Tilburg University Prices and Pricing Research in Consumer Marketing

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Prices and pricing research in consumer marketing Gijsbrechts, E.

Published in: International Journal of Research in Marketing

Publication date: 1993

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Citation for published version (APA): Gijsbrechts, E. (1993). Prices and pricing research in consumer marketing: Some recent developments. International Journal of Research in Marketing, 10(2), 115-151.

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Review

researc in consumer ome recent evelopments

Els Gijsbrechts * 1. Introduction Universitaire Facdteiten St lgnatius, 2000 Antwerpen, Belgium During the last decades, marketing scholars and practitioners have become aware of In recent years, it has increasingly been recognized that the importance of developing an appropriate developing an appropriate pricing strategy is both crucial and pricing strategy, and of the complexity of highly complex. The marketing literature reflects this point of view and contains an impressive number of contributions in such a task. This has resulted in a “boost” of the pricing area. Monroe and Della Bitta (Journal of Market- descriptive and predictive research, which has ing Research 25 (Aug. 1979) 413-428) and Rao (Journal of enhanced our understanding, while raising Business 57 (11 (1984) S39-S50) review these pub!ications up even more questions. to 1984. This paper provides a picture of the major research streams in pricing since that date. This paper is an attempt to summarize the The review is structured around the following topics: the dominant research streams in the recent multifaceted character of price; recent insights into the con- marketing literature on pricing. Previous re- sumer’s decision process with respect to price; price as an indicator of quality. This general treatment of the consumer’s views by Monroe and Della Bitta (1978) and behavior towards prices serves as a basis for the evaluation of Rao (1984) provide a picture of this area up pricing strategies, such as price promotion strategies, multi- to 1984. We review publications since that product pricing, and dynamic and new product pricing. The paper also summarizes some thoughts on the measurement of date. price effects, and indicates directions for future research. A number of limitations of this review should be mentioned. First, it is largely confined to contributions that appeared in marketing publications. No doubt, interesting thoughts on pricing can be found e.g. in Economic, Decision Sciences, and Strategy journals and working papers. Second, we found that the recent marketing publications on pricing exhibit a strong consumer goods * The author is very grateful to Prof. P. Vanden Abeele. bias. In an attempt to provide a coherent Prof. L. Parsons and Prof. K. Simmonds for their valuable contribution, we also opted to concentrate comments and suggestions. The author remains responsible this review on pricing in consumer market- for any mistakes or misinterpretations in the text. ing. Third, we do not pretend to be exhaus-

Correspondence to: Els Gijsbrechts, Universitaire Faculteiten tive. Our interest lies mainly in identifying St Ignatms. Prinsstraat 13, 2000 Antwerpen, Belgium. Tele- and commenting upon major research phone: 32 3 226 41 12; fax: 32 3 220 44 20. streams of current interest in the area. Fi- nally, some issues, though related to our Intern. J. of Research in Marketing IO (1993) IlS-IS1 North-l lolland subject, arc not included since thuy consti-

0 167-8 I I ~1/‘U/!m,.OO ((2 199.3 - Elscvier Science Publihhcr . B.V. p,II rights rcscrvcd 116 E. Gijsbrechts / Prices and pricing research in consumer marketing tute a vast topic on their own. This is the many marketing practitioners did not feel case for e.g. Transfer Pricing, Competitive eager to take up. Moreover, as indicated by Bidding, and for the literature on Market Little (1984), the marketing discipline had Structuring, in which price elasticities play a been main!y concerned with prescri major role. search, leaving the analysis of theore The recent pricing literature contains a behavioral underpinnings to economic schol- huge number of findings. In an attempt to ars. “‘structure” and position these, we organize The 1986 paper by Tellis has filled this the discussion as follows. In Section 2 we void. Prior to discussing it, it is crucial to ce the integrative paper b:- Tellis point out that pricing strategies comprise two (1986). which forms an interesting basis for elements: price structures, and price levels our overview, as it provides an excellent syn- (Stern, 1986). The strategic use of price first the economic principles behind nu- implies a thorough reflection on appropriate merous pricing strategies. It indicates the pricing structures or schemes, within which determinants of pricing problems, but specific levels (monetary prices) will next be needs to be supplemented with detailed in- set. Based on the proposition that the choice sights and more recently stressed dimensions of an appropriate pricing scheme derives of pricing. The latter are dealt with in Sec- from the identification of “share tions 3 to 8. Section 9, finally, indicates some omies”, Tellis proposes a unifying taxonomy promising topics for future research. for the pricing principles found in the literature. His classification relates to two basic di- s’ unifying taxonomy mensions. The first is the pricing objectille of the firm: what “shared economies” are The literature on pricing proposes an sought for? Given the overall objective of overwhelming number of pricing principles, profit maximization, does the company want strategies and tactics, and an even larger to (a) exploit consumer heterogeneity through number of names to denote them. To find differential pricing, (b) use competitive pric- some order in this chaos was a challenge ing, to exploit competitive position, and/or

Table 1 Tellis’ unifying taxonomy of pricing strategies

Dimension 2: Dimension 1: Company objective consumer Vary prices among Exploit Balance pricing characteristics consumer segments competitive position over product line _- Differcrl: random discounting price signaling image pricing search COYI\ (price merchandising, dreferencc pricing) cents off, coupons)

Different periodic discounting penetration price bundling reservatior prices (price skimming, and experience peak load pricing) curve pricing prilmium pricing (limit pricing)

Special second market geographic pricing complementary transaction costs discounting (FOB, zor~ pricing) pricing (two part pricing, (dumping, gcncric low Ic;~l~~r~hip pricing) ~___ ^--- __-___- _I____- -~~--_--~_I__---~ ------Sours: ddipted from Tclli4 ( IWO). E. Gijsbrechts / Prices and pricing research in consumer marketing 117

(c) balance prices over the assortment using life, a manager may find himself in different product line pricing? The second dimension “cells” at the same time, and face the pr&- reflects the characteristics of customers; de- lem of combining various principles into one pending on differences in (a) search costs, (b) set of pricing rules. By its nature, Tellis’ transaction costs and/or (c) reservation article leaves room for further research on prices among them, alternative pricing specific dimensions of pricing to enhance strategies will be called for. theoretical, empirical and normative insights. These two dimensions (at three levels) re- This paper reviews a number such result in Table 1, where each cell corresponds search efforts, structured around the follow- to a “typical” pricing strategy. Tellis de- ing topics: the multifaceted character of scribes the necessary conditions for each price, recent insights into the consumer’s de- strategy to be meaningful. The typical pricing cision process with respect to price, price as situations are illustrated, and variants of the an indicator of quality. This general treat- basic pricing principles are mentioned. ’ ment of the consumer’s behavior towards Tellis’ paper is a major contribution to the prices serves as a basis for the evaluation of marketing discipline. It presents a variety of pricing strategies such as price promotion pricing strategies in comparable terms, strategies, multiproduct pricing, and dynamic demonstrates relationships among them, and and new product pricing. 2 Section 9 summa- identifies the basic economic principles be- rizes some thoughts on the measurement of hind them. It indicates crucial problem char- price effects. Section 10, finally, contains acteristics in the choice of an appropriate concluding comments and directions for fu- pricing method and calls for attention to (i) ture research. the presence of (and interrelationship between) segments in the market, (ii) the interaction with competitors and (iii) the product 3. The multifaceted character of prkx line context. It also stresses the need for insight into the consumers’ decision process: The recent literature recognizes the com- issues such as the multidimensional nature of plexity and multifaceted character of the a “price” (e.g. including transportation and price concept. Many marketers advocate a nonmonetary costs), the lack of price knowl- “broadened” price definition, such as Zeit- edge by consumers, and differences in price ham1 (1988): “From the consumer’s point of sensitivity are seen to matter. view, price is what is given up or sacrificed to As a “simple” integrative scheme, the pa- obtain a product”. Zeithaml identifies the per can provide only an indirect treatment of major price components to be objective price, some important issues. Dynamics (e.g. con- perceived nonmonetary price and sacrifice sumer and competitive learning or the im- (an integration of both). In doing SO, she pact of brand loyalty and variety seeking extends the classical narrow price definition 3 behavior) are only implicitly referred to, and in mainly two ‘ways by (i) recognizing the so is the role of channel intermediaries. As a conceptual framework, it does not provide 2 Sections 3, 4 (and 5) elaborate on the consumer’s decision managers with practical guidelines. In real process, and are largely related to the second dimension in Tellis’s scheme. Sections 6, 8 and 7 deal with major aspects in the respective columns of Tellis’s matrix. I For a more extensive descriptior of the taxonomy and 3 AF example of a narrow definition is found in Simon (198Q): characterization of pricing strategitts, the reader is referred “The price of 3 product c?r service is the number of mone- to the original article S~lcct~d strategies ;tnd situations will tary units a customer has to pay to receive one unit of that be A-alt with n-m-t’ cxtcnsivcly in i he course of thiv paper. product or service”. 118 E. Gijsbrechts / Prices and pricing research it2consumer marketing relevance of nonmonetary price components and also includes the social, psychological, and (ii) stressing the possible gap between physical and functional consequences of objective and perceived prices. making the wrong purchase. According to Along the same lines, Murphy and Enis Funkhauser and Parker (1986), consumers (1986) make a distinction between the “ef- must ultimately cover the total costs of all fort” and the “risk” dimension of an ax- necessary channel functions, such as financ- tended price concept; effort is defined as ing, inventory, storage, transportation, spoil- “the objective amount of money and time it age or damage, equipment, and handling. takes to make a purchase”; risk stands for They may prefer to G so by personally ex- “the buyer’s subjective assessment of the pending time, effort risk and/or anxiety or consequences of making a purchasing mis- by paying a higher price.. Hence, consumers take”. Again, these authors explicitly distin- face a trade off decision involving a wide guish between monetary and nonmonetary variety of “cost” and “p,rice” aspects. price components. Many recent contributions emphasize the Monetary effort is not confined to the importance of different price dimensions, and amount of “cash” to be paid, other elements recognize the complex role of price in the such as credit and countertrade may be rele- consumer’s purchasing decision (e.g. Mc- vant. Kirby and Dardis (1986) stress the im- Goldrick and Marks, -4987;Murphy and Enis, portance of terms of payment (credit plans 1.986). Erickson and lohansson (1985) state and the possibility of using credit cards) in that “. . . the role price plays in a consumer’s consumer evaluation of monetary effort. evaluation of product alternatives is very Meyer and Assunsao (1990) point to the possibly not a unidimensiona! one . . . “, and relevance of inventory costs in dynamic pur- distinguish bxetween the reduction of wealth chase decisions. Nonmonetary effort mainly caused by prices (“price as a constraint”), refers to “time prices”, e.g. travel, shopping, and the information on product quality con- waiting and product usage time. Search and veyed by prices (“price as a product at- transaction costs mainly fall under this c!pe tribute”). Again, these authors stress the im- of effort. Risk encompasses financial risk, portance of price perceptions, and the im-

Objective monetary price

I I Perceived monetary price Perceived Nonmonetary price awareness Price encoding knowledge

