4/29/2015

BBDT3193 Pricing
Strategy
Lecture 3

Lecture 3: Price Structure

Chapter 3 :Tactics for
Pricing Across Segments

Nagle, Thomas T., & Hogan, John E,

Zale J, 2011, The Strategy & Tactics
of Pricing: A guide to growing more
profitably, 5th edn, Pearson Prentice
Hall.

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Traditional Segmentation

Value-Based Segmentation

Segment to operationally adapt to

customer needs
Give priority in segmentation to
needs that have highest variance
among customers
Define as many segments as unique
needs will support to maximize
opportunity for revenue growth

* Based on the segments profit potential -- I.e., the value the segment

Segment and compare based on value

drivers and economic value estimation
Segment to find most profitable
opportunities given your capabilities
Give priority to those determinant needs
with greatest strategic impact based on
value and operations
Define additional segments when isolating
them will have a positive
financial/operational/strategic impact

receives relative to your operational ability to service the segment

* Needs between segments are different enough that you can design
different offerings at different price points

* Able to facilitate the creation of product/service offerings

* Based on identifiable criteria that easily separate one segment from
another

* Helps managers to make better marketing and pricing decisions

(statistical significance is a nice-to-have, not a necessity)

* Actionable in the field, i.e. easily enabling customers to make tradeoffs between offerings and willingness to pay

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Determine
basic
segmentation
criteria

Exhibit 3-1

2.
3.
4.
5.
6.

Create
primary and
secondary
segments

Create
detailed
segment
descriptions

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*
1.

Identify
discriminating
value drivers

Determine
your
operational
constraints
and
advantages
with regard
to those
value drivers

Develop
metrics and
fences

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Create Primary Segments Based on Overlap of Customer Needs

and Internal Constraints
Determine basic segmentation criteria that create
natural fences between customer groups
Identify discriminating value drivers
Determine your operational constraints and advantages
with regard to those value drivers
Create primary segments based on overlap of customer
needs and your internal constraints, and secondary
segments based on most important needs
Create detailed segment descriptions for easier
identification in the field
Develop metrics and fences to operationally separate
conceptual segments

Take groups in Step 3 and divide them

into Primary segments based on the
extent to which needs that drive
purchasing decisions have an impact on
the sellers operational constraints (i.e.
overlap)

Catalog Market

Customer
Controlled
Scheduling

Brand Focus
Segment

Personal
Touch
Premium
Service

Printer Controlled
Scheduling

Consistency
Segment

Unique
Equipment
Segment

Customer Choice

Specialty

Cost Conscious
Segment
Productivity
Solutions

Low Touch, Low

Price Segment
Baseline

Further subdivide those Primary segments into Secondary segments with substantially different needs for
the things that the seller has a competitive advantage/disadvantage in providing.
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CUSTOMER CONTROLLED SCHEDULING SEGMENTS

Segment

Brand Focus

Needs

Consistency

Representative Catalogs

Coldwater Creek
Spiegel
Eddie Bauer
William Sonoma

J Crew
Brylane
Fingerhut
Brooks Brothers

Viking
Bon Marche
Quill
Industrial Catalogs

Key Demographics

Large Print Order Quantities

Mid-size Catalogs
Prints 1-4 or > 12 times per year
Uses high quality paper grades
Mostly Saddle Stitched

Small to Medium Print Order

Quantities
Mostly Short Cut-off/Standard
Trim Sizes
Medium Sized Catalogs
Mostly Saddle Stitched

Small Print Order Quantities

Smaller sized catalogs
Must have Supplied
Component Parts
Catalogs carry numerous store
brands
Higher percentage of B2B
catalogs

Margin Management
Expects big 3 standard services,
managed by the customers staff
Precision Printer Performance
Moderate Maintenance
Needs Print/Bind, Dist will
provide won PMT
Paper supply options

Unique Capability

Maintain brand image across

channels
Custom services tailored to
customer needs
Proactive problem resolution
development
High Maintenance
Full service bundled solutions

Products that are distinct to

the end user
Advanced targeting
techniques to drive demand
Product longevity requires
longer catalog shelf life

Exhibit 3-2

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*
* Optimizing an Offer Bundle
* Designing Segment Specific Bundles
* Unbundling Strategically

Source: Richard Harmer. Strategies for Segmented Pricing, The

Pricing Institute 6th Annual Conference (Chicago, March 2225, 1993).
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See Pg 64
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Which segments are more price sensitive?

* Personal vs. Business Travelers

Personal buyers are more price sensitive than business buyers, because business
buyers share the cost with their employer.

* New to Market vs. Experienced Buyers

Experienced buyers are more price sensitive because they are more
knowledgeable of other competitive alternatives.

Which segments are more costly to serve?

* Peak vs. Off-Peak Purchasers
Peak buyers, because they purchase at times when the firms capacity is
stretched to the limit, requiring tradeoffs. Either the company must add more
capacity to deal with peak demand, or turn customers away -- resulting in an
opportunity cost. Hence, the true cost to serve these customers is much
higher.

