Product Pricing and Market Dynamics - Criticality of Pricing the Product/ Service Correctly

With advent of internet, the availability of choices has increased for consumers and with the emergence of sophisticated analytical tools for very sharp segmentation,the role of non-price factors have increased in recent times. However, price is the most critical element of marketing mix. Particularly in India customer is very sensitive to price. Some of the interesting features of price are:

•  Flexible to change: can be revised from time to time as per the objective and can be adapted differently to different geographic markets.
•  Produce revenue: this is the only element that produces revenue where as the other three Ps of marketing mix produce cost.

Quite often pricing is set independently of other marketing mix elements rather than as an intrinsic element of the overall marketing strategy which is not good.This approach does not result in optimum results.

i.Pricing Dynamics During Different Stages of Product Life Cycle (PLC) 

Any product has different stages in its life cycle. Each of this stage requires a rethink on marketing mix and particularly pricing. Pricing must change based on the different stages of PLC.
 

Introduction - This is initial stage when product is just introduced in the market.Initial fixed costs are higher and company could adopt a cost plus model.

a. Growth - The product awareness is fairly increased and the sales have started increasing. As the competition and sales increases, the fixed cost per unit decreases and the company could adopt a pricing strategy to increase product penetration.

b. Maturity - The awareness level is complete and the sales slow down because of the product's acceptability by the market. As a result, profits decline and pricing decisions are more dependent on the competition with other companies.In this stage, the company matches the price of competing product price in the marketplace.

c. Decline - There are many product substitutes with better value offering and the sales shows declining trend. In this stage, if company believes that under any circumstance the sales will decline with time, the company could cut the price to arrest the decline or continue with same price and not compromise on its profits.

ii. Pricing Options and Strategies

i) Price Setting Methods
a) Cost Plus

This is the most elementary method of setting up a price. Under this method, the company adds a profit margin to the cost of production and decides the price.The cost of production includes variable cost and fixed cost per unit of the product.

For example 

The dairy unit procures milk from farmers, does some elementary processing in its processing unit, and transports it to market for final sales. Therefore, cost is added on actual and marginal profit is taken on the basic cost.

Variable Cost: Procurement price paid to the farmer (Rs 10/ liter)

Fixed Cost: Rent of the processing unit, transportation cost, manpower cost etc(Rs 15000/ month)

The dairy unit is expecting to sell 15000 liter per month. In such a case, the fixed cost per liter is Rs1 and variable cost is Rs 10. Therefore, the total cost of production is Rs 11. Suppose the unit wants to retain a profit margin of 27%. The final price would be:
 

Cost of production/ (1-desired profit margin) = 11/0.73 = Rs 14

Thus, the final price would be Rs 14/ liter.As you would notice, with increase in sale of milk the fixed cost per liter decreased and the unit could earn higher profit margin or could reduce the price and maintain the same profit margin.

b. Value Based Pricing
Under this approach, the company offers a low price for a high quality product.It does not mean that the company compromises on the product quality to lower the price compared to competitor. It means that the company has to work backwards to reduce the cost of production. This approach creates a long-term competitive advantage for the company.

c. Perceived Value Pricing
In this approach, the company tries to estimate the price the buyers would be willing to pay for the perceived value of the product. The companies build up the perceived value of the product through innovative use of advertising and sales promotion.

d. Competitive pricing

Under this approach, the company sets the price very close to the price charged by the competitor. This approach is used in mature products where creating differentiation is difficult. This is quite a popular method of pricing which assumes that the price charged by competitor is a fair price and could leave some profit for the company.In Mumbai, Mother Dairy had launched loose milk in competition to Amul. The price charged by Mother Dairy was same as charged by Amul.

ii) Pricing Objective

An important aspect of pricing strategy is to decide pricing objective. There could be multiple objectives:

•  Maximum Profit: Company is interested in maximizing the profit. It works in markets where product awareness is low and a limited or no competition exists.
•  Market Share: Company wants to increased market share. This could result in lower fixed cost per unit; establish company leadership in the market.
• Companies with good financial strength could use this approach.
•  Survival: This objective is generally adopted in circumstances where
•  the company is having overcapacity or
•  is faced with intense competition, or
•  the consumer preference is changing quite rapidly or
•  Company just wants its presence to be there in the market and is not looking for any major share or profit immediately.

In this approach the company tries to recover variable cost and some or full part of fixed cost.

Price Elasticity of Demand
Elasticity refers to change in demand with respect to change in price. It is critical to know the price elasticity of your product before setting up the price or revising it. In case the demand is less elastic i.e. unlikely to change much with unit change in price, the company can afford to charge a higher price. Demand is likely to be less elastic under following circumstances:

•  Consumers think that higher price is justified by higher quality and a general increase in price level across product categories 
• There is no or few substitute to the product
•  Consumers are slow to change their buying/ consuming pattern. They do not notice the change in price. In sale of loose milk, a small change in price of 25/ 50 paisa per liter is unlikely to change the demand pattern
•  Brand loyalty - consumer is so loyal to the product that even after increase in price he or she would prefer it to other brands. E.g. if Mother Dairy ice-cream is liked by a consumer then even if it is priced higher than the competitors still consumer would buy it.