I Perceived Sacrifice

Perceived Quality

I Perceived Value

Purchase Intention

Purchase Fig. 1. The role of price in the consumer’s decision process. Source: AJaptcd (simplified) from Zcithaml (19HH~. E. Gijsbrechts 1’ Prices and pricing research in consumer marketing 119 pact of “price beliefs” on consumer atti- bility in the market results in consumers tudes. forming “reference” prices. These “expected These thoughts on the role of price in the prices” are multidimensional constructs com- consumer’s decision process can be schemat- posed of more than the actual (retail) price. ically represented as in Fig. 1. This scheme They are compared with the observed levels, should further be placed in a dynamic set- and the discrepancy between anticipated and ting. Including the time dimension consider- actual prices affects brand choice and pur- ably adds to the complexity of the decision chase quantity. 4 process, as will be clarified below. The notion that consumers compare ob- The use of a broadened price concept is served prices with some internal standard is not new in marketing (and certainly not in supported by a growing body of literature, economics), but it has clearly gained and supplements standard economic theor;r widespread acceptance. The multidimen- on price information processing. It is closely sional view on prices has become the rule related to the Prospect Theory of Kahneman rather than the exception. It has led to (i) and Tversky (1979), who state that: “. . . our increased awareness of the variety of possi- perceptual apparatus is attuned to the evalu- ble price implications, since the role of dif- ation of changes rather than to the evalua- ferent price dimensions will vary between tion of absolute magnitudes”. It is also con- consumers and product types, and interact sistent with the notion of “transaction utility” with market(ing) characteristics, and (ii) presented by Thaler (1985), who suggests that recognition that complex pricing schemes the probability of purchasing a brand is af- may be needed, appropriate to particular fected by the attractiveness of the transac- situations. At the heart of these observations tion or deal, this “transaction utility” being lies a revived interest in the dynamics of the larger (more positive) to the extent that the consumers’ decision process, retail price compares favorably with the expected price. With respect to the decision scheme presented in Section 3, Reference Price Theory provides interesting thoughts 4. The role of price in the consumer’s deci- on price perception, and price evaluation, sion process over time. In discussing the reference price concept, 4.1 The reference price concept three issues deserve special attention: the definition of reference prices, their forma- As indicated by AssunGao and Meyer tion, and the supporting empirical evidence. (1990), the traditional literature on pricing starts from the simple assumption that, when 4.1.1 The meaning of a reference price faced with a buying decision in a product The literature proposes a diversity of con- category, consumers observe a price, take ceptual and operational definitions of refer- into account their current inventory position ence prices (Jacobson and Obermiller, 1990). in the category, and make the brand/quantity decision that maximizes immediate utility. 4 We use the term: “reference price” to denote the con- Currently, an expanded notion of price is sumers’ internal standard for price evaluation. This internal applied to the study of consumer purchase level can be influenced by externally provided “standards for comparison”, such as the (barredi regular prices in behavior, both for frequently purchased and advertisements announcing a temporary price cut. These for durable products. Observed price insta- are often relerred ro as “external reference prices”. 120 E. Gijsbrechts / Prices and pricing research in consumer marketing

The notion of reference price may be related may be used as the ultimate internal stsn- to the concept of price limits (Gabor and dard (Biswas and Blair, 1991). Which “inter- &anger, 1964), which customers are willing nal price” serves as a comparison level in a to pay for a product; the lower price thresh- particular buying situation must depend on old could stem from price-quality percep- many factors, including the consumer’s time tions, while the upper bound is often re- and transaction costs. ferred to as the reservation price. Both boundaries may serve as a “reference level”, 4.1.2 Models of reference price formation SOthat outside these limits, the price consti- Besides the elements involved in the for- tutes a primary barrier to purchase (Gabor, mation of reference prices, the formation 1988). Numerous other reference price defi- process itself has been discussed. The direct nitions have been put forward, such as measurement of reference prices is not “aspiration prices”, prices based on con- straightforward (Winer, 1986). Some authors sumer targets or budget constraints. Many of have tried to elicit reference prices directly these concepts are only weakly related to from consumers (e.g., Kalwani and Yim, actual prices (Jacobson and Obermiller, 1992). But most attempts to provide support 1990). for Reference Price Theory, and to gain in- A more common view reduces the notion sight into the formation process, approach of reference price to that of a “fair” or reference prices as “unobservable variables”. “appropriate” price. In deciding what is fair, Alternative models for unobservable refer- the consumer was traditionally believed to be ence prices have been developed and tested “backward looking”, and to form a standard against each other, such as the “extrapolative based on past experience (e.g. Winer, 1986). Recent contributions propose that, in a dy- expectations hypothesis” (in which observed namic setting, consumers can be “forward past price and a trend variable determine the looking”: their reference price is also influ- reference price), the “serial correlakion enced by expectations of future prices (As- model” (price expectations depend on cur- sunsao and Meyer, 1990; Kalwani et al., 1990; rent price and a serially correlated error), Jacobson and Obermiller, 1990). This would and the “rational expectations model”, (con- imply that the relationship between price sumers are assumed to discover the rules and purchase (quantity) at a certain point in used in price setting, and are able to formu- time also reflects future price expectations, late unbiased and efficient forecasts). Lattin especially in cases where (i) the purchase is and Bucklin (1989) make a distinction be- postponable, (ii) price is a significant consid- tween reference formation for regular and eration in the decision process and (iii) con- for promotional prices. They posit that past sumers have some idea about future price purchase behavior as well as exposure to levels (Jacobson and Obermiller, 1990). price levels and promotional actions may af- A number of authors postulate that con- fect internal standards. They propose a sumers, instead of holding a single reference “threshold model” for the formation of pro- value, “know” the distribution of retail prices motional reference levels, where a minimum for an item, such as the lowest and highest level of exposure to deals is required before market price, the average level, and a price the internal standard is adapted. for individual retailers (e.g. Monroe, 1990; Urbany et al., 1989; Biswas and Blair, 1991). 4.1.3 Empirical evidence In evaluating observed prices, the lowest The extensive literature on reference price (or: “shopping around price”) estimate prices deals with frequently purchased goods. E. Gijsbrechts / Prices and pricing research in consumer marketing 121

We can only summarize some of the findings, issue for decision makers. In recent years, which seem to suggest that 5 there has been growing evidence of, and (i) in many instances, the use of a refer- concern about, the decreasing price aware- ence price in (aggregate) consumer brand ness of the consumer. We will examine this choice ,models yields a better fit, issue in more detail, and evaluate its implica- (ii) the inclusion of future price expectations for Reference Price Theory. tions gains support, (iii) consumers have “bounded” rational- 4.21 TO price or not to price: The story of the ity: there is little support for the rational uninfowned consumer expectations model and evidence of learning Earlier work (e.g. Zeithaml, 1982; Dickson is weak, and Sawyer, 1986; Conover, 1986) suggested (iv) there is a region of insensitivity around that consumers’ knowledge of specific item a brand’s expected price, within which price prices is far from perfect. Recent studies of changes do not alter consumers’ price per- consumer awareness of specific price levels ceptions, in supermarkets found the level of price (v) the process of expected price forma- knowledge and search to be alarmingly low. tion is influenced by contextual variables and Dickson and Sawyer (1990) asked shoppers other marketing mix activities. about their price checking behavior and price The reference price theory of consumer recall immediately after they had selected an behavior may have implications for price item from the shelf, so that bias due to strategy. This will be especially true in situa- “forgetting” was minimized. Their anaivsis tions involving dynamic price rules (e.g. pro- involved four product classes: coffee, todth- motional pricing,. penetration pricing or price paste, margarine and cold cereal. They found skimming for new products), where the for- low levels of information processing at the mation of expected prices may considerably point of purchase: only half (58%) of the affect consumer price sensitivity. shoppers spent more than 5 seconds at the Recent findings on consumer price aware- product category display, or checked the price ness and knowledge, however, have led some of the chosen item. The price recall accuracy authors to doubt the relevance of the refer- of consumers was distressing: about 20% of ence price concept, as discussed next. the shoppers had no idea of the price of the chosen item; there was a tendency for con- 4.2 Evidence on consumer price atwarenessand sumers to underestimate item prices, and price knowledge only 55% of them gave an “accurate” estimate (within 5% of the exact price). Aware- As McGoldrick and Marks (1985) discuss, ness of price specials was also very low: less the assumption of early economic theory that than half of the consumers buying on special consumers are aware of item prices, has been knew of the reduced price. McGoldrick and discredited for long. Nevertheless, the leve! Marks (1987) and Krishna et al. (1991) report of consumer price knowledge remains a vital similar results. Another finding is that consumers are conservative updaters of priors, i.e. that learning is very limited. 5 For more detailed information concerning these issues, the interested reader is referred to Winer (1986); Kalwani et al. Overall, these studies reveal that con- (1986, 19901, Gurumurthy and Little (1987), Lattin and sumers do not always know or remember Bucklin (19891, Meyer and Assuni;ao (19901, Jacobson and product prices, and that many do not attend Obermiller (1990), Holak et al. (1987). Tellis and Gaeth to price information. Possible reasons for (199Ob, Assunpo and Meyer (19901. hswas and Blair (1991) and Kalwani and Yim (1992). this are manyfold. McGoldrick and Marks 122 E. Gijsbrechts / Prices and pricing reseurch in consumer marketing

