PRICING OF SERVICES

What Makes Service Pricing Strategy Different (and Difficult)?

No ownership of services--hard for firms to calculate financial costs of creating an intangible performance Variability of inputs and outputs--how can firms define a unit of service and establish basis for pricing? Many services hard for customers to evaluate--what are they getting in return for their money? Importance of time factor--same service may have more value to customers when delivered faster Price is key signal of quality

Three Basic Price Structures and Difficulties Associated with Usage for Services
PROBLEMS:
1. Small firms may charge too little to be viable 2. Heterogeneity of services limits comparability 3. Prices may not reflect customer value

PROBLEMS:
1. Costs difficult to trace 2. Labor more difficult to price than materials 3. Costs may not equal value

PROBLEMS:
1. Monetary price must be adjusted to reflect the value of non-monetary costs 2. Information on service costs less available to customers, hence price may not be a central factor

Why Pricing of Services is Critical?

Customer knowledge of service price a reference price is a price point in memory for a good or a service High degree of variability often exists across providers of services not every physician defines a checkup the same way Providers are unwilling to estimate prices in advance legal service providers; fundamental reason being they do not know themselves what the service will involve until the process of service delivery unfolds

 Individual customer needs vary your haircut fro the same stylist may cost you differently

Comparison of prices becomes difficult unlike goods where the product range is displayed for comparison like to compare dry cleaning prices, customer must drive to or call individual outlets
Price invisibility particularly in financial services, most customers know about only the rate of return and not the costs they pay in form of fund and insurance fees

Role of Non-monetary Costs

Demand is not just a function of monetary price but is influenced by other costs as well. Like:
Time cost since most services require direct participation of the consumer and thus their real time

Search costs - the effort invested to identify and select among services you desire since prices for services are rarely displayed in shelves an each service establishment offers only one brand of service (except brokers & agents)
Convenience costs like customers have to travel to the service, if service hours do not coincide with customers available time Psychological costs fear of not understanding (education), fear of rejection (bank loan), fear of results (surgery)

Price as an Indicator of Service Quality

Customers prefer cues like company reputation, level of advertising to access the quality In other situations when quality is hard to detect or price varies a great deal within a class of services, consumers may believe that price is the best indicator of quality In case of high risk services like medical treatment, customer looks price as a surrogate for quality Thus in addition to cover the cost and match competitors price, prices must be set with care to convey the appropriate service quality
Too low prices- inaccurate inferences Too high prices- difficult to match in service delivery

The Pricing Tripod

Pricing Strategy

Competition

Costs

Value to customer

The Pricing Tripod

The tripod explains the foundation underlying the pricing strategy The cost that a firm needs to recover usually impose a minimum price, or floor, for a specific service offering Customers perceived value of the offering sets a ceiling on the price

The price charged by competitors determines where, within the floor-to-ceiling range, the price can be set

Cost -Based Pricing

Price = Direct costs + Overhead costs + Profit Margin Challenges:
Costs are difficult to trace as cost based pricing involves defining the units in which a service is purchased Thus services are sold in terms of input units (like hours) rather units of measured output Labor is more difficult to price than material Actual service costs mat misrepresent the value of the service to the customer Used in industries in which cost can be estimated in advance like, advertising, construction

Competition-Based Pricing

Monitor competitors pricing strategy (especially if service lacks differentiation like dry cleaning and its an oligopoly like airline)

Challenges:
Small firms may charge too and not make margins high enough to remain in business Heterogeneity of services across and within providers makes it difficult to compare

Value/ Demand-Based Pricing

Relate price to value perceived by customer i.e. prices are based on what customers will pay for the services provided Challenges:
Monetary price must be adjusted to reflected the value of nonmonetary costs Information on service costs may be less available to customers, making monetary price not as salient indicator to quality


1.

Value has 4 meanings: Value is low price equate value with low price like, a carpet on sale
Value is everything I want in a service emphasize the benefits rather price like, best education for a MBA

2.

3.

Value is the quality I get for the price I pay trade off between the money they give up and the quality they receive like, for a business travel, lowest price for a quality brand
Value is all that I get for all that I give consider all benefits and sacrifice components (money, time, effort)

4.

