1 2002 Edition Vitale and Giglierano Chapter 10 Pricing in Business-to-Business Marketing Prepared by John T. Drea, Western Illinois University.

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2002 Edition

Vitale and Giglierano

Chapter 10Pricing in Business-to-Business Marketing

Prepared by John T. Drea, Western Illinois University

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Pricing Basics

• Fundamentally, price is an indicator of the worth of a product.– Price needs to be set at a level that

indicates that the benefits are worth the price,

indicates that the customer can afford the price,

the customer cannot obtain more value from some other supplier’s offerings.

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Exhibit 10-1 Components of the Offering

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Cost-Based PricingCost-Based PricingPrice is set by calculating the cost of an offering, then adding a standard percentage profit.

Value-Based PricingValue-Based PricingPrice is set based on perceived customer value.

Cost-Based vs. Value-Based Pricing

Cost-Based Price IssuesCost-Based Price Issues•Costs depend on volume.•Costs assigned by standard rates may have no relationship to actual costs.•Price has no relationship to customers’ perceptions of the offering’s worth.

Value-Based Price IssuesValue-Based Price Issues•More difficult to implement than cost-based pricing.•Need to establish the evaluated price (the price of the offering from the customer’s perspective after all costs associated with the offering are evaluated).

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Maximum Maximum PricePrice

Maximum Maximum PricePrice

The highest price a supplier can charge for a product or service

Key Points:If there is no competition, maximum price is the point where benefits just barely exceed the evaluated price.To build a relationship, a fair price is needed. “Fair” is a function of customer perceptions of the offering value.Competitor prices and total benefits delivered constitute a reference points in determining what is a fair price.

Minimum Minimum PricePrice

Minimum Minimum PricePrice

The price that covers the supplier’s relevant costs

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Exhibit 10-3 Customer’s Perception of Value and Evaluated Price

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Value-Cost Model of Pricing

• Need to analyze what activities subtract the most from each customer’s profitability.

• At the same time, we need to analyze how important a product is to the customer’s creation of value.

• This indicates what each buyer can afford and how sensitive the customer is likely to be to price changes.

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Exhibit 10-4a Value-Cost Model for Analyzing Customers

Management and infrastructure…. Value score: FC%Technology development………… Value score: FC%Other overhead……………………. Value score: FC%

Delivery &customer Supplyservice Sales Marketing Operations logistics Materials

Value Value Value Value Value Valuescore: score: score: score: score: score:

VC% VC% VC% VC% VC% VC% FC% FC% FC% FC% FC% FC%

Value score: Contribution to value for customer’s customer1 = Key component, 2 = Significant component, 3 = Minor component

Cost percentage = Percentage of fixed costs (FC) or variable costs (VC)

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Exhibit 10-4b Value-Cost Model for Analyzing Customers

Management and infrastructure…. Value score: 1 FC% 15%Technology development………… Value score: 3 FC% 5%Other overhead……………………. Value score: 3 FC% 20%

Delivery &customer Supplyservice Sales Marketing Operations logistics Materials

Value Value Value Value Value Valuescore: 1 score: 3 score: 3 score: 1 score: 2 score: 3

VC% 10% VC% 0% VC% 0% VC% 70% VC% 10% VC% 10%FC% 25% FC% 10% FC% 5% FC% 20% FC% 0% FC% 0%

Value score: Contribution to value for customer’s customer1 = Key component, 2 = Significant component, 3 = Minor component

Cost percentage = Percentage of fixed costs (FC) or variable costs (VC)

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Exhibit 10-5 Maximum and Minimum Price

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Exhibit 10-6 Effect of Price Reductions on Cost Coverage

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Exhibit 10-7 Demand and Supply Curves

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Relevant Costs

must meet the following four criteria

ResultantResultantCostsCosts

AvoidableAvoidableCostsCosts

Forward-Forward-looking looking

IncrementalIncrementalCostsCosts

RealizedRealizedCostsCosts

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Relevant Costs:On-going revenues must pay for on-going costs

ResultantResultantCostsCosts

Costs that result from the decision

RealizedRealizedCostsCosts

Actual costs incurred

Forward-Forward-looking looking

IncrementalIncrementalCostsCosts

Costs that will be incurred for the next units of product sold when the decision is implemented

AvoidableAvoidableCostsCosts

Costs that would not be incurred if the decision were not made to launch the offering.

