While launching a new product, your business has the option to choose from many pricing strategies. Unlike other product pricing strategies, the price skimming strategy emphasizes maximizing revenue and profits in the short run by setting the initial price of the new product high. You have to lower prices gradually as the demand for the product declines.
According to Investopedia,
“Price skimming is a product pricing strategy by which a firm charges the highest initial price that customers will pay and then lowers it over time. As the demand of the first customers is satisfied and competition enters the market, the firm lowers the price to attract another, a more price-sensitive segment of the population.”
Multinational tech companies like Apple implement price skimming strategy successfully to generate more revenue when the demand for the tech product is extremely high. But your business should consider price skimming only when your brand is well-established, the product is unique, and the competition is limited. You must keep in mind the major advantages and disadvantages of the price skimming strategy to capture the high demand for the product.
Many tech companies leverage price skimming to maximize profits in the short run by setting high prices. Also, the strategy helps them to earn recurring revenue and profit in the long run by selling the product to more customers at lower prices over a period of time. Hence, your business can consider price skimming to keep up profits in the long run.
Tech companies incur research and development (R&D) expenditure to develop and launch unique products. Also, they promote the newly launched product aggressively to boost demand. Price skimming strategies help businesses recover the investment in R&D and promotion costs by generating higher profits in the short run. Also, the product pricing strategy helps enterprises to make R&D an ongoing process.
The price skimming strategy divides your customers into two broad segments – early adopters and price sensitive. While launching the new product, your promotional and marketing campaigns can target early adopters who are willing to pay higher prices. But the price-sensitive customers can buy the same product subsequently as its price drops. Your business can adopt this product pricing strategy to target different segments of customers.
The early adopters help your business to improve both quality and experience by acting as testers. Their feedback and suggestions will help you to improve and update the product consistently. At the same time, early adopters help tech companies to increase the demand for the product in the long run through word-of-mouth promotion. Your company can further use customer reviews and testimonials as a powerful marketing tool while offering the product to price-sensitive customers.
According to Entrepreneur.com,
“Price sends a psychological message related to value: things that cost more are assumed to be of higher value. Things that cost less are assumed to be of lower value.”
Your business can position and promote the newly-launched product as a premium brand simply by increasing the initial price. Unlike other product pricing strategies, price skimming emphasizes setting the initial product price high. Hence, you can create a higher-end brand image without running expensive marketing campaigns.
After implementing the price skimming strategy, you can monitor and compare the changes in the demand of the product as the follow-up prices drop. You can further analyze the market behavior elaborately by dividing the customer base into multiple segments and timing price reduction. Hence, you can easily identify the price that maximizes the demand for the product. The demand analysis will be of great help to your business while determining the prices of other products in the future.
Often businesses have to produce a certain number of units to recover production costs. But demand for and popularity of the new product may not remain intact due to a variety of reasons. Price skimming strategy helps your business to manage and control inventory efficiently by driving sales by reducing product prices. You can reduce the warehouse inventory levels simply by reducing the product price.
Tech companies leverage price skimming strategy successfully by making product innovation an ongoing process. They invest in R&D to develop unique products that can be sold at higher prices. But you cannot leverage price skimming if customers have the option to choose from similar products offered by many companies. Your business should consider a price skimming strategy when the competition is limited and demand for the product is inelastic.
As mentioned earlier, the price skimming strategy increases profits by leveraging product innovation and limited competition. The demand for your product will decrease gradually as competitors offer similar products at lower prices. Hence, you cannot increase revenue and profits in long run among heavy competition.
The customers always expect flawless quality and an excellent experience when they pay a higher price for a new product. Many customers will start posting negative reviews and comments when your product does not meet their high expectations. Hence, the price skimming strategy will impact both your brand and product adversely in case the customer expectations are not met.
The effectiveness of a price skimming strategy directly depends on your follow-up pricing strategy. You cannot beat the competition by decreasing the price of the product drastically. A huge drop in the product price will make early buyers feel like being cheated and deceived by your company. Hence, you have to decrease the follow-up prices gradually to sustain customer loyalty despite an increase in competition.