* New Customers vs. Established Customers

* Light Users vs. Heavy Users

Heavy users are more price sensitive than light users because they spend a
larger share of their total income or total budget on the product. Low income
buyers are more price sensitive, for a similar reason -- smaller budgets available.

New customers are more costly to serve than established customers because
of the added expense of integrating them into the firms value delivery system
-- setting up the account, order entry, training customers on product/service
offerings, etc

* Light Users vs. Heavy Users

* Students/Retired vs. Employed

Budget conscious is obvious; and students and retired persons are more price
sensitive because of smaller budgets and incomes.

Light users are more expensive to serve than heavy -- because your
marketing and support expenses are amortized over fewer transactions and
interactions with the company.

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*
A one-size fits all approach to pricing reduces profitability
and intensifies customer pricing pressure
High

.leaves money on the table for these

customers and communicates that
value does not have to be paid for

Unharvested
value

High

One size fits all

offering

p1

Missed Opportunities

Value

1 Setting price here

Med

Missed
Opportunities

Value Received

Low

Segments

D
Low

During the recession, the trend was to bundle value-added

services into core offering to defend price points and close deals

Segment Size

3 .and misses growth opportunities by

pricing these customers out of the market
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*
Prod. 4

High

Value

Prod. 3
Prod. 2

Professional SRP $299.99

All in Standard +
MS Access

Standard SRP $219.99

Developer SRP $529.99

Development Tools to Build
Own Applications

Prod. 1

D
Low

Segments

Differences in value can be captured with product variations

or service augmentation that creates natural fences between segments

Pro SRP $279.95

All in Basic +
Create Customized forms,
Tools to Track addl items

Basic SRP $199.95

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Premier SRP $399.99

All in Pro +
Daily Sales Summary,
Retail Specific Reports
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*
in these instances, look to pricing
metrics to capture value differences
High
One size fits
all offering
- p3 -

Med

- p2 - p1 -

Value Received

- p4 -

Low

Segments
When the product cannot be unbundled and offered as separate variations of a core product then
you can use price metrics to change what customers pay. Metrics frame the terms of exchange
what the buyer pays for what he/she gets. A given segmentation pricing menu will involve a variety
of metrics and fences, to reflect many different segments that are willing to pay different amounts for
many different value configurations
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* Creating Good Price Metrics (Exhibit 3-4)

* Tracks with differences in value across segments.
* Good metrics tracks with differences in cost to serve across
customer segments.

* Easy to implement without any ambiguity about what charge

the customer has incurred.

* How the metric makes your pricing appear in comparison

with competitors pricing impact on the attractiveness of

your offer.

* How a price metric aligns with how buyers experience the

value in use of the product/service.

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Exhibit 3-4

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* Price Fences are a means to charge different customer

Market

Traditional Metrics

Value-based Metrics

Real Estate Want Ads

$ / column inch

$ / property value

Aircraft Engines

$ / engine

$ per hour of use

Information service

$ / minute

$ / download

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different prices.

* Types include

*Buyer identification fences

*Purchase location fences
*Time purchase fences
*Purchase quantity fences
* Volume discount
* Order discount
* Step discount
* Two-part pricing

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Charging different prices to different buyers based on observable

characteristics that signal buyers' price sensitivity.

* Buyers in different segments must have different characteristics that

Charging higher prices at times when less price sensitive

buyers naturally purchase, and charge lower prices at times
when it would be inconvenient for them to purchase.

either are obvious, or that buyers can be induced to reveal.

* Occasionally, an identifiable characteristic (for example, age) can be

used to segment buyers. More commonly, buyers must be induced to

reveal information. The key to inducing buyers to reveal their price
sensitivities is often to set prices high and give discounts for
information indicating that the buyer is a member of a price sensitive
segment (for example, students, retirees). Couponing is one way to
help price sensitive shoppers reveal themselves. For large
expenditure items, expert salespeople can be used to ferret out
information to segment customers.
* For example, many retail establishments give discounts to senior
citizens.

* There must be a natural difference in time-of-purchase

patterns for different segments of buyers.

* Customers with different price sensitivities will often buy at

different times, creating a natural opportunity to segment by

charging different prices at different times of the day, week,
or year. This is a common tactic for restaurants and theaters
that charge different prices during the day. Retailers often
have periodic sales to attract price sensitive buyers.

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26

*
A department store has an interesting discounting policy for brand-name quality
clothing

* The ticket on each item is dated and lists a number of prices.

A fancy steak house in a shopping mall offers a 20%

discount to employees of other stores in the mall,
provided that they eat before 6:00 PM or after 8:00 PM

* The first price is the one that a customer pays if the merchandise is bought within the
first eleven days after arrival.

* The next price is discounted an additional 25% and applies to merchandise that is 12 to
17 days old.

* The third price is discounted 50% and applies to merchandise 18 to 23 days old.
* The fourth price is discounted 75% and applies to merchandise that is 24 to 29 days old.
* On the 30th day, the merchandise is turned over to charity. Since most of the

* Can you explain the rationale for this strategy?

(Your
explanation should both account for why the 20% discount is
not offered to everyone and why it is restricted in the hours
when it is offered.)

merchandise is surplus, there is generally a limited supply in each style, color, and size.

