win the competition, companies should keep enhancing product quality to gain customer trust in the long term.,3. Sealed-Bid Pricing Sealed-bid prici
46、ng involves offering a specific price for each possible job, rather than setting a price that applies for all customers. The customer will obtain several tenders, often accepting the lowest. The first step of sealed-bid pricing is to estimate costs and provide several tendering plans to choose. The
47、tender price must include an overhead charge and a charge for profit. The second step is to assure the likelihood of success of different tendering plans by analyzing the competitive capability and possible tender prices of competitors. The competitive capability is determined by product sales, mark
48、et share, brand image, prestige, quality, service level, etc. Furthermore, it needs to calculate expected profits of every tendering plan according to its possible profit level and likelihood of success. The formula is set as below: Expected profit of every tendering case = Possible profit level Lik
49、elihood of success Lastly, choose tendering plans according to the tender object of the company.,11.3 Basic Pricing Strategy,11.3.1 Pricing Policies over the Product Life Cycle 1. Market Introduction Stage Consider a new product in the market introduction stage of its product life cycle. Decisions a
50、bout price should focus first on the nature of market demands. There are few or no direct substitute products for a new product. Depending on the demand curve for the product, a higher price might lead to a higher profit from each sale but fewer units being sold. Conversely, a lower price might appeal to more potential customers.,
