The Price of the Month. Success or Failure?

Blog writing is on hold due to changed work activities

Posted in Pricing by Jouko Riihimäki on 1.1.2011
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10/2010: Holiday Trip in Tunisia all inclusive 699 €

Posted in Pricing by Jouko Riihimäki on 31.10.2010

Me and my family spent our fall vacation in Monastir, Tunisia. We chose an all inclusive service for the duration of the trip; the price included full board at the Sol el Moudardi Skanes Beach hotel. The price was 699 euro per adult. Tour operator was Detur Finland Oy. Although this was a vacation trip, I couldn’t help assess the trip and especially the all inclusive model from the viewpoint of pricing. Therefore my assessment is this time based on personal experience.

Key questions?

    What does ‘all inclusive’ mean in traveling?
    Who are the target group of all inclusive trips?
    Why should all inclusive service be offered to customers? And why should customers choose it?
    What is the possible significance of all inclusive from different viewpoints?
    Was the all inclusive service worth the price?

What does ‘all inclusive’ mean in traveling?

With package trips, all inclusive usually refers to the stated price which includes all meals and possibly even drinks. The meals usually consist breakfast, lunch, dinner and snacks. The drinks are usually soft drinks or local alcohol beverages. In some destinations, the all inclusive price may also include daytrips or other activities.

In our case, all inclusive included all the services the hotel area had to offer. However, it did not include daytrips and games at the hotel arcade meant for the youth.

Who are the target group of all inclusive trips?

All inclusive trips are often chosen by tourists who wish to remain at the same destination throughout the entire trip. It may prove especially beneficial to families with children, who may base their choice of destination on easy mealtimes and on knowing the costs in advance. Similarly, people with physical disabilities might enjoy the ease of the all inclusive arrangement.

Why should all inclusive service be offered to customers? And why should customers choose it?

With this model, the suppliers (tour operator and service providers) can offer their customers economical alternatives in more exotic surroundings and minimize the uncertainty factors the customer may have in terms of the destination, such as meal prices and quality. In addition, the destinations in the country of destination may be located in different areas, even quite far from cities or population centers, therefore having only few alternative services available.

The all inclusive service should be chosen for the duration of the vacation, for example, when the price level in the country is high and eating out will thus be expensive. In addition, the service is good for customers from countries where the standard of living, and therefore the costs, is significantly higher than in the vacation destination. This way the total price, including meals, will remain at a reasonable level.

In our destination, both the location of the area outside population centers and the lower price level of the country applied extremely well. The hotel, and all similar hotels, was built outside population centers. The nearest larger town, Sousse, was located 10 kilometers from the hotel. Moreover, the purchasing power of a Finnish consumer is about five times the purchasing power of a Tunisian consumer (purchasing power parity method of GDP). With this model, the hotel was able to keep its customers within the hotel area and, at the same time, enable the maintenance of a vast selection of services in a cost-efficient manner.

I’d like to state ease, the transparency of costs and the purpose of the trip itself (sunny and warm climate) as the key factors for my personal choices. It was an easy choice for a family with children as this way we could easily ensure a certain level of services with costs determined in advance. Our group consisted of four adults and five children.

What is the possible significance of all inclusive from different viewpoints?

From the viewpoint of the tour operator, the most important phase of the all inclusive model is the selection decision of the customer. In case the selection criteria of the customer includes ease and predictability of costs, and potentially economic efficiency in a more exotic location, the customer could be offered a great solution in the form of an all inclusive package. Without the package, these destinations might have trouble enticing enough customers due to the weaker traffic connections and more remote locations. As it may be very difficult or impossible to compare the price levels of different countries in advance, the tour operator can improve their own profitability by exploiting the different price levels for both goods and services without compromising customer satisfaction.

For the service provider at the destination, the utilization rate of their capacity becomes essential. Major investments made in the destination can only be paid back with a sufficient and solvent stream of customers. Cooperation with the tour operators at the home countries of the customers becomes vital in enticing the said stream of customers. In case the destination is large, as in our case, an affordable all inclusive alternative ensures sufficient demand at the location throughout the trip; the service provider will be better equipped to plan in advance the necessary services and the required products and suppliers for, for example, food and drinks.

From a customer’s point of view, the all inclusive model is easy and predictable. It suits various needs; it’s especially suitable for people who wish to move around the country of destination as little as possible. I think the greatest weakness lies in its strength. The attitude of “use as much as you want” can easily lead to excess usage of services and products, exceeding personal need. The customer will want to make as much use of the services as possible; in addition, the more they use the services, the cheaper they are. To me, this kind of thinking doesn’t support economic and ecological efficiency but the use of services is based on them being “free” and on consumption beyond personal need. In addition, focusing the vacation on one area doesn’t allow the travelers to get to know the real culture of the country. Of course, it needs to be taken into consideration that the customer voluntarily chooses to use the model.

Was the all inclusive service worth the price?

Now I’ll assess the actual price level of the all inclusive package in terms of my trip. I will go through the different elements of the services and assess them individually.

Flight

The flight to Tunisia went well. It lasted for about 4 hours and the service onboard was relatively good. In our case, the airline was Tunisian Nouvelair. On our way to Tunisia, an interesting thing happened when a passenger fainted in the aisle. This resulted in a minor panic but, all in all, the passenger was treated well. Nevertheless, little help from the other passengers (two nurses) was needed. The flight back home went well in all respects.

Three stars.

Bus transportation and basic guidance

The bus ride was short and went as expected. All guidance was normal and provided basic information on the destination and the services.

Three stars.

Hotel and cleaning

The check-in was very matter-of-fact. In our case, however, one of the rooms was located at the other side of the hotel and we had to ask them to change the room closer to the other rooms the following day. The hotel was relatively clean (four stars) and there were two large pools and a private Mediterranean beach within the area. According to a European scale, I would give the hotel three stars tops. The outdoor areas were inadequately managed and the maintenance of various areas, such as miniature golf, was completely forgotten. This seemed to be quite common in Tunisia as many buildings were incomplete or left at nature’s mercy.

Three stars.

Meals and other services (all inclusive)

Breakfast, lunch and dinner were all served in the same place. The selection, however, was fairly small and food remained the same day in, day out. The quality of the food was poor to my opinion. There were hardly any alternatives for vegetarians. During the last few days, you no longer felt like eating at the hotel restaurant as the tastes began to feel repulsive to some extent. Nevertheless, the children seemed to enjoy many of the basic foods. The selection could have been much wider and there could have been restaurants with different themes. Drinks were included in the all inclusive package but their quality was the same as the food’s.

One star.

Service attitude

I found the service attitude to be slightly fed up at times both at the hotel and in other places in the region. Smiles were rare and the most important thing was to get all possible money from the tourists, one way or another. It should be noted that the trading culture in the country is completely different from Finland.

One star.

