CHAPTER 5

PRICING IN INTERNATIONAL MARKETING

 Introduction

• Price is an integral part of a product – a product cannot exist

without a price.
• It is difficult to think or talk about a product without considering
its price.
• Price is important because it affects demand, and an inverse
relationship between the two usually prevails.
• Price also affects the larger economy because inflation is caused
by rapid price increases.
• Yet among the marketing decision variables, price has received
the least attention.
• “The export-pricing literature is characterized by a distinct lack
of sound theoretical and empirical works
 Contd.
• International pricing is one of the most critical and complex issues
that a firm faces.
• Price is the only marketing mix element that creates revenue, while
all the others entail costs. Price is the money or other considerations
(including other goods and services) exchanged for the ownership or
use of a good or service.
• From the consumer point of view, price is used to indicate value
when it is paired with the perceived quality of a product or service.
• Value can be defined as the ratio of perceived value to price. The
relationship shows that for a given price, as perceived quality
increases, value increases too.
• For some products, the price itself influences the perception of
quality and the value to consumer.
 Factors affecting international pricing decisions

• The factors affecting pricing internationally can be grouped in

three categories.
1 Company factors
• Company objectives and policies. When developing a pricing
strategy a company has to decide what it wants to accomplish
with this strategy.
• A company’s pricing objectives should take into
consideration the marketing objectives, and these in turn are
based on the overall company strategy.
 Contd.
• The company’s objectives will vary from one market to
another and they will also vary in time, as marketers have to
adjust their objectives both financial (return on investment)
and marketing-related (market share) according to the foreign
market conditions.
• We have seen that pricing takes place based on the company’s
objectives (such as maximizing current profits or projecting a
premium image), but the pricing may also influence the
overall strategic decisions of the company (based on price a
company may decide to produce locally rather than export in a
country).
 Contd.
• Costs are often a major factor in price determination, because
they provide a floor under which prices cannot go in the long
run.
• The company wants to set a price that will at least cover the
costs needed to make and sell its products.
• Therefore, the structure of the costs becomes important.
• We know that the company costs consist of two parts: the
variable costs (which change with the sales volume) and the
fixed costs (which do not vary with the sales volume).
 2. Market factors

• Competition and market structure represents another key

factor in international price setting.
• The differences in the competitive situation across countries
usually lead to cross border price differentials.
• Also the prices of competitors’ products (the substitute
products for the consumer) have an impact on the sale volume
attained by the international company.
• The decision the company has to take is whether to price
above, at the same level or below the competition.
 Contd.
• Any price differential from competitors has to be justified in
the minds of consumers by a differential in utility, namely
perceived value.
• The closer the substitutability of products, the closer prices
should be.
• The firm must price the product more competitively if there
are other sellers in the market.
• A firm entering an oligopoly market where only few sellers
dominate the industry, will be under pressure to keep its prices
in line with the existing firms.
 Contd.
• Customer demand and income levels are important elements to be
taken into consideration when setting the price.
• While the costs set the floor for the price, the consumer’s perceived
value attached to the product will set the ceiling/upper limit of the
price.
• Consumer demand depends on the buying power (correlated with
the income level), the tastes and habits of consumers, their lifestyles
and substitutes.
• The income level and the buying power is a key aspect in
determining the price.
• The relationship between price and demand is expressed in the
concept of the elasticity of demand, which measures how responsive
is the demand to a change in price.
 Contd.
• In the countries where the per capita income is low, consumers
are very price-sensitive.
• Practicing premium prices is difficult in such countries,
therefore an option is considered to be to go for the mass
market by adjusting the product (downsizing or lowering the
quality of the product).
• Distribution channel: When setting the prices the
international marketer has to consider distribution channels,
too, besides the consumers.
• The distribution costs add up to the production costs and will
increase the final price to the consumer.
• Distribution costs are function of channel length, gross margin
the practice and logistics.
 3. Environmental factors

