Pricing Strategies

1. Pricing Strategies Week 5 EWMBA 206.1

2. Analysis Framework Perceptual mapping First mover advantages Company Analysis Marketing Myopia Customer Analysis Competitor Analysis Positioning Segmentation Marketing Orientation Marketing Strategy Branding Product Pricing process Pricing and innovation Price Promotion Place Market

3. Economics of PricingTwo Problems with Uniform Price Strategy • Leave money on the table • Some customers are willing to pay more • Pass-up Profit • Some potential customers were not served even though the firm could have served them at prices above the marginal cost

4. Price Customization:Price Discrimination and Self-selection Iyer’s Carwash Price # of Car washes 3 5000 4 3000 • How to Price ? What is the best single price? • Can you increase revenues? If so to what level?

5. Price Discrimination and Self-SelectionConsumer Couponing • Why coupons: • People who are willing to pay more tend to have a higher personal time cost and are therefore less likely to clip coupons • Disadvantage is non-redemption costs • Companies spent approx. $6 B on distributing 257 B coupons of which 3.6 B were actually redeemed.

6. Key Principles • Consumers are heterogeneous in their willingness to pay • Charge according to consumer price sensitivity. Make sure that people with inelastic demand pay more and people with elastic demand pay less. Key Problem • Ensuring self-selection…separating the segments • Make sure that prices directed at one segment cannot be taken advantage of by the other. • How should you achieve this? • Identify a “bad” for the high willingness to pay segment and bundle it with the product to create a product for the low segment • This is where product design and pricing comes together. • Separating the segments fences in airline pricing • significant increase in prices < 14 days before departure.

7. Price CustomizationObservable Characteristics • Based on observable characteristics that signal buyers’ price sensitivity • http://www.chessclub.com/ : Students vs. Adults • Theaters can observe the consumer-type using his student ID, senior ID • Customer 1 No student ID $6.75 • Customer 2 Haas student ID $4.75 • Customer 3 Senior citizen ID $4.75 • etc. • Select the segmentation variables that • Separate consumers based on observable characteristics into groups with different price sensitivities (e.g., ability to pay (tuition), age (movie)) • Are observable and targetable without great expense (e.g., Lotus 1-2-3 $325 for first time buyer, $99 for upgrades)

8. Price DiscriminationPurchase Location • Consumers at different purchase locations have different price sensitivity • Cure for anthrax: $450 in the U.S. $190 in Canada http://www.canadadrugs.com • Retailers like Staples website asks for zip code http://www.staples.com/ • Select segmentation variables that ensure • different segments purchase at different locations • high enough shipping cost to prevent arbitrage

9. Customize By Time of Purchase • Peak-load pricing: designed to re-distribute usage from peak time to off-peak time • Redeye flight. • On demand computing. • Electronic road pricing.

10. Electronic Road Pricing

11. Psychology in Pricing Strategy • Jeans: $55…$35; http://www1.macys.com/catalog/index.ognc?CategoryID=89&AdID=509256&LinkType=SiteAd&LinkLoc=1&PageID=382911142924&cm_re=61.0.6-_-MENMAINAD-_-IMAGEMAP%20--%20509256%20--%2089%3APants • Rolex watch: $10,000 http://www.rolex.com/en/ • 9,980 • 9,965 • Relative price difference matters not the absolute matters • Weber-Fechner law: Relative price difference and not the absolute matters. • Gradually increased the weight that a blindfolded subject was holding and asked him to respond when he first felt the increase. • Response was proportional to a relative increase in the weight. • If the weight is 1 kg, an increase of 10 grams will not be perceived. • If weight is 20 grams, an increase in 10 grams will be perceived • Applies to sound, vision etc.

12. Psychology in Pricing StrategyMental Categorization • I will show you two numerical differences. Look at them quickly! 0.89 - 0.75 0.92 - 0.79

13. Psychology in Pricing • Which difference do you think is greater? • Odd number pricing ($0.99 vs. $1.00). • Why Nike shoes are priced at $79.99, not $80! • Theoretical underpinning: Mental categorization. • Price quality perceptions • Toronto flea markets • Pricing and social networks • Pricing Trump towers

14. Prospect Theory (Kahnemann and Tversky) • One additional dollar gives a lesser increase in satisfaction or value than the dissatisfaction caused by a one dollar decrease • Giving or taking a dollar • People feel the pain of losses much more than they feel the happiness of equivalent gains.

15. Prospect TheoryApplications Unbundle gains: Sports Illustrated, offer additional benefits rather than a discount Bundle Losses: Sellers of consumer durables and warranties. Example, a $50 warranty for $700 appliance.

16. Managing CompetitionPrice Matching (Crazy Eddie)Homework In the New York city stereo wars Crazy Eddie had made his trademark “We cannot be undersold. We will not be undersold. Our prices are the lowest….guaranteed. Our prices are insane.” His main competitor Newmark & Lewis is no less ambitious. With any purchase you get the store’s “Lifetime low-price guarantee”. It promises to rebate double the difference if you can find a lower price elsewhere. If after your purchase from Newmark you find the same item at a lower price (proof of purchase required), in the marketing area, during the lifetime of your purchase, Newmark will give you a 200% gift certificate refund (100% of the price difference plus an additional 100%). • What would happen to prices when firms compete by offering these guarantees? • What could be the reasons why these retailers adopted these policies in the first place? • Would these price matching guarantees claims increase competition between the two retailers and reduce their profits or would it do the opposite?

17. Key Messages • Developing profitable pricing strategies is a critical and creative exercise. • Pricing is the only element of the marketing mix whose cost is getting it wrong. • Pricing’s impact on profitability is often more significant and more immediate than the impact of other elements of the marketing mix.

18. Price Matching Guarantees • Will PM’s increase or decrease market prices? • Price matching guarantees • helps a firm to protect its consumers and charge a high price • It makes your competitor “soft.” Takes away the benefit for your competitor to undercut your price.

19. Crazy Eddie, Answer • Price matching guarantees have the ability to actually reduce price competition. They are mechanisms for tacit collusion or competition reduction between firms. When crazy eddie offers the price matching guarantee then it is effectively taking away any gains that its competitor might get from cutting price. A competitor might cut price to win those consumers who search between store for the lowest price. But if eddie offers a price matching guarantee, then a search consumer will buy from eddie because the consumer knows that in the event that there is slower price offered in the market the consumer is insured that eddie will match that price. • Because price matching takes away the gain from price cutting, no firm cuts price and price competition is reduced. • Indeed if both eddie and newmark offer price matching guarantees this effect of reduced price competition is even higher.