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CHAPTER FOURTEEN PRICING: RELATING OBJECTIVES TO REVENUES AND COSTS Irwin/Mc. Graw-Hill MARKETING, 6/e BERKOWITZ CHAPTER FOURTEEN PRICING: RELATING OBJECTIVES TO REVENUES AND COSTS Irwin/Mc. Graw-Hill MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

AFTER READING THIS CHAPTER YOU SHOULD BE ABLE TO: • Identify the elements that AFTER READING THIS CHAPTER YOU SHOULD BE ABLE TO: • Identify the elements that make up a price. • Recognize the constraints on a firm’s pricing latitude and the objectives a firm has in setting prices. • Explain what a demand curve is and how it affects a firm’s total and marginal revenue. MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

AFTER READING THIS CHAPTER YOU SHOULD BE ABLE TO: • Recognize what price elasticity AFTER READING THIS CHAPTER YOU SHOULD BE ABLE TO: • Recognize what price elasticity of demand means to a manager facing a pricing decision. • Explain the role of costs in pricing decisions. • Calculate a break-even point for various combinations of price, fixed cost, and unit variable cost. MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -AA What is a Price? Barter? Price is the money or other PP 14 -AA What is a Price? Barter? Price is the money or other consideration (including other goods and services) exchanged for the ownership or use of a good or service. Barter is the practice of exchanging goods and services for other goods and services rather than money. MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14–BB The Many Names for Price Tuition The price paid for. . . PP 14–BB The Many Names for Price Tuition The price paid for. . . Education Rent The price paid for. . . An apartment Premium Fee The price paid for. . . Car insurance The price paid for. . . Dental and medical work Dues The price paid for. . . Membership in an organization Fare The price paid for. . . Transportation Wage The price paid for. . . Hourly workers Interest MARKETING, 6/e The price paid for. . . Money BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -1 a The Price of Four Different Purchases PRICE EQUATION ITEM PURCHASED PP 14 -1 a The Price of Four Different Purchases PRICE EQUATION ITEM PURCHASED INCENTIVES & -ALLOWANCES +EXTRA FEES PRICE =LIST PRICE new car bought by an individual final price =list price -vehicle incentive cash discount trade-ins term in college bought by a student tuition =published tuition -scholarship +special activity other financial aid fees discounts for number of credits taken +financing charges special accessories destination charges gas-guzzler tax continued MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -1 b The Price of Four Different Purchases PRICE EQUATION ITEM PURCHASED PP 14 -1 b The Price of Four Different Purchases PRICE EQUATION ITEM PURCHASED INCENTIVES & -ALLOWANCES +EXTRA FEES PRICE =LIST PRICE bank loan obtained by a small business principal and interest =amount of loan sought -allowance for +premium for collateral uncertain creditworthiness merchandise bought from a wholesaler by a retailer invoice price =list price -quantity discount +penalty for late cash discount payment seasonal discount functional or trade discount MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -CC Value and Value Pricing • Value can be defined as the PP 14 -CC Value and Value Pricing • Value can be defined as the ratio of perceived benefits to price or: value = perceived benefits/price • Value-pricing is the practice of simultaneously increasing product and service benefits and maintaining or decreasing price. MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -A Price, benefits, and value Perceived product or service attributes Perceived substitute PP 14 -A Price, benefits, and value Perceived product or service attributes Perceived substitute product or service attributes Value = Perceived benefits Perceived price Perceived product or service price Perceived substitute product or service price MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -B Consumer perceptions of value for money spent on products and services PP 14 -B Consumer perceptions of value for money spent on products and services High Value • Poultry • Fruits, vegetables • Meat • Fish • Appliances MARKETING, 6/e Medium Value • Men’s apparel • Prescription drugs • Restaurant meals • Shoes • Carpets BERKOWITZ • Air fares • Telephone service • Fast foods • Life insurance • Home repairs KERIN HARTLEY RUDELIUS Low Value • College tuition • Auto repairs • U. S. postage • Auto insurance • Medical services • Lawyers fees • Movies and theatres • Financial services • Cable TV Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14–DD The Profit Equation Profit = Total revenue – Total cost Unit price PP 14–DD The Profit Equation Profit = Total revenue – Total cost Unit price Quantity sold Total revenue = Total cost Fixed cost + Variable cost MARKETING, 6/e = BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -2 Steps in Setting Price Step 1 Identify pricing constraints and objectives PP 14 -2 Steps in Setting Price Step 1 Identify pricing constraints and objectives Step 2 Estimate demand revenue Step 3 Determine cost, volume, and profit relationships Step 4 Select an approximate price level Step 5 Set list or quoted price Step 6 Make special adjustments to list or quoted price MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -EE