Price Skimming Research Articles

Skimming or penetration: optimal pricing of new fashion products in the presence of strategic consumers

Pricing for new products is usually a difficult task for a firm, for there always exists uncertainty of consumers’ valuation with respect to the new products. Moreover, the presence of strategic consumers even complicates the situation, due to their inter-temporal purchase choice behavior and their uncertain proportion in the whole demand pool. In this paper, facing the twofold uncertainty, we develop a stylized model to study the optimal pricing for new fashion products in the presence of strategic consumers. The optimal pricing strategy for the firm and the optimal purchase timing for strategic consumers are obtained; a framework is also built to investigate the expected value of demand information. Through numerical studies, we find that the price skimming strategy dominates the penetration strategy only when the firm’s discount factor is large enough, consumers’ strategic purchasing behavior diminishes the firm’s ability to adopt skim pricing, and the revealing strategy is most valuable when the firm is (almost) indifferent between skimming and penetration. In addition, some other managerial insights are also derived.

Product bundling or reserved product pricing? Price discrimination with myopic and strategic consumers

Mixed bundling (MB), in which products are sold separately and as a bundle, is a form of second degree price discrimination. In this study we examine how MB and its variants compare against reserved product pricing (RPP), a form of co-promotion. Used by Amazon.com, among others, RPP consists of the firm offering individual products and then enticing single product buyers with a discount on the second product. Our analytical model has a monopolist offering two products to a mix of myopic and strategic consumers. We find that as long as the market consists of a “modest” fraction of myopic consumers, RPP is more profitable than mixed bundling and its special cases. We also present pricing results under RPP. An extension shows that RPP can also be more profitable than a form of price skimming. Limitations and future research directions are discussed.

The impact of price skimming on supply and exit decisions

Stochastic inventory control theory has focused on the order and/or pricing policy when the length of the selling period is known. In contrast to this focus, we examine the optimal length of the selling period—which we refer to as market exit time—in the context of a novel inventory replenishment problem faced by a supplier of a new, trendy, and relatively expensive product with a short life cycle. An important characteristic of the problem is that the supplier applies a price skimming strategy over time and the demand is modeled as a nonhomogeneous Poisson process with an intensity that is dependent on time. The supplier's problems of finding the optimal order quantity and market exit time, with the objective of maximizing expected profit, is studied. Procedures are proposed for joint optimization of the objective function with respect to the order quantity and the market exit time. Then, the effects of the order quantity and market exit time on the supplier's profitability are explored on the basis of a quantitative investigation. Copyright © 2014 John Wiley & Sons, Ltd.

Innovative Growth Strategy Based on Nanotechnologies

The role of innovation in the transition from an industrial to a neo-industrial economy is examined within the context of modernization of the Russian economy. The article shows the importance of knowledge economics and the development of nanotechnologies against the backdrop of globalization. A theoretical foundation for determining the utility, value, and price of high-tech products is established based on Porter’s universally recognized theory of competition between companies, industries, and nations in the age of globalization. The article identifies the main characteristics of high-tech markets for innovative products: primarily oligopolistic (more rarely, monopolistic); dynamic, innovative, and science-intensive; high-risk and capital-intensive; characterized by relatively long investment recovery periods. In modern economics, it is best to regard innovation itself as a commodity and to use Porter’s methodology to establish the theoretical foundation for determining the utility, value, and price of high-tech products. “Price skimming” and “penetration pricing” are examined as strategies for introducing nanotechnologies.

An evaluation of marketing strategies undertaken by Coca Cola Company as a multinational corporation in Nigeria

This research tend to evaluate the marketing strategies make use of by Coca Cola Company in Overseas market particularly Nigeria. The four (4) basic marketing strategies which are commonly called the 4ps which denote price, product, promotion and place are exceedingly used by Coca Cola Company in Nigeria. Coca Cola Company strategy of sales was price penetration where low price are charged and the company attends large market as possible. Unlike price skimming where higher price are charged. Product strategy was strongly applied such as the modification of its product as well as after sales services which all help to facilitate the marketing of the product. Promotion strategy which includes the sales promotion, technological change and advertisement were all used by coca cola Company in the marketing of its product in Nigeria. Finally place strategy which involve selection of distribution channels, transport arrangement etc which are very essential to the corporation was used. For example coca cola Company have twelve (12) factory plants, sixty (60) depots and over four hundred thousand (400,000) dealers or retailers of coca cola product in Nigeria.

