Pricing decisions and terms of doing business

Transcription

1 15 Pricing decisions and terms of doing business Contents 15.1 Introduction 15.2 Internationa pricing strategies compared with domestic pricing strategies 15.3 Factors infuencing internationa pricing decisions 15.4 Internationa pricing strategies 15.5 Impications of the Internet for pricing across borders 15.6 Terms of sae/deivery terms 15.7 Terms of payment 15.8 Export financing 15.9 Summary Case studies 15.1 Harey-Davidson 15.2 Giette Co Video case study: Ford Motor Company Learning objectives After studying this chapter you shoud be abe to do the foowing: Expain how interna and externa variabes infuence internationa pricing decisions. Expain why and how prices escaate in export seing. Discuss the strategic options in determining the price eve for a new product. Expain the necessary saes voume increase as a consequence of a price decrease. Expain what is meant by experience curve pricing. Expore the specia roes and probems of transfer pricing in goba marketing. Discuss how varying currency conditions chaenge the internationa marketer. Identify and expain the different terms of sae (price quotations). Discuss the conditions that affect terms of payment. Discuss the roe of export credit and financing for successfu export marketing. 474

2 Chapter 15 Pricing decisions and terms of doing business 15.1 Introduction Pricing is part of the marketing mix. Pricing decisions must therefore be integrated with the other three Ps of the marketing mix. Price is the ony area of the goba marketing mix where poicy can be changed rapidy without arge direct cost impications. This characteristic, pus the fact that overseas consumers are often sensitive to price changes, resuts in the danger that pricing action may be resorted to as a quick fix instead of changes being made in other areas of the firm s marketing programme. It is thus important that management reaises that constant fine-tuning of prices in overseas markets shoud be avoided and that many probems are not best addressed by pricing action. Generay, pricing poicy is one of the most important yet often east recognized of a the eements of the marketing mix. The other eements of the marketing mix a ead to costs. The ony source of profit to the firm comes from revenue, which in turn is dictated by pricing poicy. In this chapter we focus on a number of pricing issues of specia interest to internationa marketers Internationa pricing strategies compared with domestic pricing strategies For many SMEs operating in domestic markets pricing decisions are based on the reativey straightforward process of aocating the tota estimated cost of producing, managing and marketing a product or service and adding an appropriate profit margin. Probems for these firms arise when costs increase and saes do not materiaize or when competitors undercut them. In internationa markets, however, pricing decisions are much more compex, because they are affected by a number of additiona externa factors, such as fuctuations in exchange rates, acceerating infation in certain countries and the use of aternative payment methods such as easing, barter and counter-trade. Of specia concern to the goba marketing manager are pricing decisions on products made or marketed ocay, but with some centraized infuence from outside the country in which the products are made or marketed. Broady speaking, pricing decisions incude setting the initia price as we as changing the estabished price of products from time to time Factors infuencing internationa pricing decisions An SME exporting for the first time, with itte knowedge of the market environment that it is entering, is ikey to set a price that wi ensure that the saes revenue generated at east covers the costs incurred. It is important that firms recognize that the cost structures of products are very significant, but they shoud not be regarded as soe determinants when setting prices. Pricing poicy is an important strategic and tactica competitive weapon that, in contrast to the other eements of the goba marketing mix, is highy controabe and inexpensive to change and impement. Therefore pricing strategies and action shoud be integrated with the other eements of the goba marketing mix. 475

3 Part IV Designing the goba marketing programme Figure 15.1 Internationa pricing framework Figure 15.1 presents a genera framework for internationa pricing decisions. According to this mode, factors affecting internationa pricing can be broken down into two main groups (interna and externa factors) and four subgroups, which we wi now consider in more detai. Firm-eve factors Internationa pricing is infuenced by past and current corporate phiosophy, organization and manageria poicies. The short-term tactica use of pricing in the form of 476

4 Chapter 15 Pricing decisions and terms of doing business discounts, product offers and reductions is often emphasized by managers at the expense of its strategic roe, and yet pricing over recent years has payed a very significant part in the restructuring of many industries, resuting in the growth of some businesses and the decine of others. In particuar, Japanese firms have approached new markets with the intention of buiding market share over a period of years by reducing price eves, estabishing the brand name, and setting up effective distribution and servicing networks. The market share objectives of the Japanese firms have usuay been accompished at the expense of short-term profits, as internationa Japanese firms have consistenty taken a ong-term perspective on profit. They are usuay prepared to wait much onger for returns on investments than some of their western counterparts. The choice of foreign market entry mode aso affects the pricing poicy. A manufacturer with a subsidiary in a foreign country has a high eve of contro over the pricing poicy in that country. Price escaation A cost factors (e.g. firms net ex-works price, shipping costs, tariffs, distributor mark-up) in the distribution channe add up and ead to price escaation. The onger the distribution channe, the higher the fina price in the foreign market. Product factors Key product factors incude the unique and innovative features of the product and the avaiabiity of substitutes. These factors wi have a major impact on the stage of the product ife cyce, which wi aso depend on the market environment in target markets. Whether the product is a service or a manufactured or commodity good sod into consumer or industria markets is aso significant. The extent to which the organization has had to adapt or modify the product or service, and the eve to which the market requires service around the core product, wi aso affect cost and thereby have some infuence on pricing. Costs are aso hepfu in estimating how rivas wi react to the setting of a specific price, assuming that knowedge of one s own costs heps in the assessment of competitors reactions. Added to the above is the intermediary cost, which depends on channe ength, intermediary factors and ogistica costs. A these factors add up and ead to price escaation. The exampe in Tabe 15.1 shows that, due to additiona shipping, insurance and distribution charges, the exported product costs some 21 per cent more in the export market than at home. Through the use of an additiona distribution ink (an importer), the product costs 39 per cent more abroad than at home. Many exporters are not aware of rapid price escaation; they are preoccupied with the price they charge to the importer. However, the fina consumer price shoud be of vita concern because it is on this eve that the consumer can compare prices of different competitive products and it is this price that pays a major roe in determining the foreign demand. Price escaation is not a probem for exporters aone. It affects a firms invoved in cross-border transactions. Companies that undertake substantia intracompany shipment of goods and materias across nationa borders are exposed to many of the additiona charges that cause price escaation. The foowing management options are avaiabe to counter price escaation: Rationaizing the distribution process. One option is to reduce the number of inks in the distribution process, either by doing more in-house or by circumventing some channe members. Lowering the export price from the factory (firm s net price), thus reducing the mutipier effect of a the mark-ups. Estabishing oca production of the product within the export market to eiminate some of the cost. 477

5 Part IV Designing the goba marketing programme Tabe 15.1 Price escaation (exampes) Domestic Foreign marketing channe channe (a) (b) (c) Firm Firm Firm Border Border Whoesaer Whoesaer Importer Retaier Retaier Whoesaer Consumer Consumer Retaier Consumer Firm s net price Insurance and shipping costs Landed cost Tariff (10% of anded cost) Importer pays (cost) 121 Importer s margin/mark-up (15% of cost) 18 Whoesaer pays (cost) Whoesaer /mark-up (20% of cost) Retaier pays (cost) Retai margin/mark-up (40% of cost) Consumer pays (price) (excusive of VAT) % price escaation over domestic channe Pressurizing channe members to accept ower profit margins. This may be appropriate if these intermediaries are dependent on the manufacturer for much of their turnover. It may be dangerous to overook traditiona channe members. In Japan, for exampe, the compex nature of the distribution system, which often invoves many different channe members, makes it tempting to consider radica change. However, existing intermediaries do not ike to be overooked, and their possibe network with other channe members and the government may make it dangerous for a foreign firm to attempt to cut them out. Environmenta factors The environmenta factors are externa to the firm and thus uncontroabe variabes in the foreign market. The nationa government contro of exports and imports is usuay based on poitica and strategic considerations. Generay speaking, import contros are designed to imit imports in order to protect domestic producers or reduce the outfow of foreign exchange. Direct restrictions commony take the form of tariffs, quotas and various non-tariff barriers. Tariffs directy increase the price of imports uness the exporter or importer is 478

