Chapter 18:
Price Setting
in the
Business World
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Chapter 18 Objectives
When you finish this chapter, you should
1. Understand how most wholesalers 5. Understand the advantages of
and retailers set their prices—
marginal analysis and how to
using markups.
use it for price setting.
2. Understand why turnover is so
important in pricing.
3. Understand the advantages and
disadvantages of average-cost
pricing.
4. Know how to use break-even
analysis to evaluate possible
prices.
18-2
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., 1999
Irwin/McGraw-Hill
Key Factors That Influence Price Setting
Pricing
objectives
Price of other
products in the line
Demand
Price flexibility
Price
settin
g
Cost
18-3
Legal
environment
Geographic
pricing terms
Competition
Exhibit 18-1
Discounts and
allowances
Markup chain
in channels
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Markups
50.00
30.00
Markup = 20.00 = 40%
24.00
Markup = 6.00 = 20%
Markup = 2.40 = 10%
Cost = 30.00 = 60%
Cost = 24.00 = 80%
Cost = 21.60 = 90%
Producer
Wholesaler
Retailer
Exhibit 18-2
18-4
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Six Types of Costs
Total Cost
Total Fixed
Cost
Total Variable
Cost
Average
Fixed Cost
Average
Variable Cost
Average Cost
18-5
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Prices Along the Demand Curve
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
Price per unit
$3.00
2.00
1.90
1.65
1.50
1.20
10
Exhibit 18-6
18-6
20
30
40
50
60
70
Quantity (000)
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
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
Cost-oriented selling
price per unit
Average total cost
per unit
Profit per
unit
Exhibit 18-7
18-7
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Break-even Analysis
Total Revenue and Cost
Higher
Profit Area
Total Revenue Curve
Total Cost Curve
Break-Even Point
Loss Area
Total Variable Costs
Total Fixed Costs
0
More
Units of Production
Exhibit 18-8
18-8
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Marginal Analysis
800
Total cost
700
600
500
Dollars
400
300
Best profit
for quantity
at best price
200
100
0
2
4
6
8
Total revenue
= $106
=6
= $79
Quantity
-100
-200
-300
-400
Exhibit 18-10
18-9
Note: curves here are approximate (you can’t sell part of a unit!)
Total profit
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Evaluating a Customer’s Price Sensitivity
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?
18-10
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Demand-Oriented Pricing
Psychological
Bait
Leader
Odd-Even
Types of
Demand-Oriented
Pricing
Prestige
Price Lining
DemandBackward
Value-in-Use
Reference
18-11
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Full-Line Pricing
?????
?????
?????
?????
?????
18-12
Market- or Firm
Oriented?
Complementary
Pricing?
Product-Bundling
Pricing?
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill
Bid and Negotiated Pricing
Bid pricing means offering a
specific price for each
possible job. Determining
costs is a complicated
process.
Negotiated pricing involves
setting a price as the result
of a bargaining process
between the buyer and seller.
18-13
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
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
Experience Curve
Pricing
Target Return Pricing
Long-Run Target
Return Pricing
18-14
Break-Even Analysis
Break-Even Point (BEP)
Fixed-Cost (FC)
Contribution per Unit
Marginal Analysis
Marginal Revenue
Marginal Cost
Rule for Maximizing
Profit
Marginal Profit
Price Leader
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
For use only with Perreault and McCarthy texts.
© The McGraw-Hill Companies, Inc., 1999
Irwin/McGraw-Hill