Four Customer Definitions of Value

Value is Low Price

Value is Everything I Want in a Service

Value is the Quality I Get for the Price I Pay

Value is All that I Get for All that I Give

Price Has Many Names

Rent Tuition Fare Monthly payment Fee Dues Interest Donation

Setting the Price

Pricing Procedure
Select pricing objective Determine demand Estimate costs Analyze competition Select pricing method Select final price

Survival Maximize current profits Maximize market share

Penetration strategy

Market skimming
Skimming strategy

Product quality leaders Partial cost recovery

Setting the Price

Pricing Procedure
Select pricing objective Determine demand Estimate costs Analyze competition Select pricing method Select final price

Understand factors that affect price sensitivity Estimate demand curves Understand price elasticity of demand
Elasticity Inelasticty

Marketing Strategies
Conditions Under Which Consumers are Less Price Sensitive:
Product is more distinctive Buyers are less aware of substitutes Buyers cannot easily compare quality of substitutes The expenditure is a lower part of buyers total income The expenditure is small compared to the total cost Part of the cost is borne by another party The product is used with assets previously bought The product is assumed to have more quality, prestige, or exclusiveness Buyers cannot store the product

Marketing Strategies
Conditions Under Which Demand is Less Elastic:
There are few or no substitutes Buyers do not readily notice the higher price Buyers are slow to change their buying habits and search for lower prices Buyers think higher prices are justified

Setting the Price

Pricing Procedure
Select pricing objective Determine demand Estimate costs Analyze competition Select pricing method Select final price

Types of costs and levels of production must be considered Accumulated production leads to cost reduction via the experience curve Differentiated marketing offers create different cost levels

Setting the Price

Key Pricing Terms:
Fixed costs: do not vary directly with changes in level of production Variable costs: vary with production Total costs: sum of fixed and variable costs a given level of production Average cost: cost per unit at a given level of production

Setting the Price

Pricing Procedure
Select pricing objective Determine demand Estimate costs Analyze competition Select pricing method Select final price

Firms must analyze the competition with respect to:

Costs Prices Possible price reactions

Pricing decisions are also influenced by quality of offering relative to competition

Setting the Price

Pricing Procedure
Select pricing objective Determine demand Estimate costs Analyze competition Select pricing method Select final price

Price-setting begins with the three Cs Select method:

Markup pricing Target-return pricing Perceived-value pricing Value pricing Going-rate pricing Auction-type pricing Group pricing

Setting the Price

Pricing Procedure
Select pricing objective Determine demand Estimate costs Analyze competition Select pricing method Select final price

Requires consideration of additional factors:

Psychological pricing Gain-and-risk-sharing pricing Influence of other marketing mix variables Company pricing policies Impact of price on other parties

Adapting the Price

Geographical Pricing
Barter Compensation deal Buyback arrangement Offset

Adapting the Price

Price Discounts and Allowances:

Cash discounts Quantity discounts Trade-in allowances

Functional discounts Seasonal discounts Promotion allowances

Adapting the Price

Promotional Pricing Tactics:

Loss-leader pricing Special-event pricing Cash rebates Low-interest financing

Longer payment terms Warranties and service contracts Psychological discounting

Adapting the Price

Discriminatory Pricing Tactics:

Customer segment Channel pricing pricing Location pricing Product-form Time pricing pricing Image pricing

Adapting the Price

Price discrimination works when:
Market segments show different intensities of demand Consumers in lower-price segments can not resell to higher-price segments Competitors can not undersell the firm in higherprice segments Cost of segmenting and policing the market does not exceed extra revenue

Adapting the Price

Product-Mix Pricing Tactics:

Product-line pricing Two-part pricing Optional-feature By-product pricing pricing Product-bundle Captive-product pricing pricing

Initiating and Responding to Price Changes

Strategic Options Include:
Maintain price and perceived quality; selectively prune customers Raise price and perceived quality Partially cut price and raise quality Fully cut price, maintain perceived quality Maintain price, reduce perceived quality Introduce an economy model

Initiating and Responding to Price Changes

Key Considerations
Initiating price cuts Initiating price increases Reactions to price changes Responding to competitors price changes

Circumstances leading to price cuts:

Excess plant capacity Declining market share Attempt to dominate the market via lower costs

Price cutting traps:

Price/quality perceptions Low prices dont create market loyalty Competition may match or beat price cuts

Initiating and Responding to Price Changes

Key Considerations
Initiating price cuts Initiating price increases Reactions to price changes Responding to competitors price changes

Circumstances leading to price increases:

Cost inflation Overdemand

Methods of dealing with overdemand:

Delayed quotation pricing Escalator clauses Unbundling Reduction of discounts

Initiating and Responding to Price Changes

Key Considerations
Initiating price cuts Initiating price increases Reactions to price changes Responding to competitors price changes

Firms must monitor both customer and competitor reactions Competitor reactions are common when:
Few firms offer the product The product is homogeneous Buyers are highly informed

Initiating and Responding to Price Changes

Key Considerations
Initiating price cuts Initiating price increases Reactions to price changes Responding to competitors price changes

The degree of product homogeneity affects how firms respond to price cuts initiated by the competition Market leaders can respond to aggressive price cutting by smaller competitors in several ways

Initiating and Responding to Price Changes

Market Leader Responses to Competitor Initiated Price Cuts:

Maintain price and profit margin Maintain price, add value

Increase price, improve quality Launch a low-price fighter line

Reduce price