6 Chapter 15 Pricing decisions and terms of doing business wiing to absorb the tax and accept ower profit margins. Quotas have an indirect impact on prices. They restrict suppy, thus causing the price of the import to increase. Since tariff eves vary from country to country there is an incentive for exporters to vary the price somewhat from country to country. In some countries with high customs duties and high price easticity the base price may have to be ower than in other countries if the product is to achieve satisfactory voume in these markets. If demand is quite ineastic the price may be set at a high eve, with itte oss of voume, uness competitors are seing at ower prices. Government reguations on pricing can aso affect the firm s pricing strategy. Many governments tend to have price contros on specific products reated to heath, education, food and other essentia items. Another major environmenta factor is fuctuation in the exchange rate. An increase (revauation) or decrease (devauation) in the reative vaue of a currency can affect the firm s pricing structure and profitabiity. Market factors One of the critica factors in the foreign market is the purchasing power of the customers (customers abiity to pay). The pressure of competitors may aso affect internationa pricing. The firm has to offer a more competitive price if there are other seers in the market. Thus the nature of competition (e.g. oigopoy or monopoy) can infuence the firm s pricing strategy. Under conditions approximating pure competition price is set in the marketpace. Price tends to be just enough above costs to keep margina producers in business. Thus, from the point of view of the price setter, the most important factor is cost. The coser the substitutabiity of products, the more neary identica the prices must be, and the greater the infuence of costs in determining prices (assuming a arge enough number of buyers and seers). Under conditions of monopoistic or imperfect competition the seer has some discretion to vary the product quaity, promotiona efforts and channe poicies in order to adapt the price of the tota product to serve preseected market segments. Nevertheess the freedom to set prices is sti imited by what competitors charge, and any price differentias from competitors must be justified in the minds of customers on the basis of differentia utiity: that is, perceived vaue. When considering how customers wi respond to a given price strategy, Nage (1987) has suggested nine factors that infuence the sensitivity of customers to prices: 1 More distinctive product. 2 Greater perceived quaity of products. 3 Consumers ess aware of substitutes in the market. 4 Difficuty in making comparisons (e.g. in the quaity of services such as consutancy or accountancy). 5 The price of a product represents a sma proportion of tota expenditure of the customer. 6 The perceived benefit for the customer increases. 7 The product is used in association with a product bought previousy, so that, for exampe, components and repacements are usuay extremey highy priced. 8 Costs are shared with other parties. 9 The product or service cannot be stored. Price sensitivity is reduced in a these nine cases. In the foowing sections we discuss the different avaiabe pricing strategies. 479

7 Part IV Designing the goba marketing programme 15.4 Internationa pricing strategies In determining the price eve for a new product the genera aternatives are as shown in Figure Skimming In this strategy a high price is charged to skim the cream from the top end of the market, with the objective of achieving the highest possibe contribution in a short time. For a marketer to use this approach the product has to be unique, and some segments of the market must be wiing to pay the high price. As more segments are targeted and more of the product is made avaiabe the price is graduay owered. The success of skimming depends on the abiity and speed of competitive reaction. Products shoud be designed to appea to affuent and demanding consumers, offering extra features, greater comfort, variabiity or ease of operation. With skimming the firm trades off a ow market share against a high margin. Probems with skimming are as foows: Having a sma market share makes the firm vunerabe to aggressive oca competition. Maintenance of a high-quaity product requires a ot of resources (promotion, aftersaes service) and a visibe oca presence, which may be difficut in distant markets. If the product is sod more cheapy at home or in another country grey marketing (parae importing) is ikey. Market pricing If simiar products aready exist in the target market, market pricing may be used. The fina customer price is based on competitive prices. This approach requires the exporter to have a thorough knowedge of product costs, as we as confidence that the product ife cyce is ong enough to warrant entry into the market. It is a reactive approach and may ead to probems if saes voumes never rise to sufficient eves to produce a satisfactory return. Athough firms typicay use pricing as a differentiation too the goba marketing manager may have no choice but to accept the prevaiing word market price. From the price that customers are wiing to pay it is possibe to make a so-caed retrograde cacuation where the firm uses a reversed price escaation to cacuate backwards (from market price) to the necessary (ex factory) net price. If this net price can create a satisfactory contribution margin then the firm can go ahead. Figure 15.2 Strategies for pricing a new product 480

8 Chapter 15 Pricing decisions and terms of doing business Penetration pricing A penetration pricing poicy is used to stimuate market growth and capture market shares by deiberatey offering products at ow prices. This approach requires mass markets, price-sensitive customers and reduction in unit costs through economies of scae and experience curve effects. The basic assumption that ower prices wi increase saes wi fai if the main competitors reduce their prices to a correspondingy ow eve. Another danger is that prices might be set so ow that they are not credibe to consumers. There exist confidence eves for prices beow which consumers ose faith in the product s quaity. Motives for pricing at ow eves in certain foreign markets might incude the foowing: Intensive oca competition from riva companies. Lower income eves of oca consumers. Some firms argue that, since their R&D and other overhead costs are covered by home saes, exporting represents a margina activity intended merey to bring in as much additiona revenue as possibe by offering a ow seing price. Japanese companies have used penetration pricing intensivey to gain market share eadership in a number of markets, such as cars, home entertainment products and eectronic components. Price changes Price changes on existing products are caed for when a new product has been aunched or when changes occur in overa market conditions (such as fuctuating foreign exchange rates). Tabe 15.2 shows the percentage saes voume increase or decrease required to maintain the eve of profit. An exampe (the figure in bod type in Tabe 15.2) shows how the tabe functions. A firm has a product with a contribution margin of 20 per cent. The firm woud ike to know how much the saes voume shoud be increased as a consequence of a price reduction of 5 per cent, if it wishes to keep the same tota profit contribution. The cacuation is as foows: Before price reduction Per product saes price 100 variabe cost per unit 80 contribution margin 20 Tota contribution margin: = 2,000 After price reduction (5%) Per product saes price 95 variabe cost per unit 80 contribution margin 15 Tota contribution margin: = 1,995 As a consequence of a price reduction of 5 per cent, a 33 per cent increase in saes is required. If a decision is made to change prices, reated changes must aso be considered. For exampe, if an increase in price is required it may be accompanied, at east initiay, by increased promotiona efforts. When reducing prices the degree of fexibiity enjoyed by decision makers wi tend to be ess for existing products than for new products. This foows from the high probabiity that the existing product is now ess unique, faces stronger competition and is 481

9 Part IV Designing the goba marketing programme Tabe 15.2 Saes voume increase or decrease (%) required to maintain tota profit contribution Profit contribution margin (price variabe cost per unit as % of the price) Price reduction (%) Saes voume increase (%) required to maintain tota profit contribution Profit contribution margin (price variabe cost per unit as % of the price) Price increase (%) Max. saes voume reduction (%) required to maintain tota profit contribution Experience curve pricing Combination of the experience curve (owering costs per unit with accumuated production of the product) with typica market price deveopment within an industry. aimed at a broader segment of the market. In this situation the decision maker wi be forced to pay more attention to competitive and cost factors in the pricing process. The timing of price changes can be neary as important as the changes themseves. For exampe, a simpe tactic of time agging competitors in announcing price increases can produce the perception among customers that you are the most customer-responsive suppier. The extent of the time ag can aso be important. In one company an independent survey of customers (Garda, 1995) showed that the perception of being the most customer-responsive suppier was generated just as effectivey by a six-week ag in foowing a competitor s price increase as by a sixmonth ag. A considerabe amount of money woud have been ost during the unnecessary four-and-a-haf-month deay in announcing a price increase. Experience curve pricing Price changes usuay foow changes in the product s stage in the ife cyce. As the product matures more pressure wi be put on the price to keep the product competitive because of increased competition and ess possibiity of differentiation. Let us aso integrate the cost aspect into the discussion. The experience curve has its roots in a commony observed phenomenon caed the earning curve, which states that as peope repeat a task they earn to do it better and faster. The earning curve appies to the abour portion of manufacturing cost. The Boston Consuting Group extended the earning effect to cover a the vaue-added costs reated to a product manufacturing pus marketing, saes, administration and so on. The resuting experience curves, covering a vaue chain activities (see Figure 15.3), indicate that the tota unit costs of a product in rea terms can be reduced by a certain percentage with each doubing of cumuative production. The typica decine in cost is 30 per cent (termed a 70 per cent curve), athough greater and esser decines are observed (Czepie, 1992, p. 149). 482