(1987) claim that the change in the grocery classes or items where consumers have at environment accounts for much of the de- least some perception of prices, Reference crease in price awareness. McGoldrick and Price Theory may be valid. Marks (19L3) document the complexity of Second, the degree of price knowledge price information in retail settings and point and the level of price vigilance differs be- to the lack of standardization in sizes and tween shoppers. Some consumers seem to packages. Tellis and Gaeth (1990) mention have accurate information on prices (they the proliferation of competing brands, the may be the cause for price sensitivity ob- difficulty of exhaustive search and sampling, served in the market), that could serve as an the high rate of product innovation, biases in internal standard in decision making. Re- the evaluation of products, and consumer search to characterize these price-knowl- mobility. All these facets confirm the multi- edgeable segments is starting, and not very dimensional character of price, and the com- conclusive yet (McGoldrick and Marks, 1987; plexity of price information processing. Krishna et al., 1991; Zeithaml, 1988). Third, even for consumers without (accu- 4.2.2 Is the end of Reference Price Theory rate) perception of item prices, the principle near? of expected prices may still hold. However, The previous findings question the validity these consumers (or these consumers in these of Reference Price Theory, at least in the buying situations) will likely be different in context of grocery shopping (Dickson and their way of price encoding, and in their Sawyer, 1990). Zeithaml (1988) states that: reference price formation process. “Levels of consumer attention, awareness and knowledge of prices seem to be consid- 4.2.3 Price encoding and the intricacies of the erably lower than necessary for consumers to human mind have accurate internal reference prices for Several authors have recognized that con- many products”. sumers can “encode” price information in Is the end of Reference Price Theory near? various ways (e.g. Zeithaml, 1988; Biswas and Probably not, and this for several reasons. Blair, 1991; Helgeson and Beat& 1987; First, studies have mainly analyzed fre- Schindler and Wiman, 1989). This has led to quently purchased products in a supermarket criticism of studies that used specific item context. For these “convenience” goods, ab- price recall as the main indicator of price solute price is typically a less crucial determi- awareness. Mazumdar and Monroe (1990) nant. Attention to prices may be higher for state that, since price stimuli can be encoded higher priced goods, durables and services in different ways, future research should use (Zeithaml, 1988). Whether this implies more multiple memory tests for making a valid accurate price knowledge is another issue, inference about price knowledge. The way in since information gathering for these prod- which information is recorded, organized and ucts is more costly and complex. adjusted in memory depends on many fac- Even for repeat purchase goods, the level tors. Determinants of price encoding could of recall varies greatly across product classes be the importance of price, the price ending, and brands: knowledge seems to be more the familiarity with the brand, but also the accurate for high involvement products, consistency between observed and expected products of budgetary importance, and regu- price, or buyers’ processing goals. Mazumdar larly purchased items or brands (McGoldrick and Monroe investigate the impact of learn- and Marks, 1987; Dickson and Sawyer, 1990; ing goals and choice task on price encoding, Mammdar and Monroe, 1990). For product and find that buyers attempting to remember E. Gijsbrechts / Prices and pricing research in consumer marketing 123 prices for later use, tend to retain specific actual price information. Consumers seem to price levels more accurately than e.g. price be quite heterogeneous in their levels of ranks relative to other brands. When price price attention, their ways of encoding price, information is acquired in the course of mak- and their degree of price knowledge. ing decisions, relative price recall is better The findings in this section have important than absolute price knowledge. implications for the development of appro- An interesting perspective on consumer priate pricing strategies. Indeed, the frame- price sensitivity, price recall and encoding, is work of Tellis suggests that consumer hetero- offered by Krishnamurthi and Raj (1988, geneity in terms of price sensitivity and infor- 19911, who point out that consumer decisions mation offers ample opportunities for strate- involve a discrete choice (which brand) as gic pricing. Stern (1989) formulates it as fol- well as a continuous decision (quantity pur- lows: “Rarely is a single price appropriate chased of the chosen brand). They suggest for all consumers. As Goldilocks discovered that the role of price in these two stages may with the three bears’ porridge, some cus- be different: they expect brand choice to be tomers will find that single price too high, influenced by relative price, while quantity . . . . others too low, . . . . and only a few “just decisions would be affected by absolute price right”. Using price structure to differentiate level and income. Different price encoding is based on consumer price sensitivity enables likely to take place depending on which as- businesses to have their porridge and eat it pect of the decision is of greater importance. too.” Reference price formation and price en- The previous discussion also highlighted coding are also affected by “supporting” the link between price and other information marketing mix actions. Evidently, promo- cues or product attributes, a point taken up tional signals (advertising or point of pur- next. chase material) may be used to increase consumer attention to price (specials) (Dickson and Sawyer, 1990; Jacobson and Obermiller, 5. Interactions between price and quality 1990). Further, consumers who are not An important linkage discussed in the re- knowledgeable about prices, but come to cent literature is the relationship between consider price as being important at a certain price and product quality. The research can point in time, may rely on externally pro- be divided into two streams: (1) contributions vided “ reference” prices. Finally, certain investigating the “objective” relationship be- consumers (with a low “need for cognition”) tween price and quality levels, and (2) papers may rely on promotional signals alone to analyzing the perceived association between infer that a price cut is offered, even if no these constructs. actual discount is given (Inman et al., 1990). Summarizing, we can state that the Refer- 5.1 Are market prices good indicatorsof prod- ence Price Theory of consumer decision uct quality? making has gained wide attention. Empirical evidence suggests that a large portion of An extensive line of research assesses the consumers, at least for some product cate- link between actual prices and “objective” gories, have surprisingly little knowledge quality, e.g. measures on performance scales, about individual item prices, and do not seem or quality levels published in Consumer Re- to attend to price information. This suggests ports. This has produced mixed results, partly that in many instances, reference prices (if because of methodological difficulties and of used) are not very accurate, or not based on differences between studies (such as the 124 E. Gijsbrechts / Prices and pricing research in consumer marketing quality construct used). On average, the price between true and perceived price-quality as- quality relationship seems to be positive, but sociations, and, more generally, the strate- very weak (Tellis and Wernerfelt, 1987, re- gies used by consumers in coping with imper- port an average correlation of 0.27), and fect quiity information (risk). Zeithaml highly variable among product classes (Tellis, (1988) provides an interesting overview and 1987; Rao and Monroe, 1989; Zeithaml, states that: “Though consumer perceptions 1988). Tellis and Wernerfelt (1987) present a of price, quality and value are considered formal model of the equilibrium price-qual- pivotal determinants of shopping behavior ity relationship in a market with free entry and product choice, research on these con- and asymmetrically informed consumers. cepts and their linkages has provided few They show that the price-quality association conclusive findings”. A fundamental problem is generally increasing with the level of con- in this research is that the concepts (per- sumer information (which, in turn, tends to ceived price, quality and value) are not prop- be higher for durables, products with a wide erly defined. Similarly, Rao and Monroe range of prices, and unpackaged products). (1989) find that evidence on a positive The presence of size variations in product price-perceived quality relationship from offerings tends to weaken the relationship, various studies has been moderated by since higher unit prices may reflect noneco- “methodological deficiencies, a variety of nomical packages rather than quality differ- contextual and situational factors, and a weak ences (Gerstner, 1985). The link seems to theoretical explanation”. Their 1989 meta become weaker over time (Curry and Riesz, analysis of 41 studies investigating the 1988; Lichtenstein and Burton, 1989). This price-perceived quality relationship, found can be explained by reduced price flexibility that the type of experimental design and the in later stages of the product life cycle, caus- degree of price manipulation had a signifi- ing competitors to resort to promotional ex- cant impact on the results. The number of penditures rather than true quality improve- manipulated information cues (such as ad- ments to attract customers. MarklIt efficiency vertising or brand name) might affect the and pricing practices may also affect the observed relationship (though no significant price-quality relationship (Lichtenstein and effects emerged from their study), especially Burton, 1989). Other issues that require at- if different cues provide inconsistent infor- tention are the ease with which quality can mation. be observed, the homogeneity of preference Several papers have tried to idc;ztifv” the structures, and the importance of word of conditions under which consumers use price mouth. to infer quality (e.g. Monroe and Krishnan, An interesting observation (Tellis, 1987) is 1985; Lichtenstein and Burton, 1989; Tellis, that price can never be a perfect indicator of 1987; Gorn et al., 1990). Factors affecting the quality; since, then, consumers would buy use of price as a quality indicator can be “price” without quality inspection, and this classified as informational, individual, and very fact would incite some firms to cheat product category-related elements. Product (and thus weaken the relationship). categ3r-y factors are the level of product complexity and perceived risk, the category 5.2 The perception of price as a quality signal price level and range, and the market efficiency and pricing mechanism. Individual and A second research stream is concerned informational factors refer to the relevance with behavioral issues. It investigates per- of search time and other nonmonetary costs, ceived price-quality links, the relationship the level of product knowledge on the part of E. Gijsbrechts / Prices and pricing research in consumer marketing 125 the consumer, the importance of price and tion strategies. The budgets spent on Sales quality to the consumer, and the presence of Promotion by marketing managers, and the different internal (intrinsic to the “physical” number of articles published on this issue, product) and external information cues. At have reached unprecedented heights. present, however, no conclusive evidence is The “bulk” of sales promotion actions take available on these issues. Recent research on the form of a straight price cut or of an the price-quality relationship evolves in two indirect price reduction (e.g. in the form of a directions: coupon or extra quantity); the price offer is (i) Analysis of the relationship between usually accompanied by other (supporting) price as a quality indicator and the presence marketing actions such as advertising. Typi- of other information cues. Some authors (Rao cal of price promotions is their “temporary” and Monroe, 1989; Zeithaml, 1988) suggest character. Reduced prices or “deals” are of- that the role of price may have been overesti- fered to the consumer over a short period of mated, and that other extrinsic cues such as time. Such temporary price cuts have be- brand name and package size are equally or come “common practice”. This overview will more important, especially for package goods. be limited to papers on direct price promo- (ii) Analysis of the overall choice strate- tions. Even so, the number of papers is con- gies available to consumers having incom- siderable. First, we look at the “general” plete quality information, and identification effects of price promotions on sales and of the conditions (purchase situation, con- profit, both empirically and from an eco- sumer characteristics) under which these nomic-behavioral point of view. One obser- strategies are advisable or actually used. In- vation that clearly emerges from the litera- teresting contributions are the studies of Tel- ture is the dominant effect of channel inter- lis (1987), who analyzes four basic choice dependencies on the development of price processes (Informed, High price, Low price promotion actions. Second, we take a brief and Random) and Tellis and Gaeth (1990), look at the (limited number of) contributions who study the adoption of Price Seeking (or dealing with manufacturer-retailer interac- High Price), Price Aversion (or Low Price) tions. The third section complements the dis- and Best Value strategies. cussion with specific issues in retailer (price) In summary, the price-quality literature promotion. available so far suggests that the objective price-quality relationship is positive, weak, 6.1 The impact of price promotions on brand and strongly situation dependent. Concern- outcomes ing the link between price and perceived quality, the evidence suggests that under certain conditions, consumers may use price as 6.1.1 Empirical evidence on the impact of price a quality indicator. This appears to leave promotions room for the use of price signaling strategies The measurement of sales promotion ef- mentioned by Tellis (1986). There is much fects has generated a great deal of research heterogeneity among consumers here. interest in recent years. The availability and improved quality of (weeklyj scanner data at the market, store or household level im- 6. Price promotion strategies proves the opportunities to study these impacts, From the host of analyses, some gen- A “favorite” recent topic of many market- eralizable findings emerge. Blattberg and ing scholars is the evaluation of sales promo- Neslin (1989) have summarized some of these 126 E. Gijsbrechts / Price.s and pricing research in consumer marketing findings, with respect to the time frame of exploit their competitive position (Bemmaor promotional effects. Their contribution deals and Mouchoux, 1991; Walters, 1991; Ka- with sales promotion effects in general, but makura and Russell, 1989). Finally, an im- since most of their generalizations equally portant issue mentioned by Blattberg and apply to temporary price cuts, we take up Neslin (1989) is the interaction between price some points of their analysis and supplement promotions and other marketing mix vari- them with more recent findings. In the dis- ables. Experimental studies show a consider- cussion presented here, we distinguish be- able increase in the impact of price cuts tween immediate effects of a price cut, and when supported by point of purchase promo- longer term effects. tion (Inman et al., 1990), or advertising. In a study of frequently purchased goods, Bem- Immediate effects of sales promotions. For maor and Mouchoux (1991) found price deal the immediate effects of price promotions, elasticities to increase from 20% to 180% there is much unanimity in the literature: when the deal was advertised. Also, the form sales promotions, and price promotions in of the advertisement or display is important: particular, create a dramatic boost in the presenting advertised prices as a reduction sales of a brand. Promotional price elastici- from regular prices seems to increase the ties tend to be much larger (in absolute value) impact of the discount (Cox and Cox, 1990). than regular elasticities. Bolton (1989) re- Our discussion in Section 3 already sug- ports an average promotional elasticity of gested the importance of such interactions; -2.45, compared to the overall (regular and due to the complexity of many buying situa- promotional) average price elasticity level of tions, the proliferation of sales promotion - 1.76 found by Tellis (1988b). Bemmaor and offers, and the lack of price knowledge on Mouchoux (1991) obtain elasticities between the part of the consumers. -2 and - 11 for unadvertised deals of non- perishable products. Deal elasticities are cer- What happens in the long run? Though im- tainly more pronounced than immediate ad- mediate brand sales effects of promotion are vertising effects (e.g. Sethuraman and Tellis, clearly positive, countervailing forces may be 1991; Tellis, 1988). at work in the long run. On the positive side, A large portion of the observed sales in- there is the possibility of enhancing repeat crease stems from brand switching (Gupta, sales of the product, and of building con- 1988; Walters, 1991). The product class sales sumer franchise. The evidence for such posi- impact of sales promotion may exist (Bem- tive impacts is fairly limited. According to maor and Mouchoux, 1991), but is generally Jones (19901, temporary price reductions and low. If an effect is observed, it is often caused coupons have the weakest (positive) long term by sales displacement (e.g. purchase acceler- effects of all below-the-line activities, since ation, or purchase postponement when a deal they tend to appeal to “rational” (financial) is anticipated). An interesting finding con- arguments rather than build brand franchise. cerns the asymmetry of switching effects. Re- Another possible long term promotion ef- cent contributions provide evidence that fect lies in stockpiling or purchase accelera- dominant, manufacturer, higher priced and tion. “Sales displacement” effects occur when often higher quality brands attract a large consumers build up inventories of the pro- portion of other brands’ buyers during promoted product to take advantage of the tem- motional periods, but that the reverse is not porarily lowered price. Evidence on this phe- true. This offers interesting opportunities for nomenon is mixed: some authors have identi- such brands to develop a price strategy to fied their presence (e.g. Neslin et al., 1985; E. Gijsbrechts / Prices and pricing research in consumer marketing 127

