The Price of the Month. Success or Failure?

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

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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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