10 Chapter 15 Pricing decisions and terms of doing business Figure 15.3 Experience curves of vaue chain activities Source: Czepie, 1992, p If we combine the experience curve (average unit cost) with the typica market price deveopment within an industry we wi have a reationship simiar to that shown in Figure Figure 15.4 shows that after the introduction stage (during part of which the price is beow the tota unit cost), profits begin to fow. Because suppy is ess than demand prices do not fa as quicky as costs. Consequenty the gap between costs and prices widens, in effect creating a price umbrea, attracting new competitors. However, the competitive situation is not a stabe one. At some point the umbrea wi be foded by one or more competitors reducing the prices in an attempt to gain or retain market share. The resut is that a shake-out phase wi begin: inefficient producers wi be shaken out by rapidy faing market prices, and ony those with a competitive price/ cost reationship wi remain. Figure 15.4 Product ife cyce stages and the industry price experience curve Source: Czepie, 1992, p

11 Part IV Designing the goba marketing programme Pricing across products (product ine pricing) With across-product pricing the various items in the ine may be differentiated by pricing them appropriatey to indicate, for exampe, an economy version, a standard version and a top-of-the-range version. One of the products in the ine may be priced to protect against competitors or to gain market share from existing competitors. Products with ess competition may be priced higher to subsidize other parts of the product ine, so as to make up for the ost contribution of such fighting brands. Another strategy is price bunding (tota package price), where a certain price is set for customers who simutaneousy buy severa items within the product ine (one price for a persona computer package with software and printer). In a such cases a key consideration is how much consumers in different countries want to save money, to spend time searching for the best buy and so forth. Furthermore, some items in the product ine may be priced very ow to serve as oss eaders and induce customers to try the product. A specia variant of this is the so-caed buy in foow on strategy (Weigand, 1991). A cassic exampe of this strategy is the razor bade ink where Giette, for exampe, uses a penetration price on its razor (buy in) but a skimming pricing (reativey high price) on its razor bades (foow on). Thus the inked product or service the foow on is sod at a significant contribution margin. This inevitaby attracts hitchhikers who try to se foow-on products without incurring the cost of the buy in. The buy in foow on strategy is different from a ow introductory price, which is based on the hope that the customer (of habit) wi return again and again at higher prices. With the buy in foow on strategy saes of two products or services are powerfuy inked by factors such as ega contracts, patents, trade secrets, experience curve advantages and technoogica inks. Other exampes of the strategy are as foows: The price of a Poaroid instant camera is very ow, but Poaroid hopes that this wi generate saes of far more profitabe fims for many years. The teephone companies se mobie (ceuar) teephones at a near giveaway price, hoping that the customer wi be a heavy user of the profitabe mobie teephone network. Bunde pricing Bunding product and services together in a system-soution product. If the customer thinks that entry price is a key barrier, service contracts can be priced higher, which aows for ower entry product pricing the practice in many software businesses. Product-service bunde pricing The structure and eve of pricing is perhaps the most crucia design choice in embedded services. To get pricing right, a company needs a cear grasp of its strategic intent and its sources of competitive advantage and must often make trade-offs between product penetration and the growth and margins of its service business. A company s strategic intent argey determines the appropriate extent of productservice bunding and the vaue attributed to services in such bundes. Companies that focus on enhancing or protecting core products shoud price their services to improve their product penetration. The pricing strategy to achieve such product pu-through varies according to customer purchasing decisions. Companies can raise the vaue of the product in use and increase its pu-through by bunding products and services into a higher-vaue soution. If the entry price is a key factor, service contracts can be priced higher, which aows for ower product pricing the practice in many software businesses. In some cases, companies can raise the price of maintenance service contracts to acceerate the rate of product upgrades. The strategic goa of product pu-through aso means that saes and fied agents shoud have some fexibiity and authority in the pricing of services. However, companies must sti activey manage pricing discipine by ensuring that these saespeope are accountabe for the tota profitabiity of the bundes they se. 484

12 Chapter 15 Pricing decisions and terms of doing business By contrast, companies aiming to create an independent, growth-oriented service business shoud price their offerings to achieve profitabe growth and set pricing targets as cose to the service s vaue to customers as competitive aternatives permit. These companies shoud set pricing guideines and deegate authority centray, with reativey imited freedom for saes and fied personne and cear rues for discounting. Bunding prices for services and products is usuay a bad idea for a growth patform in services, since within any given customer s organization, the person who buys the service might not be the one who buys the product. It is aso difficut to bunde prices whie hoding both product and service business units accountabe for their independent saes and margin targets. The source of competitive advantage scae or ski mainy affects pricing structures. If economies of scae drive a business, its pricing shoud be based on standard units (such as terabytes of storage managed) and it shoud offer voume discounts to encourage growth in usage. Such companies ought to make the price of any customized variation from their standard service offerings extremey high, since these exceptions push up costs throughout the business. By contrast, if a service business reies mosty on specia skis, it shoud base its prices on the costs its customers avoid by using its services or on the cost of the next-best aternative. Such vaue-based pricing requires a sophisticated anaysis of a customer segment s tota cost of ownership and a deep understanding of the cost structure of the service business. Competitive benchmarks and the cost of depoying the skis shoud determine the respective upper and ower bounds for these price eves. In the best case, companies can package this inteigence into pricing toos that aow saes and fied agents to estimate customer vaue more accuratey and thus improve fied-eve pricing decisions (Auguste et a., 2006). Pricing across countries (standardization versus differentiation) A major probem for companies is how to coordinate prices between countries. There are two essentia opposing forces: first, to achieve simiar positioning in different markets by adopting argey standardized pricing; and second, to maximize profitabiity by adapting pricing to different market conditions. In determining to what extent prices shoud be standardized across borders two basic approaches appear: 1 Price standardization. This is based on setting a price for the product as it eaves the factory. At its simpest it invoves setting a fixed word price at the headquarters of the firm. This fixed word price is then appied in a markets after taking account of factors such as foreign exchange rates and variance in the reguatory context. For the firm this is a ow-risk strategy, but no attempt is made to respond to oca conditions and so no effort is made to maximize profits. However, this pricing strategy might be appropriate if the firm ses to very arge customers, who have companies in severa countries. In such a situation the firm might be under pressure from the customer ony to deiver at the same price to every country subsidiary, throughout the customer s mutinationa organization. In Figure 15.5 this is exempified, for exampe, by the internationa activities of arge retai organizations. Another advantage of price standardization incudes the potentia for rapid introduction of new products in internationa markets and the presentation of a consistent (price) image across markets. 2 Price differentiation. This aows each oca subsidiary or partner (agent, distributor, etc.) to set a price that is considered to be the most appropriate for oca conditions, and no attempt is made to coordinate prices from country to country. Cross-cutura empirica research has found significant differences in customer characteristics, 485

13 Part IV Designing the goba marketing programme Figure 15.5 Structura factors of standardized versus differentiated pricing in European consumer goods markets Source: Reprinted from European Management Journa, Vo. 12, No. 2, Dier. H. and Bukhari, I. (1994) Pricing conditions in the European Common Market, p. 168, Copyright 1994, with permission from Esevier. preference and purchasing behaviour among different countries (Theodosiou and Katsikeas, 2001). The weakness with price differentiation is the ack of contro that the headquarters has over the prices set by the subsidiary operations or externa partner. Significanty different prices may be set in adjacent markets, and this can refect bady on the image of mutinationa firms. It aso encourages the creation of parae importing/grey markets (which are deat with in greater detai in Chapter 17), whereby products can be purchased in one market and sod in another, undercutting the estabished market prices in the process. The underying forces favouring standardization or differentiation are shown in Figure An internationa pricing taxonomy As we discussed previousy, pricing decisions in the internationa environment tend to be a function of the interpay between the externa, market-reated compexities that shape firm operations and the capabiities of the firm to respond effectivey to these contingencies. Soberg s (1997) framework captures this interface in a meaningfu way and eads to sufficienty important consequences for the export pricing behaviour of firms in foreign markets. Soberg suggests that firms internationa strategic behaviour is shaped primariy by two dimensions: (a) the degree of gobaism of the firm s industry (a measure of the market reated factors) and (b) its degree of preparedness for internationaization (a measure of the firm s abiities to respond to these factors). These two dimensions are discussed in Chapter 1 (Figure 1.1) with the purpose of suggesting under which circumstances the firm shoud stay at home, strengthen the goba position or something in between. In Figure 15.6 an internationa pricing taxonomy is proposed aong these two dimensions (Soberg et a., 2006). A goba industry is dominated by a few, arge major competitors that rue their categories in word markets within their product category. Thus, the degree of gobaism 486

