Price Level

Setting the Right Price for Sustainable Profit

Setting the right price for products or services encompasses evaluating a business’s goals, costs, and the customer’s willingness to pay, alongside existing competition. Managers often lack adequate data and tools, leading them to make pricing decisions that compromise profitability and make them vulnerable to customer negotiations. Companies, therefore, need a disciplined approach to pricing, like a biomedical device manufacturer who adjusted its initially high prices in response to competitive innovations and market feedback, ultimately enhancing their pricing discipline to better reflect customer values.

The Price-Setting Process

A strategic price-setting process integrates data on customer preferences, competitor prices, and costs. This process, detailed in Exhibit 6-1, aims to maximize profits by adjusting prices based on the differential value provided across market segments. The steps include setting an initial price window, strategic considerations for capturing value, and effective communication of new prices to the market. For mature products with negligible differentiators, the price can be set based more on historical data rather than extensive new value assessments.

Defining the Price Window

The price window defines the maximum (ceiling) and minimum (floor) prices within which the product should be sold. Positively differentiated products have their floor set by the competitor’s reference price, ensuring competitive stability. In contrast, the floor for negatively differentiated products is set by costs that impact profitability.

Establishing an Initial Price Point

Choosing the optimal price within the defined window involves strategic considerations that align with long-term business goals, understanding price-volume trade-offs, and anticipating customer responses. For instance, startup companies might price products lower to gain market share, while established products with sustainable differentiation could command a higher price to maximize margin.

Pricing Objectives and Defining the Price-Volume Trade-Off

Setting the appropriate price also depends on the overall business strategy and the inherent trade-offs between price adjustments and volume shifts. Prices should be conducive to meeting broad marketing objectives—whether seeking to maximize short-term profits, increase market share, or maintain competitive stability.

Communicate New Prices to the Market

The key to effectively implementing new prices is clear communication with the market, ensuring customers perceive the price change as fair. Companies should transparently explain the reasoning behind price adjustments, ideally tying them to understandable factors like increased costs or enhanced service levels. Periodic reevaluation and a responsive approach can help maintain customer trust and acceptance of new pricing strategies.

Summary

Strategic price setting is about making informed decisions that balance the competing interests of cost management, customer value perceptions, and market competition dynamics. By employing a structured price-setting process, organizations can enhance their profitability while still adapting to market changes and customer sensitivities. This approach requires ongoing data analysis, proactive communication, and alignment with broader business objectives to effectively manage both short-term opportunities and long-term challenges in pricing.