Stochastic competitive entries and dynamic pricing

How should firms price new products when they do not know the timing, nor the nature of the next competitive entry? To guide managers’ pricing decisions in such contexts, we propose a dynamic pricing model with two types of randomly timed entry, i.e. imitative and innovative. The characterization of the equilibrium strategies reveals how optimal prices vary with the manager’s knowledge about the timing of future competitive entries. We show that price skimming is not always optimal when entry dates are unknown to managers. Everything else equal, we demonstrate that the randomness of competitive entries make forward looking managers to choose constant prices, even though the characteristics of the market would have justified skimming the demand in the normal course. Moreover, we show that the constant pricing policy remains optimal even when the incumbent’s optimal pricing strategy influences the probability of facing a competitive entry. Finally, we find that uncertainty does not necessarily hurt firms’ profits.

Product development capability and marketing strategy for new durable products

Our objective is to understand how a firm's product development capability (PDC) affects the launch strategy for a durable product that is sequentially improved over time in a market where consumers have heterogeneous valuations for quality. We show that firms' launch strategies are affected by the degree to which consumers think ahead. However, only those firms' strategies that have a high PDC are affected by the observability of quality. When consumers are myopic and quality is observable, both high and low PDC firms use price skimming and restrict first-generation sales to consumers with a high willingness to pay (WTP). A high PDC firm, however, sells the second generation broadly, while a low PDC firm only sells the second generation to consumers with a low WTP. When consumers are myopic and quality is unobservable, a firm with a high PDC signals its quality by offering a low price for the first generation, which results in broad selling. The price of the second generation is set such that only high WTP consumers will buy. A firm with a low PDC will not mimic this strategy. If a low PDC firm sells the first-generation broadly, it cannot discriminate between high and low WTP consumers. When consumers are forward-looking, a firm with a high PDC sells the first generation broadly. This phenomenon mitigates the “Coase problem” that is created by consumers thinking ahead. The high PDC firm then only sells the second-generation product to the high WTP consumers. In contrast, a firm with a low PDC does the opposite; it only sells the first generation to high WTP consumers and the second generation broadly.

Dynamic Pricing Competition with Strategic Customers Under Vertical Product Differentiation

We consider dynamic pricing competition between two firms offering vertically differentiated products to strategic customers who are intertemporal utility maximizers. We show that price skimming arises as the unique pure-strategy Markov perfect equilibrium in the game under a simple condition. Our results highlight the asymmetric effect of strategic customer behavior on quality-differentiated firms. Even though the profit of either firm decreases as customers become more strategic, the low-quality firm suffers substantially more than the high-quality firm. Furthermore, we show that unilateral commitment to static pricing by either firm generally improves profits of both firms. Interestingly, both firms enjoy higher profit lifts when the high-quality firm commits rather than when the low-quality firm commits. This paper was accepted by Yossi Aviv, operations management.

Impact of pricing schemes on a market for Software-as-a-Service and perpetual software

In this paper, we present an agent-based simulation system that allows modeling the interactions between software buyers and vendors in a software market. The market offers Software-as-a-Service (SaaS) and perpetual software (PS) licenses under different pricing schemes. Four dynamic pricing schemes are analyzed: derivative-follower pricing, demand-driven pricing, skimming pricing, and penetration pricing. Customer (buyer) agents respond to these prices by selecting the most appropriate software license scheme based on four criteria using the Analytic Hierarchy Process (AHP) decision support mechanism. The four decision criteria relate to finance, software capability, organization, and vendor. The simulation results show that the demand-driven pricing scheme is the most effective method but hard to implement since it requires perfect knowledge about market conditions. As an alternative, penetration pricing and skimming pricing could be used. In addition to this, it can be stated that SaaS is most attractive for small enterprises while PS is attractive for large enterprises.

