Tech) from Kalyani University, West Bengal. Currently a second year student of the Post Graduate Program, 2004-2006 at IIM Ahmedabad, he did his summer internship with ICICI Prudential LIC Ltd. on market penetration strategy in the high net income segment. • Saugat Tripathy is a Computer Science Engineer from Delhi College of Engineering, and has worked Sapient Corporation for one year as an associate of technology. Currently, a second year student of the Post Graduate Program, 2004-2006 at IIM Ahmedabad, he did his summer internship with Star India Pvt.
Limited on the feasibility of a separate channel / channel extension for rural India. Area of Project: • The project deals specifically with Pricing and hence, is under the Marketing Area. Term in which project is credited: • Term 5 Project Guide: • Prof. Arvind Sahay Introduction Pricing is one of the most important variables in the entire marketing mix of any company. But it is rarely given the importance that it deserves.
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Most companies follow cost-plus pricing or competitive pricing techniques to price their products.
These methods are not oriented to customer demands or the value that the customer may derive from the product. Hence, more often than not the product is either over-priced or under-priced. Reversing a pricing decision is very difficult to implement. Hence, in case of over-pricing the sales of the new product may fail to take-off and in case of under-pricing the consumer surplus is left on the table. Most of the marketing mix variables are decided based on market research so that the entire process is customer oriented. To do the same for pricing, one needs to know the underlying price sensitivity of the target customer base.
There are many ways to do find out the price sensitivity of demand. Some of the most popular ones are 1. Conjoint Analysis 2. Price Metering 3. Dynamic Pricing All of these methods are very costly for most companies as discussed below. Preliminary studies show that conjoint analysis requires two separate surveys. The first one is used to validate the attribute space. The second one is used to find out the preferences of people – i. e. comparison of the attributes. Moreover the sample size required for both the surveys is generally large to get a reliable result.
The whole process takes time, money and qualified manpower. Therefore it is very resource intensive. Price metering involves asking people their threshold prices. This is more complex than it sounds because very few people can decide what their threshold prices are. Therefore a large number of responses are required to arrive at aggregate threshold levels that have small deviation. Hence, this method although simple to administer, is not very reliable and is also costly. Dynamic pricing is another method to find out price sensitivity curve.
But this involves changing prices over time and space. Therefore it is essential that people being subjected to different prices are not allowed to communicate with each other. This is very difficult to ensure. If people come to know that they have been charged different prices then not only the brand but also the company (in case of a multi-brand company) and the retail store earns a bad reputation. Hence, this is a very risky proposition and also very difficult to convince the retailers. Therefore small and medium sized companies cannot undertake these market research methods.
Consequentially their pricing decision is always sub-optimal. Coming up with a generic model to measure price sensitivity is difficult, due to the following reasons – • There is a significant difference in the way the purchase decisions are made for different goods. While purchase decisions for consumer durables take up considerable amount of time, the FMCG products can be considered as low involvement goods. • The various options available for a good and level of differentiation between them also affect sensitivities towards prices. For e. . while buying a commodity, like electricity. Here, neither does one have the option of choosing a vendor, nor the option of not buying it. • While purchasing a customized product, like an IT product for solving a business problem of a company. The price sensitivities here depend of various things like the various relevant features of the product, after sales service, company credibility and the monetary value of the derived benefits from the product (like time saved, number of people who can be replaced, etc) The four product categories
We thus divide the products into four categories, and believe that we need to study the measurement of their price sensitivities differently – • FMCG goods • Consumer durables • Commodities • IT solutions and other B2B products This project is intended to develop a cost-effective model for determining price sensitivity of demand for • FMCG good –Toothpaste and • Consumer good – Colour television Objectives • To develop an alternative and cost-effective model to determine price sensitivity of demand for the two categories – toothpaste and colour television.
Scope The scope of the project is limited to the premium brands of toothpastes (Colgate, Close-up, Pepsodent, etc) and conventional 21” colour televisions (LG, Sony, Onida, etc) We also intend to look at historical quarterly sales volume and price data for these brands for the last 5 years, in case we get this data. Research Questions • What are the key factors that drive consumer buying decision in the two different product categories and what is the relative importance of price in the consumer buying decision? • What is the price awareness of consumers? How do discounts or some other indirect price changes affect the probability of a buy? Review of Different Methods for Measuring Price Sensitivity Common methods of measuring price sensitivity • Conjoint or Trade-off Analysis A popular experimental technique for measuring sensitivity to price as well as other product attributes, Conjoint analysis disaggregates a product’s price into the values consumers attach to each attribute and helps in identifying the differentiation value of unique product attributes, design new products with attributes that consumers are willing to pay for and the price that consumers are willing to pay.
However, the data required for a conjoint analysis requires an extensive survey conducted by the researcher, wherein the respondent is asked to make choices between pairs of fully described products or between different levels of just two product attributes. This makes the method more costly in terms of resources and time in comparison to simple surveys, despite the fact that it provides much more information • Price Metering Price metering is another technique to determine the effect of the interaction of price and quality on the consumers’ perceptions of value.
