CH-13 Creating and Pricing Products that Satisfy Customers – Business : Chapter Notes

CHAPTER 13 Creating and Pricing Products That Satisfy Customers 13.1 A WORD FROM THE AUTHORS In this chapter, we examine basic concepts and definitions for the first two elements in the marketing mix: product and price. Since a product’s classification largely determines appropriate pricing, distribution, and promotion, we begin by analyzing several categories of consumer and business products. We outline the four stages of a product’s life-cycle—introduction, growth, maturity, and decline—and consider the three major approaches for changing the product mix. Then, we examine the steps in new-product development and discuss branding, packaging, and labeling. Next, we focus on pricing. We explain the function of pricing, noting that supply and demand, along with various competitive factors, play a part in determining price. We also consider several objectives of pricing and examine the effectiveness of cost-based, demand-based, and competition-based pricing in reaching those objectives. The discussion of pricing strategies includes new-product and psychological strategies directed primarily at consumers and geographic pricing and discounting, which are more applicable to organizational buyers. 13.2 TRANSITION GUIDE New in Chapter 13: Creating and Pricing Products That Satisfy Customers • A new Inside Business feature describes how PepsiCo launches innovative new products. • New examples about the stages of the product life-cycle have been added to the section “Stages of the Product Life-Cycle.” • A new example about how Kraft extended the life of Jell-O has been added to the section “Using the Product Life-Cycle.” • Statistics have been updated in the section “Product Line and Product Mix.” • A new example about how General Mills has a large product mix has been added to the section “Managing the Product Mix.” • New examples have been added to the section “Managing Existing Products.” • A new example about how T-Mobile deletes products that are not profitable has been added to the section “Deleting Products.” • Updated statistics and examples have been added to the section “Developing New Products.” • A new Entrepreneurial Success feature, “Yak to the Future: From the Himalayas to the World,” describes how the company is using natural materials and ethical sourcing of raw materials. • Table 13.2 has been updated with the most recent examples of product failures. • New examples have been added to the section “Benefits of Branding.” • Table 13.3, “Top Ten Most Valuable Brands in the World,” has been updated with names and statistics. • The Career Success feature, “Building Your Personal Brand,” has been deleted. • A new Social Media feature, “Social Networking for Success: Small Businesses Turn to Social Media for Effective Marketing,” describes how AJ Bombers uses social media effectively for its business. • New examples have been added to the section “Brand Extensions.” • The Sustaining the Planet feature, “Sustainable Packaging Coalition,” has been deleted. • A new example about Starbucks holding its annual Cup Summit has been added to the “Package Design Considerations” section. • New examples have been added to the “Labeling” section. • New examples have been added to the section “Price and Non-Price Competition.” • Updated statistics have been included in the “Survival” section. • New examples have been added to the section “Demand-Based Pricing.” • A new Ethical Success or Failure? feature, “Amazon’s Price-Check App: Is this OK?,” describes how Amazon effectively uses price-check applications. • The Entrepreneurial Success feature, “New Day, New Deal,” has been deleted. • The Spotlight feature, “Which Online Content Are People Willing to Pay For?,” has been deleted. • A new Return to Inside Business about PepsiCo has been provided at the end of the chapter. • A new Case 13.2, “Will the “G” Branding Initiatives for Gatorade Work?,” has been added. • The Building Skills for Career Success section contains a new Social Media Exercise. • The Exploring the Internet feature in Building Skills for Career Success has been deleted. 13.3 QUICK REFERENCE GUIDE Instructor Resource Location Transition Guide IM, pp. 465–466 Learning Objectives Textbook, p. 357; IM, p. 468 Brief Chapter Outline IM, pp. 468–470 Comprehensive Lecture Outline IM, pp. 470–488 At Issue: Do marketers push products that people don’t really need? IM, p. 478 Entrepreneurial Success Yak to the Future: From the Himalayas to the World Textbook, p. 366 Social Media Social Networking for Success: Small Businesses Turn to Social Media for Effective Marketing Textbook, p. 372 Ethical Success or Failure? Amazon’s Price-Check App: Is This Ok? Textbook, p. 381 Inside Business PepsiCo’s Pantry of Billion-Dollar Brands Textbook, p. 358 Return to Inside Business Textbook, p. 387 Questions and Suggested Answers, IM, p. 489 Marginal Key Terms List Textbook, pp. 388–389 Review Questions Textbook, p. 389 Questions and Suggested Answers, IM, pp. 489–492 Discussion Questions Textbook, p. 389 Questions and Suggested Answers, IM, pp. 493–494 Video Case 13.1 (From Artistic Roots, Blu Dot Styles Marketing Strategy) and Questions Textbook, p. 390 Questions and Suggested Answers, IM, pp. 494–495 Case 13.2 (Will the “G” Branding Initiatives for Gatorade Work?) and Questions Textbook, pp. 390–391 Questions and Suggested Answers, IM, pp. 495–496 Building Skills for Career Success Textbook, pp. 391–392 Suggested Answers, IM, pp. 496–497 IM Quiz I & Quiz II IM, pp. 498–500 Answers, IM, pp. 500–501 Classroom Exercises IM, pp. 501–503 13.4 LEARNING OBJECTIVES After studying this chapter, students should be able to: 1. Explain what a product is and how products are classified. 2. Discuss the product life-cycle and how it leads to new-product development. 3. Define product line and product mix and distinguish between the two. 4. Identify the methods available for changing a product mix. 5. Explain the uses and importance of branding, packaging, and labeling. 6. Describe the economic basis of pricing and the means by which sellers can control prices and buyers’ perceptions of prices. 7. Identify the major pricing objectives used by businesses. 8. Examine the three major pricing methods that firms employ. 9. Explain the different strategies available to companies for setting prices. 10. Describe three major types of pricing associated with business products. 