©2011 Pearson Education, Inc.

publishing as Prentice Hall Chapter 1 – Slide 1

 The Strategy and Tactics of Pricing
Fifth Edition

Chapter 1
Strategic Pricing
Coordinating the Drivers of Profitability

©2011 Pearson Education, Inc. publishing as Prentice Hall

Chapter Learning Objectives

 Define Strategic Pricing and differentiate it from more tactical approaches

such as cost-driven, market-driven or competitor-driven pricing

 Introduce the identifying characteristics of strategic pricing

– Proactive
– Profit-driven
– Value-based

 Define the five elements of a pricing strategy and illustrate how they work in
concert to maximize profitability:
– Value creation
– Price and offer structure
– Value communication
– Pricing Policy
– Price setting
©2011 Pearson Education, Inc. publishing as Prentice Hall Chapter 1 – Slide 3
Tactical Pricing Orientations

 Cost-Driven Pricing

 Customer-Driven Pricing

 Share-Driven Pricing

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©2011 Pearson Education, Inc. publishing as Prentice Hall Chapter 1 – Slide 4
 • Value-based means that differences in pricing across customers and
changes over time reflect differences or changes in the value to customers.
For example, many managers ask whether they should lower prices in
response to reduced market demand during a recession. The answer: if
customers receive less value from your product or service because of the
recession, then prices should reflect that. But the fact that fewer customers
are in the market for your product does not necessarily imply that they value it
less than when they were more numerous. Unless a close competitor has cut
its price, giving customers a better alternative, there may be no value-based
reason for you to do so.

• Proactive means that companies anticipate disruptive events (for example,

negotiations with customers, a competitive threat, or a technological change)
and develop strategies in advance to deal with them. For example, anticipating
that a recession or a new competitive entry will cause customers to ask for
lower prices, a proactive company develops a lower-priced service option or a
loyalty program, enabling it to define the terms and trade-offs of the expected
interaction, rather than forcing it to react to terms and trade-offs defined by the
customer or the competitor.
©2011 Pearson Education, Inc. publishing as Prentice Hall Chapter 1 – Slide 5
 • Profit-driven means that the company evaluates its success at price
management by what it earns relative to alternative investments rather than by
the revenue it generates relative to its competitors. For example, when Alan
Mulally took charge as Ford Motor Company's CEO in 2006, he declared that
henceforth Ford would focus on selling cars profitably, even if that meant that
Ford would become a smaller company. He cut Ford's 96 models to 20 and
sold off its unprofitable Jaguar and Land Rover brands. When the recession
appeared in late 2008, he quickly and relentlessly cut production — ending the
long-standing policy at all the Big Three U.S. auto manufacturers to increase
customer and dealer incentives to maintain production as long as possible.
Although Ford initially gave up market share, it was in the end the only one of
the Big Three to avoid bankruptcy

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The Strategic Pricing Pyramid – Exhibit 1-1

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Alternative Approaches to Value Creation – Exhibit 1-2

Product Led
Product Cost Price Value Customers

Customer Led

Customers Values Prices Costs Products

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Cost-Driven Pricing

Price every product to yield

a fair return over full cost

Total Cost
Unit Cost Target Price
Volume

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©2011 Pearson Education, Inc. publishing as Prentice Hall Chapter 1 – Slide 9
Example of Cost-based Pricing

Projected Costs and Revenues at

Expected Sales = 1,000,000 units

Total Per Unit

Direct Variable Costs $3,000,000 $3.00
Direct Fixed Costs $3,000,000 $3.00
Administrative Overhead $1,500,000 $1.50
Full Cost $7,500,000 $7.50
Revenue $9,000,000 $9.00

Profit $1,500,000 $1.50

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Chapter 1 – Slide 10
 Example of Cost-based Pricing

Actual Costs and Revenue at

Actual Sales = 750,000 units

Total Per Unit

Direct Variable Costs $2,250,000 $3.00
Direct Fixed Costs $3,000,000 $4.00
Administrative Overhead $1,500,000 $2.00
Full Cost $6,750,000 $9.00
Revenue $6,750,000 $9.00

Profit $0 $0

How would you solve this problem?

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©2011 Pearson Education, Inc. publishing as Prentice Hall Chapter 1 – Slide 11
Example of Cost-based Pricing

Projected Costs and Revenues with

Price Increased to $10.50 Per Unit

5% Decline 33% Decline

Current in Unit Sales in Unit Sales
Price $9.00 $10.50 $10.50
Unit Sales 750,000 712,500 500,000
Variable Costs $3.00 $3.00 $3.00
Fixed Costs $4.00 $4.21 $6.00
Admin. Overhead $2.00 $2.11 $3.00
Unit Cost $9.00 $9.32 $12.00
Unit Profit $0 +$1.18 -$1.50
Total Profit $0 $843,750 -$750,000

©2011 Pearson Education, Inc. publishing as Prentice Hall Chapter 1 – Slide 12

Example of Cost-based Pricing

Financial Implications of a 10% Price Cut

5% Increase 33% Increase

Current in Unit Sales in Unit Sales
Price $9.00 $8.10 $8.10
Unit Sales 750,000 787,500 1,000,000
Variable Costs $3.00 $3.00 $3.00
Fixed Costs $4.00 $3.81 $3.00
Admin. Overhead $2.00 $1.90 $1.50
Unit Cost $9.00 $8.71 $7.50
Unit Profit $0 -$0.61 +$0.60
Total Profit $0 -$480,375 $600,000

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Publishing as Prentice Hall

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