The Conclusion

As a whole, I was satisfied with the vacation. However, from the viewpoint of the all inclusive model, the whole didn’t meet my personal needs and was thus below my expectations. When choosing an all inclusive package, it should be considered in advance whether it meets the needs of your vacation trip. I will think twice before choosing the package in question again. On the other hand, I found positive experiences on all inclusive trips at the Suomi24 discussion forum as can be seen in the writing by, for example, pen name Samaa mieltä (October 23rd 2007):

All-inclusive hotels are an excellent alternative, especially for families with children. Food – plenty of it and different alternatives – is always available, service is working and the hotels are well-managed and comfortable. But I do understand those who oppose all inclusive trips as I used to be against these kinds of hotels, too… until I tried them myself! I thought that you’re only really traveling when you do everything yourself and don’t spend the entire vacation at the same hotel. My husband and I (and now our children, too) have taken many kinds of trips from backpacking to all-inclusive luxury vacations; they all have their benefits. It’s the personal hopes and attitudes that matter! Therefore I wouldn’t be the first to reject the idea if someone wanted their vacation to be easy in the form of full board! We haven’t had full board in Cyprus but our experiences from the Dominican Republic, Mexico and Cuba have only been positive!

Pricing Stars (1-5):

Jouko Riihimäki, M.Sc., CPP Certified Pricing Professional

06/2010: Alan Wake Xbox 360 starting at 31,15 €

Posted in Pricing by Jouko Riihimäki on 30.6.2010

I became interested in the topic when Alan Wake, the new game from Remedy, the creator of the global hit Max Payne, began its efforts to conquer the world in Europe on May 14th. The publisher of the game is Microsoft. I decided to analyze Alan Wake in terms of pricing. According to my knowledge, the target launch price in retail moved mainly between 60 – 70 euro taking exchange rates and the local market situation into consideration.

What is Alan Wake?

Alan Wake is a third person shooting game developed by the Finnish Remedy Entertainment and launched by Microsoft Game Studios on Xbox 360 on May 14th 2010. The creators of the game have named Twin Peaks, Lost and the works of Stephen King as their inspiration.

The scene for Alan Wake is the fictional small town of Bright Falls in northwestern United States. The main character of the game, Alan Wake, is suffering from writer’s block when he arrives at the town for a vacation with his wife Alice. Once Alice goes missing, Wake is caught in the middle of nightmarish events based on a book he does not remember having written.

Gaming industry*

Throughout the 21st century, gaming industry has been the fastest growing branch of entertainment industry. In 2008, the global value of game sales in gaming industry was estimated at approximately 50 billion USD, while movies amounted to about 84 billion and recorded music about 30 billion. So, in terms of these numbers, the gaming industry has passed recorded music in sales and is catching up to movies few billion dollars a year.
The strong international growth of the gaming industry is based on at least three significant factors: 1. demographic change in consumer groups, 2. new game consoles, game contents and distribution channels, and 3. the strong generalization of playing and distributing games online.

Games are a phenomenon which is very hard to ignore in the media and culture. People use more and more time on games and playing; games and playing also have a cultural effect. The cultural significance of games has been controversial for a long time but the trend in Europe would seem to be that games have become acceptable or they are becoming an acceptable part of the recognized culture.

*Source: Neogames and Suomen Pelinkehittäjät ry, Suomen pelitoimialan strategia 2010-2015 (“The Strategy of the Finnish Gaming Industry 2010-2015”).

Managing the life cycle of the gaming product

The life cycle of products in gaming industry is exceptional in many ways. Thus, I will approach the pricing through the life cycle and value chain of the product.

1. The development stage is long and it requires a significant amount of capital. A product is considered a hit once they sell over million copies. The creator of the game is responsible for the development and it is partly financed by the publisher.

2. The launching stage (entering the markets) is short and the novelty value for games is quickly lost. Advance orders form a significant measure of success for sales. Pricing is quickly adapted to demand in the markets and there is heavy competition between different sales channels. In addition, price information is transparent to the consumer. The retailer determines the consumer price according to the target prices set together.

3. The stage of usage (presence in the markets) is mainly relatively short; secondhand markets for games are created quickly (Secondhand Markets and Pricing), impeding the sales of new products. Heavy discounts are introduced in the pricing of new games. Nevertheless, it needs to be taken into consideration that the sales time for a game may be several years (Long Tail Effect).

4. Updating the product may be done through versioning or add-ons, which continue to bind development resources.

5. The closing stage of a product begins by transferring development resources to other projects. The product may exit the markets by removing the products from the selections of the sales channels. Also, the development of technology platforms affects the decision to remove a product from the markets.

The value chain in the industry plays a major role in game pricing. The traditional model of operation and value chain for game development, based on physical distribution through retail, is presented below. This model was dominating the industry prior to the era of digital distribution; it still dominates the industry to some extent. In the traditional model, the publisher acts as the financier of development. As the financial risk is significant to the publisher, they usually claim full immaterial rights created during the development of the game and rights to the potential further usage when entering into an agreement.*

*Source: Neogames and Suomen Pelinkehittäjät ry, Suomen pelitoimialan strategia 2010-2015 (“The Strategy of the Finnish Gaming Industry 2010-2015”).

The life cycle and pricing of Alan Wake

Development stage

Alan Wake was being developed for almost six years, which is significantly longer than the average. The long development stage has presented financial challenges to Remedy Entertainment Oy. In 2008, the flow of revenue has stopped almost completely and the launch of Alan Wake has been delayed. The financial statements of Remedy for 2009 were not available. It can be said that the company has had to invest both their own money and the publisher’s (Microsoft) money in the development work. For their part, Remedy has financed the development work with the profits from previous financial years, i.e. through internal financing. As Remedy has established a good reputation thanks to Max Payne, the company is likely to receive revenue from product sales, thus not basing their flow of revenue solely on the development payments made by the publisher.

Development of the turnover and profits of Remedy Entertainment Oy in 2005 – 2008 (official financial statements):

On these bases, it may be supposed, at least to some extent, that the internal pressures for pricing have been high for the parties due to the delay and the costs. This means that, internally, the price is set on the upper end of the price scale in terms of comparable products. On the other hand, the pressure for pricing was increased by the implementation of the worldwide launch, the selection of strong sales channels (such as Amazon.com) and limiting the game to the Xbox 360 console, the global market share of which is less than 25 % according to the recent estimate of the Strategy Analytics company. Below, you can see a picture with price examples on the bestseller games in Amazon.com online store (comparable products).

Launching stage

The launching stage for Alan Wake can be divided into beginning taking advance orders and into beginning the deliveries/sales of games. Game reviews and successful advance orders are especially important to the launching stage, as well as the price erosion occurring during the first few weeks (variation in prices).
According to Wikipedia, Alan Wake has received positive feedback from critics. The mean value of the 83 reviews chosen by Metacritic is 83 % (max 100 %) and the mean value for the 54 reviews chosen by GameRanking is 84.07 % (max. 100 %). Tapio Salminen from Pelit magazine complimented the game for its atmosphere, rhythm and milieu but criticized it for its occasional technical stiffness. He also considered the narrator inside Alan Wake’s head unnecessary. Miikka Lehtinen from Pelaaja magazine stated that the game was “more than the sum of its parts”, and he especially considered the story to be compelling. The editor-in-chief Thomas Puha, who gave a second review, criticized the animations for being dull and the action for being monotonous. Nevertheless, he considered the universe of Alan Wake to be unique and intriguing; he concluded the review by stating that “the absolute strength of the game lies in the fact that it cannot be compared to any other game.”

