Brief contents of this article.
The main question is:
"What is price? How to set a price?"
Regarding the main topic and problem, we have found such subtopics (learning objectives):
1)What are the factors affecting price decisions? And how do those factors affect?
2)What could be pricing methods?
To support one's learning, here are listed some of the keywords of our problem:
Price. The expression of the value of the commodity in money is its price. It is the wide definition of a price by David Levine in "Economic Theory" book.
However, in marketing course we would be more focused on a price in context of a marketing mix, where price is regarded as an instrument to perform different strategies and obtain marketing goals. Price is a key concept in 4P, because it produces revenue and usually have direct correlation with demand on your product\services (if the elasticity is >0).
Fixed costs and Variable costs: The only difference between them is their relation to the output. Thus, fixed cost do not have a direct correspondance to output and have to be paid even if the firm produces zero, when variable cost are direclty volume-related. (Samuelson, 2010)
Gross profit: is the quanitive difference between revenue and COGS (costs of goods sold). Normally, this indicator is for intermediary use, but it could be also used in most simpliest business models to track profitability . Very important to see the difference between GP and Operating Profit, because gross profit calculation based on Variable costs.
Gross margin: is the percentage of Gross Profit in company's Revenue. Sometimes it is also called ROS on GP (Return on Sales on Gross Profit). It is exactly the same indicator as Gross Profit, but delivered in percents.
Cost-plus pricing: Manufacturer covers his expences and then surplus acceptable for his goals margin. This pricing developed on A.Smith work about Natural Value and Market value and later on D.Ricardo's Labor theory of value.
Value-based pricing : This approach takes into account actual value, which receive customer, how it benefit to him and cover his needs. It involves attaching value-added features and services to differentiate the company's offers and support charging higher prices ( Kotler , Armstrong 2010)
Price escalation: A disparity in pricing where goods have higher costs in a foreign market than in the domestic market due to transportation and exporting costs. Price escalation can also refer to the sum of cost factors in the distribution channels which add up to a higher final cost for a product in a foreign market. (Business Dictionary)
1)What are the factors affecting price decisions?
1.1. According to Lovelock, Wirtz, and Chew pricing strategy should be based on understanding of pricing objectives, in order to successfully implement company's goals.
Usually those objectives divided in two categories: direct to profitability(have impact on Revenue\Turnover\Profit,which are a prime cause of business itself), or inderect to profitability (such as patronage and User base objectives)
Objectives for prising:
-Gain profit
A)Make the largest possible contribution or profit
B)Achieve a specific target level, but do not seek to maximize profit
-Cover Costs
A) Cover fully allocated costs
B)Cover costs of providing one particular service
C)Cover incremental costs of selling one extra unit
-Build Demand
A)Maximize demand
B)Achieve full capacity utilization
-Build a User Base
A) Encourage trial and adoption of service
B)Build market share and/or a large user base
However, there are more Pricing objectives and they could vary, depending on objective depths and in combination with another objective or objectives:
Profit maximization
Market share leadership
Customer retention and relationship building
Attracting new customers
Opposing competitive threats
Increasing customer excitement
1.2. Moving further, Essentials of service and Marketing book suggests us idea, that Pricing strategy is based on costs , competition and value to customer. I would like to concentrate on the value, which I assume, to be the most important.
I would like to take a short look on philosophy, I believe that in context of Marketing, it would help to understand some of people's behavior, which could not be measured, but, from my perspective, should be taken into account.
The first wide known theory of value was discussed by Plato in the "Republic". His theory is very improtant, I think, and worth mentioning, because it lay base ground for later on theories related to Price and Pricing. Plato divides the value itself in two categories: Extrinsic and Intrinsic value. The difference between them is their purpose, are they supposed to be the end-in-themselves or interim to achieve something else. Later on John Dewey and Immanuel Kant developed his ideas, but this is less important, rather than it influenced different theories of value developed by Adam Smith, David Ricardo and Karl Marx.
As the summary, we could divide the value on objectivity and subjectivity basis and assume, that different players on market have their own vision of pricing.
