TAMPERE UNIVERSITY OF TECHNOLOGY

Tampere School of Business and Technology

ONUR TAMUR

PRICING WHEN ENTERING A NEW MARKET IN B2B ENVIROMENT:

Understanding the B2B Dynamics

Seminar Report

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ABSTRACT

With the rise of globalization and saturated local markets, many companies started

chasing international opportunities that would help them expand to new countries

and increase their brand recognition around the globe. One of the challenges that

companies face while entering a new market is defining the right price and pricing

of their offering to be competitive and successful in the market. In B2B area, there

are not any wide research on pricing issues that companies face in the markets that

they are planning to enter and the effects of business relations on pricing.

This paper focuses on market entry strategies and market entry modes, the

fundamentals of pricing in a new market and the differences of B2B and B2C

pricing. The study covers market entry modes and its impact on profitability, value

creation in B2B area and the key aspects of pricing behaviour while entering a new

market.

This study in general provides a framework for implementing the right pricing

strategy while entering new markets and defining the right pricing behaviour in

B2B environment. This framework enables companies to understand the dynamics

of B2B environment covering buyer-supplier and distributors relations and

providing pricing models for companies to be a competitive player.

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PREFACE

This paper discusses the concepts of pricing and pricing behaviour in a new market

in B2B environment. The paper attempts to highlight the key aspects of supplier-

manufacturer relations, value creation models and pricing framework to be

competitive in the new market.

It has been a very interesting topic for me because of my special interest in B2B

markets and pricing issues in the business environment. I am very thankful to my

supervisor Dr. Jouni Lyly-Yrjänäinen who helped me to pick the right topic for

analysis and supported me through the process. I am thankful to my seminar group

members who helped me with their inputs during discussions. Also, I am very

thankful to Ali Kutlay and Mert Murat Mertadam for their support and feedback

through the preparation of the paper.

Onur Tamur

Tampere, January 2011

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TABLE OF CONTENTS

ABSTRACT ______________________________________________________ ii

PREFACE _______________________________________________________ iii

1 INTRODUCTION ____________________________________________ 1

1.1 Background __________________________________________________ 1

1.2 Objective of the Paper __________________________________________ 1

2 ENTERING NEW MARKETS IN B2B ___________________________ 3

2.1 The Challenges of B2B Markets __________________________________ 3

2.2 Market Entry Barriers in B2B ___________________________________ 4

2.3 Market Entry Strategies ________________________________________ 5

2.4 Market Entry Modes ___________________________________________ 6

3 PRICING IN B2B _____________________________________________ 8

3.1 Differences of B2B and B2C Pricing ______________________________ 8

3.2 Pricing Techniques ____________________________________________ 9

3.3 Pricing Framework in a New Market ____________________________ 10

4 PRICING IN A NEW MARKET IN B2B ENVIRONMENT ________ 12

4.1 Market Entry Modes in Terms of Profitability _____________________ 12

4.2 Value Creation in B2B _________________________________________ 13

4.3 Pricing Behaviour in a New Market______________________________ 14

5 CONCLUSION ______________________________________________ 18

REFERENCES __________________________________________________ 19

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1 INTRODUCTION

1.1 BACKGROUND

According to Lee and Carter (2005), globalization is an inevitable and irreversible

process fundamental to the future of world economic development. The growing

integration of national economies around the world will lead to rapid economic

growth and poverty reduction in developed and developing countries. However,

there are also some arguments supporting that globalization exacerbates poverty

and inequality between rich and poor, cultural convergence and spread of deadly

diseases (Lee and Carter 2005).

Even though there are many debates on globalization, it is accepted as an industrial

reality and an increasing trend in current business environment. As the developing

technology is reducing the transportation costs, the interests of organizations

working in international markets will keep on spreading around the globe. This

presents organizations with unlimited opportunities to grow and transform to

become not only larger but also more competitive and efficient (Lee and Carter

2005). On the other hand, it covers some risks as well. Companies need to follow

the right strategies in terms of market entry and pricing to be able to compete with

other international companies and local competitors in the market and to keep on

widening their business operations around the world.