13.5 BRIEF CHAPTER OUTLINE I. Classification of Products A. Consumer Product Classifications B. Business Product Classifications II. The Product Life-Cycle A. Stages of the Product Life-Cycle 1. Introduction 2. Growth 3. Maturity 4. Decline B. Using the Product Life-Cycle III. Product Line and Product Mix IV. Managing the Product Mix A. Managing Existing Products 1. Product Modifications 2. Line Extensions B. Deleting Products C. Developing New Products 1. Idea Generation 2. Screening 3. Concept Testing 4. Business Analysis 5. Product Development 6. Test Marketing 7. Commercialization D. Why Do Products Fail? V. Branding, Packaging, and Labeling A. What Is a Brand? B. Types of Brands C. Benefits of Branding D. Choosing and Protecting a Brand E. Branding Strategies F. Brand Extensions G. Packaging 1. Packaging Functions 2. Package Design Considerations H. Labeling VI. Pricing Products A. The Meaning and Use of Price B. Supply and Demand Affects Prices C. Price and Non-Price Competition D. Buyers’ Perceptions of Price VII. Pricing Objectives A. Survival B. Profit Maximization C. Target Return on Investment D. Market-Share Goals E. Status-Quo Pricing VIII. Pricing Methods A. Cost-Based Pricing B. Demand-Based Pricing C. Competition-Based Pricing IX. Pricing Strategies A. New-Product Pricing 1. Price Skimming 2. Penetration Pricing B. Differential Pricing 1. Negotiated Pricing 2. Secondary-Market Pricing 3. Periodic Discounting 4. Random Discounting C. Psychological Pricing 1. Odd-Number Pricing 2. Multiple-Unit Pricing 3. Reference Pricing 4. Bundle Pricing 5. Everyday Low Prices (EDLPs) 6. Customary Pricing D. Product-Line Pricing 1. Captive Pricing 2. Premium Pricing 3. Price Lining E. Promotional Pricing 1. Price Leaders 2. Special-Event Pricing 3. Comparison Discounting X. Pricing Business Products A. Geographic Pricing B. Transfer Pricing C. Discounting 13.6 COMPREHENSIVE LECTURE OUTLINE A product is everything that one receives in an exchange, including all tangible and intangible attributes and expected benefits. A product may be a good, a service, or an idea. A good is a real, physical thing that we can touch. A service is the result of applying human or mechanical effort to a person or thing. An idea may take the form of philosophies, lessons, concepts, or advice. I. CLASSIFICATION OF PRODUCTS. Different classes of products are directed at particular target markets. A product’s classification largely determines what kinds of distribution, promotion, and pricing are appropriate in marketing the product. Products can be grouped into two general categories: • Consumer products are products purchased to satisfy personal and family needs. • Business products are products bought for use in a firm’s operations or to make other products. A. Consumer Product Classifications. Consumer products are further classified based on characteristics of buyers’ purchasing behavior. 1. A convenience product is a relatively inexpensive, frequently purchased item for which buyers want to exert only minimal effort. 2. A shopping product is an item for which buyers are willing to expend considerable effort on planning and making the purchase. a) Buyers allocate ample time for comparing stores and brands with respect to prices, product features, qualities, services, and warranties. b) These products are expected to last for a fairly long time and thus are purchased less frequently than convenience items. 3. A specialty product possesses one or more unique characteristics for which a significant group of buyers is willing to expend considerable purchasing effort. a) Buyers actually plan the purchase of a specialty product; they know what they want and will not accept a substitute. b) In searching for specialty products, purchasers do not compare alternatives. Teaching Tip: Use the “What’s My Class?” group activity here. Students will classify the products listed in the handout, which should take no more than five minutes. B. Business Product Classifications. Business goods can be classified into seven categories based on their characteristics and intended uses. 1. A raw material is a basic material that actually becomes part of a physical product and usually comes from mines, forests, oceans, or recycled solid wastes. 2. Major equipment includes large tools and machines used for production purposes. Some major equipment is custom-made for a particular organization, but other items are standardized products. 3. Accessory equipment is standardized equipment that generally can be used in several ways within a firm’s production or office activities. 4. A component part becomes part of the physical product and is either a finished item ready for assembly or a product that needs little processing before assembly. 5. A process material is used directly in the production of another product; unlike a component part, a process material is not readily identifiable. 6. A supply facilitates production and operations, but it does not become part of the finished product. 7. A business service is an intangible product that an organization uses in its operations. II. THE PRODUCT LIFE-CYCLE. Every product progresses through a product life-cycle, a series of stages in which its sales revenue and profit increase, reach a peak, and then decline. A firm must be able to launch, modify, and delete products from its offering of products in response to changes in product life-cycles. Depending on the product, life-cycle stages will vary in length. A. Stages of the Product Life-Cycle. Generally, the product life-cycle is assumed to be composed of four stages—introduction, growth, maturity, and decline. (See Figure 13.1.) 1. Introduction. In the introduction stage, consumer awareness and acceptance of the product are low. a) Sales rise gradually as a result of promotion and distribution activities. b) High development and marketing costs result in low profit or even in a loss. c) There are no competitors. d) The price is sometimes high, and purchasers are primarily people who want to be “the first” to own the product. e) The marketing challenge at this stage is to make potential customers aware of the product’s existence and its features, benefits, and uses. f) Because new products are seldom immediate successes, marketers must watch early buying patterns carefully and be prepared to modify the new product promptly if necessary. g) As with the product itself, the initial price, distribution channels, and promotional efforts may need to be adjusted quickly to maintain sales growth during the introduction stage. 