Question

Shine-Ola Premium Bulbs: the Pricing Decision

Voll Taik, the marketing manager for a new lighting start-up was very interested in the concept of Value-Based pricing. He was wondering how he might apply the concept to a situation facing his company "Shine-Ola".

The new product, "Shine-Ola Premium Bulb", was a LED (Light Emitting Diode) technology and was dramatically better than competing lighting solutions available on the market. Competing solutions included standard incandescent bulbs and compact fluorescent lighting, (CFL).

Extensive laboratory testing and installed residential testing had demonstrated dramatic results. Not only did the Shine-Ola Premium Bulb last longer than conventional bulbs, it used significantly less power over its life. Because of this power saving, residential users spent less on electric power for lighting measured in price per kilowatt (kWh) hour. In addition, the Shine-Ola bulb significantly reduced the inconvenience and cost of having to replace lightbulbs as often as traditional bulbs burned out. Nationally, service rates averaged $48 for changing 1-5 light bulbs, compared to $62 for 6-10, $87 for 11-15, and $114 for 16-20 bulbs.

Voll knew that the Shine Ola Premium Bulb tested well on other lighting performance measures as well. The Shine-Ola Premium Bulb had been rated by an independent testing agency and compared favorably on several dimensions including: the bulb emitted less heat than other bulbs; the Shine-Ola Premium Bulb was more durable than other types of bulbs. The Shine-Ola bulbs were not sensitive to humidity, and the bulbs contained no hazardous materials such as Mercury.

The Shine-Ola Premium bulb also improved lighting aesthetics. The bulbs put out higher lumens, which provided an estimate of the apparent amount of light a bulb would produce (higher lumens = more perceived light). Finally, the Shine- Ola Premium Bulb had a higher color rendering index (CRI) than competitor's bulbs. The CRI represents the quality of light and its ability to render colors correctly. These aesthetic factors would improve the lighting environment for such activities as reading, doing detailed work, art display and coordinating interior designs.

Voll was very excited about all the features of the Shine-Ola Premium bulb, and he had focused on the residential market. He thought that residential consumers would present the best opportunity for Shine-Ola because residential electrical rates (per KWh) were the most expensive. Furthermore, Voll knew from industry statistics that the average American home contained 47 incandescent bulbs.

However, Voll also wondered if he and his company should be thinking about the industrial or commercial market segments, even though the electrical rates were lower than consumer residential rates.

Shine-Ola's engineering staff had studied the bulb's performance to determine if the benefits of the Shine-Ola bulb improved workplace productivity. They determined that productivity increased by as much as 10% in some industrial and commercial applications.

Shine-Ola's market researchers argued that the bulbs could helpmake a better, more enjoyable, shopping experience for customers in retail stores. Voll knew that improvements in retail shopping experience were directly correlated to increased retail sales. One study in California concluded that "Daylighting" a retail store increased a store's sales by 6%.

Voll knew that although there NO competitors in the LED lighting segment yet, that if he were successful, new entrants would develop their own technology and could enter within three years.

Figure 1 shows an initial basic comparison of the costs of the new Shine-Ola Premium Bulb with more conventional bulbs on the market. Voll needed some advice from current M300 students.

Voll had two basic questions that M300 students needed to answer.

First, what is the "Economic Value to the Consumer" (EVC), or "Total Economic Value" (TEV), (the terms are considered to be interchangeable) of the Shine-Ola Premium Bulb for the residential segment of the market?

·     The EVC or TEV is a calculation you should make. (show all your work leading up to the calculation)

Second, what is your recommendation for a retail price to residential consumers for the Shine-Ola Premium bulb? Assume that there are no competitors and that it would take at least three years for any competitor to enter the market

·     Recommend a specific retail price/bulb and a persuasive marketing rationale for setting that recommended price.

Use the information in Table 1 to help you in developing your answers.

It will be helpful to you to fill in the vacant cells in Table 1.

Table 1:

Lightbulb projected life span

Shine-Ola Premium: 30,000 hours

CFL Bulbs: 7,500 hours

Incandescent bulbs: 1200 hours

Watts per lightbulb

Shine-Ola Premium: 10

CFL Bulbs: 14

Incandescent bulbs:   60

End user price per lightbulb

Shine-Ola Premium:    To Be  Determined

CFL Bulbs: $3.95

Incandescent bulbs: $1.25

KWh of electricity used over 30000 hrs.

  Shine-Ola Premium: 300

  CFL Bulbs: 525

Incandescent bulbs: 3,000

Cost of electricity @ $0.10 /kWh

Shine-Ola Premium:  $30

CFL Bulbs: $52.50

  Incandescent bulbs: $300

Bulbs required for 30,000 hours of use

  Shine-Ola Premium:    1

  CFL Bulbs:  4

  Incandescent bulbs: 25

Cost of bulbs for 30,000 hours of use

Shine-Ola Premium: jQuery20005639086000020458_1511888785517

  CFL Bulbs:  $15.80

  Incandescent bulbs: $31.25

Total cost for 30,000 hours lighting

Shine-Ola Premium: ??

