Theory in Relation to the Pricing of Products and Discuss its Usefulness - Essay Example

To be successful, a business must take the psychological aspect of consumer sales into account when pricing products and services. Buyers are not always entirely rational and do not usually have ideal information when they purchase products. Consumers are sometimes quite irrational in the way they go about making purchase decisions. Perfect rationality implies that these decisions are made in a way that maximizes the gain on every pound spent. This rarely happens. Buyers characteristically make many purchase decisions on an almost daily basis. They do so within the context of the many other decisions and activities which make up their lives. In the marketplace, they encounter a wide array of vendors and product offerings with a complex variety of benefits, prices, terms, and promotional messages. Research findings suggest that much of what people do when they buy products and services follows a definite logic. They look for cues to help simplify decision making, and often rely on simple rules of thumb. Correspondingly, it is possible to identify patterns of behavior in the way buyers go about satisfying their needs (Morris, Morris, 1990). The business must consider the customer's perception of price implementing strategies such as positioning, price points and fair pricing. Price alone can be used in several ways to attract customers. There are two opposing strategies to the pricing of a product. If the business expects to be the low-cost leader, it must price (position) lower than the competition. If it wants to signal high quality, it should price products higher than most of the competition. Some manufacturers and retailers use price as a signal of quality. Consumers often have few indicators of quality, so price may be perceived as one of the better available cues.  By studied these various psychological aspects of consumer behavior, it becomes possible to price products and services to be of maximum appeal to the target market. Certain brands and retailers position themselves as providing value and quality at a low cost. These retailers rely on loss leaders to get consumers in the door knowing that once in, consumers are more likely to shop for other things as well. There are certain specific prices (price-points) at which people become more willing to buy a certain type of product. ‘Under £100’ is a popular price point. An amount below £20 including sales tax is another popular price point because it is the most popular denomination of money that people typically carry with them. Dropping the price to a popular price point might mean a lower profit margin, but the increase in sales volume offsets the loss (Teton, Allan, 2005). Perceived value is another aspect to take into account when pricing products. Offering an opposite approach from that of the low cost brands, perceived value equals reverse discounting. Retailers using this strategy work on the old maxim that quality is in the eye of the beholder. It is perceived, not necessarily real. A high price tag can help create a high perceived value on a particular product. After all, is Mercedes really worth three times more than a Ford? Is a Tiffany's diamond really worth five times more than the same one on an off-brand website? This strategy can work if a business is selling the snob appeal of a status symbol to the wealthy, or a high-priced, big-name service to multi-national companies. Prestige pricing refers to high markups and/or pricing above the market. Many consumers are willing to pay more for a product or service because it is felt the product or service is of higher quality or possesses brand or manufacturer prestige (Passewitz, n.d.) above that of similar products or services. While a business can price its product to simply cover its costs or to target a specific status-conscious clientele, it can also price structure to get deeper into the psychological mind of the average customer. It is financially advantageous for a business owner to have an understanding of human nature. Some prices just sound like a smaller expenditure than others even when they are very close to each other in value. 99 pence sounds less expensive than a pound the same way that £19.99 does with £20. People buy on emotion first, rational thought second. If they can say "and it's under £100," it's one more plus for the business owner. It is because of this basic way of thinking and buying on emotional rather than intellectual thought that has many products priced with peculiar endings. Rather than selling something at £10, it is sold at £9.99. Another theory of why this works is that consumers will conceive the £9.99 price as nine pounds plus change rather than the effective £10. Some suggest that intentionally awkward pricing was adopted primarily to control employee theft prior to the turn of the 20th century when stores expanded beyond owner-operators and the use of cash registers. For cash transactions with an odd price, most customers must be given change. Creating change requires the employee to open the cash register, recording the sale. This reduces the risk of the cashier stealing from the store owner. Regardless of why it works, recent research has shown that odd