6

Service Pricing and

Revenue
Management

WIRTZ LOVELOCK
 Learning Objectives
6.1 Recognize that effective pricing is central to the
financial success of service firms.
6.2 Outline the foundations of a pricing strategy as
represented by the pricing tripod.
6.3 Define different types of financial costs and
explain the limitations of cost-based pricing.
6.4 Understand the concept of net value and know
how gross value can be enhanced through value-
based pricing and reduction of related monetary
and non-monetary costs.
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 Learning Objectives

6.5 Describe competition-based pricing and

situations where service markets are less
price-competitive.
6.6 Define revenue management and describe
how it works.
6.7 Discuss the role of rate fences in effective
revenue management.
6.8 Be familiar with the issues of ethics and
consumer concerns related to service pricing.
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 Learning Objectives

6.9 Understand how fairness can be

designed into revenue management
policies.
6.10 Discuss the six questions marketers
need to answer to design an effective
service- pricing strategy.

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6.1
Recognize that effective pricing
is central to the financial
success of service firms.

WIRTZ LOVELOCK
Effective pricing for financial
success

6-6
 Effective pricing is central to financial success
• Harder to calculate financial costs of
creating a service process or
performance than a manufactured good.
• Variability of inputs and outputs:
• How can firms define a “unit of service” and
establish basis for pricing?
• Importance of time factor – same service
may have more value to customers when
delivered faster.

6-7
 Objectives for pricing of
services
• Revenue and Profit Objectives
• Seek profit
• Cover costs
• Patronage and User-Based Objectives
• Build demand
-Demand maximization
-Achieve full capacity utilization
• Build a user base
-Stimulate trial and adoption of new service
-Build market share and/or large user base

6-8
6.2
Outline the foundations of a
pricing strategy as represented
by the pricing tripod.

WIRTZ LOVELOCK
Foundations of a Pricing
Strategy
• Pricing strategy
• Pricing Strategy • 1. Cost based to
Stands on Three Provider
Legs • 2. Competitor based
pricing
• 3. Value-based
pricing

6-
10
 Three main approaches to
pricing
Competitio
Cost-Based Value-Based
n-Based
Pricing Pricing
Pricing
●
Set prices
relative to
●
Monitor
financial costs competitors’
●
Relate price to pricing
●
Activity-Based value strategy
Costing perceived by
customer ●
Dependent on
●
Pricing the price
implications of
leader
cost analysis

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6.3
Define different types of
financial costs and explain the
limitations of cost-based pricing.

WIRTZ LOVELOCK
 Cost-Based Pricing
• Set prices relative to financial costs
(problem: defining costs)
• Many service organizations have a
much higher ratio of fixed costs to
variable costs e.g. hospitals (physical
facilities), airlines (fleet of vehicles) and
railroad (network).

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 Cost-Based Pricing
• Activity-Based Costing
• Links resources needed to perform an activity -
allocates the indirect cost to a service based on the
quantities and types of activities required to perform
the service.
• Firms will be in a better position to estimate the costs
of its various services, activities and processes.
• Pricing implications of cost analysis
• To make a profit, a firm must set its price high
enough to cover the full costs of producing and
marketing the service and add a sufficient margin to
yield the desired profit at the predicted sales volume.

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6.4
Understand the concept of net
value and know how gross
value can be enhanced.

WIRTZ LOVELOCK
 Value-based pricing

• Understanding Net Value:

o Customers weigh the perceived
benefits of the service against the
perceived costs they will incur.
o Value is a low price.
o Value is whatever I want in a product.
o Value is the quality I get for the price I pay.
o Value is what I get for what I give.

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 Value-based pricing

• Since value is subjective, not all

customers have the skills or knowledge to
judge the quality and value they receive.
• Managing the Perception of Value:
o Effective communications and even
personal explanations are needed to
help customers understand the value
they receive (value is subjective).

