Part 4: Pricing Process

Level of Application

Capsule: Apply your price at a low level in a falling price market and at a high level when prices rise.

The level at which the Company sets its price determines the control the Company has on the pace of change in its average price and the cost of administering the pricing policy. Ultimately, the Company must have a price for every product transaction with every customer. The Company may define price at a level of detail that might range from the product at the factory door to the individual customer transaction. The lower the level at which the Company sets its price, the more control the Company has on the extent of a price decline. At the same time, however, reducing the level at which pricing takes place also increases the cost of administering the price management system.

The Company would apply price at a high level in a high or rising price environment and at a low level where prices are low or falling. In a high or rising market, the Company would prefer that a price change apply to a very broad section of the market. This enables the Company to have a low cost of price administration. On the other hand, in a market where price is low or falling, the Company would prefer that any price change apply to as few product units and customer transactions as possible. In a falling price environment, the Company would prefer to negotiate price declines with smaller segments of customers in order to reduce the rate and the extent of the decline in price, and to improve its average revenue and profitability per unit of product sold. Its trade off is the additional cost of this more complex price administration system.

Developing and Stable industries may have relatively simple, product-based pricing levels. Once an industry enters a Deteriorating condition, pricing becomes more complex, more tailored to the customer. Then, in a Hostile market, pricing becomes very complex, with prices often applied at the individual customer or transaction levels.

The change to Hostile market pricing marks the practical end to managing product profitability. The Company can still monitor product costs. But, with individual customers and transactions carrying their own price arrangements and unique product mixes, the profitability of individual products becomes hard to measure, and even harder to change, without considering the impact the change would have on the customer relationship. Instead of product profitability, the Company is likely to use customer profitability as its primary profitability measurement and control lever in Hostile markets.

The overhead resources the Company needs to administer the more complex prices that accompany Hostility are far greater than before Hostility. Fortunately, all companies in the industry face the same pricing challenges. They must increase the resources they devote to pricing as well. The implication of this increase in costs is that the Company has an opportunity to use its superior cost management skills to create better economies of scale than its competitors in this pricing administration.

Eventually, a Hostile market enters Reprieve market conditions. All customers begin paying higher prices. The average price the Company receives approaches the Company's list price. Then, the Company may simplify its pricing by raising the level of application back to the product level. This simplification should also allow the Company to reduce the overhead resources it devotes to administering its pricing policy.

Level of Application Questions

  • Where is the price applied today? Price becomes more specific, and more limited in its effect, as it moves through the following levels of application:

    1. Product: All customers pay the same price for the product. This is usually a list price.

    2. Size of Order: All customers ordering the same quantity pay this same price for the product. This pricing level is common in consumer goods industries.

    3. Geography: All customers purchasing in a particular geographic location pay this price. Companies use this level of price application when their costs or competitive situations vary significantly from one geographic area to another.

    4. Customer Type: All customers in a particular customer segment pay this price. Companies use this method of pricing to concentrate their sales efforts on segments of most importance to their businesses.

    5. Individual Customer: The Company negotiates product pricing with each individual customer. In this level of application, the Company would normally use an annual contract with discounts off of list prices that are specific to each customer.

    6. Transaction: The customer pays a particular price for this specific transaction only. This is the lowest, most precise, level at which the Company can set its prices.

  • Where should the Company apply the price for the future, given its industry price outlook and Company objectives?

In reality, each of these six levels of pricing reflect pricing segments. As you move up in the numbered segments above, you narrow the price segment. The segments really define the level at which the Company prices. When the company reduces Price, these segments, in broad terms, include Product Purchased segments, Margin Building segments, Target Competitor segments and segments related to a Period of Time. For examples of these segments, please see StrategyStreet/Improve/Pricing/Reduce Price/Directions. When the Company increases Price, these segments include Captive Customer segments, segments where competitors cannot counter the price increase, and segments where competitors are unlikely to be willing to counter the increase. For examples of these segments, please see StrategyStreet/Improve/Pricing/Raise Price/Directions.

The Company changes the level at which it sets its price by targeting specific segments and then by using the various Components of Price available to it. The next section of StrategyStreet examines these segments and price components.

Basic Strategy Guide Users Go To: Step 23

Summary Points Next: Price Segments and Components