Transcript Small Business Management 12e

part
5
Small Business Marketing
16
Pricing and Credit
Strategies
PowerPoint Presentation by Charlie Cook
12e
Copyright © 2003 South-Western College Publishing.
All rights reserved.
Looking Ahead
After studying this chapter, you should be able to:
1. Discuss the role of cost and demand factors in setting a
price.
2. Apply break-even analysis and markup pricing.
3. Identify specific pricing strategies.
4. Explain the benefits of credit, factors that affect credit
extension, and types of credit.
5. Describe the activities involved in managing credit.
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16–2
Setting a Price
• Price
–A specification of what a seller requires in
exchange for transferring ownership or use of a
product or service.
Prices set too low, loss in revenue
Price set too high, loss in revenue
• Credit
–An agreement between a buyer and a seller that
provides for delayed payment for a product or
service.
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16–3
Price Changes Affect Revenues
Situation A
Quantity sold x Price per unit = Gross revenue
250,000
$3.00
$750,000
Situation B
Quantity sold x Price per unit = Gross revenue
250,000
$2.80
$700,000
Difference in Revenue $50,000
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16–4
The Three Components of Total Cost
in Determining Price
Total Cost
Selling Cost
Overhead Cost
Example costs:
Example costs:
Example costs:
Cost of item
Freight charges
Salesperson's time
Advertising
Storage, Salaries
Taxes
Cost of Goods Sold
Fig. 16-1
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16–5
Cost Determination for Pricing
• Total Cost
–The sum of cost of goods sold, selling expenses,
and overhead costs.
• Total Variable Costs
–Costs that vary with the quantity produced or sold.
• Total Fixed Costs
–Costs that remain constant as the quantity
product or sold varies.
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16–6
Cost Structure for a Hypothetical Firm, 2001
Sales revenue (25,000 units @ $8.00)
Total costs:
Fixed costs
Variable costs ($2.00 per unit)
Gross margin
$200,000
$75,000
50,000
125,000
$ 75,000
Average cost = $125,000 = $5.00
25,000
Fig. 16-2
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16–7
Cost Structure for a Hypothetical Firm, 2002
Sales revenue (10,000 units @ $8.00)
Total costs:
Fixed costs
Variable costs ($2.00 per unit)
Gross margin
$80,000
$75,000
20,000
95,000
$ (15,000)
Average cost = $95,000 = $9.50
10,000
Average pricing overlooks the reality of
higher average costs at lower sales levels
Fig. 16-3
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16–8
How Customer Demand Affects Pricing
• The Elasticity of Demand
–The degree to which a change in price affects the
quantity demanded.
–Elastic Demand
Price
Demand that changes
significantly when there
is a change in the price
of the product.
Inelastic
Elastic
–Inelastic Demand
Demand that does not change
significantly when there is a
change in the price of the product.
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Demand
16–9
Pricing and a Firm’s
Competitive Advantage
• Pricing and Competitive Advantage
–Customers will demand and pay more for a
product or service that they perceive as important
to their needs.
• Prestige Pricing
–Setting a high price to convey an image of high
quality or uniqueness (competitive advantage).
–Customers associate price with quality.
–Markets with low levels of product knowledge are
candidates for prestige pricing.
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16–10
Applying a Pricing System
• Break-Even Analysis
–A comparison of alternative cost and revenue
estimates in order to determine the acceptability
of each price.
–Steps in the analysis
Examining revenue-cost relationships: the quantity at
which the product will generate enough revenue to start
earning a profit.
Incorporating actual sales forecasts into the analysis.
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16–11
Break-Even Graphs for Pricing
Costs and
Revenue ($)
Costs and
Revenue ($)
Sales (Price = $12)
900
Profit
700
500
900
Sales
(Price = $7)
Total
Cost
Total Cost
700
Total
Variable
Costs
Break-Even
Point
Sales
Sales
(Price = $18) (Price = $12)
500
300
300
Loss
Total
Fixed Costs
100
10
30
50
Units
70
Break-Even
Points
100
90
(a)
10
30
50
Units
70
90
(b)
Fig. 16.4
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16–12
Applying a Pricing System (cont’d)
• Examining Cost and Revenue Relationships
–Breakeven Point
The sales volume at which total sales revenue equals
total costs (fixed and variable).
The point at which profitability starts and losses cease.
• Incorporating Sales Forecasts
–Adjusted Break-Even Analysis
Price has a variable impact and influence on demand.
Adjusting for the indirect effect of price allows for a
more realistic profit area to be identified.
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16–13
A Break-Even Graph Adjusted
for Estimated Demand
900
Costs and
Revenue ($)
Sales
(Price = $18)
Sales
(Price = $12)
Sales (Price = $7)
Total Cost
700
Sales Curve from
Demand Schedule
500
Price
($)
Demand
(Units)
Revenue
($)
7
90
630
12
60
720
18
15
270
300
100
10
30
50
70
90
Units
Fig. 16.5
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16–14
Applying a Pricing System (cont’d)
• Markup Pricing
–Cost plus pricing system that adds a markup
percentage to cover:
Operating expenses
Subsequent price reductions
Desired profit
Markup
 100  Markup as a percentage of selling price
Selling Price
Markup
 100  Markup as a percentage of cost
Cost
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16–15
Selecting a Pricing Strategy
• Penetration Pricing
–Setting lower than normal prices to hasten market
acceptance of a product or service or to increase
market share.