14 Chapter 15 Pricing decisions and terms of doing business Figure 15.6 A taxonomy of internationa pricing practices Source: Adapted from Soberg et a., 2006, p. 31. In the origina artice Soberg has used the concept Gobaity instead of Gobaism. aong the industry gobaism dimension is considered to vary between two extremes: a monopoy at one end (the right) and atomistic competition at the other (the eft). The strategic impication of this perspective is that the monopoistic and oigopoistic goba payer woud be the price setter, whereas the firm in the atomistic (mutioca) market setting woud be exposed to oca market forces, finding itsef needing to foow market prices in every case. Athough most firms fa into intermediate positions aong this continuum, we beieve that the everage of the individua internationa firm in setting its pricing strategy wi be greaty infuenced by the gobaism of the competitive environment in which it wi operate. On the other dimension, preparedness for internationaization, experienced firms find internationa pricing to be a more compicated matter, even though they devote additiona resources to coecting and processing greater amounts of information. These firms are found to have the internationa preparedness that is necessary to offset the effects of reduced prices when they penetrate new markets or respond to competitive attacks, to be more sef-confident in setting pricing strategies, and, in genera, to enjoy higher market shares in the export market. In contrast, smaer and more inexperienced firms seem to be too weak both in reation to their oca counterparts and in terms of generating oca market insight to be abe to determine effective price eves for their products in foreign markets. Therefore, they tend to possess smaer shares in their markets and to foow the pricing practices of their competitors or segment eaders. Looking through the ens of this framework we assume that arge, internationay experienced exporters wi be ikey to centraize their pricing decisions and wi prefer higher degrees of contro over those decisions, whereas smaer, often new-to-export, and internationay inexperienced firms wi be ikey to experiment with decentraized and often opportunistic modes of price-setting behaviour in their market. The foowing discusses the characteristics of each of the four strategic prototypes in Figure Prototype 1: The oca price foower firm In this ce the firm (manufacturer) wi ony have imited internationa experience, and consequenty, the firm s oca export intermediate (agent or distributor) wi serve as the key informant for the firm. This information asymmetry bears the danger that 487

15 Part IV Designing the goba marketing programme the export intermediate might misead the exporter by exercising opportunism or by pursuing goas that are in confict with those of the exporter. That may cause further transaction costs, and ead to internaization (see section 3.3 on transaction cost anaysis). Because of the imited market knowedge the exporter is prone to cacuate its prices crudey and most ikey on the basis of cost and the (sometimes insufficient or biased) information from its oca export intermediary. In the extreme case such an exporter woud respond ony to unsoicited offers from abroad, and wi tend foowing a pricing procedure based on interna cost information, thus missing potentia internationa business opportunities. Prototype 2: The goba price foower firm Firms that fa into the goba price foower ce have imited preparedness for internationaization. In contrast, however, goba price foower firms are often more motivated in expanding their internationa market invovement, as they are pushed by the goba market. Firms in this ce are expected to charge a standardized price in a countries because the interconnected internationa markets have more or ess the same price eve. Given their margina position in goba markets, such firms have imited bargaining everage and may be compeed to adopt the price eve set by goba market eaders, often very arge goba customers (see aso the discussion about goba account management (GAM) in Chapter 20). The Prototype 2 firms are typicay under constant pressure from their more efficient distribution and gobay branded counterparts to adjust their prices. Prototype 3: The mutioca price setter firm Firms in this ce are we-prepared internationa marketers with we-entrenched positions in oca markets. Typicay they are capabe of assessing oca market conditions through in-depth anayses and evauation of market information, estabished market inteigence systems and/or deepy rooted market knowedge. They tend to have a tight contro of their oca market distribution networks through information and feedback systems. Prototype 3-firms adapt their prices from one market to the next in ight of the differentiated requirements of each oca market and manage the different market and pricing structures they cope with in their many (mutidomestic) markets with reativey high sophistication. In contrast to their oca price foower counterparts (Prototype 1), however, these firms are often the pricing eaders in their oca markets and base their pricing strategy primariy on oca market conditions in each market. Given their mutidomestic orientation, these firms tend to shift pricing decision-making authority to oca subsidiary managers, even though their headquarters personne cosey monitors saes trends in each oca market. Firms in this ce face chaenges from grey market imports in their oca markets that are motivated by the opportunity for cheaper producers to expoit price differences across markets (see aso section 16.8 on grey marketing). Prototype 4: The goba price eader firm Firms in this ce hod strong positions in key word markets. They manage smoothy functioning marketing networks, operating mainy through hierarchica entry modes or in combination with intermediate modes ike joint ventures or aiances in major word markets. Prototype 4-firms compete against a imited number of competitors in each major market, simiar to a goba (or a regiona) oigopoy. Typica of oigopoy payers, they tend to be chaenged by the cross-border transparency of the price 488

16 Chapter 15 Pricing decisions and terms of doing business mechanism; manage goba (or regiona) constraints, such as demand patterns and market reguation mechanisms; and set prices pan-regionay (i.e. across the EU). Goba price eaders tend to maintain reativey high price eves in their markets, though possiby not as effectivey as their mutioca counterparts. Compared with the goba price eader firm, the mutioca price setter more effectivey erects oca entry barriers, such as brand eadership, has coser reationships with its oca distributors and a deeper understanding of oca conditions in each oca market, thus protecting itsef from the downside of internationa price competition (Soberg et a., 2006). Goba pricing contracts A customer requiring one goba price (per product) from the suppier for a its foreign SBUs and subsidiaries. Estabishing goba-pricing contracts (GPCs) As gobaization increases the foowing sentence is heard frequenty among goba suppiers and goba customers: Give me a goba-pricing contract (GPC) and I consoidate my wordwide purchase with you. Increasingy, goba customers are demanding such contracts from suppiers. For exampe, in 1998 Genera Motor s Powertrain Group tod suppiers of components used in GM s engines, transmissions and subassembies to charge GM the same for parts from one region as they did for parts from another region. Suppiers do not need to ose out when customers gobaize. The most attractive goba-pricing opportunities are those that invove suppiers and customers working together to identify and eiminate inefficiencies that harm both. Sometimes, however, suppiers do not have a choice they cannot afford to shut themseves out of business with their argest and fastest-growing customers. Suppiers and customers have different advantages and disadvantages with gobapricing contracts and Tabe 15.3 iustrates some of these. One chemicas manufacturer concentrated on reationships with a few seect customers. It had decided that its strength ay in vaue-added services but that potentia customers in emerging markets were fixated on price. The seect customers, however, were interested in money-saving suppy and inventory management initiatives deveoped jointy with the suppier. Goba customers demands for detaied cost information can aso put suppiers at risk. Toyota, Honda, Xerox and others force suppiers to open their books for inspection. Their stated objectives: to hep suppiers identify ways to improve processes and quaity whie reducing costs and to buid trust. But in an economic downturn the goba customer might seek price reductions and suppementary services. European pricing strategy In 1991 price differentias for identica consumer goods across Europe were around 20 per cent on average, but much greater differences were apparent in certain products (Simon and Kucher, 1993). In another study (Dier and Bukhari, 1994) there were aso considerabe price differences for identica take-home ice-cream products. The causes of price differentias are differences in reguations, competition, distribution structures and consumer behaviour, such as wiingness to pay. Currency fuctuations can aso infuence short-term price differences. The pressures of regionaization are acceerating the move to uniform pricing, but Simon and Kucher (1993) warn that this is a potentia time bomb, as the pressure is for uniform pricing to be at the owest pricing eves. Europe was a price differentiation paradise as ong as markets were separated. But it is becoming increasingy difficut to retain the od price differentias. There are primariy two deveopments that may force companies to standardize prices across European countries: 489

