Module 12 - Pricing Decisions

Question 1

1 Which of the factors that affect customers’ sensitivity to price is a car dealer using when it charges a premium price for a car stereo which is installed in a luxury sedan?
A.Shared-cost effect.
B.Substitute-awareness effect.
C.Inventory effect.
D.End-benefit effect.
E.Unique-value effect

Answer 1

B

Question 2

2 An example of variable costs would be:
A.product packaging materials.
B.interest on debt.
C.executive salaries.
D.rent on buildings.
E.salaries of non-hourly production personnel

Answer 2

A

Question 3

3 What is the unit cost of a product if the firm expects to sell 100 000 units, fixed costs are $1 million and the variable cost per unit is $20?
A.$30.
B.$35
C.$40.
D.$45.
E.$50

Answer 3

A

Question 4

4 Which type of costing system allocates the costs of a company’s products according to the functional activities that are performed relative to each product (e.g. shipping, receiving, supervising, selling, etc.)?
A.Fixed-cost system.
B.Variable-cost system.
C.Total-cost system.
D.Activity-based cost system.
E.Natural cost system.

Answer 4

D

Question 5

5 What is the mark-up price if the firm expects to sell 200 000 units, fixed costs are $500 000, variable costs are $10 per unit and the firm wants a mark-up on the retail price of 40 per cent?
A.$17.33.
B.$17.50.
C.$19.17.
D.$20.83.
E.$31.25

Answer 5

D

Question 6

6 What is the target return price when a firm has unit costs of $10 per unit, $2 million invested in capital for the production of the product, a desired rate of return on its investment of 15 per cent and expected unit sales of 100 000?
A.$13.
B.$15.
C.$17.
D.$21.
E.$25

Answer 6

A

Question 7

7 How much would the target return price change if, with unit costs at $10 per unit, $2 million invested in capital for the production of the product and expected sales of 100 000, the desired rate of return on the investment is raised from 15 per cent to 20 per cent?
A.There would be no effect on the target return price.
B.The target return price would go up by $1.
C.The target return price would go down by $1.
D.The target return price would go up by $5.
E.The target return price would go down by $5.

Answer 7

B

Question 8

8 If break-even volume is 10 000 units, fixed costs are $10 000 and variable costs are $1 per unit, what is the required selling price per unit?
A.$2.00.
B.$1.50.
C.$1.00.
D.$0.50.
E.None of the above

Answer 8

A

Question 9

9 The expected-value model is used to determine ____ prices where the price charged reflects the ____.
A.bid; lowest cost.
B.bid; highest profit.
C.value; lowest cost.
D.value; highest profit.
E.value; return on investment

Answer 9

B

Question 10

10 Firms that use ____-oriented pricing methods often ‘leave money on the table’ because consumers are willing to pay more. However, firms that do not consider ____-oriented pricing methods risk going out of business.
A.cost; competitive.
B.cost; cost.
C.cost; customer.
D.competitor; customer.
E.customer; competitor

Answer 10

B

Question 11

1 After a strategic pricing objective has been set, the next step in the price-setting decision process is to:
A. estimate demand and price elasticity of demand.
B. determine costs and their relationship to volume.
C. examine competitors’ prices and costs.
D. select a method for calculating price.
E. set a price level.

Answer 11

A

Question 12

2 When the product market is in the introductory or growth stage, the firm is an early entrant, target customers are sensitive to price and the firm is pursuing a low-cost business strategy, which pricing objective would be most appropriate?
A. Quality or service differentiation.
B. Skimming.
C. Harvesting.
D. Survival.
E. Penetration.

Answer 12

E

Question 13

3 Which pricing strategy is particularly sensitive to market, competitive or technological changes and may not allow firms to realise future profits?
A. Survival.
B. Quality or service differentiation.
C. Skimming.
D. Penetration.
E. Harvesting

Answer 13

D

Question 14

4 A skimming pricing objective can be used when:
A. barriers block immediate entry by potential competitors.
B. the firm is the market leader among a group of competitors.
C. competitors are already established and the firm wants to enter the market.
D. the firm is the low-cost producer among competitors in the market.
E. the firm has a weak position relative to other competitors in the market.

