Pricing Objectives

What price point should you set for your products and services? This important and common question can better be answered by determining company objectives. Several common company objectives are:

  • Survival
  • Maximize current profits
  • Increase market share
  • “Skim” the market
  • Seek “product-quality leadership”

Survival: Companies facing new and intense competition, over capacity, or changing consumer behavior may pursue a survival strategy. Survival is clearly a short run objective to make it through tough times. As long as price exceeds variable costs and covers some fixed costs, the company can carry on. In the long run, the company must adapt and find ways to add value.

Maximize current profits: Maximizing current profit is a common company objective. To do so, costs and consumer demand have to be estimated for different prices. The price point that generates the highest profit is then chosen. In practice, it’s not always easy to estimate demand accurately (we discuss ways to do this in our article about determining demand and calculating costs). Additionally, focusing on current profits may mean reducing long run company performance.

Increase market share: A company may pursue an objective of increasing or maximizing market share. This makes sense especially if a company feels it can achieve lower unit costs with higher volumes, thereby increasing long-term profit. Many companies set a low initial price to achieve market penetration. This strategy can be advantageous in industries with consumers that are price sensitive, sales and production costs fall with production experience, and where a low price discourages the entry of possible competitors.

Skim the market: “Skimming” means setting high prices initially to target those that are willing to pay the high price, and then gradually lowering the price to attract the more price sensitive customers. Video game and other software producers often use this strategy. Die-hard fans are willing to pay the higher initial price, and as sales decline, the company reduces the price for more casual users. Intel is another prime example a company that successfully uses price skimming. It’s latest computer chips are sold to those who can’t wait for well over $1000 initially. A year later, the price drops and there is a new and more powerful $1000+ chip released.

Product-quality leadership: Companies that produce high quality products relative to the competition often try to position themselves as the product-quality leader. They charge more, but convince the customer that it’s worth it because of the superior product experience, reliability, or other quality related benefits. Price sensitive customers need to be convinced that the higher price is worth it in the long run.

The main point is that using price as a strategic tool is better than simply letting costs determine price. If your product is superior to the competition, you’ll be more profitable if you convey that to the market and charge a higher price.

For information on some common pricing techniques and when you’d use them, see our article about setting prices.


Determining Demand & Calculating Costs

Product Demand

Different prices for a product result in different levels of consumer demand. Assuming consumers are rational, increasing the price of a product results in a decrease in the number of consumers who are willing to pay that price. In other words demand decreases when price increases. Of course, the world is not a rational place and there are situations where increasing price can increase consumer demand. In the case of some prestige goods like perfume and luxury cars, demand has been shown to sometimes increase when prices were increased. However, in the case of what economists call “normal goods”, price increases tend to cause decreases in demand.

We can’t escape a small amount of jargon here. A measure of just how much demand changes with price is called “elasticity of demand”. If a product’s demand for a product changes a lot with price, demand is said to be elastic. If demand does not change too much with price, demand is said to be inelastic.

Examples of products for which demand is relatively inelastic in the short term include gasoline and cigarettes. This is because it’s difficult to find substitutes for gasoline to fuel most cars and for smokers to quit, especially in the short run. Products for which demand is relatively elastic include soft drinks such as Coca Cola and Mountain Dew.

For those who prefer visual representations of elastic an inelastic demand, please see the “demand curves” graph below. In case 1, demand is inelastic, so changes in price result in small changes in demand. In case 2, changes in price result in larger changes in demand.

Inelastic and Elastic Demand

In the book “The Strategy and Tactics of Pricing”, Thomas Nagle and Reed Holden outline factors that influence a buyer’s sensitivity to price. Buyers are less sensitive to price when:

  • They are less aware of product substitutes

  • They are less can’t easily compare the quality of product substitutes
  • The product is distinct or unique
  • The lower the price is as a percentage of total income
  • Part of the cost is borne by another party
  • The product is used in conjunction with assets bought previously
  • The product is assumed to have more prestige, quality or exclusiveness
  • They cannot store the product

Estimating Product Demand

Some companies statistically analyze previous prices, quantities sold, and other factors to estimate their relationships. A second approach (more feasible for most smaller businesses) is to experiment with prices. A temporary sale can be used to see if demand, sales, and profit increase. If so, the lower price can later be adopted as the permanent price.