In terms of advance sales, Alan Wake was a success at least in Amazon.com. Introducing a quote from Punchjump news site on May 17th 2010: Advanced sales for Alan Wake for Microsoft Corp.’s Xbox 360 ranked in the top five at retailer Amazon.com on strong demand for the action thriller title.

In addition to this, I examined the development of prices in five different countries; the prices of June 10th 2010 were used for the comparison. Based on these comparisons, I analyzed the prices between different sales channels and different countries. Price erosion turned out to be surprisingly high. Based on prices and price development, it can be assumed that the game has not sold as much in England as it has in Canada. In the UK, the price was lowered by almost 50 % within a few weeks (see the table below).

Stage of Usage and Updating the product

As the story of Alan Wake is still at the very beginning, I will examine the pricing from two perspectives: 1. the prices for secondhand games and 2. the pricing of add-ons.

According to the CEO of Remedy, the effects of secondhand gaming markets are devastating to the entire industry. Here is a quote from the 10 Questions from the Academy interview with the CEO: What’s the biggest challenge you see facing the industry? The current model of used game sales and rentals are poison for the creatives in our ecosystem. Secondhand gaming markets are born and they affect the sales of new games quickly. I took the prices of four separate secondhand game stores in Finland and the United States on June 28th 2010. It was slightly surprising to find that the prices of used games were not significantly lower than those of new games. Clearly, the bigger challenge lies in the lowering of the prices of new games than in the prices of used games. This may refer to the pricing of Alan Wake having been too high at the launching stage and to the game sales being lower than expected in the higher price level. In conclusion, discounts have been introduced very early in the stage of usage.

Remedy announced early on that add-ons would be available later either for free or at a low price. In my opinion, this indicates a good pricing view and it prolongs the life of the game. Here is a quote from gamereactor.fi: Remedy has confirmed to MTV that the story of Alan Wake does not end with the two add-ons already published. The Signal, which is to be published in July, and The Writer following it will be accompanied by at least one add-on during the on-going year. The Signal, which will be free to those buying the game new, will set Alan against a threat “you have never seen before” but at the same time “intimately close”.

Conclusion

Forming an estimate on the price proved to be challenging. Even though the game reviews and publicity have been mostly positive, I would not rank Alan Wake very high in terms of launch pricing. I think the launch price, which was set keeping price skimming in mind, was too high and its effect is not diminished by the well thought-out add-on policy and pricing. Lower price level in the gaming industry is supported by the fact that, according to marginal costs thinking, each game sold covers the high fixed costs, and additional sales does not cause any significant variable, volume-bound costs. However, it needs to be taken into consideration that Remedy does not determine consumer prices; it simply implements the game contents. Focusing on the Xbox 360 platform will also diminish the potential markets of the game. This is understandable as the resources of Remedy are limited and they were primarily financed by Microsoft. I believe that with a launch price of 39.90 – 49.90 (EUR/USD) the game could have been a true hit. Now, the high initial “fever” may cool down quickly due to the high launch price of the product, which will not be remedied by the quick adaptation of prices to consumer demand. Interest would have been transferred on to other products by then.

Pricing Stars (1-5):

Jouko Riihimäki, M.Sc, CPP Certified Pricing Professional

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05/2010: Finnair Flights during Stockmann’s Hullut Päivät Sale starting at 149 € per person

Posted in Pricing by Jouko Riihimäki on 17.5.2010

Finnair advertized flights on crazy-low prices during the Stockmann Hullut Päivät sale. My curiosity was roused by the promise and therefore I decided to look into the statement with more detail. Stockmann’s Hullut Päivät sale was organized between April 14th and 18th 2010.

The travel dates for the flights are: Athens May 3rd – September 30th 2010, Toronto June 6th – September 7th 2010, and Bergen May 23rd – September 30th 2010. The other destinations were targeted for April 19th – September 30th 2010. I used a flight for two adults between June 10th and 13th for this flight price comparison.

Hullut Päivät in general

According to Wikipedia, Hullut Päivät is a sales event of the Stockmann department store chain. It is not an actual sale, as the products sold during the event are acquired specifically for the event and sold at a lower price compared to Stockmann’s regular price level. Hullut Päivät is organized in the Akateeminen kirjakauppa bookstore, as well. Hullut Päivät event may be considered an established event, which is connected specifically to the Stockmann department store. The event was organized for the first time in Stockmann Turku in 1986. Hullut Päivät is organized twice a year, in April and in October, lasting, from the beginning of 2010, five days at a time from Wednesday to Sunday.

According to the Stockmann stock exchange release on May 10th, the turnover for Hullut Päivät increased by 22 %, exceeding all previous sales records in all market areas. I consider the result very good, especially taking into consideration the day-long sales clerk strike during the campaign.

Questions for the review

1. What are the pricing models for flights?
2. Were the flights advertized during Hullut Päivät cheap?
3. How did the parties benefit from the co-marketing campaign?
4. How could the sales campaign be further improved?

Pricing the flights

Generally, the pricing strategies can be divided into three groups in accordance with the picture below. Normally the chosen main strategy is not used on its own but it is combined with the other strategies, supporting one other. For air traffic, for example, this means that the pricing of the core service of Finnair and the entire industry is based mainly on the competitive-based model while other models are used to support it.

For long, air traffic has been in a state of tough competition. To some extent, this is due to the fact that flight prices in terms of the core service have become transparent to the customer; therefore the pricing models of various agents cannot differ significantly from the prices of their competitors. Competition-based pricing in this industry does not equal better profitability, as the general profitability level in the industry is low. In the future, this will result in bankruptcies and reorganization in the industry.

With air traffic, the use of cost-based pricing as the main strategy could lead to a major decline in the utilization rate of the capacity unless the agent possesses clear cost leadership. Budget airlines, such as the American Southwest Airlines and Irish Ryanair, operate using the cost and price leadership model. These airlines have focused their operation efficiently on the best routes and often chosen the most quiet and affordable airports as their destination. In order to respond to the challenges set by these airlines, the airlines with heavier cost structures have cut down their routes as well as cut their core services into smaller pieces (Unbundling Services). Here is a recent quote from Taloussanomat on May 10th 2010: Finnair begins to charge its customers for food and beverages in shorter distance flights, excluding coffee, tea and juice.

Another way to respond to the heavy competition is to use Dynamic Pricing efficiently; this means that the price of the core service is continuously adapted according to the changes in demand on the basis of the set terms (time, utilization rate, class). When taken to the extreme, each offered price will be unique and “tailored” (Differential Pricing).

The third method is to exploit value-based pricing. Indeed, airlines have already developed services which bring additional value to the customer, such as good airport services, delicious food, solutions for additional space during the flight and other similar services. Customers are willing and ready to pay for these value-adding services. Some of the airlines, such as Cathay Pacific and Singapore Airlines, have chosen the path of quality and service leadership. These airlines have been ranked among the top airlines in the world. This path requires focus on the customers, who appreciate bundled services instead of the simple core service.

In addition to the abovementioned, almost all airlines maintain programs for regular customers, offering tailored services to various customer groups (Loyalty-Based Services and Pricing). The purpose of these programs is to commit the customer to the airline and the airline alliance as tightly as possible. The programs are used to direct value-adding services and other benefits to loyal customers.

