The Pricing Strategy Pyramid

Price Level
Price setting

Pricing Policy
Negotiation Tactics & Pricing Setting Procedures

Value Communication
Communication, Value Selling Tools

Price Structure
Metrics, Fences, Controls

Value Creation
Economic Value, Offering Design, Segmentation

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Price Setting Process

Preliminary Segment Pricing Optimization Implementation

Set baseline prices based on type of value assessment and initial differential value capture rate

Refine preliminary prices with iterative process balancing tradeoffs between price, cost, and market response

Set final prices and ensure acceptance among customers and organization through effective change management approach

Key Questions: How much of the differential value should be captured for each segment? How much time and effort should I invest in assessing the value of my products? How should I adjust segment prices to account for different price sensitivities?

Key Questions: What tradeoffs should I make between long-term strategic objectives and short-term market responses to price changes? What types of analytical techniques are best suited to my product and market conditions? How can I estimate customer response to potential price changes?

Key Questions: What tradeoffs should I make between long-term strategic objectives and short-term market responses to price changes? What types of analytical techniques are best suited to my product and market conditions? How can I estimate customer response to potential price changes?

2003 Strategic Pricing Group, Inc.

Economic Value Estimation Framework

Your Unique Value Delivery

Negative Differentiation Value Positive Differentiation Value

Value Capture

Price of Next Best Competitive Alternative

Total Economic Value Competitive Reference Value

2003 Strategic Pricing Group, Inc.

Sample Differential Value Capture Rates

Market Enterprise Software Heavy Manufacturing Process Manufacturing Computers High Technology Professional Services Distribution Pharmaceuticals

Differential Value Capture Rate 20 - 50% 10 - 30% 10 - 20% 20 - 40% 5 - 50% 10 - 40% 5 - 20% 30 - 50%

2003 Strategic Pricing Group, Inc.

Preliminary Price Worksheet

Economic Value
Baseline Value Split
Starting Price

$ XXX

YY%
$ZZ

First, start with the value calculated from either the EVE or the WTP assessment. Second, determine the baseline value capture rate based on similar products in the market to set a starting point for price. Third, adjust the starting price up or down depending on the relevant price sensitivity factors. Finally, set the preliminary price by determining determine the percentage of the economic value you will attempt to capture. This preliminary price will be the starting point for considering strategic factors and conducting breakeven analysis.

Price Sensitivity Factors Product performance risk Expenditure Effect Fairness affect

+/=/-

-(- 10% )

Total adjustments

Preliminary Price

$ NNN

2003 Strategic Pricing Group, Inc.

The Goal of Strategic Pricing: Align Price with Value

high Missed Opportunities

Price Paid

medium

Unharvested Value
low low medium high

Value Received
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Pricing Strategies

SKIM SEQUENTIAL SKIM PENETRATION NEUTRAL

2003 Strategic Pricing Group, Inc.

Pricing Strategy
SKIM PENETRATION NEUTRAL

COSTS

CUSTOMERS

COMPETITION

2003 Strategic Pricing Group, Inc.

Pricing Strategy
SKIM
Low CMs Low Volumes Changes in Unit Price Drive Profit Large BE Sales Changes At or near capacity Low Price Sensitivity -Reference Price Effect -Price Quality Effect -Difficult Comparison Effect

PENETRATION
High CMs High volumes Changes in volume drive profitability Small BE Sales Changes Excess capacity High price sensitivity -Total Expend Effect -Large Part of EndBenefit Little differentiation

NEUTRAL
Costs similar to competitors Sufficient CM to finance adv, etc. Little excess capacity Incremental capacity is expensive

COSTS

CUSTOMERS

Customers are more sensitive to other elements of the marketing mix

COMPETITION

Limited threat of opportunism Limited opportunity for scale economies Sustainable differentiation Low threat brands

Sustainable cost & resource advantage Competitors not willing to retaliate Financial strength Aggressive small share brands

Avoid threat of retaliation Large share brands with a lot to lose Sustainable mktg mix advantages Oligopolies
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2003 Strategic Pricing Group, Inc.

Categorize These Pricing Strategies

How would you categorize the pricing strategies for the following products and retailers? (S=skim, N=neutral, P=penetration)
Pepperidge Farm Cookies Almost Home Cookies Suave Shampoo ARCO Gasoline Land O' Lakes Butter T.J. Maxx (Clothing) L'Oreal Hair Coloring Bloomingdales Sears _______ _______ _______ _______ _______ _______ _______ _______ _______

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Illustrating Setting Price

Ajax Manufacturing has developed a new type of seat belt that is easier to install and more comfortable to wear than the seat belts now in use. Standard seat belts sell to automobile manufacturers for $5.00 each. The labor cost to install the belts is $3.00 each. The new belts take 10% less time to install with a resulting labor cost of $2.70 per belt. Marketing research performed by Ajax has determined that car buyers would be willing to pay $50.00 more for a car equipped with the new belts. Since car manufacturers normally earn a 50% mark-up, this equals an added profit of $25.00 per car. The cost to Ajax of the new belt is $10.00 per car and the current strategy calls for a price of $15.00 each. A typical car requires five seat belts.
(a) What is the economic value of the new seat belt to automobile manufacturers? What type of pricing strategy does Ajax appear to be following? What other options are available?

