Pricing 355
a reduction in buyers’ switching costs is also
likely to be forthcoming (Keeney, 1999).
Proportion of product price on total cost. This
factor is particularly important in industrial
markets where products are purchased as a
direct result of demand for other (final)
products. This derived demandsituation implies
that ‘the more price sensitive the demand for a
company’s own product, the more price
sensitive that company will be when purchasing
supplies’ (Nagle, 1987, p. 63). Further, the
extent of price sensitivity will depend on the
proportion of the finalproduct’s cost that is
accounted for by the price of the raw material
or part involved; the greater this proportion,
the greater the price sensitivity. In a consumer
setting, a similar effect can be observed; for
example, when purchasing a new car, the
buyer is likely to be less sensitive to the price
of, say, a CD player as an add-on extra than
would be the case if a separate purchase (i.e.
divorced from the car purchase) was
contemplated.
Inventory considerations. This influence on price
sensitivity applies primarily in the short term
and its impact tends to be transitory. If buyers
can stock current purchases for future use
(e.g. if the product is not perishable) andif
they expect that future prices are likely to be
higher than current prices, then short-term
price sensitivity will be higher. Conversely,
buyers may run down their inventories if they
feel that current prices are likely to be
reduced in the future. In assessing the likely
impact of inventories on price sensitivity, it is
essential to appreciate that it ‘depends critically
on buyer expectations about future prices...
a price must be judged high or low relative to
the prices buyers expect in the future rather
than those prices that prevailed in the recent
past’ (Nagle, 1987, p. 71).
Price as indicator of quality. This refers to the
extent to which price acts not only as a
measure of sacrifice for acquiring the product,
but also as a signalabout the product’s quality.
This function of price is typically associated
with image products, prestige/exclusive
products, and products for which the
‘objective’ evaluation of their quality is difficult.
The more buyers rely on price as a criterion
for evaluating quality, the less price sensitive
they are likely to be; in fact, ‘customers may
actually expect the price to be somewhat
steep’ (Morris and Morris, 1990, p. 44).A careful analysis of the above factors impact-
ing on price sensitivity will go a long way
towards providing price decision makers with
a clear picture of the way current and potential
buyers are likely to respond to price and of the
existence of any market segments with differ-
ential price sensitivities. Ideally, such an analy-
sis ought to be followed by more formal
research to develop quantitativeestimates of
customers’ reactions to price because, ulti-
mately, ‘only if we know, in quantitative terms,
how customers respond to our own price and
to competitive prices can we make a rational
price decision’ (Dolan and Simon, 1996, p. 45).
Unfortunately, despite the existence of a wide
variety of different pricing research method-
ologies,^6 ‘companies do not approach demand
elasticity in a systematic, strategic fashion...
Qualitative approaches are relied upon more
heavily in demand measurement than are
quantitative approaches. Firms typically do not
maintain detailed price data bases, nor do most
regularly make efforts to estimate demand
sensitivity’ (Morris and Morris, 1990, p. 53; see
also Morris and Joyce, 1988). Moreover, because
of tradition, convenience and/or inertia, even
‘firms that have enough data and expertise to
estimate elasticities accurately may have little
success in making direct translations from
elasticity to recommended price points’
(Urbany, 2000, p. 24). This situation contrasts(^6) These range from pricing experiments and customer
surveys to conjoint analysis applications and econometric
analyses of historic market data; non-technical overviews
of the available methodologies can be found in Gabor
(1988), Simon (1989), Seymour (1989), Monroe (1990), Nagle
and Holden (1995), and Dolan and Simon (1996). For a
recent example of estimating price elasticities, as well as
references to the (technical) literature, see Danaher and
Brodie (2000).