A thoughtfully constructed pricing strategy is vital to any business’s bottom line, striking the perfect balance between sales and profit. One strategy to employ is price skimming, which involves charging customers different prices by segment. However, there are some risks involved with price skimming that one should be aware of. Find out more about the advantages and disadvantages of price skimming with our guide below.
What is price skimming?
A skimming pricing strategy usually involves setting a higher price for a new product when it first enters the market. As the product evolves, the price drops accordingly. Price skimming is often used with high-tech products. When the technology is new, there is little competition out there to match it. The company can charge a higher price for its exclusivity, then reduce the price when competitors are able to reproduce the technology.
The idea is that early adopters are willing to pay a premium to be the first ones to get their hands on the 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.
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.
Examples of price skimming
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. However, two months after its initial launch, Apple dropped its 8GB model to $399.
Apple consistently follows a skimming pricing strategy with its new products. It’s able to generate a high level of interest in its cutting-edge technology to lure in the early adopters before offering price cuts a few months later for the masses.
For price skimming to work, a company should ideally fit the following criteria:
It already has a crowd of followers who are willing to pay for new technology.
It offers genuinely innovative products.
It doesn’t have direct competition in the marketplace.
Apart from Apple, additional examples of price skimming strategies could include businesses in the automotive and high fashion industries. These work on seasonal releases, with a demographic of customers willing to pay for the latest cutting-edge collection.
Price skimming pros and cons
While price skimming can be a useful strategy for some businesses, it won’t work for every company. Here’s a closer look at the primary price skimming pros and cons:
Advantages of price skimming
Early adopters offer organic word-of-mouth advertising for your new product.
Price skimming provides higher up-front sales figures to cover research and development costs.
You’ll potentially see higher returns on your investment by maintaining interest for longer.
You can segment your customer base with different marketing strategies at each price level.
Price skimming creates the perception of high quality or must-have products.
You can create a higher-end brand image and increased customer loyalty.
Early adopters provide feedback on new products before a wider launch.
Disadvantages of price skimming
Price skimming only works with an inelastic demand curve that doesn’t respond to price changes.
Early adopters might become turned off by price decreases after their initial purchase.
A skimming pricing strategy doesn’t work if you have competitors creating similar technologies.
The quality of your new product or service must justify the higher price to be effective.
You may end up with excess inventory if price skimming efforts fail.
As you can see, there are distinct advantages and disadvantages to price skimming marketing. Whether or not this type of strategy makes sense for your business depends on your level of innovation, existing customer demographic, and market competition.
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