• Regulations and government policies have both a direct and

an indirect impact on pricing policies.
• Factors that have a direct impact on pricing policies include
taxes rates (such as the value added taxes) and tariffs’ levels,
import licenses and antidumping legislation.
• Tariff levels differ from country to country. In countries where
there are high custom duties and the price elasticity is high,
the price might have to be set at lower levels if the product is
to achieve a satisfactory sales volume.
• Consequently, profitability will be low in these countries.
 Contd.
• Also when import duties in a country are high on finished
products, but relatively lower for component parts and
materials, it might be an incentive to produce or assemble
locally.
• Import licenses are issued by some governments, when they
consider that prices are too low or too high.
 Contd.
• Antidumping regulations are found in most industrialized
countries.
• Dumping has been defined as the practice of selling in foreign
markets at prices below those in the domestic market or below
the production cost.
• Antidumping legislation is enacted by countries that wish to
protect certain local industries from price fluctuations that
would disrupt local production.
• Exchange rates movement is one of the most unpredictable
factors affecting pricing.
• As the exchange rates move up and own, they affect all
producers.
 Contd.
• A company’s costs are often calculated in the domestic
currency and as this currency weakens it means that the
company’s goods are cheaper in another currency.
• This can represent a new opportunity as prices in foreign
markets are reduced and sales and market share can be kept or
increased.
• The companies that produce in countries with appreciating
currencies have more difficult situations.
 Contd.
• Inflation rate is another major variable that can affect the cost
and the pricing of a product.
• First countries have different inflation rates and second
inflation varies over time.
• In stable economies inflation rate is single digit inflation (in
most EU countries inflation rate is between 0-2%) while in
instable economies inflation rate can go up to several hundred
or even thousands (it was the case of Brasil in 1980’s).
• In such highly inflationary environments the company has to
adjust the prices permanently to keep up with inflation, in this
way product may turn out to be more expensive.
 Contd.
• Price controls. In some countries governments regulate and
control prices either for the entire economy of for specific
industries (such as health, education, food and other essential
items).
• The justifications for price control are mainly political, but
also economical: the purpose is to stop inflation and the
accelerating wage-price spiral, as well as to protect consumers.
• In such markets the company functions as in a regulated
industry.
 Contd.
Company representatives usually sustain that there are a number
of negative consequences to price controls:
 the maximum price often becomes the minimum price if a
sector is allowed to price increase, because all business in the
sector will take it regardless of cost justification,
 the wage-spiral advances highly in anticipation of price
controls, labour often turns against price restrictions because
they are usually accompanied by salary restrictions, authorities
raise less taxes because less money is made.
 Pricing strategies

• International pricing is influenced as we have seen by a

number of factors: it starts from the companies’ objectives, is
developed through the company policy, is based on product
cost and its structure and takes into consideration
environmental factors.
• The main alternatives when choosing one way or another of
pricing are presented further.
 A. Standardized or adapted pricing

• Can price be standardized? Can we set a uniform price in all

countries?
• The price is not the same because the purchasing power differs
from one country to another.
• To conclude, we cannot standardize price in nominal terms,
due to differences in incomes and purchasing power,
positioning of the product in different countries, due to
product life cycle (the product might be in different stages in
different countries requiring therefore a different price).
 Contd.
• When we talk about standardizing prices we have to
distinguish the idea of standardizing prices versus
standardizing price policies.
• We cannot standardize prices, but we can standardize pricing
policies.
• We just have to retain that standardizing price is not the same
as standardizing pricing policies.
• We can say that our strategy is to have a competitive price in
all markets, to sell the product at a low price and to position it
as a mass product and we will set the price to whatever this
means in each country.
 B. Full cost pricing or marginal pricing?