2. Growth. In the growth stage, sales increase rapidly as the product becomes well known. a) Other firms have probably begun to market competing products. b) The competition and lower unit costs (the result of mass production) result in a lower price, which reduces the profit per unit. c) Industry profits reach a peak and begin to decline during this stage. d) Management’s goal in the growth stage is to stabilize and strengthen the product’s position by encouraging brand loyalty. e) To beat the competition, the company may further improve the product or expand the product line. f) Management may also compete by lowering prices. g) Marketers can emphasize customer service and prompt credit for defective products. h) During this period, promotional efforts attempt to build brand loyalty among consumers. 3. Maturity. Sales are still increasing at the beginning of the maturity stage, but the rate of increase has slowed. a) Later in this stage, the sales curve peaks and begins to decline. b) Industry profits decline throughout this stage. c) Product lines are simplified, markets are segmented more carefully, and price competition increases. d) The increased competition forces weaker competitors to leave the industry. e) Refinements and extensions of the original product appear on the market. f) Market share may be strengthened by redesigned packaging or style changes. g) In addition, consumers may be encouraged to use the product more often or in new ways. h) Pricing strategies are flexible; markdowns and price incentives are not uncommon. i) Marketers may offer incentives and assistance to dealers to encourage them to support mature products. j) New promotional efforts and aggressive personal selling may be necessary during this period of intense competition. 4. Decline. During the decline stage, sales volume decreases sharply and profits continue to fall. a) The number of competing firms declines, and the only survivors in the marketplace are those firms that specialize in marketing the product. b) Production and marketing costs become the most important determinant of profit. c) When a product adds to the success of the overall product line, the company may retain it; otherwise, management must determine when to eliminate the product. d) Management may raise the price to cover costs, reprice to maintain market share, or lower the price to reduce inventory. e) The company may choose to eliminate less-profitable versions of the product from the product line or may decide to drop the product entirely. Teaching Tip: Use the “What’s My Stage?” handout here. This is a five-minute group exercise that asks students to identify product life-cycle stages for five products. B. Using the Product Life-Cycle. Marketers should be aware of the life-cycle stage of each product for which they are responsible and should try to estimate how long the product is expected to remain in that stage. 1. Both of these factors must be taken into account in making decisions about the marketing strategy for a product. a) If a product is expected to remain in the maturity stage for a long time, a replacement product might be introduced later in the maturity stage. b) If the maturity stage is expected to be short, a new product should be introduced much earlier. III. PRODUCT LINE AND PRODUCT MIX A. A product line is a group of similar products that differ only in relatively minor characteristics. Generally, the products within a product line are related to each other in the way they are produced, marketed, or used. B. A firm’s product mix consists of all the products that the firm offers for sale. Two “dimensions” are often applied to a firm’s product mix. 1. The width of the mix is a measure of the number of product lines it contains. 2. The depth of the mix is a measure of the average number of individual products within each line. 3. These are general measures; we speak of a broad or a narrow mix, rather than a mix of exactly three or five product lines. IV. MANAGING THE PRODUCT MIX. To provide products that satisfy a firm’s target market(s) and achieve the organization’s objectives, a marketer must develop, adjust, and maintain an effective product mix. As customers’ product preferences and attitudes change, their desire for a product may diminish or grow. A firm may need to alter its product mix to adapt to competition by eliminating a product from the mix, introducing a new product, or modifying an existing one to compete more effectively. A marketer may also expand the firm’s product mix to take advantage of excess marketing and production capacity. There are three ways to improve a product mix: change an existing product, delete a product, or develop a new product. A. Managing Existing Products 1. Product Modifications. Product modification means changing one or more of a product’s characteristics. For this approach to be effective, several conditions must be met. a) The product must be modifiable. b) Existing customers must be able to perceive that a modification has been made, assuming that the modified item is still directed at them. c) The modification should make the product more consistent with customers’ desires so that it provides greater satisfaction. d) Existing products can be altered in three primary ways. (1) Quality modifications are changes that relate to a product’s dependability and durability. (2) Functional modifications affect a product’s versatility, effectiveness, convenience, or safety. (3) Aesthetic modifications are directed at changing the sensory appeal of a product by altering its taste, texture, sound, smell, or visual characteristics. 2. Line Extensions. A line extension is the development of a product closely related to one or more products in the existing product line but designed specifically to meet somewhat different customer needs. a) Line extensions are more common than new products because they are a less-expensive, lower-risk alternative for increasing sales. b) Line extensions may focus on a new market segment or be an attempt to increase sales within the same market segment by more precisely satisfying the needs of people in that segment. c) Line extensions are also used to take market share from competitors. B. Deleting Products. To maintain an effective product mix, a firm often has to eliminate some products. This is called product deletion. 1. Some firms drop weak products only after they have become severe financial burdens. 