Pricing Introduction 1 Basic Term and Concepts

1. Pricing Introduction 1Basic Term and Concepts What is a price?

2. Imagine you want to buy some chocolate. Which of these will you buy? Why did you choose that product? Broken chocolate bar pieces from the bulk food store. Price: $1 for about 2 bars Toblerone bars. Price: $6.99 for a large “gift size” bar. GODIVA chocolates – considered by many to be “the best” Price: $20 for a small box of about 12 chocolates Widely available chocolate bars. Price: $1 each

3. Imagine you are going to buy a car. Which of these will you buy? Why did you choose that product. Lamborghini Gallardo – often mentioned in rap songs. Price: $250,000 Audi TT – a cool design featured in several movies. Price: $60,000 A sporty and economical new Toyota Echo Price: $15,000 1983 used Datsun Price: $600

4. Imagine you are going to buy ketchup. Which of these will you buy? Why? Annie’s Organic Ketchup Price: $4.50 Hunt’s Ketchup Price: $1.99 Heinz Ketchup Price: $3.50

5. What is a price? Definition: The amount of money asked for or given in exchange for something else. It is an arbitrary amount determined by marketers/sellers. PRICE = VALUE

6. What factors influence price? • Overall consumer demand • Convenience of the location • Status and image (product positioning) • Trends in the world or the community • Competition in that market • Perceived quality of the product • Pricing laws • Cost to make and sell it • Marketing boards • How much the target customer will spend for it • Profit that a company wants to make • How much a company wants to sell of the product • How quickly they want/need to sell the product

7. A few factors in more detail… • Laws • It is in the best interest of our society to have fair competition in every marketplace. • To protect the consumer and encourage competition, there are laws against price fixing/collusion • Deceptive pricing practices • Double ticketing • Bait and switch • False sale prices • MSRP = Manufacturer’s Suggested Retail Price

8. Competition • Forces sellers of the same or similar products to remain reasonably close to one another in product pricing • Affected by modern practice of price-checking/comparisons using various websites

9. Product positioning- pricing based on how you want to position your product or service. Possible positioning strategies… • Premium pricing • Discount pricing

10. Consumer Demand • How much are consumers willing to pay? • Consumers will often pay more when the demand is based on emotion/want rather than any rational need • Always easier to reduce prices, very hard to increase prices. Price Sensitivity: • When demand is strongly tied to the price and will fluctuate as the price changes. • When prices go up, demand drops

11. Marketing Boards • Promote their commodity • Provide marketing info to producer-members • Fund production and marketing research • Some set the prices, a few limit production • Membership organizations

12. DETERMINING THE PRICE • Important Terms • MARKUP % • ie. for a $20 item, if customer pays $30 ($10 markup): markup 10 –––––– = ––– = 50% cost to retailer 20

13. DETERMINING THE PRICE • Important Terms • MARGIN % • The percentage of the price charged for the item which is not used to pay for the cost of the item

14. DETERMINING THE PRICE • MARGIN % • ie. for a $20 item, if customer pays $30 ($10 markup): markup 10 ––––––––– = –– = 33.3% selling price 30 NOTE: The term “margin” used on its own simply means the difference between selling price and cost per unit (markup) e.g. $30 - $20

15. DETERMINING THE PRICE • PROFIT • Money left over after all expenses have been paid. all business profit = revenue - expenses

16. BREAK-EVEN ANALYSIS • The first step in calculating price is to calculate how many items need to be sold at a given price to cover costs. Break-even analysis calculates the break-even point, the point at which profit starts.

17. BREAK-EVEN ANALYSIS • Variable Costs • costs directly dependent on the quantity of good/services sold ie. a hairstylist uses 30¢ of shampoo on each client (more clients means more shampoo used)

18. BREAK-EVEN ANALYSIS • Fixed Costs • costs which are constant, regardless of products or other variables • usually remain the same for an extended period of time • rent, salaries, utilities, etc.

19. BREAK-EVEN ANALYSIS • Gross Profit • the selling price minus the variable costs of making that unit • money left over after variable costs have been paid

20. BREAK-EVEN POINT • The number of units that need to be sold to cover costs • BEP = fixed costs ÷ gross profit

21. BREAK-EVEN POINT • Example: • Var. costs for making bear: $3 per bear • Selling price: $18 Fixed cost: $150,000 • GP = SP – VC • GP = 18 – 3 = 15 • BEP = fixed costs ÷ gross profit per unit • BEP = 150,000 ÷ 15 = 10,000

22. BREAK-EVEN POINT • Is this viable? If not, they can: • ↓ variable costs to ↑ gross profit (and lower BEP) • ↑ selling price to ↑ gross profit (and lower BEP)

23. BREAK-EVEN POINT • ↓ selling price, ↑ demand, higher sales = reach the BEP sooner • ↑ sales costs (ads, promos) to try to ↑ demand, resulting in ↑ sales = reach the BEP sooner • ↓ fixed costs to reduce BEP

24. Economies of scale: the more product you create, the lower the cost for each item.

25. ECONOMIES OF SCALE • Developing products for • Private-Label companies • cheaper than brand name • store and manufacturer sign contract for amount to be made • only cost to manufacturer is VC

26. ECONOMIES OF SCALE • Developing products for • Private-Label companies • FC are high, but have already been paid • WIN-WIN: store gets product, manufacturer gets profit

27. ECONOMIES OF SCALE • Developing products for • Private-Label companies How it works MON TUE WED THU FRI GV MC PC OC

28. ECONOMIES OF SCALE • Creating a Barrier to Entry • for Competitors • first company to sell a product may keep price high to reach the BEP sooner, but other companies enter market at lower price because their R&D is lower

29. ECONOMIES OF SCALE • Creating a Barrier to Entry • for Competitors • original marketer prices the product low to stimulate sales, reducing fixed costs quickly, and making entry unattractive for competitors

30. ECONOMIES OF SCALE • Creating New Brands • if new product can be made using the same machinery, you can expand product line and increase sales without increasing costs = increased profit

31. ECONOMIES OF SCALE • Merging with Competitors • joining with competitors: • merger – voluntary/friendly • takeover – forced • usual result is reduction in fixed costs (less duplication of things like HR, R and D)

32. ECONOMIES OF SCALE • Merging with Competitors • more efficiency: less employees, lower operating costs • staff reduction sometimes lowers consumer confidence, and decreases sales

33. DISECONOMIES OF SCALE • There is a point at which the economies of scale become diseconomies. • over-expansion leads to centralized management: lose touch with local markets

34. DISECONOMIES OF SCALE • combined production for more efficiency: no backup if machinery breaks • fewer employees: everyone works more, reduced trust, more sick time • large company creates communication problems: errors, drop in efficiency

35. REVIEW SO FAR • What is: • Markup • Margin • Profit • Fixed costs • Variable costs • Gross profit • BEP formula

36. REVIEW (some questions to ponder) • What do the following short forms mean? SP VC GP FC BEP • What is the difference between the formula for margin and markup? • What is the formula for BEP?