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MGT301 - Principles of Marketing - Lecture Handout 26

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Lesson overview and learning objectives:

We have already discussed the different factors affecting pricing decisions and approaches that can be used to price the product/services, today we will discuss price-adjustment strategies. Priceadjustment strategies account for customer differences and start changing situations, and strategies for initiating and responding to price changes


A. Price-Adjustment Strategies

Price-Adjustment Strategies

Companies usually adjust their basic prices to account for various customer differences and changing situations. Fig summarizes six price-adjustment strategies: discount and allowance pricing, segmented pricing, psychological pricing,
promotional pricing, geographical pricing, and international pricing.

a. Discount and Allowance Pricing Most companies adjust their basic price to reward customers for certain responses, such as early payment of bills, volume purchases, and off-season buying. These price adjustments—called
discounts and allowances—can take many forms.

A cash discount is a price reduction to buyers who pay their bills promptly. A typical example is "2/10, net 30," which means that although payment is due within 30 days, the buyer can deduct 2 percent if the bill is paid within 10 days. The discount must be granted to all buyers meeting these terms. Such discounts are customary in many industries and help to improve the sellers' cash situation and reduce bad debts and creditcollection costs. A quantity discount is a price reduction to buyers who buy large volumes. A typical example might be "Rs10 per unit for less than 100 units,
Rs9 per unit for 100 or more units." By law, quantity discounts must be offered equally to all customers and must not exceed the seller's cost savings associated with selling large quantities. These savings include lower selling, inventory, and transportation expenses. Discounts provide an incentive to the customer to buy more from one given seller, rather than from many different sources.

Price-Adjustment Strategies1

A functional discount (also called a trade discount) is offered by the seller to trade channel members who perform certain functions, such as selling, storing, and record keeping. Manufacturers may offer different functional discounts to different trade channels because of the varying services they perform, but manufacturers must offer the same functional discounts within each trade channel.
A seasonal discount is a price reduction to buyers who buy merchandise or services out of season. For example, lawn and garden equipment manufacturers offer seasonal discounts to retailers during the fall and winter months to encourage early ordering in anticipation of the heavy spring and summer selling seasons. Hotels, motels, and airlines will offer seasonal discounts in their slower selling periods. Seasonal discounts allow the seller to keep production steady during an entire year.
Allowances are another type of reduction from the list price. For example, trade-in allowances are price reductions given for turning in an old item when buying a new one. Trade-in allowances are most common in the automobile industry but are also given for other durable goods. Promotional allowances are payments or price reductions to reward dealers for participating in advertising and sales support programs.

b. Segmented Pricing

Companies will often adjust their basic prices to allow for differences in customers, products, and locations. In segmented pricing, the company sells a product or service at two or more prices, even though the difference in prices is not based on differences in costs.
Segmented pricing takes several forms. Under customer-segment pricing, different customers pay different prices for the same product or service. Museums, for example, will charge a lower admission for students and senior citizens. Under product-form pricing, different versions of the product are priced differently but not according to differences in their costs. Using location pricing, a company charges different prices for different locations, even though the cost of offering at each location is the same. For instance, theaters vary their seat prices because of audience preferences for certain locations. Finally, using time pricing, a firm varies its price by the season, the month, the day, and even the hour. Public utilities vary their prices to commercial users by time of day and weekend versus weekday. The telephone company offers lower off-peak charges, and resorts give seasonal discounts.
For segmented pricing to be an effective strategy, certain conditions must exist. The market must be segmentable, and the segments must show different degrees of demand. Members of the segment paying the lower price should not be able to turn around and resell the product to the segment paying the higher price. Competitors should not be able to undersell the firm in the segment being charged the higher price. Nor should the costs of segmenting and watching the market exceed the extra revenue obtained from the price difference. Of course, the segmented pricing must also be legal. Most importantly, segmented prices should reflect real differences in customers' perceived value. Otherwise, in the long run, the practice will lead to customer resentment and ill will.

