This strategy is most often used businesses wishing to enter a new market or build on a relatively small market share.
This will only be possible where demand for the product is believed to be highly elastic, i.e. demand is price-sensitive and either new buyers will be attracted, or existing buyers will buy more of the product as a result of a low price.
A successful penetration pricing strategy may lead to large sales volumes/market shares and therefore lower costs per unit. The effects of economies of both scale and experience lead to lower production costs, which justify the use of penetration pricing strategies to gain market share. Penetration strategies are often used by businesses that need to use up spare resources (e.g. factory capacity).
A penetration pricing strategy may also promote complimentary and captive products. The main product may be priced with a low mark-up to attract sales (it may even be a loss-leader). Customers are then sold accessories (which often only fit the manufacturer’s main product) which are sold at higher mark-ups.
Before implementing a penetration pricing strategy, a supplier must be certain that it has the production and distribution capabilities to meet the anticipated increase in demand.
The most obvious potential disadvantage of implementing a penetration pricing strategy is the likelihood of competing suppliers following suit by reducing their prices also, thus nullifying any advantage of the reduced price (if prices are sufficiently differentiated the impact of this disadvantage may be diminished).
A second potential disadvantage is the impact of the reduced price on the image of the offering, particularly where buyers associate price with quality.
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