• Skimming Pricing
–Setting very high prices for a limited period before
reducing them to more competitive levels.
• Follow-the-Leader Pricing
–Using a particular competitor as a model in setting
prices.
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16–16
Selecting a Pricing Strategy (cont’d)
• Variable Pricing
–Setting more than one price for a good or service
in order to offer price concessions to certain
customers.
• Dynamic Pricing
–Charging more than the standard price when the
customer’s profile suggests that the higher price
will be accepted.
• Price Lining
–Setting a range of several distinct merchandise
levels.
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16–17
Selecting a Pricing Strategy (cont’d)
• What the Market Will Bear
–A strategy of charging the highest prices that
customers will pay can be used only when the
seller has little or no competition.
• Pricing Situations and Controls
–The effect of the introduction of new products into
an established product line.
–Offering discounts to match the needs of
customers.
–Sherman Antitrust Act prohibits competitors from
conspiring to fix prices.
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16–18
Offering Credit
• Benefits of Credit to Borrowers
–Provides working capital
–Ability to satisfy immediate needs and pay later
–Better records of purchases on credit billing
–Better service and greater convenience when
exchanging purchased items
–Establishment of credit history
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16–19
Offering Credit (cont’d)
• Benefits of Credit to Sellers
–Facilitates increased sales volume.
–Brings a closer association with customers.
–Fosters easier selling through telephone, mail and
Internet.
–Helps smooth sales demand since purchasing
power is always available.
–Provides easy access to a tool with which to stay
competitive.
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16–20
Offering Credit (cont’d)
• Factors That Affect Selling on Credit
–Type of business
Durable goods retailers offer more credit.
–Credit policies of competitors
Competitors are expected to match other competitors’
credit offerings.
–Income level of customers
–Availability of working capital
Credit sales increase the amount of working capital.
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16–21
Types of Credit
• Consumer Credit
–Financing granted by retailers to individuals who
purchase for personal or family use.
• Trade Credit
–Financing provided by a supplier of inventory to a
given company which sets up an account payable
for the amount.
Terms of sale may be 2/10, net 30—two percent
discount on the invoiced amount if paid in full within 10
days of the invoice date, otherwise the full amount of
the invoice is due in 30 days.
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16–22
Types of Consumer Credit Accounts
• Open Charge Account
–A line of credit that allows the customer to obtain
a product at the time of purchase.
• Installment Account
–A line of credit that requires a down payment, with
the balance paid over a specified period of time.
• Revolving Charge Account
–A line of credit on which the customer may charge
purchases at any time, up to a preestablished
limit.
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16–23
Types of Credit Cards
• Bank Credit Cards
–Credit cards issued by banks that are widely
accepted by retailers who pay a fee to the banks
for handling their credit transactions.
• Entertainment Cards
–Business credit cards originally used to purchase
services, now widely accepted for merchandise.
• Retailer Credit Cards
–Credit cards issued by firms for specific use in
their outlets or for purchasing their products or
services.
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16–24
Managing the Credit Process
• Evaluation of Credit Applicants
–Can the buyer pay as promised?
–Will the buyer pay?
–If so, when will the buyer pay?
–If not, can the buyer be forced to pay?
• The Traditional Five C’s of Credit
–Character
–Capital
–Capacity
–Conditions
–Collateral
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16–25
Sources of Credit Information
• Individuals
–Customer’s previous credit history
–Dun & Bradstreet Business Information Reports
• Businesses
–Financial statements of the firm
–Other sellers to the firm
–Firm’s banker
–Trade-credit agencies
–Credit bureaus
–Online credit data
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16–26
Managing the Credit Process (cont’d)
• Billing and Credit Procedures
–Timely notification is one of the most effective
collection methods for keeping bills current.
–Warning consumers that they may do damage to
their credit if they fail to pay.
–Bad debt ratio
A number obtained by dividing the amount of bad debts
by the total amount of credit sales.
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16–27
Credit Regulation
• 1968 Truth-in-Lending Act
• The Fair Credit Billing Act
• The Fair Credit Reporting Act
• The Equal Credit Opportunity Act
• The Fair Debt Collection Practices Act
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16–28
Hypothetical Aging Schedule for Accounts Receivable
• Aging Schedule
–A categorization of accounts receivable based on
the length of time they have been outstanding.
Account Status
Days past due
001
002
—
003
120 days
—
90 days
—
60 days
—
—
—
30 days
—
20,000
20,000
10,000
$10,000
$50,000
—
004
005
Total
—
—
$50,000
—
—
10,000
—
40,000
—
—
40,000
—
—
60,000
$40,000
15 days
$50,000
Total overdue
$50,000
$30,000
$80,000
$40,000
$
0
$200,000
Not due (beyond discount period)
$30,000
$10,000
0
$10,000
$130,000
$180,000
Not due (still in discount period)
$20,000
$100,000
0
$90,000
$220,000
$430,000
Credit rating
A
B
C
A
B
C
Fig. 16.7
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16–29