COST BASED PRICING

Managerial Economics

1. Cost based pricing Managerial Economics

2. GROUP MEMBERS Mohan Xavier Muhammad Asif Nikita Anne Jacob Saichandra Sachin Bose Shamlu Shaji

3. price Price is the amount of money charged for a good or service It is the sum of all the values that consumers give up for the product.

4. pricing Process of determining what a company will receive in exchange of its product.

5. Pricing objectives Survival Profit Maximization Target Return on Investment (ROI) Market Share Goals Status Quo Pricing

6. Factors to Consider when Setting Prices

7. General Pricing Approaches Cost-Based Pricing Break-Even Analysis and Target Profit Pricing Value-Based Pricing Competition-Based Pricing

8. Cost based pricing Using the cost of production as the basis for pricing a product. Here the selling price of product a will be the cost to produce it. It includes :- Direct and indirect costs Additional amount to generate profit.

9. Cost based pricing Product Cost Price Value Customers

10. Advantages Super easy. Flexible. If costs go up, it is easy to adjust prices. Super simple to calculate. Is easy for a marketer to defend pricing. May suit a manufacturer with scalable production based on demand.

11. Disadvantages Ignores product demand or the influence price may have on demand. Ignores what competitors are doing with their pricing. If costs increase, so must the price. Ignores brand positioning so may forfeit additional profit. It provides no incentive to improve cost efficiency.

12. Classifications of cost based pricing Cost plus pricing Full cost pricing Target profit pricing Marginal cost pricing

13. Cost plus pricing A fixed percentage of profit will be added to the cost. The fixed percentage of profit will be taken by manufacturer, wholesaler and the retailer.

14. Egg:- Fixed cost for making 10,000 shirts is Rs.1,50,000. Variable cost (P.U) = 30 Cost (P.U) = 45 Firm expects 30 % return on sales. The mark up Price will be = 45/(1-0.3) = Rs. 64.28 p

15. Full cost pricing Also called absorption cost pricing. Attempting to set price to cover both fixed and variable costs Total cost will be computed by adding variable and fixed cost incurred in the product. The price of each product is dependant on how many costs it creates.

16. Egg:- MM co. plan to produce 5000 widgets. Manufacturing labor = Rs. 50,000 Material cost = Rs. 1,00,000 Overhead cost= Rs. 20,000 Direct labor (P.U)= 50,000/5000 = Rs.10 Material cost (P.U)= 1,00,000/5000= Rs. 20 Overhead cost (P.U)= 20,000/5000= Rs. 4 Desired profit (P.U)= Rs. 8

17. Cont. Add all cost per units = 10+20+4+8 Full cost price = 42 (P.U) This means using full cost pricing, MM company would sell its widgets at Rs.42 (P.U)

18. Target profit pricing Also called rate of return pricing Mark-up = Profit/Cost x 100 Setting price to ‘target’ a specified profit level Estimates of the cost and potential revenue at different prices, and thus the break-even have to be made, to determine the mark-up This method is possible when there is no competition in the market.

19. Egg :- Sales price per unit = Rs. 250 Variable cost per unit = Rs. 150 Total fixed expenses = Rs. 35,000 Target Profit = Rs. 40,000 Q = Number (Quantity) of units sold How many units will have to be sold to earn a profit of Rs. 40,000?

20. Cont. Sales = Variable expenses + Fixed expenses + Profit Rs. 250Q = Rs. 150 + Rs. 35,000 + Rs. 40,000 Rs. 100Q = Rs. 75,000 Q = Rs. 75,000 / Rs. 100 per unit Q = 750 Units Thus the target profit can be achieved by selling 750 units per month, which represents $187,500 in total sales ($250 × 750 units). This equation is also extensively used to calculate break even point . When break even point is calculated the value of profit in the equation is taken equal to ZERO.

21. Marginal cost pricing This aims at maximizing the contribution towards fixed cost. In addition portion of the fixed cost will also realized. Marginal cost – the cost of producing ONE extra or ONE fewer item of production. Particularly relevant in transport where fixed costs may be relatively high

22. EGG:- Aircraft flying from Bristol to Edinburgh – Total Cost (including normal profit) = £15,000 of which £13,000 is fixed cost* Number of seats = 160, average price = £93.75 MC of each passenger = 2000/160 = £12.50 If flight not full, better to offer passengers chance of flying at £12.50 and fill the seat than not fill it at all!

23. Demand-Based pricing Pricing that is determined by how much customers are willing to pay for a product or service This method results in a high price when demand is strong and a low price when demand is weak May be differentiated based on considerations such as time of purchase, type of customer or distribution channel

24. Price Elasticity of Demand

25. Competition-Based pricing Pricing that is determined by considering what competitors charge for the same good. Once you find out what your competition is charging, you must determine whether to charge the same, slightly more, or slightly less.

26. Customer Product Price Cost Value Competition-Based Pricing

27. Pricing Strategies New-Product Pricing Strategies Existing-Product Pricing Strategies Psychological Pricing Promotional Pricing

28. New-Product Pricing Strategies Prestige Pricing Market-Skimming Pricing Market-Penetration Pricing

29. Setting Initial Product Prices Market Skimming Setting a high price for a new product to skim maximum revenues from the target market. Results in fewer, more profitable sales. Popular night club charges a high cover charge Market Penetration Setting a low price for a new product in order to attract a large number of guests. Results in a larger market share. New Marriott

30. Existing-Product Pricing Strategies Product-Bundle Pricing Price-Adjustment Strategies Volume Discounts Discounts Based on Time of Purchase Discriminatory Pricing Yield Management Non-Use of Yield Management Last-Minute Pricing

31. Product-Bundling Pricing Transfer surplus reservation price (the maximum price a customer will pay for a product) Customer A will pay $60 for a Disney pass and $120 for a hotel room. Customer B will pay $95 for the Disney pass and $80 for the hotel room – A hotel selling a two night package with pass for $350 will get both customer Price-bundling also reduces price competition – by making it hard to figure price of components In an airline and hotel package it is difficult to determine the price of the room

32. Psychological Pricing Price-quality relationship Reference prices Rounding Length of the field

33. Promotional Pricing Temporary pricing of products below list price and sometimes below cost Value Pricing Price Sensitivity Measurement