2. A better approach is to conduct a systematic review of the product’s impact on the overall effectiveness of the firm’s product mix. a) This review should analyze a product’s contribution to the firm’s sales for a given period. b) It should include estimates of future sales, costs, and profits of the product and a consideration of whether changes in the marketing strategy could improve the product’s performance. C. Developing New Products. Developing and introducing new products is frequently time consuming, expensive, and risky. The overall failure rate for new products is around 50 percent. However, failing to introduce new products can be just as hazardous. Successful new products bring a number of benefits to an organization, including survival, profits, a sustainable competitive advantage, and a favorable public image. (See Table 13.1.) New products are generally grouped into three categories based on their degree of similarity to existing products. Imitations are designed to be similar to and compete with existing products of other firms. Adaptations are variations of existing products that are intended for an established market. Innovations are entirely new products. The process of developing a new product consists of seven phases, shown in Figure 13.2. 1. Idea Generation. Idea generation involves looking for product ideas that will help a firm to achieve its objectives. a) Firms trying to maximize product-mix effectiveness usually develop system-atic approaches for generating new-product ideas. b) Sometimes, large firms with superior experience and resources may mentor small firms and help them generate ideas to help their businesses grow. c) Business incubators sprung up around the country that pair new small businesses with large established ones so that the new business can learn about marketing and branding from experts at established firms. 2. Screening. During screening, ideas that do not match organizational resources and objectives are rejected. a) Managers consider whether the organization has personnel with the expertise to develop and market the proposed product and may reject a good idea if the company lacks the necessary skills and abilities. b) The largest number of products is rejected during the screening phase. 3. Concept Testing. In this phase, a small sample of potential buyers is presented with a product idea through a written or an oral description to determine their attitudes and initial buying intentions regarding the product. a) Concept testing is a low-cost means for an organization to determine consumers’ initial reactions to a product idea before investing considerable resources in product research and development (R&D). 4. Business Analysis. Business analysis provides a tentative idea about a potential product’s financial performance, including its probable profitability. a) During this stage, the firm considers how the new product, if introduced, would affect sales, costs, and profits. 5. Product Development. In this phase, the company must find out first if it is technically feasible to produce the product and then if the product can be made at costs low enough to justify a reasonable price. a) If a product idea makes it to this point, it is transformed into a working model, or prototype. b) This step is time-consuming and expensive, but if the product successfully moves through this step, it is ready for test marketing. 6. Test Marketing. Test marketing is the limited introduction of a product in areas chosen to represent the intended market. a) Marketers can experiment with advertising, pricing, and packaging in different test areas and measure the extent of brand awareness, brand switching, and repeat purchases that result from alterations in the marketing mix. 7. Commercialization. During commercialization, plans for full-scale manufacturing and marketing must be refined and completed, and budgets for the project must be prepared. Teaching Tip: Assign the “Developing New Product Ideas” homework here. D. Why Do Products Fail? In spite of this rigorous process for developing product ideas, the majority of new products end up as failures. 1. Products mainly fail because the product and its marketing program are not planned and tested as completely as they should be. a) A firm may market-test its product but not its entire marketing mix. b) A firm may market a new product before all the “bugs” have been worked out or, if problems show up in the testing stage, it will push ahead with full-scale marketing anyway. c) Some firms try to market new products with inadequate financing. V. BRANDING, PACKAGING, AND LABELING. Three important features of a product (particularly a consumer product) are its brand, package, and label. A. What Is a Brand? A brand is a name, term, symbol, design, or any combination of these that identifies a seller’s products as distinct from those of other sellers. 1. A brand name is the part of a brand that can be spoken. 2. A brand mark is the part of a brand that is a symbol or distinctive design. 3. A trademark is a brand name or brand mark that is registered with the U.S. Patent and Trademark Office and is thus legally protected from use by anyone except its owner. 4. A trade name is the complete and legal name of an organization. B. Types of Brands. Brands are often classified according to who owns them. 1. A manufacturer (or producer) brand is a brand that is owned by a manufacturer. 2. A store (or private) brand is one that is owned by an individual wholesaler or retailer. a) Some companies that manufacture private brands also produce their own manufacturer brands. b) Many private-branded grocery products are produced by companies that specialize in making private-label products. 3. A generic product (sometimes called a generic brand) is a product with no brand at all. Its plain package carries only the name of the product in black type. C. Benefits of Branding. Buyers and sellers both benefit from branding. 1. Benefits to the buyer include the following: a) Because brands are easily recognizable, they reduce the amount of time buyers must spend shopping. b) Brands help buyers judge the quality of products by symbolizing a certain quality level and thus help reduce a buyer’s perceived risk of purchase. c) Customers may receive psychological rewards from owning a brand that symbolizes status. 