Answer 14

A

Question 15

5 The use of off-season travel fares by American Airlines best reflects:
A. service pricing.
B. poor planning.
C. odd pricing.
D. economies of scale effects.
E. experience curve effects

Answer 15

D

Question 16

6 In the typical demand curve there is a(n) ____ relationship between a product’s price and the quantity of that product demanded by consumers in that the ____ the price, the ____ consumers want to buy of this product.
A. inverse; higher; less.
B. inverse; lower; less.
C. direct; higher; more.
D. direct; lower; more.
E. inverse; higher; more.

Answer 16

A

Question 17

7 When a small increase in price leads to a relatively large drop in the quantity demanded, the demand for the product is known as:
A. price inelastic.
B. unitary price.
C. price neutral.
D. price elastic.
E. cost insensitive.

Answer 17

D

Question 18

8 Price elasticity of demand can be defined as the:
A. actual change in the price of a product divided by the actual change in the quantity demanded.
B. percentage change in the price of a product divided by the percentage change in the quantity demanded.
C. actual change in the quantity demanded divided by the actual change in the price of the product.
D. percentage change in the quantity supplied divided by the percentage change in the price of the product.
E. percentage change in the quantity demanded divided by the percentage change in the price of the product.

Answer 18

E

Question 19

9 If a firm institutes a 2 per cent price increase and the result is an 8 per cent drop in the quantity demanded, what is the price elasticity of demand for the product?
A. + 4.
B. − 0.25.
C. − 4.
D. + 0.25.
E. + 2.

Answer 19

C

Question 20

10 If a 4 per cent price increase is followed by a 2 per cent decrease in the quantity demanded, the price elasticity of demand of the product would be____. Assuming that everything else remains constant and the firm’s contribution margin is 25 per cent, the effect on profits would be ____.
A. − 0.5; positive.
B. − 0.5; negative.
C. − 0.5; neutral.
D. + 0.5; positive.
E. + 0.5; negative.

Answer 20

A

Question 21

Why has price become a more important part of a firm’s marketing strategy in recent years?

Answer 21

Determining an appropriate price level for a product or service is complicated, and most firms do not charge the same list price to every customer all the time. Instead, they develop a price structure that establishes guidelines for adapting the price to variations in costs and demand across different markets.

Question 22

Why is price an area in which managers feel the most pressure to perform yet the least certain they are doing a good job?

Question 23

What are the steps in the price-setting decision process?

Answer 23

Question 24

Under what conditions is penetration pricing appropriate?

Answer 24

It is appropriate when, in addition to a large market,

1. Target customers are relatively sensitive to price.
2. The firm’s costs are low compared to competitors’ and the SBU is pursuing a low-cost strategy.
3. Production and distribution costs per unit are likely to fall substantially with increasing volume.
4. Low prices may discourage potential competitors from entering the market.

However, there is major risk in using low prices to achieve maximum sales growth in the short term as a base for future profits. If market, competitive, or technological conditions change, those future profits may never be realised.

Question 25

Describe a skimming price policy.

Answer 25

Skimming

• Maximise short run profits by charging a very high price and follow with periodic discounts
• Good for firms following prospector strategy with unique IP
• Good for small market

Question 26

Describe a harvesting price strategy.

Answer 26

Harvesting

• Some product markets decline due to changing customer preferences or new technologies
• If its too late to divest the product and earn a reasonable return
• Harvesting strategy is about maximising short term profits before demand disappears
• Typically this involves cutting costs and keeping price high

Question 27

What are the major factors affecting a customer’s sensitivity to price?

Answer 27

Buyers perceptions and preferences

• Unique value effect – less price sensitive if there are no acceptable substitutes
• Price quality effect – for luxury goods

Buyers awareness of and attitude towards alternatives

• Substitute awareness – less price sensitive is unaware
• Difficult comparison effect
• Sunk investment effect

Buyers ability to pay

• Total expenditure effect – how big a proportion of total spend is the product?
• End benefit effect – customers like big business are less price sensitive if expenditure is small percentage of overall cost of end product
• Shared cost – less price sensitive when cost is born by another party e.g. Health insurance
• Inventory effect – less sensitive when they cannot store large quantities as a hedge against future price increases

Question 28

Define the term ‘elasticity of demand’.

