2006 Thomson Learning, Inc.

South-Western
Chapter 7

The Pricing of Services

2006 Thomson Learning, Inc. South-Western
Chapter Objectives
Describe how consumers relate value
and price.
Understand the special considerations
of service pricing as they relate to
demand, cost, customer, competitor,
profit, product and legal considerations.
Discuss the circumstances under which
price segmentation is most effective.
Explain satisfaction-based, relationship,
and efficiency approaches to pricing.
2006 Thomson Learning, Inc. South-Western
Opening Vignette: Pricing Woes
Continue for US Airlines
The airline
industry is
expected to
lose at least $2
billion in 2005.
Who will be left
in the end?
2006 Thomson Learning, Inc. South-Western
The Art of Pricing
Pricing policy is the last stronghold of
medievalism in modern management
[Pricing] is still largely intuitive and
even mystical in the sense that the
intuition is often the province of the big
boss (Dean, 1947).
2006 Thomson Learning, Inc. South-Western
Pricing is approached in Britain like
Russian roulette--to be indulged in
mainly by those contemplating suicide
(Chief Executive, 1981).
The Art of Pricing
2006 Thomson Learning, Inc. South-Western
Source: Philip Kotler, Marketing Management, 9th ed. (Englewood Cliffs, NJ: Prentice-Hall), 1997, p. 37.
Product value
Service value
Personnel value
Image Value
Monetary cost
Time cost
Energy cost
Psychic cost
Buyers perception
of value
Total
customer
value
Total
customer
cost
Figure 7.1 Buyers
Perception of Value
2006 Thomson Learning, Inc. South-Western
Demand tends to be more inelastic
Cross price elasticity considerations
need to be examined
Price discrimination is a viable practice
to manage demand and supply
challenges
Demand Considerations
2006 Thomson Learning, Inc. South-Western
Factors Influencing
Consumer Price Sensitivity

Price sensitivity
decreases as
Inventory Effect
Unique Value
Fairness Effect
Switching Costs
Price-Quality Effect
Shared-costs Effect Comparison Effect
End-benefit Effect
Expenditure Effect
Perceived
Substitutes
2006 Thomson Learning, Inc. South-Western
Perceived Substitute Effect
few search attributes
providers often lack resources and
marketing expertise
limited product mix

Unique Value Effect
conveying uniqueness is difficult
provider may need to educate the market
uniqueness is often short-lived

Price Sensitivity Factors
2006 Thomson Learning, Inc. South-Western
Price Sensitivity Factors
Switching Costs
higher levels of perceived risk
uncertainty involved in changing providers
consequences associated with a bad
outcome

Difficult Comparison Effect
high number of experience attributes
inherent heterogeneity
2006 Thomson Learning, Inc. South-Western
Price-Quality Effect
price acts as a quality indicator when
consumers:
believe that quality differs among providers
believe that low quality imposes greater
consequences
lack other sources of objective information

Expenditure Effect
amount of expenditure relative to
consumer household income


Price Sensitivity Factors
2006 Thomson Learning, Inc. South-Western
End-benefit Effect
the more price sensitive consumers are to
the cost of the end-benefit, the more
sensitive they will be to purchases that
contribute to the end-benefit.
Price bundling adds value to the consumers
end-benefit

Shared-cost Effect
consumer price sensitivity decreases as
the shared-costs with third parties
increase
Price Sensitivity Factors
2006 Thomson Learning, Inc. South-Western
Fairness Effect
fairness is typically assessed by comparing the
price to:
previous prices paid for similar services
prices paid for similar services under similar
circumstances
the benefit gained
assessing service fairness is difficult

Inventory Effect
consumers are able to protect themselves from
future price increases by building inventories
Price Sensitivity Factors
2006 Thomson Learning, Inc. South-Western
Criteria for Effective
Price Discrimination
1. Different groups of consumers must
have different responses to price.

2. Different segments must be
identifiable, and a mechanism must
exist to price them differently.
2006 Thomson Learning, Inc. South-Western

3. No opportunity should exist for individuals
in one segment who have paid a low price
to sell their tickets to those in other
segments.

4. The segment should be large enough to
make it worthwhile.

5. Costs should not exceed the incremental
revenues obtained.

6. Customers should not be confused.
Criteria for Effective
Price Discrimination
2006 Thomson Learning, Inc. South-Western
Price is sometimes not know until after the
service has been produced

Cost-oriented pricing is more difficult
activity-based costing breaks down the
organization into a set of activities, and activities
into tasks, which convert materials, labor, and
technology into outputs

High fixed cost to variable cost ratio

Economies of scale tend to be limited
Cost Considerations
2006 Thomson Learning, Inc. South-Western
Price tends to be one of the few search
clues available

More likely to use price as a quality cue

Consumers are less certain about
reservation prices
Customer Considerations
2006 Thomson Learning, Inc. South-Western
Comparing prices is more difficult

Self-service is a viable alternative
Competitive Considerations
2006 Thomson Learning, Inc. South-Western
Price bundling makes
the determination of
individual prices in the
bundle of services
more complicated

Price bundling is more
effective in a service
context
Profit Considerations
2006 Thomson Learning, Inc. South-Western
Many different names
for price
Consumers are less
able to stockpile by
taking advantage of
discount prices
Product-line pricing is
more difficult
Home sellers have three
levels of service (6, 7,
or 8%)
Product Considerations
2006 Thomson Learning, Inc. South-Western
Opportunity for illegal pricing practices
to go undetected is greater for services
than goods

To consumers, the issue is one of
fairness and dual entitlement
Legal Considerations
2006 Thomson Learning, Inc. South-Western
Satisfaction-based pricing
primary goal is to reduce the amount of
perceived risk
service guarantees
benefit-driven pricing: charges customers for
services actually used as opposed to overall
membership fees
flat-rate pricing: customer pays a fixed price
and the provider assumes the risk of price
increases and overruns
Emerging Service Pricing
Strategies
2006 Thomson Learning, Inc. South-Western
Relationship Pricing
primary objective is to enhance the firms
relationship with its targeted consumers.
long-term contracts: offers price and
nonprice incentives for dealing with the
same provider over a number of years
pricing bundling: marketing two or more
services as a single package for a single
price
Emerging Service Pricing
Strategies
2006 Thomson Learning, Inc. South-Western
Efficiency Pricing
primary objective is to appeal to economically-
minded consumers by delivering the best and
most cost-effective service for the price.
Example: Southwest Airlines
Emerging Service Pricing
Strategies
2006 Thomson Learning, Inc. South-Western
The price should:
Be easy for customers to understand
Represent value to the customer
Encourage customer retention and facilitate
the customers relationship with the
providing firm
Reinforce customer trust
Reduce customer uncertainty

Services Pricing: Final Thoughts