With the aid of Product Life Cycle (PLC), show application of difference pricing strategy at difference stages.

With the aid of Product Life Cycle (PLC), show application of difference pricing strategy at difference stages.

SOLUTION:

Introduction: As Marketing evolves from an element under the shadows of Management Science into a discipline in itself, a complete appraisal of all variables which affect consumer behavior is highly essential. An important concept underlying most dynamic business planning models is the Product Life Cycle (PLC). Because a product’s sales position and profitability changes over time, every firm needs to revise its product strategy periodically, using the concept of the Life Cycle. Firms recognize distinct phases in the sales history of the product and its market and thereby develop strategies appropriate to those various stages. Product Design, Engineering, Cost and Environmental implications also play important roles in Product Life Cycle. Muller (2011) emphasized that the life cycle of a product category in the market determines many aspects of the architecting approach, which includes four (4) phases: infancy, adolescence, mature and aging i.e. introduction, growth, maturity, decline.

A discontinuity, positively or negatively, in market success is seen in the transition from one phase to the next phase. The explanation given is that the phases differ in characteristics and require different approaches. The right approach for one phase is sub optimal for the next phase. Like human beings, products, generally, also have a life-cycle. From birth to death, human beings pass through various stages e.g. birth, growth, maturity, decline and death. A similar life-cycle is seen in the case of products. The product life cycle goes through multiple phases, involves many professional disciplines, and requires many skills, tools and processes.

Product life cycle (PLC) has to do with the life of a product in the market with respect to

business commercial costs and sales measures. Product Life Cycle can be measured in terms of it sales and price in the market place or space as the case may be, or in terms of its longevity in the product.

One of the most important and complex decisions a firm has to make relates to pricing its products or services. If consumers perceive a price to be too high, they may not buy the company’s products, instead they may buy other company’s products or close substitute products, thereby leading to loss of sales and profits for the firm. On the other hand, if prices are too low, sales might increase, but profitability may suffer. It therefore follows that pricing decisions must be given careful consideration.  Pricing strategies under the hypothesis of product Life Cycle suggest that, given demand and price stages, price and output are so determined that profit is maximized i.e. at the level of output where MR=MC. Some empiricists have produced the evidence, inadequate thought, to prove that the firms follow a pricing rule other than marginality rules. Business firms follow a variety of pricing rules and methods depending on the condition face by them. On this write off, we will discuss on the pricing strategy on the stages of Product Life Cycle with the case study of a single product as an example. The Life Cycle of a product is generally divided into five stages: These include Introduction, Growth, Maturity, Saturation, and Decline.

 

 

 

 

 

Introduction   Growth         Maturity      Saturation    Decline

 

 

Product Life Cycle Diagram

 

 

THE MEANING OF PRICING POLICIES AND PRACTICES

Pricing policies and practices may be defined as the set of standard procedures used by a firm to set its wholesale or retail prices for its products or services. It refers to the method of decision making that is used to set prices for a company’s goods or services. The policy assists in determining prices based on various social and economic factors such as cost of production. It also relies on provision with a margin. Demand Influences on pricing policy concerns primary the nature of target market and expected reactions of consumers to a given price or change in price. There are three primary considerations here, demographic factors, psychological factors, and price elasticity.

Pricing Objectives

Pricing objectives should be derived from overall marketing objectives, which in turn should be derived from corporate objectives. Since it is traditionally assumed that business firms operate to maximize profits in the long run, it is often thought that the basic pricing objective is solely concerned with long-run profits. However, the profit maximization norm does not provide the operating marketing manager with a single, unequivocal guideline for selecting prices. In addition, the marketing manager does not have perfect cost, revenue, and market information to be able to evaluate whether or not this objective is being reached. In practice, then, many other objectives are employed as guidelines for pricing decisions. In some cases, these objectives may be considered as operational approaches to achieving long-run profit maximization.

Research has found that the most common pricing objectives are (1) pricing to achieve a target return on investment, (2) stabilization of price and margin, (3) pricing to achieve a target market share, and (4) pricing to meet or prevent competition. The price of a product usually must cover costs of production, promotion, and distribution, plus a profit, for the offering to be of value to the firm. In addition, when products are priced on the basis of costs plus a fair profit, there is an implicit assumption that this sum represents the economic value of the product in the marketplace.

Cost-oriented pricing is the most common approach in practice. There are at least three basic variations: markup pricing, cost-plus pricing, and rate-of-return pricing. Markup pricing is commonly used in retailing: A percentage is added to the retailer’s invoice price to determine the final selling price. Closely related to markup pricing is cost-plus pricing, in which the costs of producing a product or completing a project are totaled and a profit amount or percentage is added on. Cost-plus pricing is most often used to describe the pricing of jobs that are non routine and difficult to cost.