Answer 28

The degree of responsiveness of demand to a price change is referred to as the price elasticity of demand.

Question 29

What is the formula for calculating the price elasticity of demand for a product or service?

Answer 29

Price elasticity of demand = % Change in Qty demanded/ % Change in price

Question 30

What are the major problems in using this formula?

Answer 30

Problems with using elasticity to set price are:

• Failure to consider response of competitors
• May be elastic for a particular large price change but not for a small one
• Doesn’t take into account profits
• Cannibalisation may occur
• Social benefits ignored

Question 31

What are the more common ways of estimating a product’s demand curve?

Answer 31

Problems with using elasticity to set price are

• Failure to consider response of competitors
• May be elastic for a particular large price change but not for a small one
  
  • Doesn’t take into account profits
  • Cannibalisation may occur
• Social benefits ignored

Question 32

How can competitors’ costs and prices be estimated?

Answer 32

• to achieve the correct positioning of the product, you need to analyse competitors costs and prices
• for a low cost strategy, you need to ensure that you have lower costs than competitors and that those lower costs are reflected in the products relative price
• competitors costs are harder to get – need to reverse engineer

Question 33

Describe (using an example) cost-plus or markup pricing, rate-of-return or target return pricing and break-even pricing.

Answer 33

Margin

Rate of return

Break even

Question 34

Describe the various competition-oriented pricing methods.

Answer 34

• this is often found in more mature markets where there’s little product differentiation
• competitive parity is sometimes used, where they try to keep price equal and avoid a price war
• price leader tend to be the most efficient firms in the market
• sealed bids are used by government

_Internet auction sites make accurate cost estimates more critica_l

• some b to b sites focus on sellers auction – suppliers offering product
• others are buyers auctions where suppliers invited to bid

Question 35

Describe the various customer-oriented pricing methods.

Answer 35

Pricing to Capture the Value Perceived by the Customer

• potential customers usually have an idea of what constitutes good and bad value
• marketing manager should try to set the price that captures the value of the product as perceived by in the mind of the customer
• cost based may pitch price too low and leave money on the table and reduce perceived value
• value can be perceived by the following methods
  
  • industrial engineering – internal engineering assessment, field value in use assessments and indirect survey\
  • overall estimates of customer value – focus group value assessment , direct survey
  • decomposition approaches – conjoint analysis (estimating customer trade off of product attributes), benchmarks (what’s customer willing to pay for extra attributes that a competitor has)
  • compositional approach – direct customer questions about value of product attributes
  • importance ratings – customer rank ordering or rating or product attributes

Estimating customer value by assessing value in use

• this begins with selection of a reference product - one the customer is using
• manager then measures the incremental value in monetary terms of using their product
• benefits may include increased efficiency or reduced costs
• the monetary value plus the cost of reference product is the economic value of the managers product = maximum price customer will pay, assuming they know about the product and the offerings of competitors
• knowledge of customer is rarely complete – hence need to leave room for discounting
• the difference between marginal cost and the economic value defines the range of prices available

Other perceptual pricing issues

• customary price – a price which a customer expects e.g. people expect a chocolate bar to be less then $1 – manufacturers will usually make bar smaller rather than more expensive
• price lining – selling all products in a category at one of several pre defined price points e.g. shirts at $10, $20 and $50 – helps customers make quality comparisons
• psychological pricing – using price as an indication of quality
• odd pricing – e.g. $9.99 rather than $10
• promotional pricing –e.g. sales

Question 36

Define the following terms:

a. FOB origin pricing.
b. freight absorption pricing.
c. zone pricing.

Answer 36

a. One approach is called FOB origin pricing: The manufacturer places the goods ‘free on board’ a transportation carrier.
b. The opposite alternative is freight absorption pricing. Here the seller picks up all or part of the freight charges
c. Zone pricing is another compromise approach that falls between FOB and uniform delivered pricing. Here the company divides the country into two or more pricing zones. It charges all customers within the same zone the same delivered price, but a higher price is set for distant zones than for those closer to the plant.

Question 37

Describe the various forms countertrade can take.

Answer 37

Question 38

Define trade or functional discounts, quantity discounts, cooperative advertising, allowances and rebates.

