Chapter 13

Price Determination

Sommers  Barnes
Ninth Canadian Edition

Presentation by
Karen A. Blotnicky
Mount Saint Vincent University, Halifax, NS
Copyright © 2001 by McGraw-Hill Ryerson Limited
Chapter Goals
To gain an understanding of:
• The meaning of price
• The significance of price ot the firm, and
the consumer
• How value related to price
• Pricing objectives
• Factors influencing price
• Nature of costs
• Approaches to determining price
• Break-even analysis
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The Meaning of Price
• Starts with monetary terms
• But value is important; what does consumer get?
• Price often depends on circumstances: you pay more
to fly when you want to fly
• Importance of Price:
• In the economy, price allocates production factors
• Consumers can be price-sensitive
• Often judge quality by price
• Value part of consumer perceptions of price
• Individual firms need to set price within 4Ps

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The Consumer’s
View of Price
• some consumers are very interested in getting a low
price and pay close attention to price
• but, many are interested in other elements of the
purchase, including brand, quality, etc.
• there is a tendency to link quality with price
• consumers are often prepared to pay more if they
expect to get excellent service
• adding value doesn’t mean dropping price

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The Customer
Wants Value
• price is not always an important factor in influencing a
sale; the customer wants more than a low price, may be
willing to pay more
• the customer considers what he or she gets for the price
paid; the seller must offer value
• price of a product or service communicates a message
to the consumer about quality
• many firms place considerable emphasis on adding
value for their customers

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Pricing Objectives
Management should decide on its pricing
objective before determining the price itself.
Profit-oriented objectives:
•Profit-oriented
•Achieve a target return — pricing product to
achieve a specified percentage return on sales
or investment.
•Maximize profits — followed by the most
companies.
Sales oriented goals:
•Sales
•Increase sales volume.
•Maintain or increase market share.
Status quo goals:
•Status
•Stabilize prices.
•Meet competition.
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Factors Affecting Price
• pricing must take the customer into account
• how price elastic is demand?
• do customers have an expected price in mind?
• for some products, demand is inverse; if price is
increased, sales will actually increase
• how is the competition likely to respond?
• price must be consistent with and support other
elements of the marketing mix

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Estimating Demand
• Determine if there is an expected market price.
• Estimate sales volume at different prices.
• Expected price:
price The price that shows what customers
think the product is worth.
• Pricing a product within the expected price range
helps gain support from middlemen.
• It is possible to set a price too low, thereby losing
sales (prestige issues).
• Pricing too high also loses potential sales

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Inverse demand:
When Normal
an demand
increase curve
in price Price
results
in
increase
Inverse
d sales. demand

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Quantity sold
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More About Demand
Estimation
• Competitive Reactions:
• Directly similar products affect price
• Available substitutes and generic
competition for consumer’s dollars
• Unrelated products seeking same consumer
dollar
• Other Marketing Mix Issues:
• Product issues, e.g. new vs. established
• Distribution issues-- if using wholesaler,
what is wholesaler doing for you?
• Promotion issues-- who does it?

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Product Costs
• The total unit cost of a product is made up of
two basic costs: fixed or variable
• Fixed cost remains constant regardless of
the number of units produced.
• Variable cost can be controlled in the long
run by changing the level of production.
• Total cost is the sum of fixed and variable
costs at a particular level of production.

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 450

400
Graphical
350

300
Illustration of Key
250
Terms in Product
Price

200
Cost
150 Total cost
100 Variable cost
50 Fixed cost
0
0 1 2 3 4 5
Quantity Copyright © 2001 McGraw-Hill Ryerson Limited
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Cost-Plus
Pricing
Set price based on total cost of
the unit plus desired profit.
• Easy to apply, but ignores market
demand.
• Retailers that offer many services
require larger markups than those
that offer few.

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Pricing by
Intermediaries
• Different types of retailers require
different percentage markups because of
the nature of the products handled and
the services offered:
• Low-turnover products (jewellery) need
much larger markups than high-turnover
products (groceries).
• Retailers that offer many services
require larger markups than those that
offer few.
• What seems to be cost-plus pricing for
middlemen is usually market-influenced
pricing.
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 Pricing Through the
Channel
Markup
Markup = 40%
= 20% = $60
= $18 Re-
tailer’s Cost to
selling consumer
Manu- Whole- price = $150
Cost and facturer’s Cost saler’s Cost = 100%
profit selling = 80% selling = 60% = $150
= 100% price = $72 price = $90
= $72 = 100% = 100%
= $72 = $90

MANUFACTURER WHOLESALER RETAILER CONSUMER

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Assumptions Underlying
Break-Even Analysis

• Two assumptions underlie these

calculations:
• Total fixed costs are constant.
• Variable costs remain constant per
unit of output.
• These assumptions are unrealistic in
most real-world operations.

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Costs and Break-Even
Analysis
• cost is viewed as a floor under a firm’s price
• many firms do not have particularly good cost
data and may not know what it costs to produce a
product or service
• the break-even point is where total revenue
equals total costs; will be different for each price
-- lets a firm see what it will need to sell
• break-even analysis is not a pricing strategy, but
can offer useful information

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Break-Even Analysis Illustration
$100,000
90,000 it )
n
ru
80,000 0 pe
t $8
Cost, revenue, profit

70,000 e (a PROFITS
e nu
60,000 r ev
ta l
BREAK-EVEN To c o sts
50,000 l
POINT Tota
40,000
Total variable costs
30,000
20,000 LOSSES Total fixed costs
10,000
0 100 200 300 400 500 600 700 800 900 1000 1100 1200
Quantity in units Copyright © 2001 McGraw-Hill Ryerson Limited
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Prices Set Based on
Market Alone
• Pricing to meet the competition when there is:
• Highly competitive market and undifferentiated
products.
• Kinked demand — a price raise above the prevailing
market level results in a sharp drop in revenue.
• An oligopoly (a few firms, similar products).
• Pricing below competition, commonly used by discount
retailers.
• Pricing above competition, usually only when the product
is distinctive or the seller has acquired prestige.

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