Introduction
Among the four P’s of marketing, pricing is probably among the most important. Its importance is best represented by the fact that pricing generates an organization’s turnover (Ranganathan 2001, p. 1). However, developing a sound pricing policy is not an easy process because pricing must reflect the supply and demand relationship of the product in question. Indeed, pricing a product too high or too low could lead to significant losses for the organization because it could put off customers or not match up to the market dynamics (Ferrell 2010).
There is no shortfall to the number of companies which have made unsuccessful attempts at developing poor pricing policies. For example, the pricing policy adopted by Honda Civic was largely unsuccessful because the company realized significant losses from its pricing strategy (Ferrell 2010). The company has since been trying to reinvent itself.
This paper recognizes the pitfalls in developing a sound pricing policy and from this awareness; it seeks to develop a sound pricing policy for a bike. To achieve this objective, several factors will be considered. First, this paper analyzes the general conditions for the product. Specifically, the target market will be analyzed to expose the unique characteristics of the product (viz-a-viz the pricing policy).
In addition, this paper highlights the different kinds of studies that ought to be undertaken before developing the final pricing policy. Alongside this goal will be identifying the objectives of the pricing strategy. It is only until these elements are effectively explained that the pricing strategy will be unveiled. To explain the criterion for developing the pricing policy, calculations will be given to show how the price of the product was arrived at. Finally, information about the long-term and short-term lower price limits will be given.
General Conditions for the Product
Already, we have established that this paper focuses on a bike as the chosen product for developing an effective pricing policy. The bike in focus will be a mountain bike which is specifically designed for hiking and other recreational activities.
The product’s image will be designed to appeal to a young target market that is enthusiastic about technology and convenience. This perception is expected to be created from the product’s image which will be relied on to communicate a reliable piece of art which will withstand the most treacherous terrains.
The product’s image will therefore be expected to communicate the message that the bike can be used in the rockiest and steepest terrains without being damaged. A range of colors and sizes will also be offered to appeal to different segments of the target market.
Based on the functions of the bike, the target market will be comprised of people between the age of 12 and 30. This population group is perceived to have a higher inclination of engaging in recreational activities like mountaineering or hiking (Young 2011). However, the target market also includes other institutions that engage in the primary functions of the bike.
For example, different organizations hire bicycles to different bike enthusiasts and similarly, different organizations provide their employees with bicycles during team recreational activities and other team-building activities. Indeed, organizations such as hotels, tour companies (and the likes) hire bicycles to tourists and other people who would want to explore nature (on bikes).
Similarly, almost every organization today engages in team building activities as a way to motivate employees in their workplace (and improve employee cohesion). These target groups are amalgamated with individual customers to constitute a wider target group.
Studies to be Undertaken before developing the Pricing Policy
As observed in earlier sections of this paper, pricing policies are very crucial to the success of a product. Developing effective pricing policies is perceived by many people as a gruesome process that needs to take into account different dynamics of a company’s product and market (Young 2011). Different aspects of the company’s goals (and the market) therefore need to be considered in critical detail.
Therefore, the first study that needs to be done before an effective price policy is introduced involves the determination of the company’s pricing goals. These goals may vary among organizations but they may include realizing short-term or long-term profits or even stabilizing the prices of the company’s products (Kardes 2004). Other companies may have different goals such as improving their profitability or effectively managing the competitive pressure from other products.
Paul (2008) explains that even when undertaking such a study, it is important for experts to factor the current market conditions because the pricing policies need to be conducive to the current market conditions. The study of the current market conditions therefore constitutes the second base to be covered in the formulation of an effective pricing policy.
The third study that needs to be undertaken is the determination of the current competitive environment. Competition is a crucial component in the process of formulating pricing policies because aggressive competitive forces are known to erode the strengths of effective pricing policies (Kardes 2004).
Similarly, a weak competitive environment can revamp a weak pricing policy. The final pricing policy therefore needs to be cognizant of the current competitive environment and preferably, the pricing level needs to be lower than the competitors’ (Encyclopedia of Management 2006, p. 7).
The fourth study that needs to be done involves the ascertainment of production costs. In layman’s terms, this is the final cost of production. However, when undertaking the study, it is important to consider different aspects of production costs (including intangible costs). These costs normally vary among different companies but regarding the production of the mountain bikes, the most notable costs will be labor costs, material costs, transportation costs and assembly costs.