17 Part IV Designing the goba marketing programme Tabe 15.3 Goba pricing contracts (GPCs): advantages and disadvantages Advantages Disadvantages Customers Lower prices wordwide couped with higher eves of service. Standardization of products and services offered across markets. Efficiencies in a processes, incuding new product deveopment, manufacturing, inventory, ogistics and customer service Faster diffusion of innovations gobay. Customer might be ess adaptabe to oca market variance and changes over time. Suppier might not have capabiities to provide consistent quaity and performance across markets. Suppier might use customer s over-dependence to extract higher prices. Loca managers might resist goba contracts and prefer deaing with oca suppiers. Costs of monitoring goba contracts might outstrip the benefits. Suppiers Easiy gain access to new markets and grow the business. Consoidate operations and achieve economies of scae. Work with industry eaders and infuence market deveopment by using them as showcase accounts. Coaborate with customers and deveop strong reationships that are difficut for potentia competitors to break into. Rectify price and service anomaies in a customer reationship across country markets. Loca managers sometimes resist change, and suppier may get caught in the crossfire between customer s HQ and country managers. Suppier might ose the abiity to serve other attractive customers. Customer might not be abe to deiver on promises. Customer might take advantage of cost information shared in the reationship. Suppier might become over-dependent on one customer, even when there are other more attractive customers to serve. Suppier might have a confict with existing channes of distribution in the new markets. Source: adapted from Narayandas, Quech and Swartz, 2000, pp Internationa buying power of cross-european retai groups. 2 Parae imports/grey markets. Because of differentiated prices across countries, buyers in one country are abe to purchase at a ower price than in another country. As a resut there wi be an incentive for customers in ower-price markets to se goods to higher-price markets in order to make a profit. Grey marketing wi be examined further in section Simon and Kucher (1993) suggest a price corridor (Figure 15.7). The prices in the individua countries may ony vary within that range. Figure 15.7 is aso interesting in the ight of the euro, which had been fuy impemented by January However, price differences that can be justified by transportation costs and short-term competitive conditions, etc., may sti be maintained. They recommend that business in smaer countries shoud be sacrificed, if necessary, in order to retain acceptabe pricing eves in the big markets such as France, Germany, the United Kingdom and Itay. For exampe, for a pharmaceutica manufacturer it is more profitabe not to se in the Portuguese pharmaceutica market than to accept a price reduction of 10 per cent in the German market due to parae imports from Portuga. 490

18 Chapter 15 Pricing decisions and terms of doing business Figure 15.7 Deveopment of prices in Europe Source: Simon and Kucher, 1993, p. 26. Copyright ESOMAR. Transfer pricing Prices charged for intracompany movement of goods and services. Whie transfer prices are interna to the company, they are important externay for crossborder taxations purposes. Transfer pricing Transfer prices are those charged for intracompany movement of goods and services. Many purey domestic firms need to make transfer-pricing decisions when goods are transferred from one domestic unit to another. Whie these transfer prices are interna to the company they are important externay because goods being transferred from country to country must have a vaue for cross-border taxation purposes. The objective of the corporation in this situation is to ensure that the transfer price paid optimizes corporate rather than divisiona objectives. This can prove difficut when a company internationay is organized into profit centres. For profit centres to work effectivey a price must be set for everything that is transferred, be it working materias, components, finished goods or services. A high transfer price for exampe, from the manufacturing division to a foreign subsidiary is refected in an apparenty poor performance by the foreign subsidiary (see the high mark-up poicy in Tabe 15.4), whereas a ow price woud not be acceptabe to the domestic division providing the goods (see the ow mark-up poicy in Tabe 15.4). This issue aone can be the cause of much mistrust between subsidiaries. The best of Tabe 15.4 s two mark-up poicies seen from the consoidated point of view is to use a high mark-up poicy, since it generates a net income of $550, as against $475 from using a ow mark-up poicy. The best soution depends on the tax rates in the countries of the manufacturing and distribution affiiates (subsidiaries). There are three basic approaches to transfer pricing: 1 Transfer at cost. The transfer price is set at the eve of the production cost and the internationa division is credited with the entire profit that the firm makes. This means that the production centre is evauated on efficiency parameters rather than profitabiity. The production division normay disikes seing at production cost because it beieves it is subsidizing the seing subsidiary. When the production division is unhappy the seing subsidiary may get suggish service, because the production division is serving more attractive opportunities first. 2 Transfer at arm s ength. Here the internationa division is charged the same as any buyer outside the firm. Probems occur if the overseas division is aowed to buy esewhere when the price is uncompetitive or the product quaity is inferior, and further probems arise if there are no externa buyers, making it difficut to estabish 491

19 Part IV Designing the goba marketing programme Tabe 15.4 Tax effect of ow versus high transfer price on net income ($) Manufacturing Distribution/seing Consoidated affiiate affiiate company (division) (subsidiary) tota Low mark-up poicy Saes 1,400 2,000 2,000 Less cost of goods sod 1,000 1,400 1,000 Gross profit ,000 Less operating expenses Taxabe income Less income taxes (25%/50%) Net income High mark-up poicy Saes 1,700 2,000 2,000 Less cost of goods sod 1,000 1,700 1,000 Gross profit ,000 Less operating expenses Taxabe income Less income taxes (25%/50%) Net income Note: Manufacturing affiiate pays income taxes at 25%. Distribution affiiate pays income taxes at 50%. Source: adapted from Eiteman and Stonehi, a reevant price. Nevertheess the arm s-ength principe has now been accepted wordwide as the preferred (not required) standard by which transfer prices shoud be set (Fraedrich and Bateman, 1996). 3 Transfer at cost pus. This is the usua compromise, where profits are spit between the production and internationa divisions. The actua formua used for assessing the transfer price can vary, but usuay it is this method that has the greatest chance of minimizing executive time spent on transfer-price disagreements, optimizing corporate profits and motivating the home and internationa divisions. A senior executive is often appointed to rue on disputes. A good transfer-pricing method shoud consider tota corporate profie and encourage divisiona cooperation. It shoud aso minimize executive time spent on transferprice disagreements and keep the accounting burden to a minimum. Currency issues A difficut aspect of export pricing is the decision about what currency the price shoud be quoted in. The exporter has the foowing options: the foreign currency of the buyer s country (oca currency); the currency of the exporter s country (domestic currency); the currency of a third country (usuay US doars); a currency unit such as the euro. If the exporter quotes in the domestic currency then not ony is it administrativey much easier, but aso the risks associated with changes in the exchange rate are borne by the customer, whereas by quoting prices in the foreign currency the exporter bears the exchange rate risk. However, there are benefits to the exporter in quoting in foreign currency: Quoting in foreign currency coud be a condition of the contract. It coud provide access to finance abroad at ower interest rates. 492