  CFL Bulbs: $68.30

Incandescent bulbs: $331.25

*In the United States on average, residential electricity rates (in kWh hours) are 12% higher than commercial electricity rates, and 17% higher than Industrial electricity rates.

The U.S. Energy Information Administration (EIA) estimates that in 2016, residential lighting consumption was about 129 billion kWh or about 10% of total residential sector electricity consumption in 2016.

The commercial sector, which includes commercial and institutional buildings, and public street and highway lighting, consumed about 150 billion kWh for lighting, equal to about 11% of total commercial sector electricity consumption in 2016.

In 2016, 52 billion kWh were consumed for lighting in manufacturing facilities which was equal to about 4.4% of total U.S. electricity consumption in 2010.¹

Answer 1

answer:

"Value-based pricing is the method of setting a price by which a company calculates and tries to earn the differentiated worth of its product for a particular customer segment when compared to its competitor."

To understand how value-based pricing works, let's take the example of Brand A that is about to launch a new LED television. It wants to figure out the price for its new 65-inch LED TV, the biggest screen size in the marketplace at the time. The company's closest competitor, Brand B, recently introduced a 60-inch TV for $799. Both TVs have other features that are similar — both have built-in WiFi, the same level of definition, same number of HDMI inputs, same refresh rate, and so on.

Now let's apply value-based pricing by considering each part of the definition carefully:

1) Focus on a single segment. The first thing to know about value-based pricing is that it always references one specific segment. (For B2B products, it can be a single customer). Brand A's focus is only on big-screen TV buyers, not all TV buyers. Marketers can't use value-based pricing unless they have a specific segment. If they have multiple segments, they must determine a suitable value-based price for each one.

2) Compare with next best alternative. This pricing method only works when the target segment has a specific competitor's product they can buy instead. Value-based pricers always ask the question: "What would this segment buy if my product wasn't available?" This "next best alternative" for the target is the essential point of comparison for calculating the value-based price. For products that are truly new, without peers, the value-based pricing methodology won't work well.

3) Understand differentiated worth. The next task is to figure out which product features are unique, that is, differentiated, from the competitor's offering. In our case, the only differentiated feature of Brand A is its larger screen size.

4) Place a dollar amount on the differentiation. The last, and arguably the most difficult, step in calculating value-based price is to estimate the dollar value of the differentiated features. For us, this boils down to: "How much will big-screen TV shoppers pay for an extra 5 inches of screen size?" and then add that amount (let's say it is $150) to $799, Brand B's price. The value-based price of Brand A's TV is $949. To accomplish this step, marketers typically use research methods like conjoint analysisor qualitative customer interviewing.

One final point about value-based pricing is this. Just because the differentiated worth is $150 doesn't mean the company will get it all. In many situations (buying or renting a house for example), there will be a negotiation process, and the marketer may have to share the differentiated worth with the customer.

Dispelling Key Misconceptions About Value-Based Pricing

Value-based pricing is used in virtually every industry, to price everything from TVs and drugs, to oil rigs and airplanes. Despite its popularity, marketers have significant misconceptions about the approach. Here are three of the most common ones.

Misconception 1: Value-based pricing requires the company to evaluate consumers' willingness-to-pay for each and every product feature. Some marketers wrongly believe that when a company uses value-based pricing, it has to assess how much the customer values every single product feature, assign a dollar amount to each one, and then add them all up to calculate the product's final price. Even the simplest products have dozens of features. Imagine the difficulty of pulling this off for an oil rig or even a TV. This misconception turns many marketers off at the outset.

In reality, feature common with the next best alternative is captured by its price. In our TV example, the fact that both TVs have 3 HDMI inputs, built-in Wifi, and 4K Ultra HD is included in Brand B's $799. We do not have to calculate each feature's value separately. The only thing Brand A has to do is find the feature differences and assess customers' valuation of these differentiated features. This is a lot easier to do.

Misconception 2: Even if competitors are not smart with pricing, using value-based pricing will lead to success. This is likely the most dangerous misperception about value-based pricing because it can create false, high expectations. Many marketers think that value-based pricing is a panacea. If they use it, they will make lots of money under any circumstances. Not true! The success of value-based pricing depends on how smartly competitors have priced their products. If they have set untenably low prices, value-based pricing can't save you.

Just imagine what would happen if Brand B foolishly chose to sell its TV at $399 instead of $799. Brand A would still be only able to charge the $150 extra for its larger screen size, not any more. It would end up with a low price, and perhaps even lose money because of Brand B. Competitors have to practice "intelligent pricing" if value-based pricing is to work successfully.