Every enterpreneur receives money for his living for delivering a value to customers. Enterpreneur's goals to cover costs or stand out from competitors are secondary to "Value deliver" , because they are important only for himself and other enterpreneurs. What actually crucial for a customer is the Value. An those businesses, who aim to "beat competitors" and forget about customers are usually loose in competition. "Value-based pricing uses buyer's perception of value, not the seller's cost, as the key to pricing." (Kotler, Armstrong)
1.3.
In modern realities, there are external and internal factors for a business, which would or usually affect prices policy. Chapter 10 of Principles of Marketing book suggests such factors, as :
-Customer value
-Product Costs
-Internal – Company marketing objectives; marketing mix strategy and organizational factors
-External – The nature of market and demand, competition, the economy, reseller needs, and government actions.
However, there are more, such as Legal or Trade factors which could vary from one market to another.
3) Try to find some overall statistics and information about region to understand what your product should be? Is it a common or a luxury decoration solution for a limited auditory? Then what is the economical situattion in country? What are the trends? Decoration is not a "first need" (nessessity\inferior good) service, it could be rather a normal good (when population income changes, demand changes unsufficient) or luxury good (when population income increases, demand increases also).
4)Jamil should take price list of his Indian manufacturer and compare prices to local factories. Maybe they would have same products with same or lower prices and save money on transational costs, such as shipping, taxes, price escalation and many others.
5)The easy way to move forward in understanding customer is to track his competitors activity. Are there many similar shops in town? What are their prices and what variety of goods do they have? If there are no such stores, maybe they are closed due to unprofitability? And it is a reason to check again customer's perceptions? 6) Then Jamil also should divide his expences in two categories of Fixed and Variable costs and see their percentage to be able understand, how they would be covered by his Sales and find his store break-even point. In other words, how much of Gross profit he should receive mothly, to be able cover his Fixed costs and stay if not profitable, but at least not in losses.
7) What would be strategy? To grow slow, but have profits since the begginning or Jamil has some funds to be able stay unprofitable for some period of time, which would allow him to grow fast? Should he make one pricing for everyone or several pricing plans? Should he set average price or premium?
2.What could be pricing methods?
"Pricing methods are closely related to pricing objectives" (Blythe, Zimmerman).
There are three main groups : Cost based Pricing, Demand Based Pricing and Competition Oriented pricing and I would present three most widely used methods.
Cost based pricing:
-Mark-Up Pricing(cost plus pricing)
The selling price is fixed by adding Mark-up or Margin to its cost.
-Absorption cost pricing (full cost pricing)
It includes : Fixed cost, Variable cost + profit. It also takes into account selling\transactional costs and advertisement cost.
-Target rate of return pricing
This tactic is similar to the previous one, the difference is in fix profit margin, it is fixed by considering the ROI . Firm will have return objectives, like 5% of invested capital, or 10% of sales revenue. And then you arrange your price structure to achieve these target rates of return.
Demand based pricing
-What the traffic can bear
Setting maximum prices, which exceed customers expectations, but demand does not changes or changes insufficiently (elasticity less than 1). Those are situations of shortage in commodity\Monopoly\Oligopoly. In current realities this is almost impossible, because there are authorities, which track this situations and prevent them.
-Skimming pricing
Price skimming sees a company charge a higher price because it has a substantial competitive advantage.
-Penetration pricing
The price charged for products and services is set artificially low in order to gain market share. Once this is achieved, the price is increased.
Competition pricing:
– Premium pricing
Use a high price where there is a unique brand. This approach is used where a substantial competitive advantage exists and the marketer is safe in the knowledge that they can charge a relatively higher price.
– Differentiating Pricing
When company separate its products and make unique offering, based on place, customer groups or purchase volume. This pricing is refer to pricing discrimination originally.
– Parity Pricing/going rate pricing
When buyers pay the same price regardless of where they buy the product or from whom. Going-rate pricing is often used on commodity products such as wheat, gold, or silver. People perceive the individual products in markets such as these to be largely the same. Consequently, there’s a “going” price for the product that all sellers receive.
(Rajagopal, p 102)
CASE.
In this case Jamil decided to use "Premium pricing" from the beginning, which I believe is not suitable to his business, because he is a new player on market, and does not have a brand or trust credit from previous customers.
