Optimal Pricing Of Innovative Product Facing Strategic Consumers

The recent boom of economy and technology innovation leads to a situation that numerous innovative products have been emerging in the market, which greatly satisfies the demands of consumers, either in material or in spirit. However, a severe problem still exists in spite of this prosperity:a considerable proportion of innovative products behave poorly in market performance, and sometimes the enterprises even fail to recover the R&D investments, thus suffer a great loss. Apart from designing and manufacturing problems, it is also regarded that poor decisions on pricing and other launching attributes are critically responsible for the failure. Due to lacking history data and experience of sales, the enterprise usually cannot gain access to the exact demand information, thus it is always the case that precisely forecasting demand is difficult, and the pricing of innovative product becomes a big challenge. Meanwhile, shortening of innovation cycles, frequent introductions of innovative products, and wide application of dynamic pricing, have trained consumers to be rational. They tend to take into account future buying chances, and strategize over their purchase plan in the sense of maximizing the (expected) utility in consuming the product. Undoubtedly, this would make it much more complicated for the enterprises to price the innovative products. In view of this, the present study tries to answer this challenge and investigates the pricing decision-making of innovative products for the enterprises facing strategic consumers.The main contributions of this paper are:The impact of consumers’strategic purchasing behavior on pricing is studied in the context of innovative product launching, and the information value of demand strength for the innovative product is investigated, which is hardly seen in the extant literature. In addition, impacts of new factors (firm’s discount factor and consumers’strategic purchasing behavior) are considered when the firm chooses between skim pricing and penetration pricing. Details are elaborated as follows:Firstly, as for the firm, the factors of discounting future profits and capacity constraint are not taken into account. Under this situation, a basic two stage model with continuous consumer valuation is proposed to study the dynamic pricing. The maximum consumer valuation is assumed to be a random variable conforming to uniform distribution in its supporting region, which renders uncertainty to both demand quantity and consumers’valuation. This coincides with the reality and can better describe the huge uncertainty over the demand of innovative product. Backward induction is employed to solve for the optimal prices and optimal (expected) profits. The analytical form of information value of demand strength is obtained, and the impacts of various parameters on optimal price in the first stage, markdown size of the product, optimal expected profit and information value of demand strength are analyzed through numerical studies. It is suggested that with the increasing of consumers’ strategic level, the optimal price in the first stage drops at first and then climbs; yet the optimal expected profit and information value of demand strength monotonically decrease. In addition, some other managerial insights are also derived.Secondly, capacity constraint for the firm is considered to extend the basic model. The existence of capacity parameter results in complex form of the firm’s expected profit function, making it difficult to obtain the closed analytical form of optimal price in the first stage and information value of demand strength. Genetic Algorithm is adopted to solve for the near-optimal price of the first stage, as the performance of traditional algorithms depends highly on the features of the problem when the objective function is complex. The pricing decision of the first stage, the expected profit, and the information value of demand strength are studied in numerical analyses. The results suggest that if capacity is large, the variation of capacity exerts low impacts on pricing and expected profit; if capacity is small, the price of the first stage should decrease and the expected profit increases with the increasing of capacity. Distinguished from the existing literature, specific suggestions on capacity decision are offered for the firm in this paper, using a definite index (maximum demand quantity) as the benchmark:when consumers exhibit high strategic level, the firm should build a relatively medium level capacity comparing to the maximum demand of the market; when consumers’strategic level is low, the firm may properly enlarge the capacity on the basis of medium level. Moreover, the information value of demand strength reaches its maximum when the firm possesses a medium capacity.Thirdly, the basic model is also extended by admitting an imitating entrant to incorporate competition. The extended model includes a monopoly stage and a duopoly stage. The equilibrium prices, the equilibrium profits and the information value of demand strength are presented in closed analytical form. The results of numerical studies show that the increment of imitator’s product quality lowers the innovator’s product prices and expected profit, but leads to higher information value of demand strength. As for the the imitator, perhaps it is better to choose a medium level for product quality. Incorporating competition enriches the topics that can be studied, such as the impacts of imitator’s product quality on various indices, difference of the products in cost performance, and the impacts of innovator’s revealing strategy on imitator’s pricing and profit, which are rarely concerned in the past researches.Finally, regarding skimming and penetration, the impacts of firm’s discount factor and consumers’strategic purchasing behavior on pricing strategy choice of innovative products are investigated for a monopolistic firm that does not have capacity constraint. Since it is difficult to define penetration strategy under continuous consumer valuation, a model with discrete consumer valuation conforming to two point distribution is proposed, and the uncertainty over the proportion of strategic consumers is also considered. Due to the complexity of the model, the optimal price in the first stage, the optimal expected discounted profit, and the demand information value are analyzed through numerical studies. In particular, during solving for the optimal price in the first stage, the local optimal solution is solved for each section of the piece-wise expected profit function, then the local optimal profit values are compared to obtain the global optimal solution. The main findings include:skimming strategy can only be adopted when the firm’s discount factor is large enough; consumers’strategic purchasing behavior reduces the chances of adopting skimming strategy for the firm; the revealing strategy is most recommended when the decision maker is (almost) indifferent between skimming and penetration.