Misconception 3: The brand's value is part of the value-based pricing calculation. With value-based pricing, the marketer's goal is to put a dollar amount on its differentiated features. The method's focus is on features that add value to the customer and that can be converted into dollars and cents. Features such as "longer-lasting by X%," "faster by Y hours," "less likely to break down by Z%," all work nicely because they can be easily converted into money.

But it's much harder to deal with a brand's value this way. This is why brand value is left out of the equation with value-based pricing. And it is one reason why the method is more popular in B2B settings that give less weight to the brand value.

Value-based pricing is an effective method to price products. On the one hand, it's a lot easier in practice than it appears to be in theory. The marketer needs to identify and assess its products' differentiated features only (except the brand's value), not every feature. And when competitors have priced their products foolishly, value-based pricing won't help. With a stronger grasp of how this method works, marketers will be able to make smarter pricing decisions, and employ value-based pricing to increase profits.

Shine-Ola Premium Bulbs: the Pricing Decision

Voll Taik, the marketing manager for a new lighting start-up was very interested in the concept of Value-Based pricing that he had heard about in his M300 course in the Kelley School at Indiana University. He was wondering how he might apply the concept to a situation facing his company "Shine-Ola".

The new product, "Shine-Ola Premium Bulb", was a LED (Light Emitting Diode) technology and was dramatically better than competing lighting solutions available on the market. Competing solutions included standard incandescent bulbs and compact fluorescent lighting, (CFL).

Extensive laboratory testing and installed residential testing had demonstrated dramatic results. Not only did the Shine-Ola Premium Bulb last longer than conventional bulbs, it used significantly less power over its life. Because of this power saving, residential users spent less on electric power for lighting measured in price per kilowatt (kWh) hour. In addition, the Shine-Ola bulb significantly reduced the inconvenience and cost of having to replace lightbulbs as often as traditional bulbs burned out. Nationally, service rates averaged $48 for changing 1-5 light bulbs, compared to $62 for 6-10, $87 for 11-15, and $114 for 16-20 bulbs.

Voll knew that the Shine Ola Premium Bulb tested well on other lighting performance measures as well. The Shine-Ola Premium Bulb had been rated by an independent testing agency and compared favorably on several dimensions including: the bulb emitted less heat than other bulbs; the Shine-Ola Premium Bulb was more durable than other types of bulbs. The Shine-Ola bulbs were not sensitive to humidity, and the bulbs contained no hazardous materials such as Mercury.

The Shine-Ola Premium bulb also improved lighting aesthetics. The bulbs put out higher lumens, which provided an estimate of the apparent amount of light a bulb would produce (higher lumens = more perceived light). Finally, the Shine- Ola Premium Bulb had a higher color rendering index (CRI) than competitor's bulbs. The CRI represents the quality of light and its ability to render colors correctly. These aesthetic factors would improve the lighting environment for such activities as reading, doing detailed work, art display and coordinating interior designs.

Voll was very excited about all the features of the Shine-Ola Premium bulb, and he had focused on the residential market. He thought that residential consumers would present the best opportunity for Shine-Ola because residential electrical rates (per KWh) were the most expensive. Furthermore, Voll knew from industry statistics that the average American home contained 47 incandescent bulbs.

However, Voll also wondered if he and his company should be thinking about the industrial or commercial market segments, even though the electrical rates were lower than consumer residential rates.

Shine-Ola's engineering staff had studied the bulb's performance to determine if the benefits of the Shine-Ola bulb improved workplace productivity. They determined that productivity increased by as much as 10% in some industrial and commercial applications.

Shine-Ola's market researchers argued that the bulbs could help create a better, more enjoyable, shopping experience for customers in retail stores. Voll knew that improvements in retail shopping experience were directly correlated to increased retail sales. One study in California concluded that "Daylighting" a retail store increased a store's sales by 6%.

Voll knew that although there NO competitors in the LED lighting segment yet, that if he were successful, new entrants would develop their own technology and could enter within three years.

Figure 1 shows an initial basic comparison of the costs of the new Shine-Ola Premium Bulb with more conventional bulbs on the market. Voll needed some advice from current M300 students.

Voll had two basic questions that M300 students needed to answer.

First, what is the "Economic Value to the Consumer" (EVC), or "Total Economic Value" (TEV), (the terms are considered to be interchangeable) of the Shine-Ola Premium Bulb for the residential segment of the market?

·     The EVC or TEV is a calculation you should make. (show all your work leading up to the calculation)

Second, what is your recommendation for a retail price to residential consumers for the Shine-Ola Premium bulb? Assume that there are no competitors and that it would take at least three years for any competitor to enter the market

·     Recommend a specific retail price/bulb and a persuasive marketing rationale for setting that recommended price.

Use the information in Table 1 to help you in developing your answers.

It will be helpful to you to fill in the vacant cells in Table 1.