1. Small Business Management, 18e
Longenecker/Petty/Palich/Hoy
Small Business Management, 18e
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2. Pricing and Credit Decisions
Chapter 16
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3. Learning Goals:
Discuss the role of cost and demand factors in setting a price.
Apply break-even analysis and markup pricing.
Identify specific pricing strategies.
Explain the benefits of credit, factors that affect credit extension, and types of credit.
Describe the activities involved in managing credit.
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4. 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
Price and demand are related for many goods and services
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5. Setting a Price
Credit
An agreement between a buyer and a seller that provides for delayed payment for a product or service.
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6. Cost Determination for Pricing
Total Cost
The sum of cost of goods sold, selling expenses, and overhead costs.
Variable Costs
Costs that vary with the quantity produced or sold.
Fixed Costs
Costs that remain constant as the quantity product or sold varies.
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7. Cost Determination for Pricing (cont.)
Average Pricing
An approach in which total cost for a given period is divided by quantity sold in that period to set a price.
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8. 16.1 Cost Structure of a Hypothetical Firm, 2013
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9. 16.2
Cost of Structure of a Hypothetical Firm, 2014
Average pricing overlooks the reality of higher average costs at lower sales levels
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10. How Customer Demand Affects Pricing
Elasticity of Demand
The degree to which a change in price affects the quantity demanded.
Elastic Demand
Demand that changes significantly when there is a change in the price of the product.
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11. How Customer Demand Affects Pricing (cont.)
Elasticity of Demand (cont.)
Inelastic Demand
Demand that does not change significantly when there is a change in the price of the product.
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12. Pricing and Competitive Advantage
Pricing and a Firm’s 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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13. 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.
Break-even units sold =
total fixed costs and expenses
selling price – unit variable costs and expenses
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14. 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.
Contribution margin
The difference between the unit selling price and the unit variable costs and expenses.
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15. Applying a Pricing System (cont’d)
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. 16.3 Break-Even Graphs for Pricing units
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17. 16.4 A Break-Even Graph Adjusted for Estimated Demand
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18. 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
Retail adage: Markup on purchased cost, markdown on selling price
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19. Selecting a Pricing Strategy
Penetration Pricing
Skimming Pricing
Follow-the-Leader Pricing
Pricing Strategies
Variable Pricing
Dynamic Pricing
Price Lining
What the Market Will Bear: Adaptive Pricing
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20. Selecting a Pricing Strategy (cont’d)
Setting Prices: Controls and Situations
The Sherman Antitrust Act generally prohibits competitors from conspiring to fix prices.
The effect of the introduction of new products into an established product line.
Offering discounts to match the needs of customers.
If the initial price appears to be off target, make any necessary adjustments and keep on selling!
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21. 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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22. Selling on Credit Factors that Affect Selling on Credit
Type of business
Credit policies of competitors
Income level of customers
Availability of working capital
Economic conditions
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23. Types of Credit Consumer Credit Trade 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 invoice amount is due in 30 days.
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24. Types of Consumer Credit Accounts
Open Charge Account
Is a line of credit that allows the customer to obtain a product at the time of purchase.
Installment Account
Is a line of credit that requires a down payment, with the balance paid over a specified period of time.
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25. Types of Consumer Credit Accounts (cont.)
Revolving Charge Account
Is a line of credit on which the customer may charge purchases at any time, up to a pre- established limit.
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26. Types of Credit Cards Bank Credit and Debit Cards
Are issued by banks that are widely accepted by retailers who pay a fee to the banks for handling their credit transactions.
Travel and Entertainment Credit Cards
Were originally used to purchase services, now widely accepted for merchandise.
Retailer Credit Cards
Are issued by firms for specific use in their retail outlets or for purchasing their products or services.
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27. 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?
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28. Managing the Credit Process (cont.)
The Traditional Five C’s of Credit
Character
Capacity
Capital
Collateral
Conditions
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29. Sources of Credit Information
Individuals
Customer’s previous credit history
Credit information exchanges
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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30. 16.5 Hypothetical Aging Schedule for Accounts Receivable
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31. Managing the Credit Process (cont’d)
Billing and Collection Procedures
Timely notification is a most effective collection method 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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32. Credit Regulation The Truth-in-Lending Act (1968)
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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33. freemium strategy inelastic demand installment account markup pricing open charge account penetration pricing strategy prestige pricing price price lining strategy price skimming product line pricing revolving charge account trade-credit agencies value variable pricing strategy
aging schedule average pricing bad-debt ratio break-even analysis break-even point consumer credit contribution margin credit credit bureaus credit card debit card elastic demand elasticity of demand follow-the-leader pricing strategy
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