Meyer and Assunsao, 1990; Grover and to explain the divergent evidence. Interesting Srinivasan, 1992), whereas other studies (e.g. findings are summarized below. 6 Achabal et al., 1990; Moriarty, 193,“) find no First, promotional effects vary widely evidence. Traditionally, sales displacement across consumer segments. Consumers’ reac- has been viewed as undesirable (except where tions to promotions are strongly affected by firms try to eliminate stocks, or to preempt differences in brand switching patterns, in the market in the face of competitive ac- price versus quality sensitivity, in time hori- tions). Indeed, purchase acceleration consists zon, in level-of-price (promotion) informa- of “borrowing” regular price sales from the tion processing and, closely related, in level future, or from the past if the deal was of search and transaction costs. expected by consumers. But recent research Second, the level of promotional activity in suggests that sales displacement may in- the product class is an important determi- crease profitability, since it sometimes leads nant of consumer response. Frequent promo- to an increase in overall consumption. tions seem to reduce the immediate sales Finally, several authors (e.g. Fader and effect. The timing of the promotions is also McAlister, 1988) suggest that price promo- important: promotions that occur regularly, tions have a negative impact (over and above and/or fit the purchasing pattern of (loyal) inventory effects) on subsequent sales for consumers, have a less positive overall effect. past users of the brand. Price cuts may (this Deep and frequent price discounts further is not always the case, e.g. Davis et al., 1992) tend to have a stronger downward impact on reduce the consumers’ Mtillingnessto buy the reference prices and on future willingness to product at the regular price, and eventually PaYe damage product image. Several theories are Third, promotional price elasticities vary put forward to support this: (i) the Reference widely with product type. Litvack et al. (1985) Price Theory (frequent promotions lower the find the promotional price impact to be larger reference price of consumers), (ii) Self Per- for “stock up” than for “non-stock up” goods. ception Theory (consumers having bought on It is obvious that purchase acceleration will deal attribute some of the product’s attrac- be lower for bulky or perishable goods, or for tiveness to the presence of the deal itself), products with “high” storage costs such as and (iii) the Price-Quality Inference Theory, frozen food. Producr class sales effects (in- referring to an association between price and creased consumption) will of course be lower quality in the consumer’s mind. for “necessary” products. Differences in con- Negative impacts may jeopardize the prof- sumer tastes or the importance attached to itability of many price degls. According to prices, and the degree of product differentia- Hardy (1986), 50% of promotional actions tion may affect both immediate and long would be unprofitable. Jones (1990) con- term effects. cludes that, given their “disastrous short term All these factors seem to interact in a and long term costs”, price promotions complex way (see, e.g., Kahn and Raju, 1991). should not be used hastily by managers inter- An important reason for our lack of under- ested in profit. standing of promotional effects stems from

Factors affecting the impact of price promotions. So far, the discussion concentrated h For more specific information, see Narasimhan (1984). on price promotion effects in general, where Bolton (1989t.1). Kahn and Louie (1990). Blattkrs and wisniewski (1~~1). Assuntpj and Meyer (1990). Bemmm 3rd divergent and somctimcs inconsistent find- Mt)uchoux (1991). Grover and Srinivasan (1992) and Kalwani ings emerge. The recent literature attempts and Yirn ( 1992). 128 E. Gdsbrechts / Prices and pricing research in consumer marketing the fact that most “evidence” is simply based these models (Gijsbrechts, 19921, they share on empirical research. AS Bemmaor and a common feature: they view promotions as Mouchoux (1991) point out: “A major short- “defensive strategies” that exploit preference coming of most promotion analyses is that heterogeneity among consumers, and as a they essentially consist of postulating and means to compete for the switching segment. estimating an ad hoc (aggregate) demand Their assumptions on consumer behavior function with no explicit behavioral founda- are inspired and supported by the work of tion. More analysis must be done on individ- Blattberg and Wisniewski (1989). These au- ual behavior as it relates to promotion”. thors postulate a “price tier” model of con- Some recent articles have tried to identify sumer behavior. Consumers are utility maxi- the behavioral underpinnings of price pro- mizers in a given product class; the utility motion activities. derived from different products depends on two attributes: price and product quality. 61.2 Behavioral models and price promotions Consumers face brands with varying prices Recently, a number of “formal” models and perceived quality levels, and make a have dealt with the effects and optimal&y of choice consistent with the relative impor- price promotions. These models differ in tance attached to both attributes. Blattberg their assumptions concerning the time hori- and Wisniewski show that the pattern of zon of consumers, the presence of product brand competition in such a market is a heterogeneity in the market, the distribution function of the distribution of preferences of preferences, of search, transaction, and (relative importance of price and quality) inventory holding costs across consumers, the across consumers. They argue that under level of information available to consumers, specific conditions, asymmetric price promo- and the type of competitive interactions. A tion effects are observed: promoting brands schematic overview is given in Table 2. The attract buyers from products in the same tier models bring forward various factors that and below, but not from a higher level brand. may justify the use of promotional actions, as This offers an interesting explanation for discussed below. asymmetric switching effects observed in many markets (e.g. Kamakura and Russell, Preference heterogeneity among consumers. 1989). Some models study the impact of brand !oy- In a recent contribution, Kahn and Raju alty on optimal prices and price promotions. (1991) further distinguish between variety La1 (19901, Narasimhan (1988), Raju et al. seeking consumers (whose purchase proba- (1990),and Rao (1991) analyze equilibrium bility for a brand tends to be reduced when it pricing strategies of firms in an oligopoly, was bought on the last purchase occasion), where different competitors enjoy higher (e.g. and consumers exhibiting reinforcement be- national brands) or lower (e.g. private labels) havior (for whom the opposite holds): this levels of brand loyalty. Consumers may ei- introduces the time dimension in consumer ther exhibit preferences for specific brands brand choices. The authors further explore (be willing to pay a premium), or have the asymmetric promotion effects, and find that “status” of a brand switcher (purchase pri- whether promotions for major or minor marily based on price). Under these circum- brands are more successful depends on the stances, it is found that the use of (alternat- type of consumer considered (e.g. variety ing) price promotions can be a non-cooper- seeking or reinforcement). ative profit maximizing equilibrium strategy. Ail the approaches discussed so far ex- While there arc some diffcrcnccs between plain sales promotion effects on the basis of Table 2 Characteristics of some recent price promotion models

La1 Narasimhan Raju et al. Rao Blattberg and Jeuland and Assunlao and Meyer and Gerstner and Krishna et al. (1990) (1988) ( 19901 (1991) Wisniewski Narasimhan Meyer Assunsao Holthausen ( 1990) (1989) (1985) (1990) (1990) (1986) Competitive two identical duopoly oligopo!y duopoly multiple monopoly monopoly monopoly monopoly multiple situation national competitors competitors brands, one private

Time horizon equilibrium equilibrium equilibrium equilibrium equilibrium multiperiod multiperiod multiperiod single period multiperiod (of consumer or regular price, decisions decisions decisions optimum decisions firm)/result depth and frequency of promotion

Impact of yes yes yes yes yes no no no no (yes) brand loyality

Search cost and no no no no no no no no no (yes) pr.~ info levels

Transaction costs no no no no no no no no yes no lnven tory no no no no no yes no no no no holding costs

Resew? tion no situation:. no no (yes) yes no no yes (yes) prices analyzed

Product class no no no no no yes yes yes no stock- yes sales effects piling + stockpiling

Price expectations no no no no no no yes yes no yes Source of 1 1 1 1 1 2 3 3 4 5 promotional advantaae a a 1: exploit preference heterogenicity; 2: exploit inventory cost; 3: exploit product class sales effect; intertemporal consumption, 4: expjloit transaction costs and reservation prices, 5: exploit price knowledge. 130 E. Gijsbrechts / Prices and pricing research in consumer marketing differences in consumer preference and But this does not jeopardize the potential brand loyalty, combined with anticipated profitability of price deals; on the contrary: competitive actions. Following the distinction the authors find that subjects consistently introduced by Krishnamurthi and Raj (WW, overbuy in the face of price promotions. they concentrate on the choice aspect of purchases and disregard the quantity deci- Differences in price information (processing) sion. They do not take into account long and transaction costs. The previous models term effects such as stockpiling, product class argue that multiperiod planning on the part sales effects or reduced willingness to buy of the consumer might lead promotions to the ploduct at full cost over time. increase overall sales levels, at least in the A different line of models considers the monopoly case. Krishna et al. (1991) develop implications of dynamic decision making by a conceptual model reflecting the impact of the consumer (multiperiod planning), for the expected prices and deals on purchase be- overall sales promotion effect. havior. Unlike the approaches just mentioned, they consider a competitive setting, The impact of multiperiod planning. Jeuland and allow consumers to have different levels and Narasimhan (1985) show that for prod- of price information. They provide empirical ucts with a high positive correlation between evidence that some consumers are knowl- consumer demand rates and inventory hold- edgeable about (expected) promotions and ing costs, temporary price cuts can be an adapt their pattern of purchases accordingly. effective mechanism to discriminate between This might result in lower profits for manu- buyers with high and low inventory costs. Con- facturers, at least if knowledgeable consumer demand in their model is determined sumers would be willing to purchase the by regular Frice, magnitude of the deal (if product at full price. On the other hand, one is offered in the period considered) and there is a considerable segment of less in- the cost of holding inventory. formed consumers (younger buyers, with Some recent contributions use Reference smaller family sizes, who purchase the item Price Theory, and assume the consumer takes less frequently) who do not exhibit deal to into account expectations about future prices deal buying behavior, and might be attracted in forming internal standards. Assungao and by promotional signals accompanied by only Meyer (1990) develop a normative theory of small (or even zero) price cuts. Managers sequential buying and consumption, under should, however, be careful with “unjusti- uncertainty about future market prices. They fied” promotional signaling since this may show that for rational consumers, increases trigger word of mouth from informed to unin the relative frequency of promotions lead informed consumers. 7 to higher overall consumption, and to lower The article of Krishna et al. supports the contemporaneous price elasticities. They view given by Tellis (1986), that price promo- provide a rationale for price promotions tions may be an effective means of discrimi- ooking at consumers who maximize utility. nating between informed and uninformed con- Meyer and Assunc;ao (1990) use a similar model as a benchmark for the evaluation of ’ The extent to which managers wish to engage in “justified” buyer behavior in an experimental setting. promotional signailing (e.g. drawing attention to real price They conclude that subjects do not behave cuts through advertising or display) depends on the objec- optimally when confronted with bimo&l tivc pursued (Dickson and Sawyer, 1990). If the promotion price distributions (on-deal and off-deal is intended to discriminate between informed and uninformed consumers, it is not ncccssary or even desirable to prices), but tend to USC simpler heuristics. give i~dditiWlill promotional Cues in the store. E. Gijsbrechts / Prices and pricing research in consumer marketing 131 sumers. In a dynamic setting, granting price 6.2 Interactions between manufacturers and deals at “random” points in time may reduce retailers deal to deal buying by informed consumers, and may avoid learning by consumers with Many of the previous models assume that high search costs (and little price knowledge). the manufacturer is able to determine con- Gerstner and Holthausen (1986) examine sumer prices. Since there has been a major the impact of transaction costs on the opti- shift in control from manufacturer to retailer mality of price differentiation. They consider or distributor, McGoldrick (1986) points out the case of a monopolist selling a homoge- that “In most (European) countries, the ma- neous product in two markets that are not jor responsibility for the setting of fast mov- perfectly isolated. Consumers have heteroge- ing consumer goods prices is increasingly in aeous transaction costs of buying in the low the hands of large retail chains. The decline price market. They find that, even if the two of Resale Price Maintenance (RPM), fol- market segments are not perfectly isolated, a lowed by the progressive growth in the scale differential price strategy can be profitable if and sophistication of the major chain retail- consumers with high transaction costs also ers, are amongst the factors that have com- have high reservation prices. The price dif- bined to bring about this shift of power from ferentiation strategy analysed here is not re- the manufacturers”. The decline of RPM ally “promotional” in the sense that the price (the possibility for the manufacturer to set cut need not be temporary. 8 However, some prices at the retail level), is further com- authors have found similarities with the ef- mented upon by Sheffet and Scammon fect of coupon promotions, which can func- (1985), who point out that RPM has become tion as a price discriminaLion mechanism in legally risky, and that manufacturers should the presence of heterogeneous transaction avoid “written” price binding contracts. costs (see also Narasimhar, 1984). RPM reflects a manufacturer’s desire to The models discussed here provide inter- specify minimum retail prices. In the context esting insights into the “economic” founda- of price promotions, however, the problem is tions for sales promotions. They support the the opposite. Manufacturers have a hard time ideas put forward by Tellis, showing that getting distributors to “accept” their promo- consumer heterogeneity is often the key to a tional deals. The reasons may be the huge profitable promotion strategy, but also ex- number of deal offers received by the retailer tend them by more explicitly considering the (who has perhaps built up inventories of interplay with dynamics in consumer deci- competitive products), the limited space sions, and with competitive interactions. availability in the shop (restricting the room What they clearly show is that promotions for accompanying displays), and the fear of can be profitable in a variety of situations, retailers that promotions may harm overall and for a variety of reasons. But each model store profitability. Moreover, if a deal is ac- remains partial, while considering more real- cepted, it is often only “partly” passed on to istic situations will make it difficult to obtain the consumer. analytical solutions. One aspect completely Two implications can be derived from this. disregarded by all models is the crucial role First, in planning consumer promotions, of middlemen in the promotional pricing manufacturers must anticipate retailer reac- strategy. tions. This opens up an interesting line of research, in which contributions only emerge now. Models incorporating manufacturer-re- n Actually, it is similar to the Sectd Market Discounting strategy in Tellis’s intcgrativc scheme. tailcr interactions arc rather scarce. Bultcz 132 E. Gijsbrechts / Prices and pricing research in consumer marketing and Gijsbrechts (1990) look at the manufac- The bottom line of this discussion is that turer’s product line pricing problem, assum- more insight is needed into the store level ing that retailers react to price changes with impact of price discounts, since such knowl- an adjustment in allocated shelf space. Bul- edge is beneficial to both manufacturers (in tez and Leruth (1989) investigate the impact convincing distributors) and retailers. As of asymmetric information concerning retail Walters (1991) puts it: “Because most retail- costs, on optimal wholesale and retail prices. ers underutilize their scanner data, docu- Jeuland and Shugan (1988) analyze the im- menting the effectiveness of price promo- pact of rational conjectures (expected reactions may enhance retail promotional sup- tions) in a vertical channel on price/margin port of manufacturer trade deals and ulti- decisions, and channel profit. mately improve promotional performance of A very interesting model is developed by manufacturers and retailers”. Sethuraman and Tellis (1991). They consider Before embarking on the issue of retail a single brand manufacturer who looks for effectiveness of price promotions, it is impor- the profit maximizing levels of advertising tant to note that, though only promotional and trade prices, taking into account the pricing schemes are discussed in this section, reaction of distributors-who pass on to the other pricing strategies must be considered consumer only a fraction of the discount-as in the manufacturer-retailer coordination well as the opportunity cost due to reduced problem. The use of price/quantity dis- margins. The model remains rather simple, counts, for instance, is often mentioned as an but it sets the scene for exciting research. It effective tool for obtaining channel effi- treats deal acceptance and pass-through as ciency, and will be treated in Section 7. largely exogenous, whereas in practice these elements are influenced by manufacturer de- 6.3 Issues in the impact of price promotion for cisions. retailers This leads us to our second point, that manufacturers (and researchers) should pay From the previous section, it is clear that more attention to factors affecting deal ac- the retailer has recently come to play a more ceptance by the trade. This does not imply a vital role in the promotional arena. The bulk need for higher budgets (from an empirical of promotional price cuts are still initiated by analysis, Abraham and Lodish (1990) con- the manufacturers. For these activities, the clude that only 16% of trade deals is prof- retailer has to decide on deal acceptance and itable!). But, manufacturers should plan their on the extent of pass-through. But retailers trade deals more carefully to fit the need and (especially in larger department stores, competitive strategy of large retail customers Achabal et al., 1990) increasingly engage in U-Jar@y,1986). This calls for an appropriate promotional activities of their own (e.g. for selection of the type of products to promote, private labels), for which they have complete and of the timing, frequency and magnitude control over the features, timing and dura- of promotions offered. Empirical research tion. ’ Since the recent pricing contributions suggests that it is better to offer fewer deals, concentrate on promotional actions, we limit but each with larger incentives (Hardy, 1986; our discussion to those issues. Blattberg and Wisniewski, 1989). The “Pro- motor” expert system developed by Abraham and Lodish (1987) represents an interesting ” In this section. WC’ arc mainly intercstcd in promotional tool to assist manufacturers in planning their pricing strategies at the retail Icvcl. It is clear that other issues arc involved in retail pricing; an ovcrviuw is given in trade deals. McGoldrick ( lW61. E. Gijsbrechts / Prices and pricing research in consumer marketing 133