Exogenous Learning, Seller-Induced Learning, and Marketing of Durable Goods

When learning of product characteristics takes some time, a firm introducing a new durable faces the trade-off between releasing early to an uninformed market and deferring release to a better-informed market. In a two-period monopoly, we examine the strategic interaction between exogenous learning (EL) and seller-induced learning (SIL) and the firm's product release and pricing strategies. The familiar, direct effect of strong learning is to facilitate a higher price for informed customers. We point out its indirect effect of inducing a higher period 1 price for uninformed customers (by lowering their expected utility from learning). These two effects underlie three major results. First, a strong learning intensity does not always imply deferred release. Surprisingly, for medium unit costs, the firm releases late (early) when learning intensity is weak (strong). Second, SIL facilitates different product release strategies, depending on the unit cost level. Potential SIL investment facilitates early release for low or medium unit costs, but may facilitate deferred release for high unit costs. Lastly, when customers have heterogeneous prior valuation, the high-end customers may buy early at a lower price and the low-end customers may buy later at a higher price, contrary to the usual skim pricing with informed customers. This paper was accepted by Preyas Desai, marketing.

Monopoly Pricing with Limited Demand Information

Traditional monopoly pricing models assume that firms have full information about the market demand and consumer preferences. In this paper we study a prototypical monopoly pricing problem for a seller with limited market information and different levels of demand learning capability under relative performance criterion of the competitive ratio. We provide closed-form solutions for the optimal pricing policies for each case and highlight several important structural insights. We note the following: a) From the firm's viewpoint the worst-case operating conditions are when it faces a homogeneous market where all customers value the product equally, but where the specific valuation is unknown. In cases with partial demand information, the worst case cumulative willingness-to-pay distribution becomes piecewise-uniform as opposed to a point mass. b) Dynamic (skimming) pricing arises naturally as a hedging mechanism for the firm against the two principal risks that it faces: first, the risk of foregoing revenue from pricing too low, and second, the risk of foregoing sales from pricing too high. And, c) even limited learning, e.g., market information at a few price points, leads to significant performance gains.

Economics of Free Under Perpetual Licensing: Implications for the Software Industry

In this paper, we explore the economics of free under perpetual licensing. In particular, we focus on two emerging software business models that involve a free component: feature-limited freemium (FLF) and uniform seeding (S). Under FLF, the firm offers the basic software version for free, while charging for premium features. Under S, the firm gives away for free the full product to a percentage of the addressable market uniformly across consumer types. We benchmark their performance against a conventional business model under which software is sold as a bundle (labeled as “charge for everything” or CE) without free offers. In the context of consumer bounded rationality and information asymmetry, we develop a unified two-period consumer valuation learning framework that accounts for both word-of-mouth (WOM) effects and experience-based learning, and use it to compare and contrast the three business models. Under both constant and dynamic pricing, for moderate strength of WOM signals, we derive the equilibria for each model and identify optimality regions. In particular, S is optimal when consumers significantly underestimate the value of functionality and cross-module synergies are weak. When either cross-module synergies are stronger or initial priors are higher, the firm decides between CE and FLF. Furthermore, we identify nontrivial switching dynamics from one optimality region to another depending on the initial consumer beliefs about the value of the embedded functionality. For example, there are regions where, ceteris paribus, FLF is optimal when the prior on premium functionality is either relatively low or high, but not in between. We also demonstrate the robustness of our findings with respect to various parameterizations of cross-module synergies, strength of WOM effects, and number of periods. We find that stronger WOM effects or more periods lead to an expansion of the seeding optimality region in parallel with a decrease in the seeding ratio. Moreover, under CE and dynamic pricing, second period price may be decreasing in the initial consumer valuation beliefs when WOM effects are strong and the prior is relatively low. However, this is not the case under weak WOM effects. We also discuss regions where price skimming and penetration pricing are optimal. Our results provide key managerial insights that are useful to firms in their business model search and implementation.

