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Chapter Fourteen
Pricing and
Negotiating for Value

McGraw-Hill/Irwin Copyright 2006 The McGraw-Hill Companies, Inc. All rights reserved.
 PRICING ISSUES: WHY PRICING IS
DIFFICULT

Subjective and
Objective & Explicit
Interpretive
1. DEMAND FACTORS 1. STRATEGY ISSUES
(How much do (Pricing objectives)
customers want) 2. COMPETITIVE
2. COST FACTORS FACTORS
(Actual outlays) (Rivals prices)
3. TRADE FACTORS
(Channel power)
4. LEGAL FACTORS
(Restrictions and
discrimination)
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A MODEL FOR MANAGING PRICE

1 Demand Factors
Elasticity of demand
Cross elasticities
2 Customer value 5 Trade Factors
Cost Factors perceptions Power in the channel
Costs now Traditions and roles
Anticipated costs
Margins
Economic objectives
4 Strategy Issues
Target market
selection
3 Product positioning 6 Legal Factors
Cost Factors Price objectives Vertical restrictions
Structure of competition Marketing program
Barriers to entry Price discrimination
Intent of rivals

Evaluation and
Formation of
Prices & policy

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 SUPPLY AND DEMAND

Price
Supply

Demand

Quantity

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 ANALYZING MARKET STRUCTURES
Types of
situations
Important Pure Monopolistic
dimensions Competition Oligopoly Competition Monopoly
Uniqueness of each
None None Some Unique
firms product

Number of competitors Many Few Few to many None

Size of competitors
(compared to size of Small Large Large to small None
market
Kinked demand
Elasticity of demand Completely
curve (elastic Either Either
facing firm Elastic
and inelastic
Elasticity of industry
Either Inelastic Either Either
demand

Control of price by firm None Some (with care) Some Complete

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KEY DECISIONS IN MANAGING PRICE

DETERMINE PRICING STRATEGY Develop specific

approach to achieve price objectives
DETERMINE CHANNEL INTERMEDIARY PRICES,
COSTS AND MARGINS
DETERMINE SINGLE PRODUCT AND PRODUCT
LINE PRICING
Develop pricing structures for substitute and complementary products

DETERMINE WHETHER TO PARTICIPATE IN

BIDDING AND NEGOTIATION FOR SALES
ESTABLISH A PRICING SYSTEM
Based on the 4 Cs : Costs, Customers, Competitors, and Channels

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 BREAK-EVEN ANALYSIS
BREAK-EVEN OCCURS WHEN: TOTAL REVENUE=TOTAL COST
BREAK-EVEN IS DONE TO FIND THE LEVEL OF SALES TO COVER ALL
FIXED AND VARIABLE COSTS

Given: Price Q = FC + VC = FC (UVC Q)

Q is quality; FC, fixed costs; VC, variable costs;
UVC, unit variable costs; Price, average revenue

Solve for Q (quantity)

(Price Q) (UVC Q) = FC
Q(Price UVC) = FC
Q = FC/(Price-UVC) = FC / unit margin

Solve for Price, with fixed Q

Price Q = FC + (UVC Q)
Price = [FC + (UVC 0)] / Q = Average cost

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 MARGINAL ANALYSIS

SCENARIO: What sales increase is needed to cover a

$1.2 million increase in expenditures?

WHERE: COGS = 75% of Net Sales

NR = New Revenue

NR = $1.2 million + COGS

NR = $1.2 million + .75 NR
.25 NR = $1.2 million
NR = $1.2 million / .25
NR = $4.8 million
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 CALCULATING MARGIN CHAINS
A PRICE INCREASE/DECREASE BY ONE CHANNEL MEMBER WILL
IMPACT THE PRICE CHARGED BY SUBSEQUENT CHANNEL MEMBERS

ASSUME: Given a new product selling for $10,

what is the maximum factory price allowable?
WHOLESALER DEALER
Net Sales 100% Net Sales 100%
COGS 85% COGS 70%
Gross Profit 15% Gross Profit 30%
Apply $10 dealer price
Net Sales $7.00 Net Sales $10.00
COGS 5.95 COGS 7.00
Gross Profit $1.05 Gross Profit $ 3.00
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