LESSON 3: PRICE & VALUE CREATION NBCA

One of the most critical factors driving customer choice and

THE SOURCE OF PRICING ADVANTAGE willingness-to-pay is the set of alternative products under
• An in-depth understanding of how your products create consideration for purchase. From the marketer’s perspective,
value for customers is the key that unlocks your these products represent the “NEXT BEST COMPETITIVE
organization’s ability to improve pricing performance by ALTERNATIVES”.
enabling managers across the organization to make more  Reference Value – economic value estimation by
profitable business choices. determining the competitor charges.
• Success requires effective processes to collect data, to  Differentiation value – the net benefits that your
estimate customer value, and to get that information into product or service delivers to customer over and
the hands of decision-makers. above those provided by the competitive reference
• It requires new skills and tools to help managers make product.
better pricing strategy choices in real time as they confront
ever-shifting customer needs and competitive actions. ASSESSING VALUE TO THE CUSTOMER
• It requires an organizational commitment to ensure that
pricing decisions are made with an unswerving focus on TYPES OF PRODUCT CHARACTERISITCS:
long-term profitability. 1. Core-Quality Characteristics – characteristics that affect
the products ability to accomplish what is considered by
THE ROLE OF VALUE IN PRICING customers to be its primary purpose or function.
2. Features and Styling Characteristics – these
What does value refer? characteristics contribute to benefits beyond the product’s
primary function. This category include aspects sometimes
Value refers to overall satisfaction that a customer receives referred as “bells and whistles”
from using a product or service offering. 3. Reputation and Support Service Characteristics –
Use value – the utility gained from the product. characteristics that support a product’s primary and secondary
Consumer Surplus – the difference between the use value of benefits that could be characteristics of the selling company
a product and its market price rather than only the product itself.
The value at the heart of pricing strategy is not use value, but
is what economists call exchange value or economic value. TYPES OF CUSTOMER NEEDS:
1. NEED FOR OBJECTIVE PERFORMANCE
Economic value accounts for the fact that the value one can ◦ Objective Performance – the product performance that
capture for commodity attributes of an offer is limited to is important to the buyer is objectively measureable. It
whatever competitors charge for them. Only the part of involves results that are a matter of observable facts, as
economic value associated with differentiation, which we call opposed to a matter of opinion.
differentiation value can potentially be captured in the price. ◦ Subjective Performance – involves results that can be
Differentiation value comes in two forms: monetary and directly evaluated only by the person consuming the
psychological. product.
 Monetary Value - represents the total cost savings or
income enhancements that a customer accrues as a result 2. HEDONIC AND AESTHETIC PERFORMANCE NEEDS –
of purchasing a product. products and products characteristics that are valued for
 Psychological Value – refers to the many ways that a the hedonic and aesthetic pleasures they create that
product creates innate satisfaction for the customer. satisfy customers.
The more sensual pleasures for food and drink referred to
TOTAL ECONOMIC VALUE is calculated as the price of the “hedonic”.
customer’s best alternative (the reference value) plus the worth Pleasure of music, art, literature, and the performing arts
of whatever differentiates the offering from the alternative (the referred to as “aesthetic”
differentiation value).
3. NEED FOR SOCIAL PERFORMANCE – product
characteristics valued by a customer for their expected
effects on the customer’s social image.

4. NEED FOR PERFORMANCE RELIABILITY – the

customer’s desires to avoid the expenses and anxieties of
product inconsistency or failure.

5. NEED FOR PRODUCT CONVENIENCE – product

characteristics that reduce the effort involved in receiving
the product’s benefits
HOW TO ESTIMATE ECONOMIC VALUE Factors Causing Pricing Differences Between Market
Segments
COMPETITIVE REFERENCE PRICES
Identifying the next best competitive alternative to your product 1. The product’s value to the customer (VTC)
and gathering accurate reference prices, while conceptually 2. The costs to the seller of providing the product
simple, offers a number of challenges that often trip up pricing 3. The customers’ price sensitivity or responsiveness to
strategies. price changes.
What could be the challenges in establishing
reference prices? PRICE SEGMENTATION

ESTIMATING MONETARY VALUE The practice of a seller charging different market segments
Total Monetary Value – the sum of reference value different prices for the same product.
and the differentiation value
1. Consider only the value of the difference between
your product and the next best competitive alternative
(NBCA) product.
2. Measure the differentiation value either as costs
saved to achieve a particular level or benefit or as
extra benefits achieved for an identical cost.
3. Do not assume that the percentage increase in
value is simply proportional to the percentage
increase in the effectiveness of your product.

