How To Develop Pricing Strategy For A Product Marketing Essay

How To Develop Pricing Strategy For A Product Marketing Essay This Paper tries to link between the first two components of a marketing mix: product strategy and pricing strategy. In order to help decision makers to define the optimum pricing strategy for product mix. Marketers broadly define a product as a bundle of physical, service, and symbolic attributes designed to satisfy consumer wants. Therefore, product strategy involves considerably more than producing a physical good or service. It is a total product concept that includes decisions about package design, brand name, trademarks, warranties, guarantees, product image, and new-product development. The second element of the marketing mix is pricing strategy. Price is the exchange value of a good or service. An item is worth only what someone else is willing to pay for it. In a primitive society, the exchange value may be determined by trading a good for some other commodity. Pricing strategy deals with the multitude of factors that influence the setting of a price. Table of Contents Introduction This paper will review each of the variables that affect the optimum pricing strategies of a product, the researcher will start with defining The product and exploring how product classification can affect the product mix decision in the firm, then researcher will study the product life cycle and how it can affect the pricing and marketing strategies during the different stages of the cycle. Secondly the researcher will tackle the pricing as one of the marketing strategies and what can affect the pricing strategy either internally from inside the firm or externally from outside the firm, finally researcher will define the linkage between pricing strategy, marketing strategy and the product mix. Problem Statement How to define the optimum pricing strategy for product mix as part of the firm marketing strategy Research Questions What is a product and how product classification can affect the Product mix decision for a firm? What is the linkage between the product life cycle and marketing strategy? What are the different pricing objectives? What factors are affecting the pricing strategy for a product? What is the linkage between pricing strategy, product and marketing strategy? Marketing Strategies Marketing Planning begins with formulating an offering to meet target customers needs or wants, where the customer will judge this offering by mainly two elements; product features and quality, and price. (Kotler Keller, 2009) Before a new product launch, marketers create marketing programs to maximize the chance of success. This is often a challenging managerial decision because, to set the appropriate pricing levels, managers must have reliable estimates as to how sales would respond to different levels of a marketing-mix variable. (JACKIE LUAN SUDHIR, 2010). The long term performance of mature product will be affected by the integrated marketing strategy including pricing (BERK ATAMAN, VAN HEERDE, MELA, 2010). Product Product is no more a tangible offering, but it can be more than that, Product can be anything that is offered to a market to satisfy a want or a need, including physical goods, services, experiences, events, persons, places, properties, organizations, information, and ideas. (Kotler Keller, 2009) There are many aspects of product development to consider. A product or service has features: function, appearance, packing, and guarantees of performance that help people solve problems. When designing a product, marketers should address the issue of product classes. (Smith Strand, 2008) Product Classification Products are classified on the basis of; durability, tangibility and use (consumer or industrial), where each product type has its appropriate marketing strategy. (Kotler Keller, 2009) Durability and Tangibility: The products can be sub-classified into three categories according to the durability and tangibility; where goods can be either nondurable goods, durable goods or a service. Nondurable Goods will be tangible, normally consumed in one or a few uses and they are purchased frequently, such as soap. Durable Goods are tangible goods that survive many uses, such as refrigerators. Services are intangible, inseparable and perishable products. Consumer Goods Classification: According to the consumers shopping habits; products can be sub-classified into convenience, shopping, specialty, and unsought products. Consumer purchase Convenience Goods frequently and with minimum efforts such as soaps and soft drinks. When the consumer characteristically compare on bases of suitability, quality and price, this is a Shopping Goods such as furniture. Specialty Goods are goods with unique characteristics for which a sufficient numbers of consumers are willing to make a special purchasing effort such as sportive cars. There are another category of goods that consumer doesnt normally think of buying such as life insurance which is classified as Unsought Goods. Industrial Goods Classification: According to the goods relative cost and how they enter the production process; Industrial goods can be sub classified into Material and Parts, Capital Items, and Supplies and Business Services. Material and Parts are goods that enter the manufacturers product completely such as raw materials. Capital Items are long lasting goods that facilitate developing or managing the finished products, such as buildings and heavy equipment. Supplies and Business Services are short-term goods and services that facilitate developing or managing the finished goods, such as maintenance and repair. Product Mix The Product Mix is the totality of product lines offered by a company. Product mix decisions involve varying their width, depth and consistency. Mix width refers to the number of different product lines the company carries. Mix consistency includes assessing the relationship between product lines in terms of common end uses, prices, distribution outlets and markets served. (Clemente, 2002) Before a new product launch, marketers have to create marketing programs to maximize the chance of success. In other words, they must forecast the market responsiveness to various