These costs mainly describe the primary costs associated with the production or manufacture of the mountain bikes. Secondary costs associated with the production of the mountain bikes include administrative costs, inflation costs (among others). The study is therefore aimed at ascertaining all these costs to arrive at a profitable price that will be able to cover all the production costs and still allow the company to make a profit.
The final study that needs to be done centers on the customers’ market power. This study is closely linked to the market survey. However, its uniqueness lies in focusing on the customers as opposed to other market forces. Indeed, markets are often segmented, based on different market parameters such as income levels, consumer tastes, preferences (and the likes).
The process of pricing formulation therefore needs to take into account the customer dynamics of the market because it would be fruitless if a high-end pricing policy is implemented on a low-end market segment (Encyclopedia of Management 2006, p. 8).
Objectives of the Pricing strategy
As explained in earlier section of this paper, it is crucial for a company to establish what it intends to achieve from its pricing policy. Regarding the context of this paper, the main aim of the pricing strategy will be to achieve significant success during the introduction of the company’s product (mountain bikes).
This objective is informed by the fact that there is a lot of competitive pressure in the mountain bike market segment and every company intends to have a significant share of the existing market. In fact, companies which are already active in the market intend to increase their market share and edge out weak products. The pricing strategy identified in this paper will therefore be aimed at addressing the above concerns.
Calculation of the Price
HERKULES (2011) explains that there are different methodologies that can be used to ascertain a product’s price. Mainly, he identifies three methodologies including cost-based pricing, competition-based pricing and customer-based pricing (HERKULES 2011, p. 11). Based on the objectives of our pricing strategy, this paper will use the competition-based pricing model.
The main advantage of the competition-based pricing model is the keen focus on the industry’s dynamics (competitive activities and company activities). Indeed, by knowing competitor activities, it is very easy to develop an effective and competitive pricing strategy. Existing and emerging competition will also be keenly analyzed in this pricing strategy including how to increase the prices by providing additional value (that the competitors do not offer).
The pricing strategy discussed below is aimed at designing the pricing policy so that it can effectively increase the customer base. The Government of Alberta (2012) describes this pricing strategy as a market penetration strategy. Nonetheless, this pricing strategy will be aimed at attracting customers from the competition and creating a new market share.
Bowie (2012) explains that most companies which adopt this market strategy tend to lower their prices so that they seem more pocket-friendly to the customers. In vibrant markets, such market strategies are expected to yield a high profit in the short-term because customers in such markets tend to be very flexible and responsive to price changes.
In detail, the cost of buying all the accessories for building the bike is expected to cost 40 Euros. This is the primary cost associated with buying and delivering all the components used to assemble the bicycle. Assembly costs are expected to add an additional 5 Euros to the cost of the bicycle.
Therefore, the completed bicycle will cost 45 Euros. All other costs associated with marketing and delivery of the bicycles to the final buyer is also expected to add an additional 5 Euros. Therefore the selling price for the bicycle is expected to be 50 Euros.
From the study undertaken to assess the prices of the competition, we realized that the competitive prices in the market ranged between 45 Euros and 55 Euros. This price range appeals to all market segments. Considering the competitive prices, our pricing strategy intends to include 5 Euros to the existing cost of selling the bike as a component of the ‘value addition’ strategy.
The value addition cost is directly attributed to after-sale services which are expected to be offered for all the bicycles sold. All customers will therefore be entitled to a free after-sale service for all bicycles bought (within the first year of purchase). All repair costs incurred after the one year period will therefore be done at the customer’s expense.
This value addition cost is expected to be the selling point for this price policy. Concisely, the free after-sale service justifies the additional 5 Euros added to the cost of the bicycle. Furthermore, the customer’s cannot compare the additional five Euros they will pay (as additional cost) with the cost of undertaking repairs (from their pockets).
Justifiably, this pricing policy is therefore expected to work and draw in many customers from the competition. The market survey also shows that few competitors offer after-sale services. Finally, including the profit margin will add another 5 Euros to the cost of the bicycle. Correctly, the final price of the bike will be 60 Euros. The calculations are as follows:
Other companies have used the above pricing strategy with tremendous success. Perhaps the most notable company to adopt this pricing strategy is Apple Inc. (Rosenbloom 2011, p. 337). Compared to its competitor’s prices, Apple’s prices are perceived to be abnormally high. However, the company has witnessed a consistent growth in its sales. In fact, the company’s former CEO, Steve Jobs, is globally celebrated to have steered the company to new heights of success (Rosenbloom 2011, p. 337).