ESTIMATING PSYCHOLOGICAL VALUE

Psychological value drivers such as satisfaction and security,
by virtue of their subjective nature, do not lend themselves to Two Difficulties Of Accomplishing
estimation via qualitative research techniques like in-depth Price Segmentation
interviewing. Instead, pricing researchers must rely on a variety
of quantitative techniques to estimate the worth of a product’s 1) One cannot expect customers to voluntarily identify
differentiated features. themselves as willing pay prices that are higher than
Conjoint Analysis – technique developed in the late 1970s those paid by other customers.
and early 1980s that can discern the hidden values that 2) Arbitrage – this is the practice of buying a product at a
customers place on product features. The most commonly low price in order to sell to others at a higher price.
used of the survey methods is conjoint analysis, which is also
known as trade-off analysis Price-Segmentation Fence – is a criterion that customers
Conjoint analysis involves carrying out a study where a set of must meet to qualify for a lower price.
possible alternative products are presented or described to This criterion could be a characteristic of the customer, such
respondents and the respondents are asked to rate, rank, or as the customer’s age.
choose among these alternative products
Two Goals of Price Segmentation Fence
LESSON 4: ANALYSIS OF PRICING STRUCTURES
1) The fence divides the market so that those customers for
TACTICS FOR PRICING DIFFERENTLY ACROSS whom a high price is appropriate are on one side and
SEGMENTS those customer for whom a low price is appropriate are on
the other.
As was mentioned in a company’s price structure consists of 2) The second goal is to minimize the degree to which the
the pattern of the prices it charges its customers. One aspect fence can be crossed.
of price structure concerns the different prices that a company
may charge for the same product. A second aspect of a SIX MAJOR TYPES OF PRICE SEGMENTATION FENCES
company’s price structure concerns the array of prices charged
for the different products sold by the company. Because there 1) Customer characteristics
are often interrelationships between a seller’s various products, 2) Purchase Quantity
the pricing of these products should take such relationships 3) Product Features
into account. 4) Design of product bundles
Market – defined as all customers and potential customer for a 5) Time of purchase or use
product. 6) Place of purchase or use.
Market Segment – group of buyers and potential buyers within
a market who have similar characteristics.
PRICE SEGMENTATION BY CUSTOMER • it needs to be structured to discourage purchasing
CHARACTERISTICS alliances, or association between group of buyers of a
product.
When a product’s price differs depending on an observable • Segmentation-fence patches – repair the “holes” in the
characteristic of a customer, then this is being used as a price fences that allow high-price segment customers to buy at
segmentation fence. low-price segment prices.
Give examples of observable characteristics of a customer? • issue of legality.
Commercial Status – the customer characteristic used for a
price segmentation fence. PRICE SEGMENTATION BY PRODUCT FEATURES

What could be the possible constraints on the use of If customers who value a basic product more than others also
customer characteristics? tend to choose a certain luxury feature of that product, then it
might make sense for the seller to charge a higher price for the
• limited opportunities to practice price segmentation. basic product to customers who buy the luxury feature. In that
• is likely to create questions of price fairness. case, the buyers of the luxury feature could be said to be
• price segmentation as “price discrimination”. paying a feature-dependent premium for the basic product,
• use of a characteristics such as gender, race, religion, or because the higher price they pay for the basic product is
ethnic is likely to violate customer sensitivities and should caused by their choice of the luxury feature. When product
be really avoided. Customer characteristics such as age, features are used for price segmentation, it is the choice of the
student, status, and commercial status is considered feature that becomes the fence enabling the seller to charge
generally acceptable. different customers different prices for the same basic product.

