Chapter 12 Pricing for International and Global Markets

Chapter 12

Pricing for International and Global Markets

Copyright © Houghton Mifflin Company. All rights reserved. Chapter 12 | Slide 2

International Marketing Dilemma

Product

Pricing

Standardization

Product

Pricing

Adaptation

versus


• Simple planning and budgeting

• Develop global brand image

• Meet local buyers price expectations created by– Travel– Global media– Internet– International operations

(organizational buyers)

• Prevent gray markets

Price Standardization Advantages


PRESSURES FOR PRICE ADAPTATIONCompetition and corporate strategy

Local production and operation costs Economic development Government regulations

Transportation costsRecoup costs of taxes, tariffs and other barriers to trade

Distribution middlemenExchange rate fluctuations


Profit and Cost Factors

• Transportation Costs– Variation in pricing among

transportation methods– Sensitivity of

transportation costs to price of oil


Profit and Cost Factors (cont’d)

• Tariffs– Still significant for certain products in

particular markets, despite efforts of GATT and WTO

– Price escalation effects– Reclassification may avoid or lessen costs• Land Rover’s Range Rover was reclassified

as a light truck to avoid 25% tariff



• Taxes– EU’s Value-added tax (VAT) – Assessment based

on production value-added at each stage– 2002 EU Internet tax – Non-EU companies must

register in an EU nation and pay taxes on all Internet sales

– Sin taxes – Assessed on products that are legal but discouraged by society (i.e. cigarettes, alcohol)


VAT Example

With a North American (Canadian provincial and U.S. state) sales tax• With a 10% sales tax:• The manufacturer pays $1.00 for the raw materials, certifying it is not a final consumer. • The manufacturer charges the retailer $1.20, checking that the retailer is not a consumer,

leaving the same profit of $0.20. • The retailer charges the consumer $1.65 ($1.50 + $1.50x10%) and pays the government

$0.15, leaving the same profit of $0.30.

With a value added tax• With a 10% VAT:• The manufacturer pays $1.10 ($1 + $1x10%) for the raw materials, and the seller of the

raw materials pays the government $0.10. • The manufacturer charges the retailer $1.32 ($1.20 + $1.20x10%) and pays the

government $0.02 ($0.12 minus $0.10), leaving the same profit of $0.20. • The retailer charges the consumer $1.65 ($1.50 + $1.50x10%) and pays the government

$0.03 ($0.15 minus $0.12), leaving the profit of $0.30 (1.65-1.32-.03).



• Local production costs– Operational costs for raw materials,

wages, energy, and/or financing may differ widely country to country

• Channel costs– Different channel lengths, distribution

margins, and logistics also account for differing costs across markets


Medical Tourism: Foreign Patients Can Be a Lucrative Market

• Thailand• India• Cuba• Mexico


Market Factors

• Income level– GNP per capita– GDP per capita– Disposable income (think PPP!)– Price elasticity• High income = lower elasticity• Lower income = higher elasticity


• Competition– Intensity and power of competition

can affect price levels in a market• Sole suppliers enjoy greater pricing

flexibility• Large numbers of competitors can

encourage price wars• Sometimes price levels are

manipulated by cartels or other agreements among local competitors

U.S. companies

are forbidden by U.S. law

to participate in cartels

Market Factors (cont’d)


Environmental Factors

• Exchange rate fluctuations– When currency weakens, firm’s exports

are more attractive– When currency strengthens, firm’s

exports are less attractive• Inflation rates

– In high-inflation countries, companies may price in a stable currency


Environmental Factors (cont’d)

• Price controls– Instituted by the government and

regulatory agencies– Two types:• Across-the-board• Industry-specific


• Dumping – Selling a product at a price below actual costs

– WTO antidumping actions allowed if• Sales at less than fair value • Material injury to domestic industry

– Limits firms’ price flexibility in overseas markets but protects domestic market from foreign competition

Environmental Factors (cont’d)