2. Brands help sellers as well as buyers. a) Firms can introduce a new product with a brand name already familiar to customers. b) Branding helps sellers in promotion efforts because promotion of each branded product indirectly promotes other products of the same brand. 3. One of the chief benefits of branding is the creation of brand loyalty, the extent to which a customer is favorable toward buying a specific brand. There are three degrees of brand loyalty. a) Brand recognition—the level of loyalty in which a customer is aware that a brand exists and considers it as an alternative to purchase; the weakest level of brand loyalty b) Brand preference—the degree of brand loyalty in which a customer prefers one brand over competing brands c) Brand insistence is the strongest level of brand loyalty. Brand-insistent customers strongly prefer a specific brand and will not buy substitutes. It is the least common type of brand loyalty. Teaching Tip: Ask your students how many of them have ever ordered a Coke and have been told “I am sorry, but we do not have Coca-Cola—is Pepsi alright?” Chances are most of them will raise their hands. Explain about the “Coke” police—people whose job it is to make sure restaurants and other establishments are not using Coca-Cola generically. 4. Brand equity, another benefit of branding, is the marketing and financial value associated with a brand’s strength in the market. There are four major brand elements contributing to brand equity. Teaching Tip: Ask students how they think Internet purchasing and auction houses such as eBay might rely on branding as a guarantee of quality. a) Brand name awareness—buyers are more likely to choose a familiar brand over an unfamiliar one b) Brand associations—can connect personality type or lifestyle with a particular brand c) Perceived brand quality—customers connect a particular level of quality with a specific brand d) Brand loyalty—reduces a brand’s vulnerability to competitors, reduces the resources needed to attract new customers, increases brand visibility, and encourages retailers to carry brands known for their customer loyalty D. Choosing and Protecting a Brand. A number of issues should be considered when selecting a brand name. 1. The name should be easy for customers to say, spell, and recall. 2. The brand name should suggest, in a positive way, the product’s uses, special characteristics, and major benefits and should be distinctive enough to set it apart from competing brands. 3. It is important to select a brand that can be protected through registration, reserving it for exclusive use by a specific firm. 4. To protect its exclusive right to the brand, the company must ensure that the selected brand will not be considered an infringement on any existing brand already registered with the U.S. Patent and Trademark Office. 5. A firm must guard against a brand name becoming a generic term that refers to a general public category. Generic terms cannot be protected as exclusive brand names. a) To ensure that a brand name does not become a generic term, the firm should spell the name with a capital letter and use it as an adjective to modify the name of the general product class; i.e., Jell-O Brand Gelatin. Teaching Tip: Use the five-minute “A Product by Any Name” activity here. This activity can be done individually, with partners, or in teams. E. Branding Strategies. The basic branding decision for any firm—producer or seller—is whether to brand its products. 1. A producer may market its products under its own brands, private brands, or both. 2. A retail store may carry only producer brands, its own brands, or both. 3. Once either type of firm decides to brand, it chooses one of two branding strategies. a) With individual branding, the firm uses a different brand for each of its products. b) With family branding, the firm uses the same brand for all or most of its products. F. Brand Extensions. A brand extension occurs when an existing brand is used to brand a new product in a different product category. 1. A brand extension should not be confused with a line extension. A line extension refers to using an existing brand on a new product in the same product category, such as a new flavor or new sizes. G. Packaging. A product’s packaging consists of all those activities involved in developing and providing a container for a product. 1. Packaging Functions. The basic function of packaging materials is to protect the product and maintain its functional form. a) Another function of packaging is to offer the consumer convenience, such as individual-serving boxes. b) A third function of packaging is to promote a product by communicating its features, uses, benefits, and image. 2. Package Design Considerations. Many factors must be weighed in package design. a) One major consideration is cost. b) Marketers must also decide whether to package the product in single or multiple units. c) Marketers should consider how much consistency is desirable among an organization’s package designs. To promote an overall company image, a firm may adopt an approach known as family packaging, in which all packages must be similar or include one major element of the design. d) Packages also play an important promotional role. Firms can create desirable images and associations by choosing particular colors, designs, shapes, and textures. The package performs another promotional function when it is designed to be safer or more convenient to use, especially if such features help to stimulate demand. e) Packaging must meet the needs of intermediaries in terms of transportation, handling, and storage. f) Firms must consider the issue of environmental responsibility when developing packages. Companies must balance consumers’ demand for convenience against the need to preserve the environment. Teaching Tip: Use the “Benefits of Packaging” exercise here. This exercise will take approximately 10 to 15 minutes, depending on how many products you bring in for examination. H. Labeling. Labeling is the presentation of information on a product or its package, such as the brand name and mark, the registered trademark symbol, the package size and contents, product claims, directions for use and safety precautions, a list of ingredients, the name and address of the manufacturer, and the Universal Product Code (UPC) symbol. A number of federal regulations specify information that must be included in the labeling for certain products. 1. Such regulations are aimed at protecting customers from both misleading product claims and the improper (and thus unsafe) use of products. 