The ultimate goal of these actions is the nificant complementarity effects (e.g. \;V& improvement of store performance. Hence, ters, 1988, 1991), but find them to be smaller the scope of the investigation in the price than substitution impacts. The impact on WI- promotion literature has been expanded to related merchandise will probably increase include the impact of deals on several with the transaction costs of consumers, and storewide outcome variables. Indeed, it is strongly depend on the competitive situation important to recognize that, on top of the (and layout?) of the store. Little empirical promotional effects mentioned in Section 6.1, evidence on this phenomenon is available the retailer is confronted with additional (for some results, see Walters, 1988, 1991; consequences, both in the short and the long and Walters and McKenzie, 1988). run. l Increased store trafic. Some contributions emphasize the ability to attract new cus- 6.3.1 Short term effects of retail promotions tomers to the store (build store traffic) as a In the short run, the retailer will be partic- crucial determinant of the promotion’s prof- ularly interested in the following impact of itability (Walters, 1988; Walters and McKen- promotional activities: zie, 1988; Mulhern and Leone, 1990). The l Substitutioneffects within the product class. (short run) traffic building capacity of price These are also of interest to the manufac- cuts is, of course, conditional upon the an- turer, who finds brand switching an impor- nouncement of the deal outside of the store. tant source of extra sales. For the retailer, Available evidence is still inconclusive, however, substitution has different implica- though interstore brand substitution effects tions as it represents cannibalization within seem to be limited. This may be related to his assortment. The reluctance of retailers the fact that many customers have poor price towards price promotions stems from the fear recall (see above), which does not prevent that sales of promoted products at smaller point-of-sale price comparisons among margins will be traded for full margin sales brands, but hampers interstore comparisons of unpromoted items, lo as indicated by many (Cox and Cox, 1990). We expect the ability to studies of retail promotions revealing strong attract new customers to vary widely with substitution effects within product classes promotion type, product class, marketing mix (Bemmaor and Mouchoux, 1991; Walters, support, and competitive situation of the 1988, 1989). Moreover, switching effects are store. asymmetric: store owned brands are less able The net effect of the previous phenomena to attract buyers from national brands than on store profitability is not invariably posi- vice versa. tive. However, this must be supplemented l Complementarity effects and additional with long run implications. sales of unrelated items. Conventional wis- dom suggests that promotions may have a 6.3.2 Retail promotions from a long term per- positive impact on sales of complementary spective items, and could positively affect within-store In the long run, retail promotions may be sales of unrelated items. Evidence from the useful in creating barriers to entry (Walters, literature is mixed. Some studies reveal sig- 1988), and increasing store competitiveness. The latter is closely related to promotional effects on the store’s price image. AS in&- IO Of course, such cannibalization also exists for manufactur- catz6 hy Cox and Cox (1990), consumers ers offering a full line of products. In fact, the promotional often patronize stores based on perc&:ptions effects for retailers and multiproduct m;rnufacturers are quite comparable in several respects. of those stores’ overall price levehl. Price 134 E. Gusbrechts / Prices and pricing research in consumer marketing image becomes an important competitive tool and that stores may find it profitable to use for retailers, not only in the packaged goods “less plausible” reference prices rather than sector, but also for durables. plausible ones, even though the former are Fairly little is known about how price im- “discounted” more heavily in the consumer ages are formed. A number of recent articles evaluation process. (e.g. Tellis, 1987; Cox and COX, 1990; MC- Second, if they want to “adjust” their store Goldrick and Marks, 1985; Buyukkurt, 1986; image, they should make sure to also adapt Feichtinger et al., 1988) provide fragmented store attributes correlated with price. insights on this issue. They point out that, Finally, if a “price exemplar” effect exists, before visiting the store, consumers often use the question remains what products the con- nonprice store attributes as cues in image sumer uses to form store images. Though formation; in particular characteristics such some authors recognize this as an important as product assortment, service, opening issue, very little is known about it at present. hours, interior. Retail advertisements may Feichtinger et al. (1988) model the impact also be important sources of information. of price and advertising on retailer profit in a During shopping trips, consumers may se- convenience goods setting. The effect of store quentially learn about prices, and update prices is twofold. First, prices affect the num- their image. Preliminary research suggests, ber of units bought by consumers presently however, that consumers’ first impressions visiting the shop. Second, in the long run, are very important, and tend to persist even observed prices alter the store’s price image, after exposure to subsequent (sometimes with an influence on store traffic. Store price contradictory) information. This could be due image is modeled as a weighted adaptive to the complexity of the price structure at learning process, where individual products the retail level, the presence of many dis- have varying levels of impact. Under these tracting factors, and the speed with which conditions, Feichtinger et al. derive price and the shopping task must often be performed. advertising policies that maximize long run For the same reasons, some authors specu- retailer profit. Their analysis is based on a late that, in forming or adjusting price im- number of simplifying assumptions (e.g. no ages, consumers will focus on a few products competition, fixed reservation prices for indi- as exemplars of the store’s total price offer- vidual products), and does not empirically ing. This proposition is consistent with the validate the model. practice of supermarkets, which often iden- In summary, the impact of price promo- tify a small number of key products on which tions on store performance is a multifaceted they want to be price competitive, to support and “tricky” issue. There is concern, and a low price image. some evidence, that many retail promotional These observations have important man- activities are not profitable at the store level. agerial implications. First, retailers should be But it is difficult to identify and disentangle very attentive to the price information pro- the effects empirically (see also Section 9). vided in their advertisements, since “sticky” Given the importance of “traffic building”, price images are derived from them, In view more insight might be gained from studies of of the low price knowledge typical of many the role of prices in store patronage behav- consumers, they may find it profitable to ior. announce deals as reductions of a given regu- Many of the problems in evaluating retail lar price. Biswas and Blair ( 1991) suggest promotions stem from the fact that retailer that such reference price advertising will be pricing is “multiproduct” pricing, an area relatively more effective for discount stores, that has been neglected in the past. E. Gijsbrech ts / Prices and pricing research in consumer marketing 135