Robert C. Lewis and Stowe Shoemaker describe in their paper “Price sensitivity Measurement- A tool for the Hospitality Industry” the usage of the price metering method to gauge price sensitivity in the hotel and restaurant industry. The model as indicated in the paper is based on data obtained from respondents on the following questions: 1. At what price on the scale do you consider the product or service to be cheap? 2. At what price on the scale do you consider the product or service to be expensive? 3.
At what price on the scale do you consider the product or service to be too expensive, so expensive that you would not consider buying it? 4. At what price on the scale do you consider the product or service to be too cheap, so cheap that you would question the quality? The responses to the above questions are statistically collated and analyzed using graphs as shown below: [pic] The paper states that the degree of price sensitivity depends on the relation between the indifference percentage, stress level and the range of acceptable price.
While, a combination of low indifference percentage levels, high stress levels and a narrow acceptable price range indicates a sensitive market, a combination of high indifference percentage levels, low stress levels and a broad acceptable price range indicates a less sensitive market. The paper also suggests that the model enables comparison of the current price of a product or service with the acceptable price range. Further, price metering is an easy to use model, which is cheaper in terms of resources and time needed and does not require special knowledge or skill on the part of either the researcher or the respondent.
Other Approaches or Methodologies After doing a survey of the literature available on measuring price sensitivity the following methods were seen to be suitable for a quick and less resource intense way of measuring price sensitivity. • Self-Report Method Goldsmith and Newell had done a study to correlate price sensitivity with innovativeness – tendency of some users to try out new products. A 7 item likert scale questionnaire was constructed from a 6 item Likert scale questionnaire for a similar study done by Goldsmith in 1996.
The questionnaire is based on the buying behavior of “innovators”. It questions people on two factors – one which ascertains their level of innovativeness and the other which ascertains their level of price sensitivity. Each of the 7 questions were to be rated on a 5-point response format. The sample selected was not random but reasonably diverse and the size was 457. Only one survey was conducted. Factor Analysis was done and the results were checked for reliability, consistency and construct validity.
The data analysis was aimed to prove the hypothesis that innovativeness is positively correlated with low price sensitivity. Another interesting aspect of the study is that it has tried to compare innovativeness among different segments of the population divided on the basis of demographics. For example, it was found that women are more likely to try out newer fashion products than men and also they were less sensitive about price. The implications could be better targeting of individuals based on demographic factors when a new product is introduced and thus better extraction of the consumer surplus.
This sort of a simple questionnaire can be used on people to ascertain their level of price sensitivity. An advantage is that the survey can be conducted over mail or internet. • Through Interviews Van Helden had done a study in 1978 to find out price sensitivity in a way that was quicker and cheaper than conjoint analysis. The study was done to find out price sensitivity of demand for electric power. The respondent was asked just 2 questions: a. Would he decrease power consumption if price of power rose? The options were: i. Yes ii. No iii.
Yes but he does not intend to. b. If the respondent chose the last response then by how much will the price of electricity will have to rise for him/her to reduce consumption? The options were classified into the following classes: i. 0 to 5% ii. 6-10% iii. 11-20% iv. 21-30% v. 31-50% vi. 51% or more Based on the answer, his price sensitivity is calculated as follows: The actual price increases are also divided into classes. The classes for actual price increase and threshold price increase for consumer to reduce consumption are balanced.
Then if a respondent says that he will reduce consumption if price rise is 18% then the decrease in consumption for 5% and 12% (these are the class averages) will be 0, whereas for 18% the decrease in consumption will be 6% (18%-12%) and for 25% it will be 13% (25%-12%). This is based on the assumption that relative decrease in consumption is equal to the difference between actual price increase and threshold price increase. The individual price sensitivity curves are then aggregated to give the aggregate price sensitivity curve. There were around 300 respondents on whom the study was conducted.
The study also collects such information as income, number of family members in the household, number of electrical appliances which can be used less if required, etc. The limitation of the study was that it requires people to have a clear idea as to the level of price rise after which they will reduce consumption. Moreover the way the individual sensitivities have been calculated may be challenged. For other products which are not necessities and are not supplied by a single supplier, relative prices of substitutes and competitor’s products need to be taken into account.
Another limitation is that fact that people had to be interviewed and it cannot be done through mailers. Methodology: 1. What are the key factors that drive consumer buying decision in the two different product categories and what is the relative importance of price in the consumer buying decision? The key factors and the relative importance of price in the consumer’s buying decision process for the two product categories, viz. , premium toothpaste and conventional 21” colour television need to be determined in order to understand the drivers of price sensitivity in the above product categories.
This would probably require a preliminary research and survey, which would be carried out as a representative survey in the city of Ahmedabad. 2. What is the price awareness of consumers? The determination of the level of the price awareness of the consumers of the two product categories would enable us in establishing an idea about the price sensitivity of the consumers as well as help in validating the model to be developed. This may as well be done through a survey of the consumers . 3. How do discounts or some other indirect price changes affect the probability of a buy?
Evaluating the effect of discounts, indirect price changes and other offers would help in establishing the level of price sensitivity in the market for the two product categories. Further, this would enable us to determine the relative importance of such price changes on the model to be developed. Proposed Model for Measuring Price Sensitivity: Measuring price sensitivity of FMCG goods Historical data of sales and price variations is a good place to start if one wishes to measure the sensitivities of a product. If one has the data for the last 8 years (say), we can create a simple regression of the form –