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Marketing Promotion Pricing Strategies Memorandum

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Please read the provided case "Beyond the Many Faces of Price: An Integration of Pricing Strategies" and write a 2 pages+ business memo based on the instruction file.

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Beyond the Many Faces of Price: An Integration of Pricing Strategies Author(s): Gerard J. Tellis Source: Journal of Marketing, Vol. 50, No. 4 (Oct., 1986), pp. 146-160 Published by: Sage Publications, Inc. on behalf of American Marketing Association Stable URL: https://www.jstor.org/stable/1251292 Accessed: 23-03-2020 05:50 UTC JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range of content in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new forms of scholarship. For more information about JSTOR, please contact support@jstor.org. Your use of the JSTOR archive indicates your acceptance of the Terms & Conditions of Use, available at https://about.jstor.org/terms American Marketing Association, Sage Publications, Inc. are collaborating with JSTOR to digitize, preserve and extend access to Journal of Marketing This content downloaded from 134.154.190.2 on Mon, 23 Mar 2020 05:50:32 UTC All use subject to https://about.jstor.org/terms Gerard J. Tellis Beyond the Many Faces of Price: An Integration of Pricing Strategies The author reviews the field of pricing strategy and constructs a unifying taxonomy of the many str egies described in the literature. The taxonomy is based on the simple proposition that all the strategi have a common denominator-shared economies among buyer segments, across firms, or among prod ucts. The author presents the strategies in comparable terms, emphasizing the principles underlying e and demonstrating the relationship among strategies, the circumstances in which each can be used, the legal and policy implications of each. IN the last two decades the field of pricing strategyand reclassify the various pricing strategies in the lithas made great progress in the form of better the-erature. oretical explanations, more precise models, and in- The first objective of this article is to present a novative pricing strategies (see Nagle 1984 for onenumber of pricing strategies, some of which are simreview). However, the rich variety of pricing modelsplifications and others elaborations of strategies deand strategies developed in different time periods andscribed in the literature. A second objective is to state contexts has resulted in a multiplicity of labels, sev-their underlying principles in comparable terms and eral overlapping descriptions of strategies, and par- thus demonstrate their relationship to each other and tially obsolete typologies. Some pricing strategies aretheir practical applications. A third objective is to pronot yet presented adequately in the marketing litera-pose a classification of these strategies that is parsiture (e.g., price bundling, Stigler 1968; random dis- monious, logically derived, and enlightening to the counting, Varian 1980; or price signaling, Cooper anduser. Such a taxonomy could stimulate alternate Ross 1984) and others have not been developed for- schemes or general theoretical models or new applimally (e.g., price skimming and penetration pricing,cations of empirical models or new strategies (Hunt Dean 1951). A more pressing issue, however, is that 1983, p. 348-60). These objectives are carried out in the following because the principles underlying each strategy have order. First the classification is presented (though it not been presented together, it has not been possible to develop a unifying taxonomy of strategies that shows can be fully appreciated only at the end of the article). their relatedness or differences and immediately sug-Then each strategy is discussed in terms of a pricing gests the circumstances under which each can beproblem presented in simple numerical form. A paradopted. Thus there is a need to compare, rationalize,ticular pricing strategy is shown to be the only one that can resolve the problem, given the demand, cost, competitive, and legal environment. The theoretical Gerard J. Tellis is Assistant Professor of Marketing, University of Iowa. and welfare aspects of the strategy are summarized The article benefitted from the comments of Cathy Cole, S. Hariharan,and applications discussed. Finally, the relationship Timothy Heath, William Robinson, Raja Selvam, and four anonymous among strategies is explained. JM reviewers, as well as the editorial assistance of Barbara Yerkes. This article describes a set of normative pricing 146 / Journal of Marketing, October 1986 Journal of Marketing Vol. 50 (October 1986), 146-160. This content downloaded from 134.154.190.2 on Mon, 23 Mar 2020 05:50:32 UTC All use subject to https://about.jstor.org/terms strategies. A pricing strategy is a reasoned choice from a set of alternative prices (or price schedules) that aim at profit maximization within a planning period in response to a given scenario. Thus, the article describes a set of ideal options one may choose and outcomes that result from such choices, assuming profit maximization by the strategist. Several