Private Nonregulated Monopoly Example
marketing strategies. The product can be uniform (steel, aluminum) or nonuniform (cars, computers). There are few sellers because it is difficult for new sellers to enter the market. Each seller is alert to competitors' strategies and moves. If a steel company slashes its price by 10 percent, buyers will quickly switch to this supplier. The other steelmakers must respond by lowering their prices or increasing their services.
In a pure monopoly, the market consists of one seller. The seller may be a government monopoly (the U.S. government's postal service), a private regulated monopoly (a power company), or a private nonregulated monopoly (DuPont when it introduced nylon). Pricing is handled differently in each case. In a regulated monopoly, the government permits the company to set rates that will yield a "fair return." Nonregulated monopolies are free to price at what the market will bear. However, they do not always charge the full price for a number of reasons: a desire not to attract competition, a desire to penetrate the market faster with a low price, or a fear of government regulation.
The demand curve sometimes slopes upward: Gibson was surprised to learn that its high-quality instruments didn't sell as well at lower prices.
Demand curve
A curve that shows the number of units the market will buy in a given time period, at different prices that might be charged.
Analyzing the Price-Demand Relationship. Each price the company might charge will lead to a different level of demand. The relationship between the price charged and the resulting demand level is shown in the demand curve in # Figure 10.6. The demand curve shows the number of units the market will buy in a given time period at different prices that might be charged. In the normal case, demand and price are inversely related; that is, the higher the price, the lower the demand. Thus, the company would sell less if it raised its price from P1 to P2. In short, consumers with limited budgets probably will buy less of something if its price is too high.
In the case of prestige goods, the demand curve sometimes slopes upward. Consumers think that higher prices mean more quality. A For example, Gibson Guitar Corporation once toyed with the idea of lowering its prices to compete more effectively with rivals such as Yamaha and Ibanez that make cheaper guitars. To its surprise, Gibson found that its instruments didn't sell as well at lower prices. "We had an inverse [price-demand relationship]," noted Gibson's chief executive. "The more we charged, the more product we sold." At a time when other guitar manufacturers have chosen to build their instruments more quickly, cheaply, and in greater numbers, Gibson still promises guitars that "are made one-at-a-time, by hand. No shortcuts. No substitutions." It turns out that low prices simply aren't consistent with "Gibson's century-old tradition of creating investment-quality instruments that represent the highest standards of imaginative design and masterful craftsmanship."11
Most companies try to measure their demand curves by estimating demand at different prices. The type of market makes a difference. In a monopoly, the demand curve shows the total market demand resulting from different prices. If the company faces competition, its demand at different prices will depend on whether competitors' prices stay constant or change with the company's own prices.
The demand curve sometimes slopes upward: Gibson was surprised to learn that its high-quality instruments didn't sell as well at lower prices.
Price elasticity
A measure of the sensitivity of demand to changes in price.
Price Elasticity of Demand. Marketers also need to know price elasticity—how responsive demand will be to a change in price. Consider the two demand curves in Figure 10.6. In Figure 10.6A, a price increase from P1 to P2 leads to a relatively small drop in demand from Q1 to Q2. In Figure 10.6B, however, the same price increase leads to a large drop in demand from Q\ to Q'r If demand hardly changes with a small change in price, we say the demand is inelastic. If demand changes greatly, we say the demand is elastic. The price elasticity of demand is given by the following formula:
% Change in Quantity Demanded
% Change m Price
Suppose demand falls by 10 percent when a seller raises its price by 2 percent. Price elasticity of demand is therefore -5 (the minus sign confirms the inverse relation between price and demand) and demand is elastic. If demand falls by 2 percent with a 2 percent increase in price, then elasticity is -1. In this case, the seller's total revenue stays the same: The seller sells fewer items but at a higher price that preserves the same total revenue. If demand falls by 1 percent when price is increased by 2 percent, then elasticity is -1/2 and demand is inelastic. The less elastic the demand, the more it pays for the seller to raise the price.
What determines the price elasticity of demand? Buyers are less price sensitive when the product they are buying is unique or when it is high in quality, prestige, or exclusive-ness. They are also less price sensitive when substitute products are hard to find or when they cannot easily compare the quality of substitutes. Finally, buyers are less price sensitive when the total expenditure for a product is low relative to their income or when the cost is shared by another party.12
If demand is elastic rather than inelastic, sellers will consider lowering their prices. A lower price will produce more total revenue. This practice makes sense as long as the extra costs of producing and selling more do not exceed the extra revenue. At the same time, most firms want to avoid pricing that turns their products into commodities. In recent years, forces such as deregulation, dips in the economy, and the instant price comparisons afforded by the Internet and other technologies have increased consumer price sensitivity, turning products ranging from telephones and computers to new automobiles into commodities in some consumers' eyes.