1.2 OBJECTIVE OF THE PAPER

As it is explained in the background section, globalization is an increasing trend in

business and organizations need to follow this trend by using the right strategies

and taking the right decisions to be able to have competitive advantage against their

competitors. The objective of the paper is to...

...analyze the possible market entry and pricing strategies in business-to-

business environments and how the organizations should position their

pricing behaviour and value creation model.

The paper will consist of five major parts. First, the background information about

globalization issues with a short explanation about opportunities and challenges

will be stated and the objective of the paper will be defined. Second, the challenges

of B2B markets, market entry barriers in B2B environment, different market entry

strategies and different types of market entry modes will be examined. Then, the

differences between B2C and B2B pricing, different pricing techniques and pricing

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framework in a new market will be highlighted. Next, market entry modes in a

profitability point of view, value creation in B2B environment and pricing

behaviour in the new market will be deliberated. Finally, key results and the

conclusion will be stated.

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2 ENTERING NEW MARKETS IN B2B

2.1 THE CHALLENGES OF B2B MARKETS

The intention to make profit is the most important characteristic when buying

products in B2B markets (Lyly-Yrjänäinen et al. 2010). Thus, purchasing process is

much formal and takes longer time because of long price negotiations. Many

companies tend to build long-term relationship to be able to derive their demand

when needed. This long term relationship results in close personal relationships

which are difficult for competitors to break (Lyly-Yrjänäinen et al. 2010).

According to Calhoun et al. (2007), segmentation is far more challenging in B2B

than in consumer markets. Sales cycles are long, and offerings are complex.

Moreover, many customers care less about initial product costs and more about the

total costs of ownership, including service, maintenance, upgrades, and other

factors. Competitors‟ offerings and strategies shift so quickly that managers cannot

reliably compare the impact of changes in a given marketing lever over more than

one quarter of business. In addition, customer relationship management systems

cannot easily capture the decisions and actions that led to success or failure with

any particular account, because such information is largely anecdotal, not

quantitative (Calhoun et al. 2007).

Matthyssens et al. (2008) has examined the challenges in B2B marketing in terms

of globalization. First challenge is delocalization of the customers. As

multinational companies are moving their production and assembly units to low-

labour cost countries, industrial suppliers and subcontractors see their home market

shrinking. Second, purchasing function is globalizing as the purchasers from

multinational companies seek global purchasing synergies (Quintens et al. 2006).

Next, the importance of global networks is increasing (Harris and Wheeler 2005).

Last, the fourth challenge faced by B2B companies is the transition to electronic

forms of exchange. E-Internationalization is still challenging for companies

because they may lose their intellectual property on the web and B2B relationships

are more difficult to manage in the electronic highway (Samiee 2008).

Despite the above-mentioned challenges, more and more B2B companies expand

their operations internationally since international activities are fundamental to

their performance (Katsiekas 2006).

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2.2 MARKET ENTRY BARRIERS IN B2B

The entry barriers refer to industry characteristics which result in requirements that

companies must meet in order to enter a certain sector (Lyly-Yrjänäinen et al.

2010). Karakaya (2002) states that limited competition which is caused by market

entry barriers for new firms often increase the profits of incumbent firms in the

marketplace. Thus, barriers to entry sometimes lead to monopoly conditions

(Karakaya 2002). According to Karakaya (2002), barriers to entry in industrial

markets are different than barriers to entry in consumer markets and they need to be

distinguished. He offers four major dimensions of entry barriers in industrial

markets which are summarized in Table 1.

Table 1. Market entry barriers in B2B environment (Karakaya 2002)

Firm specific advantages

Proprietary product technology

Possessing strategic raw materials

Trade secrets held by incumbent firms

Absolute cost advantages

Superior production processes

Product differentiation

The brand identification advantage held

by incumbents

Customer loyalty

Heavy advertising by firms already in

the market

The expense of marketing a product

Customers' costs in switching from one

supplier to another

Access to distribution channels

Financial requirements

The capital requirements to enter

markets

The capital intensity of the market

The amount of sunk cost involved in

entering a market

The research and development expense

involved in market entry

Profit expectations of the entering firms

The magnitude of the market share held

by incumbents

The expected reaction of the

incumbents to the arrival of a new

player in the market

The number of firms in the market

The high profit rates earned by

incumbents

The low prices charged by incumbents

Some of the costs of entry are sunk costs and become barriers to exit once entered

the market (Karakaya 2002). Thus, the companies need to estimate the amount and

types of costs exhaustively before making an entry decision.