Price Segmentation in Negotiation If customers who value a basic product more than others also
tend to choose a certain luxury feature of that product, then it
When prices are set through negotiation, the seller has a might make sense for the seller to charge a higher price for the
greater ability to use customer characteristics as price- basic product to customers who buy the luxury feature. In that
segmentation fences because it is difficult for customers to case, the buyers of the luxury feature could be said to be
recognize that this is being done. paying a feature-dependent premium for the basic product,
because the higher price they pay for the basic product is
PRICE SEGMENTATION BY PURCHASE QUANTITY caused by their choice of the luxury feature. When product
features are used for price segmentation, it is the choice of the
One purchase-situation characteristic that is widely used as a feature that becomes the fence enabling the seller to charge
price-segmentation fence is the quantity that the customer different customers different prices for the same basic product.
purchases. The best price for those customers who buy larger
quantities of a product is often lower than that for those Product Enhancing Features: When the price-segmentation
customers who buy smaller quantities of the product. When goal is to charge a higher price for the basic product to a
this is so, it makes sense for the seller to offer a lower per-unit segment that has a higher valuation of that product, then it
price to the customers who buy larger quantities. This lower would be appropriate to consider using as a price-
per-unit price is often termed a quantity discount. segmentation fence a feature that enhances the product.

Ways to offer lower prices to customers who buy larger Product- Diminishing Features When the price-segmentation
quantities of a product: goal is to charge a lower price for the basic product to a
1. An order-size discount – gives customers who purchase segment that has a lower valuation of that product, then it
larger amounts at one time a lower per unit price. would be appropriate to consider using as a price-
2. A cumulative-purchase discount – gives customers who segmentation fence a feature that diminishes the product. In
have many purchases from the seller a lower price for new this case, the buyers of the product with the feature that
purchases than customers who have done less business with diminishes it could be said to be receiving a feature-dependent
the seller. It is often take the form of a frequent-user program. discount. To be effective in price segmentation, a product-
3. Fixed –charge pricing – gives open access to a product to diminishing feature should make the product less than fully
customers who pay a single price. The effect of this is that acceptable to the customers in the market segment that pays
customers who make more use of the product pay a lower per the high price.
portion or per use price than those who make less of the
product. PRICE SEGMENTATION BY DESIGN OF PRODUCT
4. Two-part pricing – involves both a fixed charge and a per- BUNDLES
unit charge,
A bundle is any set of products that are offered together as a
What Could Be The Possible Constraints On The Use Of package. The careful design of product bundles can
Purchase Quantity accomplish price segmentation in a way that is slightly different
• it needs to be structured to prevent from being defeated by than that of the previous two types of price-segmentation
arbitragers. fences. Quantity discounts (which are sometimes considered a
type of product bundle) accomplish price segmentation customers. Off-peak customers are likely to value the product
because some customers choose to buy the higher quantities less than do peak-period customers.
and others do not. Feature-dependent premiums and discounts If each time-period-defined market segment has a different
accomplish price segmentation because some customers best price, then, in practical terms, these best prices may be
choose the product-enhancing or product-diminishing features arrived at by successively considering small price increases or
and others do not. However, the design of bundles can decreases until there are no longer any that would produce
accomplish price segmentation even if all customers choose to higher profits.
purchase the product bundle.
The key to designing a product bundle to accomplish price Relevant Costs in Peak-Load Pricing
segmentation is to identify a set of products that show a VTC
“crossover” between at least two important market segments  CAPACITY COSTS – the costs of maintaining or adding
capacity, are relevant for pricing decisions during peak-
CHOOSIANG A PRICE SEGMENT FENCE demand.
This means that evaluation of possible price decreases during
Because of issues regarding customer judgments of price peak-demand must include consideration of the incremental
fairness, it is important to be familiar with price segmentation fixed costs of adding capacity. This leads to high breakeven
fences that do not involve a customer’s characteristics. sales increases for such prospective price decreases, and a
Purchase-situation characteristics such as the quantity lower likelihood of the price decrease being profitable. Thus,
purchased or choice of product features or bundles can serve peak-period prices will tend to stay high.
very effectively as price segmentation fences. If designed  OPERATING COSTS – Off peak prices are driven by
carefully, quantity discounts, feature-dependent premiums or operating costs, which will usually be only the variable
discounts, and product bundles can create the conditions costs for providing the service.
where different groups of customers pay different prices for Consideration of price decreases during off-peak periods
essentially the same product. should not take into account any of the fixed costs that are
It should also be noted that a company’s price structure may incurred to support peak-period demand.
well involve the use of more than one price segmentation This leads to relatively low breakeven sales increases for such
fence. prospective price decreases and a higher likelihood of the price
decrease being profitable. As a result, prices during off-peak
TIME OF PRODUCT USE AS A PRICE-SEGMENTATION periods will tend to be low.
FENCE  PEAK REVERSAL – occurs when a lower price in the off-
peak periods stimulates so much demand that the off-peak
Perishability – services that are unsold at one time cannot be time become the peak times.
stored for sale at another time.
Peak- Load Pricing - when the demand fluctuations occur Time of Product Purchase as a
during predictable periods, seller of services often develop a Price-Segmentation Fence
price structure such that their prices are higher during the time
periods of peak demand. 1. Those that occur periodically
Note: Peak-load pricing can involve units of time. The price 2. Those that occur irregularly
differences could be between times of the day, days of the 3. Those that involve making the purchase earlier than other
week, seasons of the year, or by the timing of special events. customers
4. Those that involve making the purchase later than other
Types of Companies Using Peak-Load Pricing customers