2. Labels may also carry the details of written or express warranties. An express warranty is a written explanation of the responsibilities of the producer in the event that the product is found to be defective or otherwise unsatisfactory. Teaching Tip: Use the “Examining Branding and Packaging” exercise here. It will take approximately 10 to 15 minutes and can be done individually or in teams. VI. PRICING PRODUCTS. Few people will purchase a product with too high a price, and a product with too low a price will earn little or no profit. Somewhere between too high and too low, there is a “proper” effective price for each product. A. The Meaning and Use of Price. The price of a product is the amount of money that the seller is willing to accept in exchange for the product, at a given time and under given circumstances. 1. Each interested buyer makes a personal judgment regarding the utility of the product, often in terms of some dollar value. 2. Price serves the function of allocator. a) Price allocates goods and services among those who are willing and able to buy them. b) Price allocates financial resources among producers according to how well they satisfy customers’ needs. Teaching Tip: Use “The Price Is Right” exercise here. This exercise should be done in groups and will take approximately 15 minutes. B. Supply and Demand Affects Prices. In Chapter 1, we defined the supply of a product as the quantity of the product that producers are willing to sell at each of various prices. Figure 13.3 illustrates the supply relationship to various prices of a particular product. The quantity supplied by producers increases as the price increases along the supply curve. 1. The demand for a product is the quantity that buyers are willing to purchase at each of various prices. The quantity demanded by buyers increases as the price decreases along the demand curve. 2. Buyers and sellers of a product interact in the marketplace, shown by superimposing the supply curve onto the demand curve for the product. 3. The two curves intersect at point E, which represents equilibrium. In this case, if 15 million pairs of jeans are produced and priced at $30, they will all be sold, and everyone who is willing to pay $30 will be able to buy a pair of jeans. C. Price and Non-Price Competition. Before a product’s price can be set, an organization must determine the basis on which it will compete—whether on price alone or some combination of factors. 1. Price competition occurs when a seller emphasizes the low price of a product and sets a price that equals or beats competitors’ prices. a) To use this approach effectively, a seller must have the flexibility to change prices often and must do so rapidly and aggressively whenever competitors change their prices. b) Price competition allows a marketer to set prices based on demand for the product or in response to changes in the firm’s finances. 2. Non-price competition is based on factors other than price. It is used most effectively when a seller can make its product stand out from the competition by distinctive product quality, customer service, promotion, packaging, or other features. A method of non-price competition, product differentiation, is the process of developing and promoting differences between one’s product and all similar products. D. Buyers’ Perceptions of Price. In setting prices, managers should consider the price sensitivity of people in the target market. 1. Buyers will accept different ranges of prices for different products; that is, they will tolerate a narrow range for certain items and a wider range for others. 2. The firm should also take note of buyers’ perceptions of a given product in relation to competing products. A premium price may be appropriate if a product is considered superior to others in its category. However, if buyers have even a hint of a negative view of a product, a lower price may be necessary. 3. Sometimes, buyers relate price to quality. They may consider a higher price to be an indicator of higher quality. Teaching Tip: Use the “What’s It Worth to You?” pricing exercise here. This exercise should be done in teams and will take approximately 15 minutes. VII. PRICING OBJECTIVES. Before setting prices for a firm’s products, management must decide what it expects to accomplish through pricing. Pricing objectives must be in line with both organizational and marketing objectives. A. Survival. A firm may have to price its products to survive—either as an organization or as a player in a particular market. 1. This usually means that the firm will cut its price to attract customers, even if it then must operate at a loss. 2. Such a goal cannot be pursued on a long-term basis because consistent losses would cause the business to fail. Teaching Tip: Ask students what industries might have been in a survival mode following the financial collapse of 2008–2009. B. Profit Maximization. Many firms may state that their goal is to maximize profit, but this goal is impossible to define (and thus impossible to achieve). 1. What, exactly, is the maximum profit? 2. Firms that wish to set profit goals should express them as either specific dollar amounts or percentage increases over previous profits. C. Target Return on Investment. The return on an investment (ROI) is the amount earned as a result of that investment. Some firms set an annual percentage ROI as their pricing goal. D. Market-Share Goals. A firm’s market share is its proportion of total industry sales. Some firms attempt, through pricing, to maintain or increase their share of the market. E. Status-Quo Pricing. In pricing their products, some firms are guided by a desire to maintain the status quo. This is especially true in industries where price stability is important. If a firm can maintain its profit or market share simply by meeting the competition, then it will do so. VIII. PRICING METHODS. Once a firm has developed its pricing objectives, it must select a pricing method and strategy to reach that goal. Two factors are important to firms engaged in setting prices. The first is recognition that the market, and not the firm’s costs, ultimately determines the price at which a product will sell. The second is awareness that costs and expected sales can be used only to establish a price floor, the minimum price at which the firm can sell its products without incurring a loss. A. Cost-Based Pricing. Using cost-based pricing, the simplest method of pricing, the seller determines the total cost of producing one unit of a product and then adds an amount to cover additional costs and profit. 