% Multiproduct pricing %1 Optimal item prices in a line of substitute products Though many pricing decisions take place in a multiproduct context, product line pric- Some recent efforts revisit the problem of ing has received less attention in the market- profit maximizing pricing for substitute prod- ing literature. While in recent years, a num- ucts in an assortment. Carpenter and ber of contributions deal with this topic in a Hanssens (1987) extend the Dorfman Steiner more systematic way, the issue of multiprod- theorem for a monopolist marketing a com- uct pricing has not gained the attention it plete line of products. They take into ac- deserves. count both cannibalization and market ex- Interdependencies between products in a tension effects, and consider the impact of line can greatly influence the consumer’s capacity changes on optimal prices. The au- evaluation of prices and items. This is con- thors provide an application to the Paris- firmed by recent experimental work. Pet- Abidjan air travel market. roshius and Monroe (1987) show that price Bultez et al. (1991) consider the competi- characteristics of the product line interact. tive pricing problem of a manufacturer offer- The consumer’s evaluation of a particular ing a line of substitute items. Competition is model in the line will depend on the range of modeled through an asymmetric MCI speci- prices offered, on the acceptability of the fication, and pricing rules are derived for two highest price, and on the price position of cases: no competitive reaction, and optimal the model in the line. The impact of “rela- (profit maximizing) reaction. The model is tive” price position in a choice set has also illustrated with an application in the Belgian been demonstrated by Huber et al. (1986), coffee market. who find that bracketing (adding a superior Dobson and Kalish (1988) consider the (inferior) item to the choice set so that the problem of product line design and pricing originally considered brand is no longer at simultaneously. Given a number of consumer the boundary of the price-quality contin- segments with perfect information and vary- uum) increases price sensitivity. ing reservation prices, and in the absence of Carpenter and Hanssens (1987) identify competitive reaction, they formulate the two research streams in Marketing/Manage- manufacturer’s problem of product selection ment Science on product line pricing: (i) and pricing. Given the complexity of their approaches that measure market response, problem, solution heuristics are proposed and and then simply compute optimal product illustrated on simulated problems. Applica- line prices, and (ii) economic models, that tions of the model in a real life setting are provide fragmented theoretical insight into discussed. l1 multiproduct price discrimination and quan- The previous models consider lines of sub- tity discount strategies. Some models have stitute products, and mainly differ in their since appeared that can be situated some- assumptions on consumer behavior, competi- where in the middle, as they provide both tive context, and decision variables. They “generalizable” guidelines and empirical evidence. For ease of exposition, we center the II Other models, such as the Defender Approach of Shugan. discussion around the following topics: (i) integrate the problems of price positioning and compcti- determining item prices in a line of substi- tion. Their focus is not, however, on multiproduct compa- tute products, (ii) price bundling, (iii) com- nies. As indicated by Moorthy (1988). the effect of Price competitionbetween firms, and cannibalizatiov within a plementary pricing, and (iv) price/quantity company, on the “best” price-quality strategy, is quite discounts. different. 136 E. Gijsbrechts / Prices and pricing research in consumer marketing provide specific insights into the role of vari- determine both the optimal product line ous factors affecting optimal price levels (e.g. composition and (bundle) pricing for a level of sales interdependence within the line, monopolist, as a mixed integer linear pro- type of competitive reaction, product class gramming problem. A tractable solution pro- sales elasticity with respect to price, individ- cedure is offered for the case where the ual item cost (differences), and may form the number of possible items in the line becomes basis for “rules of thumb” in product line large, and the collection of data necessary as pricing. model inputs is discussed. Like the model of Each of these models assumes that one Dobson and Kalish, the approach of Hanson price level has to be set for every individual and Martin provides an interesting formal item in the line. treatment of a complex problem. Both approaches however rely on some simple hy- 7.2 Price bundling potheses concerning consumer behavior, and disregard competition. The inclusion of more Another possible multiproduct strategy is realistic conditions could greatly enhance the that of price bundling, where two or more computational difficulty, and make analytical products are marketed in a single package at results virtually impossible. a special price. This practice is mainly for complementary items, and its use seems to 7.3 Complementary pricing have increased in recent years. In his integrative scheme, Tellis (1986) suggested that a The complementary pricing problem oc- bundling strategy could be optimal for a curs when a line of complementary products product line manufacturer facing asymmetric is offered. Some products may be sold at a demand. Guiltinan (1987) provides a more loss, which is made up for by the profit on extensive framework applied to bundling complements in the line. According to Tellis, strategies for services. an economic rationale for this type of scheme Bundling can be pure (products available is the presence of transaction costs for (some) only bundled) or mixed (products can be products. Where store visits may imply time bought individually or bundled). In the latter or financial costs, this strategy is well known case, Guiltinan distinguishes between “mixed as “loss leadership”. As mentioned earlier, leader bundling” (one product is discounted some empirical work has addressed the im- when the other is bought at the regular price), pact of loss leader and promotional prices on and a “mixed joint strategy”, where a single store performance,’ but the evidence is far package price is set when the products are from conclll+e_ Fnrthermore, the theoreti- purchased jointly. The objectives of bundling cal foundations for this strategy have not are cross-selling (sell the bundle to cus- been explored in depth in the recent rrarket- tomers who would otherwise buy only one ing literature. Hess and Gerstner (1987) study product), acquisition of new customers (who the effect of loss leader pricing and rain would buy none of the products individually), check policy ‘* on stores’ profit and overall and/or retention (keep customers buying all market equilibria. They find that, under cer- products). Guiltinan lists the price and de- tain conditions, the use of leader pricing and mand conditions under which various bundling programs can be successful. His analysis is conceptual, and considers only I2When a consumer finds that the loss leader is out of stock two services in a product line. Hanson and during his store visit, he receives a rain check which guar- antees that he will get the product at the current low price Martin (1990) provide a formal model to on his next visit. E. Gijsbrechts / Prices and pricing research in consumer marketing 137 rain checks can increase retailer profit ini- Dolan, 1987; Wilcox et al., 1987). Some au- tially, but that competitive reactions may al- thors (Gordon et al., 1991; Day and Ryans, ter the effects of such a policy. Their model 1988; Dolan, 1987) consider discount schemes is interesting, but based on a number of as a useful way of exploiting competitive simplifying hypotheses. Overall, the impact position (e.g. cost structure) and of preempt- of loss leader pricing warrants further re- ing the market. Using Tellis’ terminology, search. quantity discounts may imply different types of shared economies: between various types 7.4 Price / quantity discounts of consumers (through different price sensitivity), between channel levels (the seller and A topic that (re)gained the attention of buyer/retailer share cost savings), or be- some marketing scholars is the use of price/ tween products (production costs, economies quantity discounts (Gordon et al., 1991). In of scale). some sense, price/quantity discounts are re- Developing a price/quantity discount pro- lated to multiproduct pricing, insofar as gram implies decisions on (i) the target cus- smaller or larger quantities of the same tomers (will the discount be offered to all product can be considered as different consumers, or to a select group only)? (ii) the “ package sizes”, and sometimes the volume form of the discount (price reduction or non- required to obtain the discount is calculated price stimulus) (iii) the coverage of the pro- over different products (variants). This type gram, or the qualifying unit base; usually, of strategy is not explicitly mentioned by discounts are offered for one product on a Tellis (1986), but shows some similarities to single purchase occasion. More complex complementary pricing (two part pricing), or schemes, in which units are cumulated over to premium pricing (where companies offer- different products and/or transactions, open ing a line of substitutes take a loss on their up new strategic opportunities (Day and lower priced product versions, and make Ryans, 1988) (iv) the discount schedule; here, profits on their higher priced items), as dis- the price setter determines whether the discussed below. count will apply to all units sold or only to The economic rationale behind price/ units above a minimum. Next, he decides quantity discounts is summarized in a num- upon the complexity of the scheme (the number of recent marketing articles. There are ber of break points). Finally, the depth of different reasons why discount schemes may discount (magnitude of the price cut) is de- lead to seller cost reductions or increased termined. profits. They may serve as a perfect price A number of models investigated the prof- discrimination mechanism in a market with it (and welfare) implications of various homogeneous consumers having inventory schemes, and developed guidelines for the carrying and transportation costs (Dolan, construction of optimal discount schedules 1987), when the demand function is down- (e.g., Dolan, 1987). These models typically ward sloping. Opportunities for partial price include simplifying assumptions, e.g. buyers discrimination are present when the seller are completely informed about prices, have confronts a heterogeneous market, where no bargaining power, and base their deci- heavy users or large quantity buyers are more sions on the Economic Order Quantity price sensitive. Third, price/quantity dis- model; competitive factors, and the possible counts may lead to improved coordination in development of “gray” markets, are ignored. channels of distribution through their impact Recent contributions recognize that the in- on purchase timing (Day and Ryans, 1988; tensity of competition, combined with the 138 E. Gijsbrechts / Prices and pricing research in consumer marketing characteristics of the company’s cost struc- count schedules, but indicate that their im- ture vis-S-vis competitors (fixed vs variable pact may be very complex and needs further costs, economies of scale or experience ef- research, especially in competitive settings. fects), may make or break the effect of a Concluding this section on product line price/quantity discount strategy. “Barriers pricing, it is clear that multiproduct pricing to Resale” (such as high transaction costs) is needs further attention. The recent contribu- another element brought to the attention of tions form an interesting starting point for marketeers (Day and Ryans, 1988; Dolan, further research. A problem that emerges is 1987). Finally, implementation factors should that contributions to date offer valuable in- be incorporated into the pricing decision, sights for specific pricing approaches only, since they may interfere with its profitability. and there is a lack of integration of the Costs of communication or administration different strategies. Real life situations may typically increase with program complexity, call for a mixture of multiproduct pricing as does the possible negative reaction from principles; e.g. “complementary pricing” and salesmen or customers; but very little evi- “price bundling” may be used simultane- dence on these issues is available at present. ously for complementary items. An addi- In summary, recent contributions point to tional complicating factor is that the distinc- the strategic opportunities offered by dis- tion between complementary and substitute

Table 3 Characteristics of recent new product/dym mic pricing models

Kohil and Besanko and Kalish Choi et al. Dhebar and Mahajan Winston (1985) (1990) Oren (1991) (1990) (1985) Competitive situation multiple monopoly monopoly differentiated duopoly monopoly competitors and oligopoly

Time horizon short term multiple periods multiple periods short term analysis multiple periods analysis

Model outcome optimal price price trajectory price trajectory optimal price and price trajectory ( + optimal product position product concept) of new product Cost dynamics no no no no yes (exp. curve)

Demand specification new product re- consumers awareness product choice logit product servation price maximize inter- diffusion model + model, function of attractiveness estimated from temporal utility adoption model price and quality increases with conjoint utility; network expansion demand function (adoption) incorporation estimation error

Reservation yes yes yes no yes Transaction costs no no no no no

Search costs and info no no awareness f no no levels on price with adoption

Quality no no yes no some uncertainty uncertainty/risk on network growth

Price expectations no yc!, IlO no no E. Gijsbrechts / Prices and pricing research in consumer marketing 139 items is not always clear-cut. Whether prod- overview of some recen new product and ucts are complements or substitutes may dif- dynamic pricing models is given in Table 3. I3 fer between consumers, and depend on the Recent contributions extend the previous lit- “scope” of the analysis. In deciding on ap- erature mainly along two lines by (i) more propriate pricing strategies, it matters to rec- extensive modeling of underlying consumer ognize the full complexity of product interde- behavior, and (ii) paying explicit attention to pendencies, and to judge the relative impor- competitive reactions typical in new product tance of “countervailing” (substitute or com- settings. Both aspects are considered in turn. plementary) forces in the light of the company’s pricing objectives. 8.1 Consumer reaction to new products: The black box ajar

8. Dynamic/new product pricing A first set of models elaborates on the dynamic pricing literature by modeling the In the context of diffusion models, Blitzer underlying consumer behavior. Kohli and (1984) suggested the development of optimal Mahajan (1991) propose a model to deter- pricing strategies over time, as a fruitful area mine profit maximizing prices for new prod- for investigation. Recent contributions have uct concepts screened by conjoint analysis. taken up this suggestion. In contrast to price promotion models, they deal almost exclu- l3 These models are briefly analyzed below. A more extensive sively with durable products. A schematic discussion can be found in Gijsbrechts (1992).