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2.3 MARKET ENTRY STRATEGIES

Internationalization and its impact on market entry is a strategic decision in

globalization (Liu and Cheng 2000). Thus, market entry strategy is considered as

an important success factor while entering new markets. It is important to

understand the customer preferences, business and management culture and

regulations in foreign countries to be competitive and it is hard to find competent

managers with the required skills in the international area (Lyly-Yrjänäinen 2010).

The international market entry strategies can be analyzed with seven different

theories:

Uppsala Model: Firms develop their activities abroad incrementally by

developing their knowledge. This knowledge is called experiential

knowledge and gained through personal experiences (Johanson and Vahlne

1977).

Eclectic Paradigm: Eclectic paradigm is based on the ownership-specific

advantages. Market entry decisions are made in a rational manner by

considering the costs of the transaction (Dunning 1988).

Industrial Networks: This method supports that the international market

entry decisions shouldn‟t be based on the entering firm only. As the whole

industrial network that the firm is working with is affected by this decision,

it should be analyzed with a more general view by considering the other

firms in the industrial network.

Business Strategy: Business strategy method is based on market

opportunities, firm resources and managerial philosophy. Unlike the other

theories, business strategy is more focused on market opportunities than

firm-based issues (Reid 1983).

The Agency Approach: The agency approach to entry mode selection is

based on the principle of a contract where one party delegates to another.

Franchises, licensing, joint venture and alliances are examples (Carney and

Gedajlovic 1991).

The Bargaining Power Approach: The bargaining power approach sees

the choice of entry mode as the outcome of negotiations between the firm

and the government of the host country (Gomes-Casseres 1990).

The Transactional Cost Analysis Theory: Transactional cost analysis

theory (TCA) is based on the theory that a firm will internationalize if it can

perform at a lower transaction cost than if it exported or entered into a

contractual arrangement with a local partner (Kumar and Subramanian

1997).

These theories indicate diversity in internationalization process for a firm and

provide different emphases on the issue of international market entry (Whitelock

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2002). Thus, it is important to pick the right entry strategy by examining the

position and opportunities of the firm in the new market.

2.4 MARKET ENTRY MODES

According to Johnson and Tellis (2008), the mode of entry is a fundamental

decision a firm makes when it enters a new market because the choice of entry

automatically constrains the firm‟s development strategy in the market. They listed

market entry modes in five main groups which are illustrated in Figure 1.

Figure 1. Market entry modes

Four market entry modes that do not cover off-shoring are explained in details

below:

Exporting: a firm‟s sales of goods/services produced in the home market

and sold in the host country through an entity in the host country.

Agent: agents look for business opportunities abroad and take care of the

negotiations between sellers and buyers.

Dealer: dealer is a distribution channel in a host country that purchases the

products from the manufacturers and sells them to retailers.

Sales office: sales offices are owned by manufacturers and they take care of

sales in the host country.

In addition to the entry mode and strategy, the role of market entry timing is critical

as well in a new market entry decision (Pan and Chi 1999). The method used for

timing market entry mostly depends on depends on the type of product, the

particular market, the amount of competition and the budget available. The method

used may also involve a single strategy or a hybrid of different strategies.

A first mover can benefit from risk-free consumers (Schmalensee 1982), be

recognized as the industry standard (Carpenter and Nakamoto 1989), and preempt

competition with broader product lines (Prescott and Visscher 1977). However,

Golder and Tellis (1993) state that pioneers are not the long-term winners in a

market. It is suggested that this strategy works best in industries where product life

is short, such as the high-tech industry.

Entering a market late can have certain advantages as well, particularly if the

pioneers have grown complacent or can no longer cater to a growing market, and

also, if the late arrival has an innovative way to market their product. Markets that

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are already cluttered with products offer some opportunity for a late arrival that is

of better quality or uses new delivery channels.