When experimenting with prices, it’s important to keep other factors constant so as to be sure that price is the main variable. Equally important is keeping an eye on competition to see if there have been responses as this will affect demand as well.

Estimating Costs

Companies have to charge a price that will cover their costs in the long run. Otherwise bankruptcy is inevitable. To determine a product’s cost, it’s helpful to break up the cost up into two parts. Costs that vary with the amount of product produced, and those that stay fixed regardless of how many are produced.

Variable Costs
Costs that vary with production levels are called “variable costs”. For example, Ford uses materials like metal and plastic to build cars. The more cars Ford builds, the more metal and plastic it needs to pay for.

Fixed Costs
Costs that remain fixed in the short run are called “fixed costs”. Examples of fixed costs are rent, insurance, and equipment. (All costs are variable in the long run.)

Total Cost
Total cost is simply the sum of all variable costs and all fixed costs for a given level of production. The average cost of the product is the total cost divided by the number of units.

By determining fixed and variable costs, a “breakeven point” can be found. The breakeven point is the number of sales at a given price required to cover all fixed and variable costs. For more information on calculating break-even points and profitability, please refer to our profitability calculator page.


Dealing with Unhappy Customers

Dealing with unhappy customers95% of your unhappy customers will never complain. They feel that complaining isn’t worth their effort, or they don’t know how, or to whom to complain.

Listen to Your Unsatisfied Customers Carefully

It’s essential to listen to customers who complain. Listening closely lets you fix any underlying problems with your business process, so that other customers don’t run into the same issues. Additionally, if the problem is resolved, your customers won’t badmouth your company to others.

Develop a System to Resolve Complaints Promptly

Customers whose complaints are satisfactorily resolved often become even more company-loyal than customers who were never unhappy.

What you can do:

  • Encourage your customers to complain!
  • Develop a systematic approach for addressing service failures
  • Train employees to properly handle complaints and provide customers with compensation for failures
  • Remove barriers that make it difficult for customers to complain. Examples include providing phone numbers and links to contact forms on your website
  • Keep customer and product databases so that you can analyze the types and sources of complaints so that you can continuously adjust your policies

Make Sure Your Employees are Happy

Employee relations will affect customer relations. It’s harder to get disgruntled employees to go the extra mile for your customers. Conduct regular audits on employee job satisfaction, listen to their complaints and encourage two-way communication.


Marketing Strategies for Service Companies

Marketing for Service BusinessMany services businesses are small (such as shoe repair shops and hair salons) and don’t use formal marketing techniques. There are also plenty of professional service businesses such as accounting and law firms that thought it was unprofessional to use marketing, and some still do, but this is changing.

The classic four Ps marketing approach works well for physical goods, but service companies need to pay attention to additional elements. Marketing gurus Boon and Bitner identify 3 additional Ps for service marketing:

  1. People: If the service you offer is provided by people, then the selection, training, and motivation of your employees has a huge effect on customer satisfaction. Employees should be competent, caring, responsive and have problem solving abilities. See our articles on managing people well for tips in this area.
  2. Physical Evidence: As a service company, you need to demonstrate your service quality through physical evidence and presentation. For example, hotels develop a look a visible style of dealing with customers that projects the desired image and value, such as cleanliness or speed.
  3. Process: You can choose among different ways, or processes, for your service company to deliver your service. For example, restaurants have developed different formats such as cafeteria-style, fast-food, buffet, and candlelight service.

Differentiating Your Service

Service marketers sometimes complain about the difficulty in differentiating their services. For example, a dentist office might wonder how it can differentiate itself from other dentists. It might be tempting to compete on price, but this often ends up hurting business more than helping because competitors will cut prices to match. An alternative to competing on price, is to develop a differentiated offer, delivery, image and/or quality.