• Electric utilities • Tax- preparation PERIODIC DISCOUNTS

• Telecommunication services High/Low Pricing - time of purchase is used as a price-
companies • Retail banking segmentation fence by offering items at recurring discounts
• Hotels • Haircutting shops that are more or less predictable over time.
• Restaurants • Movie theaters
There is an alternation of high-price periods with low-price
• Resorts • Bars, night clubs
• Health club • Lawn care companies periods.
• Transportation During the high periods, the item is sold at what is framed as
its “regular price”
PEAK-LOAD PRICING AS PRICE SEGMENTATION During the low-price periods, the item is sold at a discount from
the regular price, which is often refereed as a “sale price”
1. Value to the customer
2. Costs Factors Determining the Success of High/Low Pricing
3. Price Sensitivity
Note: If we consider customers in the off-peak segment of the EDLP (Everyday low pricing) – a technique that setting of a
market, each of these three factors could contribute to a consistent price that is somewhere between the two price level
product’s best price being lower than that for peak-period of the competitor who is using high/low pricing.
 Such consumer pass-through would occur, for example, when
Two factors that are important for making high/low pricing a product’s temporary low price to a retailer would lead the
successful: retailer to put the product on sale.
1. The regular price of high/low pricing can help set a high-  The temporary discount leads a reseller to buy more of a
quality image for the merchandise. product and thus discover that it is possible to quickly
2. Whereas EDLP retailers can offer the low-VTC customer move such a larger product inventory.
the convenience of not having to wait for a relatively low
price, the high/low retailer can offer the excitement of LATE-PURCHASE DISCOUNTS
obtaining a perceived gain. Retailers commonly use a late-purchase price-segmentation
fence by offering markdowns.
PROMOTIONAL DISCOUNTS MARKDOWNS – also known as “clearance prices”, they are
used to stimulate sales of items that are slow-moving obsolete,
PROMOTIONAL DISCOUNTS – Are simple price decreases, shopworn, or at the end of their season.
often referred as “Sales”.
TRADE PROMOTIONS – promotional discounts to product SHIPPING COSTS FOR INDUSTRIAL PRODUCTS
resellers, such as wholesalers and retailers
FOB-Origin Pricing – “free on board”, which means free of the
How a Discount can Communicate seller’s responsibility – where it is produced.

A source, in this case the seller, desires to communicate an

intended message to the receiver, in this case the customer or
potential customer. A temporary low price can provide a means
for this communication by leading the receiver to take a target
action that will have the effect of getting across the intended
message. A common target action is the purchase of the
product.
The target action could also be the consumer’s purchase of DELIVERED PRICING
more units of a product than usual. This action is often referred - The price that the seller quotes to the customer includes the
to as “pantry loading.” transportation of the product to the customer’s location.
- It gives the seller a greater degree of pricing control.
Targeting the Poorly Informed Segment - It involves using location as price-segmentation fence.
It is likely that the well-informed consumer has already FOB destination – If the seller chooses to quote a single
purchased the product (perhaps picking it up right after he product price that includes shipping.
learned about it) and wasn’t planning to purchase again until Alternatively, the seller could quote a price for the product
the original purchase wore out or was used up. If the along with separate freight charge to cover shipping.
occurrence of a promotional discount is unpredictable and of Basing-Point Pricing – the freight charges quoted to the
short duration, it is unlikely to be offered at just the right time buyer are the costs of shipping the product from a place other
for the well-informed consumer to buy. By contrast, it could be than the producer’s location.
expected that almost none of the poorly informed consumers Industrial Price Zones –are contiguous areas within which all
will have already purchased the product and would thus all be FOB-destination prices or freight charges would be equal.
in a position to respond to the suddenly occurring incentive of
an attractive price. ABSORPTION OF SHIPPING COSTS
The use of delivered pricing helps make it possible for a seller
By this logic, a discount must be unpredictable and of short to address a common problem resulting from high shipping
duration to be an efficient means of communicating about a costs. Shipping costs can make it difficult for a seller to
product. The longer or more repeatedly a promotional discount successfully compete at the more distant customer locations
is offered, the weaker is its ability to serve as a fence that FREIGHT ABSORPTION PRICING – where a company may
keeps the well-informed consumers away from the low price. set delivered prices that do not fully cover the costs of shipping
When unwise managers overuse promotional discounts, the the product. The seller absorbs part of the freight shipping
price reductions could become a different type of discount, costs.
such as a periodic discount, which may not be appropriate for
the product in question. Even worse, an overused promotional UNIFORMED DELIVERED PRICE – shipping in the product’s
discount could lower the consumer’s internal reference price price and charge the same price, regardless of the location. It
for the product, and, in effect, become a permanent price is sometimes called “postage-stamp pricing”, because it has
decrease. been used by the U.S Postal Service.
- It is common in consumer products sold by mail order and
Trade Promotions online.