Hullut Päivät and Finnair pricing

During Stockmann’s Hullut Päivät, Finnair offered 25 different destinations as presented in the picture above. This amounts to 50 % of all direct foreign flights by Finnair (50 destinations total) as stated in Finnair’s homepage. Size-wise, this is a significant co-marketing and sales event with another company. The effects of the campaign are increased by the fact that reservations could be made on a long-term basis (over 5 months). My analysis included a weekend trip between June 10th and 13th 2010 for two adults. I wanted to compare the flight offers between two outside agents (eBookers and Supersaver) and Finnair. The prices of these three agents were retrieved between April 14th and 18th 2010, i.e. during Hullut Päivät. I wanted to see whether it was economical and sensible to go to Stockmann’s department store to get and possibly queue for the tickets. In addition, I searched for Finnair’s prices to the same destinations the week after the Hullut Päivät event. This was done to examine the change in prices after the campaign. The results are presented below. The prices in blue are not direct flights; these flights had either one or two stop-overs. The best offers during Hullut Päivät when compared to other agents are marked in green in the table. The prices in red did not provide significant advantage in terms of the price offers of Hullut Päivät.

For the most part I find the pricing in accordance with the promises made. For the rational buyer, the Eastern European destinations Kiev, Bucharest, Budapest and Prague were especially tempting. As Finnair is strategically strong in the Asian routes, it would not be sensible for the company to lower prices too much in the Delhi or Seoul routes. Finnair did not make this mistake, making the pricing successful for this part as well. Besides, I would not have gone to Stockmann to queue for these flights but bought them straight from my own couch instead. In terms of routes with heavy competition, the prices were quite close to their competitors’ prices. These routes included London, Brussels, Amsterdam and Paris; the benefits of these routes were fairly low. Based on the analysis, the favorite destinations were Venice, Istanbul, Soul and Prague. The prices for these destinations were significantly higher the following week. Based on the analysis, the demand for flights to Rome, Ljubljana and London was probably lower as their prices had come down the following week. However, it must be taken into consideration that the analysis was based on one single summer weekend and the results may not be applied to the entire period. To conclude the price comparison, I would like state that the campaign was a success in terms of prices and no errors were found in pricing. It would have been a clear rookie mistake if Finnair flights would have been available online with a lower price than on Hullut Päivät. Next, I will briefly examine the other supposed benefits of the joint campaign to its various parties (Stockmann, Finnair and customers).

Benefits of the co-marketing campaign

People are interested in traveling and flights are probably one of the best crowd-pullers during Hullut Päivät. Therefore the joint campaign brought customers to Stockmann and they most likely left the department store with other products in their yellow shopping bags, as well. The other party, Finnair, was able to fill its long-term flights within few days with “reasonable” costs. In this modern era of online shopping, it is virtually impossible to gain such a stream of customers in any other way. These flight reservations will ensure a good utilization rate of the basic capacity between April 19th and September 30th 2010. Both parties to the sales campaign must be satisfied with the gained results and the financial benefits of the campaign were most likely significant to both parties. In addition, their customers were able to purchase flights with good prices and they did not have to question the sensibility of their purchase afterwards.

Pricing Stars (1-5):

Developing the Hullut Päivät flight campaign

I would have awarded the campaign with five stars if the customer needs and the ease of making a reservation were taken into consideration. To my personal opinion, most customers would probably wish to ensure the dates and destinations they desire are available prior to the actual queuing. The solution could be a flexible online reservation system using the loyalty-based programs of Stockmann and/or Finnair, for example. Nevertheless, the tickets should still be picked up at Stockmann. Thus the customers could spend the time saved from queuing for making other purchases. Another point of development would be to continue choosing the right destinations for the sales event. The focus should be on destinations for which Finnair provides clear advantages in terms of competitors. This assessment did not cover Finnair’s flight pricing in general; instead, I focused solely on the Hullut Päivät sales campaign.

Jouko Riihimäki, M.Sc, CPP Certified Pricing Professional

Sources

Finnairin Financial Info 10.5.2010

https://newsclient.omxgroup.com/cdsPublic/viewDisclosure.action?disclosureId=401320&lang=en

Benchmark Study 2009

http://www.worldairlineawards.com/main/aoy-2009-release.htm

Finnair Flight Destinations

http://www.finnairgroup.com/group/group_8.html

09/2010: Valio Milk Plus 1l starting at 1,39 €

Posted in Pricing by Jouko Riihimäki on 30.9.2010

In small consumer markets (=Finland) there are a few operators both in industry and business. The cake sharing competition between the various operators causes occasionally price competition in different products in retailing, for example in loss leader products. These products are e.g. beer and milk. The beer war has been on regularly already since 2005. The beer price is still low, although there have been several increases of alcohol taxation to fix the situation. However, in this article I concentrate on milk and the milk war as well as the pricing of Valio’s novelty product – Valio Maito Plus™ (Valio Milk Plus).

Background of the milk war (=price war)

According to the Business Dictionary, price war can be defined in the following manner: Market situation in which (usually two) powerful competitors try to usurp each other’s market share by progressively reducing prices until one of them retreats, at least temporarily.

The latest milk war in Finland started in 2009. The following is an analysis by Talouselämä on 15/4/2010 about the backgrounds of the milk war.

Valio and Finland’s milk markets have been the innocent parties in the European Union’s milk war. EU allowed milk producers who were drowning in their debts, especially in Holland and Denmark, to increase their milk production the year before. That cheap milk has spread across the borders. Finland’s misfortune is being too close to Denmark who produces plenty of excess milk. The over production of milk spills to Finland in the forms of very cheap cheese and now it also includes Swedish basic milk.

Valio started its defense – on the other hand with an image campaign and by introducing its own cheap cheese products and yoghurts. No Nobels are won by the developers of these products, but they have balanced the skid of the market share. New cheap products indicate that Valio, who is usually calm in public, can play a hard game. The over-production problem has still not been solved. EU started intervention purchases last autumn. When the Union decides to unload those stocks, more pain is coming up. Valio’s return was profitable last year. Talouselämä calculated a grade for Valio and it improved to 7,5 out of 10. But who cares about those numbers. Valio’s return shall be evaluated in a different way, not like the result of most companies. Valio is owned by 9 500 Finnish milk producers. Valio’s purpose is to offer them livelihood.

Below is a figure of Valio’s central key figures in 2005-2009. The table also includes Arla Ingman’s and Arla Foods’ (Sweden) economic information during 2008-2009.

The Talouselämä analysis observations should be taken into consideration in the economical key figures. It does not remove the fact that the correct pricing has a remarkable effect both on Valio and the Finnish producers.

Operations in the price war

The basic logic of the price war is that price reductions are made one after another, the first reduction causes a series of reductions, and the war continues until the central operators stop this so called anti-auction (=the lowest price wins). In this kind of rapidly changing situation, the actual purpose can be forgotten, and operators concentrate on winning the competition instead of developing their own operation in the long term.

Various strategies and tactics can be used during the price war, as this quote from Wikipedia shows:

    1. Reduce price: The most obvious, and most popular, reaction is to match the competitor’s move. This maintains the status quo (but reduces profits pro rata). If this route is to be chosen it is as well to make the move rapidly and obviously – not least to send signals to the competitor of your intention to fight.