• Lower cost of goods– Lower manufacturing costs– Eliminate functional

features– Lower quality

• Lower tariffs– Product modification– Partial assembly or

repackaging

• Lower distribution costs– Shorten channels of

distribution– Lower shipping costs

• Other– Foreign trade zones– Lobbying for tariff

reduction

Approaches to Lessening Price Escalation


Transfer Pricing

• Transfer price – Price paid by importing or buying unit of a firm to the exporting unit of the same firm– Not an “arms-length transaction” frequently

differ from market prices (much higher or lower)


• Firms may deviate from market prices to maximize profits or minimize risk and uncertainty– Accumulate more profits in a low-tax country– Repatriate profits from a country with limits on

profit repatriation– Move profits out of country with macroeconomic

instability– Reduce tariff duties by quoting low transfer prices

to high-tariff country

Transfer Pricing (cont’d)


• Issues to consider– Internal considerations

• Compensating managers based on profit• Company resource allocation may be insufficient based

on transfer price structures

– External problems• U.S. Revenue Act 1962, Section 482• Market prices preferred by IRS

Transfer Pricing (cont’d)


Most liquid market,

approximately $1.5 trillion daily volume

24 hour market

Largely unregulated

The Foreign Exchange Market


• Transaction risk – Risk that a change in exchange rates may occur between the invoicing date and the settlement date of the transaction

• Foreign exchange price quotations:– Spot price – Number of dollars to be paid for a

particular foreign currency purchased or sold today

– Forward price – Number of dollars to be paid for a foreign currency bought or sold 30, 90, or 180 days from today

Quoting Prices in a Foreign Currency


Quoting Prices in a Foreign Currency

• Pricing options

– Uncovered position – Pay spot price on the due date

– Covering through the money market – Borrowing funds in currency at risk for the time until settlement

– Hedging – Contract through financial intermediaries for future delivery of foreign currency at a set price, regardless of spot price at the time• Expected spot versus present forward rate


Spot Contract Example

1. ABC Company (U.S.) must pay an invoice from a British supplier for 1,500,000 British Pounds.

2. ABC contracts with its bank to buy BP 1,500,000 at 1.4650.

3. The bank delivers the BP per ABC’s instructions.

4. ABC pays bank $2,197,500 on the spot date.


Hedging - Forward Contracts

Forward Contract Example

1. XYZ, a U.S. exporter, contracts with a Swiss company to ship a custom machinery order upon completion in 3 months.

2. Payment terms are open account with payment due after shipment in Swiss Francs.

3. U.S. exporter chooses to lock in the dollar value of the Swiss francs to be received in order to protect profit margin.

4. XYZ enters into a forward contract to sell Swiss Francs at pre-specified exchange rate to U.S. dollars in 90 days.

5. In 90 days, XYZ exercises the contract and receives the pre-specified amount of $US for its Swiss Francs received from the customer, or opts to cancel the contract at a penalty cost (if allowed).


Hedging – Currency Options

Currency Options Example

1. XYZ, a U.S. exporter, contracts with a Swiss company to ship a custom machinery order upon completion in 3 months.

2. Payment terms are open account with payment due after shipment in Swiss Francs.

3. XYZ wants to protect profit margin by purchasing the right to sell the Swiss Francs at a pre-specified rate in 90 days.

4. XYZ purchases a “Put”: the right to convert Swiss Francs to U.S. $ at a pre-specified exchange rate in 90 days.

5. In 90 days, XYZ can exercise the put and convert at the pre-specified rate, or exchange the Swiss Francs it receives for $U.S. at the current spot exchange rate, or do nothing.