Your business can increase both revenue and profit in the short run by implementing a price skimming strategy. But you must remember that price skimming, like other product pricing strategies, has its pros and cons. Hence, you must understand the advantages and disadvantages of the price skimming strategy to boosts the initial demand for your product.
While determining the price of a product, the decision-makers evaluate the pros and cons of several pricing strategies. Some decision-makers opt for the penetration pricing strategy to create demand and acquire a market share of offering the product or service at a lower price. At the same time, some decision-makers opt for premium pricing/prestige pricing/image pricing strategy to drive sales by offering higher prices for a product or service than the competitors.
Unlike other pricing strategies, the premium pricing strategy emphasizes on setting the price of a product or service higher than the competitors. The higher price will boost the demand for the product or service by targeting the customers who expect superior quality and experience. Hence, the premium pricing strategy emphasizes on creating and boosting the demand for a product by creating the perceptions of higher-quality and superior experience.
According to EconomicsHelp.org,
“Premium pricing is a marketing tool to set higher prices for certain goods in the hope that the higher price will give the impression the good is of a higher quality. Premium pricing may be applied to similar goods, where there is a slight increase in quality.”
Many multinational tech and non-tech enterprises have been increasing revenue and profits by implementing a premium pricing strategy successfully.
For instance, Apple has been increasing its global revenue consistently by offering different models of iPhone and iPad at a higher price than leading Android device manufacturers.
According to the Hindustan Times,
“The Bill of Materials for iPhone 12 comes to $373, while the prices of iPhone 12 models start from $699.”
Similarly, many oil marketing companies offer premium unleaded petrol at a higher price than the price of regular unleaded petrol. Many consumers buy premium unleaded petrol at a higher price with the expectations to keep the engine clean and deliver the higher speed. Also, popular designer brands and luxury brands offer designer clothes at a higher price with the intention to make the clothes appear luxury goods.
When a company set a higher price for a product or service, it can generate more revenue. Also, the increase in the selling price will help the business to obtain higher profits. A business can further leverage the pricing strategy to increase the profit margin without increasing the number of units sold.
As mentioned earlier, the business has to create the perception of superior quality and experience while adopting image pricing strategy. The premium price-tag will help the business to improve both brand value and perception. The improved brand value makes it easier for businesses to offer new products and services at higher prices in future.
Many companies have already acquired market share by adopting a premium pricing strategy. The competitors often find it difficult to launch equivalent products that deliver superior quality or experience. Hence, the premium pricing strategy helps businesses to restrict entry barriers for competitors.
Many consumers evaluate the product or service elaborately despite willing to pay a higher price. A business can convince the potential customers to purchase only when the higher price tag justifies the product’s USP. The businesses must create a competitive edge before persuading customers to pay a premium.
A business cannot create a mass market for a product by adopting the prestige pricing strategy. The pricing strategy will create demand and acquire market share over a period of time. Also, the higher price-tag will not boost the sale of a product or service in the mass market. This shortcoming will create opportunities for competitors to sell alternative products in the mass market.
The leading brands and large companies leverage the premium pricing strategy by promoting and advertising their products or services aggressively. The expensive ad campaigns help them to create the perception the product is of superior-quality or delivering a superior experience. Small businesses often lack the budget to spend millions of dollars on marketing and advertisement every year.
Unlike other pricing strategies, the premium pricing strategy relies on two important factors – the company’s reputation and consumer’s perception. The consumers will pay more to avail of a product or service only when it has a competitive edge. A business can generate more revenue by adopting a premium pricing strategy only when it is offering a unique product/service, or its product/ service has a competitive advantage.
But businesses often find it challenging to increase demand for and boost sales of a new product or service while offering it at a higher price. Often companies adopt a premium pricing strategy only after creating demand, establishing brand loyalty, and developing a strong customer base. Also, they promote the product or service aggressively by telling compelling brand stories to convince customers to buy the product or service by paying a premium.
Like other pricing strategies, premium pricing strategy or prestige pricing strategy has its own pros and cons. While adopting a premium pricing strategy, the decision-makers must conduct elaborate market research to check if the consumers are ready to pay a premium. Also, they must make the product or service warrant a higher price by enhancing the competitive edge.