Eliashberg Smith Nascimento and Moorthy Rao and Horsky Dockner and and Jeuland f 1986) Vanhonacker (1988) Bass (1990) Jorgensen (1986) (1988) (1985) (1988) successive multiple monopoly differentiated undifferentiated monopoly (differentiated) monopoly competitors duopoly oligopoly oligopoly and duopoly periods multiple periods multiple periods multiple periods multiple periods multiple periods multiple periods multiple periods price trajectory single price, LT price trajectory static price equili- price trajectory price trajectory price trajectory optimum brium and product positioning no yes no no experience curve experience curve experience curve (exp. curve) aggregate consumers choose aggregate consumers choose aggregate aggregate aggregate diffusion diffusion product with max diffusion product with max diffusion diffusion type models model with surplus/ and for copies surplus model with market model with saturation effect demand = and for copies saturation and/or saturation effect ffpenetration) and word of mouth word of mouth

yes yes yes marketf different types no copying cost no potential = of adoption fiprice, income); (word of mouth) no no no word of mouth effects reflects uncertain- considered: f f , - , 0) no no no ty, expectations, awareness

no no no 140 E. Gijsbrechts / Prices and pricing research in consumer marketing

Each individual’s reservation price is deter- duction (piracy). High product prices tend to mined by his (multiattribute) utility for the encourage piracy, resulting in an opportunity new concept, in relation to his most pre- loss for the manufacturer; profit maximizing ferred product in the currently available price trajectories are then derived using opti- evoked set. Besanko and Winston (19%)) mal control theory. Smith (1986) determines consider the problem of optimal dynamic the optimal price level for a new durable pricing for a monopolist facing rational con- product in a market where competitors with sumers who maximize intertemporal utility. varying quality and market penetration level In each period, the consumers weigh the are already present. Each consumer selects benefits of buying at the observed price, and the product that maximizes his surplus, which buying in the future, under the assumption in turn depends on item price, quality and of rational behavior by both the manufac- market penetration level. Horsky (1990) con- turer and other consumers. Holak et al. siders a framework where reservation prices (1987) investigate the role of consumer price (hence, the potential market) for a new expectations in the adoption of innovative durable are a function of product benefits, consumer durables (e.g. PCs, video). They and of consumer income. The probability find that consumers incorporate these expec- that dn eligible consumer buys at a certain tations into their purchase intention (in line point in time (implicitly) depends on his level with previous models), but in a very simple of awareness, on quality uncertainty, and on way. This observation is consistent with the price expectations, which are related to the conce:Jt of “limited consumer rationality” level of adoption. In all these models, dy- discussed in Sections 4 and 6. Kalish (1985) namic pricing is triggered by demand hetero- introduces uncertainty about product perfor- geneity and “shaped” by the characteristics mance in the consumer’s choice behavior. of consumer behavior, which have a consid- New product adoption is modeled as a two- erable impact on optimal pricing patterns. stage process: the consumer first becomes In all the foregoing models, consumers are aware of the product (i.e. of search at- assumed to have complete knowledge of cur- tributes) through advertising and word of rent prices, and to exhibit rational behavior. mouth. Next, he adopts if the risk-adjusted Cost dynamics are not included. A further value exceeds the selling price; uncertainty simplifying assumption is that competition is about product performance (experience at- absent or does not react; the impact of the tributes) is reduced as the number of adopted pricing strategy on market entrance adopters increases. In a similar vein, Dhebar by potential rivals is also disregarded. In and Oren (1985) analyze dynamic pricing for 1984, Markham and Little already men- a monopolist marketing a new product or tioned this lack of consideration of competi- service whose utility increases with the ex- tive issues to be a severe limitation, and pansion of the network of adopters. The stressed the crucial impact of competitive analysis is relevant for many new product behavior on price decisions. Some authors situations (e.g. telecommunications). In its have tried to fill this gap, as discussed next. present form, however, it is still rather simple: consumers can leave the network with- 8.2 New product pricing: Ready for the com- out cost, as a consequence of which price petitive battle anticipations do not affect adoption. Nasci- mento and Vanhonacker (1988) consider the Table 3 indicates which models consider pricing problem for a consumer durable that compctitivc forces in a new product setting. can be obtained through purchase or rcpro- Rao and Bass (1985) extend the problem of E. Gijsbrechts / Prices and pricing research in consumer marketing 141 dynamic pricing to an undifferentiated contributions should be supplemented with oligopoly, and investigate Nash equilibrium pragmatic observations and guidelines for price paths under various cost and demand dynamic pricing. An effort in this direction is conditions. Eliashberg and Jeuland (1986) made by Stern (1986, 1989), who recognizes look at dynamic pricing for a new durable in that differences in competitive position are two subsequent stages: the monopoly period, primarily determined by only a few factors. If and, after competitor entry, the subsequent it wants to respond successfully to (the threat duopoly stage. Moorthy (1988) considers the of) competitor entry, a company must iden- case of two identical firms, which sequen- tify the key differences in competitive tially enter the market and compete on prod- strengths and weaknesses. It should then es- uct quality and price. They face consumers tablish a price structure that distinguishes who are perfectly informed, prefer high to between those customers and products for low quality, and differ in their willingness to which its position is threatened, and those pay for quality. The analysis is limited to the for which it is secure. An example would be static duopoly; only equilibrium levels of price an airline setting prices by route without and quality are considered. Typical of this regard to route length. Such a price structure contribution is that it treats the problem of could reflect the ability of low cost carriers to pricing and product positioning simultane- be more competitive on denser routes. This ously. This is also done by Choi et al. (1990), will allow for flexible and selective adapta- who extend the analysis to a multidimen- tion of price levels in response to a competi- sional characteristics space. They derive the tive entry (or change in strategy). Such flexi- Stackelberg-Nash equilibrium price and ble strategies appear particularly rewarding product position for a new entrant, anticipat- in markets characterized by high percentages ing short term price reactions by incumbents. of fiied costs, and by short-lived inventories. Dockner and Jorgenson (1988) analyze opti- The author provides several real life exam- mal price trajectories for oligopolists, and ples that support his view, and the frame- suggest that when imitation or cost learning work of Tellis (in a dynamic competitive set- effects dominate, dynamic prices are below ting, price structures that exploit competitive the static levels. If saturation effects are rela- position might be of particular interest). tively important h/owever, dynamic price lev- Crucial here is the (often limited) ability els will be higher than those chosen by a of a company to assess potential competitive myopic oligopolist. responses. The normative models discussed We conclude that dynamic pricing models above unrealistically assume that rivals act clearly demonstrate the impact of antici- with full information and rationality. In a pated competitive reactions on optimal recent article, Coughlan and Mantrala (1992) strategies; unfortunately, the results remain show that “full information” model predic- highly fragmented. Each model exhibits dif- tions are not robust to informational limita- ferent specific characteristics and simplifying tions; when competitors are not fully knowl- assumptions. It seems that developing a gen- edgeable about their rivals’ optimization eral model of dynamic pricing will not easily problems but update their information over yield clear analytical results, and will necessi- time, the nature and the timing of the price tate recourse to simulation or computation. equilibrium may be strongly affected. They Also, more documentation is needed of dy- call for approaches that: “. . . better capture namic pricing processes that prevail in prac- the incomplete information facing a firm in a tice, and of dynamic conditions on the cost competitive marketplace”. and demand side. The “normative” modcling The recent literature is charactcrizcd by a 142 E. Gijsbrechts / Prices and pricing research in consumer marketing growing attention to estimating competitive Traditionally, more emphasis has been reaction functions empirically (for a discus- placed on the last levels in this hierarchy, the sion, see e.g. Cooper and Nakanishi, 1989; measurement of the price impact on pur- Hanssens et al., 1990; Alsem et al., 1989). chase intentions or sales. From the foregoing Desarbo et al. (1987) emphasize the “inertia” discussion, it appears useful to investigate that naturally exists in price change deci- initial or intermediate price reactions. In- sions, and propose a “friction” model with a deed, it has been argued that varying levels threshold for both price increases and de- of price awareness and knowledge, and per- creases. An analysis of the PIMS data by ceived price-quality associations, provide the Robinson (1988) suggests that competitive rationale for different pricing strategies. reactions (to a new market entry) may be much less aggressive than suggested by many 9.2 Measuring price effects: A tricky issue “normative” models. These contributions provide the start of an extremely relevant The measurement of price effects m gen- line of research. A systematic approach to eral, and the assessment of sales price elas- the assessment of (dynamic) competitive re- ticities in particular, is not an easy task. rom action functions, and their impact on appro- the (recent) literature, a host of complicating priate pricing schemes in different settings, factors emerge. The following key issues can seems interesting to pursue. be identified: (i) Dynamics. Price effects are dynamic in many ways. Reference Price Theory sug- 9. Measurement of price effects gests that consumer price perception and evaluation may involve comparison with past The development and monitoring of ap- or (anticipated) future prices. Reactions to propriate pricing strategies requires some temporary price cuts may be different from quantification of price effects. In this section, those caused by regular price changes. Adap- we summarize some implications of the fore- tations of price strategies could cause sales going discussion on price impact measure- displacement over time; they may also trigger ment, and briefly (re)consider alternative competitive reactions. Finally, price evalua- methods in pricing research. tion and sensitivity may greatly alter over the product’s life cycle. Accounting for (all of) 9.1 A hierarchy of price effects these dynamics constitutes a real challenge. (ii) Impact of choice context. As empha- Recent marketing contributions structure sized by Krishnamurthi and Raj (1991)’ the the influence of price in a number of steps: consumer’s purchasing decision involves both as with the “hierarchy of effects” for adver- a quantity and a choice aspect. Depending tising, we can distinguish different “stages” on the salient purchasing component, abso- in the consumer’s reaction towards prices lute or relative prices may be more relevant. and’ price changes. As indicated in Fig. 1, If relative prices are used, appropriate selec- objective prices are translated into price per- tion of the “evoked set” of competitive prod- ceptions. These, in conjunction with other ucts is an issue. In addition, and especially influencing factors, form the basis for price for consumer goods, store choice and prod- evaluation. Depending on the outcome of uct selection may be closely linked, and (rel- this process, the consumer may intend to ative) store price image may complement or purchase the product, which may finally re- dominate item price effects. sult in a purchasing act. (iii) Interaction with other marketing mix E. Gijsbrechts / Prices and pricing research in consumer marketing 143 variables. Recent articles provide evidence of tributes, measures of perceived risk and risk interdependencies between price and adver- aversion, considerably “colour” consumer re- tising/promotion, quality/brand position, actions to objective prices. and distribution. The magnitude and even These issues (our list is not exhaustive) direction of these interactions may be highly make the assessment of price effects a most context specific, and depend on nonprice difficult undertaking. marketing mix activities. As pointed out by Tellis (1988) and implied by Sethuraman and 9.3 Approaches to the measurement of price Tellis (1991), this inhibits their measurement effects in practice, and places severe requirements L t: data. (iv) Consumer heterogeneity. It has become Various methods have been proposed to obvious that consumers cannot be treated as estimate price effects. In very general terms, homogeneous. Individuals exhibit strong dif- we distinguish between (i) methods involving ferences in terms of price awareness and primary data collection, through surveys tir knowledge. “Total” price levels, including experiments, and (ii) approaches relying on e.g. search and transaction costs, and non- historical information concerning prices, monetary elements, also vary considerably sales, and possibly other variables. Depend- between consumers, and affect their reac- ing on the level of measurement, different tion. Differences in sensitivity to perceived approaches may be appropriate. prices explain many of the buying patterns and pricing strategies observed in practice. 9.3.1 Analysis of price perceptions Hence, identifying consumer segments is thus Studies on price perception (awareness, a relevant task. encoding, knowledge) require the collection (v) Impact of psychological factors. Psy- of data from consumers. As indicated in Sec- chological elements (hard to quantify) may tion 4, the conditions under which data are mediate the “creation” of price effects. The obtained as well as the measures used, greatly use of specific price endings, the deriva+‘>n differ between applications, and affect the of “price beliefs” from higher order at- results. The discussion of which approach or

Table 4 Overview of experimental pricing research methods a

Monadic Competitive Direct statement Indirect study Sequential choices Random choices of price thresholds of price acceptance Direct questioning Random test of Brand price dual Random shop situation approach buying response matrix (Sampson, 1977) (Granger and Sowter. 1970) (“Psychological pricing”) (Gabor and Granger, 1965) (Stoetzel, 1954)

Buy scale Magnitude scaling Brand price-tradeoff Simulated shopping (Lodge, 1981) (RBL, 1979) experiments

Price sensitivity meter Price categorization Conjoint analysis (van Westendorp, 1976) (Monroe, 1981)