Depending on Jamal's situation, his funds, as I already mentioned earlier, he may choose Penetration prising, to widen amount of his customers and then later gain profits on return customers (of course, if his service is good) or he can try to set his target rate on investments and then narrow his clients profile, and make several client's groups (and services he is selling to those groups) , to implement Differentiating pricing for them and try to work in this constrained field.
Sources:
Smith, A. 1776 . An Inquiry into the Nature and Causes of the Wealth of Nations. Book 1, Chapter 7
Levine, D. ,2006. Economic Theory. Samuelson P, 2010. Economics , p.159Lovelock, C. Wirtz, J. & Lovelock, C. Wirtz, J.& Chew. 2013. Essentials of Services Marketing. London: Prentice Hall.
http://www.businessdictionary.com/definition/price-escalation.html#ixzz4JgcxGFyg
Kotler P., Armstrong G. 2010 . Principles of Marketing.Pearson Education,
Marketing Mix: Pricing Strategies, https://www.youtube.com/watch?v=H8aZr-Ula1w&feature=youtu.be
Blythe J., Zimmerman A.S., 2005. Business-to-business Marketing Management: A Global Perspective. Cengage Learning EMEA
Rajagopal, 2013. Marketing Decision Making and the Management of Pricing: Successful Business Tools. Idea Group Inc (IGI)
The main question is:
"What is price? How to set a price?"
Regarding the main topic and problem, we have found such subtopics (learning objectives):
1)What are the factors affecting price decisions? And how do those factors affect?
2)What could be pricing methods?
To support one's learning, here are listed some of the keywords of our problem:
Price. The expression of the value of the commodity in money is its price. It is the wide definition of a price by David Levine in "Economic Theory" book.
However, in marketing course we would be more focused on a price in context of a marketing mix, where price is regarded as an instrument to perform different strategies and obtain marketing goals. Price is a key concept in 4P, because it produces revenue and usually have direct correlation with demand on your product\services (if the elasticity is >0).
Fixed costs and Variable costs: The only difference between them is their relation to the output. Thus, fixed cost do not have a direct correspondance to output and have to be paid even if the firm produces zero, when variable cost are direclty volume-related. (Samuelson, 2010)
Gross profit: is the quanitive difference between revenue and COGS (costs of goods sold). Normally, this indicator is for intermediary use, but it could be also used in most simpliest business models to track profitability . Very important to see the difference between GP and Operating Profit, because gross profit calculation based on Variable costs.
Gross margin: is the percentage of Gross Profit in company's Revenue. Sometimes it is also called ROS on GP (Return on Sales on Gross Profit). It is exactly the same indicator as Gross Profit, but delivered in percents.
Cost-plus pricing: Manufacturer covers his expences and then surplus acceptable for his goals margin. This pricing developed on A.Smith work about Natural Value and Market value and later on D.Ricardo's Labor theory of value.
Value-based pricing : This approach takes into account actual value, which receive customer, how it benefit to him and cover his needs. It involves attaching value-added features and services to differentiate the company's offers and support charging higher prices ( Kotler , Armstrong 2010)
Price escalation: A disparity in pricing where goods have higher costs in a foreign market than in the domestic market due to transportation and exporting costs. Price escalation can also refer to the sum of cost factors in the distribution channels which add up to a higher final cost for a product in a foreign market. (Business Dictionary)
1)What are the factors affecting price decisions?
1.1. According to Lovelock, Wirtz, and Chew pricing strategy should be based on understanding of pricing objectives, in order to successfully implement company's goals.
Usually those objectives divided in two categories: direct to profitability(have impact on Revenue\Turnover\Profit,which are a prime cause of business itself), or inderect to profitability (such as patronage and User base objectives)
Objectives for prising:
-Gain profit
A)Make the largest possible contribution or profit
B)Achieve a specific target level, but do not seek to maximize profit
-Cover Costs
A) Cover fully allocated costs
B)Cover costs of providing one particular service
C)Cover incremental costs of selling one extra unit
-Build Demand
A)Maximize demand
B)Achieve full capacity utilization
-Build a User Base
A) Encourage trial and adoption of service
B)Build market share and/or a large user base
However, there are more Pricing objectives and they could vary, depending on objective depths and in combination with another objective or objectives:
Profit maximization
Market share leadership
Customer retention and relationship building
Attracting new customers
Opposing competitive threats
Increasing customer excitement
1.2. Moving further, Essentials of service and Marketing book suggests us idea, that Pricing strategy is based on costs , competition and value to customer. I would like to concentrate on the value, which I assume, to be the most important.
