Everything About Price Skimming Strategy Explained (Examples, Pros, Cons, Tips)
Do you have a new innovative product and you want to make hay while the sun is shining and secure as much profit as you can before your customers lose interest? As time passes and your once-innovative product becomes less novel and more accessible to a greater range of people, the price inevitably and steadily declines. That is a Price Skimming Strategy in a nutshell – just one in a range of pricing strategies that can assist your business in setting precisely the right prices for your products – and in doing so, best suit your organization’s unique set of business objectives. In this article, we give you the down and low on the Price Skimming Pricing Strategy and outline its benefits and drawbacks.
At Pricefx, we have spent more than a decade assisting hundreds of companies globally to optimize their prices and identify their organization’s unique profit points. During that extensive and interesting journey, we have unearthed that no two businesses are identical in their needs required from a pricing strategy solution. After finishing this article, some of you will be queueing up to introduce a price skimming price strategy solution in your business, while others definitely will not.
To help you decide if a price skimming strategy solution is right for you and your business, let’s analyze exactly what price skimming is and some examples, plus journey through the strategy’s benefits and drawbacks, and tips to combining it with other pricing strategies.
What is Price Skimming Pricing Strategy? – The Definition
Price skimming pricing strategy is defined as the situation where businesses mark up the initial (usually introductory) price of the product to a much higher rate and slowly decrease it as time goes on.
To break that down into everyday terms, the business charges the highest price when your new product/s is/are first launched and is new and novel in the marketplace, and then reduces the price over time.
Price skimming is often used by businesses (particularly electronics or technology manufacturers like Apple, Samsung, LG, Sony, Lenovo etc.) when they meet some or all of the following circumstances;
- The business is a well-established brand and has a wide user base
- The product or service is revolutionary or new to the marketplace
- A high number of potential customers exist for the product
- No competitors exist for your innovative product
Price skimming suits certain industries more than the others. For example, price skimming price strategy is a favorite for tech companies, although those in the fashion industry are also big fans of the concept given its seasonality.
As newly launched products frequently have no competition or the brand is well-established and well-known by its users, a lot of potential buyers seek to be first in line to have the latest gadget as part of their technology gadgetry collection.
In other words, with the price skimming strategy, you’re maximizing your profit margins early in the sales life of your product/s.
How Does the Price Skimming Strategy Work?
The price skimming pricing strategy works by developing in your customers a “I-must-have-it” mentality. It is a bi-product of a mature market, where customers have the critical combination of – purchasing power and hunger to obtain cutting-edge or fashionable products – as soon as they hit the market.
Basically, every pricing strategy “skims” off the top to create profit. Price skimming pricing strategy is simply more direct about it – by capturing as much of the customer surplus as possible – by pricing their products as high as they possibly can without damaging brand image and reputation early on the product’s life cycle.
Let’s take a look at a graphical representation of how a price skimming pricing strategy works before examining some examples of price skimming operating in the real world.
How Price Skimming Pricing Strategy Works – The Graph
Apple Pricing Strategy
Apple is one of the most famous exponents of price skimming pricing strategy. It’s a strategy they’ve successfully employed with everything from iPhones to MacBooks to iPods. Kicking off with the iPod classic, it was originally priced at $399 in 2002 and decreased to $299 about one year later.
Since that time, new Apple products—like the iPod, iPhone, and iPad—launch with a premium price tag attached. Within a few months, that price drops, opening the door for other types of buyers.
If you’re willing to get onboard early with buying new Apple products, there is a cost involved for being an early Apple adopter. Customers know it and are fully aware of it. They are willing to pay for it too, because of Apple’s reputation and cutting-edge products. They are even ready to queue overnight at Apple stores for the privilege of paying a premium price for a brand-new product on its launch.
At the same time, the previous year’s Apple lineup receives a price cut since they are no longer considered fashionable or cutting edge.
Apple can do this as;
- It is certain that they have customers for their latest products.
- The brand image is undamaged.
- It creates the perception of Apple as a luxury brand.
Samsung Pricing Strategy
Interestingly, Samsung use a combination of price skimming strategy working together with a competitive pricing strategy.
Applying the same price skimming strategy model as the above Apple example, Samsung skims price to maximize profit on its premium smartphone model that competes directly against the latest iPhone release.
However, with a greater range of entry level smartphones than Apple (and that are priced far lower than Apple phones), Samsung also takes advantage of those cheaper prices to implement a competitive pricing strategy.
Samsung is a great example of a company using a combination of pricing strategies to compete in a heavily saturated marketplace, where sometimes even a small difference in price can make the deciding point of difference in getting the sale or not, while still making the most of the profitability of its premium product.
Sony Pricing Strategy
Sony operates a classical price skimming pricing strategy on its gaming console selection.
While Sony is also well-known for its smartphones and TVs, Sony’s Play Station line-up is highly sought after and is arguably the market leader in the gaming console space.
For example, the Sony PlayStation 3 (PS3) console was initially launched at a price of $599, because of the runaway cult success of the PlayStation 2 (PS2). What’s more, the PS2 had no competition. As a result, Sony set a much higher initial launch for their PS3. Over the following years, the price of a PS3 was lowered further every year until the PS3 price culminated at $299 in the year it was discontinued.
When Should You Use a Price Skimming Pricing Strategy?
You must be brave and confident in your product/s to start a price skimming pricing strategy. Naturally, the opportunity to charge a high price is an appealing one. However, at the same time, the risks can be intimidating. How can you be certain price skimming is the right pricing strategy for your company?
There is no method to know for sure, but if your business meets any 1 of the following 3 criteria, you might want to give the price skimming pricing strategy consideration.
