Perreault−McCarthy: Basic
Marketing: A
Global−Managerial
Approach, 14/e
- Price Setting in the
Business World
Text © The McGraw−Hill
Companies, 2002Price Setting in the Business World 531Most managers who compete in oligopoly markets (or markets headed toward
oligopoly) are aware of the economics of their situation, at least intuitively. As a result,
a price leaderusually sets a price for all to follow—perhaps to maximize profits or
to get a certain target return on investment. Without any collusion, other members of
the industry follow. The price leader is usually the firm with the lowest costs. That may
give it more flexibility than competitors. This price may be maintained for a long time.
Sometimes, however, a price leader tries to lower the price, and a competitor
lowers it even further. This can lead to price wars. You sometimes see this in com-
petition between major airlines. But price wars usually pass quickly because they are
unprofitable for each firm and the whole industry.In this section we’ve shown that marginal analysis is a flexible and useful tool
for marketing managers. Some managers don’t take advantage of it because they
think they can’t determine the exact shape of the demand curve. But that view
misses the point of marginal analysis.
Marginal analysis encourages managers to think very carefully about what they do
knowabout costs and demand. Only rarely is either type of information exact. So in
practical applications the focus of marginal analysis is not on finding the precise price
that will maximize profit. Rather, the focus is on getting an estimate of how profit might
vary across a range of relevant prices.Further, a number of practical demand-oriented
approaches can help a marketing manager do a better job of understanding the likely
shape of the demand curve for a target market. We’ll discuss these approaches next.Demand-Oriented Approaches for Setting Prices
A price leader usually
sets the priceA rough demand
estimate is better than
noneA manager who knows what influences target customers’ price sensitivity can do
a better job estimating the demand curve that the firm faces. Marketing researchers
have identified a number of factors that influence price sensitivity across many
different market situations.
The first is the most basic. When customers have substitute waysof meeting a
need, they are likely to be more price sensitive. A cook who wants a cappuccino
maker to be able to serve something distinctive to guests at a dinner party may be
willing to pay a high price. However, if different machines are available and our
cook sees them as pretty similar, price sensitivity will be greater. It’s important not
to ignore dissimilar alternatives if the customer sees them as substitutes. If a machine
for espresso were much less expensive than one for cappuccino, our cook might
decide that an espresso machine would meet her needs just as well.
The impact of substitutes on price sensitivity is greatest when it is easy for cus-
tomers to compare prices.For example, unit prices make it easier for our cook to
compare the prices of espresso and cappuccino grinds on the grocery store shelf.
Many people believe that the ease of comparing prices on the Internet will increase
price sensitivity and ultimately bring down prices. If nothing else, it may make
sellers more aware of competing prices.
People tend to be less price sensitive when someone else pays the bill or shares
the cost.Perhaps this is just human nature. Insurance companies think that con-
sumers would reject high medical fees if they were paying all of their own bills. And
executives might plan longer in advance to get better discounts on airline flights if
their companies weren’t footing the bills.
Customers tend to be more price sensitive the greater the total expenditure.Some-
times a big expenditure can be broken into smaller pieces. Mercedes knows this.
When its ads focused on the cost of a monthly lease rather than the total price of
the car, more consumers got interested in biting the bullet.Evaluating the
customer’s price
sensitivity