Letter of Credit (L/C)

• Most frequently used method of payment for international transactions

• Players = Exporter and his/her bank; importer and his/her bank

• Bank promises to pay a specified amount of $ on presentation of documents stipulated in the L/C– e.g., bill of lading, consular invoice, or description

of goods


Letter of Credit Process

• Steps in the process1. Purchase - Purchase agreement made

between exporter and importer

2. Opening L/C - Importer applies for L/C, his/her bank opens L/C with exporter’s bank, exporter notified


Letter of Credit Process

3. Shipment - Exporter ships goods and sends documents to his/her bank, who forwards them to importer’s bank, who notifies importer goods are on the way

4. Payment - Importer remits payment (cash or credit); importer’s bank sends funds to exporter’s bank; and exporter is notified


Letter of Credit

• Benefits exporter– Substitutes the credit of the bank for the credit of

buyer

• Benefits importer– Do not need to pay until documents (and order)

actually arrive, providing additional “float” and assurance

• Main Benefit: L/Cs function as international “escrow” and clearing accounts


Parallel Imports

• When prices for goods across markets are vastly different, entrepreneurs can buy products in low-price countries and sell them in high-price countries. This creates…

Also known as “parallel imports”


Gray Markets

• Gray markets can cause problems for manufacturers because they…– Cannibalize company’s sales– Hurt relationships with authorized dealers– Undermine ability to charge different

prices in different markets in order to maximize global profits

Governments have been ambivalent,

even positive about gray markets.


Gray Markets (cont’d)

• CausesExchange ratesRegional currenciesCompetitive pricingProblems synchronizing supply and

demandEase of moving products across borderThe Internet

• How to combatConfront distributorsCut priceInterfere with supplyEstablish price corridorsLobby for legal changeAdvertise


Gray Markets

• Governments take different stands on gray markets– At issue – right of a trademark owner to

manage the sale of a trademarked product versus the ability of consumers to enjoy lower prices of parallel imports

– Once a good is sold, what prevents someone from re-selling it to someone else?


• Exhaustion principal – Establishes the conditions under which a trademark owner relinquishes its right to control the re-sale of its product

• Exhaustion means once product is originally sold in an area, its re-sale cannot be restricted in the country– National exhaustion – least liberal policy– Regional exhaustion – i.e. EU region– International exhaustion – most liberal policy

• Policy means that parallel imports are welcomed to encourage lower prices

• Typically employed by developing countries where the number of local firms holding valuable trademarks are few

Exhaustion Principle


Drugs and Parallel Imports

• The U.S. and Canada• European Union

– European governments cap drug prices to keep healthcare budgets in check. • Companies respond by withholding product.

– Prices higher in Germany, UK, Netherlands, and Nordic countries compared to southern countries

– Differences in price lead to parallel imports (made easier by EU pacts)• Companies respond by moving production out of EU.


Setting Global Prices

• Uniform pricing strategy– Requires a company to charge the same price

everywhere when that price is translated into a base currency

– Difficult to achieve because of different taxes, trade margins, customs duties, and currency fluctuations (i.e. “external factors”)

• Modified uniform pricing strategy – Carefully monitoring price levels in each country

and avoiding large gray-trade-enticing gaps


Countertrade

• Barter – Exchange of real goods

• Compensation Arrangement – Value of export delivery partially offset by an import transaction, or vice versa

• Offset – Selling company guarantees to use some products or services of the buying country in the final product

• Cooperation agreements – Buyback arrangement wherein payment for input good is paid for by output goods


Why use countertrade?

To Preserve Foreign ExchangeTo Preserve Foreign Exchange

To Improve Balance of TradeTo Improve Balance of Trade

To Gain Access to New Markets & PartnersTo Gain Access to New Markets & Partners

To Upgrade Manufacturing CapabilitiesTo Upgrade Manufacturing Capabilities

To Maintain Prices of Export GoodsTo Maintain Prices of Export Goods


Challenges of Countertrade

• Complex and time-consuming– Valuing goods received

• Difficulty in finding a buyer– Merchandise may be of low

quality– Exporter may have to sell the

merchandise at a deep discount• Like 1/3 of product value!!


Exporters Engaging in Countertrade Should Consider

• Obtaining a very clear understanding of merchandise offered– Origin, quality, quantity, and delivery

schedules should be spelled out

• Raising the price of the export contract to cover potential discounts

• Creating company unit dedicated to countertrade

Documents

Chapter 12 Pricing for International and Global Markets