  • Offer: The offer can include innovative features. What customers expect is called the primary service package, and to this, you can add a secondary service feature. A coffee shop might offer free internet access and comfortable couches as secondary services.
  • Delivery: A service company can hire and train better people to deliver its service, a more attractive physical environment or design a quicker delivery process.
  • Image: Service companies can also differentiate their image through symbols and branding. If your company is reputable and provides a valued service, use a good logo and symbols to help customers associate high quality to your services.
  • Service Quality: You can win over the competition by delivering consistently higher-quality services and exceeding customer expectations. These expectations are formed by their past experiences, word of mouth, and the messages you deliver through advertising. If you don’t meet or exceed customer expectations, your customers will lose interest in your services.

Increasing Customer Satisfaction & Retention

It’s difficult to over-stress the importance of customer satisfaction. Sustained profitability is only possible through building customer value and satisfaction. Profit comes as a consequence of building customer value.

As Henry Ford said:

“Business must be run at a profit… else it will die. But when anyone tries to run a business solely for profit, then also the business must die, for it no longer has a reason for existence.”

Value Defined

Something that satisfies a consumer’s need or want has value in the eyes of the consumer. Whether or not a consumer will buy a product offering depends on whether what it costs them is greater or less than the product’s perceived value. Furthermore, when choosing between similar offers, a consumer will choose the product that offers the biggest difference between value and cost. Costs to the customer include not only monetary costs, but everything associated to acquiring it, such as time and hassle. For example, having to go and pick up concert tickets you’ve already paid for online adds an additional cost. Therefore, even if your product is more expensive, it will nevertheless be chosen if it carries more value in the eyes of the customer.

The difference between what the consumer perceives as the value of the product offering and its costs, are known by marketers as the delivered value. The goal is to ensure that the delivered value for your product is greater than the delivered value of the customer’s alternatives.

Customer Satisfaction Defined

Customer SatisfactionCustomer satisfaction is closely related to customer expectations. Once acquiring a product, the customer will compare the actual performance of the product with what was expected. The customer will have feelings of pleasure if product performance meets expectations, and feelings of disappointment if it doesn’t. If actual performance exceeds expectations, the customer is highly satisfied or delighted.

Customers form their expectations from a variety of sources such as friends, past experiences, competitors as well as the marketer’s messages and promises. A balancing act must be made here. If you set expectations too high with your messages, your customers are more likely to be disappointed. If you set them too low, fewer will buy. The most successful firms set expectations high and then are able to deliver performance to match – at a profit.

Creating Customer Value

Given the importance of customer value, it’s useful to use what Micheal Porter of Harvard calls the value chain as a tool to find ways to create more customer value. The value chain consists of company activities that create value and add costs in an organization. The primary activities in the value chain are:

  • Bringing materials into the company (inbound logistics)
  • Converting materials into finished products (operations)
  • Shipping out finished products (outbound logistics)
  • Marketing the products (sales and other marketing activities)
  • Servicing the products (customer service)

Primary activities have secondary support activities which include procurement (or purchasing), technology development, human resource management and firm infrastructure. These support activities may be handled by specialized departments or by multiple departments.

Porter's Value Chain

Your job as a marketer is to examine the costs and performance of each value-creating activity, and find ways to improve in each area. It’s helpful to compare competitors costs and performance in the value chain as a benchmark. If you can outperform your competitors you can gain a competitive advantage.

It’s important to note that internal departments sometimes act in ways to maximize their interests rather than those of the company or customers. For example, a credit department may take too long ensuring the credit worthiness of a customer to avoid the possibility of a bad debt. During this time, the customer is waits and waits, and the sales person becomes frustrated.

The solution to this problem, is to ensure the core business processes are managed smoothly, by using cross disciplinary teams to manage core processes.

It’s important to look beyond your own operations as well. Finding competitive advantages beyond your own operations will increase your chances of success. For example, Walmart’s suppliers are plugged directly into its inventory system so that they can track sales and replenish items as needed. This reduces the chances of stock outages.