New industrial service pricing strategies and their antecedents: empirical evidence from two industrial sectors

PurposeThe purpose of this paper is to investigate the conditions that led to the adoption of the three new industrial service‐pricing strategies, namely skimming pricing (i.e. a high initial price), penetration pricing (i.e. a low initial price), and pricing similar to competitive prices.Design/methodology/approachIn order to achieve the study's research objectives, data were collected through a mail survey from 129 transportation and 48 information technology companies. Moreover, 20 in‐depth personal interviews were conducted in the initial phase of the research.FindingsAnalyzing data from two industrial sectors, the study concludes that skimming pricing and penetration pricing relate to the company's corporate and marketing strategy and the service characteristics, while market conditions influence the adoption of pricing similar to competitive prices.Research limitations/implicationsGiven the limited number of the sectors investigated in the current study, the research results may not be easily applicable to other industrial service contexts.Practical implicationsThe findings reflect the complexity and multidimensionality of new industrial service pricing. Thus, a single mode for pricing decisions does not seem to exist. Given the uncertainty facing industrial firms when making price decisions, especially with reference to new services, a balanced approach paying attention to both inward‐ and outward‐looking determinants can ensure the effective price determination.Originality/valueThe originality of the paper lies in the fact that it constitutes the first attempt to examine empirically the aforementioned conditions in an industrial service context.

The effects of sensitization and habituation in durable goods markets

We develop a model to study the impact of changes in price sensitivity on the firm as it introduces multiple generations of a durable product where unit costs are a convex function of quality. We incorporate the psychological processes of sensitization and habituation into a model of discretionary purchasing of replacement products motivated by past experience. When price sensitivity decreases with each purchase (sensitization), the myopic firm offers a higher quality product at a much higher price with each generation. When price sensitivity increases with each purchase (habituation), the myopic firm engages in price skimming. When sensitization is followed by habituation, the myopic firm eventually provides higher quality than the market is willing to pay for, leading to a steep drop-off in sales and profits. The actions of the forward-looking firm depend on the discount rate. A firm with a low discount rate builds its customer base before offering a higher quality and higher priced product. In contrast, a firm with a high discount rate quickly increases price and quality following the same path to falling profits of the myopic firm. These results provide insight into the firm and consumer behaviors underlying the phenomenon of “performance oversupply” identified in the innovation literature.

When Should Software Firms Commercialize New Products Via Freemium Business Models?

In this paper, we explore the economics of free under perpetual licensing. In particular, we focus on two emerging software business models that involve a free component: feature-limited freemium (FLF) and uniform seeding (S). Under FLF, the firm offers the basic software version for free, while charging for premium features. Under S, the firm gives away for free the full product to a percentage of the addressable market uniformly across consumer types. We benchmark their performance against a conventional business model under which software is sold as a bundle (labeled as 'charge-for-everything' or CE) without free offers. In the context of consumer bounded rationality and information asymmetry, we develop a unified two-period consumer valuation learning framework that accounts for both word-of-mouth (WOM) effects and experience-based learning, and use it to compare and contrast the three business models. Under both constant and dynamic pricing, for moderate strength of WOM signals, we derive the equilibria for each model and identify optimality regions. In particular, S is optimal when consumers significantly underestimate the value of functionality and cross-module synergies are weak. When either cross-module synergies are stronger or initial priors are higher, the firm decides between CE and FLF. Furthermore, we identify nontrivial switching dynamics from one optimality region to another depending on the initial consumer beliefs about the value of the embedded functionality. For example, there are regions where, ceteris paribus, FLF is optimal when the prior on premium functionality is either relatively low or high, but not in between. We also demonstrate the robustness of our findings with respect to various parameterizations of cross-module synergies, strength of WOM effects, and number of periods. We find that stronger WOM effects or more periods lead to an expansion of the seeding optimality region in parallel with a decrease in the seeding ratio. Moreover, under CE and dynamic pricing, second period price may be decreasing in the initial consumer valuation beliefs when WOM effects are strong and the prior is relatively low. However, this is not the case under weak WOM effects. We also discuss regions where price skimming and penetration pricing are optimal. Our results provide key managerial insights that are useful to firms in their business model search and implementation.

