Chapter 6

Pricing and Revenue Management style Click to edit Master subtitle

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No ownership of services--hard for firms to calculate financial costs of creating an intangible performance Variability of inputs and outputs-how can firms define a unit of service and establish basis for pricing? Many services hard for customers to evaluate--what are they getting in return for their money? Importance of time factor--same service may have more value to 3/18/12 customers when delivered faster

What Makes Service Pricing Strategy Different (and Difficult)?

Objectives of Pricing Strategies

Revenue and profit objectives

Seek profit Cover costs

Patronage and user baserelated objectives

Build demand Build a user base

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The Pricing Tripod

Pricing Strategy

(Fig. 6.1)

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Cos ts

Competitio n

Value to customer

Three Main Approaches to Pricing

Cost-Based Pricing

Set prices relative to financial costs (problem: defining costs) Monitor competitors pricing strategy (especially if service lacks differentiation) Who is the price leader? (one firm sets the pace)

Competition-Based Pricing

Value-Based
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Relate price to value perceived by customer

Activity-Based Costing: Relating Activities to the Resources to see Consume Managers need They costs as an
integral part of a firms effort to create value for customers When looking at prices, customers care about value to themselves, not what production costs the firm Traditional cost accounting emphasizes expense categories, with arbitrary allocation of overheads
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ABC management systems examine

Net Value = (Benefits Outlays)

(Fig. 6.3)

Perceiv ed Benefit s
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Eff ort

Ti m e e Perceiv

ed Outlays

Enhancing Gross Value

Pricing Strategies to Reduce Uncertainty

service guarantees benefit-driven (pricing that aspect of service that creates value) flat rate (quoting a fixed price in advance)

Relationship Pricing
non-price incentives discounts for volume purchases 3/18/12 discounts for purchasing multiple services

Paying for Service: The Customers Perspective

Customer expenditures on service comprise both financial and non-financial outlays

Financial costs:

price of purchasing service expenses associated with search, purchase activity, usage

Time expenditures Physical effort (e.g., fatigue, discomfort) Psychological burdens (mental effort, negative feelings)
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Negative sensory burdens (unpleasant sensations affecting any of the five senses)

Search Costs

Determining the Total Costs of a Service to the Consumer (Fig. 6.4)

Price Related Monetary Costs Time Costs Operating Costs Incidental Expenses

Purchase and Use Costs

Physical Costs Psychological Costs Sensory Costs Necessary follow-up Problem solving

After Costs 3/18/12

Which clinic would you patronize if you needed a chest x-ray (assuming all three clinics offer good quality) ? Clinic A
= =

Trading off Monetary and Non- Monetary Costs (Fig. 6.5)

Clinic B
= =

Clinic C
= =

Price $45 Located 1 hour away by car or transit Next available appointment is in 3 weeks Hours: Monday Friday, 9am 5pm Estimated wait at clinic is about 2 hours

Price $85 Located 15 min away by car or transit Next available appointment is in 1 week Hours: Monday Friday, 8am 10pm Estimated wait at clinic is about 30 - 45 minutes

Price $125 Located next to your office or college Next appointment is in 1 day Hours: Mo Sat, 8am 10pm By appointment estimated wait at clinic is about 0 to 15 minutes

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Increasing Net Value by Reducing Non-financial Costs of Service Reduce time costs of service at each
stage Minimize unwanted psychological costs of service Eliminate unwanted physical costs of service Decrease unpleasant sensory costs of service
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Revenue Management: Maximizing Revenue from Available Capacity at a Based on price customization Given Time
charging different customers (value segments) different prices for same product

Useful in dynamic markets where demand can be divided into different price buckets according to price sensitivity Requires rate fences to prevent customers in one value segment from 3/18/12

The Strategic Levers of Revenue (Yield) Management

Price Fixed
Quadrant 1: Predictable
Movies Stadiums/Arenas Function Space

Variable
Quadrant 2:
Hotel Rooms Airline Seats Rental Cars Cruise Lines

Dur at io n

Quadrant 3: Unpredictable
Restaurants Golf Courses

Quadrant 4:
Continuing Care Hospitals

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customer conflicts: = Perceived Unfairness & Perceived Financial Risk Associated with Multi-Tier Pricing and Selective Inventory Availability
= Unfulfilled Inventory Commitment = Unfulfilled Demand of Regular