- Your organization already enjoys high market share – Making sales will be easier despite a big-ticket price tag.
- You have a cutting-edge new product with little-to-no competition – Your customers are willing (and able) to pay a higher price for a product they cannot source elsewhere.
- Your product is an exclusive or luxury item – Price skimming works at its absolute best if your products are at a premium price and enjoy high profit margins.
Checked at least one of the 3 boxes above?
Consider a price skimming pricing strategy for your business.
The Benefits & Drawbacks of Price Skimming Pricing Strategy
The Benefits of Price Skimming Pricing Strategy
Fast Return on Investment
In industries with high research and development costs or product development expenditure, businesses regularly need to recover the initial investment quickly.
Beginning with a higher price point allows companies to recoup development costs from an enthusiastic client base before the market becomes saturated with similar products.
Businesses can then reinvest that capital into developing future products that can continue to add to the company’s market share.
Furthermore, price skimming can be advantageous when a lack of competition exists at product launch. If customers cannot source a less-expensive alternative, they will pay a higher price.
Because their competitors have not caught up yet, businesses can reap the benefits of price skimming and increase profit margins from a client base prepared to pay more.
Perception of Exclusivity and High Quality
While it may or may not be entirely accurate, there is an unconscious perception that a particular product or service is better because it’s more expensive.
Early adopters of new technology in particular, generate a ‘buzz’ and an interest in new products.
That interest spikes the brand image and can instill a sense of ‘buyer urgency’ in other customers.
Therefore, these types of premium products become less resistant to market forces and shifts. Premium brand customers are less price sensitive and more likely to pay to get their hands on a new and innovative product first. They spread the word and are likely to become repeat customers.
Flexible Product Pricing
Lastly, price skimming provides an opportunity to alter pricing as the market shifts. Businesses are sometimes required to make short-term price changes depending on the market conditions, customer feedback and external competition.
Businesses are starting at a higher price point with the price skimming pricing strategy to convert as much revenue as possible before recalculating prices to meet changing circumstances later.
With price skimming, the strategy allows companies an opportunity to discover how price-sensitive their customers are and fine-tune their pricing accordingly. In other words, these businesses can test the market price points without leaving money on the table.
The Potential Drawbacks of Price Skimming Pricing Strategy
Sometimes setting a higher price for a new product can potentially do more harm than good. Drawbacks of the price skimming pricing strategy can include;
Price-Sensitive Customers Can Possibly Become Frustrated
Gadget geeks eager to buy the “new big thing” or others presented with a high initial price when buying your product might be frustrated – or possibly even angry – when they see the price of what they may have purchased only a matter of weeks ago suddenly drop in price by 25%.
The flip side to this is of course that the price skimming pricing strategy is not a secret to most customers, particularly those in the market for smartphones, tablets, gaming consoles and other high-tech products.
While some early adopters may become annoyed when the price drops, most of these tech savvy shoppers are aware of the strategy, going into the purchase with their eyes open, and are happily willing to pay more to get their hands on the product first.
It Can’t Last Forever
Put simply, a price skimming pricing strategy may only work for a relatively short amount of time.
Additionally, if you reduce your prices too late in the game, your customers may look elsewhere to cheaper competitors, leading to a loss of revenue for your business.
It’s also worthwhile considering that a price skimming strategy may not be as effective for your follow-up products, specifically if your next-to-market product doesn’t display a considerable amount of improvement over your original groundbreaking product.
Even without competition, you will eventually reach a limit of customers you can sell to at high prices. Inevitably, the outcome of the price skimming pricing strategy dictates you will have to lower your prices, a relevant point to keep in mind when forecasting sales. Even without competition, you will eventually reach a limit of customers you can sell to at high prices. Inevitably, the outcome of the price skimming pricing strategy dictates you will have to lower your prices, a relevant point to keep in mind when forecasting sales.
Correct Implementation is a Must
If you are not ready to research, do not even consider the price skimming pricing strategy.
Implementing the price skimming strategy is only effective after the thorough completion of research and analysis of customer sentiment, market conditions, and perception of your brand.
Without doing the hard yards of research, negative impacts like low sales numbers can occur easily.
Waning Demand Can Leave You with Excess Inventory
When releasing a product that has high demand, if it doesn’t maintain those high levels of interest throughout its lifespan, then not only may your profitability on your products be affected.
Using the price skimming pricing strategy may cause you to miss sales for those who did want to take up your offer of initial high prices, because they no longer be interested by the time the price reaches their range.
The result may find you with excess inventory that you are unable to sell regardless of price.
Combining Price Skimming with Other Pricing Strategies
Price skimming works across many different industries, but that doesn’t make it the correct default pricing strategy for every company. Even if price skimming is good for part of your business, you may not employ the pricing strategy across your entire product line.
Price skimming pricing strategy is not used as often as some pricing strategies, but it is one of the more adaptable pricing strategies. In the Samsung example we outline above, we have clearly illustrated how the company is able to use both the price skimming pricing strategy in tandem with a competitive strategy to achieve the organization’s business objectives.
The more complex your organization might be, the more possibility that using multiple pricing strategies in combination will not assist in helping your business to thrive but may become a future requirement as the corporate world becomes increasingly complex.
And complexity is what modern next-gen pricing software like Pricefx is designed to deal with. As the marketplace gets more complicated, granular, and data-driven, so too does the business of pricing.
Now you know that pricing software can assist you in implementing your price skimming pricing strategy with other strategies, you are no doubt looking to continue your learning journey.
To learn more about the benefits of, and how to implement a unique pricing strategy for your business, check out this handy article below: