When is Price Skimming Effective? Pros and Cons for Brands Wiser Retail Strategies

Beyond covering sunk costs, by maximizing revenue from each customer segment, companies can also grow profits at a faster rate. Without sufficient disposable income, customers can not purchase a product. Price skimming requires an ample pool of customers with enough disposable income to buy a product at above-market prices.

Price skimming is a pricing strategy in which a company starts by charging the highest price that customers will pay. Over time, the company lowers the price to reach different types of customers. Initially, the high price targets early adopters willing to pay more for a new product.

The skim pricing strategy is most effective when the product follows an inelastic demand curve – a demand curve where the quantity of the product is not majorly affected by the change in prices. In case a product does not follow the inelastic demand curve, it leads to fluctuations in sales where it might cause increased demand when prices are lowered and vice-versa. This makes it harder for businesses to maintain their production and inventory. The strategy of price skimming means a company will set the prices of its products high initially but will eventually and gradually bring down the prices.

Segmenting Markets

• The price skimming strategies come from the task of skimming different layers of ice cream.
• Also, price skimming is appropriate when the high price is interpreted as a sign of high quality.
• Apple’s pricing strategy on its smartphone lineup follows the price skimming strategy to a tee.
• When looking to establish your new product, price skimming might be the answer.

When the companyintroduces a new product in the market, the product is actually in theexperiment stage of its life cycle. Its early users are guinea pigs of the newproduct; the company makes changes based on their feedback. Once the productpasses all the tests, then the company launches it at a mass scale. These earlyusers also do the word of mouth marketing for the company.

What are the most common examples of price skimming?

Upon initial release, you have the advantage of your product’s uniqueness. A price shock in B2B business hinders companies looking to generate steady revenue. The shock that this model gives is detrimental to the foundation of the company and can damage the ever-increasing growth potential.

As these early customers are satisfied and competitors enter the market, the company reduces prices to attract more price-sensitive consumers. Price skimming strategies are only effective when a sufficient level of inelastic demand exists i.e. demand is less affected by price. While innovative new products may not be “essential,” customers are willing to pay above market price if they deem them “must-haves”.

This is why it can be combined with the psychological pricing strategy called “prestige pricing”. If you pick too high a price point, or the price reduction comes too late, the customers can turn to a cheaper product. Additionally, if the new product price is much lower than the original price, you can make your loyal customers angry.

Those kinds of people are willing to take some risk, and they are price insensitive. This phase is followed by price skimming marketing, labeling the product as a “must-have” and “the best in its category”. The price changes taking place in this method are useful in targeting early adopters when the brand’s primary focus is not the mass market. There are manyprice-conscious consumers in the market; the company lowers the price of itsproduct or service to make it readily affordable to them. Once the price of theproduct is lower, then it would become very difficult for the potentialnewcomers to enter the market.

It makes the old customers furious whohave paid a higher price for the same product. Apple had to face the samebacklash from customers back in 2007 when the company reduced the price of iPad33%. The curve betweendemand and price isn’t inelastic in the crowded market with a lot ofcompetitors. Therefore, business and the company shouldn’t follow the priceskimming strategy in the competitive market. A market comprises ofmany competitors that are working in the same niche as you are; pricing yourproduct or service becomes a very crucial stage in such circumstances. It isbecause if you launch your product with the skimming strategy, and thecompetitors came after with the price penetration strategy, then it would be agreat set back.

Quality brand perceptions

That’s because it typically succeeds when a few conditions are met. There are several attractive reasons why companies choose to use price skimming. Fifteen years later, avid iPhone devotees still form snaking queues outside Apple stores and place pre-orders for subsequent annual releases of the device. Each new version of the iPhone might only have a few new features, but loyal Apple early adopters still believe owning the new device is worth the higher investment.

• It’s perfect for catching the attention of tech lovers or trendsetters.
• Just because you think that your product is revolutionary and forward-thinking doesn’t mean the consumer will think the same thing.
• A price shock in B2B business hinders companies looking to generate steady revenue.
• Application varies depending on industry, product characteristics, and market dynamics, but when done well, it can lead to exceptional financial results.

Advantages of price skimming

Also, your product should be good and innovative enough so you can justify the high price. Most importantly, you need to keep an eye on your competitors to avoid situations like setting a too-high price or lowering the price too late. In this first phase of price skimming, the company is counting on innovators and early adopters. For example, in the tech industry, those are the people who are always looking for cutting-edge technology and the latest innovations to buy. In the fashion industry, those would be trendsetters always looking to buy fresh new designs for the following season.

Higher prices tend to draw news and press coverage, helping get more exposure and advertising for the product/service quite easily. The higher price also helps build a better brand image – if it suits the branding and is implemented properly – among consumers. In simple terms, the business charges the highest price when the offering is launched and is new in the market, and then reduces the price over time. Skimming pricing is a typical pricing strategy among several tech companies like Apple, Samsung, Sony Playstation, and so on. It is likewise used by clothing brands like Nike or Adidas, or many others who wish to use the interests of early adopters for the new items they launch.

Covering High Initial Costs or R&D Investments

The process involves launching with a premium price and systematically lowering it to accommodate broader consumer segments. Price skimming is often used when a new product type enters the market. The goal is to gather as much revenue as possible while high consumer demand and competition haven’t entered the market. Price skimming probably won’t work as effectively on any follow-up products.

Price skimming is a strategy employed by many businesses, but perhaps the most famous example would be the iPhone’s initial launch. The first-generation iPhone generated a high level of buzz due to its innovative design. Its launch price was $499 for the 4GB model and $599 for the 8GB model, and both sold out in short order.

Price Skimming can be effective when done correctly, but pricers should beware of common pitfalls. Upgrading to a paid membership gives you access to our extensive collection of plug-and-play Templates designed to power your performance—as well as CFI’s full course catalog and accredited Certification Programs.

For price skimming to work, it’s also important that lowering the price of the product doesn’t have a significant effect on unit costs. Finally, the business should operate in a space in which a higher price connotes quality, such as electronics, food and beverages, and so on. The idea is that early adopters are willing to pay a premium to be the first ones to get their hands on the what is skimming pricing new product. This helps businesses cover the cost of innovation and development while also creating wider market demand through word-of-mouth marketing. Once the product has been on the market for some time and is no longer the latest must-have, companies must reduce the price to reflect its value to a wider demographic accurately. A thoughtfully constructed pricing strategy is vital to any business’s bottom line, striking the perfect balance between sales and profit.

However, two months after its initial launch, Apple dropped its 8GB model to $399. One way to think of price skimming marketing is in layers of customer segments. As each layer or segment is skimmed off the top, the price drops to attract the next layer of customers according to what they are willing to pay.