Answer 38

To induce wholesalers and/or retailers to carry a product and perform their usual marketing activities in its support, manufacturers offer trade (or functional) discounts from the suggested retail list price. Such discounts vary, depending on the intermediary’s wholesale or retail level in the channel and the specific activities they are expected to perform.

The quantity discount often increases as order size increases. For example, a firm might offer no additional discount on orders of 50 units or less, a 2 per cent discount off list on orders of 51 to 100 units, 4 per cent off on orders of 101 to 500 units, and 5 per cent off on orders of more than 500 units. To avoid charges of illegal price discrimination against smaller purchasers, the size of such discounts should be justified by the cost savings that manufacturers gain by filling larger orders.

Rebates reduce the price of the product through a money refund offer. Such offers typically require the consumer to mail some proof of purchase to the manufacturer to receive the refund. In recent years rebates have been used extensively by producers of durable goods, including automobiles, major appliances, and cameras because they can move excess inventories quickly.

Premiums are attempts to attract buyers by offering a product or service free or at a substantially reduced price to encourage the purchase of another product. Premiums can be included in a package, sent by mail, or via another product (a free soft drink with the purchase of a pizza). Premiums can even be to some extent selfliquidating – as when the consumer sends in a package and 50 cents for a premium.

Question 39

What conditions allow for differential pricing?

Answer 39

Some common differential pricing adjustments targeted at particular customer segments include:

• Time pricing. Prices might be adjusted seasonally, across days of the week, or across hours of the day to capitalise on predictable fluctuations in demand over time. Movie theatres, for instance, often charge higher prices for evening shows than for early matinees, and hotels charge less for weekend occupancy.
• Location pricing. The same product or service might be priced differently at various retail locations to capitalise on local demand or the intensity of competition. Even within a single theatre, seats in some locations are typically more expensive because many theatre-goers are willing to pay more to sit near the stage.
• Customer segment pricing. Perhaps the most common differential pricing practice is to charge different prices to customer segments that vary in their willingness or ability to buy. Many arts organisations, for example, offer lower prices to senior citizens whose fixed incomes might otherwise prohibit their attendance.

For differential pricing to work:

• must be identifiable customer segments with different price sensitivities
• customer segments must be physically separated or that segments paying lower price cannot resell to other segments
• costs of segmenting must be smaller than benefits accrued
• firm should ensure that resentment of segments doesn’t leave it open to competition in high price segments

Question 40

A firm’s price floor is most directly affected by:
A. price sensitivity of demand.
B. competitors’ prices and costs.
C. product costs.
D. prices of substitute products.
E. business and marketing strategy

Answer 40

C

Question 41

A survival pricing strategy would probably be used when the firm is:
A. pursuing a differentiated defender strategy.
B. in a weak competitive position relative to other competitors.
C. seeking to reach several segments that need the product but are unable to pay full costs.
D. an early entrant to the market.
E. pursuing a prospector strategy.

Answer 41

B

Question 42

A firm following a harvesting strategy would set a price that is:
A. relatively low, only slightly above costs.
B. high relative to that of its competitors.
C. very high, to appeal to only the most price-insensitive customers.
D. relatively high, to maintain margins and maximise profits.
E. lower, to maintain a presence in the market.

Answer 42

D

Question 43

A premium price policy is especially appropriate when the firm is following a ____ strategy.
A. prospector.
B. low-cost analyser.
C. differentiated defender.
D. low-cost defender.
E. differentiated analyser

Answer 43

C

Question 44

The demand curve depicts the relationship between:
A. profitability and sales.
B. product costs and price.
C. long-term pricing objectives and short-term price fluctuations.
D. price and profitability.
E. price and sales.

Answer 44

E

Question 45

When museums offer lower prices to disadvantaged youth this illustrates which pricing objective?
A. Maintain quality or service differentiation.
B. Prestige.
C. Social.
D. Harvesting.
E. Survival

Answer 45

C

Question 46

When the St Louis Symphony, a nonprofit organisation, gives a lower price to college students it may be pursuing a ____, the cost of which is borne by ____.
A. social pricing policy; other contributors.
B. survival pricing policy; the local government.
C. survival pricing policy; individual patrons.
D. prestige pricing policy; the local government.
E. prestige pricing policy; other contributors.