• The full cost pricing strategy is also called the cost-plus

pricing.
• This approach adds the international costs and a mark up at the
domestic manufacturing costs.
• In other words, the overseas customers pay for the total
production cost of the product (including the fixed costs), as
well as for the marketing costs and logistical costs of selling
the product abroad.
• In many cases this method leads to very high prices for the end
user, making the product uncompetitive in some instances.
 Contd.
• The marginal cost pricing is also known as the dynamic
incremental pricing.
• Through this method the price is set based on only variable
costs for production and the exporting costs for the product in
other words the costs incurred for the production of that
particular item, based on the judgment that the overheads are
recuperated from the previous products.
• The actual cost floor can be somewhere between direct costs
and the full cost.
• If the export price is much lower than the domestic price (due
to non-inclusion of fixed costs) dumping accusations might be
triggered from the export market.
 Contd.
• Among the reasons for pricing exports at less than the full
price are: to assist a dealer organization to grow, to keep a
group of employees working together, to sell a special product
outside the usual export line, orders for large volumes, the
export customer provides his own installation and services and
when incremental sales may result.
• On the short run when the company has excess capacity, prices
can be set only on direct costs, such as labour, raw materials,
shipping, but on the long run prices should recover full cots.
 Contd.
• If the export price is much lower than the domestic price (due
to non-inclusion of fixed costs) dumping accusations might be
triggered from the export market.
• Among the reasons for pricing exports at less than the full
price are: to assist a dealer organization to grow, to keep a
group of employees working together, to sell a special product
outside the usual export line, orders for large volumes, the
export customer provides his own installation and services and
when incremental sales may result.
• On the short run when the company has excess capacity, prices
can be set only on direct costs, such as labour, raw materials,
shipping, but on the long run prices should recover full cots.
 C. Skimming or penetration pricing?

• A company may enter new markets either using high prices or

low prices.
• The skimming strategy consists of selling products at high
prices in a new market, based on the idea that you are selling a
new product, an innovative product and you can maximize
your profits until the competition enters the market.
• This strategy can be used in those countries where there are
only two income level groups: the wealthy and the poor.
• The poor cannot buy the product because its cost is higher
than the price they can afford to pay and you address the
wealthy segment that is usually in-sensitive to prices.
 Contd.
• The strategy is used in the introduction phase of the product
life cycle, by limiting the demand to the early adopters who
are willing to pay the price.
• The goals of this pricing strategy are on the one hand to
maximize revenue on limited volume and on the other hand to
reinforce the customers’ perceptions of high quality, the price
being part of the positioning strategy.
 Contd.
• The penetration strategy: In this case the objective is to
“penetrate” the market, to get a good market share, to cover
the market well in a short period of time and it is done by
selling the product at low prices.
• Obtaining the high market share in a short period of time will
compensate for a lower per unit return.
• This approach usually requires mass markets, price sensitive
customers and decreasing production and marketing costs as
the sales volume increase.
 Forms of the penetration strategies

 Expansionistic pricing means that the price goes much lower

in order to get a larger percentage of customers who are
potential buyers at very low prices.
 The pre-emptive pricing means to set the prices so low in
order to discourage competition, the price level being close to
the total unit cost.
 The extinction pricing has the purpose to eliminate existing
competitors from international markets, by again setting very
low prices, close or under the total unit cost.
The strategy may be adopted by large low-cost producers with
the purpose of driving weaker marginal and small producers in
the industry.
 Contd.
• Whatever the pricing strategy the company uses, the one
who finally decides what is the right price is the consumer.
• He sets the price at the level he perceives, he receives value
for the money paid (for that price).
• Companies from different countries can use different
strategies in setting the price for their products.
• An important aspect when setting the export price
internationally is the price quotation.
• Different levels of prices can be used when exporting
according to who pays the transportation, handling and
insurance costs.
 Specific aspects in international pricing

• Price escalation occurs when the price in the foreign market

ends up higher than the price in the domestic market due to
transportation costs, local taxes, custom duties, distribution
margins, export documentation charges, insurance etc.
• Transportation costs are important because international
marketing requires shipments of products over long distances.
• The contribution of transportation costs to the final price
depends on the type of product.
 Contd.
• High technology products are less sensitive to transportation
costs than standardized consumer goods or commodities.
• For expensive goods (such as computers and electronic
instruments) transportation costs usually represent only a
small fraction of total costs and rarely influence pricing
decisions, while for commodities, transportation costs
represent a higher percentage from the total costs and can
decide who gets an order.
• Tariffs and local taxes also add to the domestic costs.
• Administrative costs consist of fees for imports certificates
or export or import licenses and other documents.
 Contd.
• Distribution channel costs. Every time the product goes down
the channel towards the consumer, somebody gets a
commission every time the product changes hands there are
more taxes paid (VAT), there are added more margins and the
product gets more expensive.
 Ways to lessen price escalation

