Price and Pricing Decisions

In this article, we shall be covering the role of price in the marketing mix, for instance, what price is, how it can be used, and how it is set relative to such factors as product costs, market demand, and competitors’ prices. In particular, we will examine three major pricing, decision problems facing sellers. These involve how to: (a) set prices for the first time, (b) modify a product’s price over time and space to meet varying circumstances and opportunities, and (c) initiate and respond to price.

THE MEANING AND IMPORTANCE OF PRICE

Price is the amount of money
and/or other items with utility needed to acquire a product (utility is an
attribute that has the potential to satisfy wants). In this instance,
therefore, price may involve more than money. Note that exchanging goods and/or
services for other products in termed barter.

Prices can
take on a number of assumed names as indicated in Table 1 below:

Table: Other Names Assumed By Price

Assumed name	Where applied or operational
Tuition	Education
Interest	Use of money
Rent	Use of living quarters, or a piece of equipment for a period of time.
Fare	Taxi ride or airline flight
Fee	Services for a physician or lawyer
Retainer	Lawyer’s or Doctor’s Services over a period of time
Toll	Travel on some high-ways
Salary	Services of an executive or other white-collar work
Wage	Services of blue-collar worker
Commission	Sales person’s services
Dues	Membership in a union or a club
Premium	Services of insurance companies
Rate	Services of utilities
Honorarium	Service given by professionals.

 

From the
various assumed price names in the above table, you can see that price is
significant to an economy, to
an individual firm and in the mind of the consumer. We shall briefly examine each of these situations.

IMPORTANCE OF PRICE TO THE ECONOMY

A product price influences wages,
rent, interests, and profits. This means that a product’s price influences the
amounts paid for the factors of production, such as land, capital, and entrepreneurship.
We can therefore say that price is a basic regulator of the economic system
since it influences the allocation of the factors of production. For instance,
high wages attract labour, high-interest rates attract capital etc. As an allocator of resources, price determines what will be produced (i.e.
supply), as well as who will get the goods and services produced (i.e. demand).

IMPORTANCE OF
PRICE TO THE INDIVIDUAL FIRM

The product’s
price is a major determinant of the market demand for it. Hence price affects a firm’s competitive position
and its market share.
Consequently, the price has a considerable bearing on a company’s revenues and
net profits. For example, it is through prices that money comes into an
organization.

However,
several factors can limit how much effect pricing has on a company’s marketing
programme. For instance, factors such as differentiated product features, a
favourable brand, high quality, convenience, or some combination of these may
be more important to consumers than price.

IMPORTANCE OF PRICE IN THE CONSUMER’S MIND

In some cases, some consumers’
perceptions of product quality have a direct relationship with price. Hence, the
higher the price, the better the quality is perceived to be. In actual fact, a
lot of people hold this view, especial y when they are economical y okay. This
is the reason why some shoppers make price-quality judgments particularly
when they lack other information about product quality. In addition, consumers’
quality perceptions can also be influenced by such factors as store reputation and advertising.

THE ROLE OF PRICE IN THE MARKETING MIX

Price is the only element in the marketing mix that produces
revenue. All other elements-product, promotion,
and distribution are concerned with delivering value to the customer,
and by so doing, they represent costs. Price is also one of the most flexible
elements in the marketing mix. Unlike product features and channel commitments, the price can be adjusted quickly. At the same time, pricing and price competition
is the number one problem facing many firms. Observations have shown that many
firms do not handle pricing well enough. The most common mistakes include:

(i)       
Pricing that is too cost oriented;

(ii)      Prices
that are not revised often enough to reflect market changes;

(iii)   
Pricing that does not take the rest of the
marketing mix into account; and

(iv)    
Prices that are not varied enough for different
products, market segments, and purchase occasions.

We shall be looking at the factors
that must be considered when setting prices and at general pricing approaches.

FACTORS TO CONSIDER WHEN SETTING PRICES

A company’s pricing decisions
are affected both by internal company factors and external environmental factors. This is illustrated by figure 11.1

Figure
11.1: Factors Affecting Price Decisions

Internal factors: Marketing objectives Marketing mix strategy Costs

Organizational

Considerations

External
factors

Nature of the Market and demand Competition

Other environmental
factors (e.g. economy re-sellers, government)

Pricing

Decisions

INTERNAL FACTORS AFFECTING PRICING
DECISIONS

As already shown
in Figure 11.1, the internal factors affecting pricing include the company’s
marketing objectives,
marketing-mix strategy, costs, and organization. Let us examine each of
these.

MARKETING OBJECTIVES

The first thing to be done by a company is to decide what it
wants to accomplish with the particular product. For instance, if the company
has selected its target market and market positioning
carefully, then its marketing-mix strategy, including price, will be somehow straightforward.
For example, if the Nigerian Bottling Company wants to produce a special fruit
drink for the affluent-customer segment, this implies charging a high price. 