Answer 46

A

Question 47

Buyers of BMW cars perceive such cars as higher in quality and more prestigious than other cars and are willing to pay more for these cars. This is an example of the ____ effect.
A. unique-value.
B. price-quality.
C. substitute-awareness.
D. difficult-comparison.
E. end-benefit.

Answer 47

B

Question 48

Which of the factors that affect customers’ sensitivity to price is a restaurant in a Hawaiian hotel using when it charges its hotel guests premium prices for food because it assumes that they are unaware of lower-priced restaurants in the area?
A. Shared-cost effect.
B. Sunk-investment effect.
C. Substitute-awareness effect.
D. Unique-value effect.
E. End-benefit effect.

Answer 48

C

Question 49

Which of the factors which affect customers’ sensitivity to price is a car dealer using when it charges a premium price for a car stereo which is installed in a luxury sedan?
A. Shared-cost effect.
B. Substitute-awareness effect.
C. Inventory effect.
D. End-benefit effect.
E. Unique-value effect.

Answer 49

D

Question 50

According to the price elasticity of demand, the ____ the proportion of price-sensitive customers in a product’s market, the ____ sensitive overall demand is to a change in the price of the product.
A. larger; more.
B. larger; less.
C. smaller; more.
D. smaller; less.
E. None of the above.

Answer 50

A

Question 51

If a company institutes a 3 per cent price decrease and the result is a 6 per cent increase in the quantity demanded, what is the price elasticity of demand for the product?
A. − 2.
B. + 2.
C. − 0.5.
D. + 0.5.
E. + 0.75.

Answer 51

A

Question 52

One way that firms can estimate the demand curve for their offerings is by asking potential customers to ____.
A. take a sum of money provided by the researcher and monitoring their purchases.
B. tell the researchers how many units they would buy at different prices.
C. provide price elasticity information.
D. describe the effect that price has on their purchases of similar items.
E. meet with groups of their friends and discuss their sensitivities to prices.

Answer 52

B

Question 53

When production workers identify better, more efficient ways of producing the product, the firm is taking advantage of:
A. economies of scale in the short term.
B. the experience curve.
C. economies of scale in the long term.
D. the efficiency curve.
E. the production curve.

Answer 53

B

Question 54

If unit production costs vary with the quantity produced, ____ reflect(s) savings from higher levels of asset utilisation while ____ reflect(s) savings from other factors at a given level of asset utilisation.
A. economies of scale; economies of scope.
B. economies of scale; experience curves.
C. economies of scope; economies of scale.
D. experience curves; economies of scale.
E. experience curves; economies of scope.

Answer 54

B

Question 55

If General Motors Corporation prices its new cars so that it plans to achieve a 15 per cent return on its investment in these cars at that price, which type of pricing policy is it using?
A. Odd pricing.
B. Price lining.
C. Functional pricing.
D. Prestige pricing.
E. Target return pricing.

Answer 55

E

Question 56

Target return pricing adds one critical element to the pricing equation over markup pricing. What is this additional cost element?
A. The price sensitivity of demand.
B. An evaluation of competitors’ prices.
C. The cost of all marketing functions.
D. The markup of other channel members.
E. The capital invested.

Answer 56

E

Question 57

What is the break-even volume (in units) if the fixed costs of the product are $1 million, the price of the product is $50 and variable costs are $25 per unit?
A. 70 000.
B. 60 000.
C. 50 000.
D. 40 000.
E. None of the above

Answer 57

D

Question 58

Target return pricing is similar to ____, except that it takes into account the firm’s ____.
A. break-even analysis; cost of capital.
B. cost-plus pricing; cost of capital.
C. markup pricing; fixed costs.
D. markup pricing; expected sales volume.
E. break-even analysis; expected sales volume.

Answer 58

B

Question 59

In an industry where competitive parity is the prevailing pricing approach, a product’s price ____ unless a price leader ____ it.
A. is usually stable; lowers.
B. usually tends to go down; raises.
C. usually tends to go up; lowers.
D. is usually stable; raises.
E. is usually stable; changes.