Pricing dynamics and product quality: the case of antidepressant drugs

The rising prices of pharmaceuticals have generated considerable, and often acrimonious, debate. Yet, there is little conceptual work or empirical evidence on pharmaceutical pricing strategies or on the time paths of these prices. This study provides a conceptual framework describing the interplay between quality and product differentiation in determining the preferred pricing strategy. We hypothesize that higher quality products will engage in price skimming strategies in markets where products are sufficiently differentiated, but will choose a market penetration strategy in markets that are less differentiated. We apply an empirical analysis to brand name antidepressants during the years 1999–2002, a market where differences in quality are modest. A nationally representative data set on drug utilization and expenditures is combined with a physician survey on the quality attributes of drugs to examine the effect of drug quality on pharmaceutical pricing strategies. Results indicate that higher quality antidepressants engage in a market penetration strategy, charging initially lower prices that rise over time. At approximately 6–7 years post-entry, prices of the antidepressant drugs examined converge. Prices of higher quality antidepressants continue to increase thereafter, eventually becoming the highest priced drugs in the therapeutic class. These findings are consistent with a market in which product differentiation is modest and consumers learn which drug works best for them through experience.

Optimal software pricing in the presence of piracy and word-of-mouth effect

We develop an analytical model that embeds empirical findings on software diffusion to examine optimal pricing strategies for a spreadsheet software product under coalescing effects of piracy and word-of-mouth through its entire life cycle. We find that the demand of the innovators has the most significant impact on the firm's pricing decision. Our research recommends market skimming pricing strategy if innovators' demand is high and the market penetration pricing strategy is preferred otherwise. Surprisingly, the increase of conversion rate of imitators to buyers never significantly alters the pricing strategy pre-determined by the demand of innovators. Most interestingly, the optimal profit from instituting a two prices policy for a software product with five years lifespan outperforms that from a one price policy by no more than 4%, a finding that corroborates the common one price policy observed in reality.

The impact of digital channel distribution on the experience goods industry

We explore the impact of a digital channel for experience goods on the profitability and behavior of players in the supply chain and on piracy. We consider a firm which can sell an experience good in physical form, in digitized form, or both. We analyze different pricing schemes – price for whole album on the retail channel and linear and nonlinear pricing for songs on the digital channel. Consumers are divided into a retail-captive segment whose consumers are limited to the retail channel and a hybrid segment whose consumers have access to both retail and digital channels. Our findings indicate that for realistic problems, the dual distribution channel is most profitable. The profitability of the retail channel increases with the size of the retail-captive segment and the number of desirable songs on an album relative to the total number of songs on it. We show that a skimming pricing strategy is best for the retail channel. The ability to sell the product in digitized form on the Internet erodes much of the power once enjoyed by the record labels. The digital channel may be the best way to promote new artists, especially when the hybrid consumer segment is large. We also find that piracy has a significant effect on channel profits for both the retail and digital channels. Piracy has the strongest negative impact on the exclusive retail channel. Consumers’ access to the digital channel reduces piracy in both digital and dual-channel distribution. Dual channel suffers least from piracy because it allows retail-captive consumers to still legally obtain the product.

Pricing strategies and models

Price is a major parameter that affects company revenue significantly. This is why this paper starts by presenting basic pricing concepts. Strategies, such as market segmentation, discount, revenue management, price skimming, are introduced. A particular attention is paid to the relationship among margin, price and selling level. Then, the impact of prices on selling volume is analyzed, and the notion of selling curve is introduced. Related pricing methods are discussed such as price testing, cost-plus method, involvement of experts, market analysis and customer surveying. Included in the last category is the conjoint measurement concerned with finding what parameters of the items are important to customers. The profile method and a simplified version, the two-factor method, are also detailed. They provide a set of part-worths ( i.e., numerical values) for each tester. In other words, the opinion of each tester can be represented by a point in a space whose dimension is the number of part-worths. By applying a clustering method, specifically K-mean analysis, a limited number of clusters can be obtained, each of them representing a market segment. A deterministic pricing model with time-dated items is also analyzed. This model provides practical insights into pricing mechanisms.

Pricing and inventory policies under price-tracking behaviour

We develop a demand rate model for the optimisation of retail sales of perishable assets when consumers track prices over the sales horizon. We model this behaviour within an aggregate demand framework, solving the initial joint inventory and pricing problem when the demand is deterministic as well as stochastic. We solve the problem numerically and discuss the specific results as well as the characteristics of the optimal price and inventory levels. We illustrate when firms are likely to choose a penetration vs. skimming pricing policy and describe solution updating procedure as actual sales occur.