In this instance, pricing strategy is largely determined by the prior decision
on market positioning. The company may simultaneously seek additional
objectives. The clearer these objectives are,
the easier it is to set price. Each possible price will have a different impact
on
such objectives as profits, sales revenue, and market share. Examples of common
objectives are survival, current profit maximization, market-share leadership, and product, quality leadership.

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Let us look
at these objectives, one by one:

Survival: Firms set survival as their major objective if they are
troubled by over-capacity, stiff competition, or changing tastes of consumers. For instance, in
order to keep a factory going,
a firm may set a low price, with the hope that demand will subsequently increase.
Thus, profits are less important than survival. In as much as their prices
cover variable costs and
some fixed costs, the firm can stay in business. However, you should note that survival is only a short-term
objective. The firm must learn how to add value in the long run, otherwise, it
would close shop.

Current Profit Maximisation: Many
firms use current profit maximisation as their pricing goal. What they
usually do, is estimate what demand and costs will be at different prices
and choose the prices that will produce the maximum current profit, cash flow, or
return on investment. Thus, the firms are emphasizing current financial performance rather than
long-run performance.

Market-Share
Leadership. Some other firms set market-share leadership as their objective. The belief here is
that the firm with the largest market share will enjoy the lowest costs and
highest long-run profit. Hence, in order to become the market-share leader,
these firms set prices as low as possible. Product–Quality
Leadership: A firm might adopt the objective of being the product-quality leader in the market. As should be
expected, this normal y cal s for charging a high price to cover the high product quality and high cost of
research and development
(R & D).

Firms might also use price to achieve
other more specific objectives. For instance, a firm can set Prices low to
prevent competition from entering the markets, or set prices at competitor’s
level in order to stabilize the market. In addition, prices can be set to keep the
loyalty and support of re-sellers or to avoid government intervention. Prices
can be reduced temporarily to create excitement for a product or to draw more customers into a retail
store. Furthermore, one product
may be priced to help the sales of other products in the firm’s line. It is
thus very clear that pricing plays an important role in helping to accomplish
the firm’s objectives at several levels.

MARKETING-MIX STRATEGY

You should realize that price is just
one of the marketing-mix elements that firms use to achieve their marketing objectives. Price
decisions must be coordinated with the remaining three elements to form a
consistent and effective
marketing programme. Decisions made for other marketing-mix variables may
affect pricing decisions. For example, producers using many re­sellers who are
expected to support and promote their products may have to incorporate larger re-seller margins
into their prices. In addition, the decision to position the product on high-performance quality
will mean that the seller must charge a higher price to cover higher costs.

It is common for firms to make their
pricing decisions first and then base other marketing-mix decisions on the
prices they want to charge. In this case, price is a crucial product positioning factor that defines
the product’s market, competition, and design. Therefore, the intended price
determines what product features can be offered and what production costs
incurred.

Some firms often support such price-positioning strategies with a technique called target costing,
which is a potent strategic weapon. What is done in target costing is to reverse the usual process of first
designing a new product, determining its cost, and then arriving at an
appropriate price. Instead, it starts with a target cost and works backward.

Other
firms may decide to de-emphasize price and use other marketing-mix tools to
create non-price position. Often, the best strategy is not to charge the
lowest price, but rather to differentiate the
marketing offer to make it worth a higher price.

Generally, the
marketer needs to consider the total marketing mix when setting prices, for instance, if the product is positioned
on non-price factors, then decisions about quality, promotion, and distribution
will strongly affect the price. If it so happens that price is a crucial
positioning factor, then price will strongly affect decisions made about the
other marketing-mix
elements.

COSTS

Costs basically set the floor for the price that the firm can
charge for its product. Normally, a firm will want to charge a price that both covers all its costs for
producing, distributing, and selling the product and delivers a fair rate of
return for its efforts and risks. Hence, a firm’s costs may be an important
element in its pricing strategy. Usually, most firms struggle to become the “low-cost
producers” in their industries. This is based on the fact that companies with lower costs
can set lower prices, which then results in greater sales and profits.

A firm’s costs generally take two
firms, fixed and variable. Fixed costs (or overhead) are costs that do not vary
with production or sales levels. For example, a company must pay monthly bills
for rent, interest, salaries, whatever the company’s output.

Variable cost varies
directly with the level of production. These costs tend to be the same for each
unit produced.

Total costs are the sums of the fixed and variable costs for
any given level of production. Usually, management wants to charge a price that
will at least cover the total production costs at a given level of production.
The firm needs to watch its costs carefully. For instance, if it costs the firm more than competitors
to produce and sell its product, the firm will have to charge a higher price or make less profit,
thus putting it at a competitive disadvantage.

ORGANISATIONAL CONSIDERATION

It is the responsibility of a firm’s
management to decide who within the organization should set prices. Finns handle pricing in a variety
of ways. In small companies, for example, prices often are set by top management
rather than by the marketing or sales department. In larger companies, however,
pricing is generally handled by divisional or product line managers. In the
case of industrial markets, salespeople may be allowed to negotiate with customers
within certain price ranges. Even then, top management sets the pricing
objectives and policies, and it often approves the prices proposed by lower-level management or salespeople.