Professional Documents
Culture Documents
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Learning
Objective
1
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Major Influences on
Pricing Decisions
Customer Political, legal,
demand and image issues
Pricing
Decisions
Competitors Costs
15-3
Learning
Objective
2
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
How Are Prices Set?
Market
Costs
Forces
15-5
Economic Profit-Maximizing
Pricing
15-6
Total Revenue Curve
Dollars
Total revenue
Quantity sold
per month
15-7
Demand Schedule and Marginal
Dollars
Revenue Curve
per unit
Demand
Revenue per Marginal
unit decreases revenue
as quantity increases. Quantity sold
per month
15-8
Total Cost Curve
Dollars
Quantity made
per month
15-10
Determining the Profit-Maximizing
Price and Quantity
Dollars
per unit
p*
Demand
Marginal
cost Marginal Quantity made
revenue
q* and sold
per month15-11
Determining the Profit-Maximizing
Price and Quantity
Dollars
per unit Profit is maximized where
marginal cost equals
marginal revenue, resulting
p* in price p* and quantity q*.
Demand
Marginal
cost Marginal Quantity made
revenue
q* and sold
per month15-12
Determining the Profit-Maximizing
Price and Quantity
Dollars Total cost
Total revenue
Quantity made
q* and sold
per month15-13
Price Elasticity
The impact of
price changes on
sales volume
15-14
Cross Elasticity
The extent to
which a change in
a product’s price affects the
demand for other
substitute products.
15-15
Limitations of the
Profit-Maximizing Model
15-16
Role of Accounting
Product Costs in Pricing
Exh.
15-4
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Cost-Plus Pricing
15-20
Cost-Plus Pricing - Example
Variable mfg. cost $ 400
Markup on
Fixed mfg. cost 250
variable
Full-absorption mfg. cost $ 650
manufacturing
Variable S & A cost 50
cost
Fixed S & A cost 100
Total cost $ 800
15-21
Cost-Plus Pricing - Example
Markup on
Variable mfg. cost $ 400 total var. cost
Fixed mfg. cost 250 As cost base
Full-absorption mfg. cost $ 650 increases, the
Variable S & A cost 50 required markup
Fixed S & A cost 100 percentage
Total cost $ 800 declines.
15-22
Cost-Plus Pricing - Example
Markup on
Variable mfg. cost $ 400 full mfg. cost
Fixed mfg. cost 250 As cost base
Full-absorption mfg. cost $ 650 increases, the
Variable S & A cost 50 required markup
Fixed S & A cost 100 percentage
Total cost $ 800 declines.
15-23
Cost-Plus Pricing - Example
Markup on
Variable mfg. cost $ 400 total cost
Fixed mfg. cost 250 As cost base
Full-absorption mfg. cost $ 650 increases, the
Variable S & A cost 50 required markup
Fixed S & A cost 100 percentage
Total cost $ 800 declines.
15-24
Absorption-Cost Pricing Formulas
Advantages Disadvantages
Price covers all costs. Full-absorption unit
price obscures the
Perceived as distinction between
equitable. variable and fixed
Comparison with costs.
competitors.
Absorption cost used
for external reporting.
15-25
Variable-Cost Pricing Formulas
Advantages Disadvantage
Do not obscure cost Fixed costs may be
behavior patterns. overlooked in pricing
decisions, resulting in
Do not require fixed prices that are too
cost allocations. low to cover total
More useful for costs.
managers.
15-26
Determining the Markup:
Return-on-Investment Pricing
15-27
Determining the Markup:
Return-on-Investment Pricing
Recall the example using a 131.25 percent markup
on variable manufacturing cost.
15-28
Determining the Markup:
Return-on-Investment Pricing
Step 1: Solve for the income that
will result in an ROI of 20 percent.
Income
ROI =
Invested Capital
Income
20% =
$300,000
Income = 20% × $300,000
Income = $60,000
15-29
Determining the Markup:
Return-on-Investment Pricing
Step 2: Recall the unit cost information below.
Solve for the unit sales price necessary to
result in an income of $60,000.
$60,000
Unit sales price - $800 unit cost =
480 units
Unit sales price - $800 unit cost = $125 per unit
Unit sales price = $925
15-31
Determining the Markup:
Return-on-Investment Pricing
Step 3: Compute the markup percentage on
the $400 variable manufacturing cost.
15-32
Learning
Objective
4
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Strategic Pricing of New Products
• Uncertainties make pricing difficult.
– Production costs.
– Market acceptance.
• Pricing Strategies:
– Skimming – initial price is high with intent to
gradually lower the price to appeal to a broader
market.
– Market Penetration – initial price is low with
intent to quickly gain market share.
15-34
Learning
Objective
5
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Target Costing
Market research
determines the price Management computes
at which a new a manufacturing cost that
product will sell. will provide an acceptable
profit margin.
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
The Role Of Activity-Based
Costing In Setting A
Target Cost.
Production Process
Component Activities
15-39
Learning
Objective
7
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Product Cost Distortion
High-volume products
May be overcosted
Low-volume products
May be undercosted
15-41
Learning
Objective
8
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Value Engineering
and Target Costing
Target cost information
Product design
Product costs
Production processes
15-43
Learning
Objective
9
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Time and Material Pricing
• Used by
construction
companies, printers,
and professional
service firms.
15-45
Time and Material Pricing
Time charges:
Hourly Overhead Hourly charge Total
labor + cost per + to provide × labor hours
cost labor hour profit margin required
Material Charges:
Total Overhead Total
material per dollar material
cost
+ of material × cost
incurred cost incurred
15-46
Learning
Objective
10
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Competitive Bidding
15-48
Competitive Bidding
Guidelines for Bidding
Low bid price
Any bid price in excess of
Bidder has
incremental costs of job
excess capacity will contribute to fixed
costs and profit.
High bid price
Bid price should be full
Bidder has no cost plus normal profit
excess capacity margin as winning bid will
displace existing work.
15-49
Learning
Objective
11
McGraw-Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Legal Restrictions On Setting Prices
• Price discrimination
• Predatory pricing
15-51
End of Chapter 15
What is the
right price?
15-52