Cost Considerations in Pricing

The price of a product usually must cover costs of production, promotion, and distribution, plus a profit, for the offering to be of value to the firm. In addition, when products are priced on the basis of costs plus a fair profit, there is an implicit assumption that this sum represents the economic value of the product in the marketplace.

Cost-oriented pricing is the most common approach in practice. There are at least three basic variations: markup pricing, cost-plus pricing, and rate-of-return pricing. Markup pricing is commonly used in retailing: A percentage is added to the retailer’s invoice price to determine the final selling price. Closely related to markup pricing is cost-plus pricing, in which the costs of producing a product or completing a project are totaled and a profit amount or percentage is added on. Cost-plus pricing is most often used to describe the pricing of jobs that are non routine and difficult to “cost” in advance, such as construction and military weapon development.

Rate-of-return or target pricing is commonly used by manufacturers. The price is determined by adding a desired rate of return on investment to total ally, a break-even analysis is performed for expected production and sales level of return is added on. For example, suppose a firm estimated production and sales to be 75,000 units at a total cost of N300,000. If the firm desired a before-tax return of 20 percent, the selling price would be (300,000 + 0.20 )< 300,000) + 75,000 = N4.80 per unit. Cost-oriented approaches to pricing have the advantage of simplicity, and many practitioners believe that they generally yield a good price decision. However, such approaches have been criticized for two basic reasons. First, cost approaches give little or no consideration to demand factors. For example, the price determined by markup or cost-plus methods has no necessary relationship to what people will be willing to pay for the product. In the case of rate-of-return pricing, little emphasis is placed on estimating sales volume. Even if it were, rate-of-return pricing involves circular reasoning, since unit cost depends on sales volume but sales volume depends on selling price. Second, cost approaches fail to reflect competition adequately. Only in industries where all firms use this approach and have similar costs and markups can this approach yield similar prices and minimize price competition. Thus, in many industries, cost-oriented pricing could lead to severe price competition, which could eliminate smaller firms. Therefore, although costs are a highly important consideration in price decisions, numerous other factors need to be examined.

3.3 Product Considerations in Pricing

Although numerous product characteristics can affect pricing, three of the most important are (1) perish ability

ability, (2) distinctiveness, and (3) stage in the product life cycle.

Perishability Some products, such as fresh meat, bakery goods, and some raw materials are physically perishable and must be priced to sell before they spoil. Typically, this involves discounting the products as they approach being no longer fit for sale. Products can also be perishable in the sense that demand for them is confined to a specific time period. For example, high fashion and fad products lose most of their value when they go out of style and marketers have the difficult task of forecasting demand at specific prices and judging the time period of customer interest. While the time period of interest for other seasonal products, such as rain coats or Christmas trees, is easier to estimate, marketers must still determine the appropriate price and discount structure to maximize profits and avoid inventory losses.

Marketers try to distinguish their products from those of competitors and if successful, can often charge higher prices for them. While such things as styling, features, ingredients, and service can be used to try to make a product distinctive, competitors can copy such physical changes. Thus, it is through branding and brand equity that products are commonly made distinctive in customers’ minds. For example, prestigious brands like Rolex, Tiffany’s, and Lexus can be priced higher in large measure because of brand equity. Of course, higher prices also help create and reinforce the brand equity of prestigious products.

3.4 Product Life Cycle consideration in pricing

The stage of the life cycle that a product is, can have important pricing implications. With regard to the life cycle, two approaches to pricing are skimming and penetration price policies. A skimming policy is one in which is used when the firm has a temporary monopoly and when demand for the product is price inelastic. In later stages of the life cycle, as competition moves in and other market factors change, the price may then be lowered. Flat screen TV’s and cell phones are examples of this. A penetration policy is one in which the seller charges a relatively low price on a new product. Generally, this policy is used when the firm expects competition to move in rapidly and when demand for the product is, at least in the short run, price elastic. This policy is also used to obtain large economies of scale and as a major instrument for rapid creation of a mass market. A low price and profit margin may also discourage competition. In later stages of the life cycle, the price may have to be altered to meet changes in the market.

Introduction is the period taken to introduce the product to the market. The total sale during this period is limited to the quantity put on the market for trial with considerable advertisement. The sale during the period maintain almost constant.

Growth stage is the stage after successful trial, during which the product gains popularity among the customers and sale increase at in increasing rate as a result of cumulative effect of advertisement over the trial stage.

The Maturity stage is the stage in which sale continuing to increasing at a lower rate and the total sale eventually becomes constant.

Saturation stage is the period of the total sales at maximum, there is no considerable increase or decrease in the sales.

Decline phase is the period in which total sales begin to reduce and decreasing for reason as: Increasing in the availability of substitutes products, and the lost of distinctiveness of the product.

