The theory-practice dialogue

Comparable observations regarding the discrepancy between pricing theory and its application in practice have been made in different research disciplines. The theory- practice dialogue unfolds various aspects of the debate that recognize the challenge of building bridges between theory and practice. Such a consideration helps to understand the reasons for the theory-practice gap.

Realism of assumptions / Information asymmetry

Pricing models have been evaluated on the criteria of realism regarding the applicability for managerial decision-making and the clarity of assumptions. Most of the pricing models have deficiencies in clearly formulating realistic assumptions. The implementation of pricing models requires detailed knowledge to provide unbiased information on the

demand curve, cost structuring, and elasticity. This information is usually not accessible to many companies. Moreover, the existing research evidence on the buyers’ behaviour and the buyers’ use of price information are not implemented in the pricing models (J. Crotty, 2013).

One intensely discussed example of unrealistic assumptions is information asymmetry. Assuming the availability of total information to all market participants as in economic theory conflicts with information asymmetry in practice. Likewise, pricing research has been criticized for its weaknesses set by missing or unrealistic assumptions on information asymmetry (Einav & Finkelstein, 2011; Yan & Pei, 2011).

Empirical validation

In the process of validating empirical values in price models, price-related problems can be evident. The lack of incorporating behavioural evidence into the pricing models’ structure explicitly calls for research on the formation of pricing decisions in practice. Proper analysis of pricing practices would be beneficial to the development of an applicable pricing theory. However, the difficulty of empirical validation is finding data that conforms to theoretical formulation structure and the inability of the organizations to authorize access to data or observations by researchers. (Gupta & Cakanyildirim, 2013; Rao, 1993).

Economics vs. marketing

The principal role of economic theory is the explanation of economic principles and particularly the investigation of the rationality of pricing policies in competitive contexts. Consequently, academics and practitioners are disillusioned quite quickly when realizing that economic theories would not give solutions to practical pricing problems. Due to their abstractions in which many variables are simply kept constant, economic models can rarely explain the decision-making process of pricing. However, the strength of economic theory can be linked to the usefulness of empiricism in understanding the consequences of actions by attributing the price-setting of products to marketing and the formation of a successful price strategy to economic theory (Kotler, 2015; Kotler & Keller, 2016).

Economics deals with market behaviour and assumes price as a given value. In contrast, marketing deals with management behaviour and assumes price as an adjustable decision. This difference in emphasis does not prevent marketing research from taking theories of economics as a basis for a theoretical framework. However, concepts and assumptions of economics may not uncritically be adopted but need to be scrutinized and adapted against the background of empirical evidence experienced in marketing and consumer behaviour. Nevertheless, the understanding of market and price equilibria from economic theory is

considered very valuable in predicting action and reaction until price equilibrium is reached (Athanasenas, 2015; Kotler, 2016).

Information on cost

An important function of management accounting is providing cost information for product mix and pricing decisions. Researchers use the neoclassical framework for decision-making analyses and the identification of the so-called relevant costs (Ryan, Scapens, & Theobald, 2002). According to Lucas (2003), researchers seem to have brought evidence that full-cost pricing was the dominant appearance of pricing behaviour. Full-cost is typically provided by a firm´s accounting system. A profit mark-up, whose amount is variable and depends on e.g., market conditions or capacities, is usually added to generate the price. Under usual circumstances, the full-cost price can be described as the desirable target price. However, these empirical observations contradict common management accounting textbooks where price is at the level where marginal cost and marginal revenue are equal, the previously mentioned neoclassical price theory.

This contrariness between the neoclassical paradigm and the Post Keynesian full-cost price theory, which reflects the dissent between practice and theory, is called the reality gap. While the Post Keynesian full-cost approach dominates practical research, the theoretical research favours the neoclassical, decision relevant cost approach. Analysing the reasons for the reality gap, Lucas and Rafferty (2008) discover various approaches in different research frameworks to explain the reality gap. One explanation of management

accounting practice is that sophisticated techniques of gathering cost information are too expensive to implement in comparison to their benefit. However, further research was necessary to understand accounting practices and why they differ from accounting theory.

Call for descriptive research

Based on the criticism of Monroe and Mazumdar (1988), researchers like Monroe (2011) and Rao and Kartono (2009) underline the call for more descriptive research on pricing. The philosophy-of-science debate releases descriptive research from the role as the unwanted stepchild of academic research and makes it acceptable and legitimate for knowledge development. Descriptive research on pricing is important for creating knowledge about the decision process and heuristics used by managers and buyers. This

can help to understand under which circumstances existing pricing models are applicable and which deficiencies in structure those models have. This effort could help with building the bridge between theory and practice, namely the uncritical reliance on the economic paradigm on the one hand and practical diversity on the other hand.

Objectives of price-setting

A single pricing model cannot be expected to address the whole pricing decision problem as influential factors and their interrelations are considered complex. Therefore, a model categorization according to its price-setting objectives can help canalizing future research. The considered objectives of price-setting are the maximization of single-period profits, the net present value of future profits, product-line profits, and the contribution per resource unit. Factors like the customers’ value perceptions, their price sensitivity, the existence of distinct market structures, or demand interdependencies with other products influence the selection of an appropriate price strategy. Other external factors, which influence the selection of a set of feasible prices, are cost-related factors, competitive factors, legal and public policy issues, and trade practices. Setting prices appears difficult when regarding the various influencing factors on the determination of a price strategy (Ingenbleek, 2014; Ingenbleek, Debruyne, Frambach, & Verhallen, 2003).

Summary

Table 3 summarizes the main subjects of debate in the theory-practice dialogue. The aspects of discussion comprise the divergent perspectives of disciplines, the challenge of the realism of assumptions, the problem of empirical validation, and the call for descriptive research. Apparently, the theory-practice dialogue is as manifold as the aspects of pricing research that are relevant for the theory-practice gap. And although capable researchers identify the necessary steps for more realism in pricing research, the theory-practice gap in pricing research remains. Understanding this complex and manifold discussion is essential to design future pricing research properly.

Table 3: The theory-practice dialogue

Subject of debate Relevant researchers Subject of debate

Realism of assumptions / Information asymmetry J. Crotty (2013); Einav and Finkelstein (2011); Yan and Pei (2011)

Unrealistic assumptions of pricing models basing on economic theory lead to deficiencies regarding the applicability for managerial decision-making. The assumption of availability of total information to all market participants conflicts with information asymmetry in practice. Empirical validation Gupta and Cakanyildirim (2013); Rao (1993)

Problems associated with the empirical validation of pricing models calls for research on the formation of pricing decisions.

Economics vs. marketing

Athanasenas (2015); Kotler (2015, 2016); Kotler and Keller (2016)

The view on price as a decision variable in marketing differs from the economic view where price is considered a given value. Availability of cost information Lucas (2003); Lucas and Rafferty (2008); Ryan et al. (2002)

The reality gap reflects the dissent between practice and theory, namely the contrariness between the neoclassical paradigm and the Post Keynesian full-cost price theory. Call for

descriptive research

Monroe (2011); Rao and Kartono (2009)

Descriptive research is important for creating knowledge about the decision process and shall be released from the role as the unwanted stepchild of academic research. Objectives of

price-setting

Ingenbleek (2014); Ingenbleek et al. (2003)

No single pricing model can be expected to address the whole pricing decision problem due to the complexity of the influencing factors and their interrelations. A model classification corresponding to their price-setting objectives can help canalizing future research.

Source: Proprietary development