Ironically, the company’s prices are still high. Kunz (2010) analyzes this phenomenon and concludes that Apple’s success thrives on a pricing game. He further explains that the company prices its products high enough for the customers to believe that they have a good product (of high quality). His argument is that consumers are very poor at evaluating products and they do not know which criterion to use to establish whether they have a quality product or not (Kunz 2010).
Since they have this dilemma, they blindly use the pricing strategy to determine whether they have a good product or not. The common belief among customers therefore is that a good quality product should be expensive. According to Kunz (2010) this perception has created the belief that Apple’s products are superior to their competitors. This paper therefore proposes the high-end pricing strategy as a basis for its future success.
This pricing policy is closely similar to Apple’s, except for the fact that there is a good value creation attached to it. Obviously, the customers would see that the bikes are priced slightly higher than the competitors but the fact that they would get more value for paying a premium is expected to be the main selling point for this pricing policy.
Long-term and the Short-term Lower Price Limits
Potter (2004) explains that when formulating a pricing policy, it is important to consider the long-term and short-term implications of the pricing policy. There are different pricing strategies identified in this study but research shows that identifying the right pricing strategy is often a tricky affair (Besanko 2009). This paper has already cited the fact that a poor pricing strategy can potentially be disastrous for a business.
Many markets have however witnessed the intrigues of lower price limits as a strategy adopted by some companies (especially) as they try to increase their market share (Besanko 2009). Lower price limits are sometimes perceived to be illegal in some countries because some manufacturers do not play fair by setting their lower price limits below the cost of production (McGuigan 2010).
Often, this strategy is adopted by businesses that intend to limit the threat to entry. Therefore, when new businesses intend to enter such markets, they have to price their products at ridiculously low prices. Such prices are often unviable in the long-term.
Focusing on the context of this study, we can agree that the lower price limit for the bike would include all the costs of production (without after sale services costs or any profit margins). From the calculations cited above, the lower price limit would be 50 Euros. This price is derived by adding the cost of inputs, assembly costs and transportation and marketing costs.
However, since businesses have to analyze their sustainability, the low price limits have a strong business implication in the long-term and short-term. In the short-term, it would be obviously impossible to make a profit because selling the bikes at 50 Euros would imply that only the initial costs of production will be recovered. In the market, such a pricing strategy would increase sales and consequently increase the market share (McGuigan 2010).
However, only the customers would be benefitting from the low price limit but the business would be suffering. The product will also gain popularity through such a business strategy because the sales volumes are expected to be high (since customers will be attracted by the low prices) (McDonald 2011). Such a situation is however likely to pose a problem for the viability of the business in the long-term.
Indeed, in the long-term, the business will not be able to make any profits. The business will also not be able to grow because there will be no profits to invest back into the business (Smagalla 2004, p. 9). Essentially, there would be no point of staying in the market longer because there will be no point of doing business because the whole notion of doing business is to make a profit. The low price limit does not allow for profit making and therefore the business will have to shut-down eventually (Boone 2011, p. 662).
Ideally, it would be advisable to price the bikes at a few Euros more than the low price limit so that the business can make a profit and consequently grow. Depending on the competitive prices, the business will be able to grow and probably improve its service provision or venture into new markets. Such an eventuality is however impossible in the short-term. Only until the business is able to make a profit (for a prolonged period of time) can it be able to grow and possibly venture into new markets (Meyvis 2004).
Conclusion
After weighing the findings of this paper, we can agree that establishing the right pricing strategy for a new product is often tricky. Indeed, many companies have posted losses because of poor price policies while others have closed down from the same. Different factors have been explained as crucial to the formulation of the pricing policy. Specifically, competitor analysis, market analysis, cost analysis and customer analysis have been cited to be crucial to the formulation of pricing policies.
This paper proposes an ambitious price policy which is based on a high-end pricing strategy aimed at delivering quality services for less money (from a long-term perspective). The preferred product is therefore expected to be sold slightly more expensive than the competitors but still, the price is not very far from the competitors’. A sustainable level of success is therefore expected.
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