Overview
Gay and Frank’s eBay business proves that one person’s junk is another person’s treasure. My cousins notice items in junk that their customers would treasure. These key customers will gladly pay high prices to enhance their collections. Aesop reminds us, “Utility is most men’s test of worth.”
The business can increase the worth of its products and services by helping customers fulfill a desire, maintain a pleasant situation, or escape an unpleasant situation.
Charging too little will discredit the value of a product or service value. The customers assume an item is worth its price. Let us learn how to price your products and services.
Gay and Frank as newlyweds
Vignettes
Convert Junk into Treasures
For decades, Gay and Frank have run a successful eBay business named Soup to Nuts. The couple prowls garage sales, estate auctions, and flea markets identifying junk which their customers will treasure.
Their most profitable customers are collectors. You name it, they collect it: etched glass, baseball cards, costume jewelry, iconic purses, and on and on. Their home abounds with treasures for specific customers.
Gay and Frank respond with empathy for their Internet friends. These key customers will gladly pay high prices to enhance their collections and they richly reward my cousins for transforming junk into treasures.
What Saves an Apple Tree?
An Aesop Fable
A peasant decides to cut down a barren apple tree. The swallows defend their nesting site by protesting, “Our song enlivens your work in the garden! Don’t kill our chicks”
Not valuing their twittering or fearing their threats, the peasant raises his ax for the first blow. Before he strikes its hollow trunk, he notices a beehive brimming over with delicious honey.
Overjoyed, the peasant drops his ax and exclaims, “The old tree is worth keeping after all.”
Aesop reminds us that value is in the eye of the beholder. One person’s junk is another person’s treasure. “Utility is most men’s test of worth.”
Will Key Customers Pay the Price?
How Much Will Key Customers Pay?
The twittering of swallows is worthless to the peasant, but he values honey. The peasant keeps the old apple tree so its beehive will provide him an endless supply of delicious honey.
The business can increase the worth of its products and services in three ways:
- Fulfill the customers’ desire for a product, a service, an emotion, or a self-concept like Harley-Davidson does.
- Maintain the customers in a pleasant situation like vacationing in Costa Rica does.
- Relieve the customers’ pain, lower their risk, ease their effort, and lift their emotions like Bluebeam software does.
Charging too little will discredit the value of a product or service. Customers will perceive that its materials are shoddy, its design is obsolete, or its reputation is tarnished. For example, pricing a home too low encourages prospective buyers to imagine all sorts of problems such as a leaky basement, high utility bills, and noisy neighbors.
If key customers treasure its products and services, a business can charge higher prices. They will assume your items must be worth the price. In fact, my status-seeking cousin bragged that she bought her house for more than the asking price.
What Were My Pricing Successes?
Finding the sweet spot for pricing is difficult, but not impossible. For example, I priced five of my own homes at 1 percent below their market value and obtained my asking price by adding value:
- The first couple avoided storage costs by storing their possessions in my home before the closing date.
- The second family could not obtain a loan, so I financed their loan myself.
- The third family wanted to close before the end of the year, so I expedited the transaction.
- The fourth family wanted my riding lawn mower, so I included it in the transaction.
- The fifth house was on such a steep hill that my next door neighbor used a pulley system to mow his lawn. I turned this problem into an asset by advertising its commanding view. I waited as a prospective buyer appreciated its commanding view of the neighborhood, and once again, I obtained my asking price.
What Were My Pricing Failures?
I developed MapWise, the first commercial software for correspondence analysis in English, and sold it for $495 to marketing researchers in 42 countries.1 Then I sent a direct mail promotion announcing its new version to all members of the American Marketing Association.
To my dismay, only three recipients responded to the direct mail promotion. My mistake was pricing the new version at $9.95. The low price implied that MapWise was difficult, inaccurate, and infected with bugs. Actually, the $9.95 version was easier, more accurate, and better tested better than the $495 version.
Later, a highly respected statistical software company bundled correspondence analysis with other perceptual mapping software and charged a steep price for the package. Its buyers assumed from its high price that the software had a high quality. When I tested the company’s correspondence analysis program, the software was inaccurate and froze up.
What Is Break-even Analysis?
Why is Pricing the Last Strategic Decision?