important pricing topics are necessarily excluded from this discussion: managerial pricing approaches, price implementation, and price, cost, and demand estimation (see Monroe 1979 or Rao 1984 for excellent reviews). In the case of consumer behavior, however, allowances are made for non-optimal behavior. Its most important cause is incomplete information which leads to three types of behavior: consumers may purchase randomly, consumers may use a surrogate for an unknown attribute (e.g., price as a surrogate for quality), or consumers may evaluate choices incorrectly with resultant intransitivity in preferences. On the ba- sis of this hypothesis, Kahneman and Tversky (1979) developed prospect theory as an alternative to traditional utility theory and Thaler (1980, 1985) extended that work. Their work has important implications for pricing strategy. This article shows the impact of all three types of information deficiencies on pricing to search for it. Further, for some of them the opportunity cost of time exceeds the benefit of search, so that they are willing to purchase without full information. Second, at least some consumers have a low reservation price for the product. That is, some consumers are price sensitive or do not need the product urgently enough to pay the high price other consumers pay. Third, all consumers have certain trans- action costs other than search costs-for example, traveling costs, the risk of investment, the cost of money, or switching costs. The two dimensions-firm objectives and con- sumer characteristics-each with three categories yield nine cells into which the strategies discussed here are classified (see Table 1). Table 2 further compares and contrasts these strategies on several dimensions and is discussed in the concluding section. The real world, however, is more complex and several of the conditions listed (search costs, transaction costs, or demand heterogeneity) may occur jointly. Accordingly, in reality a firm may adopt a combination of these strat- egies. What is demonstrated in the proposed classification is the necessary conditions for each strategy, conditions that are jointly sufficient to classify them conveniently. Similarly, in the following discussion the problems define fairly simple scenarios where "other strategies. A Classification of Pricing Strategies The underlying principle in all the strategies discussed here is that the best strategy in certain circumstances is not apparent until certain shared economies or crosssubsidies are taken into account. In a shared econ- things are assumed constant" and only factors affecting the choice of a strategy are allowed to vary. The list of available strategies also is affected by the legal environment. Because of the potential for pricing abuses, especially against weak competitors or weak or uninformed buyers, Congress and the states have passed laws that regulate the pricing strategies firms can adopt. These laws generally ensure that there is no collusion among competitors, no deception of no explicit discrimination among indusomy, one consumer segment or product bears moreconsumers, of trial buyers, or no attempt to manipulate the competthe average costs than another, but the average price still reflects cost plus acceptable profit. The useitive of structure. Some of these laws rule out certain pricing options whereas others include new possibilsuch economies may be triggered by heterogeneity ities, and these effects are discussed in the appropriate among consumers, firms, or elements of the product place. The laws are not always fully explicit, but the mix. The pricing strategies can be broadly classified general motivation of the laws and the spirit in which into three groups based on which of these three factors affects a firm's use of shared economies: differential they have been interpreted by the courts indicate that pricing, whereby the same brand is sold at different no strategy should reduce the impact of competitive prices to consumers; competitive pricing, whereby forces unless it is to the benefit of consumers (Areeda prices are set to exploit competitive position; and 1974; Scherer 1980). product line pricing, whereby related brands are sold at prices that exploit mutual dependencies. The pricing objective of the firm thus constitutes the first dimension on which this classification scheme is con- Differential Pricing Strategies The price strategies discussed here all arise primarily because of consumer heterogeneity, so that the same The second dimension is the characteristics of product can be sold to consumers under a variety of consumers. Again there are three categories of inter- prices. The three strategies discussed refer to conest. First, at least some consumers are assumed to have sumer heterogeneity along three dimensions: transsearch costs. That is, consumers do not know exactly action costs that motivate second market discounting, which firm sells the product they want and they have demand that motivates periodic discounting, and search structed. Beyond the Many Faces of Price / 147 This content downloaded from 134.154.190.2 on Mon, 23 Mar 2020 05:50:32 UTC All use subject to https://about.jstor.org/terms ~~~~~~~~~~~~~~~~~~~~, , ,,_ TABLE 1 Taxonomy of Pricing Strategies Objective of Firm Characteristics of Vary Prices Among Exploit Competitive Balance Pricing Over Consumers Consumer Segments Position Product Line Some have high search Random discounting Price signaling Image pricing costs Some have low reservation Periodic discounting Penetration pricing Price bundling price Experience curve pricing Premium pricing All have special transaction Second market discountin costs TABLE 2 Comparison of Pricing Strategies Differential Pricing Competitive Pricing Product Line Pricing Penetration Second and Experi- Market Periodic Random ence Curve Price Geographic Price Premium Complemen- Criteria Discounting Discounts Discounts Pricing Signaling Pricing Bundling Pricing tary Pricing Characteristic of price strategy varies systematically over: Consumer segments Yes market Product mix No No Competitors in Characteristics of consumers Yes No No No No Only some High trans- with low action Yes No High search Some with costs: low reser- some un- vation reserva- physically tion price: informed price: about price senprice sensitive segprice sitive seg- segments No No No No Yes Yes Yes No No No No No No Yes Yes Yes costs: separated No ment ment Only some High search High trans-Some prefer one prod- some un- costs: uct, oth- prefer basic prod- informed geographion quality; cally dis- ers, an- ucts at other: low prices prefer kets high qual- ric demand costs: portation uninformed tinct mar- High trans- action costs: risk aversiveness or store or asymmet- brand loyalty ity Product and cost characteristics Unused ca- Economies Economies unused of scale or unused capacity capacity pacity of scale or Economies Signaling experience, higher or unused costs or capacity suboptimizes or cheats on quality Higher pro- Perishable adjacent occasion duction costs in of scale or firm has Patents, Joint econ- product or purchase omies of superior technology scale across products; market; features with low cost increase relative to economies of scale or unused capacity price increase Variants Generic pricing, dumping Price skim- Variable ming, price merpeak-load chandispricing, ing, centsprice dis- off, cou- Limit pricing Reference crimina- pons pricing FOB, base point, uniform, zone, and freight pricing Mixed bun- dling, pure components, pure bun- dling - Captive pricing, twopart pric- ing, loss leadership tion, priority pricing Relevant legal con- Explicit price straints discrimina- ExplicitExplicit priceprice Predatory discrimina- tion illegal tion illegal discrimina- pricing il- tion illegal legal - Price collu- sion, explicit price discrimina- tion, pred- Explicit price discrimination, pure bundling illegal atory pric- ing illegal 148 / Journal of Marketing, October 1986 This content downloaded from 134.154.190.2 on Mon, 23 Mar 2020 05:50:32 UTC All use subject to https://about.jstor.org/terms - (Minimum) retail price mainte- nance ille- gal, tie-ins illegal costs that motivate random discounting.' These conditions enable a firm to discriminate implicitly in the as students, children, or new members. can meet specific defenses (Scherer 1980, p. 572; Similarly, for some countries the foreign market represents an opportunity rather than a threat if the same theory is applied. Often a firm's selling price or even current average cost in the home market may be higher than the selling price in the foreign market. However, if its variable costs are sufficiently below the selling price in the foreign market, the firm can export profitably at a price somewhere between the Werner 1982). In the consumer market, explicit price selling price in the foreign market and its variable costs. Aside from the special motivations for each type of discounting to be discussed hereafter, discounting in general has a sales enhancing effect, probably because consumers overweight the saving on a deal ("the silver lining," Thaler 1985) in relation to the cost still the latter strategy if the firm's selling price in the for- prices it charges its consumers. In industrial and wholesale markets, explicit price discrimination whereby a firm charges different prices to two competing buyers under identical circumstances is illegal under the Robinson-Patman Act's (1936) amendment of the Clayton Act (1914), unless the price-cutting firm discrimination would lead to the ill-will of consumers. The term "dumping" is sometimes used to describe eign market is below its average costs. The essential requirements for this strategy are that the firm have unused capacity and consumers have transaction costs so there is no perfect arbitrage be- tween the two markets. In terms of profitability, adIf the product were regularly at the discounted price, ditional revenues from the second market should exceed all increases in variable and fixed costs and loss many of these consumers may not buy it at all! incurred in buying the product at the discounted price. Second Market Discounting Consider a competitive firm that sells 100,000 units of a product at $10 each, when variable costs are $1 and fixed costs are $500,000 for a capacity of 200,000 units. The firm gets a request to sell in a new market such that there will be a negligible loss of sales in the