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3 PRICING IN B2B

3.1 DIFFERENCES OF B2B AND B2C PRICING

Although pricing in B2B and retail markets have similar goals, they have different

kind of challenges (Valuckaite and Snieska 2007). In B2B environment, companies

make purchasing decisions to make profit so this makes the purchasing decisions

more risky. Thus, companies tend to form long-term relationships and agree on a

fixed-price with their suppliers.

According to Valuckaite and Snieska (2007), even though retail companies have a

high transaction volume, they have a relatively simple pricing calculation. In B2B

markets, customer is a firm and organizational purchasing is considered more

complex than consumer purchasing (Valuckaite and Snieska 2007). Thus, B2B

environment requires a combination of strategy, business process and technology

so that firms can capitalize ahead of their competitors and gain tremendous

competitive advantage.

Pricing decision in B2B markets has to involve currency considerations, market

share dynamics, financial factors and the need that the price has to be

predetermined by the quality and price balance which are explained in details in

Table 2.

Table 2. Differences of B2B and B2C pricing (Valuckaite and Snieska 2007)

Factor B2C B2B

Transaction Volume High Low to High

Pricing Data Accurate info Many resides in many

systems

Pricing Calculation Simple Complex

Pricing Authority Centralized Distributed especially if

sales team determines

discounts

Pricing Levels Few Many reside in many

systems

Pace of Change Low Medium to High

As described on the table above, B2B and B2C pricing differ from each other in

many aspects. In B2C, transaction volumes are high which in B2B is very volatile

and may change from low to high. Pricing data has accurate info in B2C which in

B2B resides in many different systems. Pricing calculation can be considered as

simple in B2C environment but in B2B it is considered as a complex process. In

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addition pricing authority is also centralized in B2C. However, In B2B it is

distributed as the sales team determines discounts in many cases. In addition to

pricing data, pricing levels reside in many systems in B2B as well which has very

few levels in B2C environment. Last but not least, pace of change is very low in

B2C but in B2B pace of change fluctuates from medium to high.

3.2 PRICING TECHNIQUES

Pricing has a huge impact on profitability (Hinterhuber 2008). Thus, pricing

strategies should be evaluated methodically before setting the price of a product.

Pricing is affected by different strategies that companies choose to operate in a

given market (Lyly-Yrjänäinen 2010). There are four pricing techniques that are

commonly used in different industries that are explained in Table 3 in details.

Table 3. Commonly used pricing techniques (Lyly-Yrjänäinen 2010)

Value-based pricing

It uses the value that a product or service delivers to a

segment of customers as the main factor for setting prices

(Hinterhuber 2008). Value-based pricing is increasingly

recognised in the literature as superior to all other pricing

strategies (Ingenbleek et al. 2003).

Market-based pricing

It uses anticipated or observed price levels of competitors

as primary source for setting prices (Hinterhuber 2008).

The main weakness of market-based pricing is that it

doesn‟t take customers willingness to pay into account.

Cost-plus pricing

It is based on the data from cost accounting (Hinterhuber

2008). It leads to lower-than-average profitability in

many cases (Simon et al. 2003).

Negotiation pricing

It is more used in investment goods where companies ask

for bid from several potential suppliers (Lyly-Yrjänäinen

2010).

According to Holden and Burton (2008), there are three basic pricing models in a

new market:

Skim pricing

Neutral pricing

Penetration pricing

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First, skim pricing means that prices are set high relative to mainstream competitors

to maximize revenues generated from the high end of the market (Holden and

Burton 2008). It is mostly used to maximize revenues and product differentiation is

an important success driver in this method. Stubbornly sticking to skim pricing

creates market opportunities for new competitors (Holden and Burton 2008).

Second, neutral pricing can be identified as prices are set close to those of your

main competitors (Holden and Burton 2008). Companies use this method to reduce

the impact of price competition against a market leader. A neutral pricing strategy

is also the best choice when markets are growing slowly or not at all (Holden and

Burton 2008). Third, penetration pricing can be stated as prices are set quite low

relative to the competition to make price a driving factor in the purchase decision

(Holden and Burton 2008). It is mainly used to capture reasonable market share and

to increase product recognition in the eyes of potential customers. The main

problem in penetration pricing is that price cuts are easy for competitors to match

as well in many cases so when they do, no competitor sees an increase in either

sales or share (Holden and Burton 2008).