The four marketing mix decisions are the four P’s of marketing, product, place, promotion, and price. We delayed our discussion of price until the business had made its decisions about product, place, and promotion. A business cannot price its products and services until it estimates the cost of these three decisions and its revenues from promotion. This information is required for break-even analysis and its decision about price. Figure 8.1 depicts break-even analysis.
How is Break-Even Analyzed?
A business must pay fixed costs even if it sells no units. Fixed costs includes overhead such as selling and administrative expenses, salaries and wages, advertising, rent, utilities, and other nonvariable expenses.
In contrast, variable costs vary with the number of units sold. Variable costs include the cost of merchandise and of using the inventory. Total costs is fixed costs plus variable costs.
Figure 8.1 Break-even analysis
Both variable costs and total revenue vary with the number of units sold, so their lines slant. The break-even point is where the line of total revenue crosses the line of total costs. If a business sells fewer units than the break-even point, it loses money, but if a business sells more units, it earns money. When a business lowers its costs or raises its prices, the business needs to sell fewer units to break even.
How Should a Business Price Its Items?
Pricing for a Mass Market
If the mission of the business is to appeal to the masses, charge a relatively low price. For example, Henry Ford envisioned every household owning an automobile and appealed to the common man. Ford realized that households felt no need for an automobile, were price sensitive, and would only buy one at a low price.2
In response, Ford lowered costs to $365 each (or about $7,000 in today’s dollars) by building large quantities of identical models using the first moving assembly line. Conveyor belts transported small parts to workers, each of whom performed a repetitive task. By 1925, the Ford Motor Company was producing 9,000 a day and selling them for around $800 (or about $15,342 in today’s dollars).3
Although Ford standardized production, his workers hated doing repetitive, specialized tasks hour after hour, day after day. Ford gambled that paying more than twice the going rate would attract reliable workers.
The benefits were almost immediate. The Ford Motor Company doubled its profits in less than two years. Ford ended up calling it the best cost-cutting move he ever made. Thus, Ford achieved his vision and revolutionized transportation in America.
Assembly line for the model T ford4
The man who will … see how much he can give for a dollar, instead of how little he can give for a dollar, is bound to succeed.
Henry Ford, industrialist, founder of the Ford Motor Company, 1863–1947.
Pricing for a Select Market
If the mission of a business is to appeal to a select few, then charge a relatively high price. Ford appealed to the 80 percent of the households who were price sensitive about automobiles, but the other 20 percent were willing to pay for a premium automobile. Even today, buyers of Cadillacs remain loyal despite price increases. The business is leaving money on the table if it does not raise prices as high as the market will bear.
Pricing Strategies
Commodity Pricing
A business that competes on price uses the commodity pricing strategy. This strategy prompts competitors to compete on price, thereby inciting a price war. A price war is a zero-sum game that drives many businesses into bankruptcy. For example, if the cost per item is $100 and competitors charge $100 for similar items (commodities), none of them produces any profit (Table 8.1).
Table 8.1 Steps in pricing as valued
|
Pricing strategy |
Price |
Cost |
Buyers |
Total cost |
Total revenue |
Total profit |
|
Commodity pricing |
$100 |
$100 |
100 |
$10,000 |
$10,000 |
$0 |
|
Value-added pricing |
$200 |
$150 |
20 |
$3,000 |
$4,000 |
$1,000 |
|
Price skimming |
$200 |
$150 |
100 |
$15,000 |
$20,000 |
$5,000 |
Value-Added Pricing
A business that competes on value, rather than price, uses the value-added pricing strategy. For example, if a business spends $50 more per item and its key customers perceive the item is now worth $100 more than its competition, it may double its price to $200. According to Pareto’s law, 20 percent will pay the higher price, but 80 percent may switch to a competitor. If so, the total cost is $3,000, total revenue is $4,000, and profit is $1,000.
Price Skimming
A business that targets prospects who are similar to its key customers uses the price skimming strategy. If the business coverts these prospects into highly profitable new customers, the business will magnify its profits. These key prospects can replace the 80 percent the customers it lost when the business raised its price. When 100 customers pay $200 for the item, then the total cost is $15,000, revenue is $20,000, and profit is $5,000.
What Are Some Pricing Mistakes?