20 Chapter 15 Pricing decisions and terms of doing business Good currency management may be a means of gaining additiona profits. Customers normay prefer to be quoted in their own currency in order to be abe to make competitive comparisons and know exacty what the eventua price wi be. Another difficut probem that exporters face is caused by fuctuating exchange rates. A company in a country with a devaued currency can (a other things being equa) strengthen its internationa competitive position. It can choose to reduce prices in foreign currencies or it can eave prices unchanged and instead increase profit margins. When the Itaian ira dropped by per cent in vaue against the German mark it gave the Itaian car producer Fiat a competitive advantage in pricing. The German car exporters, such as Vokswagen, were adversey affected and had to ower its ist prices. In this respect the geographic pattern of a firm s manufacturing and saes subsidiaries compared with those of its main competitors becomes very important, since a oca subsidiary can absorb most of the negative effects of a devauation Impications of the Internet for pricing across borders Europe s singe currency, the euro ( has finay become a reaity after more than a decade of panning and preparation. In one stroke the singe currency has created the argest singe economy in the word, with a arger share of goba trade and a greater number of consumers than in the United States. The impication is that Europe suddeny became a singe market by the end of 2000, and peope can purchase from another country as easiy as they can from a shop across the road. The same currency wi be used; ony the anguage issue remains. Opinion in Europe is that, as more of the popuation goes onine, and as Europe starts using its new singe currency, onine shopping wi experience a tremendous growth. Most of this growth has been fueed by aggressive price cutting from internet service providers (ISPs). A number of UK companies, for exampe, are now offering free internet access or pay-as-you-go modes, which have encouraged new sections of the popuation to try the Internet for the first time. A European singe currency was a ong-hed ambition for members of the European Union. The idea was first considered in the 1970s, but knocked off-course by oi price rises. It re-emerged in the eary 1980s and was finay agreed to in the 1992 Maastricht Treaty. There were many accounting criteria to be met by each country, such as the contro of the rate of infation and the debt/gdp ratio. Most countries have met these criteria and were permitted to join the European Monetary Union. The euro is now (end 2006) the currency of 12 European Union member states: Begium, Germany, Greece, Spain, France, Ireand, Itay, Luxembourg, the Netherands, Austria, Portuga and Finand. As from 1 January 2007, the euro is aso the currency of Sovenia. The United Kingdom being outside the euro region wi be quite inconvenient for many US companies who trade heaviy with UK companies or have UK subsidiaries. The main detaied impications of the euro wi be that it wi: ower prices for consumers by making prices transparent across Europe; create a rea singe market by reducing friction to trade caused by high transaction costs and fuctuating currencies; enhance competition by forcing companies to concentrate on price, quaity and production instead of hiding behind weak currencies; 493

21 Part IV Designing the goba marketing programme benefit SMEs and consumers by making it easier for the former to enter foreign markets and aowing the atter, increasingy via the internet, to shop in the owest priced markets; estabish infation and interest rate stabiity via the new European Centra Bank; and ower the costs of doing business through ower prices, ower interest rates, no transaction costs or oss through exchanging currencies, and the absence of exchange rate fuctuations. In short, the singe currency wi significanty increase competition, ower transaction costs, and bring about greater certainty. These new forces wi bring about structura reforms in Europe. Amost every aspect of Europe s business and poitica environment wi be affected. Perhaps most importanty, marketing and pricing strategies need rethinking. Because the euro wi aow easy price comparison across Europe (especiay via the Internet), it wi revea the differences between higher and ower priced markets. For those seing via the Internet the euro wi make it easier to do business and give encouragement to companies seing to European customers. Since Europeans wi now be abe to shop and compare prices at the cick of a mouse they wi aso be more favouraby incined towards e-commerce. In any singe European country there is not usuay much competition for a given product, since purchasing habits have aways been oca (in one s own country). Now that Europeans wi be abe to shop internationay via the Internet they wi become aware of other choices and prices for the same product that were not previousy known. Competition wi heat up for the buyer s euro, and this shoud put a downward pressure on prices. However, recent research has aso shown that the Internet is not creating a state of perfect competition with decreasing prices as a resut. In fact, in some cases, onine prices are higher than those of conventiona retai outets. Research has aso shown that onine consumers are not as price sensitive as had previousy been thought. Consumers become ess price sensitive and more oya as the eve of quaity information on a site increases (Kung and Monroe, 2002) Terms of sae/deivery terms The price quotation describes a specific product, states the price for the product as we as a specified deivery ocation, sets the time of shipment and specifies payment terms. The responsibiities of the buyer and the seer shoud be speed out as they reate to what is and what is not incuded in the price quotation and when ownership of goods passes from seer to buyer. Incoterms are the internationay accepted standard definitions for terms of sae set by the Internationa Chamber of Commerce. They have been fuy revised for the new miennium in ine with deveopments in commercia practice. Pubished in September 1999, Incoterms 2000 may be used to define the responsibiities of buyer and seer in contracts effective from 1 January The 13 terms contained in Incoterms 2000 are the foowing: EXW FCA FAS FOB CFR Ex-works (... named pace) Free carrier (... named pace) Free aongside ship (... named port of shipment) Free on board (... named port of shipment) Cost and freight (... named port of destination) 494

22 Chapter 15 Pricing decisions and terms of doing business CIF CPT CIP DAF DES DEQ DDU DDP Cost, insurance and freight (... named port of destination) Carriage paid to (... named pace of destination) Carriage and insurance paid to (... named pace of destination) Deivered at frontier (... named pace) Deivered ex-ship (... named port of destination) Deivered ex-quay (... named port of destination) Deivered duty unpaid (... named pace of destination) Deivered duty paid (... named pace of destination) Tabe 15.5 describes the point of deivery and risk shift for some terms of sae. The foowing is a description of some of the most popuar terms of sae: Ex-works (EXW). The term Ex means that the price quoted by the seer appies at a specified point of origin, usuay the factory, warehouse, mine or pantation, and the buyer is responsibe for a charges from this point. This term represents the minimum obigation for the exporter. Free aongside ship (FAS). Under this term the seer must provide for deivery of the goods free aongside, but not on board, the transportation carrier (usuay an ocean vesse) at the point of shipment and export. This term differs from that of FOB, since the time and cost of oading are not incuded in the FAS term. The buyer has to pay for oading the goods onto the ship. Free on board (FOB). The exporter s price quote incudes coverage of a charges up to the point when goods have been oaded on to the designated transport vehice. The designated oading point may be a named inand shipping point, but is usuay the port of export. The buyer assumes responsibiity for the goods the moment they pass over the ship s rai. Cost and freight (CFR). The seer s iabiity ends when the goods are oaded on board a carrier or are in the custody of the carrier at the export dock. The seer pays a the transport charges (excuding insurance, which is the customer s obigation) required to deiver goods by sea to a named destination. Cost, insurance and freight (CIF). This trade term is identica with CFR except that the seer must aso provide the necessary insurance. The seer s obigations sti end at the same stage (i.e. when goods are oaded or aboard), but the seer s insurance company assumes responsibiity once the goods are oaded. Deivered ex-quay (DEQ). Ex-quay means from the import dock. The term goes one step beyond CIF and requires the seer to be responsibe for the cost of the goods and a other costs necessary to pace the goods on the dock at the named overseas port, with the appropriate import duty paid. Deivered duty paid (DDP). The export price quote incudes the costs of deivery to the importer s premises. The exporter is thus responsibe for paying any import duties and costs of unoading and inand transport in the importing country, as we Tabe 15.5 Point of deivery and where risk shifts from seer to buyer EXW FAS FOB CFR CIF DEQ DDP Suppier s factory/warehouse Dock at port of shipment (export dock) Port of shipment (on board vesse) Port of destination (import dock) * Buyer s warehouse (destination) Main transit risk on buyer buyer buyer buyer seer seer seer * The seer transfers the risk to its insurance company. Source: adapted from Onkvisit and Shaw, 1993, p Courtesy of Sak Onkvisit. 495

