Transcript B2B Chapter 12

Chapter 12:
Pricing Strategy for
Business Markets
PowerPoint by:
Ray A. DeCormier, Ph.D.
Central Ct. State U.
Chapter Topics
Understanding how customers value pricing is the essence of the
pricing process. Chapter topics include:
1.
The central elements of the pricing process a value-based
strategy
2. How effective new product prices are established and the
need to periodically adjust the prices of existing products
3. How to respond to a price attack by an aggressive competitor
4. Strategic approaches to competitive bidding
CUSTOMER VALUE

In B2B marketing, customer value is a cornerstone

The unifying goal of marketers is to be “better than
your very best competitor” in providing value

“You get what you pay for” is what many provide

A better approach: “You get more than what you
pay for” by offering lower cost and higher quality

How do customer’s view value?

Everything costs something (sacrifice)

Everything of value adds something (benefits)

What’s the difference?
 Benefits
– Sacrifice = Value
DIFFERENTIATING THROUGH

VALUE-CREATION
If relationships are more valuable to customers
than price and costs, then marketers need to
emphasize unique add-on benefits around:
1.
2.
3.
4.
5.
Building trust
Demonstrating commitment
Being flexible
Initiating joint ventures
Working on developing deeper relationships
These efforts enhance customer value & loyalty.

Research suggests that most companies offer
similar services, however, the following seem to be
more prominent.
1. Service support
 2. Personal interactions
 3. Supplier know-how
 4. Ability to improve customer’s time to market


Moderate differentiating factors include:
 1. Product quality
 2. Delivery
 3. Acquisition and operation costs
Setting the Price

This is one of the most difficult issues that face companies:
What is the right price to charge?

There is no easy solution or formula for proper pricing.

Pertinent considerations include:
1.
2.
3.
4.
Pricing & profit objectives
Demand determinants
Cost determinants
Competition
Key Components of the
Price-Setting Decision Process



No easy formula for
pricing industrial product
or service
Fig. 12.1
Set Strategic Pricing Objectives
Estimate Demand and the
Price Elasticity of Demand
Decision is
multidimensional
Each interactive variable
assumes significance
Determine Costs and
their Relationship to Volume
Examine Competitors’ Prices and Strategies
Set the Price Level
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Price Objectives

Pricing decision must be based on marketing
and overall corporate objectives.

Marketer starts with principal objectives and
adds collateral pricing goals:




Achieving target return on investment.
Achieving market-share goal.
Meeting competition.
Other objectives include competition, channel
relationships and product-line considerations.

There are a number of issues when considering demand:
Usage and importance of the product/service by various
segments
Price Sensitivity (elasticity of demand)
1.
2.
3.


Assessing Value: Competitive Value comparisons
Assume same product by 2 different competitors
Assume: (“A” charges $24 ; “B” charges $20);
Why might a buyer prefer “A” over “B”?
Could it be that buyer prefers “A” more than “B” because
“A’s” total offering provides more value than “B”?
ASSESSING VALUE



Economic Value: Represents cost saving
and/or revenue gains when purchasing a
product (instead of next best alternative)
Commodity Value: Value customers assign
to features that resembles competitive
offerings
Differentiation Value: Represents the value
of features that are unique and different
from competitors
Fig 12.3
A Value-Based Approach for Pricing
Define the key market segments
Isolate the most significant drivers of value
in customers’ business
Quantify the impact of your product or service
on each value driver in customers’ business
Estimate the incremental value created by your product
or service, particularly for those features that are
unique and different from competitors’ offerings
Develop pricing strategy and marketing plan
SOURCE: Adapted from Gerald E. Smith and Thomas T. Nagle, “How Much Are Customers Willing to Pay,”
Marketing Research 14 (winter 2002): pp. 20-25.
I.
Goal is to identify significant drivers of
value
a.
Cost Drivers: Create value by economic savings
1.
Example: Machine can process more widgets/hr. with
less electricity and labor costs
Revenue Drivers: Add incremental value by
facilitating revenue or margin requirements
b.
1.
Example: Packaging is more attractive thus
increasing sales
Quantify impact of firms product/service on
customer’s business model
II.
a.
III.
a.
b.
c.
Does it make or save money? How much?
Compare firm’s product/service to next best
alternative (competitor’s product/service)
Isolate unique features that differ from competitor
Do those features provide value that customer
cannot get elsewhere?
How much value does it create?
IV.
Understand how customer uses the product
and how much value will s/he realize
V.
Set the price & develop a responsive
marketing strategy
BENEFIT: Business marketer can gain a
competitive advantage by employing a
value based approach and by developing
tools to document and communicate their
unique value to customers.


