Industrial Pricing Strategies and Policies by Sanath Dasanayaka

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    By Sanath Dasanayaka

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    In industrial marketing, the total cost to the buying firm includes not

    only the price of the product but also following costs;

    Transportation(freight) cost, transit insurance cost and installation cost(for

    certain equipment and machinery).

    In addition to the above costs, the buying firm considers the risk of product

    failure, the delay in delivery, the lack of technical support or services.

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    1.Pricing objectives

    2.Demand analysis

    3. Cost analysis

    4. Competitive analysis

    1. Pricing objectives;Below pricing objectives are reviewed before deciding upon

    pricing strategies.

    Survival: this is used when the organization is underutilizing its production

    capacity to a large extent or the firm has a large unsold stock of products at its

    stores or there is an intense level of competition in the market place.6/2/2014 3Sanath Dasanayaka

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    Here, the firm decreases product prices in order to sustain in the market. In this

    way, they can cover variable cost and a part of fixed cost.

    Maximum short-term prof its: In this case, a firm attempts to maximize its

    short-term profits. Companies following this objective select the price that

    yields the maximum current profits. Those organizations usually do not

    consider of legal implications and long-term customer relationships.

    Maximum short-term sales: Focuses upon maximizing short-term revenue.

    Through this, companies expect to acquire growth and market share.

    Market penetration: Firms fix prices as low as possible with the aim of

    getting a high sales volume and market share.

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    Maximum market skimming: Afirm sets a very high price in the introduction

    phase of a new or innovative product aiming the market segments which are

    least price sensitive.

    Product qual ity leadership: In this, the aim is to produce superior quality

    products more than rivals.

    2. Demand Analysis; the purpose of demand analysis is to find out to what extent the

    demand for a product changes with the changes in prices. In this, the price sensitivity

    of different customers is identified and pricing strategies are designed dependingupon the elasticity of demand.

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    There are two types of elasticity of demand;

    I nelastic:Small change in demand relatively to the change in the price of the

    product.

    Elastic: Demand changes substantially with a small change in the products

    price.

    The demand is less elastic when there are few rivals; there is an unavailability

    of substitute goods and when purchasers think high prices are justified due to

    changes in government policies upon duty and taxes.

    The demand for most industrial products is inelastic since their technically

    sophisticated, customized and significant for customers operations in their

    factories.

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    When developing a successful pricing strategy a firm should consider its

    products costs that are incurred by customers and benefits received in the

    customerspoint of view.

    There are two types of benefits;

    Hard benefits: (benefits related to the products physical attributes, such as

    production rate of a machine, price/performance ratio and rejection rate of a

    component).

    Soft benefits: (company reputation, customer service warranty period andcustomer training).

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    3. Cost Analysis; a firm should consider about costs incurred in production.

    Types of production costs;

    f ixed costs: coststhat do not change with the production or sales, such as rent,

    interest charges and managerial salaries.

    variable costs: costs that change on the units of production like material and

    labor costs.

    Total cost: sum of fixed and variable costs at a given level of production.

    Semi variable costs: costs that vary with changes in output but not in direct

    proportion to quantities produced. Ex. Equipment repair and maintenance

    costs.6/2/2014 8Sanath Dasanayaka

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    Direct costs: fixed or variable costs that are incurred directly for a specific

    product of sales territory. Ex. Selling expenses and freight.

    I ndi rect costs: fixed or variable costs that can be traced indirectly to sales

    territory of a product. Ex. Production overhead and quality control costs.

    Allocated/general costs: costs that support number of business activities but

    cannot be objectively assigned to a specific product or market. Allocated across

    business groups or divisions. Ex. Administrative overhead and corporate

    advertising.

    Economies of scale: the total average cost per unit decreases when the production

    volume increases. The logic behind this is the total average cost per unit reduces

    since the total fixed costs spread over more units.

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    The experience curve: the average unit total cost of products decreases over a

    period of time with the firms experience of manufacturing and marketing.

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    C i d i l f h i f i

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    4. Competi tive Analysis:industrial manufacturers gather information on

    competitorsprices, costs, product quality, delivery performance and technical

    expertise.

    Ways of collecting information;

    Asking the competitors customers about product quality, prices, services and

    delivery performance.

    Firms send their people as buyers to collect information through obtaining

    quotations and product leaflets.

    Conducting marketing research on competitors.

    By using collected information on competitors, a firm can design its pricing policy

    successfully.6/2/2014 11Sanath Dasanayaka

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    Example, if a firms products equal to competitors products in quality and

    delivery performance, the company is able to charge a superior price as

    competitors do.

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    Pricing strategies in following situations are discussed.

    1. Competitive bidding in competitive markets.

    2.Pricing new products.