Personal Watercraft
Sea-Doo offers five lines of personal watercraft (PWC). Recently their starting prices for the lines were $4,999 for Rec Lite/Sea-Doo SPARK, $7,899 for Recreation, $11,849 for Tow Sports, $11,899 for Performance, and $12,399 for Luxury.
According to my in-depth marketing research, the buyers of the Luxury line tend to be social climbers. One bragged, “Our friends deserve the best, so we bought the best PWCs to entertain our guests.”
Obviously, Sea-Doo earns higher profits from its Luxury line whereas its other lines tarnish its reputation. Thus, I thought Sea-Doo should discontinue them and increase the perceived value of its Luxury line by increasing its price. Then Sea-Doo would attract more highly profitable customers and increase its overall profits.
No Hassle, No Haggle Pricing
Like most women, I hate to haggle over prices at an automobile dealership because women tend to end up paying more than a man. A male friend haggled over the price of his new car and obtained such a low price that I insisted on the same deal.
Yes, I did obtain the same price for the same car, but the salesman detested my tenacity. I watched him order a technician to drill holes in the trunk of my new car. I had to buy an expensive luggage rack so water would not leak into my trunk.
Several years later, my employer asked me to check out Saturn’s no haggle, no hassle pricing policy. Saturn’s advertising claimed,
The worst part of the car-buying experience is the car-buying experience. There’s a better way, the Saturn way. Savor the great price and our no haggle, no hassle policy. Experience the Saturn difference.5
True to its word, the Saturn dealership did not haggle over prices or hassle me. Basking in their respect for me, I impulsively traded my car for a Saturn.
Key #8: Price as Valued
J. C. Penney6
We get real results only in proportion to the real values we give.
James Cash Penney, entrepreneur, founder of J. C. Penney Company, Inc., 1875–1971.
How Much Would Key Customers Pay an Item?
Setting prices is a difficult marketing decision, but marketing research can reveal the price sensitivity of key customers. For example, my marketing research students at the Thunderbird School of Global Management in Glendale, Arizona, worked with a Swedish company, Malaco. They researched the value of Swedish Fish, pastel-colored, fish-shaped gummi candy with a licorice flavor. My class and I hated the candy, but its key customers were children.
Its closest competitor was Gummi Bears. My students asked children to taste the two types of candy and trade them by asking. “How many Gummi Bears do you trade for ten Swedish Fish?” Trading identified the value of Swedish Fish relative to its closest competitor. As a result, the company introduced Swedish Fish at the right price for the U.S. market.
Swedish fish7
Only key customers of the business know how much they value its products and services. Decide to price items by their value to key customers.
Ron Johnson8
Customers will not pay literally a penny more than the true value of the product.
Ron Johnson, a retailing expert for J. C. Penney, Target, and Apple.
Summary
Aesop reminds us, “Utility is most men’s test of worth.” A business can increase the worth of its products and services by helping customers fulfill a desire, maintain a pleasant situation, or escape an unpleasant situation. Charging too little will discredit the value of a product or service.
The break-even volume is where total revenue crosses total cost. If a business sells fewer units than the break-even volume, it loses money, but if it sells more units, the business earns more profit. When a business lowers its costs or raises its prices, the business needs to sell fewer units to break even.
If the mission of the business is to appeal to the masses, then charge a relatively low price. However, if the mission of a business is to appeal to a select few, then charge a relatively high price. Marketing research can reveal its value to key customers. The eighth key to enhancing profits is to price as valued.
Price as Valued by Key Customers
Decide how the business will price as valued:
- What product or service most directly competes with the item offered by the business and what is its price?
- Identify what its product or service obtains for key customers that the direct competitor’s does not offer. Examples are
- Progress toward a desired outcome such as more achievement, more confidence, a better relationship, or a better reputation
- Maintenance of a pleasant situation such as personal attention, a positive emotion, or a lifestyle
- Escape from an unpleasant situation such as effort, pain, risk, or a negative emotion
- How much is this item worth to its key customers?
- How can the business lower its perceived cost to key customers?
□ Convenience
□ Quantity discounts
□ Financing
□ Technical support
□ Free shipping
□ Training
□ Guarantees
□ Other services
- At what price would key customers switch to a direct competitor’s product or service?
- How much would key customers pay for the item?
- Set the price slightly lower than this amount.