Answer 59

E

Question 60

If Sears prices its small home appliances so that models are offered at four different price points, what type of pricing policy is it using?
A. Price lining.
B. Prestige pricing.
C. Odd pricing.
D. Standard pricing.
E. Competitive parity pricing

Answer 60

A

Question 61

In FOB origin pricing:
A. the company pays all freight charges.
B. a standard freight charge equal to the average freight cost to all customers is made to each customer.
C. a series of zones is identified across the country, and each customer in a particular zone is charged the same price.
D. the company and the customer split the freight charges equally.
E. the customer pays all freight charges.

Answer 61

E

Question 62

Trade discounts are ____ to channel members designed to compensate them for ____.
A. inducements; buying.
B. inducements; selling.
C. inducements; performing their usual marketing activities.
D. allowances; paying their bill on time.
E. allowance; unusable products.

Answer 62

C

Question 63

If PepsiCo sells its cola syrup to Russia for roubles and agrees to buy Russian vodka at a given rate for resale in the USA, what type of countertrade agreement does this represent?
A. Barter.
B. Buyback arrangement.
C. Offset agreement.
D. Compensation deal.
E. Currency exchange rate.

Answer 63

C

Question 64

Suppose that a manufacturer who distributes a product through independent wholesalers and retailers has a suggested retail selling price of $50 for his product and a trade discount schedule of 40/10. What is the selling price of this manufacturer to the wholesalers?
A. $23.
B. $27.
C. $31.
D. $35.
E. None of the above.

Answer 64

B

Question 65

____ gives cents off on products, ____ reduces the product price through a money refund offer, and ____ offers a product for free or for a substantially reduced price.
A. Rebates; coupons; premiums.
B. Rebates; premiums; coupons.
C. Coupons; rebates; premiums.
D. Coupons; premiums; rebates.
E. Premiums; coupons; rebates.

Answer 65

C

Question 66

Differential pricing involves a firm selling the same product at ____ to take advantage of different market segment’s ____.
A. multiple prices; price sensitivities.
B. a higher than normal price; naiveté.
C. a higher than normal price; price elasticity’s.
D. multiple prices; price expectancies.
E. a lower than normal price; price insensitivities.

Answer 66

A

Question 67

What type of pricing method is McDonald’s practising when it sells Happy Meals at a price less than the total of the items if priced separately?
A. Differential pricing.
B. Quantity pricing.
C. Price lining.
D. Bundling.
E. Promotional pricing.

Answer 67

D

Question 68

How does value pricing differ from traditional pricing? If a firm wanted to adopt a value pricing strategy for its line of packaged consumer household products, how should it proceed to do so? In your answer, be sure to consider the reactions of retailers.

Question 69

What type of pricing method is McDonald’s practising when it sells Happy Meals at a price less than the total of the items if priced separately?
A. Differential pricing.
B. Quantity pricing.
C. Price lining.
D. Bundling.
E. Promotional pricing.

Question 70

Under which market and competitive conditions are each of the following pricing objectives most appropriate for a business to consider?

a. Maximise sales growth through penetration pricing.
b. Maximise current profit through skimming pricing.
c. Maximise current profit through harvesting.

Answer 70

(a) Maximise sales growth through penetration pricing – the market is in the introductory or growth stage and the firm is an early entrant to the market. There are few barriers to entry, so other competitors are likely to enter quickly.
(b) Maximise current profit through skimming pricing – the market is in the introductory or growth stage and the firm is the first entrant. There are high barriers to entry, as the firm plans to withdraw after competitors enter.
(c) Maximise current profit through harvesting – the market is in the late maturity or decline stage and the firm is not a dominant player in the market.

Question 71

Firms sometimes set a low price in a new product-market (penetration pricing) to discourage potential competitors from entering the market. Can you think of any circumstances where a company might deliberately want to attract competitors to a new market and set a high price to help accomplish such an objective?

Answer 71

A firm wanting to maintain a high-quality image and keep production quantities down may wish to adopt a high price in order to: (1) limit demand among custom- ers; (2) reinforce the quality image of the product; and (3) attract other competitors to help build primary demand. Consequently, the company may want competitors to come in at the other end of the market to satisfy consumer demand for lower-priced products while the company continues to sell its products at the high end. Also, if the pioneer has limited marketing resources, it may want competitors to help build primary demand for the new product.

Question 72

How does value pricing differ from traditional pricing? If a firm wanted to adopt a value pricing strategy for its line of packaged consumer household products, how should it proceed to do so? In your answer, be sure to consider the reactions of retailers.