marketing-mix variables. Although there is substantial literature on new product sales forecasting, there has been scant research related to forecasting marketing-mix responsiveness before a new product launch. (JACKIE LUAN SUDHIR, 2010) Determining the product-mix is one of the most important decisions relating to planning. Such decision implies utilizing limited resources to maximize the net value of the output from the production facilities. The quantity produced from each product in a certain time period results in utilizing certain resources for that time, consuming certain amount of raw materials, using certain labor skills and various production centers, and so on. The objective of the product-mix decision in the overall production plan is to find the product mix and the production program that maximizes the total contribution to profit/throughput subject to constraints imposed by resource limitations, market demand, and sales forecast. (Al-Aomar, 2000) The product designer should take into account both marketing and engineering considerations concurrently in a product line design. (LUO, 2011) Linkage between Product Classification and Product Mix In offering a product line, companies should offer basic platform of products and modules that can be added to meet different customers requirements, this approach enables companies to offer variety of products and to lower their production cost, therefore; each product line manager has to know the sales and profits of each item in his product line in order to determine which product mix strategy to implement, and to know which items to build, maintain, harvest, or divest. (Kotler Keller, 2009) Product classification has implication on how companies will formulate their product mixtures and what marketing strategies will be applied per each product mix, knowing at what class is the product along with well orientation of the product mix will be positively beneficial for both to the producer as well as to the consumers. The followings are some relations between product classification and product mix. (ADEOTI, 2010) Durability and Tangibility Classification and Product Mix: For durable and non-durable goods, there is a reflection on the life expectancy of the product. These classifications have strategic implications to the producer. Durable products are purchased infrequently and require personal selling. Perishable products need speedy distribution and luxury goods can be priced highly. Consumer Goods Classification and Product Mix: Convenience goods could be staples like food items bought on regular basis often by habit. It could also be impulsive items which are purchased, not because of planning but because of strongly felt need. It could also be emergency products which are needed to solve an immediate crisis. Brand Name would be very important for staple products while impulse products require a captivating packaging signal that will attract the consumers. For emergency products the consumers are less sensitive to price, therefore it is a circumstantial product. The understanding, of the buying behavior of the consumers for each of these sub-categories of convenience goods and the product characteristics will inform the producer on the appropriate marketing strategy options to be taken for higher returns. Shopping goods are bought rather infrequently and are used up very slowly. For homogenous shopping goods the prices should be relatively in the same range with other products in the same homogenous shopping goods category. For heterogeneous shopping goods consumers should consider the tangible features of these products and the associated services on offer before making a buying decision. Consumers are not usually sensitive to prices of heterogeneous shopping goods provided the product has some demonstrable advantage over its competitors. Promotional activity for this category of shopping goods should focus on pointing out unique attributes of the product rather than low prices. Specialty goods are products that have no acceptable substitutes in the mind of the consumer, where the uniqueness and superiority of the Specialty product stems from unrivalled quality superiority or design exclusivity. Specialty brands are what should be created. Producer should be encouraged by this superiority complex of the buyers and should not demean the quality. Consumers of such products are insensitive to price. Hence the mark up could be high for the targeted market, for unsought products, the consumer has no felt need for it. Many new products fall into this category, until their usefulness is known the consumer is not disposed to buying them. Personal selling and wide advertisement is required for unsought goods. There may be a need to even launch the product officially in the market place. Industrial Goods Classification and Product Mix: Installations goods are long-lasting products that are not bought very often. The number of potential buyers at any given time is usually small. These consist of buildings and fixed equipment. The producer must design it to specification and to supply post sale services. Accessory equipment; these comprise of portable factory equipment and tools. This equipment does not become part of the finished product; they simply help in the production process. Quality features, price and services are major considerations in vendor selection. Raw materials; these are goods that have been produced only enough to make handling convenient and safe. They enter the manufacturing process basically in their natural state. They originate either from agriculture or from industries such as mining and lumbering. Examples are cotton, man cue, crude oil and most farm produce. Fabricating materials; these undergo some degree of initial processing before they enter the product manufacturing process. This may be a relatively basic step such as changing iron ore into pig iron or wheat into flour. In other cases an ingredient may be completely prefabricated, such as an automobile tire or an electric motor for home appliance. The more complicated a product is, the more likely it is to contain both raw and fabricating materials. Facilitating goods; these are operating supplies that are used up in