1. The amount that is added is called the markup. The total of the cost plus the markup is the product’s selling price. 2. Markup pricing is easy to apply and is used by many businesses but it has two major flaws: a) It is difficult to determine an effective markup percentage. If it is too high, the product may be overpriced for its market; if it is too low, the seller is “giving away” profit it could have earned by assigning a higher price. b) The markup pricing separates pricing from other business functions. The product is priced after production quantities are decided on, after costs are incurred, and almost without regard for the market or the marketing mix. 3. Cost-based pricing can also be facilitated through the use of breakeven analysis. a) The breakeven quantity is the number of units that must be sold for the total revenue (from all units sold) to equal the total cost (of all units sold). b) Total revenue is the total received from sale of a product. c) The costs involved in operating a business can be broadly classified as either fixed or variable costs. (1) A fixed cost is a cost incurred no matter how many units of a product are produced or sold. (2) A variable cost is a cost that depends on the number of units produced. (3) The total cost is the sum of the fixed costs and the variable costs attributed to a product. (4) Figure 13.4 graphs the total revenue earned and the total cost incurred by the sale of various quantities of a hypothetical product. B. Demand-Based Pricing. Rather than basing the price of a product on its cost, companies sometimes use a pricing method based on the level of demand for the product: demand-based pricing. 1. This method results in a high price when product demand is strong and a low price when demand is weak. 2. To use this method, a marketer estimates the amounts of a product that customers will demand at different prices and then chooses the price that generates the highest total revenue. 3. The effectiveness of this method depends on the firm’s ability to estimate demand accurately. 4. A firm may favor a demand-based pricing method called price differentiation if it wants to use more than one price in the marketing of a specific product. a) Price differentiation can be based on such considerations as time of the purchase, type of customer, or type of distribution channel. b) For price differentiation to work correctly, the company must first be able to segment a market on the basis of different strengths of demand and then keep the segments separate enough so that segment members who buy at lower prices cannot sell to buyers in segments that are charged a higher price. 5. Compared with cost-based pricing, demand-based pricing places a firm in a better position to attain higher profit levels, assuming that buyers value the product at levels sufficiently above the product’s cost. C. Competition-Based Pricing. In competition-based pricing, the firm considers costs and revenues secondary to competitors’ prices. It uses competitors’ prices as guides in setting its own prices. 1. A firm that uses competition-based pricing may choose to be below competitors’ prices, slightly above competitors’ prices, or at the same level. 2. Competition-based pricing may be combined with other cost approaches to arrive at profitable levels. IX. PRICING STRATEGIES. A pricing strategy is a course of action designed to achieve pricing objectives. The extent to which a business uses any of the following strategies depends on its pricing and marketing objectives, the markets for its products, the degree of product differentiation, the life-cycle stage of the product, and other factors. (See Figure 13.5.) A. New-Product Pricing. The two primary types of new-product pricing strategies are price skimming and penetration pricing. An organization can use either one, or even both, over a period of time. 1. Price Skimming. Price skimming is the strategy of charging the highest possible price for a product during the introduction stage of its life-cycle. a) The seller essentially “skims the cream” off the market, which helps to recover more quickly the high costs of research and development. b) A skimming policy may also hold down demand for the product, which is helpful if the firm’s production capacity is limited during the introduction stage. Teaching Tip: Ask students if there are any products (goods or services) they would like to buy but are waiting for the price to go down before they do so. 2. Penetration Pricing. Penetration pricing is the strategy of setting a low price for a new product. a) The idea is to develop a large market share for the product quickly. b) The seller hopes that building a large market share quickly will discourage competitors from entering the market. c) A disadvantage of penetration pricing is that it places a firm in a less flexible position. It is more difficult to raise prices significantly than it is to lower them. B. Differential Pricing. Differential pricing means charging different prices to different buyers for the same quality and quantity of product. Differential pricing can occur in several ways, including negotiated pricing, secondary-market pricing, periodic discounting, and random discounting. 1. Negotiated Pricing. Negotiated pricing occurs when the final price is established through bargaining between the seller and the customer. Even when there is a predetermined stated price or a price list, manufacturers, wholesalers, and retailers may still negotiate to establish the final sales price. 2. Secondary-Market Pricing. Secondary-market pricing means setting one price for the primary target market and a different price for another market. a) Often, the price charged in the secondary market is lower. b) However, when the costs of serving a secondary market are higher than normal, secondary-market consumers may have to pay a higher price. Teaching Tip: Ask students to identify products that have variances in pricing depending on time of day (phone usage or restaurants), day of week (airline tickets), time of year (Caribbean cruises), location (theaters and sports venues), and market segment (children eat free, students get a discount). 3. Periodic Discounting. Periodic discounting is the temporary reduction of prices on a patterned or systematic basis. A major problem from the marketer’s viewpoint is that customers can predict when the reductions will occur and may delay their purchases until they can take advantage of the lower prices. 