Primary Research – Different Pricing Techniques Used
Primary research is based on customers’ predictions of what their possible actions would be if a price increase/decrease was to take place. It is one thing asking the customer how much extra he or she will pay for a new and improved product/service but in the cold light of day, will that person put their money where their mouth is?
Due to the hypothetical nature of such questioning caution needs to be taken with any research conclusions.
Various research techniques have been developed to overcome nuances in the data collected and so giving more robustness to research recommendations.
The only sure way of obtaining accurate price elasticity information is to carry out a test market – in other words to create a situation where customers are exposed to real price changes with real demand pressures. This is almost impossible to engineer and so we use the best alternative that was developed by two economists (Gabor Granger) in the 1960s. Customers are asked to say if they would buy a product at a particular price. The price is changed and respondents again say if they would buy or not. From the results we can work out what the optimum price is for each individual and by taking a sample of customers we can work out what levels of demand would be expected at each price point across the market as a whole (the demand curve in the following diagram). Using this estimate of demand, the price elasticity (or expected revenue) can be calculated and so the optimum price-point in the market established.
Figure 4 Gabor-Granger Price Volume Curve From Market Research
A more sophisticated variation of the Gabor Granger technique is called Van Westendorp pricing. Price Sensitivity Measurement (PSM) was devised, in the 1970’s, by a Dutch psychologist, Peter van Westendorp. This technique uses four questions about a product or service and requires the respondent to rate each price on a scale from too cheap to too expensive.
The respondent is asked the following four questions concerning a product or service they could receive at various different price rotations:
1. At what price would you consider this product/service to be cheap?
2. At what price would you consider this product/service to be too expensive?
3. At what price on the scale would you consider this product/service to be priced so cheaply that you would worry about its quality?
4. At what price would you consider this product/service to be too expensive to consider buying it?
Analysis of the data yields several distributions shown in the following diagrams. Various intersections on the curves yield inputs for pricing decisions and the resultant price difference helps to determine the pricing options that can be used.
The Indifference Price Point (IDP) is where the number of respondents who regard the price as cheap is equal to the number of respondents who regard the price as too expensive (see Figure 5 below). According to Van Westendorp, this generally represents either the median price actually paid by consumers or the price of the product of an important market leader. IDP is based on customers’ experiences with price levels in the market and will change with market conditions.
Figure 5 Indifference Price Point
The Optimum Pricing Point (OPP) is the price at which the number of customers who see the product as too cheap is equal to the number who see the product as too expensive. This is typically the recommended price.
Figure 6 Optimum Pricing Point
The range of prices between the Point of Marginal Cheapness (PMC) and the Point of Marginal Expensiveness (PME) is the Range of Acceptable Prices for a product. According to Van Westendorp, in established markets, few competitive products are priced outside this range – see Figure 7.
Figure 7 Range Of Acceptable Pricing
Pricing a product is one of the most challenging decisions marketers have to make. The problem is even larger when a price is needed for a product that is conceptually new. Because customers are not familiar with it, benchmarks for price are not available and the purchasing decision is an unknown quantity. A price too high would scare would be customers off while underestimating a product’s value can be a costly mistake, since the introductory price often fixes its worth in the buyer’s mind. It is therefore crucial that a larger than normal sample size is used so that all findings are statistically robust. For many companies, this can make pricing research expensive, unless combined with a range of other measurements that can establish where customers would welcome an improvement in either products or services and what premium they would pay for those improvements. This type of research looks at what the opportunities are for up-selling (obtaining more value for the products and services) and where there are unmet needs that a company could exploit by making a more attractive offer.
To view the first part of this white paper click the links below:
Getting People To Switch – Part 1 of 3
The final installment of this white paper will be published on Thusday (14th Sept).
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