I would like to take a short look on philosophy, I believe that in context of Marketing, it would help to understand some of people's behavior, which could not be measured, but, from my perspective, should be taken into account.
The first wide known theory of value was discussed by Plato in the "Republic". His theory is very improtant, I think, and worth mentioning, because it lay base ground for later on theories related to Price and Pricing. Plato divides the value itself in two categories: Extrinsic and Intrinsic value. The difference between them is their purpose, are they supposed to be the end-in-themselves or interim to achieve something else. Later on John Dewey and Immanuel Kant developed his ideas, but this is less important, rather than it influenced different theories of value developed by Adam Smith, David Ricardo and Karl Marx.
As the summary, we could divide the value on objectivity and subjectivity basis and assume, that different players on market have their own vision of pricing.
Every enterpreneur receives money for his living for delivering a value to customers. Enterpreneur's goals to cover costs or stand out from competitors are secondary to "Value deliver" , because they are important only for himself and other enterpreneurs. What actually crucial for a customer is the Value. An those businesses, who aim to "beat competitors" and forget about customers are usually loose in competition. "Value-based pricing uses buyer's perception of value, not the seller's cost, as the key to pricing." (Kotler, Armstrong)
1.3.
In modern realities, there are external and internal factors for a business, which would or usually affect prices policy. Chapter 10 of Principles of Marketing book suggests such factors, as :
-Customer value
-Product Costs
-Internal – Company marketing objectives; marketing mix strategy and organizational factors
-External – The nature of market and demand, competition, the economy, reseller needs, and government actions.
However, there are more, such as Legal or Trade factors which could vary from one market to another.
CASE.
Here are some of my recommendations, what and in which order you should check, to be able set a fair pricing.
0) I think, that Jamil, as other young enterpreneurs, should define appropriate margin level for his venture. It would help him to be realistic about his business and see, if he is ready to work on it or is it better to be hired employee.
1) First thing, to set the pricing Jamil should check his postion in legal field. How much should he pay taxes? Are there any import restrictions? Are there any price regulations? It would be very depressing situation, if Jamil's planned margin level would be devoured all by taxes. It would also be negative, if his prices would be, for example too low and some of his competitors claim to authorities about artificial monopoly through demping. 2) It is very important define your client, make some work in STP (Segmentation, Targeting and Positioning) and to find out customers perception. Are there many indian shops or restaurants in town? Are people intrested in indian culture? What do they value in indian culture?
Here are some of my recommendations, what and in which order you should check, to be able set a fair pricing.
0) I think, that Jamil, as other young enterpreneurs, should define appropriate margin level for his venture. It would help him to be realistic about his business and see, if he is ready to work on it or is it better to be hired employee.
1) First thing, to set the pricing Jamil should check his postion in legal field. How much should he pay taxes? Are there any import restrictions? Are there any price regulations? It would be very depressing situation, if Jamil's planned margin level would be devoured all by taxes. It would also be negative, if his prices would be, for example too low and some of his competitors claim to authorities about artificial monopoly through demping. 2) It is very important define your client, make some work in STP (Segmentation, Targeting and Positioning) and to find out customers perception. Are there many indian shops or restaurants in town? Are people intrested in indian culture? What do they value in indian culture?
3) Try to find some overall statistics and information about region to understand what your product should be? Is it a common or a luxury decoration solution for a limited auditory? Then what is the economical situattion in country? What are the trends? Decoration is not a "first need" (nessessity\inferior good) service, it could be rather a normal good (when population income changes, demand changes unsufficient) or luxury good (when population income increases, demand increases also).
4)Jamil should take price list of his Indian manufacturer and compare prices to local factories. Maybe they would have same products with same or lower prices and save money on transational costs, such as shipping, taxes, price escalation and many others.