The importance of customer retention

Often, organizations focus a lot or their marketing efforts on attracting new customers and far less attention retaining customers. Satisfied customers are loyal customers. Here are some interesting statistics from the Harvard Business Review (The Loyalty Effect by Frederick F. Reichheld and Thomas Teal):

  • It can cost 5 times more to get a new customer than to satisfy and retain a current customer
  • In a typical company, customers are defecting at the rate of 10-30% per year
  • The profitability of a customer tends to increase the longer the customer is retained
  • A 5% reduction in the customer defection rate can increase profits by 25% – 80%, depending on the industry

Relationship Marketing

Relationship marketing can be defined as a continuous process of creating additional value with individual customers and sharing the benefits over a lifetime of association. It involves the understanding of, and collaboration with, customers on an ongoing basis for the benefit of both parties. A strong relationship with your customer is ideal to retain that customer. Consider the following sales techniques:

Basic selling: The salesperson sells the product, nothing more.
Reactive selling: The salesperson sells the product and welcomes or encourages customer feedback such as complaints, comments and questions.
Accountable selling: The salesperson contacts the customer shortly after the sale to ensure the customer is satisfied with the product.
Proactive marketing: The sales person contacts the customer occasionally with information about improved or new products.
Relationship (partnership) marketing: The company works on an ongoing basis with the customer to find ways to help the customer reduce costs and improve performance.

Relationship marketing is most important when there are few customers in the industry and the profit margin is high. On the other side of the spectrum, basic selling may the only feasible avenue when product profit margins are low and there are numerous customers. Which you should use depends on your business. Let’s use an extreme example. If you’re selling hot dogs on a street corner, you can be friendly, but you can’t afford to develop a relationship with each customer. If you’re selling business jets, you can, and must, develop a relationship with your customers.

Calculating the cost of lost customers

Losing customers is costly and it’s important for companies to try to compute this cost. There are four steps in estimating the cost of losing a customer.

Step 1: Determine your retention rate. For a magazine, the renewal rate is a good measure. For an online retail store, a good measure might be the proportion of the previous year’s customers that shopped at the store during the current year. The point is to find a measure that’s appropriate for your business.

Step 2: Distinguish between the different causes of customer loss (or attrition) and focus on the ones that can be better managed. For example, there’s not much you can do when customers move from your region or go bankrupt. On the other hand, losing a customer because of poor after sales support is something that can be remedied.

Step 3: Estimate how much profit is lost when a customer is lost. We’ll use an example business (XYZ Company) to illustrate.

XYZ Company has 1,000 customers and loses 5% per year due to poor service. Therefore it loses 50 (10,000 x 5%) customer per year.

The average lost customer represents $9000 in lost revenue. This means, the company lost $450,000 in revenue.

The company has a profit margin of 15%. This means the company lost $67,500 ($450,000 x 15%) this year.

Step 4: Calculate how much it would cost to reduce the defection rate. If the cost of the reduction is less than the profit foregone, the measures should be implemented.

It’s vital to listen to your customers. Using the numeric technique outlined above can be handy but simply listening provides for the best insight as to what can be done to increase retention rates. Senior staff should be in tune with what customers are saying. Using basic surveys and simple interviews can go a long way in getting customer feedback.


Essential Marketing Concepts

Marketing is a term we hear all the time, but what is it exactly? This article outlines some core marketing concepts.

Marketing Definition

Essentially, marketing means creating, promoting, and delivering goods and services to consumers and businesses. Marketing activities are not limited to products you buy in a store. The scope of what is marketed is (perhaps surprisingly) vast. Goods, services, organizations, people, places, experiences, events, property, information and even ideas are marketed.

If you’d like a more formal definition, the American Marketing Association defines marketing in this way:
“Marketing is the activity, set of institutions, and processes for creating, communicating, delivering, and exchanging offerings that have value for customers, clients, partners, and society at large.”

Target Markets and Market Segments

Target Market & SegmentationIn the old days, a market was a place in town where buyers and sellers got together. Today, marketers view “the market” as those who buy, or might potentially buy. The sellers constitute “the industry”.

Consumers have varying tastes, desires and financial means. Not everyone likes the same car, lipstick or sofa. Marketers a long time ago decided to partition buyers into groups based on some general preferences. For example, if you’re selling corporate accounting software, your marketing efforts might target the “business community” as opposed to “preteens”.

