Importance of Pricing

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En provenance du cours de IE Business School

Pricing Strategy

432 notes

IE Business School

Pricing Strategy

432 notes

Cours 2 sur 5 dans Specialization Marketing Mix Implementation

Pricing is one of the most important but least understood marketing decisions. Learn and practice concepts, techniques, and get to grips with the latest thinking on assessing and formulating pricing strategies. Analyze how firms attempt to capture value, as well as profits, in the revenues they earn. After this course, you will be able to contribute to the process of formulating pricing strategies for your own products and services, or those of your firm. This course has an additional focus on pricing dynamics and the reaction to and by competitors, taking a highly pragmatic approach and one that is directly applicable to your day-to-day professional life. Martin Boehm - IE Professor and Dean of the Business School with over 10 years experience - will guide you through four modules. We begin with the importance of pricing and how it ultimately can affect the bottom line. Then, we move on to methods to help you decide what is the optimal price for your product; and then price discrimination - should all your products follow the same pricing strategy or should you differentiate depending on the customer segment? Finally, we look at pricing psychology and how you can manipulate customers in order to drive the highest possible price for your product.

À partir de la leçon

Demand Curve and Pricing

In this module we will start with the importance of pricing, especially for the bottom line. Having this in mind, and after showing how pricing is the most important driver of profitability, when you finish this module you will be able to execute cost, competition and customer-based pricing. You will also be able to use the concepts of price elasticity and optimal price while setting prices for your products and services.

Introduction to the course2:39

Importance of Pricing4:44

Pricing Complexity3:31

Rencontrer les enseignants

Martin Boehm
Professor of Marketing
Dean of IE Business School

[MUSIC]

This module shows how price affects profit.

In theory the economic underpinnings of price are fairly simple.

In practice they are more subtle due to multiple effects of price on profit.

The following chart shows the profit system in a simple hierarchical form.

Scanning downwards,

at the first level profit drivers are sales revenue and costs.

The sales revenue is in turn price times the sales volume.

Cost have obviously some variable and some fixed components.

Variable costs change, as you can imagine, with the sales volume, but

fixed costs do not.

Pricing's critical nature is readily seen by the dramatic impact

its effective management can have on the bottom line.

Pricing researchers have noted that the fastest and most effective way for

a company to realize its maximum profit is to get pricing right.

The right price can boost profit faster than increasing volume will.

The importance of pricing can be nicely supported by some research that was

done a couple of years ago by a consultancy firm in the United States.

They looked at 2,400 companies and they were wondering what would happen

if I can improve four different profitability drivers.

What would happen with the bottom line of these 2,400 companies on average?

They looked at volume, price, fixed cost, and variable cost.

What we see from this chart is that by reducing our fixed cost by only 1%,

we can actually drive the bottom line of these organizations,

on average, by more than 2%.

So we already see that all the four different profit drivers have

a significant impact on the bottom line.

Nevertheless, we see that pricing

is the most important driver of profitability of these organizations.

Just raising prices by 1% will actually lead to an increase in the bottom line

by more than 11%.

This finding was supported by some research that we did at

IE Business School a couple of years ago.

We looked in this particular case at the European market, and

we were interested in whether their strategic focus of an organization

has as well an impact on the profitability of the organization.

More specifically,

really focused on whether the organization follows more a cost focus or

whether that organization follows more a pricing focus, or price management focus.

As dependent variable, we focused on profitability,

here depicted by earnings before interest and tax.

What we could find from that research is that there's a clear correlation,

a clear relationship between the strategic focus of the organization and

the profitability of the organization.

In a nutshell, we can summarize this research that

companies that focus on price management are significantly more profitable

than companies focusing simply on the management of their costs.

Let's illustrate this with a very simple example in order to highlight

that price is one of the most important drivers of profitability.

Let's consider the following question.

Let's see what is the correct answer to this question.

Let's assume a very simple example.

Let's imagine we're selling our product at a price of 100 euros.

As we've said before, we have a contribution margin of 20%,

which means that the remaining 80% represents the variable cost.

So in this particular case, 20 euros would be the contribution margin

at a unit level and 80 euros would be the variable cost.

So we now assume a price reduction of 10%.

We can already see this depicted in the graph.

By reducing our price from 100 to 90 euros, we're obviously not

changing our variable cost, however what is changing is our margin.

Our margin now dropped by a 10% price decrease

from 20 euros per unit to only 10 Euros per unit.

This, I think, makes it already clear by how much we have to increase our sales

volume in order to compensate a 10% price decrease.

You're absolutely right.

The correct answer is 100%.

[MUSIC]

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