the operation of the firm but do not become part of the product. They are usually budgeted as expenses and have short life. The purpose of such goods is to keep the foundation goods functioning properly and to help in the handling and supply of the entering goods. Examples are lubricating oil; saw blades, cider forms and labels. The Product Life Cycle Product life-cycle (PLC) like human beings, products also have an arc. From birth to death, human beings pass through various stages e.g. birth, growth, maturity, decline and death. A similar life-cycle is seen in the case of products. The product life cycle goes through multiple phases, involves many professional disciplines, and requires many skills, tools and processes. Product life cycle (PLC) has to do with the life of a product in the market with respect to business/commercial costs and sales measures. (Niemann, Tichkiewitch, Westkà ¤mper, 2008) Product value and life are usually expected to follow the product life cycle (PLC), wherein products are expected to move from an investment toward a profitable mature peak that ends when the product is phased out. However; Christiansen et al assume that the value of a product is relational and that relationships between products and consumers are created, broken, and recreated. Value creation is a never-ending process, in that the product should be considered to be a process by which value constructions are constantly negotiated in actor networks. (Christiansen, Varnes, Gasparin, Storm-Nielsen, Vinther, 2010) Christiansen et al (2010) have concluded some actors that make the product timeless: Flexibility and adaptability that make it possible for the product to travel to new places and participate in new qualification processes and attach to new actors and be part of new networks. The ability to connect to different networks simultaneously as part of a network that stresses the high-end market attaching to the need for having a distinctive product to some, being a classical piece of sculpture-furniture to others and being related to contemporary artistic expressions to yet others. A strong core that provides the product with a unique and significant identity or expression, allowing for temporal interpretations or additions and modifications. Framing devices that help to position the product in settings that continue to present the product as relevant and useful in changing networks in a context in which others are constantly trying to get customers to attach to other networks. Serendipity-as fortune and misfortune cannot be accurately predicted or calculated when the out- come is a product of multiple connections over long time spans among potentially numerous human and non-human actors. Linkage between Product Life Cycle and marketing Strategies The product life cycle concept provides important insights for the marketing planner in anticipating developments throughout the various stages of a products life. Knowledge that profits assume a predictable pattern through the stages and that promotional emphasis must shift from product information in the early stages to heavy promotion of competing brands in the later ones should improve product planning decisions. Since marketing programs will be modified at each stage in the life cycle, an understanding of the characteristics of all four product life cycle stages is critical in formulating successful strategies. (Skidmore, 2005) Skidmore (2005) has divided the product life cycle into mainly four stages; Introduction Stage In the early stages of the product life cycle, the firm attempts to promote demand for its new market offering. Because neither consumers nor distributors may be aware of the product, marketers must use promotional programs to inform the market of the items availability and explain its features, uses, and benefits. New-product development and introductory promotional campaigns are expensive and commonly lead to losses in the first stage of the product life cycle. Yet these expenditures are necessary if the firm is to profit later. Growth Sales climb quickly during the products growth stage as new customers join the early users who are now repurchasing the item. Person-to-person referrals and continued advertising by the firm induce others to make trial purchases. The company also begins to earn profits on the new product. But this encourages competitors to enter the field with similar offerings. Price competition appears in the growth stage, and total industry profits peak in the later part of this stage. To gain a larger share of a growing market, firms may develop different versions of a product to target specific segments. Maturity Industry sales at first increase in the maturity stage, but eventually reach a saturation level at which further expansion is difficult. Competition also intensifies, increasing the availability of the product. Firms concentrate on capturing competitors customers, often dropping prices to further their appeal. Sales volume fades late in the maturity stage, and some of the weaker competitors leave the market. Firms spend heavily on promoting mature products to protect their market share and to distinguish their products from those of competitors. Decline Sales continue to fall in the decline stage of the product life cycle. Profits also decline and may become losses as further price cutting occurs in the reduced market for the item. The decline stage is usually caused by a product innovation or a shift in consumer preferences. The decline stage of an old product can also be the growth stage for a new product. Pricing The meaning of the price is broader than the traditional definition The price of a product or service is the number of monetary units a customer has to pay to receive one unit of that product or service. (Blois, Gijsbrechts, Campo, Oxford Textbook of Marketing, 2000) Blois et al (2000) have believed more in Hurt and Speh definition of the pricing where they believe that the cost of an industrial good includes much more than the sellers price, where they have concluded that implications of pricing is crucial to managers facing the pricing decision, therefore decision-makers have to consider the multidimensional view on prices. Additionally they