    2. Maintain price: Another reaction is to hope that the competitor has made a mistake, but if the competitor’s action does make inroads into a merchant’s share, this can soon mean customers lose confidence and a subsequent a loss of sales.

    3. Split the market: Branch one product into two, selling one as a premium and another as a basic. This effective tactic was notably used by Heublein, the owner of the Smirnoff brand of vodka).

    4. React with other measures – Reducing price is not the only weapon. Other tactics can be used to great effect: improved quality, increased promotion (perhaps to improve the idea of quality).

According to Kauppalehti on 22/9/2010 , Valio has a new weapon in the milk war:

Valio has lost its basic milk market share for Arla Ingman, so the company concentrates on introducing new special milk products. In September new vitamin milk, Valio Milk Plus, arrived in the stores, which has plenty of added D-vitamin, calcium and protein. It is marketed for children, the elderly, and it is a recovery drink for athletes and weightwatchers. The vitamin milk is almost twice as expensive as the normal milk. Valio believes that the same amount of vitamin milk is sold in 10 years as lactose free milk is sold now. Lactose free milk is sold for 150 million euros per year.

Pricing review

Because the other means of the price war, such as launching novelty products, are more challenging than a mere price reduction, I started making the monthly price evaluation of the previously mentioned Valio Milk Plus novelty product. According to Valio’s annual report (2009), Valio introduced 68 products in total on its domestic markets last year, and the turnover share of novelty products (less than 5 years on the market) was 28,3 %.

I started my research regarding pricing from Philip Kotler’s well known 4P model’s point of view. The model states that the decision areas of the competition method are Product, Price, Place and Promotion. I end this evaluation with price.

Product

According to Valio, Valio Milk Plus product is super milk.

Valio Maito Plus™ (Valio Milk Plus) is a new extra nutritious milk for people of all ages and for many different uses. Fat free Valio Maito Plus™ contains more nutrients than basic milks and so improves exercise recovery, enhances muscle growth and assists in weight management. For senior citizens it contributes a good dose of protein, calcium and vitamin D to their diet, maintaining bone structure and muscle fitness. Valio Maito Plus™ contains more key milk nutrients than ordinary fat free milk. That means twice the amount of vitamin D and 50% more protein and calcium. Valio Maito Plus™ is also a good source of B group vitamins and contains added potassium, plus added folic acid which is especially important e.g. for pregnant women. Its high protein content gives Maito Plus™ a fuller taste,” says Valio Nutrition Expert, Marika Laaksonen, D. Sc. (Food Sci.). .

The Product promise, wide target group thinking and the contents of the product seem to be very promising. We Finns are indeed milk people: The average Finnish milk consumption is 137 litres annually, and Finland is number one in milk consumption in Europe. Additionally, several objective researches support the positive health effects of milk. Some opposite results have also been presented.

20/9/2010 Iltalehti: Tripeptides from casein proteins which can be found in milk abundantly may improve the blood vessel operation in long term use. Thus, they can even prevent hypertension. The research made by pharmacist Pauliina Ehlers showed that a sour milk product including tripeptides and phytosterols also lowered slightly increased blood pressure.

Place

In order to survey the availability, I chose to go and visit some grocery stores. During September, I visited in nearly 20 grocery stores in Espoo, Kirkkonummi, Lohja, Raasepori, Salo and Tuusula. I also surveyed the price and availability in Internet grocery stores, such as gastronautti.fi -webpage. The grocery store chains included in this survey were K-citymarket, K-supermarket, K-market, Prisma, S-market, Sale, ABC, Valintatalo, Siwa and Lidl.

The product was well available. Only some of the smallest stores had not taken the product to their shelves. One question regarding the pricing is that is the good availability due to the correct price or Valio’s good (dominating) market position. The product was placed in the fridges with other milk products but its shelf space was quite limited, and it did not especially stand out for consumers.

Promotion

Let’s start with the name of the product. Valio Maito Plus™ (Valio Milk Plus) is a good name for the product and it tells the consumer and the target group directly the most essential thing: It offers something extra in addition to the basic milk. Valio has applied a trademark protection for the name on 11th August 2010. I was wondering the fact that Valio had not applied the trademark class 29 (e.g. milk products) separately for the Plus-name or other corresponding combinations. This procedure would at least slower the competitors’ opportunities to launch their own products with the Plus-name or a similar combination, when a good product concept can be copied quickly including the name. Here Valio has surely investigated various opportunities regarding the trademark protection.

The package is an important part of promotion. I think that the starting point in the package was made from the point of view of the productional and mass market because the product was launched in a traditional milk carton of 1 litre. The chosen package is surely the most economic option regarding the production and an easy choice for the consumers, but I would have given extra points for trying to introduce new package innovations as a part of the launching. Hopefully we will get to see them later on. The package emphasizes visually the traditional image and I think it did not stand out clearly enough on the shelf. As a conclusion, Valio has played safe regarding the package and was therefore not guilty for any gimmicks or anything excess. When considering the pricing, this package solution outlined the opportunities for a higher price level (Premium Pricing), but at the same time, because the message was to offer the product for a wider target group with a moderate price level (Mass Marketing).

The product was marketed widely to consumers in different public media from television to Internet (consumer marketing). I believe that the consumers’ awareness of the novelty has been reached, but it is good to remember the golden rule of marketing i.e. REPETITION. In order to succeed, it is important, that trade marketing supports consumer promotion, because purchase decisions take place not earlier than when the consumer is inside the store. I did not especially see any consumer marketing. This may be due to the fact that Valio’s opportunities for consumer marketing promotion are limited.

Price

The price of Valio Milk Plus was set between 1,39-1,49 euros in the grocery stores. The price did not depend remarkably on the size of the store, e.g. the product had the same price in Kilo’s Siwa or Sello’s Prisma. This shows that the product price was not a central criterion for the purchase, but the other factors of the product. The pricing of this novelty uses Price Skimming, whereas basic milk pricing uses EDLP-pricing (Every Day Low Price) in retail business.

I also wondered whether it would have been reasonable to use aggressive pricing in the launch and then increase the price later on to a slightly higher level (Penetration Pricing). I ended up in the result that for Valio, as a market leader, this choice would not have been reasonable. One option would have been premium-pricing. The price of the product would have been remarkably more expensive than the peer products (see table). I think that with the package solutions made (type, size etc.), premium-pricing would have been wrong. Based on the properties of the product, premium-pricing would have been possible, because the product value for the consumer is high (Value Proposition). Below are some comments on webpage http://www.pakkotoisto.com:

ticotaco 25/8/2010: This new thing from Valio is absolutely great. There is 1,5 times more protein compared to normal milk and the amount of D-vitamin and calcium has been increased i.e. you get 10 g of protein of one glass (2 dl) I don’t know about the price, how much it is…

Kaapeli 26/8/2010: I bought also that from Sittari for 1,39e today. Even 50 grams of protein per carton and in addition, D-vitamins are such a good package, that I think I’ll try to start drinking milk. I don’t think it will become more expensive than having cottage cheese, sour milk and yoghurt.

Nightkin 27/8/2010: The price is quite relative. For someone who works, that price makes no difference and the liquid can have its own position, but it has a bigger effect e.g. in a student wallet. On the other hand just what Force said there; the same Valio’s stuff can be bought as Milbona or as a Swedish Arla for half the price,, when you can also choose the calorie amount. There’s so little D-vitamin there, although its amount is ten times higher.

