Price skimming is a strategy used for product pricing in which the company charges the highest possible price initially and then eventually brings down the price over time for targeting more price-sensitive customers.
We all know that innovation comes at a cost. If you are going to bring a unique product, you need to invest in R&D, think out of the box and take a risk in launching the new product. When you are doing all this, you would of course keep the price of the product high to get the benefits in return. Hence, many innovative companies will use the price skimming method.
The company works in a strategized manner, and it first satisfies the demands of the customers who are willing to pay higher prices and then enters the crowded market segments where people are a bit price sensitive. The price skimming strategies come from the task of skimming different layers of ice cream. This strategy works in contrast to penetration pricing (this strategy grabs a market share through lower prices set initially).
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What is Price Skimming?
Price skimming is a pricing strategy in which the products’ prices are set high while launching and product, and afterward, the price of the same will be brought down as target audiences become more acquainted with those products or services. 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.
It is used when a product, which is new in the market or just launched, is sold at a relatively high price because of its uniqueness, benefits to customers, or its current Wow factor. However, slowly but surely when the product gets older in the market, then the price is dropped and the product is brought at competitive pricing.
Once early adopters pay higher prices for such products or services then companies can optimize their sales volume through price drops to target the mass market share. All in all, price skimming, or as we used to call it, skim pricing is an effective pricing strategy through which a company charges high prices initially and eventually lowers its prices.
After it has set a high initial price, the company gradually brings down its prices to target customers having price sensitivity in their minds. This pricing strategy is viable for companies that are first movers, who are new entrants and face negligible competition.
Principles Behind Price Skimming
The price skimming methodology implies that brands have to intently manage their item’s direction just after its launch because the excitement for the item will probably be going to be at its peak in the beginning.
This helps brands in channelizing their initial endeavors toward upper-market sections that do not care about the higher prices. This can rapidly recover the expense of product development and create a consistent initial profit. This will optimize market reputation and do effective branding that will ultimately empower brands to promote their products later with lower prices to penetrate the lower market segment.
This pricing strategy is used to maximize revenue through new products and services. This strategy best works if the company brings a breakthrough product to the market. The main goal of this strategy is to maximize profits in the shortest possible time rather than maximizing sales. This will help a firm offset it’s sunk cost before a competitor enters the market.
The strategy of price skimming helps to get the highest possible revenues from the innovations of these innovators. The prices cool down once the demand from these consumer segments fills up to target the customers who are more price sensitive.
There will be no competition immediately after the product’s release, and when the competitor arrives, the company will have strengthened its reputation through a large base of satisfied customers.
How Price Skimming Works
This strategy is mostly used for a new product in the market. The goal is obviously to collect as much revenue as possible. This is done when high consumer demand and competition have not yet arrived.
Once the revenues are increased from customers who are willing to pay higher prices, the company will bring down the prices significantly and target price consumers who are price sensitive. This strategy is solely based on increasing revenue as much as possible.
Examples of Price Skimming
The best example that comes to mind when we talk about price skimming is that of Apple.
Apple follows price skimming consistently on all its products. It generates an ever-increasing revenue from its line of products with cutting-edge technologies through this model.
People are happy to pay hefty amounts for the iPhones or the impacts because they consider their value for money. Before following this strategy, the company needs to make sure that it is offering innovative products, doesn’t have any direct competition in the market, and has a large base of followers who are willing to pay high prices for its products, just like Apple.
The price skimming examples list also talks about the product pricing strategy of Sony Playstation 3 which was at first launched in 2006 for $599 in the USA but over the arrival of other consoles like Xbox 360, or Wii as well as the launch of new-gen edge consoles like Sony PlayStation 4 and Sony PlayStation 5, the Playstation 3 cost was slowly decreased to under $200.
Advantages of Price Skimming Model
- There is a high rate of return with price skimming. Charging high prices initially helps in offsetting promotional and R&D costs. Investing the cash flow in products and services that no other company is offering will help to charge high prices.