Segmented Pricing

c. Psychological Pricing

Price says something about the product. For example, many consumers use price to judge quality. An Rs1000 bottle of perfume may contain only Rs300 worth of scent, but some people are willing to pay the Rs 1000 because this price indicates something special. In using psychological pricing, sellers consider the psychology of prices and not simply the
economics. For example, one study of the relationship between price and quality perceptions of cars found that consumers perceive higher-priced cars as having higher quality. By the same token, higher-quality cars are perceived to be even higher priced than they actually are. When consumers can judge the quality of a product by examining it or by calling on past experience with it, they use price less to judge quality. When consumers cannot judge quality because they lack the information or skill, price becomes an important quality signal:

Another aspect of psychological pricing is reference pricing—prices that buyers carry in their minds and refer to when looking at a given product. The reference price might be formed by noting current prices, remembering past prices, or assessing the buying situation. Sellers can influence or use these consumers' reference prices when setting price. For example, a company could display its product next to more expensive ones in order to imply that it belongs in the same class. Department stores often sell women's clothing in separate departments differentiated by price: Clothing found in the more expensive department is assumed to be of better quality. Companies can also influence consumers' reference prices by stating high manufacturer's suggested prices, by indicating that the product was originally priced much higher, or by pointing to a competitor's higher price.

d. Promotional pricing,

Companies will temporarily price their products below list price and sometimes even below cost. Promotional pricing takes several forms. Supermarkets and department stores will price a few products as loss leaders to attract customers to the store in the hope that they will buy other items at normal markups. Sellers will also use special-event pricing in certain seasons to draw more customers. Manufacturers will sometimes offer cash rebates to consumers who buy the product from dealers within a specified time; the manufacturer sends the rebate directly to the customer.
Rebates have been popular with automakers and producers of durable goods and small appliances, but they are also used with consumer-packaged goods. Some manufacturers offer low-interest financing, longer warranties, or free maintenance to reduce the consumer's "price." This practice has recently become a favorite of the auto industry. Or, the seller may simply offer discounts from normal prices to increase sales and reduce inventories.
Promotional pricing, however, can have adverse effects. Used too frequently and copied by competitors, price promotions can create "deal-prone" customers who wait until brands go on sale before buying them. Or, constantly reduced prices can erode a brand's value in the eyes of customers. Marketers sometimes use price promotions as a quick fix instead of sweating through the difficult process of developing effective longer-term strategies for building their brands. In fact, one observer notes that price promotions can be downright addicting to both the company and the customer. The point is that promotional pricing can be an effective means of generating sales in certain circumstances but can be damaging if taken as a steady diet.

e. Geographical Pricing

A company also must decide how to price its products for customers located in different parts of the country or world. Should the company take risk of losing the business of more distant customers by charging them higher prices to cover the higher shipping costs? Or should the company charge all customers the same prices regardless of location? Because each customer picks up its own cost, supporters of FOB pricing feel that this is the fairest way to assess freight charges. The disadvantage, however, is that Peerless will be a high-cost firm to distant customers? Uniform-delivered pricing is the opposite of FOB pricing. Here, the company charges the same price plus freight to all customers, regardless of their location. The freight charge is set at the average freight cost. Other advantages of uniform-delivered pricing are that it is fairly easy to administer and it lets the firm advertise its price nationally.
Zone pricing falls between FOB-origin pricing and uniform-delivered pricing. The company sets up two or more zones. All customers within a given zone pay a single total price; the more distant the zone, the higher the price. Using base point pricing, the seller selects a given city as a "basing point" and charges all customers the freight cost from that city to the customer location, regardless of the city from which the goods are actually shipped. If all sellers used the same basing-point city, delivered prices would be the same for all customers and price competition would be eliminated. Industries such as sugar, cement, steel, and automobiles used basing-point pricing for years, but this method has become less popular today. Some companies set up multiple basing points to create more flexibility: They quote freight charges from the basing-point city nearest to the customer.
Finally, the seller who is anxious to do business with a certain customer or geographical area might use freight-absorption pricing. Using this strategy, the seller absorbs all or part of the actual freight charges in order to get the desired business. The seller might reason that if it can get more business, its average costs will fall and more than compensate for its extra freight cost. Freightabsorption pricing is used for market penetration and to hold on to increasingly competitive markets.

f. International Pricing

Companies that market their products internationally must decide what prices to charge in the different countries in which they operate. In some cases, a company can set a uniform worldwide price. The price that a company should charge in a specific country depends on many factors, including economic conditions, competitive situations, laws and regulations, and development of the wholesaling and retailing system. Consumer perceptions and preferences also may vary from country to country, calling for different prices. Or the company may have different marketing objectives in various world markets, which require changes in pricing strategy. Costs play an important role in setting international prices. Travelers abroad are often surprised to find that goods that are relatively inexpensive at home may carry outrageously higher price tags in other countries. In some cases, such price escalation may result from differences in selling strategies or market conditions. In most instances, however, it is simply a result of the higher costs of selling in
foreign markets—the additional costs of modifying the product, higher shipping and insurance costs, import tariffs and taxes, costs associated with exchange-rate fluctuations, and higher channel and physical distribution costs

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