Pricing and Consumption

PRICING AND CONSUMPTION

ABSTRACT

In traditional business upon making pricing strategy, such factors as costs, retail channels, advertisements and consumptive psychology need to be taken into consideration. All these factors are under drastic changes due to intensive competition in market. Managers spend a lot of time thinking about how to get customers to buy their products and services but that's just half the battle. If organization wishes to build long-term relationships with customers they must make sure their customers actually use their products and the first step is pricing. According to this article, pricing pays an important role on the firm's long-term profits and customer retention. Prices of products and services influence the consumption patterns of people in the sense that if consumers would not use a product or service then they are unlikely to purchase it again. In this article the authors argue that the relationship between pricing and consumption lies at the core of customer strategy.

PRICING

In business it is possible to have the very best product or service and have excellent sales volume; but if the wrong pricing policies has been set on the product or the service, the business will eventually fail. In any business the ultimate reason for a pricing system is to make a profit from your work but the question is how to make a profit in the long run.

If we ask any executive how pricing policies affect the demand for a product or service we will get a reasonable reply but if we ask the same executive how pricing policies influence consumption (the extent to which customers use product or service), we will not get a clear answer.

Managers don't pay much attention to consumption when they set prices and that can be a costly over sight. Companies have long sought to hide the costs of their goods and services in order to increse sales. If company fails to make the initial sale, it won't have to worry about consumption. Very often to promote their sales they apply some pricing practices like advance sales season tickets, and price bundling that masks how much a buyer has spent on a given product or service. These pricing practices may be discouraging consumption and decrease the possibility thet the buyer will buy the product or service again. People normally consume a product when they are aware of its cost. So practices like price bundling may be trading off long term customer retention for short term increase in sales.

THE PSYCHOLOGY OF CONSUMPTION

1) Higher consumption means higher sales

Unfortunately most marketing theory and practice centers on the art of attracting new customers rather then on retaining and cultivating existing ones. The emphasis traditionally has been on making sales rather then on building relations but the fact that higher consumption means higher sales has been taken for granted. One of the first steps in building long-term relationships with customers is to get them to consume the products they have already purchased. This is important because during identification of alternatives for making buying decisions, customers refer to previous experiences of consumption or social information that is based on consuming products before. Previous research has shown that the extent to which customers use paid for product determines whether they will repeat the purchase next time.

Examples

Health club members who go to the gym four times a week are much more likely to renew their memberships than those who use the gym only once a week. Another example is for cable television service, people who watch T.V regularly are more likely to renew their subscriptions then those who watch only occasionally or do not watch at all. Businesses like Time Warner, the YMCA or the Metropolitan Opera that sells subscriptions or memberships, customer retention is very important but to do that is difficult. Most magazines have renewal rates of 60% or even less and health clubs are able to keep just 50% of their members every year. Cost of customer acquisition is rising with increasing competitive pressures. Long-term profitability can be achieved by making certain that customers use the products and services that they have purchased.

A) Consumption also helps to establish switching costs. For example in computer and software business like Microsoft, companies make more money by selling upgrades then selling the actual application. Customers need to buy upgrades; once they start to use an application otherwise they have to make a painful switch to another system. If people buy the software of a company but never use it then the company misses the opportunity of keeping customers for a long term.

B) Businesses that rely on two-part revenue stream, consumption is equally important for them. For example sales ticket are just one source of revenue for movie theaters, concert halls and sport arenas. Profitable second sources are food, drink, parking and souvenir sales. According to the team marketing report, when a family of four attend a major league baseball game it costs them about $121.36 but only

half of that sum is used to purchase tickets, the other half is used to buy soda, hot dogs, baseball caps, programs and so on.

C) Businesses that relies on satisfaction to generate repeat sales, consumption is vital to them. For example for products as different as books and wines, if customers hadn't used these in the first place they wouldn't think of buying them again.

It is hard to imagine a business in which consumption does not make a difference.

2) Cost drive consumption

If people are aware of the cost of a product, they are more likely to consume it. According to the sunk cost effect people fell compelled to use products they have paid for to avoid the feeling that they have wasted their money. Sunk costs are considered by consumers when they decide future courses of action.

Examples

Richard Thaler a behavior economist gives an example of a man who joins a tennis club and pays a $300 fees for a year. After just two weeks he develops a mild case of tennis elbow but he still continues to play so that he doesn't waste his $300. Hal Arkes a psychologist created a similar scenario for a group of 61 college students. The students were asked to assume that they had bought tickets for a $50 and a $100 ski trip