Pricing strategies often change as the product passes through its life cycle. Introductory stage is especially challenging. Firms bringing out a new product face the challenge of setting prices for the first time. They may choose between two broad strategies:
Market - skimming pricing and market-penetration pricing.
Most of the companies that invent new products set high initial prices to “skim” revenues layer by layer from the market. Apple usually uses this strategy, called market-skimming pricing (or price skimming). When iPhone is first introduced by Apple, its initial price was as much as $599 per phone. Those phones were purchased only by consumers who really wanted the sleek new gadget and can afford to pay a high price for it. After Six months, Apple dropped the price to $399 for an 8GB model and $499 for the 16GB model in order to attract new buyers. It dropped prices again to $199 and $299, respectively, within a year and the consumer can now buy an 8GB model for $99. With this strategy, Apple skimmed the maximum amount of revenue from the various segments of the market. Market skimming generates sense only under certain conditions. First, the product’s quality and image should support its higher price, and many customers must want the product at that price. Second, the total costs of producing a smaller volume should be so high that they cancel the advantage of charging more. Finally, competitors should not be able to enter into the market easily and undercut the high price.
Rather than setting a high initial price to skim off small but profitable market segments, some organizations use market-penetration pricing. Firms set a low initial price to penetrate the market quickly and deeply in order to attract a huge number of buyers quickly and win a large market share. The high sales volume results in falling costs, allowing firms to cut their prices even further. For example, the giant Swedish retailer IKEA has penetration pricing strategy for boosting its success in the Chinese market:
Several conditions should meet for this low-price strategy to work. First, the market should be highly price sensitive so that a low price generates more market growth. Second, production and distribution costs should decrease as sales volume increases. Finally, the low price should help keep out the competition, and the penetration prices should maintain its low price position. Otherwise, the price advantage might be only temporary.
The strategy for setting a product’s price usually has to be changed if the product is part of a product mix. In this case, the company looks for a set of prices which maximizes its profits on the total product mix. Pricing is difficult as the various products have related demand and costs and face several degrees of competition. We will discuss the five product mix pricing situations product line pricing, optional product pricing, captive product pricing, by-product pricing, and product bundle pricing.
Product Line Pricing
Organizations usually develop product lines rather than single products. For example, Rossignol offers to consumers seven different collections of alpine skis of all sizes and design, at prices which range from $150 for its junior skis, such as Fun Girl, to more than $1,100 for a pair from its Radical racing collection. Rossignol also offers lines of Nordic and backcountry skis, snowboards, and ski related apparel. In product line pricing, management should determine the price steps to set between the various products in a line. The price steps must take into account cost differences between products in the line. More importantly, they must account for differences in consumer perceptions of the value of different features. For example, Quicken offers their costumers an entire line of financial management software, consisting Starter, Deluxe, Premier, Home & Business, and Rental Property versions and that are priced at $29.99, $59.99, $89.99, $99.99, and $149.99, respectively. Although it costs Quicken no more to produce the CD containing the Premier version than the CD containing the Starter version, many buyers happily pay more to obtain additional Premier features, such as financial planning and investment monitoring tools. Quicken’s task is to maintain and establish perceived value differences which support the price differences.
Many firms use optional product pricing. In optional product pricing firms offer to sell optional products along with the main product. For example, a car buyer might choose to order a Bluetooth wireless communication and global positioning system (GPS). Refrigerators come with optional ice makers. And when customers order a new PC, they can select from a bewildering array of processors, hard drives, software options, docking systems and service plans. Pricing these options is a sticky problem. Firm must decide which items should be included in the base price and which to offer as options.
Captive Product Pricing
Firms that make products that must be used along with the main product are using captive product pricing. Some examples of captive products are video games, razor blade cartridges and printer cartridges. Producers of the main products (video game consoles, razors, and printers) usually price them low and set high markups on the supplies. For example, when Sony first introduced its PS3 video game console which is priced at $499 and $599 for the regular as well as premium versions, it lost as much as $306 per unit of sales. Sony hoped to recoup the losses via the sales of more lucrative PS3 games. However, firms which use captive product pricing should be careful. Finding the right balance between the main product as well as captive product prices could be tricky. For example, despite industry-leading PS3 video game sales, Sony has yet to achieve back its losses on the PS3 console. Even more, customers trapped into buying expensive captive products might come to resent the brand that ensnared them. This happened in the inkjet printer and cartridges industry.
Captive product pricing is called two-part pricing in the case of services. The price of the service is integrated into a fixed fee plus a variable usage rate. Thus, at Six Flags and other amusement parks, customers pay a daily ticket or season pass charge with additional fees for food and other in-park features.
Producing products and services usually generate by-products. If the by-product has no value and if getting rid of them is costly, this will definitely affect the pricing of the main product. Using by-product pricing, the firm seeks a market for these by-products in order to help offset the costs of disposing of them and help make the price of the main product more and more competitive.
The by-products themselves could even turn out to be profitable—turning trash into cash. One of the examples is, Seattle’s Woodland Park Zoo has learned about its main by-products—animal poo—could be an excellent source of extra revenue.
Product bundle pricing
Using product bundle pricing, producers usually combine various products and offer the bundle at a reduced price. For example, fast-food restaurants bundle a burger, fries, and a soft drink at a “combo” price. Comcast, Time Warner, Verizon, and other telecommunications companies bundle TV service, phone service as well as high-speed Internet connections at a low combined price. Price bundling can promote the sales of products customers may not otherwise buy, but the combined price should be low enough to get them to buy the bundle.
Kotler, P., & Armstrong, G. (2013).Principles of Marketing.Chennai: Pearson India Education Services Pvt Ltd.
Firms that make products that must be used along with the main product are using captive product pricing.