23 Part IV Designing the goba marketing programme as a costs invoved in insuring and shipping the goods to that country. These terms impy maximum exporter obigations. The seer aso assumes a the risks invoved in deivering to the buyer. DDP used to be known as Franco domicie pricing. Export price quotations are important because they spe out the ega and cost responsibiities of the buyer and seer. Seers favour a quote that gives them the east iabiity and responsibiity, such as ex-works, which means the exporter s iabiity finishes when the goods are oaded on to the buyer s carrier at the seer s factory. Buyers, on the other hand, woud prefer either DDP, where responsibiity is borne by the suppier a the way to the customer s warehouse, or CIF port of discharge, which means that the buyer s responsibiity begins ony when the goods are in its own country. Generay, the more market-oriented pricing poicies are based on CIF, which indicates a strong commitment to the market. By pricing ex-works an exporter is not taking any steps to buid a reationship with the market and so may be indicating ony short-term commitment Terms of payment The exporter wi consider the foowing factors in negotiating terms of payment for goods to be shipped: practices in the industry; terms offered by competitors; reative strength of the buyer and the seer. If the exporter is we estabished in the market with a unique product and accompanying service, price and terms of trade can be set to fit the exporter s desires. If, on the other hand, the exporter is breaking into a new market or if competitive pressures ca for action, pricing and seing terms shoud be used as major competitive toos. The basic methods of payment for exports vary in terms of their attractiveness to the buyer and the seer, from cash in advance to open account or consignment seing. Neither of the extremes wi be feasibe for onger-term reationships, but they do have their uses in certain situations. The most common payment methods are presented in Figure The most favourabe term to the exporter is cash in advance because it reieves the exporter of a risk and aows for immediate use of the money. On the other hand, the most advantageous option seen from the buyer s perspective woud be consignment or open account. The most common arrangements, in decreasing order of attractiveness to the exporter, wi now be described. Cash in advance The exporter receives payment before shipment of the goods. This minimizes the exporter s risk and financia costs, since there is no coection risk and no interest cost on receivabes. However, importers wi rarey agree to these terms, since it ties up their capita and the goods may not be received. Consequenty such terms are not widey used. They are most ikey either when the exporter acks confidence in the importer s abiity to pay (often the case in initia export transactions) or where economic and 496

24 Chapter 15 Pricing decisions and terms of doing business Figure 15.8 Different terms of payment Source: Chase Manhattan Bank, 1984, p. 5. poitica instabiity in the importing country may resut in foreign exchange not being made avaiabe for importers. Letter of credit Wordwide etters of credit are very important and very common. A etter of credit is an instrument whereby a bank agrees to pay a specified amount of money on presentation of documents stipuated in the etter of credit, usuay the bi of ading, an invoice and a description of the goods. In genera, etters of credit have the foowing characteristics: They are an arrangement by banks for setting internationa commercia transactions. They provide a form of security for the parties invoved. They ensure payment, provided that the terms and conditions of the credit have been fufied. Payment by such means is based on documents ony and not on the merchandise or services invoved. The process for handing etters of credit is iustrated in Figure In the process the customer agrees to payment by a confirmed etter of credit. The customer begins the process by sending an enquiry for the goods (1). The price and terms are confirmed by a pro-forma invoice (2) by the suppier, so that the customer knows for what amount (3) to instruct its bank (the issuing bank) to open a etter of credit (4). The etter of credit is confirmed by a bank (5) in the suppier s country. When the goods are shipped (6) the shipping documents are submitted by the suppier to its bank (7), so that shipment is confirmed by their presentation (8) together with the etter of credit and a other stipuated documents and certificates for payment (9). The money is automaticay transmitted from the customer s account via the issuing bank. The customer may coect the goods (10) ony when a the documents have been deivered to it by its bank the issuing bank (adapted from Phiips et a., 1994, p. 453). The etter of credit (L/C) has three forms: 1 Revocabe L/C. Now a rare form, this gives the buyer maximum fexibiity as it can be canceed without notice to the seer up to the moment of payment by the bank. 497

25 Part IV Designing the goba marketing programme Figure 15.9 The process for handing etters of credit Source: Phiips et a., 1994, p. 454, with permission from ITBP Ltd. 2 Irrevocabe but unconfirmed L/C. This is as good as the credit status of the estabishing bank and the wiingness of the buyer s country to aow the required use of foreign exchange. An unconfirmed L/C shoud not necessariy be viewed with suspicion. The reason for the ack of confirmation may be that the customer has been unwiing to pay the additiona fee for confirmation. 3 Confirmed irrevocabe L/C. This means that a bank in the seer s country has added its own undertaking to that of the issuing bank, confirming that the necessary sum of money is avaiabe for payment, awaiting ony the presentation of shipping documents. Whie it guarantees the seer its money it is much more costy to the buyer. Generay the buyer pays a fixed fee pus a percentage of the vaue, but where the etter of credit is confirmed the confirming bank wi aso charge a fee. On the other hand, the confirmation of an irrevocabe etter of credit by a bank gives the shipper the most satisfactory assurance that payment wi be made for the shipment. It aso means that the exporter does not have to seek payment under any conditions from the issuing bank invariaby ocated in some foreign country but has a direct caim on the confirming bank in the exporter s home country. Thus the exporter need not be concerned about the abiity or wiingness of the foreign bank to pay. Documents against payment and acceptance In the foowing two documents against situations the seer ships the goods and the shipping documents, and the draft (bi of exchange) demanding payment is presented 498

26 Chapter 15 Pricing decisions and terms of doing business to the importer through banks acting as the seer s agent. There are two principa types of bi of exchange: sight draft (documents against payment) and time draft (documents against acceptance). 1 Documents against payment. Here the buyer must make payment for the face vaue of the draft before receiving the documents conveying tite to the merchandise. This occurs when the buyer first sees the draft (sight draft). 2 Documents against acceptance. When a draft is drawn documents against acceptance credit is extended to the buyer on the basis of the buyer s acceptance of the draft caing for payment within a specified time and usuay at a specified pace. Acceptance means that the buyer formay agrees to pay the amount specified by the draft on the due date. The specified time may be expressed as certain number of days after sight (time draft). A time draft offers ess security for the seer than a sight draft, since the sight draft demands payment prior to the reease of shipping documents. The time draft, on the other hand, aows the buyer a deay of 30, 60 or 90 days in payment. Open account The exporter ships the goods without documents caing for payment, other than the invoice. The buyer can pick up the goods without having to make payment first. The advantage of the open account is its simpicity and the assistance it gives to the buyer, which does not have to pay credit charges to banks. The seer in return expects that the invoice wi be paid at the agreed time. A major weakness of the method is that there are no safeguards for payment. Exporters shoud se on open account ony to importers they know very we or that have exceent credit ratings, and to markets with no foreign exchange probems. Open account saes are ess compex and expensive than drafts, since there are no documentation requirements or bank charges. Consignment Here the exporter retains tite of the goods unti the importer ses them. Exporters own the goods onger in this method than any other, and so the financia burden and risks are at their greatest. The method shoud be offered ony to very trustworthy importers with an exceent credit rating in countries where poitica and economic risk is very ow. Consignments tend to be mainy used by companies trading with their own subsidiaries. The credit terms given are aso important in determining the fina price to the buyer. When the products of internationa competitors are perceived to be simiar the purchaser may choose the suppier that offers the best credit terms, in order to achieve a greater discount. In effect the suppier is offering a source of finance to the buyer Export financing Exporters need financing support in order to obtain working capita and because importers wi often demand terms that aow them to defer payment. Principa sources of export finance incude commercia banks, government export financing programmes, export credit insurance, factoring houses and counter-trade. 499

27 Part IV Designing the goba marketing programme Commercia banks The simpest way of financing export saes is through an overdraft faciity with the exporter s own bank. This is a convenient way to finance a the eements of the contract, such as purchasing, manufacturing, shipping and credit. The bank is generay more favouraby disposed towards granting an overdraft if the exporter has obtained an export credit insurance poicy. Export credit insurance Export credit insurance is avaiabe to most exporters through governmenta export credit agencies or through private insurers. Such insurances usuay cover the foowing: poitica risks and non-convertibiity of currency; commercia risks associated with non-payment by buyers. Exporters may be abe to use credit insurance to enabe them to grant more ibera credit terms or to encourage their banks to grant them financing against their export receivabes. The costs of such insurance are often quite ow in many markets, ranging from 1 2 per cent of the vaue of the transaction. Speciaized insurance brokers hande such insurance. Factoring Factoring means seing export debts for immediate cash. In this way the exporter shifts the probems of coecting payment for competed orders over to organizations or factors that speciaize in export credit management and finance. Ideay the exporter shoud go to the factor before any contract is signed or shipment made, and secure its wiingness to buy the receivabe. The factor wi check out the credit rating and so forth of the prospective buyer(s) typicay by having a correspondent in the importer s country do the necessary checking. Thus the factor acts as a credit approva agency as we as a faciitator and guarantor of payment. The factor does not usuay purchase export debts on terms exceeding 120 days. The factor normay charges a service fee of between 0.75 and 2.5 per cent of the saes vaue, depending on the workoad and the risk carried by the factor. Forfeiting This is a finance method deveoped in Switzerand in the 1950s. It is an arrangement whereby exporters of capita goods can obtain medium-term finance (between one and seven years). The system can briefy be expained as foows. An exporter of capita goods has a buyer that wishes to have medium-term credit to finance the purchase. The buyer pays some of the cost at once and pays the baance in reguar instaments for, say, the next five years. The principa benefit is that there is immediate cash for the exporter and, aong with the first cash payment by the buyer, forfeiting can finance up to 100 per cent of the contract vaue. Bonding In some countries (e.g. in the Midde East) contracts are cash or short term. Whereas this is an idea situation for suppiers, it means that the buyer oses some of its everage over the suppier as it cannot withhod payment. In this situation a bond or 500