have to recognize that complex pricing schemes may be needed, including a system of prices for different types of customers, product packages, and time periods. This observation is the essence of strategic pricing. Pricing strategy STRATEGY is the means by which an organization seeks to achieve its objectives (Adrian., 2000) Adrian (2000) explained how Strategic decisions about pricing cannot be made in isolation from other strategic marketing decisions, so, for example, a strategy that seeks a premium price position must be matched by product development strategy that creates a superior product and a promotional strategy that establishes in buyers minds the value that the product offers. Adrian (2000) then explained the relation between pricing strategy and the concept of positioning, where a strategy that combined high price with low quality may be regarded by customers as poor value and they are likely to desert such companies where they have a choice of suppliers. For most companies, such a strategy is not sustainable. A high quality/low price strategic position may appear very attractive to buyers, but it too may not be sustainable. Back to Blois et al (2000) where they highlighted how the price is also a component of the marketing mix and therefore impacts on overall sales via its contribution to the consumers perception of the products image. Pricing Objectives Marketing attempts to accomplish certain objectives through its pricing decisions. Research has shown that pricing objectives vary from firm to firm. Some companies try to maximize their profits by pricing their offerings very high. Others use low prices to attract new business. (Palmer, 2000) As per Palmer (2000); the three basic categories of pricing objectives are: Profitability Objectives Profit maximization is the basis of much of economic theory. However, it is often difficult to apply in practice, and many firms have turned to a simpler profitability objective-the target return goal. For example, a firm might specify the goal of a 9 percent return on sales or a 20 percent return on investment. Most target return pricing goals state the desired profitability in terms of a return on either sales or investment. Volume Objectives Another example of pricing strategy is sales maximization, under which management sets an acceptable minimum level of profitability and then tries to maximize sales. Sales expansion is viewed as being more important than short run profits to the firms long-term competitive position. A second volume objective is market share; the percentage of a market controlled by a certain company, product, or service. One firm may seek to achieve a 25 percent market share in a certain industry. Another may want to maintain or expand its market share for particular products or product lines. Social Objectives Objectives not related to profitability or sales volume; can be either of social and/or ethical considerations, status quo objectives, and image goals are often used in pricing decisions. Social and ethical considerations play an important role in some pricing situations. For example, the price of some goods and services is based on the intended consumers ability to pay. For example, some union dues are related to the income of the members. Internal factors affecting pricing Company objectives and strategies An essential ingredient of effective prices is their consistency with company objectives and overall marketing strategy. The realization of company objectives necessitates the development of an overall marketing strategy. To be effective and efficient, the companys pricing decisions must fit into this strategy, and be in line with decisions on other marketing-mix elements. Also, prices should not be set as an afterthought. Reflections on appropriate prices should occur at the time the product, communication, and distribution are conceived, because the different instruments of the mix have a synergetic influence on the market. There is ample evidence that the impact of pricing strategies and structures depends on the companies communication and distribution approach and on the products characteristics. (Blois, Gijsbrechts, Campo, Oxford Textbook of Marketing, 2000) Costs Costs have traditionally played a major role in pricing decisions. They constitute a basic ingredient for setting a price floor or lower boundary on acceptable prices. Cost Classification Costs can be classified along different dimensions. (Blois, Gijsbrechts, Campo, Oxford Textbook of Marketing, 2000) First Dimension First dimension concerns the degree to which costs can be directly attributed to specific products; where costs can be either direct traceable, indirect traceable or general costs. Direct traceable costs can be immediately associated with individual products, such as the cost of raw materials. Indirect traceable costs are not directly linked to, but can with some effort be traced back to, individual products, such as the cost of filling shelves is illustrative of this type. General costs, finally, cannot be linked to specific products, such as administrative overhead costs. Assessing direct traceable costs, and attributing indirect traceable costs, are important for pricing. Second Dimension Equally crucial is the distinction between variable and fixed costs. Which of these components should enter the pricing decision depends on the companys objective. For profit-maximizing companies, fixed cost may not affect optimal prices. Yet, for not-for-profit companies maximizing sales or participation subject to a deficit constraint, fixed cost may have a major effect on feasible outcomes. The companys time horizon also has a fundamental impact on the costs to be considered. Whether costs are fixed or variable depends on the time frame adopted by the company. Third Dimension Cost dynamics; where Short-term costs may differ from long-term cost levels as a result of changes in the scale of company operations. Economies of scale arise if the cost per unit decreases with the output level in a given period. This could be the result of the facility to share corporate resources across products, the use of more efficient (large-scale) production facilities, long production runs, access to volume discounts in purchases, or shipment in full carload or truckload lots. Experience effects are a second major source of declining production costs. Linkage between cost and pricing strategy As argued above, costs are related to price floors: they typically set a lower bound on prices. The contribution margin for a product equals its price minus its unit variable cost: if negative, selling the product at that price leads to a loss; if positive, at least part of the fixed cost can be recovered. While this principle seems utterly simple, the foregoing discussion illustrates that the determination and quantification of all relevant costs may be far from evident. The notion of costs as a price floor is blurred by product inter-dependencies, cost dynamics, cost allocation over channel members and company subsidiaries, and the pursuit of multiple company objectives. Yet, knowledge of basic cost components remains a crucial input to the pricing decision, and companies should strive for a complete picture of various cost issues. (Blois, Gijsbrechts, Campo, Oxford Textbook of Marketing, 2000) External factors affecting pricing AS well as there are internal factors that affect the firm, there are also many external factors that affect the firm that must be taken into account when prices are set. It is useful to consider these in four groups; first the characteristics of the customers themselves and then three aspects of the environment within which the firm operates. (Blois, Gijsbrechts, Campo, Oxford Textbook of Marketing, 2000) Customer characteristics Price-volume relationship (price sensitivity) The customers price sensitivity is usually measured by the price elasticity; the price elasticity is the relative change in demand (sales) resulting from a relative change in the unit price of the product. The price elasticity is affected by four factors; firstly, measured price sensitivities depend on how demand is quantified: market-share changes in response to price are typically larger than sales changes. Secondly, the nature of the price change affects elasticity outcomes. Market reactions to a regular price change may be different from response to temporary promotional price cuts. Thirdly, the level of price elasticity depends on distribution and communication, but especially on product characteristics. Products or services with a unique brand value are said to be less sensitive to price changes. Finally, price elasticity changes over the product life cycle (PLC). The traditional view is that price sensitivity increases as the product evolves over the life cycle, price sensitiv ity first declines as the product moves from the introduction to the growth and maturity stage, and then increases in the decline phase of the PLC. Individual consumers The traditional microeconomic picture of a consumer who correctly registers all prices and price changes, and acts rationally upon them so as to maximize his utility, has been falsified for quite some time. Consumers are heterogeneous in their levels of price search, knowledge, and recall accuracy. Consumers also differ in the location of their acceptable price range: they have different upper and lower price limits, different reference price levels, and different latitudes of acceptance around the reference price. A wide range of factors may explain these differences. Economic factors, such as perceived price differences, budget restrictions, and income levels, are a first source of heterogeneity. Search and transaction costs stemming from time constraints, mobility restrictions, age, household composition, and location, also affect consumer price processing and evaluation. Thirdly, human-capital characteristics such as time-management skills and basic knowledge may come into play. Fourthly, the level of price processing depends on the expected psychosocial returns from price information collection and product adoption, which are often related to culture and peer group. Finally, consumer traits like variety-seeking versus loyalty cause consumers to react differently to prices. As will be argued in subsequent sections, recognition of consumer heterogeneity is crucial for effective pricing: managers should exploit these differences in the development of pricing strategies and tactics. Industrial customers Industrial decision is believed to be more rational and based on more complete information. Price would, for example, be less often used as a quality signal in industrial settings. Other factors such as the importance in the total cost of the end product and the importance in the functioning of the end product are deemed more important determinants of the price sensitivity of industrial buyers than of individual consumers. Competitive environment In determining prices, the competitive environment should explicitly be accounted for. The level of demand associated with a given company price strongly depends on prevailing competitive prices. Moreover, in a dynamic setting, not only must current prices of competitors be taken into account, but so should competitive reactions. Competitive retaliation may attenuate pricing effects. It could even provoke price wars where prices of all market players are systematically reduced, possibly to unprofitable levels. Careful analysis of competition is, therefore, a prerequisite for effective pricing. Channel environment Most companies operate within a marketing channel: they obtain products, components, and/or materials from suppliers; and many pass their products onto intermediaries before they reach the end-users. The characteristics of the channel, and the (associated) reactions of channel members, strongly affect the nature of the pricing problem as well as the effectiveness of alternative pricing strategies, structures, and instruments. Legal environment In setting prices, managers must be aware of legal constraints that restrict their decision freedom such as: Consumer pricing regulations Governments can influence final consumer prices indirectly by means of VAT rates. They can also control prices directly by imposing price ceilings or price floors for specific product categories. Besides imposing restrictions on absolute price levels, governments can limit the freedom of co