3.3 PRICING FRAMEWORK IN A NEW MARKET

According Brennan et al. (2007), although cost-plus pricing is often used in B2B

markets it has the serious drawback that it ignores both customer price sensitivity

and potential competitor action. Most B2B markets are oligopolies so that there is

an ever-present risk of a price-war if any of the competitors engage in aggressive

price-cutting. Firms should be encouraged to think of pricing as a continuous

process rather than a once-off decision (Brennan et al. 2007).

Even though value-based pricing has some obstacles in value assessment and

communication in the implementation period, it is known as the most efficient way

of pricing in the current business environment and has an increasing trend in the

market (Hinterhuber 2007). Companies want to assess the value they offer to their

customers with their products so that they can keep on developing and customizing

their offer to the customer needs. However, in a new market entry companies need

to take competitive dynamics in the new market into consideration and price their

product accordingly. Thus, the pricing in a new market should be capable of

considering the value created to its users and be sensitive to the competition level

in the market. The framework for pricing in a new market is illustrated in Figure 2.

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Figure 2. Pricing framework in a new market

The basic understanding of competitors and the level of competition form a great

advantage for a new entrant in a market to deduce the right pricing model which

are mentioned above. As the first intention is to make profit in B2B environment,

companies need to create value both for their organizations and their customers.

Thus, it is very important to analyze the market thoroughly before the entry

decision and evaluate if they want to skim, stay neutral or penetrate the market. If

these methods are used efficiently, it is highly possible that the entrant can be a

strong player in the market and capture a satisfactory market share.

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4 PRICING IN A NEW MARKET IN B2B ENVIRONMENT

4.1 MARKET ENTRY MODES IN TERMS OF PROFITABILITY

There are five different market entry modes that are exporting, licensing, alliance,

joint venture and wholly owned subsidiary which are explained in details in

Chapter 2.4. Each way is different in terms of commitment, risk, control and profit

potential. As the involvement and degree of control increase, the profitability

potential also increases. Johnson and Tellis (2008) state that the higher the resource

commitment and desired control of an entry mode, the higher is the cost which

requires higher levels of investments (Johnson and Tellis 2008).

Figure 3. Analysis of different market entry modes in terms of risk and profit potential.

International diversification through foreign market entry can result in high growth

and profitability unavailable in home markets (Root 1994). However, matching

strategy and the appropriate form of entry mode is a big challenge for companies

(Lee and Carter 2005). It is highly possible that a company needs to combine

multiple techniques to enter a host country and be successful.

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4.2 VALUE CREATION IN B2B

Even though one of the characteristics in B2B markets is that the use of direct sales

channels, many industrial companies use different types of intermediaries as well

which are agents and distributors (Lyly-Yrjänäinen 2010). For large customers,

mostly direct sale method is being used. If the volumes are not that high,

manufacturers use a distributor who stores their products and delivers them to the

end customers whenever they need and with the use of market intermediaries, the

number of customer relationships that the manufacturers need to manage can be

reduced dramatically (Lyly-Yrjänäinen 2010).

Figure 4. Basic idea of contribution margin when selling to different customers.

According to Lyly-Yrjänäinen (2010), distributors take care of various activities

that reduce the costs of the manufacturer and therefore no longer need to be

covered by contribution margin. The activities covered by distributors can be listed

in four main points:

Providing a sales force to sell the goods to other buyers

Communicating the manufacturers‟ marketing message to the customers and

providing market information to the manufacturer

Maintaining inventory, thus reducing the level of the inventories

manufacturers need to carry

Arranging the transportation to the customers

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Figure 5. The effect of sales volume on the end-customer price and distributor’s price

The discounts are also usually related to the volume of each distributor and larger

volumes provide larger discounts (Lyly-Yrjänäinen 2010). Thus, the sizes of the

distributors and sales volume have a huge impact on the final price of the product

in B2B environment.

