MARK HIRSCHEY
10E
PowerPoint
Presentation
by
Charlie
Cook
MANAGERIAL
ECONOMICS
Chapter 12
Pricing Practices
© 2003 South-Western/Thomson Learning
Consumers’ Surplus
Figure 12.1
Managerial Economics 10e
© 2003 South-Western/Thomson Learning
12–2
Price Discrimination for an Identical Product Sold in Two Markets
Figure 12.2
Managerial Economics 10e
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Monopoly Per-Unit Pricing Versus Two-Part Pricing
Figure 12.3
Managerial Economics 10e
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12–4
Optimal Pricing for Joint
Products Produced in
Fixed Proportions
Figure 12.4
Managerial Economics 10e
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Optimal Pricing for Joint
Products Produced in Fixed
Proportions with Excess
Production of One Product
Figure 12.5
Managerial Economics 10e
© 2003 South-Western/Thomson Learning
12–6
11.1
CAPTURING CONSUMER SURPLUS
Figure 11.1
Capturing Consumer Surplus
If a firm can charge only one price for
all its customers, that price will be P*
and the quantity produced will be Q*.
Ideally, the firm would like to charge a
higher price to consumers willing to
pay more than P*, thereby capturing
some of the consumer surplus under
region A of the demand curve.
The firm would also like to sell to
consumers willing to pay prices lower
than P*, but only if doing so does not
entail lowering the price to other
consumers.
In that way, the firm could also
capture some of the surplus under
region B of the demand curve.
● price discrimination Practice of
charging different prices to different
consumers for similar goods.
11.2
PRICE DISCRIMINATION
First-Degree Price Discrimination
● first-degree price discrimination Practice of charging
each customer her reservation price.
Figure 11.2
Additional Profit from Perfect First-Degree
Price Discrimination
Because the firm charges each consumer her
reservation price, it is profitable to expand
output to Q**.
When only a single price, P*, is charged, the
firm’s variable profit is the area between the
marginal revenue and marginal cost curves.
With perfect price discrimination, this profit
expands to the area between the demand
curve and the marginal cost curve.
● variable profit Sum of profits on each incremental unit
produced by a firm; i.e., profit ignoring fixed costs.
11.2
PRICE DISCRIMINATION
First-Degree Price Discrimination
Perfect Price Discrimination
The additional profit from producing and selling an incremental unit is
now the difference between demand and marginal cost.
Imperfect Price Discrimination
Figure 11.3
First-Degree Price Discrimination in
Practice
Firms usually don’t know the
reservation price of every
consumer, but sometimes
reservation prices can be roughly
identified.
Here, six different prices are
charged. The firm earns higher
profits, but some consumers may
also benefit.
With a single price P*4, there are
fewer consumers.
The consumers who now pay P5 or
P6 enjoy a surplus.
11.2
PRICE DISCRIMINATION
Second-Degree Price Discrimination
● second-degree price discrimination Practice of charging
different prices per unit for different quantities of the same good or
service.
● block pricing Practice of charging different prices for different
quantities or “blocks” of a good.
Figure 11.4
Second-Degree Price Discrimination
Different prices are charged for
different quantities, or “blocks,” of
the same good. Here, there are
three blocks, with corresponding
prices P1, P2, and P3.
There are also economies of
scale, and average and marginal
costs are declining. Seconddegree price discrimination can
then make consumers better off
by expanding output and lowering
cost.
11.2
PRICE DISCRIMINATION
Third-Degree Price Discrimination
● third-degree price discrimination Practice of
dividing consumers into two or more groups with
separate demand curves and charging different
prices to each group.
Creating Consumer Groups
If third-degree price discrimination is feasible, how should the firm decide
what price to charge each group of consumers?
• We know that however much is produced, total output should be
divided between the groups of customers so that marginal revenues
for each group are equal.
• We know that total output must be such that the marginal revenue for
each group of consumers is equal to the marginal cost of production.
11.2
PRICE DISCRIMINATION
Third-Degree Price Discrimination
● third-degree price discrimination Practice of dividing
consumers into two or more groups with separate demand
curves and charging different prices to each group.
Creating Consumer Groups
(11.1)
11.2
PRICE DISCRIMINATION
Third-Degree Price Discrimination
Determining Relative Prices
(11.2)
Figure 11.5
Third-Degree Price Discrimination
Consumers are divided into two groups, with
separate demand curves for each group. The
optimal prices and quantities are such that
the marginal revenue from each group is the
same and equal to marginal cost.
Here group 1, with demand curve D1, is
charged P1,
and group 2, with the more elastic demand
curve D2, is charged the lower price P2.
Marginal cost depends on the total quantity
produced QT.
Note that Q1 and Q2 are chosen so that MR1
= MR2 = MC.
11.2
PRICE DISCRIMINATION
Third-Degree Price Discrimination
Determining Relative Prices
Figure 11.6
No Sales to Smaller Market
Even if third-degree price discrimination
is feasible, it may not pay to sell to both
groups of consumers if marginal cost is
rising.
Here the first group of consumers, with
demand D1, are not willing to pay much
for the product.
It is unprofitable to sell to them because
the price would have to be too low to
compensate for the resulting increase in
marginal cost.
11.3
INTERTEMPORAL PRICE DISCRIMINATION
AND PEAK-LOAD PRICING
Intertemporal Price Discrimination
● intertemporal price discrimination Practice of separating
consumers with different demand functions into different
groups by charging different prices at different points in time.
● peak-load pricing Practice of charging higher prices during
peak periods when capacity constraints cause marginal costs
to be high.
Figure 11.7
Intertemporal Price Discrimination
Consumers are divided into groups
by changing the price over time.
Initially, the price is high. The firm
captures surplus from consumers
who have a high demand for the
good and who are unwilling to wait
to buy it.
