Step: 03.

find out about the costs

The process aims to determine what customers perceive to be optional shopping conditions
among the many pertaining to distribution and related services. Youve no doubt noticed many
places where you can receive price discounts if you show your student ID. Commonly
discounted goods include movie admissions, clothing at the campus bookstore, gym
memberships, train fare, and even computer equipment. Its nice of these sellers to give you a
price break while youre getting your education. School isnt cheap, and every little bit helps.
The sellers generosity must say something about the value that they put on everyone receiving a
good education. Right? Not really. The main motivation behind such student discounts isnt
altruism. Instead, it is almost surely the sellers attempt to extract more producer surplus from the
market than they would otherwise. Thats not to say youre worse off because theyve offered
these discounts; in fact, they make it more likely you will be able to consume goods that would
otherwise be too expensive for you. But theres something in it for the sellers, too these
discounts increase their producer surplus and improve their bottom lines.
In the first part of step 3, however, it is essential to obtain an impartial assessment of whether the
things that customers want are feasible for the company. This is the first reality check, one that is
made before management as a whole gets involved in the process. Outlets combining
small-lot purchases and low unit prices, for examplehave been eliminated
from further consideration. But less obviously implausible combinations may
remain. Suppose a group of customers for personal computers claim they are
willing to pay any price for a hypothetical shopping outlet combining custom
tailoring with quick delivery
The second part of step 3 aims to determine what kind of support will be needed from suppliers
or other up-channel participants for any hypothetical outlet suggested by the data. Distribution
outlets do not operate in isolation; there is always a distribution system backing them up.
For example, if an attribute cluster suggests a limited line, full function, vertically oriented
industrial distributor, the question would be this: What backup system ensures that this kind of
distribution will satisfy customers as well as possible? The answers should be concrete: hightechnology distribution centers, training programs, catalog expertise. Sometimes existing
distribution systems enjoy the necessary support, sometimes not. If not, the division of labor
among suppliers will have to be restructured so that what customers desire may be delivered by
the most capable up-channel participant.
Step 3 is a good time to get insights from people out in the distributive trades. It is also the time
to tap in-house knowledge, the opinions of salespersons and others who stay in contact with
customers.
The third and final part of step 3 is to project the cost of support systems feasible for each outlet
type, on the assumption that the company may be able to contract with third parties to perform
the outlet functions. Researchers cost out the new support systems on an incremental basis,
starting with the companys existing distribution system. Costing requires informed guesswork;
any change in one element of a distribution system has ramifications for another. But if, for

example, the data suggest that customers want rapid delivery, local inventories will have to be
maintained. Distribution centers may have to be constructed to support the local inventories.
Cost accountants familiar with distribution may provide estimates, although they may have
trouble dealing with the more theoretical scenarios. A pricing strategy is a firms plan for setting
the price of its product given the market conditions it faces and its desire to maximize profit. The
pricing strategy for a perfectly competitive firm is that it charges the equilibrium market price for
its product and earns no economic profit. The pricing strategy for firms with market power is
more complex. A firm with market power that charges one price to all its customers sets the
market price according to the quantity of output it chooses to produce to maximize its profit.
(Remember that firms operating in markets with barriers to entry are able to earn economic
profits even in the long run.) Some firms with market power, however, can charge different
prices to different customers for the same product using a pricing strategy called price
discrimination. If a firm with market power can price discriminate, it can earn greater economic
profit than a single-price monopoly. It is important to understand that price discrimination is not
the same phenomenon as the existence of different prices for different goods. Price differences
can occur across similar products even in a competitive market if the marginal costs of producing
the products are different. For example, if the marginal cost of washing SUVs at the car wash is
higher than that of washing Mini Coopers because SUVs are bigger, car washes might charge
more to wash SUVs. Price discrimination is something different. It implies the use of market
power to charge higher prices for the same product to those consumers who are willing to pay
more for it. Price variations due to price discrimination do not reflect differences in marginal
costs; they exist simply because the firm with market power has the ability to charge different
prices for the same product. There are several pricing strategies a company can use depending on
its circumstances. These range from direct price discrimination to indirect price discrimination to
bundling to two-part tariffs and beyond. The motivation for these strategies is straightforward: A
company with market power charges a higher price for the units of output that provide
consumers with greater consumer surplus. By adjusting the price, a firm extracts more producer
surplus from each transaction.