Chapter 17:

Price Setting in the Business World

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

17-2

Chapter 17 Objectives

When you finish this chapter, you should

1.

Understand how most wholesalers and retailers set their prices— using markups. 5.

Understand the advantages of marginal analysis and how to use it for price setting.

2.

4.

Understand why turnover is so important in pricing.

3.

Understand the advantages and disadvantages of average-cost pricing. Know how to use break-even analysis to evaluate possible prices. 6.

Understand the various factors that influence customer price sensitivity.

7.

Know the many ways that price setters use demand estimates in their pricing. 8.

Understand the important new terms.

For use only with Perreault and McCarthy texts.

© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Key Factors That Influence Price Setting

Pricing objectives Price of other products in the line Price flexibility Demand Discounts and allowances

Price settin g

Cost Competition Legal environment Geographic pricing terms Markup chain in channels

Exhibit 17-1 17-3

For use only with Perreault and McCarthy texts.

© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Markups

50.00

30.00

24.00

Markup = 20.00 = 40% Markup = 6.00 = 20% Markup = 2.40 = 10% Cost = 21.60 = 90% Producer Exhibit 17-2 17-4 Cost = 24.00 = 80% Cost = 30.00 = 60% Wholesaler Retailer

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Six Types of Costs

Total Cost Total Fixed Cost Total Variable Cost 17-5 Average Fixed Cost Average Cost Average Variable Cost

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Prices Along the Demand Curve

$3.00

Total revenue = Price x Quantity $30,000 = $3.00 x 10,000 $40,000 = $2.00 x 20,000 $57,000 = $1.90 x 30,000 $66,000 = $1.65 x 40,000 $75,000 = $1.50 x 50,000 $72,000 = $1.20 x 60,000 2.00

1.90

1.65

1.50

1.20

Exhibit 17-6 17-6 10 20 30 40 Quantity (000) 50 60 70

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Summary of Relationships Affecting Price ?

Estimated quantity to be sold Quantity demanded at selling price Average fixed cost per unit Variable cost per unit Exhibit 17-7 17-7 Cost-oriented selling price per unit Average total cost per unit Profit per unit

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Break-even Analysis

Higher Profit Area Break-Even Point Loss Area Total Revenue Curve Total Cost Curve Total Variable Costs Exhibit 17-8 17-8 0 Units of Production Total Fixed Costs More

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Marginal Analysis

800 700 600 500 400 300 200 100 0 -100 -200 -300 -400 Exhibit 17-10 17-9 2 4 6 Best profit for quantity at best price 8

Note: curves here are approximate (you can’t sell part of a unit!)

Total cost Total revenue = $106 = 6 = $79 Quantity Total profit

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Evaluating a Customer’s Price Sensitivity 17-10

 Are there substitute ways of meeting a need?

 Is it easy to compare prices?

 Who pays the bill?

 How great is the total expenditure?

 How significant is the end benefit?

 Is there already a sunk investment related to the purchase?

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Demand-Oriented Pricing

Prestige Value-in-Use Demand Backward Price Lining Types of Demand-Oriented Pricing Reference Leader Odd-Even Bait Psychological 17-11

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17-12

Full-Line Pricing

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Market- or Firm Oriented?

Complementary Pricing?

Product-Bundling Pricing?

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Bid and Negotiated Pricing

Bid pricing means offering a specific price for each possible job. Determining costs is a complicated process.

17-13 Negotiated pricing involves setting a price as the result of a bargaining process between the buyer and seller.

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© The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw-Hill

Key Terms

Markup Markup (percent) Markup Chain Stockturn Rate Average-Cost Pricing Total Fixed Cost Total Variable Cost Total Cost Average Cost Average Fixed Cost Average Variable Cost Break-Even Analysis Break-Even Point (BEP) Fixed-Cost (FC) Contribution per Unit Marginal Analysis Value in Use Pricing Reference Price Leader Pricing Bait Pricing Psychological Pricing Odd-Even Pricing Price Lining Demand-Backward Pricing Prestige Pricing Full-Line Pricing Complementary Product Pricing Product-Bundle Pricing Bid Pricing Negotiated Price 17-14

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