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Lessons to be learned on the economic fundamentals of price

Lesson 1: Demand levels differ at different price levels. Each segment will have a different degree of price sensitivity.Lesson 2: Price changes trigger customer reactions. In the short-term, these reactions may be constrained by customers’ situations.

Lesson 3. Price changes trigger reactions from competitors.

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Several Marketing Objectives Addressed by Pricing

• Strategic PurposesStrategic Purposes– Achieve a target level

of profitability– Build goodwill in a

market– Penetrate of a new

market or segment– Maximize profit for a

new product– Keep competitors out

of an existing customer base

• Tactical PurposesTactical Purposes– Win new and important

customer business– Penetrate a new

account– Reduce inventory

levels– Keep business of

disgruntled customers– Encourage product trial– Encourage sales of

complementary products

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Introductory Pricing Strategies

PenetrationPenetrationPricingPricing

Charging relatively low prices to entice as many buyers as possible into the early market. Penetration pricing can assist in obtaining a dominant market share – an excellent defense to future competition.

PricePriceSkimmingSkimming

Charging relatively high prices that take advantage of early adopters’ strong desire for the product. Skimming is most effective when an offering has significant patent protection and offers significant value at the skim price.

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Introductory Pricing Strategies

PenetrationPenetrationPricingPricing

Conditions for skimming:•Offering quality and image support the higher price•Small volume production costs allow profits at low sales volume•Sufficient number of adopters at skim price to justify effort

PricePriceSkimmingSkimming

Conditions for penetration:•Market must be price sensitive•Production and distribution costs must fall as volume increases (economies of scale)

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Managing Pricing Tactics

BundlingSelling several products and/or services together as one

Discounts &Allowances

Reductions in price for a special reason (but some customers can get hooked on them!)

CompetitiveBidding

Sealed bids involve private bids by potential suppliers. In open bids, competitors see each others bids.

InitiatingPrice Changes

Need to react and change marketing activities as events unfold, such as changes by competitors or customers.

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Determining a Bid Price

Expected profit at a given price is calculated as

E(PF) = PW(Pr) x PF(Pr)Where:E(PF) = Expected profitPW(Pr) = Probability of winning the bid at

price PrPF(Pr) = Profit at price Pr

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Exhibit 10-9 Hypothetical Example of Profit Expectations in a Competitive Bidding Situation

Cost Bid ProfitProb. of

Winning BidExpected

Profit

$20,000 $20,000 $0 .2 $0

$20,000 $22,000 $2,000 .5 $1,000

$20,000 $24,000 $4,000 .7 $2,800

$20,000 $26,000 $6,000 .5 $3,000

$20,000 $28,000 $8,000 .4 $3,200

$20,000 $30,000 $10,000 .3 $3,000

$20,000 $32,000 $12,000 .2 $2,400

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Exhibit 10-10 Effect of an Industry Increase in Costs

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Exhibit 10-11 Two Types of Negotiating Situations in B2B Sales

Situation

Stand-alone

Transaction

Balanced between Transaction and Relationship

Effective bargaining styles

Competitive; Problem solving

Problem solving; Compromising

Effective approach Use of leverage

Seek common interests

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Preparation Preparation in negotiation in negotiation

is keyis key

Know your customers’ needs and their relative importance.

Know the price range anticipatedby the customer.

Know who has the authority tomake a final decision.

Know the bargaining styles of theindividuals involved in the

bargaining decision process.

Know whether the situation is perceived as:•A transaction,

•Part of a relationship, or•A combination of the two

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Pricing and the Changing Business Environment

As time pressures increase, marketers must react quickly to changes in customer needs or competitor actions. Two examples are hypercompetition and the Internet.

Hypercompetition:Hypercompetition:

requires constant collection of information on customer value-cost models and paying attention to your customers’ customers and their perceptions of value.

The Internet:The Internet:

Improves communication, increases both buyers and marketers preparation. The Internet also facilitates on-line auctions – this is good for commodities, but can minimize relationships for other products.