Answer 72

A value-based pricing strategy emphasises the value of a brand to the consumer. It hopes to capture the consumer’s perceived value of the product. To adopt such a strategy, a manufacturer of consumer household products would have to consider how and on what basis its products differed from competing products and use the perception of these differences to set a price relative to the prices being charged by competing products. To exploit these perceived differences as translated into stable, relative price differences (as against the use of frequent promotional deals involving price), the manufacturer would need to abandon its promotional pricing. This would not only stabilise prices over time, but save money, thereby permitting a reduction in price. To ease the pain of accepting value pricing by retailers, a firm should reduce the retailer’s costs of selling the product (e.g. better control over inventories).

Question 73

What is price elasticity? Distinguish between price-elastic demand and price-inelastic demand. What are the pricing implications of each type of elasticity?

Answer 73

Price elasticity – A small price increase leads to a relatively large drop in quantity demanded.
Price inelasticity – A small price increase leads to a relatively small decline in quantity demanded.

When the price is elastic the firm may wish to lower the price, while the firm may want to consider raising the price when the price is inelastic.

Question 74

The demand curve sums the reactions of many potential buyers to the alternative prices that might be charged for a product. What are the more important factors affecting a customer’s price sensitivity? How can a firm go about estimating the demand curve for each of their major products?

Answer 74

There are three major groups of factors that affect a consumer’s sensitivity to price – the buyer’s perceptions and preferences, the buyer’s awareness of and attitude towards alternatives and the buyer’s ability to pay. There are many ways in which firms can attempt to estimate demand curves for their products. These include laboratory or test-market experiments. Another way to estimate the price/quantity relationship is via a regression analysis of historical sales using consumer panel data, in-store experiments where a product’s price is systematically varied or multiple test markets.

Question 75

Suppose executives estimate that the unit variable cost for their firm’s videocassette recorder (VCR) is $100, the fixed cost related to the product is $5 million annually and the company’s estimated sales volume for next year is 100 000 VCRs. The firm has a target rate of return of 20 per cent and it has made capital investments totalling $4 million to produce and distribute its VCRs. What price will the firm have to obtain for each VCR to achieve its target rate of return?

Answer 75

Question 76

The manufacturer of VCRs described in Question 12.53 sells its VCRs through electronics wholesalers, who in turn sell to retail stores. The manufacturer’s trade discount policy is 40/20. What should the suggested retail price for the firm’s VCRs be? How much should the retailer have to pay for each VCR?>

Answer 76

The suggested retail price is $329.15.
The retailer should pay the wholesaler $197.50. The wholesaler should pay the manufacturer $158.00.

Question 77

Tennant Company manufactures cleaning equipment for commercial applications. Its walk-behind electric floor waxer/buffer is priced at $350. The product’s unit variable cost is $200 and total fixed costs associated with the product are $3 million. How many units must Tennant sell to reach break even? How would the break-even volume change if the firm reduced the price of the product by $50?

Answer 77

Question 78

A uniform manufacturer in North Carolina operates at a freight-cost disadvantage relative to competitors in the western United States. Which methods of quoting prices could the firm adopt to make it more competitive in the western states? What are the possible disadvantages of each method?

Answer 78

(a) Uniform delivered pricing – The pricing policy uses a standard freight charge equal to the average freight costs across all customers. The disadvantage is that it raises freight costs to customers near the manufacturing facility while lowering
them for customers in the western states.

(b) Zone pricing – The policy divides the country into zones and charges the same price within each zone. The disadvantage is that customers in the west would still pay higher freight costs than customers in the east; however, within a particular area the freight charges would be comparable.

Question 79

Manufacturer A has experienced cost increases for its product in recent months. It would like to initiate a price increase, but only if its major competitors are likely to follow A’s lead with price increases of their own. Which characteristics of Manufacturer A and which market and competitive conditions, are most likely to encourage A’s competitors to follow its lead in increasing prices?

Answer 79

Manufacturer A must: (1) be one of the most efficient producers in the industry; (2) be perceived to have good marketing expertise which will help move the product even with a price increase; or (3) have a history of making price increases stick. It is more than likely that the industry is oligopolistic with little product differentiation and a few large competitors (e.g. steel).