first market and a negligible increase in fixed or variable costs. What is the minimum selling price the firm should accept? This is a classic problem in incremental costing and the solution is well known. The minimum ac- of profits from the first market. Note here that the first market provides an external economy to the second, because the latter market gets goods at a lower price than it would otherwise. (For this reason some economists are not critical of dumping. Others, however, stress that there may be long-term damage to the foreign economy from lost wages and production facilities.) The second market provides neither an economy nor a diseconomy to the first in the short run. Periodic Discounting ceptable price would be anything over $1, because anyConsider a firm faced with the following pricing price over variable costs would make a contribution problem. Average economic costs2 are $55 at 20 units to this ongoing business. Generics, secondary de-and $40 at 40 units. There are 40 consumers per period that are interested in its product. Half of them mographic segments, and some foreign markets pro-are fussy and want the product only at the beginning vide opportunities for profitable use of this strategy.of each period even if they have to pay $50 per unit. Often pioneering drugs are faced with competition from The other half are price sensitive and would take the product at any time but will pay no more than $30 identical but much lower priced generics after the ex-per unit. At what price should the firm sell its prod- piry of the patent. The pioneering firm has the options uct? of either maintaining its price and losing share or Initially it may seem that the firm cannot bring the dropping price and losing margin. The relevant stratproduct to market profitably because costs exceed acegy would be to enter the generic market segment with ceptable prices for each segment. However, in effect, an unbranded product and arrest loss of sales to that the firm can produce and sell profitably if it exploits segment without either foregoing margin or position the consumers' heterogeneity of demand by a strategy in the branded segment. The same principle also holds of periodic discounting. It should produce at the level for a firm changing to a mixed brand strategy after of 40 units per period at a cost of $40 per unit, price selling under a manufacturer brand only or a private at $50 at the beginning of each period, and systemlabel brand only. A second illustration of this strategy atically discount the product at the end of the period is the discounts to secondary demographic markets such to $30. In this way it would sell to the fussy con- sumers at the beginning and to the rest at the end of each period. Note that its average selling price is $40, 'There are also other motivations for discounting, the most common equals its average economic cost. being damaged goods, overstocking, or quantity purchases. These which discounts are not considered pricing strategies because they are merely adjustments for costs, often of an ad hoc nature. The term "price discrimination" has been used in the literature very broadly to mean 2The term "average economic cost" is used to mean all costs, procharging different customer groups prices not proportionate to costs duction and marketing, fixed and variable, plus acceptable profit difor the same or related products. It would cover almost all the stratvided by number of units. egies discussed here (Cassady 1946a,b; Monroe 1979; Scherer 1980). Beyond the Many Faces of Price / 149 This content downloaded from 134.154.190.2 on Mon, 23 Mar 2020 05:50:32 UTC All use subject to https://about.jstor.org/terms This is the principle often involved in the temporal markdowns and periodic discounting of off-season fashion goods, off-season travel fares, matinee tickets, and happy hour drinks, as well as peak-load pricing for utilities (Hirshleifer 1958; Houthakker 1951; Steiner 1957; Williamson 1966). Similarly, this is the principle involved in the discounting of older models (Stokey 1981), the priority pricing of scarce products (Harris and Raviv 1981), and the strategy of price skimming, first suggested as one alternative for new products by Dean (1950a). Because of the circum- stances in ...
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Final Answer

Attached.

Running head: PRICING STRATEGIES

1

Pricing Strategies

Student Name
Institution Affiliation

PRICING STRATEGIES

2
Memo

TO:
FROM:
DATE:
SUBJECT: Pricing Strategies
Pricing strategies
Pricing strategies helps entrepreneurs on how to make prices decisions for the products.
The three main pricing strategies discussed in the morning article are geographical pricing,
product line pricing and penetration pricing strategies. The other pricing strategies not discussed
here include psychological pricing and pricing for promotions.
Price penetration
To begin with, the price penetration strategy is a price set by a company when penetrating
a new market (Tellis, 1986). This strategy is used by entrepreneurs to gain market share, and
most of them use it by either providing some services for free or keeping low prices d...

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