Later the price is reduced to appeal
to the mass market.
11.3
INTERTEMPORAL PRICE DISCRIMINATION
AND PEAK-LOAD PRICING
Peak-Load Pricing
Figure 11.8
Peak-Load Pricing
Demands for some goods and
services increase sharply during
particular times of the day or year.
Charging a higher price P1 during
the peak periods is more profitable
for the firm than charging a single
price at all times.
It is also more efficient because
marginal cost is higher during peak
periods.
1. Cost-Based Pricing
Certainty About
Costs
Price Competition
Is Minimized
Much Fairer to Buyers
& Sellers
Unexpected
Situational
Factors
Pricing is
Simplified
Cost-Plus Pricing
Ethical
is an Approach
That Adds a
Standard Markup
to the Cost of the
Product.
Attitudes
of
Others
Simplest
Pricing
Method
Ignores
Current
Demand &
Competition
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2. Breakeven Analysis or Target Profit Pricing
Tries to Determine the Price at Which a Firm Will
Break Even or Make a Certain Target Profit.
Total Revenue
Cost in Dollars (millions)
12
10
Target Profit
($2 million)
8
6
Total Cost
4
Fixed Cost
2
200
400
600
800
1,000
Sales Volume in Units (thousands)
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3. Value-Based Pricing
Cost-Based Pricing
Value-Based Pricing
Product
Customer
Cost
Value
Price
Price
Value
Cost
Customers
Product
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4. Competition-Based Pricing
Setting Prices
Going-Rate
Company Sets Prices Based on What
Competitors Are Charging.
? Sealed-Bid
? Company Sets Prices Based on
What They Think Competitors Will Charge.
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5. New Product Pricing Strategies
5.a. Market Skimming
Setting a High Price for a
New Product to “Skim”
Maximum Revenues from
the Target Market.
Results in Fewer, But More
Profitable Sales.
• Use Under These
Conditions:
–Product’s Quality and
Image Must Support Its
Higher Price.
–Costs Can’t be so High
that They Cancel the
Advantage of Charging
More.
–Competitors Shouldn’t be
Able to Enter Market Easily
and Undercut the High
Price.
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New Product Pricing Strategies
• Use Under These
Conditions:
5.b. Market Penetration
–Market Must be Highly
Setting a Low Price for a New
Price-Sensitive so a Low
Product in Order to “Penetrate”
Price Produces More
the Market Quickly and
Market Growth.
Deeply.
–Production/ Distribution
Costs Must Fall as Sales Attract a Large Number of
Volume Increases.
Buyers and Win a Larger
–Must Keep Out
Market Share.
Competition & Maintain Its
Low Price Position or
Benefits May Only be
Temporary.
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Product Mix-Pricing Strategies:
6. Product Line Pricing
• Involves setting price
steps between various
products in a product line
based on:
–Cost differences between
products,
–Customer evaluations of
different features, and
–competitors’ prices.
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Product Mix- Pricing Strategies
• 6.a. Optional-Product
–Pricing optional or
accessory products sold
with the main product.
i.e camera bag.
• 6.b. Captive-Product
–Pricing products that
must be used with the
main product. i.e. film.
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Product Mix- Pricing Strategies
• 6.c. By-Product
–Pricing low-value
by-products to get
rid of them and make
the main product’s
price more
competitive.
– i.e. sawdust, Zoo
Doo
• 6.d. Productbundling
–Combining
several
products and
offering the
bundle at a
reduced price.
–i.e. theater
season tickets.
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7. Discount and Allowance Pricing
Adjusting Basic Price to Reward Customers
For Certain Responses
Cash Discount
Seasonal Discount
Quantity Discount
Trade-In Allowance
Functional Discount
Promotional Allowance
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8. Segmented Pricing
Selling Products At Different Prices Even
Though There is No Difference in Cost
Customer - Segment
Location Pricing
Product - Form
Time Pricing
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Buyer reaction to pricing .
When Gibson lowered its prices, sales fell. Why?
9. Psychological Pricing
What is it about a
guitar that would
cau se this to happen?
What other products
share these qualities?
•Computers?
•Cars?
•What else?
Click or press spacebar to return.
• Considers the psychology of
prices and not simply the
economics.
• Customers use price less
when they can judge quality of
a product.
• Price becomes an important
quality signal when customers
can’t judge quality; price is
used to say something about
a product.
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Psychological Pricing : round number
versus
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Psychological Pricing : round number
versus
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11. Promotional Pricing
Loss Leaders
Special-Event Pricing
Cash Rebates
Low-Interest Financing
Temporarily
Pricing Products
Below List Price
to Increase ShortTerm Sales
Through:
Longer Warranties
Free Merchandise
Discounts
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12. Other Price Adjustment Strategies
• Adjusting
Geographical Pricing
International Pricing
Prices to Account
for the Geographical Location
of Customers.
• i.e. FOB-Origin, UniformDelivery, Zone Pricing, Basing
Point, & Freight-Absorption.
• Adjusting Prices for
International Markets.
• Price Depends on Costs,
Consumers, Economic
Conditions, Competitive
Situations & Other Factors.
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Initiating Price Changes
Why?
Excess Capacity
Falling Market Share
Dominate Market Through
Lower Costs
Why?
Cost Inflation
Overdemand: Company
Can’t Supply All
Customer’s Needs
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Reactions to Price Changes
Price Cuts Are Seen by Buyers As:
Being Replaced by Newer
Models
Current Models Are Not
Selling Well
Competitors Reactions When:
Number of Firms is
Small
Company is in Financial
Trouble
Product is Uniform
Quality Has Been Reduced
Buyers are Well
Informed
Price Comes Down Further
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Terima kasih
Managerial Economics 10e
© 2003 South-Western/Thomson Learning
12–35