Dealing with Common Customer Conflicts Arising from can arise from: Marketing tools to reduce Customer conflict Revenue Management
= = = =

Fenced Pricing Bundling Categorising High Published Price Programme for Oversale

= Well designed Customer Recovery = Preferred Availability Policies = Offer Lower Displacement Cost

Customers
= Unfulfilled Price Expectation of

Group Customers
= Change in the Nature of the

Alternatives
= Physical Segregation & Perceptible

Service

Extra Service = Set Optimal Capacity Utilisation Level

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Price Elasticity
Price per unit of service
D e D i

(Fig. 6.6)

Quantity of Units Demanded

De : Demand is price elastic. Small changes in price lead to big changes in demand. Di : Demand for service is price inelastic. Big changes have little impact on demand.

D i

D e

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Key Categories of Rate Fences (Table 6.2)

Rate Fences Basic Product Examples Physical (Product-related) Fences

Amenities Service Level

Class of travel (Business/Economy class) Size and furnishing of a hotel room Seat location in a theatre Free breakfast at a hotel, airport pick up etc. Free golf cart at a golf course Priority wait listing Increase in baggage allowances Dedicated service hotlines Dedicated account management team

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Key Categories of Rate Fences (Table 6.2 contd)

Non Physical Fences Transaction Characteristics Time of booking or reservation Location of booking or reservation Flexibility of ticket usage

Requirements for advance purchase Must pay full fare two weeks before departure Passengers booking air tickets for an identical
route in different countries are charged different prices

Fees/penalties for canceling or changing a reservation (up to loss of entire ticket price) Non refundable reservation fees

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Key Categories of Rate Fences (Table 6.2 contd)

Non Physical Fences (contd) Consumption Characteristics Time or duration of use

Early bird special in restaurant before 6pm Must stay over on Sat for airline, hotel Must stay at least five days Price depends on departure location, esp in international travel Prices vary by location (between cities, city
centre versus edges of city)

Location of consumption

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Key Categories of Rate Fences (Table 6.2 contd)

Non Physical Fences (contd) Buyer Characteristics Frequency or volume of Member of certain loyalty-tier with the firm get consumption priority pricing, discounts or loyalty benefits Group membership Size of customer group

Child, student, senior citizen discounts Affiliation with certain groups (e.g. Alumni) Group discounts based on size of group

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Price per Sea t

Relating Price Buckets and Fences to the Demand Curve (Fig. 6.7)
First Class Full Fare Economy (No Restrictions) One-Week Advance Purchase One-Week Advance Purchase, Saturday Night Stayover 3-Week Advance Purchase, Saturday Night Stayover 3-Week Adv. Prchs, Sat. Night Stay., $100 for Changes 3-Wk Adv. Prchs, Sat. Night Stay, No changes/refunds Late Sales through Consolidators/ Internet, no refunds

Capacity of 1stCa class bin

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No. of Seats Demanded

Capac ity of Aircraft

Ethical Concerns in Pricing

Customers are vulnerable when service is hard to evaluate or they dont observe work Many services have complex pricing schedules

hard to understand difficult to calculate full costs in advance of service

Unfairness and misrepresentation in price promotions

3/18/12 misleading

advertising

Pricing Issues: Putting Strategy into Practice (Tablemuch to charge? 6.3) v How
v What basis for pricing? v Who should collect payment? v Where should payment be made? v When should payment be made? v How should payment be made? v How to communicate prices?
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Consumption follows the Timing of Payments (Research Insight

6.1)
Frequency of Health Club Visits Annual Payment Plan Quarterly Payment Plan

Frequency of Health Club Visits

Semiannual Payment Plan

Monthly Payment Plan

Time Line
Source: John Gourville and Dilip Soman, Pricing and the Psychology of Consumption, Harvard Business Review, September 2002, 90-96.

Time Line

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