1. Rearrange the distribution channel

• Distribution channels are often responsible for price
escalation, either due to the length of channel or the high
margins practiced by intermediaries.
• One way to lower export prices is to shorten the channel and
to try to negotiate with intermediaries lower margins.
Obtaining lower margins from distributors is possible only
when a large part of their business depends on the company’s
product.
 2. Lower the production costs for foreign markets

• There are a few ways how the company can lower production costs
for foreign markets:
A. By using different materials (cheaper materials) of lower quality
and a lower price.
B. By eliminating costly features or make them optional. A company
can offer in a foreign market a core product and all other features to
become optional.
• Such an example is represented by the automobiles, that in some
markets have a lot of expensive features (such as central locking,
leather sofa, air conditioning, etc) optional.
• The customers buy the core product and they can decide if they
want to pay extra or not for the optional features.
C. By down-sizing the product. Another option would be to downsize
the product by offering a smaller version of the product or less
content.
 3. Assemble or manufacture the product in foreign
markets

• A closer proximity to the customer will lower the

transportation costs.
• But it is not necessary to manufacture in the export market.
• Another argument in favor of assembling goods in a foreign
market would be that usually taxes for raw materials and part
components are lower than for manufactured goods, so it is
more advantageous to import part components than finished
goods.
 4. Lowering tariffs:

A. If the production costs are lowered, that will also mean lower
tariffs as the tax will be applied to a lower value.
B. Modify slightly the product so that it can be reclassified into a
different lower tariff classification or simply trying to
persuade the custom officer to classify it under a lower tariff
category.
C. Repackaging may be a solution to lower custom duties when
the taxes differ for different sizes of the package.
In USA tequila bottled in larger bottles is taxed half than in the
smaller bottles, so the product was rebottled in larger
recipients in order to lower the custom duty.
 5. Using free trade zones or free ports when possible

• There are more than 300 free trade zones in the world: In a
free trade zone, the payment of the import duties is postponed
until the product leaves the free trade zone and either enters
the country or is exported to a third country.
• Dumping is an important global pricing strategy issue.
• Dumping is defined differently by various economists as well
as by different governments, either as prices below cost of
production or prices below the price of the same goods in the
home market. In many cases dumping is defined as an unfair
price.
 Contd.
There are a number of causes for dumping, among which the
most frequent are:
• Subsidies from government in production.
• Subsidies from government in export.
• Subsidies from government in transport.
• Pricing on marginal cost.
 Contd.
• Counter trade is a pricing tool that involves some form of
non-cash compensation.
• Counter trade comes in a few forms, some of them that
involve cash compensations and some others that do not
involve the use of money.
• Forms that do not involve any type of cash payments are
barter, clearing agreements and switch trading, while forms
that involve some use of money are product buy-back,
compensation, counter purchase and offset as presented in
table
Types of counter trade
 Non-cash counter trade forms

• Barter is a direct exchange of goods between two parties: one

product is exchanged for another product without the use of
money.
• Clearing agreements: Under this form two governments agree
to import a specified value of preset goods from one another
over a given period of time.
• Each party sets up an account that is debited whenever goods
are traded.
• Imbalances at the end of the contract period are cleared
through payment in goods (and sometimes can be in hard
currency too).
 Contd.
• Switch trading. This is a variant of the clearing agreements,
where a third party is involved.
• The right to the surplus credits between the two governments
is sold to specialized traders (switch trader) at a discount. The
third party then uses the credits to buy goods from the deficit
country.
• Transfer pricing. A substantial amount of global business
takes place between subsidiaries of the same company.
• It is estimated that one third of the world trade volume takes
place among the largest eight hundred multinationals.
 Contd.
• The pricing of goods and services bought and sold by
operating units or divisions of a single company represent the
transfer pricing.
• So, transfer prices (or the intra-company prices) are prices
used in transactions between buyers and sellers that have the
same corporate parent.
• How these prices are set is a major issue for international
companies and governments.
 Contd.
• Transfer prices can create problems because they are not
determined in the market place through the interaction of
willing buyers and sellers and this can result in a situation
where foreign transfer prices are set at a level that does not
reflect a fair value.
• Due to a number of factors related to the context in which
multinational companies operate, transfer prices are used to
manipulate profits, duties and incomes of the company.
 Factors influencing transfer pricing