Question 80

Ford Motor Company offers a number of car models in different price ranges. In addition to the usual cost and demand considerations, what other factors should the company consider when determining the relative prices for various products in its line?

Answer 80

A key factor to consider is the cross-elasticity between models (cannibalisation) which is the percentage change in sales of one product induced by a 1 per cent change in the price of another. This would enable Ford to examine how price increases in one model would affect demand for the other models in its line. In addition, the company must consider the costs and demand for replacement parts and how much of each car model should be composed of parts from other models (e.g. bumpers).

Question 81

Some companies are using the Internet to sell their products – both new and old. How could the Internet be used to develop a demand curve for a new product? An estab- lished product?

Answer 81

For a new product the company could use the Internet to auction it off. To do so would require a description of the product, its uses, the benefits it provides, the amount involved, and competitive/substitute products and their prices. Bidders would receive some kind of incentive to enter a bid. The range of bid prices coupled with their frequency could be used as an estimate of the perceived value of the new product.

For an established product consumers could be asked to estimate the per cent increase or decrease in sales resulting from each increment ‘up’ and ‘down.’ The assumption here is that in responding the consumer is actually revealing his/her demand schedule. Again, there would have to be a ‘reward’ for responding. The difficulty would be that the company would

Question 82

A European grocery foods firm has developed a new range of convenience products for sale in overseas markets. Compare and contrast the different methods by which the firm may seek to set a price level for these products.

Answer 82

Good answers should address the key differences, benefits and failings of the different approaches. Excellent answers might also go further to explore adapting prices to variations in market circumstances. This area is covered in Module 12.

The different approaches are:

Cost-oriented methods

Competition-oriented methods

Customer-oriented methods

Cost oriented methods are simple to apply which is the reason for their common use especially in the retail and distributive trades. The difficulty with this method is that it ignores the price sensitivity of demand and assumes a level of sales before the price is set. Difficulties can ensue if the price is set on the basis of an over-optimistic sales estimate.

Competition oriented methods such as going rate and competitive parity approaches are common in oligopolistic industries where there is little product differentiation and a few large competitors. Prices tend to be quite stable in such industries until a price leader decides that an increase in industry prices is necessary to meet increased costs and maintain volumes. This approach also tends to ignore the price sensitivity of demand.

In contrast to the other methods, customer oriented methods of setting a price are related to the notion of perceived value. One danger of cost-oriented pricing is that producers risk producing prices which are below perceived value. Perhaps most likely is that such approaches might also result in prices that exceed many customer perceptions of value, resulting in lost sales and competitive vulnerability. One difficulty with the idea of perceived value is that this can vary from customer to customer with the result that in practice an ‘average’ value is calculated.

In considering international variations, marketers might need to consider geographic adjustments such as FOB pricing and Global adjustments such as transfer pricing and countertrade.

Question 83

You have been hired as a marketing consultant by the owner/manager of a small retail chain selling major appliances (refrigerators, stoves, washers and dryers). Your first assignment is to help him resolve some of the ethical issues involved in their pricing practices – specifically those relating to sale pricing and comparative pricing. In the former, the present practice called for items to be marked at an original or regular price for 15 to 20 days and then dropped to a sale price for the next three months. In the case of comparative pricing, the company included in all of its advertising a statement that it would match any price in town on the item in question – or its equal. Rarely did it have to do so since when challenged the store manager asked for ‘proof’, including the model number and the price charged.

Answer 83

It appears that the company is marking up certain items for a short period of time to legitimise their being a sale item. Much depends on the size of the initial mark-up and the extent of the mark-down. If, for example, the original mark-up on retail prices for such items is substantially in excess of the company’s normal retail mark-up and if the item is then featured as a sale item but carries the normal mark-up, then the firm is guilty of misleading the customer. The company should only use the term ‘sale price’ when the items involved are selling below their ‘normal’ price – i.e. when the mark-up is below the company’s standard one.

The company should go out of its way to determine whether the product in question – including its equal – is being sold for a price lower than the company’s price. By this is meant that the company should accept ‘proof’ in the form of an advertisement, it should not ask for such details as the model number and it should take the initiative in confirming the competitor’s price. If the challenge is correct, then the company should immediately drop its price to that of the competitor.