The pricing strategy varies from stage to stage over the Life Cycle of a product, depending on market condition. From the pricing strategy point of view, growth and maturity stages are alike. A new product may simply be either another brand name added to the existing ones or an altogether new product. Pricing a new brand for which there are many substitutes available in the market is not as big a problem as pricing a new product for close substitutes are not available. For in case of the former, market provide adequate information regarding cost, demand, and available of market and so on. Pricing on this case depend on the nature of the market. However, problems arise in pricing a new product without close substitutes because for lack of information, there is degree of uncertainty.

Thus, pricing policy in respect of a new product depends on whether or not close substitutes are available. Depending on whether or not close substitutes are available generally two kinds of pricing policies are suggested in pricing new product, which is on introduction and on growth in product Life Cycle. It includes;

1. Skimming Pricing.
2. Penetrating Pricing.

1)  The skimming pricing policy is adopted where close substitutes of a new product are not available. This pricing strategy is intended to skim the cream off the market i.e. customers surplus, by setting a high initial price, three or four times the ex-factory price and a subsequent lowering of price in a series of reduction, especially in case of customer durables. The initial high price would generally be accompanied by heavy sales promoting expenditure. This policy succeeds for the following reasons;

First, in the initial stage of the introduction of product Life Cycle, demand is relatively inelastic because of customers’ desire for distinctiveness by the consumption of new product.

Secondly, cross elasticity is usually very low for lack of close substitute.

Third, step by step price cuts help skimming price consumers’ surplus available at the lower segments of demand curve. The post skimming strategy includes the decisions regarding the time and size of the price reduction. The appropriate occasion for price reduction is the time of saturation of the total sales or when strong competition is apprehended. As regards to the rate of reduction, when the product is on its way to losing its distinctiveness, the price cuts should be appropriately lager. But if the product has retained its exclusiveness a series of small and gradual price reductions will be moved appropriate.

Penetration Price Strategy is involves a reverse strategy. This pricing policy adopted generally in the case of new product for which substitutes are available. This policy requires fixing a lower initial price designed to penetrate the market as quickly as possible and it intended to maximize profits in the long run. Therefore, the firm pursuing the penetration price policy set a low price of the product in the initial stage. As the product catches the market price is gradually raised up. The success of penetration price policy requires the existence of the following conditions;

First, the short run demand for the product should have elasticity greater than unity. It helps in capturing the market at lower prices.

Secondly, economies of large scale production should be available to the firm with the increase in the sale. Otherwise, increase in production would result in increase in cost which might reduce competiveness of the price.

Thirdly, the potential market for the product ought to be fairly large and have a good deal of future prospects.

Fourthly, the product should have a high cross-elasticity in relation rival products for the initial lower price to be effective.

Finally, the product by nature should be such that it can be easily accepted and adopted by the consumers.

The choice between these two strategic price policies depends on:

(1) The rate of the market growth.

(2) The philosophy of company toward the product introduction.

(3)  The rate of distinctiveness.

(4) The cost structure of the producer.

If the rate of market growth of purchasing power, consumers’ hesitation and so on, the penetration price policy will be unstable, the reason is a low price will not mean large sale. If the pioneer product is likely to lose its distinctiveness at a faster rate, then skimming policy would be unsuitable penetration pricing policy would be more suitable. Since it enables the producer to reduce his cost and prevents potential competitors from entering the market in the short run.

Maturity period is the third stage in the product life cycle. It is a stage between the growth period and decline period of sales. Sometimes maturity period is bracketed with saturation period. Maturity period may also be defined as the period of decline in growth rate of sale (not the total sale). It can be define for all practical purpose as the period of zero growth rates.

The concept of maturity period is useful to the extent it gives out signals for taking precaution with regard to pricing policy. However, the concept itself does not provide for guidelines for the pricy policy. For manufacture whose specialty is about to slip into the commodity category is reduce real price as soon as the system of deterioration appears (Joel Dean, 2002). But this does not mean that the manufacturer should declare open price war in the industry. He should rather move in the direction of product improvement and market segmentation sometimes price segmentation.

The product in Decline stage is one that enters post maturity stage. During this stage, the total sale of the product starts declining. The first step in pricing strategy at this stage is obviously to reduce the price with the objective of retaining sale at some minimum level. The product should be reformulated and remodeled to suit the consumer’s preferences. It is a common practice in the book trade, when the sales of a hard bound edition reaches saturation, paperback edition is brought into the market. This facility is however, limited to only a few commodities.

As final step in pricing stages in product life cycle, the advertisement expenditure may be relied on this, however, requires a strong will of producer.

Finally, when the product reaches the decline stage in product life cycle, it can be reformed, remodeled, and rebranding. If this happened, the product will enter another round of product life cycle, in case the firm did not discard the product in decline stage. This has been seen in the life of some products in Nigeria business environment. The practical example is OMO Detergent.