    3.Pricing throughout the product life cycle.

    1. Competitive Bidding: many government undertakings, such as Sri Lanka

    Transportation Board, Ceylon Electricity Board and private and public

    companies do their business in competitive bidding.

    There are two types of bids;

    closed/sealed bidding.

    open bidding.6/2/2014 13Sanath Dasanayaka

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    Strategies for Competitive Bidding: One strategy is probabilistic bidding

    strategy which has two assumptions; the pricing objective is profit

    maximization and the buying organization will put the order on the lowest

    price bidder.

    There are three variables in this strategy- amount or price of the bid, expected

    profit if the bid is expected and probability of acceptance of bid price. An

    industrial marketer attempts to find out the optimum trade-off between the bid

    price and the profit as well as the probability of winning the contract.

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    The basic equation is displayed below;

    E (A) =P (A)*T (A)Where,

    A = Bid price

    E (A) =Expected profit at bid price A.

    P (A) =Probability of acceptance of the bid price.

    T (A) =Profit if the bid price A is accepted.

    Ability to estimate P (A) depends upon the industrial marketers

    knowledge of competitorscosts, strengths, weakness and mind-set.

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    2. Pricing New Products:

    Skimming strategy : This strategy is utilized for distinctive new products for

    which customers are not sensitive to initial high prices. In this, the firm has the

    capability of recovering its investment in product development by generating

    high profits. appropriate for products that are distinct, technology focused or

    capital intensive-the factors creating entry barriers to rivals.

    Penetration strategy: Thisstrategy is commonly used when price elasticity of

    demand is high or buyers are highly price sensitive, strong threats from

    potential customers and opportunities to decrease the unit cost of production

    and distribution with increase in production volume.

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    3. Pricing across Product L ife Cycle

    Growth Stage Pricing Strategy : In growth stage, more new customers enter

    into the market began buying the firms products. Here, industrial marketers

    lower the product price as well as they focus on product differentiation, product

    line extension and building new market segments.

    Matur ity Stage Pricing Strategy : Here, competitors are aggressive in the

    market. In this, a company has to cut its competitorsmarket share to increase

    its sales. The strategy is to lower prices to match the competitorsprices.

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    Decline Stage Pricing Strategies: There are three strategies.

    -If the company has a reputation on good product quality or dependable service,

    do not cut price but reduce costs to earn some profits.

    -cutting prices to increase sales and using a product to help to sell other product.

    -Selective increases in prices in markets that are not price sensitive.

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    1. List Price: It is a base price of a product consisting various sizes and

    specifications. This is a published statement of basic prices and given to the

    customers. This statement implies the effective date of its applicability and shows the

    extra charges for optional product features, and discounts.

    2. Trade Discounts: Trade discounts are offered to marketing intermediaries, such as

    dealers and distributors. The amount of trade discount given depends upon the

    particular industry norms and the functions performed by those intermediaries.

    Further these trade discounts should be uniform to all industrial intermediaries.

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    3. Quanti ty Discounts: A quantity or volume discount is given to customers who

    buy in large quantities as well as this is a price reduction given by deducting the

    quantity discount from the list price of the product. These discounts can be given

    either on individual orders (non-cumulative basis)or on a series of orders over a

    longer period of time, usually one year (cumulative basis). The purpose of this is to

    encourage customers to buy in larger quantities and maintain customer loyalty. The

    amount of quantity discounts depends on demand, costs and competition.

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    4. Cash Discounts: cash discounts are given to encourage customers for prompt

    payments. This is applicable on gross amount (basic price plus excise duty plus sales

    tax)of the bill and this is granted to customers who pay bills within a stated period

    from the date of invoice.

    5. Geographical Pr icing:Pricing the companys products based upon the different

    geographical locations of buyers. Mainly, this happens since the company has toundergo different transportation costs and transit insurance when delivering products

    to various locations. Here, there are two methods in geographical pricing.

    Ex-Factory: here, transportation costs and transit insurance costs should be

    incurred by the buyer. ex-factorymeans the prices prevailing at factory gate.

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    FOR Destination or FOB Destination:this means free on road/free on board

    destination. In this transportation (freight) costs are absorbed by the seller or

    include in the quoted price. Although the small transit insurance costs are

    absorbed by the seller, commonly, average transportation costs and transit

    insurance costs are included to the basic product price. In this method, all

    customers get the product at the same price irrespective of their location from

    the sellers factory premises. However, in the intense competition sellers can

    the whole transportation and transit insurance costs.

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    D.M. Sanath Dasanayaka.

    University of Sabaragamuwa, Sri Lanka.

    June, 2014.

    (e-mail: [email protected])

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    Sanath Dasanayaka