This product was very well priced, because it provides additional value for the store and for Valio. Valio Milk Plus (1,42 euros) is approx. 70 % more expensive than Valio’s fat free basic milk (0,85 euros) and the competitor’s corresponding Swedish fat free basic milk is nearly 120 % more expensive (0,65 euros). The thing I wondered the most in the product pricing was the positioning of the price in comparison with the peer products (see table). It was set on a lower level than organic- and lactose free milk, although the value promise for the consumer (health and wellbeing) is high. Because pricing in this evaluation is only a part of the 4P model, regarding the choices that were made (the other P:s),the pricing was traditional, but quite exemplary. However, it did not produce any surprises, either.

One general observation in the grocery stores was that the category pricing of milk products uses different pricing methods quite concisely. The price is either very low or relatively high. When pricing milk and other products, it shall be taken into consideration that the final consumer price decisions are made in the store, on which the supplier influences with his own sales price. The final consumer price depends on the margin target of the product which is set by the store, which may be low e.g. in the loss leader products, such as basic milk. The objective of the store is not necessarily to optimize the profitability of the product, but customer loyalty and basket profitability.

As a conclusion I believe in the success of the product launch and that the product will remain in the store selection for a long time. This product and other similar products with additional values can effect on the consumers’ purchase behavior on its own behalf, so that they will move from basic milk towards milk products which produce additional value.

Pricing Stars (1-5):

Jouko Riihimäki, M.Sc, CPP Certified Pricing Professional

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08/2010: 1 % Windfall

Posted in Pricing by Jouko Riihimäki on 31.8.2010

The 1% Windfall reveals how modest incremental changes to an everyday business practice – pricing – can yield significant rewards. Illustrating the power of pricing, “a study by McKinsey and Company of the Global 1200 found that if they increased their prices by just 1%, and demand remained constant, on average each company’s operating profits would increase by 11%.”. Using a 1% increase in price, some companies would see even more growth in percentage of profit: Sears, 155%; McKesson, 100%, Tyson, 81%, Land O’Lakes, 58%, Whirlpool, 35%.

This research result made me curious, so I decided to study the subject among the Finnish TOP100 companies. The result of the research is based on the calculated assumption that companies increase their prices by 1 % without changing other variables (= 1 % Windfall). Then the effect of this increase on the development of net sales will be examined. In addition, this message is to highlight the fact that pricing is one of the most important and fastest methods for gaining profit in a company. Below you can see a simplified example of the research results. The table shows that, in case the change percentage remains below 11 %, the company will usually result in higher profits when compared to control companies (Global 1200) and vice versa.

To support the analysis, I searched for the profit information of the Finnish TOP100 companies for 2009 from the Talouselämä 500 report. I edited such companies from the list as did not have information on their operating income available. The list includes a total of 83 companies. The analysis shows that an average increase of 1 % in net price would increase the operating profit of a TOP100 company by 21 %, which is considerably higher than the corresponding growth in the Global 1200 list. We can thus draw a quick conclusion: on average, large Finnish companies are not as profitable as the largest companies in the world. Naturally the time of comparison plays a role in the matter as the results of 2009 are affected by the recession that followed in the wake of the financial crisis.

I wanted to make this analysis more extensive by taking a closer look at the numbers of the biggest company in Finland, Nokia. First, I will examine the matter on Nokia group level. In 2006-2008, the change percentage of profitability of the Nokia group has on average been better than the Global 1200 companies after a 1 % increase in net prices. However, the severe decline in operating income in 2009 has clearly elevated Nokia above average (35 % change).

Furthermore, I wanted to analyze the matter in more detail in terms of the Devices and Services unit (mobile equipment) of Nokia. The picture below presents the numbers of the unit between 2008 and 2010. The information has been obtained from the official interim reports of Nokia.

Mainly the Devices and Services unit of Nokia has gained more profit that the average Global 1200 company, meaning that the lower profitability of the Nokia group originates from other areas of their business operations (e.g. Nokia Siemens Networks). The effects of heavy competition can be seen in the development and the Q2/2010 business unit landed at 11 %. The table below presents the three most essential factors in terms of development of profitability from the perspective of sales: 1. price, 2. volume and 3. mix (geographical and product bases). These factors must be taken into consideration when making and analyzing pricing decisions but they cannot be used as an excuse to hide behind.

It must be admitted that the 1 % jackpot is a simplified method of examining pricing. Regardless, it can be said that correct pricing has a major impact on the profitability of a company. Under no circumstances should personal pricing power be underestimated and markets or other external factors used as an excuse. Internal factors can be used to significantly improve personal pricing skills; increasing operating profit by 11 % is a very realistic objective when these measures are taken, regardless of factors outside the company.

To conclude, I challenge Finnish companies to develop their pricing skills. Without these skills, our competitive edge in the markets is primarily based on cost efficiency, not on customer needs.

Jouko Riihimäki, M.Sc, CPP Certified Pricing Professional

07/2010: Summer Holiday starting at 0 €

Posted in Pricing by Jouko Riihimäki on 22.7.2010

Priceless.

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04/2010: Green Electricity starting at 5,53 cent/kWh

Posted in Pricing by Jouko Riihimäki on 1.4.2010

General information on the electricity markets

The Finnish electricity markets were reformed and opened for competition from 1995 onwards, when the Electricity Market Act (386/1995) became effective. Opening the markets has been gradual and today all consumers of electricity can acquire their electricity freely from any supplier they wish. The electricity market reform reduced the obstacles for competition and removed unnecessary regulation in those areas where competition was possible, i.e. production, sales and foreign trade. However, the reform set clear rules on electrical power networks, which are monopolies by nature.

General information on electricity pricing

The electrical bill consists of 1. electrical energy or electricity sales (about 38 %), 2. transmission of electrical energy (about 37 %) and 3. taxes (about 25 %). Various factors determined by the markets affect the price of electrical energy, such as production costs and stock prices. The only portion of the electric bill that the suppliers can compete on is the share of electrical energy, or sales. The local electrical power network company is responsible for the transmission of electrical energy, and therefore the transmission price cannot be put out to tender. In terms of the household price of electricity, the general price level in Finland in 2008 was low (12.73 cents per kWh) compared to other European countries. The lowest price was found in Bulgaria 8.23 (-35 % vs. Finland) and the highest in Denmark 27.85 (+119 % vs. Finland). This article focuses on the pricing of household electrical energy. Due to the nature of the industry and the product itself, the basic pricing of electricity is mostly Cost Based Pricing.

General information on green electricity

According to Wikipedia, sustainable (green) electricity is a common name for electricity produced with forms of energy which are renewable and either zero or only minimally polluting. Ground heat, wind power, solar energy and tidal power stations are included in this group, as well as bio fuels, bio gas and small-scale water power, sometimes even waste incineration. According to Statistics Finland, the share of sustainable energy of all energy consumption reached a new record in 2008, up to 28 per cent of total energy consumption. The pricing of sustainable electricity is in part Value Based Pricing. This is supported by a survey of Taloustutkimus on March 20th 2010; according to the survey, two out of three (66 %) citizens of the 14 municipalities in the Helsinki area, as well as the citizens in the Raseborg area and Sipoo, are willing to pay for replacement (renewable) energy, even if it meant higher taxes or increase in electric bills. This article uses the terms sustainable (green) energy and renewable energy as synonymous.

