Using Research to Set Optimal Pricing

by Dr. Tony Zahorik

Setting the price for a product or service is critical to the success of any organization. First of all, it is the only one of the Four P’s of the Marketing Mix – Product, Price, Promotion, Place – that generates revenue. Adjusting the others generally requires incurring costs, so setting the price must be done carefully to attract customers and generate a reasonable profit.

The role of research is to identify the relationship between price and demand – how many units are likely to be sold at various prices. Once this “demand curve” is known, the decision-maker can select the price that will meet the brand’s pricing objective, whether short-term profits, building market share, maintaining a premium image, forestalling competition, or any of a long list of other pricing strategies.

However, finding a price that customers are willing to pay requires more than just determining the economic value of a product to the person. Neuroscience shows that contextual factors often play a major role in purchase decision-making, and these factors can increase or decrease a product’s value in the customer’s mind. The pricing literature sometimes refers to these other influences as “irrational,” although they might seem very reasonable to the customer. Irrational or not, psychological factors are very influential in customer decision-making. If we can understand them, we might be able to take actions that will steer the customer’s choice to a particular brand.

Psychological factors that influence purchase behavior:

• BRAND REPUTATION – Positive or negative reputation of a brand might influence the customer’s perception of a reasonable price. Non-pricing cues, such as store atmosphere and price-match guarantees, can contribute to a retail chain’s image as a lower-priced brand, even if their prices were actually not lower.

• REFERENCE/COMPETITIVE PRICES – Competitive prices might be used for comparison, and previous prices of the same product can be a source of sticker shock for infrequently purchased products, like cars or homes. Presence of a premium-priced item at the top of the product line makes the lower-priced items seem more reasonable.

• VALUE PROPOSITION – For items that are financed, the critical value might be the monthly amount due, rather than the sticker price. For items for sale at remote locations, it’s the hassle factor of getting to the store and getting the item home. For online purchases, it could be the risk of delivery uncertainty or after-sale service.

Collectively, these points illustrate that not all customers see value in the same way, so what research methods help in uncovering how value is perceived?

• SEGMENTATION:  Segmenting customers by how they perceive value is an important step in setting prices. Some customers are price sensitive and search for bargains while others accept the price charged. Some customers are less sensitive to price because they are brand loyal, or perhaps value shopping convenience over price. Ultimately, the same pricing strategy will not work for each of these segments.

• QUALITATIVE RESEARCH: Qualitative can be leveraged to understand the attributes and factors that customers use to determine product value. If you haven’t pursued this line of inquiry, you might be surprised to learn the different dimensions that people use when evaluating your products or services. Issues that qualitative research can explore are:
  • What primary benefits are customers seeking, how do the benefits differ by usage context, and how do customers measure achievement of these benefits?
  • How well do current features/functions of a product deliver the benefits?
  • What non-price costs do they expect to incur, e.g., purchase context?
  • What risks (financial, social, physical, etc.) concern them?

Answers to these will provide a fundamental understanding of how willingness to pay can differ across customer segments. These insights can also guide you towards distinguishing your brand on dimensions identified as “more profitable” during your qualitative sessions.

However, qualitative research alone won’t help us establish the demand curve that research is supposed to deliver to the pricing decision-maker. The results are too anecdotal. Ultimately, deriving a demand curve that describes a target population requires quantitative methods.

• QUANTITATIVE RESEARCH: Traditional survey methods can include testing a concept at different price levels to see how purchase intention varies, or Gabor-Granger questioning to test people’s price sensitivity. Conjoint analysis and discrete choice modeling (DCM) are also used to understand price sensitivity when other attributes of a product are still undecided. For testing options to reprice established products, a variant of DCM, brand-price tradeoff analysis (BPTO), can be used to predict the effects of tactical changes in a brand’s price. However, relying on stated purchase intentions can be a limitation of these methods.

Actual purchases and other behavioral methods can be used for studying pricing options for established products. Experiments involving manipulated prices in stores or on websites can determine price sensitivity. And marketing mix models are occasionally employed to account statistically for other factors that might also affect purchases to isolate the effects of price.

Altogether, a lot of effort has gone into developing techniques to help marketing managers make more intentional, effective pricing decisions. By combining qualitative and quantitative methods, optimal pricing can be achieved for your products and services. The more you know about your current and intended customers’ attitudes and behaviors, the more effective your pricing strategies will be.

As a member of the teaching staff at Burke Institute, Dr. Tony Zahorik enjoys traveling around the world sharing his extensive knowledge of marketing research methodology with a variety of industries. He has been acclaimed for his ability to teach technical subjects to both technically and non-technically oriented students.

If you would like to learn more about Burke Institute, please visit www.burkeinstitute.com

And to learn more about Burke Institute’s course on Fundamentals of Pricing Research: Strategies and Analytical Techniques, visit  www.burkeinstitute.com. 

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Sources: Feature Image – ©joyfotoliakid – stock.adobe.com