We often use the term "product" to refer to the offer that a business makes to its customers. This offer could be a tangible product or service. When people buy products they have to pay using currency; products have a price. The way that people determine the value of a product is very much determined by its perceived quality.
Quality is a nebulous term. It refers to the build quality, the reliability, the durability, as well as the quality of the service and backup. Even though we may not have a precise definition of what quality means, we have a feeling that high-quality products will be expensive and low quality products will be cheaper.
The relationship of price and quality is at the heart of the model described by Philip Kotler. He sees three levels of price – high, medium and low. He also recognises three levels of quality – high medium and low. The combination of these levels of price and quality result in nine pricing strategies. These are shown in the figure below.
It is important to note that this strategy matrix does not consider the cost of manufacturing the product. Many products are sold on a cost plus basis, adding a profit margin to the cost of manufacture. Kotler’s model assumes an ability to charge whatever price is thought appropriate, though this very much depends on the product quality. For example, although it may, in theory, be possible to charge a high price for a low quality product, this strategy is unlikely to last long as it will be quickly seen as a rip-off. Even a high price for a medium quality product may be inappropriate if it suggests the company is overcharging.
There are six strategies that are feasible within the model. They are those that are high-quality (with a high, medium or low price) and those that are low price (with a high, medium or low quality).
The three strategies that will not work are high price/low quality, medium price/low quality and high price/medium quality.
This may appear to be a freewheeling strategy that gives a company permission to grab what they can in order to make the highest possible profit. This is not what Kotler is saying. Any attempt to increase profitability by removing product features or downgrading quality while maintaining high prices will quickly be identified as “false economy”. The aim is to balance the price and the quality to fit boxes in the North and East of the matrix.
Kotler's paradigm does not cover all pricing strategies. It was never meant to do so as it focuses on the relationship between quality and price. However, the pricing strategist should also be familiar with the other pricing options. These include:
Cost pricing strategies. These are very common strategies used by manufacturing companies who calculate the variable cost of the products they make and add what they think to be a suitable gross margin. There are variations of cost pricing strategies such as marginal cost pricing whereby the manufacturer, eager to fill capacity at the factory, will be prepared to sell some products to certain groups of people (e.g. exports) at a price that barely covers the cost of manufacture but make some contribution to overheads. Such strategies are employed by product orientated companies whose main goal is to keep the production line as full as possible.
Specialist strategies. These are pricing strategies to achieve a particular objective. For example, predatory pricing (illegal in many countries) could be employed to undercut competitors and put them out of business, despite delivering no profit.
Psychological pricing. For some products it is not possible for the customer to fully understand the quality of what they are buying. Their perceptions could be manipulated to make them believe a high price is worth it. Psychological pricing can be used with wines, perfumes and luxury goods. Here the company chooses a pricing strategy which is higher than is merited by the quality of the products but which is justified in the eyes of consumers because of the products status.
It should be borne in mind that Kotler's price quality strategy is set in the framework of a competitive marketplace. The buyer is able to judge price and quality relative to other products on the market. These other products provide reference points in terms of both price and quality by which the product in question is judged. We are therefore talking about perceived prices and perceived quality in relation to other products.
Some things to think about.
Many companies have a pricing strategy built on legacy. Prices have been set a number of years ago and adjusted (usually upwards because of inflation) year-on-year. Use Kotler’s pricing grid to see if your prices are appropriate for your target audience.
Think about using different brands to address the needs of different audiences.