Price elasticity measures how sensitive
customers are to price changes.
Price elasticity of demand refers to rate of
percentage change in quantity demanded to
percentage change in price.
Elasticity of Demand
Elastic
Demand
Inelastic
Demand
Unitary
Elasticity

Consumers buy more or less
of a product when the
price changes

An increase or decrease in
price will not significantly
affect demand

An increase in sales exactly
offsets a decrease in prices,
and revenue is unchanged
Elasticity of Demand
Elastic Demand Curve
D
Inelastic Demand Curve
Price
Price
D
D
D
Quantity
Quantity
Elasticity of Demand
Price Goes...
Revenue Goes...
Demand is...
Down
Up
Elastic
Down
Down
Inelastic
Up
Up
Inelastic
Up
Down
Elastic
Up or Down
Stays the Same
Unitary Elasticity
 Satisfied
customers are less price sensitive
therefore one strategy is to make our
customers very satisfied so price isn’t as
much of a determinant.
 Switching
costs is a consideration depending
upon products. The more sophisticated and
unique the product is, and the more vested
interest (costs) in it is, the more apt for the
customer to not switch.
 End
Use: How important is the product as in
input into the total cost of the end product?

If cost is insignificant, then demand is inelastic.
 End-Market
Focus: Since demand for many
industrial products is derived from the
demand for the product of which they are a
part, STRONG end user focus is needed.
Derived Demand
 By understanding trends such as up or down
markets, up or down sectors, and knowing that
not all segments go up or down at one time, if one
is able to plan for a two-tiered market focus,
which takes advantage of the market variability…
 This strategy increases the chances for success.
Value-Based Segmentation

Some industrial product may serve different
purposes for different markets.

Each segment may value the product
differently.

By identifying applications where the firm
has a clear advantage, and by understanding
the value of it to each segment, marketer
may be able to administer price
differentiation in each segment.
TARGET PRICING & COSTING


Many companies base price off of costs
Problem: Method is internally driven, not market
driven
A
better approach is to use Target Pricing
It starts by examining and segmenting the market
2. Determine what type, quality and attributes each
segment wants at a pre-determined target price
3. Understand the perception of value to the target
selling price
4. Then calculate costs considering margins
1.
Cost Concept Analysis

Direct Traceable or Attributable Costs: All costs, fixed
or variable, that are solely incurred for a particular
product, territory, or customer (e.g., raw materials)

Indirect Traceable Costs: All costs, fixed or variable,
that can be traced to a particular product, customer or
territory (e.g., general plant overhead)

General Costs: Costs that support a number of
activities not directly related to a particular product
(e.g., administrative overhead, R&D)

Target pricing forces marketers to understand
what buyers want and are willing to pay.

Target costing forces companies to
understand their cost structure by
direct/indirect costs, fixed/variable costs, and
their contribution margins.

Combining target pricing and target costing
says that instead of using cost-control
techniques, a better approach is to compute
the total costs that must not be exceeded,
allowing for acceptable margins.
Understanding Costs Helps
to Understand Pricing






When adding or deleting a line, successful marketers know
exactly what price points can weaken or break the competition.
What proportion of cost is raw material or component parts?
At different levels of product, how does cost vary?
At what production levels can economies of scale be expected?
Does our firm enjoy cost advantages over competition?
How does the “experience effect” impact our cost projections?
COMPETITION

Competition establishes an upper limit on price.

Price is only a component of the cost/benefit equation.

There are many ways to have a differential advantage
other than price: advanced features, technical expertise,
timely delivery and product reliability (zero defects) to
name a few.

Service and support also have a differentiating affect.
HYPER-COMPETITIVE SITUATIONS



In some industries rivals are fairly stable and the
competitive strategy is “don’t rock the boat.”
Other industries, especially high-tech or high profit
industries, the competitive environment is wrought
with short-term and temporary advantages. These
are hypercompetitive environments with strong
rivalries.
The strategy to succeed is to create a temporary
advantage and destroy rival advantages by
constantly disrupting market equilibrium with new
products, lower prices, and strategic relationships.