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 Value-based pricing
Reducing Related Monetary and Non-Monetary Costs
• Reduce related-monetary costs.
o Customers often incur significant financial costs in searching for, purchasing
and using the service, above and beyond the purchase price paid to the
supplier.
o Cut time spent searching for, purchasing and using service e.g. travel,
parking, food & beverages

• Reduce non-monetary costs.

o Time Costs (e.g. govt office waiting time)
o Physical Costs (effort, fatigue, discomfort)
o Psychological (Mental) Costs (e.g. filling
form with lots of details)
o Sensory Costs (unpleasant sights,
sounds, feel, tastes, smells-crowded)
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 Value-based pricing
• Service users can incur costs during any
of the three stages of the service
consumption model

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6.5
Describe competition-based pricing
and situations where service
markets are less price-competitive.

WIRTZ LOVELOCK
Competition-based pricing
Price competition
intensifiers:
Increasing number of competitors
Increasing number of substituting
offers
Wider distribution of competitor
and/or substitution offers
An increasing surplus capacity in
the industry

Price competition inhibitors:

Non-price related costs of using
competing alternatives are high (e.g.
saving time and effort)
Personal relationships matter (e.g.
hairstyling)
Switching costs are high (e.g. takes
effort, time and money to switch)
Services are often time and location
specific
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 Which clinic would you patronize if you
needed a chest x-ray?

(Assuming that all 3 clinics offer good technical

quality

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6.6
Define revenue management
and describe how it works.

WIRTZ LOVELOCK
 Revenue management
Maximizing Revenue from Available Capacity at a
Given Time
• Revenue management is price customization
o Charge different value segments different prices
for same product based on price sensitivity
• Also known as yield management.
• Used by airlines, hotels, car rental firms,
hospitals, restaurants, golf courses, concert
organizers, cinemas, etc.
o E.g. airlines seek to maximize revenue per available
seat kilometer and hotels try to maximize their
revenue per available room-night.

6-24
 Revenue management
Maximizing Revenue from Available Capacity at a Given
Time
• Most effective when
o Relatively high fixed capacity
o High fixed cost structure
o Perishable inventory
o Variable and uncertain demand
o Varying customer price sensitivity

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6.7
Discuss the role of rate
fences in effective revenue
management.

WIRTZ LOVELOCK
 Designing Rate Fences
• Revenue Management is built on the concept of price
customization i.e. charging different customers different
prices for what is actually the same product.
• Rate fences are used to allow customers to self-segment
on the basis of service characteristics and customers'
willingness to pay.
• Physical fences refer to tangible product differences
related to the different prices e.g. the seat location in a
theater.
• Nonphysical fences refer to consumption, transaction or
buyer characteristics e.g. book a ticket ahead of time.

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 Role of rate fences
Key Categories of Rate Fences: Physical

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 Role of rate fences
Key Categories of Rate Fences: Non-
Physical (1)

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 Role of rate fences
Key Categories of Rate Fences: Non-
Physical (2)

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 Role of rate fences
Key Categories of Rate Fences: Non-
Physical (3)

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6.8
Be familiar with the issues of
ethics and consumer concerns
related to service pricing.

WIRTZ LOVELOCK
 Issues of ethics and consumer
concerns
• Customers are vulnerable when service is hard to evaluate as
they assume that higher price indicates better quality
• Many services have complex pricing schedules
o Hard to understand
o Difficult to calculate full costs
in advance of service
• Quoted prices not the only prices
o Hidden charges
o Many kinds of fees
• Too many rules and regulations
o Customers feel constrained, exploited
o Customers face unfair fines and penalties
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6.9
Understand how fairness can
be designed into revenue
management policies

WIRTZ LOVELOCK
How fairness can be designed
• Design clear, logical and fair price schedules and fences
• Use high published prices and present fences as opportunities
for discounts (rather than quoting lower prices and using
fence as basis to impose surcharges
• Communicate consumer benefits of revenue management
• Use bundling to “hide” discounts
• Take care of loyal customers
• Use service recovery to compensate for overbooking

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6.10
Discuss the six questions marketers
need to answer to design an effective
service-pricing strategy.

WIRTZ LOVELOCK
Putting Strategy into Practice
• How much to charge?
• What basis for pricing?
• Who should collect payment?
• Where should payment be made?
• When should payment be made?
• How should payment be made?
• How to communicate prices?

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Thank You.

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