Before launching a new product or service, the businesses use a variety of pricing strategies and methods to determine its selling price. Some pricing strategies focus on recovering the cost of production, while others help businesses to generate more revenue and profits. Unlike other pricing strategies, penetration pricing strategy helps businesses to penetrate a new product or service into the competitive market.
While adopting the penetration strategy, businesses offer a new product or service to the customers at a lower price during the initial release period. The low price makes a larger number of customers avail of the product or service. At the same time, many customers switch from competitors to the new product r service to save money.
According to Investopedia,
“Penetration pricing is a marketing strategy used by businesses to attract customers to a new product or service by offering a lower price during its initial offering. The lower price helps a new product or service penetrating the market and attracting customers away from competitors.”
Your business should adopt a penetration pricing strategy to create demand for a new product or service in a short amount of time. In addition to making more customers aware of your product or service, the pricing strategy will make customer switch from competitors. But you must remember that penetration pricing, like other pricing strategies, has its own advantages and disadvantages.
Unlike other pricing strategies, penetration pricing is effective in making more customers aware of the new product and driving the sale of the new product. The lower price will make customers switch from competitors and promote the product or service through word of mouth.
Often businesses find it challenging to promote and sale a new product or service by beating the competition. Penetration pricing strategy helps businesses to create demand for and drive the sale of the new product by beating the competition. The lower price of the product will make many customers buy the new product as well as switch from competitors.
While launching a new product or service, businesses have to invest huge resources to create a popular brand and promote brand loyalty. They can adopt a penetration pricing strategy to make more customers buy the new product. The surge in sales helps businesses to promote brand loyalty by offering superior quality, value, or experience.
A business can easily boost the sale of a product or service by adopting penetration pricing. The surge in demand and sale of the product will help the business to curtail overheads by scaling up production. The economies of scale help businesses to avoid increasing the price of the product or service after the initial launch period.
A business can easily disrupt the marketplace by offering products or services at a lower price. The competitors will need some time to reduce the price of their products. Hence, a business can easily acquire and increase market share by offering products or services initially at a lower price.
Penetration pricing strategy makes businesses to increase the price of the product or service after the initial launch period. The increase in price will affect the sale of the product directly. The customers will expect your business to offer the product or service at the same price. Also, the increase in price will make many customers switch to competitors.
According to Entrepreneur.com,
“Whether customers perceive a product as “cheap” or “affordable” is crucial to its success in the marketplace. But if companies think they lack control of this perception, well, they are simply wrong.”
Often customers associate the lower price of a product or service to poor quality. Hence, businesses cannot drive the sale of luxury or premium items by adopting a penetration pricing strategy.
There were many instances when a price war was started as a company reduced the price of a product or service in a competitive marketplace. There are always chances that your competitors will offer the product as a price lower than yours. Hence, a business must prepare itself to fight a price war while adopting a penetration pricing method.
While adopting the penetration pricing method, you must evaluate the pros and cons of this pricing strategy. In addition to boosting the sale of the product or service during the initial launch period, your business must keep in place a strategy to sustain the demand and sale in the long run. That is why; you must consider a slew of factors while adopting a penetration pricing model.
Penetration pricing strategy helps your business to boost the sale of a new product or service during the initial release period. The lower price helps the product or service penetrate the competitive market. But there are always chances that the customers will switch to a competitor as the price of the product or service increases after the initial release period. You must consider integrating penetration pricing with other pricing strategies to drive sales and promote brand loyalty in the longer run.
While determining the price of a product or service, you can consider several types of pricing strategies. Some pricing strategies help you to increase the demand for the product or service, while others make it easier for you to generate more profit. Unlike other pricing strategies, cost-plus pricing or markup pricing helps you to generate profit as a fixed percentage on the cost of production of a unit of product.
Wikipedia defines cost-plus pricing or markup pricing as “a pricing strategy in which the selling price is determined by adding a specific markup to a product’s unit cost.”
Cost-plus pricing is one of the simple and straightforward pricing strategies. You can use a cost-plus pricing model to set the selling price of a product in three simple steps.
You have to start by determining the cost of production by adding materials, labour, direct expenses, and overheads. You can divide the total cost of production by the total units of the product to determine production cost per unit.
