Captive Pricing – Definition

Cite this article as:"Captive Pricing – Definition," in The Business Professor, updated September 3, 2019, last accessed August 13, 2020, https://thebusinessprofessor.com/lesson/captive-pricing-definition/.

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Captive Pricing Definition

Captive strategy refers to a type of marketing and sales-based approach that persuades or limits the customer, buying a good or product initially, to continue buying prospective products from that one vendor. Though there are lots of different captive strategies designed for customers, but strategies related to captive pricing particularly involve variations in the ultimate cost of product so as to positively influence the prospective buying decisions of the customer.

A Little More on What is Captive Pricing

Captive pricing strategies signify a ‘lock-in’ contract where a decision initially made compels the buyer to stick to the same seller for prospective sales. For example, a customer buying smartphones at affordable prices has to enter into a contract for a specific time period with a mobile network. Sometimes, captive pricing strategy can also be regulated in an artificial manner. Say, if a buyer makes a specific number of purchases from a specific store or vendor, he or she would receive a free product or sample of a new product.

Types of Captive Pricing

Majority of the captive strategies fall under the “loss leader” category, where the customer is tempted to make the initial purchase because of very low prices. For instance, razors designed for men’s use are not costly initially. So, once you buy a razor, you are required to get the related razor blades from the similar brand until razor gets damaged. The refills for razor blades carry price tags that are sufficient for making prospective profits. Products that follow the captive pricing strategy cost more than the competitors. For instance, a designer couch and the related accessories such as slipcovers that need to be bought from the same company.

Time Frame

The time frame for captive pricing strategies may vary from the initial product, customer to the company’s lifetime, or it can be a combination of all three elements. For instance, a razor will have to be dumped or thrown away once it wears out. At this time, the customer has the option of switching to a different company or brand. Now, if the customer liked that razor and wants to be loyal to the same initial company, he can try using another razor but from the same company. Also, he can educate his children to choose the same brand for shaving purposes, thereby, inculcating a sense of product loyalty within them.

Geography

Captive pricing strategies also be executed on the basis of a specific location. For instance, let’s compare the cost of swimwear sold at a local shop and a beach. Customers won’t mind spending higher amounts of money if it saves their time and efforts. Also, they will do so if they are unable to get similar product at a lower price.

Considerations

Captive pricing refers to an approach of forcing customers to be loyal towards a specific brand in at least short-run. However, it is important for the seller to know the difference between affordable and extremely pricey captive strategy. If a customer needs to spend a bit more for making effective use of previous purchases, he or she won’t mind being loyal to the vendor or sticking to the brand in the long-run. However, if a customer is asked to pay twice or thrice the amount of the initial purchase, he or she would most likely switch to some other affordable brand.

References for Captive Pricing

https://smallbusiness.chron.com/captive-pricing-strategy-2725.html

http://www.businessdictionary.com/definition/captive-pricing.html

https://businessjargons.com/captive-product-pricing.html

Academic Research for Captive Pricing

Beyond the many faces of price: an integration of pricing strategies, Tellis, G. J. (1986). The Journal of Marketing, 146-160. The research has been carried out to review the pricing strategy and build a unifying taxonomy of several strategies described in the research literature. The foundation of taxonomy is on a simple proposition that all of the strategies come up with denominator-shared economies among products, buyer segments and across firms. The strategies, presented in this paper, are in comparable terms. They focus on the principles underlying every strategy and show the relation in strategies, the situations in which we can use each and the policy and legal implications of each. So, the author proposes the integration of all the pricing strategies.

Channel selection and pricing in the presence of retail-captive consumers, Khouja, M., Park, S., & Cai, G. G. (2010). International Journal of Production Economics, 125(1), 84-95. This paper investigates price settings and channel selection of a manufacturer who sees many options of distribution that includes selling by a direct channel, an independent retail channel and/or a retail channel owned by a manufacturer. The manufacturer is free to choose any combination of these selling options. The authors make segmentation of consumers into two, i.e. a retail-captive segment the consumer of which don’t select the direct channel and a hybrid segment the consumers of which have the option to choose any channel. The consumers of the hybrid segment are heterogeneous according to the channel preference. The most important factor in channel options is the variable cost/unit.

Persuasion knowledge and consumer reactions to pricing tactics, Hardesty, D. M., Bearden, W. O., & Carlson, J. P. (2007). Journal of Retailing, 83(2), 199-210. This paper focuses on consumer knowledge about the pricing plans that are employed by marketers frequently and its impact on responses to different price offers. The authors conduct a series of studies to develop a knowledge measure for estimating PTPK (Price Tactic Persuasion Knowledge). They show the persons with higher PTPK levels to get more price tactics knowledge as compared to the ones with low PTPK levels. This knowledge is more predictive of individuals choices related to purchasing interest evaluations and quantity surcharge offers following exposure to place claim offers (for example, save up to 50% off) as compared to many competing constructs.

Beef packers’ captive supplies: An upward trend? A pricing edge?, Ward, C. E. (2005). Choices, 20(2), 167-171. The captive supplies of the beef packets have been a great issue in the meat industry in the past decades. The Livestock Mandatory Reporting Act (LMRA) supported producers and they are directed to report about their livestock purchase to the USDA (United States Department of Agriculture) marketing services. This act has a great impact on the beef industry and a new data series of quantities and prices have been created. It has provided information on the packer procurement methods. The author investigates whether packers use the captive supplies as leverage and in what situations, they touch the pricing edge and there is a possibility of an upward trend in pricing or not.

