Chapter 5

McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter 5Chapter 5

Strategic Planning Regarding Operating Processes

What are these examples of?What are these examples of?

• http://library.thinkquest.org/03oct/00921/supplyanddemand.htm

Essential Questions:Essential Questions:

• What are the Primary Influences on Selling Price? Explain how they influence the SP.

• How do different price strategies affect the introduction of a new product into the market?

Students will be able to:Students will be able to:

• Describe the process of determining selling prices and demonstrate how various strategies are used to determine selling price.

5-5

What are the Primary Influences on Selling Price? What are the Primary Influences on Selling Price?

• Customers— customers want high quality and service at a

reasonable price Must understand customers and respond to

their needs Price increase, demand decreases Price decrease, demand increases

• These trends can be affected by loyalty and unwillingness to substitute (ex: coffee) staple vs. luxury item (hamburger vs steak) Perceived high quality and service (Toyota vs Ford)

5-6

What are the Primary Influences on Selling Price?What are the Primary Influences on Selling Price?

• Competitor— Depending on the competitiveness of the

market, competitors may influence the selling price

Must monitor and learn from them• Pure competition• Monopolistic competition

What are the Primary Influences on Selling Price?What are the Primary Influences on Selling Price?

Pure Competition Abundance of suppliers Products Identical Market determines

selling price Individual company is

price taker (ex: agriculture industry)

Monopolistic Competition Abundance of suppliers Products Similar not

identical Market has impact but

NO control over SP Individual company can

influence selling price by advertising quality and service

Monitor Competitors – price wars

Monopolistic CompetitionMonopolistic Competition

• DELL VERSES APPLE

• http://kb.wisc.edu/showroom/page.php?id=3045

5-9

What are the Primary Influences on Selling Price?What are the Primary Influences on Selling Price?

• Legal and social forces— there are legal restrictions and social influences on

selling price Must monitor changes and learn from them Monopolies and Oligopolies Monopoly (ex: utility companies)

• One company controls market and selling price• Government approves price changes

Oligopoly (ex: oil companies)• Very few companies control selling price• Government monitors selling prices

Price fixing Price gouging- illegal

5-10

What are the Primary Influences on Selling Price?What are the Primary Influences on Selling Price?

• Cost— In the long run, the selling price set by a company must

cover all its costs and provide a sufficient return to the owners

Must control costs and eliminate non-value added activities

• Markup - what is added to cost of product to ensure profit

• Selling margin = selling price - cost• Selling margin % = selling margin/selling price

5-11

How does the External Market Influence Selling Prices?How does the External Market Influence Selling Prices?

• Pure competition

• Monopolistic competition

• Oligopoly

• Monopoly

BellringerBellringer

• What kind of customer are you?

• http://www.youtube.com/watch?v=0tjtrZl7sdQ

5-13

What is the Difference between Penetration Pricing and Predatory Pricing?What is the Difference between Penetration Pricing and Predatory Pricing?

• Penetration pricing - LEGAL Early Product life cycle -setting a lower initial

selling price to entice customers to try the product/service

Later Product life cycle – Company intends to increase selling price.

• Predatory pricing - ILLEGAL Setting a low initial selling price (usually below

cost) to drive out the competition Then raise prices once they control the market

5-14

What is the Difference between Skimming Pricing and Price Gouging?What is the Difference between Skimming Pricing and Price Gouging?

• Skimming pricing - LEGAL Early Product life cycle -setting higher initial

selling prices due to uniqueness of product Appeals to customers who want to be the first to

own the product and are willing to pay more Later Product life cycle -when novelty wears off,

lowers the price Opposite of Penetration Pricing

• Gouging - ILLEGAL Setting high price due to unusual increase in

demand (gas prices on 9/11)

SKIMMING PRICINGSKIMMING PRICING

• UGGS

• I POD

• IPAD

• IPHONE

5-16

What is the Difference between Life-cycle and Target Pricing?What is the Difference between Life-cycle and Target Pricing?

• Life-cycle pricing – set price based on cost Early Product Life Cycle price set below initial

costs with idea that costs will decrease over product life cycle. (operational efficiencies).

Later in life – does not plan on altering selling price once established market for goods and services.

R&D, design, supply & demand, production, marketing, customer service, distribution.

Once determine cost, - determine required markup, set selling price

5-17

What is the Difference between Life-cycle and Target Pricing?What is the Difference between Life-cycle and Target Pricing?

• Target pricing – Market Based• Used to determine whether to introduce a new product or

not to introduce new product.

1. Determine SP based on market surveys

2. Determine markup for sufficient return to owners

3. Selling Price – Markup = determined Target Cost

4. Company must figure out how to manufacture product NOT to exceed TARGET COST.

• Industry example – Apple at some level - competitiveness• Goal of Target Pricing - Produce products cost effectively

and provide an adequate return.

What is the Difference between Life-cycle and Target Pricing?What is the Difference between Life-cycle and Target Pricing?

• Life-cycle pricing– Cost Based Setting a selling price

for the life of the product/service based on the cost

Determine cost, determine required markup, set selling price

• Target pricing – Market Based Setting a selling price

for the life of the product/service based on the market

Determine selling price, determine required return, set target cost

5-18

5-19

What are the Common Reasons for Holding Inventory?What are the Common Reasons for Holding Inventory?

• Meet customer demand

• Smooth production scheduling

• Take advantage of quantity discounts

• Hedge against anticipated cost increases

5-20

What are the Common Reasons for Not Holding Inventory?What are the Common Reasons for Not Holding Inventory?

• Significant costs are incurred Maintain separate warehouse Insure inventories: theft, fire, or floods Property tax on inventories in some states

• Holding inventory allows the company the “hide” its internal process problems because demand can be met from inventory

5-21

What are the Common Compensation Plans?What are the Common Compensation Plans?

• Piece rate Pay based on units completed

• Commission Pay based on sales

• Hourly Pay based on hours worked

• Salary Pay based on period of time

5-22

What are Other Compensation Issues?What are Other Compensation Issues?

• Insurance Protection for employees

• Paid leave Protection for the company

• Bonuses Additional pay based on some future event

• Gross pay versus net pay Gross = amount earned Net = amount received