“How much shall I charge?” is probably the most common question we get asked. After all, most people think that’s what pricing is all about. As pricing professionals we know better. Price levels are an outcome of many factors, including strategic objectives, value creation, competitive positioning, segmentation, price structure, etc. However, at some point of the journey, price levels have to be set.
Over time we have collected the following list of tools that can be used to do just that – we call them “price engines.” Use the following list at your own risk or call us to help you figure out which engine is right for you.
Demand Curve
- A demand curve measures the markets cumulative uptake of a product or service at particular price points, thereby guiding price level decisions
- Demand curves usually show distinct plateaus at signature price points
Value Analysis & Value maps
- Involves determining how much value is being created and how much we can capture ourselves = value based pricing
- Requires understanding of customer economics and price/value drivers as well as competitive offers/substitutes
- Value can be expressed as “Value = Product Performance/Price”, or “Value = (Brand Equity + Product Performance)/Price”
- Value maps show relative positions of competitors; axes are price and value
Cost-plus Pricing
- Frequently used. It is inward looking and the downside is that it does not reflect willingness to pay or varying price sensitivities, thereby potentially not capturing full value
- Comes in two flavors: Full cost-based pricing and Variable-cost based pricing. The latter focuses on capturing marginal revenue when marginal cost of additional unit is low. Works best when fixed costs are high. Stimulates demand via low variable price
Historic Pricing
- Takes last year’s price and adds a price increase on top
- Very common, since it is easy to implement and does not require any work
- Downside is that it assumes last year’s price levels and this year’s increase are the right ones – usually leaves money on the table
Benchmarking against Competitors
- Key is to determine price delta that can be sustained
- Competitor prices often not well understood (incl. rebates, promotional specials, etc.)
Pricing Primary Research
- Van Westendorp PSM – Four-question battery created by Peter Van Westendorp used to identify prices that are considered too cheap, cheap, expensive and too expensive by respondents. Very well established technique with good track record
- Conjoint Analysis – Used to test different product or service configurations, as well as price. Caution: pricing can confound conjoint studies, as the price listed is often used by respondents as a proxy for quality. Conjoint is not appropriate for all categories. However, such studies are great for producing market simulators that include brand references and can be used to model competitive pricing changes
- Gabor Granger method – It asks a series of priced purchase interest questions, such as “Would you buy X at price Y” for a single product or concept. The price goes up or down depending on the response to the first purchase interest question. The series continues two to three more times until the consumer will not go any higher or lower on their interest price.
Elasticity Models
- Uses purchase data as inputs into pricing models designed to account for rises in commodity prices, category elasticity, item elasticity, different retail channels and more
- Requires robust data sets, e.g. Nielsen, IRI
Supply and Demand Curves
- First cousin of demand curves
- Good to figure out broader industry shifts, including industry pricing
Economic Models
- Yield management as used by airlines. Or parametric pricing: marriage of statistics and economic models
- Requires fully understanding price drivers and elasticities
Expert Opinion
- Not very scientific, but can be effective
- Sales reps often have a good “feel” for the right price levels
War Games and Scenario planning
- Effective but resource intensive
- Oil companies routinely use these techniques so they have a response ready when a particular situation arises
Negotiations
- Also very effective. Best in complex business-to-business markets
- Requires good understanding of price drivers and buying processes
Auctions
- Very effective – think ebay.com
- Not very effective in high value, opaque markets
To find out more about price engines and strategic pricing in general, call us at 203-722-3232.
Your Abbey Road Team.