Pricing Constraints Identified Pricing constraints are factors that limit the latitude PP 14 -EE Pricing Constraints Identified Pricing constraints are factors that limit the latitude of prices a firm may set. Pricing constraints include: • demand for the product class, product, and brand • newness of the product: stage in the product life cycle • single product versus a product line • cost of producing and marketing the product • cost of changing prices and time period they apply • competitor prices • type of competitive markets – – pure monopoly oligopoly monopolistic competition monopoly MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -3 a Pricing, Product, and Advertising Strategies Available to Firms in Four PP 14 -3 a Pricing, Product, and Advertising Strategies Available to Firms in Four Types of Competitive Markets STRATEGIES AVAILABLE Price Competition TYPE OF COMPETITIVE MARKET PURE MONOPOLY OLIGOPOLY (one seller who sets the (few sellers who are price for a unique product) sensitive to each other’s prices) none: sole seller sets price some: price leader or follower of competitors Product Differentiation none: no other products Extent of advertising little: purpose is to increase some: purpose is to demand for product class inform but avoid price competition MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS various: depends on industry Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -3 b Pricing, Product, and Advertising Strategies Available to Firms in Four PP 14 -3 b Pricing, Product, and Advertising Strategies Available to Firms in Four Types of Competitive Markets STRATEGIES AVAILABLE price competition product differentiation extent of advertising MARKETING, 6/e TYPE OF COMPETITIVE MARKET PURE COMPETITION MONOPOLISTIC (many sellers who follow COMPETITION the market price for (many sellers who compete identical commodity on nonprice factors) products) some: compete over almost none: market range of prices sets price some: differentiate none: products are products from competitors identical much: purpose is to little: purpose is to differentiate firm’s inform prospects that products from competition seller’s products are available BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -4 Where Each Dollar of Your Movie Ticket Goes 10¢ = theater PP 14 -4 Where Each Dollar of Your Movie Ticket Goes 10¢ = theater expenses Theater 19 ¢ 9¢ = left for theater 6¢ = miscellaneous expenses Distributor 30 ¢ 24¢ = left for distributor 20¢ = advertising & publicity expenses Movie Studio 51 ¢ 8¢ = actors’ share of gross 23¢ = left for movie studio MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -FF Pricing Objectives Expectations that specify the role of price in an PP 14 -FF Pricing Objectives Expectations that specify the role of price in an organization’s marketing and strategic plans are pricing objectives. 6 Broad Pricing Objectives: 1. Profit 4. Unit Volume 2. Sales 5. Survival 3. Market Share 6. Social Responsibility MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -GG Concept Check 1. 2. What do you have to do to PP 14 -GG Concept Check 1. 2. What do you have to do to the list price to determine the final price? How does the type of competitive market a firm is in affect its latitude in setting price? MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -HH The Demand Curve A demand curve shows a maximum number of PP 14 -HH The Demand Curve A demand curve shows a maximum number of products consumers will demand/buy at a given price. Economists stress three key factors in estimating demand: 1. Consumer tastes 2. Price and availability of other products 3. Consumer income MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -5 Illustrative Demand Curves for Newsweek Magazine Newsweek price per unit $3. PP 14 -5 Illustrative Demand Curves for Newsweek Magazine Newsweek price per unit $3. 00 2. 50 2. 00 1. 50 Movement along demand curve Q 1 1. 00. 50 0 MARKETING, 6/e Shift of demand curve Q 2 Q 3 D 1 D 2 1. 5 3. 0 4. 5 6. 0 7. 5 9. 0 10. 5 12. 0 Quantity demanded per year (millions of units) BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14– 6 Fundamental Revenue Concepts • Total revenue (TR) – Is the total PP 14– 6 Fundamental Revenue Concepts • Total revenue (TR) – Is the total money received from the sale of a product, or Unit Price Quantity Sold • Average revenue (AR) – Is the average amount of money received for selling one unit of the product, or Total Revenue/Quantity = Unit Price • Marginal revenue (MR) – Is the change in total revenue obtained by selling one additional unit, or The Slope of the Total Revenue Curve MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -7 a How a downward-sloping demand curve affects total, average, and marginal PP 14 -7 a How a downward-sloping demand curve affects total, average, and marginal revenue B Newsweek price per unit $3. 00 • A 2. 50 2. 00 A Demand curve = Average revenue • B curve • C 1. 50 • D • E 1. 00 Total revenue curve 8. 0 D 4. 0 • C 6. 0 • B • E F • • 2. 0. 0 • A 0 1. 5 3. 0 4. 5 6. 0 7. 5 • G 9. 0 Quantity (in millions) • F . 50 0 Total revenue ($millions) $10. 0 • G 0 1. 5 3. 0 4. 5 6. 0 7. 5 9. 0 Quantity (in millions) MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -7 b How a downward-sloping demand curve affects total, average, and marginal PP 14 -7 b How a downward-sloping demand curve affects total, average, and marginal revenue Point on Demand Curve Price (P) A $3. 