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

Evaluation
Evaluationand
and
Formation
Formationofof
Prices
Prices&&policy
policy

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 SUPPLY AND DEMAND

Price
Supply

Demand

Quantity

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 ANALYZING MARKET STRUCTURES
Types ofPure Competition Oligopoly Monopolistic Monopoly
situations Competition
Important
dimensions
Uniqueness of each None None Some Unique
firm’s product
Number of competitors Many Few Few to many None

Size of competitors Small Large Large to small None

(compared to size of
market
Elasticity of demand Completely Kinked demand Either Either
facing firm Elastic curve (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 C’s : 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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