In analyzing competitors’ responses to any
strategic move, a good idea is to consider
direct competitors and substitute their actions
from a cost perspective.
For example, one idea is to view competition
as Followers vs. Pioneers. More often, pioneers
face higher entry costs than followers for
various reasons.
By failing to recognize potential cost
advantages of late entrants, the business
marketer can dramatically overstate costs
differences between earlier and later
entrants.
What might be the result of this mistake?
Followers vs. Pioneers
Pricing Strategies
3
Major Pricing Strategies
1. Follow
2. Price
the Crowd
Skimming
3. Penetration
Pricing
Price Skimming
Price Skimming is charging a high initial price
Price Skimming:
 Appropriate for distinctly new products
 Provides the firm with opportunity to profitably reach
market segments not sensitive to high initial price
 Enables marketer to capture early profits
 Enables innovator to recover high R&D costs more quickly
Strategy: As the product goes through its product life cycle,
the strategy is to lower the price in line with production
and demand capacity.
Penetration Pricing is charging a very low initial
price.
Penetration Pricing is appropriate when there is:
› High price elasticity of demand
› Strong threat of imminent competition
› Opportunity for substantial production cost
reduction as volume expands
Price Discrimination
The Robinson-Patman Act of 1936:
“…holds that it is unlawful to ‘discriminate’ in price
between different purchasers of commodities of like
grade and quality…where the effect of such
discrimination may be substantially to lessen
competition or tend to create a monopoly, or to injure,
destroy or prevent competition..”
EVALUATING
A
COMPETITIVE THREAT

When a PRICE WAR occurs, what should you do?

Should you:
Lower your price?
 Ignore it?
 Raise it?


That is what a competitive threat is all about.
Evaluating A Competitive Threat
Competitive price
or “low cost”
product entry
Accommodate
or Ignore
No
Is your
position in
other
markets at
risk?
No
Is there a response
Yes
that would cost less
than the preventable
sales lost?
Yes
No
Does the
value of the
markets at
risk justify
the cost of
response?
Yes
Respond
If you
respond, is
competition
willing and
able to
reestablish
the price
difference?
No
Yes
No
Will the multiple responses
required to match a
competitions cost less than
the preventable sales loss?
Yes
Respond
Source: Figure from “How to Manage an Aggressive Competitor” by George E. Cressman, Jr. and
Thomas T. Nagle from BUSINESS HORIZONS 45 (March-April 2002): p. 25. Reprinted with permission from Elsevier.
Respond
1.
Before responding, ask: “Do the benefits
justify the costs?”
a.
If responding to a price change is less costly
than losing a sale, then do it.
b.
If competitor threat only affects a small
segment, the revenues lost from ignoring it
may be so small that it is not worth it.
c.
In other words, “Why lower the price to lose
revenue from other segments too?”
Evaluating a Competitive Threat
2. If you respond to the threat, is the competitor
willing to merely reduce price again to restore the
price difference?


Matching a price cut is ineffective if the
competitor will merely lower the price again.
Therefore, try to understand what the competitor
is trying to do.
1. Do they want % share of market?
2. Do they just want to clear inventory?
3. Do they just want to recoup some of their investment
quickly?
EVALUATING A COMPETITIVE THREAT
3. Will the multiple responses that may be
required still cost less than the avoidable sales
loss?



One consideration is the industry. In highcapital and labor-intensive industries, it is
better to cut the prices only to the point of
variable cost levels.
The objective is to try to capture some
contribution margin, if possible.
Strategy: Build into your products high
switching costs.
Evaluating a Competitive Threat
4.Is your position in other markets at risk if the
competitor increases their % share of market?
Strategically, does the value of all the markets that
are at risk justify the cost of responding to a price
war?
Before responding, make sure you understand all of
the ramifications, i.e., lost markets, gained
markets, and even bankruptcy.
Competitive Bidding
 Certain groups do bidding
1. Governments
2. Large companies (using preferred suppliers) bid for:
a. Non-standard material
b. Complex designs and difficult manufacturing
methods
TYPES OF BIDDING



Closed bidding: Suppliers submit a written bid
on a specific contract and all bids are opened
simultaneously and often job goes to lowest
bidder…
On-line sealed bids: on-line auctions
Open bidding: more informal.
 When it is hard rigidly define requirements
 Prices may be negotiated.
 Prices may be negotiated
Bidding is costly and time consuming.
A.
Simultaneous bids often used.
B.
All participants see the bids.
C.
Goal: push price down.
D.
Can damage supplier-customer relationships

Choose bid opportunities with care

Find contracts that offer the most promise
Remember that the low bidder may be able
to secure much more business that is profitable
over the longer term

How likely will follow-on business occur???

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