Marketers need to work harder than ever to differentiate their offerings when a dozen competitors are selling virtually the same product at a comparable or lower price. More than ever, companies need to understand the price sensitivity of their customers and the trade-offs people are willing to make between price and product characteristics. In the words of marketing consultant Kevin Clancy, those who target only the price sensitive are "leaving money on the table."
Competitors' Strategies and Prices
In setting its prices, the company must also consider competitors' costs, prices, and market offerings. Consumers will base their judgments of a product's value on the prices that competitors charge for similar products. A consumer who is thinking about buying a Canon digital camera will evaluate Canon's customer value and price against the value and prices of comparable products made by Kodak, Nikon, Sony, and others.
In addition, the company's pricing strategy may affect the nature of the competition it faces. If Canon follows a high-price, high-margin strategy, it may attract competition. A low-price, low-margin strategy, however, may stop competitors or drive them out of the market. Canon needs to benchmark its costs and value against competitors' costs and value. It can then use these benchmarks as a starting point for its own pricing.
In assessing competitors' pricing strategies, the company should ask several questions. First, how does the company's market offering compare with competitors' offerings in terms of customer value? If consumers perceive that the company's product or service provides greater value, the company can charge a higher price. If consumers perceive less value relative to competing products, the company must either charge a lower price or change customer perceptions to justify a higher price.
Next, how strong are current competitors and what are their current pricing strategies? If the company faces a host of smaller competitors charging high prices relative to the value they deliver, it might charge lower prices to drive weaker competitors out of the market. If the market is dominated by larger, low-price competitors, the company may decide to target unserved market niches with value-added products at higher prices.
For example, A Annie Bloom's Books, a small independent bookseller, isn't likely to win a price war against giant sellers such as Amazon.com or Barnes & Noble—it doesn't even try. Instead, the shop relies on its personal approach, cozy atmosphere, and friendly and knowledgeable staff to turn local book lovers into loyal patrons, even if they have to pay a little more. Customers writing on a consumer review Web site recently gave Annie Bloom's straight five-star ratings, supported by the kinds of comments you likely wouldn't see for Barnes & Noble:13
A good bookstore can feel like a sacred place to me. Annie Bloom's is one of those places. This place radiates love. Their fine selection of books is arranged in a way that lets you know the people who work here are very interested in books, too. The air is cool and has a certain literary smell. I can't explain it. This is a bookstore where you could spend all afternoon just browsing, getting swept up into different stories and ways of thinking.
Annie Bloom's is not the biggest bookstore, nor the most convenient to park at, nor are the prices incredibly discounted, nor is the bathroom easy to find. . . . However, it is one of the friendliest bookstores in town. It is just big enough for a solid hour of browsing. And it has a talented, smart, and long-term staff with incredible taste. You'll find common best sellers here, but you'll also find all those cool books you heard about on NPR or in Vanity Fair that you never see featured at Barnes & Noble. [It's a] bookstore for the book crowd. Good customer service here! Also, be nice to the cat. PS: [It] has a kid's play area in the back.
Finally, the company should ask, How does the competitive landscape influence customer price sensitivity?14 For example, customers will be more price sensitive if they see few differences between competing products. They will buy whichever product costs the least. The more information customers have about competing products and prices before buying, the more price sensitive they will be. Easy product comparisons help customers to assess the value of different options and to decide what prices they are willing to pay. Finally, customers will be more price sensitive if they can switch easily from one product alternative to another.
What principle should guide decisions about what price to charge relative to those of competitors? The answer is simple in concept but often difficult in practice: No matter what price you charge—high, low, or in between—be certain to give customers superior value for that price.
Other External Factors
When setting prices, the company also must consider a number of other factors in its external environment. Economic conditions can have a strong impact on the firm's pricing strategies. Economic factors such as boom or recession, inflation, and interest rates affect pricing decisions because they affect both consumer perceptions of the product's price and value and the costs of producing a product.
The company must also consider what impact its prices will have on other parties in its environment. How will resellers react to various prices? The company should set prices that give resellers a fair profit, encourage their support, and help them to sell the product effectively. The government is another important external influence on pricing decisions. Finally, social concerns may need to be taken into account. In setting prices, a company's short-term sales, market share, and profit goals may need to be tempered by broader societal considerations. We will examine public policy issues in pricing in the next chapter.
- Pricing against larger, low-price competitors: Independent bookstore Annie Bloom's Books isn't likely to win a price war against Amazon.com or Barnes & Noble. Instead, it relies on outstanding customer service and a cozy atmosphere to turn book lovers into loyal customers.
Continue reading here: Case Study Easyjet Staying Ahead In The Pricing Game
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