28 Chapter 15 Pricing decisions and terms of doing business guarantee is a written instrument issued to an overseas buyer by an acceptabe third party, either a bank or an insurance company. It guarantees compiance of its obigations by an exporter or contractor, or the overseas buyer wi be indemnified for a stated amount against the faiure of the exporter/contractor to fufi its obigations under the contract. Leasing Exporters of capita equipment may use easing in one of two ways: 1 to arrange cross-border eases directy from a bank or easing company to the foreign buyer; 2 to obtain oca easing faciities either through overseas branches or subdivisions of internationa banks or through internationa easing associations. With easing the exporter receives prompt payment for goods directy from the easing company. A easing faciity is best set up at the eariest opportunity, preferaby when the exporter receives the order. Counter-trade Counter-trade is a generic term used to describe a variety of trade agreements in which a seer provides a buyer with products (commodities, goods, services, technoogy) and agrees to a reciproca purchasing obigation with the buyer in terms of an agreed percentage (fu or partia) of the origina saes vaue. Barter This is a straightforward exchange of goods for goods without any money transfer. Biatera barter, where ony two parties are invoved, is reativey uncommon. The bartering process can, however, be faciitated when a third (triatera barter) or even more countries (mutiatera barter) become invoved in a trading chain. Compensation dea This invoves the export of goods in one direction. The payment of the goods is spit into two parts: 1 Part payment in cash by the importer. 2 For the rest of the payment the origina exporter makes an obigation to purchase some of the buyer s goods. These products can be used in the exporter s interna production or they may be sod on in the wider market. Buy-back agreement The sae of machinery, equipment or a turnkey pant to the buyer s production is financed at east in part by the exporter s purchase of some of the resutant output. Whereas barter and compensation deas are short-term arrangements, buy-back agreements are ong-term agreements. The contract may ast for a considerabe period of time, such as 5 10 years. The two-way transactions are ceary inked, but are kept financiay separate. Counter-trade has arisen because of shortages of both foreign exchange and internationa ines of credit. Some have estimated that the size of counter-trade is as high as per cent of word trade. 501

29 Part IV Designing the goba marketing programme 15.9 Summary The major issues covered in this chapter incude the determinants of price, pricing strategy, how foreign prices are reated to domestic prices, price escaation, the eements of price quotation, and transfer pricing. Severa factors must be taken into consideration in setting price, incuding cost, competitors prices, product image, market share/voume, stage in product ife cyce and number of products invoved. The optimum mix of these ingredients varies by product, market and corporate objectives. Price setting in the internationa context is further compicated by such factors as foreign exchange rates, different competitive situations in each export market, different abour costs and different infation rates in various countries. Aso oca and regiona reguations and aws in setting prices have to be considered. The internationa marketer must quote a meaningfu price by using proper internationa trade terms. When there is doubt about how to prepare a quotation freight forwarders may be consuted (see section 17.5). These speciaists can provide vauabe information with regard to documentation (e.g. invoice, bi of ading) and the costs reevant to the movement of goods. Financia documents, such as etters of credit, require a bank s assistance. Internationa banks have internationa departments that can faciitate payment and advise cients regarding pitfas in preparing and accepting documents. CASE STUDY 15.1 Harey-Davidson: Does the image justify the price eve? The Harey-Davidson (HD) Corporation has been dominating the motorcyce industry for many decades. Today, it continues to have a strong presence in the word market for the heavyweight cruisers. In financia year 2005, the net revenues of HD were $5.3 biion. In 2005 HD had 1300 deaers seing 329,000 HD motorcyces wordwide. HD empoys about 9000 peope wordwide. In the heavyweight section (651 + cc) HD is a cear market eader in North America with a 48% market share. Their market share in Europe is 9%. The mission statement of the company is to fufi dreams through the experience of motorcycing, by providing to the motorcycists and the genera pubic an expanding ine of motorcyces, and branded products and services, in seected market segments. HD offers a compete range of motorcyces, parts, accessories, appare and genera merchandise. Strategic icensing of the HD brand heps create future generations of Harey- Davidson enthusiasts. Source: Ann Heisenfet/AP/EMPICS. In 2003 HD ceebrated its 100-year anniversary. Over the previous century the company managed to create a strong brand image and a oya customer base within the marketpace. Much of the vaue of a Harey resides in its tradition the ook, sound, and 502

30 Chapter 15 Pricing decisions and terms of doing business heritage that has made it an a-american symbo. The bikes represent something very basic a desire for freedom, adventure, and individuaism. HD maintains a cose reationship with its customers through a variety of programmes (Harey Owners Group), product offerings and events such as the Daytona bike week, motor shows and raies, etc. However, the company is facing rigorous competition from Japanese manufacturers, specificay Honda and Yamaha. Harey-Davidson s strength is its brand image within the marketpace, but its weakness is reated to production capacity and unfufied demand for its products. HD tries to continue to strengthen its positioning strategy by buiding on the Own an American Icon sogan. As its average customer s age rises, and saes go down, Harey-Davidson faces the task of attracting younger customers. Part of retooing its image incudes reeasing a new motorcyce, the Bue, designed for young professionas. According to the Motorcyce Industry Counci ( an industry trade group based in Irvine, Caifornia no one doubts that the women s market is rea, athough it sti accounts for ony 11 per cent of the tota motorcycing popuation. Pricing The internationa price competition is getting tougher. Compared to simiar modes from Honda, Harey-Davidson has sti has a 30 per cent price premium; even though Harey bikers sti wear T-shirts saying I d rather push a Harey than drive a Honda. Today, Harey s overseas saes of motorcyces outside the United States is around 25 per cent of its annua tota. Europeans ike cruiser bikes, but not so much Harey prices. In 2005, the European market share of HD in the heavyweight segment (over 650 cc) was around 9 per cent. The 2004 market eaders in Europe were Honda, Yamaha, Suzuki and BMW, each with around 15 per cent market share. Sources: www. motorcycenewswire.com/; Questions 1 Describe the HD s genera pricing strategy. What does the company s positioning have to do with its pricing strategy? 2 Shoud Harey ater its price, given strong price pressures from rivas? 3 What shoud HD do to improve its market share in Europe? CASE STUDY 15.2 Giette Co.: Is price standardization possibe for razor bades? In the batte to out-bade the competition, Giette s atest creation, a five-baded razor caed Fusion, eapfrogs the Schick Quattro by one bade and aims to provide an even coser shave to the miions of men who apparenty are having troube with ony three or four bades. Fusion (aunched in September 2005) is the first entirey new men s razor system aunched by Giette since Mach 3, which was aunched in Giette s previous fagship razor, the Mach 3, has three bades whie the Schick Quattro has four, but Giette president James Kits insists this atest innovation has nothing to do with the competition: The Schick aunch has nothing to do with this, it s ike comparing a Ferrari to a Vokswagen as far as we re concerned...there was never a pan to go to four. Fusion has one more bade than the Quattro sod by riva Schick, a unit of Energizer Hodings Inc., pus a trimming bade on the back of the pivoting Source: Giette. The Proctor & Gambe Company. cartridge for shaping facia hair, trimming sideburns and shaving under the nose. Question 1 Evauate the price eve of Giette s Fusion. 2 Discuss whether it is possibe for Giette to standardize pricing across borders for its new fivebade, Fusion. Which factors woud favour price standardization and which factors woud favour price differentiation? 503