The Behavioral Side of Pricing

1. The Behavioral Side of Pricing MKT 750 Dr. West

2. Agenda • Issues associated with product pricing • Defining terms • Capturing value • Behavioral pricing • Discuss Paradise Parks case • Should they offer a preferred customer card?

3. Product Pricing Objective Value Marketing Efforts Perceived Value Price ofConsumer’s Incentive Substitutesto buy Product Price Firm’s Incentive to sell Cost of Goods Sold $0

4. Firm’s Perspective on Pricing • Cost of Goods • Mark-up pricing – tack a percentage onto COGS • Price of Substitutes • Competitive “going rate” pricing – evaluate your price relative to what your competitor is charging for similar goods and services

5. Firm’s Perspective on Pricing • Market Value • Value Pricing – measure the perceived value of the good or service • What if consumers differ in their “willingness to pay”? • How can you frame your price to enhance its perceived value?

6. Entry Strategies • Factors to consider: • Forecasted market size • Competitive Threats • Price sensitivity of consumers • Skimming versus Penetration • Innovators & Early Adopters • Early Majority

7. Entry Strategies • Two-Part Pricing: Tivo • Hardware = List Price $249 • Service = $12.95 per month • Lowering the hardware price might pay off in the long run if more consumers adopt the product

8. Strategies to Capture Value • Tiered Pricing • Airlines and Hotels • Movie Theaters • Restaurants • Consumer’s perception of fairness • Pricing based on ambient temperature

9. Strategies to Capture Value • Setting your price: Maximum Price Theater A Theater B Matrix Reloaded $10,000 $9,000 Down with Love $8,000 $8,500 Total $18,000 $17,500 • Cost per film per theater to distributor $2000

10. Strategies to Capture Value • High Road: • Set your price to capture the maximum value • Matrix = $10,000 Down with love = $8,500 • Outcome • Theater A will only buy Matrix Reloaded • Theater B will only buy Down with Love • Profits • ($10K-$2K)+($8.5K-$2K) = $14.5K

11. Strategies to Capture Value • Low Road: • Set your price based on the lowest willingness to pay • Matrix = $9,000 Down with Love = $8,000 • Outcome • Theaters A and B will buy both movies! • Profits • 2($9K-$2K)+2($8K-$2K) = $26K

12. Strategies to Capture Value • Bundling: • Set your price based on the combined value • Bundle price at $17,500 for both films • Outcome • Theaters A and B will buy the package. • Profits • 2($17.5K-$4K) = $27K

13. Enhancing Perceived Value • Pay-per-use • Music downloading services • “All-in-one” versus “two-part” pricing • Theme parks/cruise lines • Rebates and coupons • The secret with rebates is that they influence a purchase decision but are rarely redeemed

14. Scenario 1 Imagine that the US is preparing for the outbreak of an unusual Asian disease, which is expected to kill 600 people.  Two alternative programs to combat the disease have been proposed.  Assume that the exact scientific estimates of the consequences of the programs are as follows. • Program A:If Program A is adopted, 200 people will be saved. • Program B:If Program B is adopted, there is 1/3 probability that 600 people will be saved, and 2/3 probability that no people will be saved.

15. Scenario 2 Imagine that the US is preparing for the outbreak of an unusual Asian disease, which is expected to kill 600 people.  Two alternative programs to combat the disease have been proposed.  Assume that the exact scientific estimates of the consequences of the programs are as follows. • Program C:If Program C is adopted 400 people will die. • Program D: If Program D is adopted there is 1/3 probability that nobody will die, and 2/3 probability that 600 people will die.

16. Scenario 1 Imagine that you are about to purchase a calculator for $20 when a friend tells you that the same calculator is on sale at another store five blocks away for $15. Would you go to the other store to buy the calculator? Scenario 2 Imagine that you are about to purchase a television for $620 when a friend tells you that the same television is on sale at another store five blocks away for $615. Would you go to the other store to buy the television? Behavioral Pricing

17. Scenario 1 Imagine that you are about to purchase a desk. You are trying to decide whether to use a credit card or pay cash. The dealer tells you that the price of the desk is $550 if you use a credit card but that there is a $15 discount for cash. Will you use a credit card or pay cash? Scenario 2 Imagine that you are about to purchase a desk. You are trying to decide whether to use a credit card or pay cash. The dealer tells you that the price of the desk is $535 if you pay cash but that there is a $15 surcharge if you use your credit card. Will you use a credit card or pay cash? Behavioral Pricing

18. Scenario 1 Imagine that Sheri and Susan went to the track last weekend. Sheri won two $50 bets Susan won one $100 bet. Who do you think is happier? Scenario 2 Imagine that Bob and Bill went to the track last weekend. Bob lost two $50 bets Bill lost one $100 bet. Who do you think is more upset? Behavioral Pricing

19. Behavioral Pricing • Consumers make relative, not absolute judgments • Value is defined in terms of gains and losses, not final wealth • The pleasure from a gain is less than the pain associated with an equivalent loss.

20. Pleasure -$200 -$100 $100 $200 Pain Behavioral Pricing • Prospect Theory Value Losses Gains Awarded the Nobel Prize in 2002

21. Implications • Our evaluation of a promotion depends on the base price (percentage change) • To maximize pleasure one should: • Frame an offering in terms of a gains • Segregate gains and integrate losses • Willingness to pay is affected by the perceived fairness of the transaction

22. Are All Customers Created Equal? • Should Paradise Parks institute a preferred guest card to supplement its revenues? • How might this new pricing strategy impact the experience for its guests? • Are there other alternatives that can help to achieve the objective of increasing revenues? • What would you recommend that they do?

23. Assignment • Prepare for your team presentation!