1. Market conditions in the foreign country

2. Competition in the foreign country
3. Reasonable profit for the foreign affiliate
4. Economic conditions in the foreign country
5. Import restrictions
6. Custom duties
7. Price controls
8. Taxation in the foreign country
9. Exchange controls
 Contd.
• Different tax, tariff or subsidy policies in different countries
invite to the manipulation of transfer prices.
• By accumulating more profits in a low-tax country, a company
lowers its overall tax bill and thus increases profit.
• At the same time the company is interested to minimize
income in high tax countries.
• The higher the duty rates, the higher the incentive to reduce
transfer prices, so that to minimize the custom duties.
• There are a number of reasons for which multinational
companies use transfer prices in their favor.
 Contd.
• Among those we present the most frequent ones:
1. To minimize tax liabilities. Given the different level of
taxation, companies will try to maximize profits in low
income countries and to minimize profits in high income
countries.
A. From countries with low income taxes: transfer prices are
set high for goods and services sold from countries with
lower corporation tax to another subsidiary of the firm in a
high tax country.
• By transferring (selling) the goods at high prices the
company gets high income that is taxed low, while the
partner company in the high income country to which the
goods are transferred have higher costs (by buying at high
prices) and get less income to be taxed.
 Contd.
B. From countries with a high corporation tax: transfer pries
are set low for goods and services transferred from countries
with high corporation tax to a country with a low corporation
tax.
• By transferring (selling) the goods at low prices, companies
are obtaining low incomes and consequently low profits to be
taxed in a high tax country.
• At the same time the companies from low tax countries to
which products are transferred at low prices get large incomes
that are low taxed.
Minimizing tax liabilities
2. To avoid host country government regulation

• If the foreign government places restrictions on the

repatriation of dividends, interests or royalties, the company
can manipulate again the transfer prices in order to shift funds
out.
• Usually it is the case of developing countries that have such
restrictions and from where multinational are willing to
transfer the funds.
• A. From the developing country (with restrictions). The
goods will be transfer from the developing country to another
country by setting low transfer prices.
• In this way the company does not accumulate high income and
high profits in a country from which it is difficult to repatriate.
 Contd.
B. From the developed country
• The goods will be transferred from the developed country to
the developing country at high prices that represent high costs
of acquisition for the company in the developing country, and
at the same time money (costs paid) get out of the country.
3. Reduce tariff duties (when they are ad valorem)
• Goods are transferred to countries with high tariffs at low
transfer prices, so that lowering the value of goods and
services and paying a lower tariff.
 Contd.
4. Avoid sharing profits. When the company has a form of a
joint venture and not a wholly owned subsidiary in a
foreign country, does not want to share the profits with the
foreign partner.
• In these cases there is an incentive for companies to
transfer goods and services in subsidiaries that are joint
ventures in foreign countries at high prices, involving high
costs for the company and therefore less profit to be shared
with the local partners.
• A low transfer price towards a subsidiary that is a joint
venture would mean that profits obtained have to be shared.
There are a number of methods that
multinational use to set the transfer prices.
A. The market based transfer pricing: uses the market
mechanism as a cue for setting transfer pricing. Such prices
are usually referred to as arm’s length prices, meaning that
the company charges the price that any buyer, any third party
from outside the company would be charged.
B. The non-market based transfer pricing: comprises various
policies that deviate from the market based pricing. Among
those the most well known are:
a. cost based pricing
b. the negotiated pricing.
 Contd.
a. Negotiated prices can be set at any levels and can solve any of
the multinational’s problem from the ones mentioned above.
b. The cost based pricing can also be done in at least three
different ways, all having at starting point the cost, but
different levels of costs:
1. Based on the manufacturing cost, when the transfer price is
set at the level of the production cost.
2. Cost plus approach:
Local manufacturing cost plus a standard mark-up
Cost of most efficient producer plus standard mark-up
The End