Pricing and commitment by two‐sided platforms, Hagiu, A. (2006). The RAND Journal of Economics, 37(3), 720-737. The author studies platforms commitment and pricing in 2 sided markets with the features of: (1) for sellers and buyers making transactions with each other, platforms are crucial bottleneck inputs. (2) sellers reach before buyers and (3) platforms can get fixed charges and variable charges (royalties). The author demonstrates that a monopoly platform preferably may not commit to the price. It charges buyers when it announces the selling price, in case, it encounters seller expectations not favourable for it. Commitment makes the presence of an exclusive equilibrium less likely in competing platforms, but it has no effect on multi-homing equilibria whenever they exist.

Captive supplies and the cash market price: A spatial markets approach, Zhang, M., & Sexton, R. J. (2000). Journal of Agricultural and Resource Economics, 88-108. Exclusive contracts, mostly known as captive supplies, between farmers and processors are a significant property of modern agriculture. The authors use a non-cooperative game methodology and a spatial model to depict that processors can apply for exclusive contracts in order to control the spot price in particular circumstances. The findings are that, In these settings, captive supplies show geographic buffers which minimize competition among processors. However, markets in which spatial dimension has less significance, captive suppliers act ineffectively as competition barriers. This is because companies have the incentive to jump to procure the farm goods across a region of captive supply.

Matching appropriate pricing strategy with markets and objectives, Duke, C. R. (1994). Journal of Product & Brand Management, 3(2), 15-27. The researchers generally illustrate the standard theories of price decisions step by step and attempt to group pricing problems into some format, loosely. These current theories do not focus on the consumer characteristics interaction with the competitive market. This paper explains a modified model of the TPSM (Tellis Price Strategy Matrix to enable the issues of coordinated market and firm strategies by laying stress on effective and appropriate pricing techniques and issues given the objectives of the consumers and the company as constrained by the products market’s competitive nature. This way, product managers promptly can examine the concerned issues for a certain pricing decision.

Access pricing and competition, Laffont, J. J., & Tirole, J. (1994). European Economic Review, 38(9), 1673-1710. The network is a natural monopoly in many sectors. A major problem is how to join the important network regulation with the competition organization in activities that are potentially competitive using network as an input. The authors develop a formula for access pricing in the optimal rule framework under incomplete data. 1st, they study how to consider the networks fixed costs and over the network, what are the incentive limitations of natural monopoly. 2nd, they analyze the problems to disentangle network costs and competitive products costs of the monopoly. 3rd, they extend the analysis to the situations where government transfers are not allowed. 4th, they consider the possibility of bypassing the network by the consumers and lastly, the access pricing role.

Pricing and Price Dispersion in E-commerce, Waldeck, R. (2002). Proc. 5th ICECR, 1-9. In e-markets, competition results in price dispersion and lower level of price. Free entry for companies and lower search costs create price competition among companies. This study aims to mitigate this conception by considering the effect of competition and information on homogeneous goods prices. The author investigates which factors are possibly driving the price dispersion, for example, the ability of firms to categorize consumers in 2 classes. One is captive to a company and the uninformed/informed and non-price sensitive consumers compose it. The second is the market for all companies and the price sensitive and informed consumers compose it. The results are convergent to the monopoly pricing with imperfect information.

The competitive implications of top-of-the-market and related contract-pricing clauses, Xia, T., & Sexton, R. J. (2004). American Journal of Agricultural Economics, 86(1), 124-138. This paper evaluates the competitive implications of pricing arrangements of contracts that connects the contract price and the cash price subsequently. The authors stress on TOMP (Top-Of-The-Market Pricing) I’m cattle procurement. They show the TOMP clause to see anti-competitive consequences when the buyers buying contract cattle with TOMP also make competition to procure cattle in the spot market subsequently. The findings are that this clause lessens incentives of the packers to aggressively compete in the spot market. Though the producer does not include the TOMP in his collective interest, rational sellers can sign the contracts with minimal or no financial inducement.

Oligopolistic pricing with sequential consumer search, Stahl, D. O. (1989). The American Economic Review, 700-712. There is a competition among N-identical stores regarding the selection of prices for a homogeneous product at constant marginal costs. Consumers, sequentially, search with perfect recall. Some have 0 search costs whereas all others have a positive one. There is a distinct symmetric (NEPD) Nash Equilibrium Price Distribution which smoothly changes to monopoly pricing from marginal cost pricing as population parameters and search-costs change. As the no. of stores moves up, remarkably, the Nash Equilibrium becomes more monopolistic. Finally, the author describes oligopolistic pricing with a sequential search by the consumer.

Implementing price increases in turbulent economies: Pricing approaches for reducing perceptions of price unfairness, Ferguson, J. L. (2014). Journal of Business Research, 67(1), 2732-2737. Consumers frustrate when they have less money to spend and the prices are also higher for goods and services in the market. This happens during the disruptive economic times, such as the 2007 crisis. The sellers have to incur high costs, ultimately, they have no option other than to increase the prices. This paper explains such trends of pricing. Particularly, the sellers reveal information about price variations to the buyers during critical economic times and thus, engage in pricing transparency. It potentially reduces the price unfairness perception in buyers’ minds. Using practices of common price settings by the industry, offering automatic rebates promotions, the shrinking volume of products or providing price-matching promotions tends to reduce the perceptions of people about price unfairness.

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