* (They are adopting a sequential skimming strategy to take advantage of those

consumers who might locate a clothing item that fits their needs and may not
want to wait for additional discounts since they may lose it to another buyer.
This strategy is particularly valuable for off-season or distressed merchandise that
the retailer has purchased for an extremely low price and can initially offer it at
a fairly high margin.)
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A deli in a college town has an interesting pricing strategy

for students. The dinner specials at the restaurant are
normally $4.95. Students, however, can buy weekly
"meal tickets" that give them three meals for $13.90, 5
meals for $22.25, or seven meals for $29.90. The tickets
expire at the end of each week and they are not
transferable

Peak-load pricing is used to segment markets by the cost

of serving them at different times?

* Name types of businesses, other than public utilities,

that could effectively use peak-load pricing. Describe

how a peak-load strategy might be implemented in each
case.

* Can you explain this pricing strategy?

* Yield management represents a more sophisticated

version of peak-load pricing. What kinds of companies

use yield management?

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Charge higher prices at places where less price sensitive buyers purchase
* Price sensitive and price-insensitive buyers naturally purchase at different
locations or
* Insensitive buyers will not change purchase location to take advantage of the
price difference

* Since price sensitivity and competition often vary by location of the customer,

marketers are able to obtain different prices for the same product sold in
different locations. Two common tactics are: dumping - which is common in
international markets - and freight absorption - which is often used for pricing
bulky industrial products such as steel and wood. One must be careful not to
overstep legal constraints on geographical price differences. It is risky to
undercut the prices of a local competitor while keeping prices high
elsewhere, but it is usually acceptable to cut prices to meet the prices of that
competitor.

* Many grocery chains charge different prices for different stores located in

more versus less affluent local areas. Most buyers are unaware of the
difference in prices between locales for the same grocery chain. Affluent
customers are unlikely to seek other less expensive options to purchase
groceries because the cost of traveling elsewhere exceeds the perceived
difference in prices.

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When price segments differ in the quantities they buy, charge different prices for
different quantities

* If buyers are in competition, must be cost-justified

* Differences in purchase quantity often correlate with differences in price sensitivity,

cost, or competition. When large volume buyers are more price sensitive (due to the
total expenditure effect) and/or when the incremental cost of servicing an account
declines with volume, sellers may offer discounts based on total purchase volume.
* Volume discounts are based on the customer's total purchases over a month or year
rather than on the amount purchased at any one time.
* Order discounts encourage customers to place larger orders, which almost always
result in cost savings for the seller.
* Step discounts serve to segment different purchases by the same customer based on
the different values the customer places on different quantities of the product.
Example: The buyer values small quantities of electricity for lighting very highly, but
values larger quantities for heating much less.
* Two-part pricing may reflect a two part structure of costs: an incremental fixed
cost to serve the customer and a variable usage cost. Usually, however, two-part
pricing is an alternative way to accomplish segmentation among purchase quantities by
the same customer (as in step pricing).
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*
Selling different products either as an indivisible bundle, or only at higher
prices if separated

* Buyers must differ in their relative valuations of the bundled goods

The local outlet of a fast food chain charges $2.60 for a salad from its salad bar if
ordered a la carte. When ordered with a sandwich, however, the salad bar costs
only $1.99. In either case, the customers are permitted to fill their bowls just
once

* Can you explain this segmented pricing technique?

* Offering different products as a bundle can effectively segment a market if

the bundled products have a particular relationship to one another in their

value to different buyer segments. In particular, if a bundle consists of
products A & B and product A is valued more by segment (1) than by segment
(2), then product B must be valued more by segment (2) than by segment (1)
for bundling to be an effective tactic. Optional Bundling offers two products
at a price lower than the sum of their prices if bought separately. It is
profitable when some buyers value one of the items in the bundle very
highly but value the other less than it costs to produce. Optional bundling is
used to present a loss of sales to someone unwilling to buy the bundle but
who values one of the products highly. Value-Added Bundling offers
additional value to price-sensitive buyers that less price-sensitive buyers do
not want. It usually appears as a promotional technique.

Most hotels will lend guests an iron and an ironing board free of charge, despite
the fact that this service competes with the hotel's valet service, for which it
does charge. Those same hotels usually charge outrageously to supply glasses,
ice, and mixers for those who wish to have alcoholic drinks in their rooms.

* Can you explain this anomaly?

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An explicit or implicit requirement that buyers of an asset

purchase consumables used with the asset only from the
seller

* Buyer's value of the asset is proportional to use intensity

* Buyers generally value an asset more the more intensely they
use it. Tie-in sales that contractually require a buyer to
purchase a commodity used with the asset exclusively from
the seller are illegal. Opportunities still exist, however, to
tie buyers by convenience or technological innovation.

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Rental or lease arrangements with a variable rental fee

dependent upon a metered usage rate

*Buyers' value of the asset is proportional to use intensity

*Metering measure uses intensity more directly and is a

legal pricing tactic. The price simply reflects metered

usage of the asset.

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