Key questions in pricing of sustainable electricity are:

1. What are the selection criteria for electrical energy in terms of households (formation of price)?
2. How much does sustainable electricity cost compared to other electricity?
3. From households’ point of view, is sustainable electricity a consumer product?
4. Have the sustainable choices of households affected electricity production?
5. How should the sustainable electricity product and related services and pricing be developed?

Consumers can affect the price of electrical energy in their bill, as well as total amount of the bill, via the following factors: 1. the amount of used electricity, 2. the manner and time of using electrical energy, 3. the supplier of electrical energy and the product itself and 4. the term of the electricity contract. The sustainability of the electricity product only consists of the manner of electricity production but consumers may affect the environment-friendliness of electricity in other ways, as well: by saving energy on a general level, focusing the use of energy on weekends and evenings/nights and by using various energy-efficient products (such as washers, televisions, etc.). In terms of these factors, sustainable electricity and other electricity do not differ from each other.

The Energy Market Authority maintains current records of electrical energy prices. The table below is based on an annual consumption of 10.000 kWh in the Helsinki city center (zip code 00100). The table includes 20 of the most economical reference products. Renewable electricity is marked in green in the picture.

According to this price comparison, almost half of them are produced via renewable production methods (8/20). Thus we can conclude that sustainable electricity does not have to be any more expensive than other electricity. Thanks to free competition, households can choose any supplier they wish for their sustainable electricity, at a competitive price.

Next, I will answer the third question. According to the Vihreä Lanka website (March 9th 2010), State Secretary Raimo Sailas from the Ministry of Finance criticized sustainable energy in the latest Energia magazine. “Dear people, do not believe the advertisers of sustainable energy. It is the one and the same thing coming out of the cable”, Sailas says. Basically the statement refers to the consumers not being able to affect they will be the ones using the sustainable electricity. First, let us examine the value chain of electricity:

1. The sources and production of electrical energy (free competition)
2. Area network – Transmission of electricity from production to the main grid (monopoly)
3. Main grid – Transmission of electricity within the main grid (monopoly)
4. Area network – Transmission of electricity from the main grid to the place of use (monopoly)
5. Consumption of electricity

Sustainable electricity applies to the beginning of the value chain but it is marketed as a separate consumer product at the end of the chain. The problem with sustainable electricity is the fact that, due to the nature of the product, it cannot be “earmarked” in the value chain all the way to its usage. This means that, with their choices, the consumers affect the share of sustainable electricity in the electrical power networks, and not directly the sustainability of their personal electricity. Therefore your personal choice will affect the sustainability of electricity used by others (societal product). Thus selling and pricing sustainable electricity as a separate consumer product is somewhat misleading. This is also supported by the observation of Suvi Salmela in her 2004 pro gradu thesis, stating that consumers may have trouble understanding the principles of electricity contracts and distribution of electrical energy in the liberated electricity markets. Many of the interviewees were unaware of the fact that when consumers pay for sustainable energy, they still receive the same electricity as other customers and that the electricity is still distributed via the local distributor of electrical energy.

My personal evaluation takes the special nature of the electricity markets into consideration. Operation in the electricity markets is long-term and capital-intensive. Electricity is a commodity product, without which the society cannot function. In addition, energy production is based on electricity contracts, against which the suppliers supply electricity to the markets. Therefore contracts (including households) are an important part of the operating logic of the electricity markets. Contracts can thus be used to affect the method of production and guide it toward more sustainable alternatives. By choosing sustainable electricity, to some extent the households also make the choice for other households. As proof of the change and effect, the share of sustainable energy sources has grown significantly in the 21st century: over 20 % growth from the year 2000 to year 2008. At the same time, the share of household customers with environmentally friendly eco-energy has taken a strong turn upward. However, when looking at these numbers, it must be taken into consideration that the electricity used by households and agriculture only forms about 25 % of total consumption according to Statistics Finland.

To conclude, the pricing of sustainable electricity is reasonable when the nature of the industry is considered. Households have the option of choosing sustainable electricity without paying for it significantly over the average price level in the markets. In addition, these choices affect the way the markets operate. Here I disagree with State Secretary Raimo Sailas, who would not give households any chances of affecting the sustainability of electricity production methods.

Although households have not been very active in making electricity suppliers compete with each other, there is plenty of up-to-date price information publicly and easily available. This means that the inactiveness of households is not caused by lack of availability and transparency of price information. In addition, it is fairly easy and quick to switch electricity suppliers. The inactiveness of households has given electrical energy suppliers an excellent chance to make money with electricity products (including sustainable electricity) via simple and continuous notifications of increases in price. The bases for these increases often remain unclear to households. To this extent, the pricing mechanisms of suppliers to current customers are strongly based on the operating methods of the monopoly era. This traditional pricing of electrical energy is also supported by the regional monopoly status of electricity transmission.

Pricing Stars (1-5):

Developing pricing

Since electricity as a product does not vary much from the perspective of household usage, the pricing will remain based mainly on costs in the future as well. The demand for cost-efficiency for many actors is essential. This also applies to the production and pricing of sustainable electricity. New production methods require long-term investments and this can be seen in the price of electrical energy.

However, sustainable electricity should be seen as a bundled service instead of a simple choice of production method and sources. From the point of view of households, it must be highlighted that personal behavior will affect the sustainability of electricity in an effective way in the future as well. For this purpose, up-to-date reporting and invoicing tools for electrical energy would support the monitoring and efficiency of household electricity usage. There is no information or certifications available for the personal energy-efficiency and environment-friendliness of suppliers. Based on the current information, it is hard to say whether sustainable electricity is better produced in local electrical companies or farther in efficient production plants. This would be a perfect opportunity to develop a clear sustainability index for suppliers, including the efficiency of production processes, location of production plants, etc. The picture below indicates all factors affecting the selection of sustainable electricity, all the way from the core to supplementary services. The pricing of products and services could be developed on these bases as well. In addition, the use of loyalty based pricing should be considered.

Jouko Riihimäki, M.Sc, CPP Certified Pricing Professional

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03/2010: Long Distance Train Ticket starting at 14,40 €

Posted in Pricing by Jouko Riihimäki on 1.3.2010

I start my writing with the setting of objectives for train journey pricing. The main objectives for the train journey pricing are:
1. Supporting profitability and long-term investments
2. Supporting operative efficiency
3. Supporting customer orientation

I evaluate the implementation of these objectives in the present pricing model. I’m using the price information between Helsinki and Turku as an example. Regarding pricing, the products of the Finnish transport company VR are differentiated based on the train type (Intercity 2 and Pendolino) and class (1st class and 2nd class). In practice, the train types are also the tool for differentiating prices at different times. There are also differences between the qualities of service in each class. The first class price includes a cost-free WLAN-connection during the journey and better premises. Price -discounts of train journey are based on customer type discounts. The table below indicates the valid train journey prices between Helsinki and Turku.

