2003 Strategic Pricing Group, Inc.

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The Pricing Strategy Pyramid



Price
Level
Price setting


Pricing
Policy
Negotiation Tactics &
Pricing Setting Procedures


Value Creation
Economic Value, Offering Design, Segmentation

Value Communication
Communication, Value Selling Tools
Price Structure
Metrics, Fences, Controls
2003 Strategic Pricing Group, Inc.
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Price Setting Process
Preliminary Segment
Pricing
Set baseline prices based
on type of value
assessment and initial
differential value capture
rate
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?
Optimization
Refine preliminary prices
with iterative process
balancing tradeoffs between
price, cost, and market
response
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?
Implementation
Set final prices and ensure
acceptance among
customers and organization
through effective change
management approach
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.
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Economic Value Estimation

Framework
Positive
Differentiation
Value
Your Unique
Value
Delivery
Competitive
Reference Value

Price of Next
Best
Competitive
Alternative
Negative
Differentiation
Value
Total
Economic
Value
Value Capture
2003 Strategic Pricing Group, Inc.
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Sample Differential Value Capture Rates
Market Differential Value Capture Rate
Enterprise Software 20 - 50%
Heavy Manufacturing 10 - 30%
Process Manufacturing 10 - 20%
Computers 20 - 40%
High Technology 5 - 50%
Professional Services 10 - 40%
Distribution 5 - 20%
Pharmaceuticals 30 - 50%
2003 Strategic Pricing Group, Inc.
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Preliminary Price Worksheet
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.
YY% Baseline Value Split
Starting Price
Price Sensitivity Factors
Product performance risk
Preliminary Price $ NNN
$ Z Z
+
+ / = / -
Expenditure Effect
--
Fairness affect
-
Total adjustments (- 10% )
$ XXX Economic Value
2003 Strategic Pricing Group, Inc.
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The Goal of Strategic Pricing: Align Price with Value

P
r
i
c
e

P
a
i
d

Missed
Opportunities
Unharvested
Value
high
low
low medium high
medium
Value Received

B
A
2003 Strategic Pricing Group, Inc.
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Pricing Strategies
SKIM
SEQUENTIAL SKIM
PENETRATION
NEUTRAL
2003 Strategic Pricing Group, Inc.
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Pricing Strategy
SKIM PENETRATION NEUTRAL
COSTS
CUSTOMERS
COMPETITION
2003 Strategic Pricing Group, Inc.
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Pricing Strategy
SKIM PENETRATION NEUTRAL
COSTS
CUSTOMERS
COMPETITION
Costs similar to
competitors
Sufficient CM to
finance adv, etc.
Little excess capacity
Incremental capacity
is expensive
Customers are more
sensitive to other
elements of the
marketing mix
Avoid threat of
retaliation
Large share brands
with a lot to lose
Sustainable mktg mix
advantages
Oligopolies
High CMs
High volumes
Changes in volume
drive profitability
Small BE Sales
Changes
Excess capacity
High price sensitivity
-Total Expend Effect
-Large Part of End-
Benefit
Little differentiation
Sustainable cost &
resource advantage
Competitors not
willing to retaliate
Financial strength
Aggressive small
share brands
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
Limited threat of
opportunism
Limited opportunity
for scale economies
Sustainable
differentiation
Low threat brands
2003 Strategic Pricing Group, Inc.
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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 _______

2003 Strategic Pricing Group, Inc.
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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?

(b) What type of pricing strategy does Ajax appear to be following?
What other options are available?
2003 Strategic Pricing Group, Inc.
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Analytical Approaches to Profitability Analysis
Automated Price
Optimization
System
Automated Price
Optimization
System
Spreadsheet -
based Break -
even Analysis
Spreadsheet -
based Break -
even Analysis
Simulation
Modeling / Risk
Analysis
Simulation
Modeling / Risk
Analysis
Frequency of
Price Changes
N
u
m
b
e
r

o
f
T
r
a
n
s
a
c
t
i
o
n
s
Low
Low
High
High
Automated Price
Optimization
System
Automated Price
Optimization
System
Spreadsheet -
based Break -
even Analysis
Spreadsheet -
based Break -
even Analysis
Simulation
Modeling / Risk
Analysis
Simulation
Modeling / Risk
Analysis
Frequency of
Price Changes
N
u
m
b
e
r

o
f
T
r
a
n
s
a
c
t
i
o
n
s
Low
Low
High
High
Volume of
Transactions
2003 Strategic Pricing Group, Inc.
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Analyzing Profitability Using the
Breakeven Sales Change Approach
5% 10% 20% 30% 40% 50% 60% 70% 80% 90%
35% -88% -78% -64% -54% -47% -41% -37% -33% -30% -28%
25% -83% -71% -56% -45% -38% -33% -29% -26% -24% -22%
15% -75% -60% -43% -33% -27% -23% -20% -18% -16% -14%
5% -50% -33% -20% -14% -11% -9% -8% -7% -6% -5%
0% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0%
-5% NA 100% 33% 20% 14% 11% 9% 8% 7% 6%
-15% NA NA 300% 100% 60% 43% 33% 27% 23% 20%
-25% NA NA NA NA 167% 100% 71% 56% 45% 38%
-35% NA NA NA NA 700% 233% 140% 100% 78% 64%
%

C
h
a
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i
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P
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Contribution Margin
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Risk Analytic Approach to Profitability Analysis
Frequency Comparison
.000
.009
.018
.027
.036
19,000,000.00 21,500,000.00 24,000,000.00 26,500,000.00 29,000,000.00
Premium Brandi ng Strategy
Di scount Pri ci ng Strategy
Overlay Chart
Premium Branding
Strategy
Discount Pricing
Strategy
Comparative Risk Profiles
2003 Strategic Pricing Group, Inc.
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Determinants of Price Sensitivity
1. The Reference Price Effect
2. The Difficult Comparison Effect
3. The Switching Cost Effect
4. The Price-Quality Effect
5. The Expenditure Effect
6. The End-Benefit Effect
7. The Fairness Effect
8. The Framing Effect
9. The Shared-Cost Effect
2003 Strategic Pricing Group, Inc.
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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?
2003 Strategic Pricing Group, Inc.
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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 Automobile repairs
Food for meals at home Which university to attend
A company car Draperies for your new home
Text books Health insurance plan
Souvenirs Vacation resort

2003 Strategic Pricing Group, Inc.
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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?

2003 Strategic Pricing Group, Inc.
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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?
2003 Strategic Pricing Group, Inc.
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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.

(b) Advertising increases price sensitivity.

(c) As a product category matures, the consumers become
more price sensitive.

(d) Each consumer has different price sensitivities for different
products.


2003 Strategic Pricing Group, Inc.
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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?

2003 Strategic Pricing Group, Inc.
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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?
2003 Strategic Pricing Group, Inc.
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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?


2003 Strategic Pricing Group, Inc.
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Breakeven Sales Analysis
Unit Sales Gain
C
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D
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(
$
)


0
1mm
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


The Elements of the Price Setting Process
Positive
Differentiation
Competitive
Reference

Negative
Differentiation
Total
Economic
Value
Value Estimation
Frequency Comparison
.000
.009
.018
.027
.036
19,000,000.00 21,500,000.00 24,000,000.00 26,500,000.00 29,000,000.00
Premium Brandi ng Strategy
Di scount Pri ci ng Strategy
Overlay Chart
Premium Branding
Strategy
Discount Pricing
Strategy
Comparative Risk Profiles
Risk Analysis
Price
Levels