When pricing, a seller must always consider the costs of shipping goods to the buyer. These costs grow in importance, as the freight becomes a larger part of total variable costs - quantity, weight and distance from seller will generally increase shipping costs considerably. Pricing policies can be established whereby the buyer pays all the freight expense, the seller bears the entire cost, or the seller and the buyer share this expense.
The geographic pricing strategies are:
In a widely used geographic pricing strategy, the seller quotes the selling price at the point of production and the buyer selects the mode of transport and pays all freight costs. Usually referred to as FOB factory pricing, this strategy is the only one in which the seller does not pay any of the freight costs. The delivered price to the buyer varies of course according to the freight costs.
Advantages: Under Point of Production/FOB factory pricing, the seller nets the same amount on each sale of similar quantities.
Uniform Delivered Pricing
The same delivered price is quoted to all buyers regardless of their locations. This strategy is sometimes referred to as "postage stamp pricing" because of its similarity to the pricing of first-class mail service.
Advantages: Easy to understand and calculate and serves all customers equally.
Disadvantages: Local customers may prefer F.O.B. Pricing method.
Prices increase as shipping distances increase. This is sometimes done by drawing concentric circles on a map with the plant or warehouse at the centre and each circle defining the boundary of a price zone. Instead of using circles, irregularly shaped price boundaries can be drawn that reflect geography, population density, transportation infrastructure, and shipping cost. (The term "zone pricing" can also refer to the practice of setting prices that reflect local competitive conditions, i.e., the market forces of supply and demand, rather than actual cost of transportation.)
Zone pricing is a marketing technique widely used by petroleum companies - the company determines geographical price zones based on the demographics of a certain area and costs of transportation to the area. As a result the petroleum companies increase the amount charged to the service station dealers for the petrol in those designated zones. This cost is then passed on to the consumers.
Advantages: Easy to calculate, a fair method of charging and maintains an advertised price for every zone.
Disadvantages: Customers on borders may suffer and distant customers can switch to competitors.
To penetrate distant markets, a seller may be willing to absorb part of the freight cost. Thus, under freight-absorption pricing, a manufacturer will quote to the customer a delivered price equal to its factory price plus the freight costs that would be charged by a competitive seller located near that customer. A freight-absorption strategy is adopted to offset the competitive disadvantages of FOB factory pricing. With FOB factory price, a firm is at a price disadvantage when trying to sell to buyers located in markets near a competitor's plants since buyers pay the freight costs under FOB factory pricing. A nearby supplier has an advantage over more distant suppliers – at least with respect to freight costs. Freight absorption erases any price advantage due to differences in freight costs. It amounts to a price discount and is used as a promotional tactic.
Advantages: an equitable allocation of freight charges and it helps a firm expand its market beyond its normal reach.
Be careful when implementing geographical pricing. It is important not to discriminate between competing buyers in the same zone and not to make your strategy too predatory.
- Pricing Strategy: how to price a product, Bill McFarlane 2012
- The Strategy and Tactics of Pricing, Tom Nagle and John Hogan 2016