5)The easy way to move forward in understanding customer is to track his competitors activity. Are there many similar shops in town? What are their prices and what variety of goods do they have? If there are no such stores, maybe they are closed due to unprofitability? And it is a reason to check again customer's perceptions? 6) Then Jamil also should divide his expences in two categories of Fixed and Variable costs and see their percentage to be able understand, how they would be covered by his Sales and find his store break-even point. In other words, how much of Gross profit he should receive mothly, to be able cover his Fixed costs and stay if not profitable, but at least not in losses.
7) What would be strategy? To grow slow, but have profits since the begginning or Jamil has some funds to be able stay unprofitable for some period of time, which would allow him to grow fast? Should he make one pricing for everyone or several pricing plans? Should he set average price or premium?
2.What could be pricing methods?
"Pricing methods are closely related to pricing objectives" (Blythe, Zimmerman).
There are three main groups : Cost based Pricing, Demand Based Pricing and Competition Oriented pricing and I would present three most widely used methods.
Cost based pricing:
-Mark-Up Pricing(cost plus pricing)
The selling price is fixed by adding Mark-up or Margin to its cost.
-Absorption cost pricing (full cost pricing)
It includes : Fixed cost, Variable cost + profit. It also takes into account selling\transactional costs and advertisement cost.
-Target rate of return pricing
This tactic is similar to the previous one, the difference is in fix profit margin, it is fixed by considering the ROI . Firm will have return objectives, like 5% of invested capital, or 10% of sales revenue. And then you arrange your price structure to achieve these target rates of return.
Demand based pricing
-What the traffic can bear
Setting maximum prices, which exceed customers expectations, but demand does not changes or changes insufficiently (elasticity less than 1). Those are situations of shortage in commodity\Monopoly\Oligopoly. In current realities this is almost impossible, because there are authorities, which track this situations and prevent them.
-Skimming pricing
Price skimming sees a company charge a higher price because it has a substantial competitive advantage.
-Penetration pricing
The price charged for products and services is set artificially low in order to gain market share. Once this is achieved, the price is increased.
Competition pricing:
– Premium pricing
Use a high price where there is a unique brand. This approach is used where a substantial competitive advantage exists and the marketer is safe in the knowledge that they can charge a relatively higher price.
– Differentiating Pricing
When company separate its products and make unique offering, based on place, customer groups or purchase volume. This pricing is refer to pricing discrimination originally.
– Parity Pricing/going rate pricing
When buyers pay the same price regardless of where they buy the product or from whom. Going-rate pricing is often used on commodity products such as wheat, gold, or silver. People perceive the individual products in markets such as these to be largely the same. Consequently, there’s a “going” price for the product that all sellers receive.
CASE.
In this case Jamil decided to use "Premium pricing" from the beginning, which I believe is not suitable to his business, because he is a new player on market, and does not have a brand or trust credit from previous customers.
Depending on Jamal's situation, his funds, as I already mentioned earlier, he may choose Penetration prising, to widen amount of his customers and then later gain profits on return customers (of course, if his service is good) or he can try to set his target rate on investments and then narrow his clients profile, and make several client's groups (and services he is selling to those groups) , to implement Differentiating pricing for them and try to work in this constrained field.
Sources:
Smith, A. 1776 . An Inquiry into the Nature and Causes of the Wealth of Nations. Book 1, Chapter 7
Levine, D. ,2006. Economic Theory. Samuelson P, 2010. Economics , p.159Lovelock, C. Wirtz, J. & Lovelock, C. Wirtz, J.& Chew. 2013. Essentials of Services Marketing. London: Prentice Hall.
http://www.businessdictionary.com/definition/price-escalation.html#ixzz4JgcxGFyg
Kotler P., Armstrong G. 2010 . Principles of Marketing.Pearson Education,
Marketing Mix: Pricing Strategies, https://www.youtube.com/watch?v=H8aZr-Ula1w&feature=youtu.be
Blythe J., Zimmerman A.S., 2005. Business-to-business Marketing Management: A Global Perspective. Cengage Learning EMEA
Rajagopal, 2013. Marketing Decision Making and the Management of Pricing: Successful Business Tools. Idea Group Inc (IGI)