Segmenting markets is not an exact science because no two people are exactly alike, and it’s impossible for a marketer to figure out what motivates everyone. But generalizations can be made to help come up with a profile of potential buyers. This relatively homogeneous group of buyers is referred to as a market segment.

Needs, Wants and Demands

Everyone needs certain basic things in order to survive. Food, clothing, shelter and air are examples. Besides the bare essentials, people have strong needs for things like recreation, social interaction and education. When your quest to fulfill a particular need is directed at an object, your need becomes a want. You need food, but you might want a slice of pizza.

If you have the ability and willingness to pay for a want, it becomes a demand. Many people want a summer mansion in the countryside or an 80 foot yacht, but few are able to pay for these products. Marketers are tasked with not only figuring out how many want a product offering, but also how many are willing and able to buy it.

Products and Brands

Products are offerings that people use to satisfy their needs and wants. A brand, is simply an offering from a “known” source. A brand’s image is the associations the offering creates in the mind of the consumer. Disney has a powerful brand image which can be associated to vacations, fun, movies and family. Companies work to build strong brand images.

Value and Satisfaction

A product’s success is tied to how much satisfaction and value it can deliver. There are costs associated to acquiring products. These costs may involve things other than just money, such as time or labor. When choosing between products, consumers will weigh the benefits (functional and emotional) the product provides with what it costs, and try to maximize this ratio. A consumer may choose the more expensive product if the perceived benefits associated with product are greater than the perceived cost increase. The marketer’s goal is to maximize value to the consumer.

Marketing Channels

Marketers use marketing channels to reach target markets. These channels are:

  • Communication channels are used to send messages to, and receive messages from potential buyers. A few of these channels include billboards, newspapers, brochures, toll-free numbers, websites, and even employee facial expressions and clothing.
  • Distribution channels are used to deliver the offering to the consumer. These channels include trucks, warehouses, distributors, wholesalers and retailers.
  • Selling channels are used to facilitate the consumer purchase. This not only includes retailers but banks, credit card companies and insurance companies.

As you might imagine, finding the optimal channel mix is a major challenge for marketers.

Supply Chain

Marketing channels involve connecting the marketer to the buyer. The supply chain on the other hand, is the term used to refer to the channel that begins with the basic raw materials required for a product to the final finished good brought to the final consumer. If we us the example of a car, the supply chain starts with the metal and other raw materials, moves on to the manufacturing of car components and car assembly, to the marketing channels that bring the car to the final consumer.

Marketing Environment

The marketing environment is what surrounds and effects the organization. This environment can be broken up into the “macro-environment” and the “micro-environment”.

  • The micro-environment involves factors that affect the company directly. These include target customers, suppliers, distributors and the company itself.
  • The macro-environment involves broader factors such as demographics, technology, politics and the state of the economy.

To better tailor product offerings, marketers pay close attention to the marketing environment.


A part of the marketing environment which draws a lot of attention from marketers is the competition, so we’ll give it it’s own heading. Competition includes any potential alternatives a buyer might consider. This includes similar products as well as substitutes. For example, as substitute for a car, a consumer might consider buying a motorcycle or a bus pass.

Marketing Mix (4 Ps)

Marketing Mix A discussion of core marketing concepts wouldn’t be complete without an introduction to the marketing mix. Anyone who’s ever taken an introductory marketing course will remember the marketing mix as the “4 P’s of marketing”. Everything else may have been forgotten, but the 4 P’s seem to stick. They are the tools marketers use to bring about the desired responses from their target markets.

These tools can be thought of in terms of four broad groups (classified by marketing professor E. Jerome McCarthy) – product, price, place and promotion. Below are some examples of the marketing variables associated to each “P” in the marketing mix.

Product: Variety, design, quality, features, packaging, sizes.
Price: Listed price, payment terms, discounts
Place: Locations, inventory, transportation, channels
Promotion: Advertising, sales force, public relations

The 4 P’s of marketing are seen from the perspective of the marketer. It’s worthwhile noting that these concepts have their analogies from the perspective of the buyer. More recently, a marketer by the name of Robert Lauterborn has suggested the four P’s are mirrored by the customer’s four C’s.

Product → Customer solution
Price → Customer cost
Place → Convenience
Promotion → Communication