price endings appear to have some modest effects under some circumstances. Odd endings may have significant implications for the positioning of goods. Discount stores tend to use these endings, while upscale department stores often use whole dollar amounts as a sign of quality. While inflation has undoubtedly changed the figures involved, research done in the 1980s suggested odd prices were more effective below £7, where people often wanted to feel they got a bargain, while diners who paid more than that amount seemed to prefer the assurance of quality implied by a whole figure. To achieve the perception of savings, value-bundles offer something for nothing. Value-bundling involves grouping products and setting one price for the arrangement. This works best if the grouped products have a logical association with one another. Customers tend to assign value to a bundle, based upon the probable cost of individual pieces. Value-bundling is a powerful method if the price of the bundle equals the price of the most expensive component (Evoy, 1999). Vacation packages bundle air tickets with hotel and rental cars to be advertised at one eye-catching price. If the price of the bundle is a bit more than what the customer would pay for the air tickets independently, the customer has a "something for nothing" feeling with the purchase. Internet service providers bundle a number of products and interactive services together, and charge one price for all of them, “all for one low price”. A large bundle of digital goods will ultimately make more profit than if each good were sold individually even if not all the grouped pieces are seen as valuable for all customers. Quantity discounts are really worth considering, especially if a business ships hard goods. The profit margin is a bit less, but your gross is better. The customer saves on shipping, product cost, and gets that "under £20" psychological motivation (Evoy, 1999). In pricing products, perception is a mighty psychological tool. Multiple Unit Pricing is a value-bundling strategy where the customer perceives quantity buying equates to greater savings. An example is an item that normally sells for 49 pence. Multiple pricing would change this situation to a two for 89 pence or perhaps three for £1.39. In general, multiple unit pricing is usually effective in increasing immediate sales. However, this pricing technique may not increase the rate of consumption of the product. People will buy extra units of the product and use them as needed. Several factors ought to be considered when using multiple unit pricing. First, the multiple-unit price has to be easy to understand. Eight for 79 pence is usually less effective than simple multiples of two for 19 pence. Second, the bargain concept of multiple pricing is not usually effective over the £10 range. It is, however, very effective for items within the £1 range (Passewitz, n.d.). Discounting can be used in a variety of other ways, for seasonal deals or special markets like seniors and students. Whether you use it to build existing customer loyalty, for quantity savings or for competitive reasons, discounting can be a strong tool. If utilizing this strategy, a clearly defined pricing goal will prevent a business from just giving money away. Although it might be perceived that the benefit of bundling shipping and handling costs with the price of a product, researchers have found this is rarely a sound strategy. Every consumer is already aware of the hidden charges inherent in the "Plus shipping and handling" sales tag. They enter the marketplace with this caveat already in mind to such an extent that the cost of shipping is mentally added to the price of a product prior to reading any of the fine print. As shipping and handling is not part of the price of the product, it is generally assumed it should be separate. Including shipping and handling in the price of a product is almost always a mistake because adding these expenses to the sales price give the product the appearance of being more expensive than similar products offered by competitors who keep the shipping and handling charges separate. However, customers will notice shipping and handling charges if they appear higher than generally anticipated. Flexibility is largely driven by customer perception of a product and the competition. For example, if a grocery chain sells its own private brand of instant coffee, the coffee better sell for less than other brand names. Bump that price up and watch inventory sit on the shelves. But if you sell a top-of-the-line, in-fashion, gourmet brand of coffee, it can be almost a license to print money. Uniqueness is understood and valued by the customer (Evoy, 1999). Most consumers unwittingly acquire mental attitudes about the price they are willing to pay for a product or service. There is considerable evidence that the importance of price in the decision to purchase varies from product to product and person to person. Consumers often tend to respond strongly to price increases, and particularly when certain ceilings are reached. In the 1970s, the price of cereals neared £2 per box. Consumers were found not to buy over that barrier. Many manufacturers, rather than raising the price, reduced the package sizes to increase revenue (Passewitz, n.d.). For this reason, manufacturer's suggested retail price is at best a misleading figure. MSRP’s are intentionally set high so full service retailers can sell at a psychological discount. However, for this approach to be used legally, the statement must be factual. Consumers are doubtful of discount claims made by businesses and have a propensity to disbelieve the accuracy of such claims. A claim of a 30 percent reduction might translate into a perception of 15 percent actual savings in an educated consumers mind. At the extremes of this strategy though, when an item is marked down a clearly improbable amount (e.g., a used car is marked 50 percent below market value), that tactic does indeed lead to some perceived savings by consumers (Passewitz, n.d.). An often used yet unethical psychological technique is the bait and switch. Using this technique, a deeply discounted product is advertised but when the consumer arrives in the store, sales personnel attempt to persuade them to buy a more expensive option by pointing out that it is a much better value. Often, very little or no quantity of the advertised good is on hand, and the selection of available styles, colors, etc. is very restricted. Some businesses will use this technique by discounting a red model, for instance, while keeping the black model at the regular, non-discounted price. A modification of the technique occurs when travel agents advertise fares which are not actually available. The flight may have one or two seats at the advertised price but these are sold out very quickly and always, seemingly, just before a customer called. Consumers often develop internal reference prices, or expectations about what something should cost, based mostly on their experience and a peculiar social phenomenon in which the public’s collective mind determines what a particular product or service should cost. For example, early Coca Cola advertising made specific reference to the price of a its product at a mere dime, making it difficult to change the price later when the cost of production and distribution had increased as a result of inflation. Despite the research conducted, or perhaps because of it, psychological pricing theories are controversial as to their effectiveness. Consumers are increasingly aware of pricing strategies designed to lure the uninitiated and are so accustomed to psychological means of setting prices that variant prices stand out as peculiar. Some studies indicate that buyers, even young children, have an advanced understanding of the true cost of an item and that they act judiciously in their buying decisions. This does not take into account the non-rational nature of people within the marketplace or that acceptance of psychological pricing requires understanding the human mind on a subconscious level of thought processes. Some economic models tend to deny or ignore the subconscious mind. More than simply the buying behavior of the target market, there are many other psychological factors that can influence a business’ pricing decisions. Prices are set based on an image the business wants to project for the product. The answer for which is the most effective retail price for a product can be as diverse as all products themselves. Factors that influence pricing decisions are seemingly endless therefore a sound strategy that works for one may not work for another even within the same market. An understanding of the product and of the people that product will attract is essential. Prestige pricing, reference pricing, odd-even pricing and traditional pricing are all in the psychological arsenal of businesses setting their pricing structures. In addition, pricing strategies must be forward-thinking to include attracting new users to the market as well as increasing the usage rates among existing customers. It also should take into consideration the market pursuit of winning customers from competitors and discouraging current customers from switching to competitors and develop a technique for discriminating among different types of buyers to most effectively market a given product or service. With this knowledge, it is possible to develop a means of using the low price of one product to help sell other products in the line regardless of the level of consumer (Morris, Morris, 1990). Whether they are accustomed to or too sophisticated for such pricing strategies, consumers continue to be influenced by them at the subconscious level. While impossible to establish the needs for every consumer, identifying buying behavior and psychological tendencies could be the key to the success or failure of a product. References Evoy, Ken. (1999). Make Your Site Sell. The Psychology of Pricing. Retrieved 30 December, 2005 from Morris, Gene and Michael H. Morris. (1990). Market-Oriented Pricing: Strategies for Management. Quorum Books, p. 55. Retrieved 30 December, 2005 from < http://www.questia.com/PM.qst?a=o&d=100604789> Passewitz, Gregory R. (n.d.) Ohio University Fact Sheet Small Business Series. Retrieved 30 December, 2005 from < http://ohioline.osu.edu/cd-fact/1326.html> Teten, David and Scott Allen. (2005). The Virtual Handshake: Four models for calculating your pricing. Amazon Books. 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