4. Random Discounting. Random discounting is used to alleviate the problem of customers knowing when discounting will occur. a) The firm will temporarily reduce its prices on a nonsystematic basis. b) Marketers also use this strategy to attract new customers. C. Psychological Pricing. Psychological pricing strategies encourage purchases based on emotional responses rather than on economically rational responses. 1. Odd-Number Pricing. Odd-number pricing is the setting of prices at odd amounts slightly below an even or whole number of dollars. Nine and five are the most popular ending figures for odd-number prices. 2. Multiple-Unit Pricing. Multiple-unit pricing is the setting of a single price for two or more units, such as two cans for 99 cents rather than 50 cents per can. 3. Reference Pricing. Reference pricing means pricing a product at a moderate level and positioning it next to a more-expensive model or brand hoping that the customer will use the higher price as a reference price (i.e., a comparison price). 4. Bundle Pricing. Bundle pricing is the packaging together of two or more products, usually of a complementary nature, to be sold for a single price. 5. Everyday Low Prices (EDLPs). To reduce or eliminate the use of frequent short-term price reductions, some organizations use an approach referred to as everyday low prices (EDLPs). a) A marketer sets a low price for its products on a consistent basis rather than setting higher prices and frequently discounting them. b) A company that uses EDLPs benefits from reduced promotional costs, reduced losses from frequent markdowns, and more stability in its sales. c) A major problem with this approach is that customers have mixed responses to it. Some customers think EDLPs are a marketing gimmick. 6. Customary Pricing. In customary pricing, certain goods are priced primarily on the basis of tradition (i.e., chewing gum or candy bars). D. Product-Line Pricing. Product-line pricing means establishing and adjusting the prices of multiple products within the product line. This method can provide marketers with flexibility in price setting. 1. Captive Pricing. When captive pricing is used, the basic product in a product line is priced low, but the price on items required to operate or enhance it are set at a higher level. 2. Premium Pricing. Premium pricing occurs when the highest-quality product or the most versatile version of similar products in a product line is given the highest price. Marketers that use premium pricing often realize a significant portion of their profits from premium-priced products. 3. Price Lining. Price lining is the strategy of selling goods only at certain predetermined prices that reflect definite price breaks. This strategy is widely used in clothing or accessory stores. E. Promotional Pricing. Price is often coordinated with promotion, and they are sometimes so interrelated that the pricing policy is promotion oriented. 1. Price Leaders. Sometimes, a firm prices a few products below the usual markup, near cost, or below cost, which results in prices known as price leaders. This pricing is used to attract customers by giving them especially low prices on a few items, hoping that sales of regularly priced products will more than offset the reduced revenues from the price leaders. 2. Special-Event Pricing. To increase sales volume, many organizations coordinate price with advertising or sales promotions for seasonal or special situations. Special-event pricing involves advertised sales or price cutting linked to a holiday, season, or event. 3. Comparison Discounting. Comparison discounting sets the price of a product at a specific level and simultaneously compares it with a higher price. a) Because this pricing strategy has occasionally led to deceptive pricing practices, the Federal Trade Commission has established guidelines for comparison discounting. (1) If the higher price against which the comparison is made is the price formerly charged for the products, sellers must have made the previous price available to customers for a reasonable period of time. (2) If sellers present the higher price as the one charged by other retailers in the same trade area, they must be able to demonstrate that this claim is true. (3) When they present the higher price as the manufacturer’s suggested retail price, then the higher price must be similar to the price at which a reasonable proportion of the product was sold. Teaching Tip: Use the five-minute or less “How Should We Price It?” exercise here. X. PRICING BUSINESS PRODUCTS. Setting prices for business products can be different from setting prices for consumer products owing to factors such as size of purchases, transportation considerations, and geographic issues. A. Geographic Pricing. Geographic pricing strategies deal with delivery costs. 1. The pricing strategy that requires the buyer to pay the delivery costs is called “FOB origin pricing.” It stands for “free on board at the point of origin,” which means that the buyer will pay the transportation costs from the warehouse to the buyer’s place of business. 2. “FOB destination” indicates that the price does include freight charges and thus the seller pays these charges. B. Transfer Pricing. When one unit in an organization sells a product to another unit, transfer pricing occurs. 1. The price is determined by calculating the cost of the product. 2. A transfer price can vary depending on the types of costs incurred in the calculations, and the choice of the costs to include depends on the company’s management strategy and the nature of the units’ interaction. C. Discounting. A discount is a deduction from the price of an item. Producers and sellers offer a wide variety of discounts to their customers: 1. Trade discounts are discounts from the list price that are offered to marketing intermediaries, or middlemen. 2. Quantity discounts are discounts given to customers who buy in large quantities. 3. Cash discounts are discounts offered for prompt payment. 4. A seasonal discount is a price reduction to buyers who purchase out of season. 5. An allowance is a reduction in price to achieve a desired goal. Instructor Manual for Business William M. Pride, Robert J. Hughes, Jack R. Kapoor 9781133595854, 9780538478083, 9781285095158, 9781285555485, 9781133936671, 9781305037083