What Is Penetration Pricing? – Episode 8
In this episode of Pricing College – Aidan and Joanna discuss penetration pricing and whether it is a smart way to grow a business – or could it create problems down the line?
TIME-STAMPED SHOW NOTES:
[00:40] Joanna explains that new entrants can favour this tactic.
[01:00] Aidan says we may focus on a low price to win market share.
[01:50] Some companies need to hit a break-even volume – and penetration pricing can help them.
[02:30] Not everyone buys on price – many people buy on value.
[02:50] Is it a tester – or intro concept to win more market share?
[03:20] Joanna says it can be very difficult to increase prices once customers have had low prices.
[04:30] Some new entrants have been able to enter a market at a higher price.
[05:40] Are people actually bored of existing products and so they’re shopping around?
[06:20] Purchasing can be a habit.
[07:15] Always ask what is the strategy – is it simply market share?
[08:50] Always ask what is the strategy – is it simply market share?
In today’s episode we want to talk about what is a penetration pricing strategy?
Basically, it’s when you have a new entrant in the market where the products are fairly similar to other products out there already. But they also want to break into the market. They’re gonna do so by taking somebody else’s market share. Maybe one of the bigger players.
When we are talking about capturing market share in this instance, we’re generally thinking about pricing at a rate so competitive. Or also thinking probably a low price that will make these other competitors cheaper. In a way, seeming to be a similar product that people can make an immediate switch for and save money.
That’s the assumption in this strategy. If we break into a market, you do need to sort of drop prices to be competitive, to be seen, be noticed, and a differentiator. Other people would have argued that this strategy possibly isn’t the best pricing strategy to take. That’s even if you are a new entrant that wants to break into the market.
Obviously, if the company launches a new product, a new service or even the company itself in many instances, there’s a certain volume required for the company to be viable. Whether that’s producing enough products, using the factories, or fixed assets that you have. You need to hit a certain rate or amount of products being sold just to be break-even before your cash runs out as a company. Getting to that position quickly can be a key target for many companies.
But market differentiation isn’t always based on prices. You have to personally think about the product and the product’s innovation. Also, you need to know that your product, be it similar to other people’s products, has to have an edge. It has to have a difference to capture people’s attention. Then, think about the pricing because research has shown that by dropping pricing too low you don’t necessarily break even. You don’t get the numbers that you want because not everybody buys on the price they buy on value.
Yes. From my perspective, if you think about a marketing approach, a lot of people may think that their product is great. That it’s better than other ones in the market. If people get a test of it, they will continue with it in the future. Now, whether it’s a loss later is a different question. But a very competitively low priced offer for the introductory fears to get that mass-market testing experience. They may think that will lead to longer-term referrals, longer-term sales, and wider market who can review it etc.
True. At the same time, it’s very hard to increase prices once dropped to a certain level. So then, you could have a great product that you spent a lot of money on. And it’s very different from your major competitor’s product. But then you’re underselling yourself and you’re forever struggling to increase prices and justify the value.
One thing I think anyone who’s ever worked in a pricing role will understand is the difficulty in getting to a price rise. Whether it’s an annual price rise, a price adjustment, or whenever you want to phrase it.
Customers who are used to paying a dollar, tend not to want to pay a dollar fifty. If you start off your users, consumers, and whoever purchased that product or service at a certain price, then changing it can be challenging. Coming back to them after six months or a year saying that ‘You know what? We’re actually going to jump that price,’ the response you get may not be what you hope for.
This could be a failing of the penetration strategy argument. The assumption is that you can easily just increase prices and the market won’t mind. In truth, it’s just not the case and many prices will tell you that. But there are some good examples of new entrants that have come into the market with similar products. They have been able to justify more above-average prices.
One of them is a competitor to Doritos and they’re called Harvest Snaps. I don’t know if you’ve had them, Aidan, those dried peas and lentils salty snacks. They’re very popular, very similar, and a competitor to Doritos but command a higher price even though the weight and the package are smaller.
To be honest, I have had them and I have enjoyed them. I think what I’ll say is, do people purchase products based on purely low prices? Or is it the features, benefits, and value or whatever it is with that product?
In the instance of salty snacks, are people buying them for a cheap price? Or do they enjoy buying them as an alternative? Is it even just because the product has been positioned in a convenient location on the shelves in their local supermarket? Are they also just bored of their incumbent? And ease the product you’re buying now isn’t a direct competitor for what’s there.
In penetration pricing, you could also have that system whereby it’s a completely new product that nobody’s seen before. And they don’t want to take a risk on it. But if you can give them a test at a low rate that doesn’t hurt that pocket then you may be successful. Also, you may grow that market share.
People may think that I love this new type of salty snacks as we talked about. And I might continue buying it even at a slightly higher price. Now, the other thing to bear in mind is once you become used to purchasing something in the supermarket at a dollar. When you or the kids want it after a while, you probably don’t even look at the price.
It becomes a habit. I think with the Harvest Snap example, they came in a good time. Consumer sentiment now is much more in favour of healthy eating. However, people still love salty snacks and we know that obesity is still on the increase. People are still consuming fatty goods. At the same time, people want healthier alternatives. So, that came in on that sort of site geist and they were able to get and claim that additional price premium. At the same time, they take their market share which is the objective of the penetration pricing strategy.
I think in all things pricing in business, you have to consider why you’re doing something. What is the strategy behind it? Then, once you have the strategy, you look at the tactics to implement.
Often, there’s no right answer. But you have to know why you’re doing it and what you want to achieve from it. Penetration pricing sometimes can go alongside market share objectives. That’s where a lot of companies still have and it’s almost a chest-beating concept.
Basically, they want to have the largest share in that market and that’s the point of pride. Even if they’re losing money. You’ll see that in any industry, from the automotive industry, traditionally, to pretty much anything. It’s asking:
What does your company want to achieve?
Is this a suitable tactic?
Does it work?
That’s right. You can’t just apply a strategy verbatim as they say. You’ve got to customise it and look at the market. Then, your customer base will tell you how you should customise any sort of theoretical strategy.
I’ll finish off by saying if you’ve got a product or service that is great and people want it, that will improve their lives and give them value. Selling it at a too low price can’t be the right idea unless you have to get acceptance. Or when people have something holding them back from trying it. At times, price is what’s holding them back. If that’s what your market intelligence tells you, potentially that’s the right option. Otherwise, always ask some more questions.
This is what prices do. Looking at optimal pricing and ask, what is the best price? Yes, it could be low but, does it have to be the lowest? That’s the question. And this is what you’ve got. You’ve got to test but don’t test with rock-bottom price first. This is because you’ll find it incredibly difficult to get the price back up. And then you’ll forever be thinking “I’ve undersold myself.”
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