VR announced in its official annual report that the profit of 2009 had weakened and there was a decrease in the number of passengers. The CEO Mikael Aro commented in the report, that even though the financial position remained good in 2009, the present income level is not sufficient to cover the necessary equipment investments of the future. VR has used the increase of ticket prices as its main tool for improving profitability. To quote the Kauppalehti on 10th February 2010: ”The only solution is money, of which the railway company has a chronic shortage. The question is, as Aro says, in which circumstances VR has to be able to operate without problems. All solutions cost money. Either the government invests more money or then the ticket prices go up, Aro says. Aro does not specify how much the ticket prices have to be increased.”

I think that the increase of ticket prices without changing the pricing structure may cause the decline of profitability in the long term, because the price increases will take travelling by train mainly to cars and buses. The market share of the car traffic in Finland in 2007 was 85 percent compared to the 5 percent share of the railroad traffic. The earlier comments indicate the structural weakness of the pricing model. The pricing is based mainly on cost based pricing and historical pricing traditions. On the other hand, it has to be noted, that the train journey pricing is not merely cost oriented, because VR has adapted the prices of different routes according to the competition situation (Market-oriented Pricing). For example the kilometer price of the adult ticket (€0,10 per km) in second class in a Helsinki-Oulu train is 32 percent lower than the corresponding table price of the Helsinki-Turku train (€0,15 per km).

Another pricing objective is the supporting of operative efficiency. The optimization of transport capacity and its resources is a central tool for operative efficiency. The present pricing model guides the passengers for Pay-as-you-go purchases, which makes the planning of operations difficult and causes inefficiency in the use of capacity. The prices do not fluctuate based on the time or method of purchase. My opinion is that the current pricing model of VR does not take regular customers into consideration, those who plan their trips beforehand and would like to commit into travelling by train in the long term.

Airlines have developed dynamic pricing in order to rise to the challenge. In this model, the pricing fluctuates based on available capacity, time and method of purchase. The opposite of dynamic pricing is stable pricing which is typical for monopoly companies and industries. The pricing model of airlines is the result of the strong competition situation where every euro is essential for airline companies. The competition for train journeys has not been as strong, but there has been enough for everybody in the business. In this situation there are no great needs to change the pricing logic of the branch, but it has remained in relatively stable models.

Regarding passengers, the VR pricing model is quite simple and clear. The passenger does not have to plan the trip beforehand, but can count on being able to purchase the ticket at the same price regardless of the time or place of purchase. The pricing is made unclear by different discount models, whose bases are partly unknown. As a state-owned company there are many intentions for discounts which may take the pricing to an inefficient direction.

I think that in supporting the central objectives, VR is not successful with the present model. Product-oriented thinking and mechanical pricing still guide the pricing decisions. A clear pricing structure based on customer behaviour is not being used or at least it is difficult for the outsider to perceive.

Pricing Stars (1-5):

Developing Pricing

I think that the developing of the long term profitability of the railroad traffic requires more and more understanding of customers and their willingness to pay for the products and services. VR should forget the public sector pricing traditions and follow more powerfully the new customer oriented methods also when it comes to pricing.

I believe that in the future the only direction for VR is to develop a pricing and service model based on the customer loyalty and orderliness of the customer (Time and Loyalty Based Pricing). An example of a new way of thinking could be for example the German railroad company Deutche Bahn, who has successfully implemented a new and commitment based loyal customer system (price effects underneath). I believe that the effective follow-up of the customer behaviour, as well as planning is the key to the correct pricing of products and services. If it is correctly implemented, the new customer oriented pricing is also simple and clear.

In addition, more and more service elements shall be attached to the core product, for which the passenger is prepared to pay (Value Based Pricing). The dynamic pricing model used by airlines is not suitable for the use of rail travelling as such, as the competition in the market is very limited. Dynamic pricing may remove the present simplicity and clarity from the pricing.

Jouko Riihimäki, M.Sc, CPP Certified Pricing Professional

Articles:

VR Group´s Result Information

http://www.vrgroup.fi/vakiolinkit/VRinforms/news_141.html

Kauppalehti News 10.2.2010 (in Finnish)

http://www.kauppalehti.fi/5/i/talous/uutiset/etusivu/uutinen.jsp?oid=2010/02/30499

Deutch Bahn BahnCard

http://en.wikipedia.org/wiki/BahnCard

Pricing Strategies

http://en.wikipedia.org/wiki/Pricing_strategies

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02/2010: Apple iPad starting at $499

Posted in Pricing by Jouko Riihimäki on 25.2.2010

Apple launched its iPad device with a great hype. I start writing my blog by considering the forthcoming success of the product regarding its pricing.

Apple has collected wide and committed interest groups all the way from consumer to developers around its own products and services. Now Apple is trying to create a new product group between portable music and entertainment devices and laptops. Creating a new category is challenging and product pricing is difficult when there are no peers.

First I’m telling about the expectations of the iPad prices. The price of the new device was expected generally to be around 800-1000 dollars. The price expectations were evaluated through the earlier product pricing strategies by Apple, and the prices of Apple products have been mainly on a higher level than the general price level of the market. Among loyal consumers Apple is considered as an innovative and high quality brand and consumers are ready to pay more for Apple products than for comparable brands (Brand Value).

Regarding pricing, one option would have been skimming, which is commonly used in the price launching. However, Apple did not use this logic in the pricing of iPad. Using too high a price could prevent the birth of a new category in the minds of the consumers before the novelty enters the market. Another option would have been to take over the market with the cheap price strategy. This strategy can however stamp the new product category with a low added value which would not provide sufficient media attention which is typical for Apple. Also, knowing the great expectations regarding the Apple’s stock price, making the category profitability successful with this pricing model would take too long.

Regardless of various pricing opportunities, Apple “surprised” by launching the iPad price levels around 499-825 dollars depending on the technical features. Here the chosen pricing model indicates an excellent ability to understand the dynamics of the market, and at the same time reach profitable business quickly. This means that first you have to create great expectations, understand the consumer needs and then set the launching price a little below the expected price. This provides the launch of the product excellent starting points regarding pricing.

As Apple is also a well-known pioneering of service concepts connected to its products, I think that the product price is below the level which the consumer is willing to pay for the product (Willingness to Pay). Even as it was written in newspapers that the product costs are approximately 300 dollars, it would not had been sensible in any case from the Apple’s point of view to implement Cost Based Pricing, because in this case the entity is more than the sum of its parts. However, one thing remains as a question mark in iPad pricing. This is the pricing of services that have been bundled together with iPad, for example 3G connection. It seems like the pricing principles of services vary strongly in different countries and the transparency of prices are weak. Due to the assumed service pricing logic, the total cost of ownership is difficult to estimate which may cause the dissatisfaction among the users in the long run.

Pricing stars (1-5):

Jouko Riihimäki, M.Sc, CPP Certified Pricing Professional

Articles:

iPad Prices

http://www.apple.com/ipad/pricing/

Price Expectations

http://www.internetnews.com/hardware/article.php/3852306/Latest+Reports+Say+Apple+iTablet+Is+a+Go.htm

Willigness to Pay

http://static.vouchercodes.co.uk/files/pressreleases/Apple-iTablet-Survey-Findings.pdf

Cost Estimates

http://www.yourtechstuff.com/techwire/2010/02/the-ipad-cost-breakdown-100-profit-for-apple.html

Pricing Strategies

http://en.wikipedia.org/wiki/Pricing_strategies

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