Source: Adapted from Marbeau (1987). ‘I For a description of these methods and a complete overview of the original references. .see e.g. Marbeau (1987) and Monroe ( 1990). 144 E. Gijshrechts / Prices and pricing research in consumer marketing setting is most -ppropriate has only just measuring price effects: “ . . . (i) the informa- started. tion in the interview should be comparable to that in a true purchase situation, (ii) the 9.3.2 Experimental research on price ecaha- choice op*,ians should be clearly delineated, lions and purchase inten tigns and (iii) the respondent should be able to With price evaluation and purchase inten- quickly evaluate the alternatives on the basis tions as the variable of interest, a whole of available information”. range of research techniques can be applied. This leads us to an overall evaluation of A brief discussion of these approaches can experimental approaches. In general, these be found in Marbeau (1987) and in Monroe methods have the advantage of allowing for (1990); Table 4 provides a overview. Some of individual level ana ysis in a highly controlled the methods (e.g. the price sensitivity meter setting, in which a ariety of qualitative and suggested by van Westendorp, the direct quantitative factors can be manipulated. In questioning approach developed by Stoetzel) addition, experime ts can handle not only refer to very specific instruments that have “existing” products, but also new product existed for a long time. Others, such as con- (concepts) that are ot yet commercialized or joint measurement or simulated shopping, even manufacture On the negative side, refer to broader lines of questioning or ex- the potential of these methods for identifying perimental settings, within which several dynamic price s seems rather limited, variants have (recently) been developed. The since repeated and questioning make techniques mentioned in table 4 are typically the task tedious a the experiment lengthy. applied in a laboratory setting. Also, several t o external validity may A major distinction between these meth- compromise the results. The experiment ods is the type of decision presented to the could artificially increase the respondent’s consumers. The approach is either “mona- price awareness or sensitivity, especially if dic” (the consumer evaluates one concept), more direct questioning is used. Given the or “competitive” (the respondent chooses a observed lack of price knowledge, thif may product out of a given set). Another aspect is be an important problem. Also, stated pur- whether the approach is direct or indirect; chase intentions may be bad indicators of i.e. whether the consumer is asked openly real purchase behavior. about his attitude towards prices or the pur- However, recent progress in data collec- pose of the research is less obvious, for in- tion and analysis has improved the applica- stance because various price levels are pre- bility and relevance of experimental ap- sented ina__ random order. Further differences proaches (and more specifically Tradeoff relate to cost and frexibiiity, and to the link analysis). Blamires ( 1987) mentions Com- of the experiment with actual purchase situa- puter Aided Questioning (which limits the tions. respondent’s task, and renders it more realis- Recent articles (Puliyel and Ravi, 1990; tic), the tendency to consider individual- Blamires, 1987; Marbeau, 1987) seem to fa- tailored evoked sets and the possibility of vor the Tradeoff or Conjoint approaches over dca!ing with multi-unit or multi-brand pur- monadic methods in terms of reliability and chases. validity of estimated effects. The type of product and purchasing situation involved 9.3.3 Econometric assessment of price elastici- affects the appropriateness of various mcth- ties ods. Blamires points out that for Tradeoff Direct asscssmc t of price elasticities is analysis to be a rclcvant instrument for typically based on cconomctric analysis of E. Gijsbrechts / Prices and pricing research in consumer marketing 145 historical information. Traditionally, aggre- effects (e.g. Moriarty, 1985; Bolton, 1989a; gate (as opposed to individual level) data Walters, 1991; Walters and McKenzie, 1988). have been available for this purpose. Recent Given that interactions may be important, meta analyses by Tellis (1988) and Sethura- caution is needed. Several transformations man and Tellis (1991), as well as other em- have been suggested to technically overcome pirical studies (e.g. Bolton, 1989a, b) provide collinearity problems (e.g. Cooper and interesting insights into the impact of prob- Nakanishi, 1988), but the appropriate inter- lem-specific and environmental character!stics pretation of the transformed effects should (e.g. type of product, stage of life cycle, geo- be considered. Natural experiments may be graphical setting, promotional activity in the needed to discern price effects from other category, . . . ) on the level of price elastici- influences. ties. The level and type of data aggregation de- These studies also point to a number of serves specific attention. Monthly or bi- pitfalls. Measured price effects may depend monthly data cannot distinguish between on (i) the functional form chosen for the regular and promotional price effects, while sales response curve, e.g. linear, multiplica- the literature reveals that promotional price tive, other, (ii) inclusion of other explanatory cuts normally result in more negative short variables (e.g. quality, advertising, distribu- term elasticities (e.g., Bolton, 1989a; Bem- tion, trend or seasonal dummies), (iii) the maor and Mouchoux, 1991). Temporally dis- type of data (time series versus cross-sec- aggregate scanner data may overcome these tional, periodicity), (iv) the measure for the problems, but the accuracy and representa- dependent variable (e.g. sales, market share), tiveness of these data in a European setting (v) the definition of the price variable (ab- is still far from perfect. Market (as opposed solute versus relative, real (deflated) versus to store) level information ignores important nominal, unit price versus price per pack, differences between retail outlets in price regular versus promotional price level). Each level, product assortment, and customer pro- option concentrates on (or omits) aspects of file as well as their impact on estimated price the multifaceted price impact, and yields dif- effect. Both manufacturers and retailers may ferent results. Researchers and practitioners find it in their interest to consider data at the should be aware of this before using esti- channel type or even store level to avoid mates as a basis for price setting. aggregation errors of this type (e.g. Vanden The opportunities for identifying dynamic Abeele and Vanhuele, 1988; Marbeau, 1987). price effects, for assessing marketing mix in- Finally, market (as opposed to individual teractions, and for dealing with consumer level) response functions forego the hetero- heterogeneity or psychological factors, will geneity and complexity of consumer behav- strongly depend on the characteristics and ior, and may lead to unjustified predictions. quality of the data set. As suggested by some of the reviewed contri- Typically, time series data lack price varia- butions, consumers may adapt their behavior tion, making it hard to obtain reliable esti- when facing a change in price strategy, and mates of price effects. Using cross-sectional this may result in altered price elasticities at (between brand) differences to assess the the market level. Many recent empirical price impact is not a “perfect remedy” here, analyses take advantage of the availability of since a different type of sensitivity may be (scanner) panel data to study individual or measured (Tellis, 1988). segment level reactions to price changes (e.g. Multicollinearity often prevents US from Grover and Srinivasan, 1992; Lattin and disentangling price and other marketing mix Bucklin, 1989). 146 E. Gijsbrechts / Prices and pricing research in consumer marketing

As indicated below, further exploration of The creative use of price structures requires scanner panel information and individual a strong understanding of consumer valua- level studies constitute, in our opinion, a very tion, of competitive position, and of cost fruitful and promising line of research. behavior (Stern, 1986). As stressed by Cough- lan and Mantrala (1992), complete information is seldom available to companies, which 10. Conclusion-directions for future re- may be confronted with conditions in which search a mixture of pricing strategies is necessary. More than the basic pricing principle has to The last six years of pricing research in be decided upon: the manager must set con- marketing have provided valuable new in- crete price levels, which are in line with sights as well as confirmed previous beliefs. other elements of the marketing policy. The The recent literature forced both marketing practical control and administration of these managers and scholars to better recognize complex pricing schemes is a still different the full complexity of the pricing problem, and complex matter. implying that more “advanced” pricing There is a gap between the “state of the schemes may be called for to exploit profit art” on pricing in the marketing literature, opportunities in the market. As Stern (1986) and managerial practice. While the strategic puts it: “. . . managers who merely set price (planning) literature pays attention to com- levels rather than explicit price structures for prehensive pricing guidelines, marketing con- their products deprive themselves of a valu- tributions seem to fall somewhat short. An able strategic tool”, and “As markets be- attempt at developing a strategic pricing come increasingly competitive, the flexibility framework for managers is provided by Can- imparted by more complex price structures non and Morgan (1991). Their ideas are in- can only grow in value”. teresting, but the pricing strategies they con- There has been an improvement and shift sider and the rules they provide remain very in attention to the theoretical foundations of general and (overly) pragmatic. A fruitful pricing strategies. Many papers shed light on area for future work is the development of the principles behind typical pricing strate- knowledge based pricing systems to help gies, and identify market conditions that managers decide on appropriate pricing make these profitable. Empirical research schemes in their particular situation. The proves the relevance of these conditions in knowledge base behind such a system could many markets, and heips managers to iden- draw upon managerial experience as well as tify their situation. Still, as John Little puts on empirical and theoretical insights. it, “there is little risk of running out of pricing problems”. Indeed, though recent 2. Continued empirical research on consumer contributions have provided interesting price sensitivity. There is a need to further frameworks and more detailed insights, many explore consumer price sensitivity in differ- issues remain unresolved, and new problems ent situations. In doing so, it seems particu- are uncovered. larly valuable to combine various approaches Future research may concentrate on the and information sources. following topics: Analysis of aggregate response functions (e.g. using store or market level scanner data) 1. Development of managerial guidelines for in different markets remains very valuable, pricing. The complexity of pricing may lcavc since it provides managers with objective managers helpless to face real lift decisions. elasticity figures. Many data sources, espe- E, Gijsbrechts / Prices and pricing research in consumer marketing 147 cially at the retail level, are underutilized, recent work. Empirical analyses suggest that and more insight is needed into the sales many practitioners use competitive prices as response and profitability of actual pricing a benchmark for their own decisions (Abratt strategies. As argued in Section 9, one should and Pitt, 1985). Model based, normative con- handle such estimates with caution. tributions confirm the relevance of anticipat- The assessment of price elasticities from ing competitive moves for optimal pricing. historical data should continue, but may ben- Though the importance of competitive inter- efit from additional insights into consumer actions is clearly accepted, their impact on behavior obtained in experimental settings. practical pricing rules needs further exami- Simulated purchase situations and protocol nation. Theoretical models are often re- analysis could clarify the role of price in the stricted to the duopoly case, and in many decision process for different types of prod- instances assume fully informed companies ucts and consumers, while external validity of and optimal competitive reactions. these findings can be obtained through Empirical evidence on how rivals react in econometric analysis of historical data. real life settings is now emerging but far from complete. More attention is needed to 3. Increased attention for the role of retailers the patterns of competitive price reaction (intermediaries). Pricing research in market- typical for different markets or product ing has begun to recognize the crucial role of classes. retailers in the development of pricing strategies. The following issues need to be 5. Multiproduct pricing. Previous reviews further explored: stated that pricing a product line or even a (i) Interactions between manufacturers wide product assortment (certainly for the and retailers in pricing decisions. Manufac- retailer) poses very particular pricing prob- turers, especially the smaller or less powerful lems and opportunities. The striking feature ones, should concentrate more on developing of multiproduct research is its scarcity. Only appropriate pricing strategies towards retail- very few models pay attention to competitive ers or distributors and take the reaction of interactions (this is somewhat curious, since these middlemen into account in setting con- market preemption is recognized as one of sumer prices. The role of the retail account the possible purposes of a product line sttat- manager and/or salespeople may be impor- egy). Further insight is needed into the psy- tant in price negotiations in the channel (e.g. chological and behavioral impact of product Lal, 1986; Hardy, 19861, and needs attention. line prices on consumers in the presence of (ii) The profitability of pricing strategies other choice determinants (brand name, at the retail level. Theoretical and empirical package size, taste, quality level, etc). At the insight is needed on the impact of price same time, empirical evidence on cannibal- strategies on intra- and interstore brand sub- ization (substitution) and complementarity stitution, and on sales of complementary under different pricing strategies needs to be products. The role of price in store choice collected, and can seme as a basis for practi- and the formation of store price images cal pricing guidelines. should be further investigated, since they are closely linked to retailer profitability. References 4. Research on strategic pricing and competi- Abraham,M. and I_. Ldish. lYH7. Promotor: an sxpert Pro- tive price reactions. The importance of com- motion cva)uation system. Marketing science 6 (2). loI- petitive conditions is widely supported by 123. 148 E. Gijsbrechts / Prices and pricing research in consumer marketing

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