00 B 2. 50 C Quantity Sold (Q) Total Revenue (P x Q) Average Revenue (TR/Q=Px. Q/P=P) Marginal Revenue (DTR/DQ) $3. 00 1, 500, 000 $3, 750, 000 2. 50 2. 00 3, 000 6, 000 2. 00 1. 00 D 1. 50 4, 500, 000 6, 750, 000 1. 50 . 00 E 1. 00 6, 000, 000 1. 00 -1. 00 F . 50 7, 500, 000 3, 750, 000 . 50 -2. 00 G . 00 9, 000 0 . 00 -3. 00 MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -II Price Elasticity of Demand Defined Price Elasticity of Demand is the PP 14 -II Price Elasticity of Demand Defined Price Elasticity of Demand is the percentage change in quantity demanded (QD) relative to a percentage change in price (P) and can be expressed as follows: E = % change in QD/% change in P Elastic Demand = % change in QD > % change in P Inelastic Demand = % change in QD < % change in P Unitary Demand = % change in QD = % change in P MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -C Price elasticity of demand Elastic demand (E>1) Percentage change in quantity PP 14 -C Price elasticity of demand Elastic demand (E>1) Percentage change in quantity demanded is greater than percentage change in price Price (P) Unitary demand (E=1) Percentage change in quantity demanded is equal to percentage change in price Inelastic demand (E<1) Percentage change in quantity demanded is less than percentage change in price Quantity (Q) MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -JJ Concept Check 1. 2. What is the difference between a movement PP 14 -JJ Concept Check 1. 2. What is the difference between a movement along and a shift of a demand? What does it mean if a product has a price elasticity of demand that is greater than 1? MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14– 8 a Fundamental cost concepts • Total cost (TC) – Is the PP 14– 8 a Fundamental cost concepts • Total cost (TC) – Is the total expense incurred by a firm in producing and marketing the product, and is the sum of the fixed cost and variable cost defined below • Fixed cost (FC) – Is the sum of the expenses of the firm that are stable and do not change with the quantity of product that is produced and sold • Variable cost (VC) – Is the sum of the expenses of the firm that vary directly with the quantity of product that is produced and sold MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14– 8 b Fundamental Cost Concepts Total Cost (TC) = Fixed Cost(FC) + PP 14– 8 b Fundamental Cost Concepts Total Cost (TC) = Fixed Cost(FC) + Variable Cost(VC) Variable cost expressed on a per unit basis is called unit variable cost (UVC). Marginal Cost (MC) is the change in total cost that results from producing and marketing one additional unit (Q). MC = Change in TC/1 unit increase in Q = slope of TC curve MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -KK Marginal Analysis • Marginal analysis deals with the incremental increase in PP 14 -KK Marginal Analysis • Marginal analysis deals with the incremental increase in cost and revenue from the last unit of production and marketing. • Marginal analysis infers that as long as revenue received from the sale of an additional product (marginal revenue) is greater than the additional cost of production and selling it (marginal cost), a firm will expand its output of that product. MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -9 Profit maximization pricing Marginal cost A Unit price and cost Marginal PP 14 -9 Profit maximization pricing Marginal cost A Unit price and cost Marginal revenue Total cost Total B revenue and cost Profit Quantity Loss Total revenue Loss Quantity MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -10 Calculating a break-even point Quantity Price per Sold (Q) Bushel (P) PP 14 -10 Calculating a break-even point Quantity Price per Sold (Q) Bushel (P) 0 $2 1, 000 Total Revenue (TR) (P x Q) 0 1 2 2, 000 2 3, 000 Profit (TR-TC) $2, 000 -$2, 000 1 1, 000 2, 000 3, 000 -1, 000 4, 000 1 2, 000 4, 000 0 2 6, 000 1 3, 000 2, 000 5, 000 1, 000 4, 000 2 8, 000 1 4, 000 2, 000 6, 000 2, 000 5, 000 2 10, 000 1 5, 000 2, 000 7, 000 3, 000 6, 000 2 12, 000 1 6, 000 2, 000 8, 000 4, 000 BERKOWITZ KERIN HARTLEY $ Total Cost (TC) (FC+VC) 0 MARKETING, 6/e $ Total Unit Variable Fixed Variable Cost (TVC) Cost (UVC) (UVC x Q) (FC) RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

Total revenue or total cost PP 14 -11 Break-even analysis chart Total revenue Profit Total revenue or total cost PP 14 -11 Break-even analysis chart Total revenue Profit Total cost (fixed and variable cost) Variable cost Loss Fixed cost Quantity MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

Total revenue and costs ($millions) PP 14 -12 The cost trade-off: fixed versus variable Total revenue and costs ($millions) PP 14 -12 The cost trade-off: fixed versus variable costs $10 9 8 7 6 5 4 3 Loss 2 1 TR Profit TC BEP $10 9 8 7 6 5 Variable 4 3 costs 2 1 Fixed costs 0 2 4 6 8 10 Quantity (hundred-thousands) MARKETING, 6/e BERKOWITZ KERIN TR Profit Loss TC BEP Variable costs Fixed costs 0 2 4 6 8 10 Quantity (hundred-thousands) HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000

PP 14 -LL Concept Check 1. What is the difference between fixed cost and PP 14 -LL Concept Check 1. What is the difference between fixed cost and variable cost? 2. What is a breakeven point? MARKETING, 6/e BERKOWITZ KERIN HARTLEY RUDELIUS Irwin/Mc. Graw-Hill © The Mc. Graw-Hill Companies, Inc. , 2000