- It also helps in strengthening the brand image. This pricing strategy will help create a perception that your product is high in quality. High prices initially help in building a reputable brand image.
- The price skimming strategy will help a company effectively segment the customer base it has. This will, in turn, help it earns in the greatest way possible out there.
- The consumers who buy in the beginning and are status-conscious provide valuable feedback that helps you work out the kinks. These early customers will also act as brand promoters and form a perception of good quality.
Disadvantages of Price Skimming Model
- An inelastic demand curve (one that doesn’t respond to any price change) is the only thing with which price skimming works.
- Let’s consider a situation in which price skimming fails somehow; in this situation, the company will end up with too much inventory than is needed.
- To justify the exorbitant prices that the company keeps for its products, it also has to ensure its quality.
- This strategy is redundant if the company has competitors in the market making the same product.
- People who bought the product initially might get turned off if they see prices going down gradually.
- This pricing strategy has the potential to attract competitors, and you will lose the hegemony. The benefits of keeping high prices initially will attract competitors into the market.
Limitations of Price Skimming
This price skimming strategy is best used for a short period. It allows the initial purchasers’ market to get saturated, on the other hand, not alienating buyers who are price sensitive over a long period.
A customer may go to the competitor if the price reduction comes too late; this will reduce sales and, thus, reduce the overall revenue significantly.
This strategy also might not work best for competitor follow-up products. Because the initial market of adopters has been captured, other customers may not buy the competing product at a higher price and lack any improvements over its original form.
Price Skimming vs Penetration Pricing
Both of these are popular dynamic pricing strategies that brands use across the globe. In price skimming, brands set prices high in the beginning to target purchasers ready to spend more on the most latest products or services while penetrating pricing at first depends on low prices to penetrate the maximum target market segment.
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. Through this strategy, the company targets the consumers who are willing to pay higher for the product initially and eventually targets the price-sensitive consumers; thus, they tend to target both types of customer base.
There are several advantages the company can reap if it goes with the highest initial price scheme of the price skimming strategy. It can strengthen its brand image, increase revenues, and much more. But a company cannot blindly follow this strategy of price skimming because several things need to be taken into consideration before a company goes with such a strategy.
Now, as a final observation, how effective do you consider the price skimming strategy for a brand in generating more leads, conversions, sales, and loyal customers? Share your thoughts with us in the comment section below.
When Using Price Skimming Is Sensible?
From the iPhone to the Teslas, revolutionary technologies tend to make their debut with a skimming price model, and it makes sense. People are not annoyed with this model rather, and they are excited to get their hands on the latest technology available out there, even if the prices are exorbitant.
A Skimming model works fine in the clothing and fashion industry. The stores related to fashion and clothing tend to change prices often seasonally. It is wise to keep prices high and then put them on the sales rack.
The automobile industry is another one on our list. There is always new inventory coming in, and the selling of the older model keeps going on, and skimming helps car dealers with just that.
When Using Price Skimming Is Not Sensible?
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.
In A market where the product is facing tough competition, price skimming would not be a wise idea. By keeping the prices high, you will not be able to show any competitive advantage when compared to your peers.
Price skimming is not viable for services like legal, medical, or consulting. These services tend to be more demand inelastic, and bringing down the prices eventually doesn’t make any sense in these professional services at all.
Is Price Skimming right for your Business?
The strategy of price skimming is very helpful for many different kinds of industries, but it doesn’t make it right under all circumstances. Many factors need to be taken into consideration if the company wants to follow this strategy of price skimming. Only after considering all the circumstances should a company follow this strategy to increase its revenues.
A company should be able to know if it will be able to justify the high costs of the products it is offering. A company also needs to look at its competition; if the company has competition, especially high competition, this strategy would not be a viable option at all. Price skimming is also not a viable strategy for the long term, so if the company is looking for a long-term strategy, price skimming is not what they are looking for.
What Types of Brands Use Price Skimming Strategy?
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.
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