Copyright 2016 Pearson Education Inc 1 Section 3

Copyright © 2016 Pearson Education, Inc. 1

Section 3: Launching the Business 10 Pricing and Credit Strategies Copyright © 2016 Pearson Education, Inc. 10 -2

Learning Objectives v Discuss the relationships among pricing, image, competition, and value. v Describe effective pricing techniques for introducing new products or services and for existing ones. v Explain the pricing methods and strategies for retailers, manufacturers, and service firms. v Describe the impact of credit on pricing. Copyright © 2016 Pearson Education, Inc. 10 - 3

Introduction v. Pricing: v Is governed both by art and science. v Requires balancing a multitude of complex forces. v Influences every aspect of a small company. v Is an important signal of value to customers. v Involves both math and psychology. v Has a greater impact on profits than corresponding increases in unit volume or reductions in costs. Copyright © 2016 Pearson Education, Inc. 10 - 4

Impact of Pricing and Cost Improvements on Profitability Copyright © 2016 Pearson Education, Inc. 10 - 5

Image, Competition, Value v Companies that take a strategic approach to pricing and monitor its results can raise their sales revenue between 1 and 8% v. Example: Duane Reade Copyright © 2016 Pearson Education, Inc. 10 - 6

Price Conveys Image v Price sends important signals to customers: quality, prestige, uniqueness, etc. v Common small business mistake: charging prices that are too low and failing to recognize extra value, service, quality, and other benefits they offer. v The key is to understand the target market and identify how much customers are willing to pay rather than how much to charge. Copyright © 2016 Pearson Education, Inc. 10 - 7

Competition and Pricing v. Must take into account competitors’ prices, but it is not always necessary to match or beat them. v. Key is to differentiate a company’s products and services. v. Price wars often eradicate companies’ profits and scar an industry for years. v. Best strategy: Stay out of a price war! Copyright © 2016 Pearson Education, Inc. 10 - 8

The Reality of Setting Prices Copyright © 2016 Pearson Education, Inc. 10 - 9

Focus on Value v The “right” price for a product or service depends on the value it provides for a customer. v Two aspects of price: v. Objective value v. Perceived value: determines the price customers are willing to pay. v Value is not synonymous with low price. v. Fighter brand Copyright © 2016 Pearson Education, Inc. 10 - 10

Dealing with Rising Costs v. Communicate with customers v. Add a surcharge v. Focus on improving efficiency v. Consider absorbing cost increases v. Eliminate discounts, coupons, and freebies v. Use cheaper raw materials v. Raise prices incrementally and consistently Copyright © 2016 Pearson Education, Inc. 10 - 11

Dealing with Rising Costs (continued) v Modify the product or service to lower its cost v Offer products in smaller sizes or quantities v Differentiate your company and its products and services from the competition v Anticipate rising costs and try to lock in prices of raw materials early v Emphasize the value of your company’s product or service to customers Copyright © 2016 Pearson Education, Inc. 10 - 12

What Determines Price? Copyright © 2016 Pearson Education, Inc. 10 - 13

Introducing a New Product v Three Goals: 1. Getting the product accepted v Revolutionary products v Evolutionary products v Me-too products 2. Maintaining market share as competition grows 3. Earning a profit Copyright © 2016 Pearson Education, Inc. 10 - 14

Introducing a New Product (continued) v Three basic pricing strategies: 1. Penetration 2. Skimming 3. Life cycle pricing Copyright © 2016 Pearson Education, Inc. 10 - 15

Pricing Established Goods v Odd pricing v Price lining v Freemium pricing v Dynamic pricing v Leader pricing v Geographic pricing v Discounts (markdowns) Copyright © 2016 Pearson Education, Inc. 10 - 16

Pricing Established Goods (continued) v Bundling v Optional-product pricing v Captive-product pricing v By-product pricing v Suggested retail prices v Follow-the-leader pricing Copyright © 2016 Pearson Education, Inc. 10 - 17

Pricing Strategies: Markup If a shirt costs $14, and a retailer plans to sell it for $30, the markup would be: Copyright © 2016 Pearson Education, Inc. 10 - 18

Costs and Markup Calculations for i. Pad and Surface Tablets Copyright © 2016 Pearson Education, Inc. 10 - 19

Initial Dollar Markup and Retail Price Copyright © 2016 Pearson Education, Inc. 10 - 20

Pricing for Manufacturers v The most commonly used pricing technique for manufacturers is cost-plus pricing: v A manufacturer establishes a price that covers the cost of direct materials, direct labor, factory overhead, selling and administrative costs, and a desired profit margin. Copyright © 2016 Pearson Education, Inc. 10 - 21

Cost-Plus Pricing Components Copyright © 2016 Pearson Education, Inc. 10 - 22

Direct Costing and Pricing v. Absorption costing: v Traditional method of product costing in which all manufacturing and overhead costs are absorbed into the product’s total cost. v. Variable or direct costing: v Product costing method that includes in the product’s costs only those costs that can vary directly with the quantity produced. Copyright © 2016 Pearson Education, Inc. 10 - 23

Break-Even Pricing Break-even selling price = Profit + (Variable cost per unit x Quantity produced) + Total fixed cost Quantity produced Copyright © 2016 Pearson Education, Inc. 10 - 24

Direct Costing and Pricing v. To establish a reasonable, profitable price for service, small business owners must know the cost of materials, direct labor, and overhead for each unit of service they provide. Price Total cost per hour = productive hour ÷ (1 -net profit as a % of sales) Copyright © 2016 Pearson Education, Inc. 10 - 25

Impact of Credit on Pricing v 58% of small business owners say that their customers expect them to accept credit cards. v But, companies incur an additional cost to offer this service. v Three options for selling on credit: v Credit (and debit cards) v Installment credit v Trade credit Copyright © 2016 Pearson Education, Inc. 10 - 26

Multiple Forms of Payment Percentage of Customers Who Shop Only at Businesses That Accept Multiple Forms of Payment Copyright © 2016 Pearson Education, Inc. 10 - 27

Consumer Credit v Credit cards: typical consumer has 3. 75 credit cards. v Research: Customers who use credit cards make purchases that are 112% higher than if they had used cash. v On a typical $100 credit card purchase, cost to business = $2. 33. v. Interchange fee Copyright © 2016 Pearson Education, Inc. 10 - 28

Typical Credit Card Transaction Copyright © 2016 Pearson Education, Inc. 10 - 29

E-Commerce and Credit Cards v About 0. 9% of online credit card transactions are fraudulent. v To minimize credit card fraud: v. Use an address verification system v. Require a CVV 2 number v. Check customers IP addresses v. Monitor Web site activity with analytics v. Verify large orders v. Post notices on Web site that your company uses anti-fraud technology v. Contact the credit card company or bank that issued the card Copyright © 2016 Pearson Education, Inc. 10 - 30

Consumer Credit (continued from 10 -28) v. Debit cards v. Shoppers make almost 53 billion debit card transactions, totaling $2. 1 trillion each year. v. Mobile wallets: v. Applications that link a smart phone or tablet to a credit or debit card, transforming the device into a digital wallet. v. Growing form of payment. v. Installment credit v. Trade credit v. Layaway Copyright © 2016 Pearson Education, Inc. 10 - 31

Conclusion v Pricing techniques impact every aspect of a company including: v Image v Customers v Cash flow v Profits Copyright © 2016 Pearson Education, Inc. 10 - 32

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