(b)

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Analytical Approaches to Profitability Analysis

High Automated Price Automated Price Optimization Optimization System System Spreadsheet Spreadsheet based Break - based Break even Analysis even Analysis

Volume of Transactions

Number of Transactions

Simulation Simulation Modeling / /Risk Modeling Risk Analysis Analysis

Low Low High

Frequency of Price Changes

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Analyzing Profitability Using the Breakeven Sales Change Approach

Contribution Margin
5% 35%
-88% -83% -75% -50% 0% NA NA NA NA

10%
-78% -71% -60% -33% 0% 100% NA NA NA

20%
-64% -56% -43% -20% 0% 33% 300% NA NA

30%
-54% -45% -33% -14% 0% 20% 100% NA NA

40%
-47% -38% -27% -11% 0% 14% 60% 167% 700%

50%
-41% -33% -23% -9% 0% 11% 43% 100% 233%

60%
-37% -29% -20% -8% 0% 9% 33% 71% 140%

70%
-33% -26% -18% -7% 0% 8% 27% 56% 100%

80%
-30% -24% -16% -6% 0% 7% 23% 45% 78%

90%
-28% -22% -14% -5% 0% 6% 20% 38% 64%

% Change in Price

25% 15% 5% 0% -5% -15% -25% -35%

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Risk Analytic Approach to Profitability Analysis

Ov erlay Chart Comparativ e Risk Profiles Frequency Comparison

.036

.027

Premium Branding Premium Branding Strategy Strategy

.018

.009

Discount Pricing Discount Pricing Strategy Strategy

.000 19,000,000.00 21,500,000.00 24,000,000.00 26,500,000.00 29,000,000.00

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Determinants of Price Sensitivity

1. 2. 3. 4. 5. 6. 7. 8. 9. The Reference Price Effect The Difficult Comparison Effect The Switching Cost Effect The Price-Quality Effect The Expenditure Effect The End-Benefit Effect The Fairness Effect The Framing Effect The Shared-Cost Effect

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Price Sensitivity Illustration

You are considering purchasing a personal computer. What factors would affect your price sensitivity in making that decision? How would those same factors affect the price sensitivity of some personal computer buyers differently?

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Price Sensitivity Illustration

For each of the following purchase decisions, what factors are likely to affect the consumer's price sensitivity?
A diamond engagement ring Food for meals at home A company car Text books Souvenirs Automobile repairs Which university to attend Draperies for your new home Health insurance plan Vacation resort

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Price Sensitivity Discussion Questions

What can a company do to decrease its customer's price sensitivity? Would all of the company's customers be likely to react in the same way?

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Price Sensitivity Discussion Questions

Would a company ever want to do anything to increase its customers' price sensitivity? Why? What steps might it take?

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Price Sensitivity Discussion Questions

Which of the following statements are always true, sometimes true, never true? Why?
(a) Price elasticity is generally the same for all brands in a product category. Advertising increases price sensitivity. As a product category matures, the consumers become more price sensitive. Each consumer has different price sensitivities for different products.

(b) (c)

(d)

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Price Sensitivity Discussion Questions

The gasoline service stations in Rochester, New York convinced the City Council to ban signs displaying gasoline prices. Why would they want to do this? What effect do you think this law had on gasoline prices? Why?

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Price Sensitivity Discussion Questions

Despite the fact that rental rates for commercial space and labor costs are generally higher in big cities than in small towns, the prices of many products--such as stereo equipment and clothing--are higher in small towns than in large cities. Can you explain this?

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Price Sensitivity Discussion Questions

Many local rental car agencies rent late model cars at substantially lower prices than national companies such as Hertz and Avis. Despite their higher prices, the national companies still retain most of the market. Explain why most renters patronize the national car rental companies despite their higher prices. How have the national companies encouraged this price insensitivity?
(a) If you were a small, local company, what factors would you look for to identify the price-sensitive segment of renters likely to be attracted to your lower price? (b) If you were a small company trying to become national, how might you overcome the low price sensitivity of customers to induce them to try your cars and evaluate the quality of your service?

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The Elements of the Price Setting Process

Value Estimation
Negative Differentiation

Price Sensitivity Factors

1. The Fairness Effect 2. The Perceived Risk Effect 3. The Switching Cost Effect 4. The Difficult Comparison Effect 5. The Price-Quality Effect 6. The Expenditure Effect 7. The End-Benefit Effect 8. The Shared-Cost Effect 9. The Reference Effect 10. The Framing Effect

Positive Differentiation

Competitive Reference

Total Economic Value

Price Levels Breakeven Sales Analysis

1mm

Risk Analysis
Ov erlay Chart Comparativ e Risk Profiles Frequency Comparison
.036

Contribution Dollars ($)

.027

Premium Branding Premium Branding Strategy Strategy

.018

.009

Discount Pricing Discount Pricing Strategy Strategy

.000 19,000,000.00 21,500,000.00 24,000,000.00 26,500,000.00 29,000,000.00

Unit Sales Gain

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