PRICING OVER PRODUCT LIFE-CYCLE

PRICING OVER THE LIFE-CYCLE OF A PRODUCT

Many products generally have a characteristic known as ‘perishable distinctiveness'. This means that a product which is distinct when new, degenerates over the years into a common commodity. The process by which the distinctiveness gradually disappears as the product merges with other competitive products has been rightly termed by Joel Dean as "the cycle of competitive degeneration". The cycle begins with the invention of a new product, and is often followed by patent protection, and further development to make it saleable. This is usually followed by a rapid expansion in its sales as the product gains market acceptance. Then competitors enter the field with imitation and rival products and the distinctiveness of the new product starts diminishing. The speed of degeneration differs from product to product. The innovation of a new product and its degeneration into a common product is termed as the life-cycle of a product.  

There are five distinct stages in the life-cycle of a product as shown in Figure I.

Figure I: Life-cycle of a Product

1 Introduction: Research or engineering skill leads to product development. The product is put on the market; awareness and acceptance are minimal. There are high promotional costs. Volume of sales is low and there may be heavy losses.

2 Growth: The product begins to make rapid sales gains because of the cumulative effects of introductory promotion, distribution, and word-of-mouth influence. High and sharply rising profits may be witnessed. But, to sustain growth, consumer satisfaction must be ensured at this stage.

3 Maturity: Sales growth continues, but at a diminishing rate, because of the declining number of potential customers who remain unaware of the product or who have taken no action. There is no improvement in the product but changes in selling effort are common. Profit margins slip despite rising sales.

4 Saturation: Sales reach and remain on a plateau marked by the level of replacement demand. There is little additional demand to be stimulated.

5 Decline: Sales begin to diminish absolutely as the customers begin to tire of the product and the product is gradually edged out by better products or substitutes.

It may be noted that products may begin in new-cycle or revert to an early stage as a result of

a) the discovery of new uses,

b) the appearance of new users, and  

c) introduction of new features.  

As the distinctiveness of the products fades, the pricing discretion enjoyed by their producers gradually declines. This is what happened in the case of many products like television, laptop, mobile phones etc. Throughout the cycle, changes take place in price and promotional elasticity of demand as also in the production and distribution costs of the product. Pricing policy, therefore, must be adjusted over the various phases of the cycle. Let us know the pricing policy in the pioneering stage and the maturity stage of a product.  

Pricing a new product

The basic question is whether to charge a high skimming (initial) price or a low penetration price.

If a skimming price is adopted, the initial price is very high. The policy may be held for varying periods of time, indefinitely if the product enjoys valid and defensible patent protection. But usually, it is not longer than the time necessary for competitors to study the product's usefulness, to decide what to do about it, and to prepare for making it, a period ranging from a few weeks to as much as two years. After this period, the price is apt to drop precipitately and over a period of a few years to approach the usual or customary margin above cost that is common in the industry.

In case of penetration pricing, the initial price of the new product is apt to be somewhere near what may be expected to be the usual or customary level once competitors enter the field, generally only slightly above the level. If the initial price is properly fixed, only minor adjustment would have to be made if and when competition develops.  

A) A high initial price (skimming price), together with heavy promotional expenditure, may be used to launch a new product if conditions are appropriate.

For example:

i)    Demand is likely to be less price elastic in the early stages than later, since high prices are unlikely to deter pioneering consumers. A new product being a novelty commands a better price. Again, at least in the early stages, the product has so few close rivals that cross elasticity of demand is low.

ii)   If the life of product promises to be a short one, a high initial price helps in getting as much of it and as fast as possible.

iii)  Such a policy can provide the basis for dividing the market into segments of differing elasticities. Hard bound edition of a book is usually followed by a paperback.

iv)  A high initial price may be useful if a high degree of production skill is needed to make the product so that it is difficult and time-consuming for competitors to enter on an economical basis.

v)   It is a safe policy where elasticity is not known and the product not yet accepted. High initial price may finance the heavy costs of introducing a new product when uncertainties block the usual sources of capital. The benefits of reduction in product costs due to larger volume and technological developments, can be passed onto consumers by a gradual reduction in prices. Penicillin and streptomycin were introduced at a high initial price but are now very reasonably priced. Internationally, the first ball point pen produced in 1945 at a cost of 80 cents, sold at $ 12.50. Now they are available at less than 50 cents. So is the case with most electronic components.  

B) A low penetration price: In certain conditions, it can be successful in expanding the market rapidly thereby obtaining larger sales volume and lower unit costs. It is appropriate where:

i)     Sales respond quickly and strongly to low prices;

ii)   There are substantial cost savings from volume production;

iii)  The product is acceptable to the mass of consumers;

iv)  There is no strong patent protection; and

v)   There is a threat of potential competition so that a big share of the market must be captured quickly.  

The objective of low penetration price is to raise barriers against the entry of prospective competitors.  

Change in Price

A) Reduction in prices: A reduction price may be made to achieve the following objectives:

 

1. Prices may be reduced to offset a possible loss of sales resulting from a lower advertising budget.

2. When a firm is expanding its capacity, temporary price cut may help the new plant to reach capacity operation more quickly.

3. Lower prices may help the firm to broaden the market for its products.

4. Prices may have to be reduced to meet competitive pressures from domestic or foreign companies producing the same product or substitute products.

5. Prices may be reduced drastically to prevent the entry of potential competitors.

6. Technological developments may lead to reduce costs and manufacturers may wish to pass on the benefit to the consumers.  

Shrirain Chemicals have often reduced their prices as a result of advanced promotion techniques and better utilisation of installed capacity. DCM Data Products dramatically reduced the prices of their calculators in September, 1976 because of economies of scale.

Price reduction in individual drugs have always been a normal feature of the operations of the drugs industry both in India and abroad. Competition among drug manufacturers is becoming an increasingly important factor leading to voluntary price reductions wherever cost reduction of greater', efficiency has made them possible.

Whether a reduction in price would help a firm to increase sales depends upon how the consumers react to the reduction. As has been pointed out earlier, consumers rely on prices as an indicator of quality. Reduction in price may give rise to an apprehension that quality has gone down. And a reduction in price may decrease sales unless special steps are taken to prove that the quality is maintained.

B) Increase in prices: Very often a company might face a situation where costs may have increased, and it might wonder whether to increase prices or not. The decision would depend on how demand would be affected by such an increase in prices. In fact, prices are usually increased where the market demand is strong and the business is having a boom. Prices are normally never increased during periods of depression and falling incomes. Thus while it may be true that costs may be rising at the time prices are increased, it is the rising demand that makes it possible to pass on the increase in costs to customers without any adverse effect on sales.