You need to determine the amount of profit you want to earn by selling a single unit of the product. Often businesses calculate the profit margin as a percentage of the production cost per unit.
Finally, you have to determine the selling price of each unit of the product by adding the production cost per unit with the profit margin or markup.
The cost-based pricing strategy enables you to determine the selling price of a product using the simple formula: Cost per Unit ((1 + the Markup Amount). We can describe the formula more clearly using the following example.
Let’s assume your business has to incur Rs 1000 as material cost, Rs 800 as labour cost, and Rs 200 as overheads cost to produce a single unit. Also, your business wants to set the markup or profit margin at 50%.
Material Cost: Rs 1000
Labour Cost: Rs 800
Overheads Cost: Rs 200
Cost per Unit Rs 2000
Markup: 50% or .50
Selling Price: Rs 2000 (1+.50) = Rs 2000 * 1.5 = Rs 3000
Your business can earn a 50% profit by selling a single unit of the product at Rs 3000.
Some pricing strategies require you to consider a variety of factors while determining the selling price of a product. But the cost-plus pricing strategy requires you to determine the cost of production accurately. You can determine the selling price of a product simply by determining the cost of production and profit margin.
Sometimes buyers complain about a sudden or unexpected rise in the selling price of a product. Cost-plus pricing strategy makes it easier for your business to justify the increase in the selling price of a product due to the increase in the production cost. Also, your business can cover the rise in production cost by increasing the product’s selling price from time to time.
Unlike other pricing strategies, cost-plus pricing focuses on the cost of production fully. Also, it allows your business to determine the markup as a percentage of the production cost. Hence, your business can get a consistent rate of return in the long run by adopting markup pricing strategy.
The cost-plus pricing strategy focuses only on the cost of production. It ignores the price set by competitors for similar products. Hence, your business may set the selling price of the product too high with the aim to increase profit. But the higher price will make it difficult for your business to increase the sale of the product.
The pricing strategy assumes that all units of the product will be sold out. The demand for and sale of a product is influenced by a slew of factors. Hence, there are always chances that your business may not recover the cost of production fully by overestimating the sales figures. Also, your business may not generate more profit by setting a lower profit margin based on the overestimated sales figure.
Most businesses these days explore ways to reduce production cost to beat the competition and boost demand. But cost-plus pricing strategy enables businesses to increase profit margin despite a rise in production cost. Hence, the pricing strategy will not encourage your managers to improve operational efficiency and curtail manufacturing overheads.
Many retailers these days set selling price of different products using a cost-plus pricing model. The retail products differ from each other in terms of production cost. Hence, the retailers set different rates of markup on the production cost of a specific product. The pricing strategy further allows retailers to apply different markup percentages of various products.
Also, many companies impress customers by keeping the pricing strategy transparent. They adopt the cost-plus pricing model to convince that they are applying a lower markup percentage than the competitors. The transparency helps businesses to implement a strategy to popularize their brands and promote customer loyalty.
But your business cannot determine the price of a customized software solution or software-as-a-service (SaaS) product by adopting the pricing model. Because your software solution will help businesses to get higher returns by boosting operational efficiency and curtailing cost. It is always advisable to avoid markup pricing model to determine the price of digital products and solutions.
Your business can opt for cost-plus pricing strategy to get a consistent rate of return on the cost of production. But you must remember that markup pricing, like other pricing strategies, has its own advantages and shortcomings. Your business cannot use the pricing strategy to generate revenue and boost sales of all types of product. It is always important to keep in mind the pros and cons of cost-plus pricing while comparing various pricing strategies.
Your business can make a product or service accessible to more customers by offering it at a lower price. But your business cannot maximize shareholders’ value and profits without offering the product or service at a higher price. Hence, you need to implement a tiered pricing strategy that maintains a balance between increasing demand for the product or service and maximizing the shareholders’ value or profits. While analyzing different types of pricing strategies, you must consider key factors like cost of production, organization’s revenue goals, prices of competing products, price elasticity, brand positioning, and prevailing economic trends. You can consider a wide range of pricing strategies to determine the best price for a product or service.(more…)
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