 The discount will be passed along to the consumer to

create a consumer promotional discount.
RETAIL PRICE ZONES CONSTRAINTS ON INTERNATIONAL PRICE
SEGMENTATION
ZONE PRICING – Geographic price segmentation in retailing. GOVERNMENT ACTIONS:
(Also called variable pricing or local pricing). 1. Price Controls – the government mandating of maximum
CONVENIENCE-BASED PRICE ZONES – Its goal is to prices. Price controls apply equally to local and foreign
capture the value created by locating an outlet in places that countries.
are easily accessible to customers as they pursue activities 2. Protective Tariffs – these are schedules of import taxes
that bring up the need for the outlet’s products. known as duties, that are designed to protect the local
NOTE: Higher prices for products sold at convenient locations sellers of a product against low priced competition from
are appropriate not only because the convenience gives the foreign producers.
products a higher VTC but also because selling at convenient 3. Dumping – judged to occur when an imported product is
locations is likely to involve higher costs. sold at a price that harms local competitors and is lower
than the imported product’s price in the producing country.

PRICE ZONES BASED ON OTHER FACTORS GEOGRAPHY OF CYBERSPACE

1. Customer Price Sensitivity – Customer’s income level The vast computer network known as the Internet is also often
2. Intensity of the competition. referred to as “cyberspace,” which indicates that it is
3. Consumer’s ability to engage in price information search in comprehended as a realm with a spatial aspect. Each
order to take advantage of the price competition that does webpage is a specific location in this space, all of the pages of
exist. a company’s website are an area in this space, and the
websites of similar types of companies comprise a region in
CONSTRAINTS ON ZONE PRICING this space. Given this, the website where a customer commits
1. Difficulty of managing price zones - The use of price to a purchase could be considered the cyberspace location of
zones greatly increases the complexity of pricing his or her purchase. Selling the same item for different prices
databases and other systems needed to manage prices when purchased at different Internet locations would constitute
across a retail chain. Managing price zones can be using the Internet place of purchase as a price segmentation
particularly costly in product categories such as clothing, fence.
where prices are marked on each item
2. Conflicts with advertised prices – “Free standing BRANDED SITE – the internet location of a product’s
inserts” - These inserts can be easily varied between the manufacturer or of an online retailer.
newspaper’s delivery locations. Retailers can also avoid SHOPPING SITE – prices of many sellers of an item in a
the difficulties created by price advertising by simply format that facilitates price comparison. Visitors to shopping
refraining from using zone pricing on the particular items sites are more price-sensitive than visitors to branded sites,
that are being advertised. retailers or manufacturers who sell directly to consumers.
3. Conflicts with internet pricing - Displaying prices on
Internet sites also presents a problem for zone pricing.
This not only increases consumer awareness of zone
pricing but also undermines it unless the online price is as
high as that in any of the zones.

PRICING IN INTERNATIONAL COMMERCE

A product may have a different best price in different countries
because of any or all of the three factors that determine best
price:
1. VTC
2. COSTS
3. PRICE SENSITIVITY
BUYING POWER – combination of their income and wealth
differs greatly between countries.

GRAY MARKET COMMERCE

- this is the practice of selling products through unauthorized
international distribution channels.
- is not illegal in most countries, but is unauthorized and
ethically questionable.
- also called “parallel importing”
BLACK MARKET- refers to commerce that is illegal.