4.3 PRICING BEHAVIOUR IN A NEW MARKET

Pricing behaviour in a new market is highly dependent on the market dynamics that

exist in the host country. Thus, it is important to make a deep analysis on the

market by considering the pricing framework which is explained in details in

Chapter 3.3 and its effect on market entry mode that is being used by the

manufacturer. In the figures below, profit margins of different market entry modes

that does not cover off-shoring are compared by using a fixed price for the product

so that the flexibility of the manufacturer in pricing can be highlighted easier. In

Figure 6, pricing structure for exporting explained in details.

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Figure 6. Pricing structure while exporting

As illustrated in the figure above, exporting does not provide wide price range for

the product in the new market because of its high contribution costs to the

manufacturer. It is possible to use skim pricing in new market to increase the

possible profit margin if the product being offered is differentiated. It is hard for a

manufacturer to use penetration pricing strategy while exporting a product because

profit margin is very limited. However, exporting is widely used by manufacturers

by entering a new market as it is easier and less risky for the manufacturer to

export their product from the home country. In Figure 7, pricing structure in the

new market by using agents is highlighted.

Figure 7. Pricing structure while using agents

Agents are also widely used by manufacturers as a market entry tool. They operate

in the home country of the manufacturer and help them to find potential customers

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for the products available. As they work for the manufacturer, they decrease the

contribution costs of the manufacturer but they take commission from the sales.

Thus, it is still hard for a manufacturer to implement penetration pricing strategy

because of the limited profit margin remaining after considering the costs. In

Figure 8, the pricing structure by using dealers is highlighted.

Figure 8. Pricing structure while using dealers

Dealers are also widely used by manufacturers who want to sell their products in a

new market. They are very efficient because they have a wide knowledge about the

local market and experience about the potential customers for the product offering.

They decrease the contribution costs of the manufacturer by taking over some of

the responsibilities that belong to the manufacturer in exporting so that

manufacturers have the possibility to be more flexible about the pricing of their

product. They can either lower their prices and use penetration strategy or use skim

pricing to keep a high profit margin. In Figure 9, pricing structure by using sales

office is discussed.

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Figure 9. Pricing structure while using sales office

Sales offices are the most profitable option for manufacturers to have business

activities in a host country. By using the local experience and knowledge of the

sales team, manufacturers directly decrease the contribution costs of their product

and as manufacturers do not work with another market intermediates anymore in

the host country, manufacturers do not need to pay any fee to them as well. This

provides endless opportunities for the manufacturers in terms of pricing their

product flexibly in the new market thanks to the wide range of profit margin

provided by the low costs compared to the previous market entry modes in terms of

using skim, neutral and penetration pricing strategies without a doubt. However,

having a sales office in a host country requires a big initial investment from the

manufacturers which might be hard to be followed by small or mediocre firms.

Thus, it is important to have high sales volume in the host company to be able to

benefit from the sales office efficiently.

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5 CONCLUSION

Globalization trend has enabled new business opportunities for all companies

around the world. Many companies pursue new markets around the globe where

they can expand their brand recognition and sales volumes. However, In B2B

environment there has not been a wide research on pricing which can orientate

organizations to take their pricing decisions in the market.

The objective of this paper was to highlight the importance of market entry

strategies and their effect on pricing decision in the new market by considering the

market entry mode used. B2B environment has many different aspects compared to

B2C and these issues should be examined carefully before becoming a global

player and making an entry decision into a new market.

Based on this research, this paper examines the challenges and different aspects of

B2B environment, possible market entry strategies and market entry modes while

entering a new market and pricing techniques that can be implied in the new

market. Unlike B2C, B2B markets have many aspects to be taken into

consideration while making a market entry decision by considering the market

entry mode used in the entry. Also, market intermediates take an important role in

pricing in B2B environment because they take care of various activities and reduce

the costs of manufacturers which lead to special discounts to intermediates

depending on the size and sales volumes to the end customers.

Finally this paper supports that the pricing decision in a new market should be

taken by considering the competitors and competition in the market. It suggests

three models which are skim pricing, neutral pricing and penetration pricing and

they should be used according to the market conditions in the market and market

entry mode that is applicable in the environment.

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