Pricing Techniques and Analysis 1.1

8/9/2019 Pricing Techniques and Analysis 1.1

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GROUP 8Cruz, Melanie

Dela Cruz, Charle- son

Gamboa , Jezzarene

PRICING TECHNIQUES ANDANALYSIS


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Advanced Pricing Techniques

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Price discrimination

Multiple products

Cost-plus pricing


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Capturing Consumer Surplus

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Uniform pricingCharging the same price for every unit of

the productPrice discriminationMore profitable alternative to uniform

pricingMarket conditions must allow this practice

to be profitably executed

Technique of charging different prices forthe same productUsed to capture consumer surplus

(turning consumer surplus into profit)


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The Trouble with Uniform Pricing(Figure 1)

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Price Discrimination

Exists when the price-to-marginal cost ratiodiffers between two products:

A B

A B

P P

MC MC

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Price Discrimination

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Three conditions necessary to practiceprice discrimination profitably:

1) Firm must possess some degree ofmarket power

2) A cost-effective means of preventingresale between lower- and higher-pricebuyers (consumer arbitrage) must beimplemented

3) Price elasticities must differ betweenindividual buyers or groups of buyers


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First-Degree (Perfect) PriceDiscrimination

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Every unit is sold for the maximumprice each consumer is willing to payAllows the firm to capture entire

consumer surplusDifficultiesRequires precise knowledge about every

buyers demand for the goodSeller must negotiate a different price for

every unit sold to every buyer


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First-Degree (Perfect) PriceDiscrimination (Figure 2)

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Second-Degree PriceDiscrimination

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Lower prices are offered for largerquantities and buyers can self-select the price by choosing how

much to buyWhen the same consumer buys

more than one unit of a good orservice at a time, the marginalvalue placed on additional unitsdeclines as more units areconsumed


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Two-part pricingCharges buyers a fixed access charge (A) to

purchase as many units as they wish for aconstant fee (f) per unit

Total expenditure (TE) for q units is:

TE A fq= +

10

Af

q= +

TE A fqpq q

+= =Average price ( ) is:p


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When consumers have identicaldemands, entire consumer surpluscan be captured by:

Settingf = MCSettingA = consumer surplus (CS)Optimal usage fee when two

groups of buyers have identicaldemands is the level for which MRf=MCf


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Inverse Demand Curve for Each of 100Identical Senior Golfers (Figure 3)

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Demand at Northvale Golf Club(Figure 4)

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Declining block pricingOffers quantity discounts over

successive discrete blocks of quantities

purchased


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Block Pricing with Five Blocks(Figure 5)

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Third-Degree PriceDiscrimination

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If a firm sells in two markets, 1 & 2

Allocate output (sales) soMR1= MR

2

Optimal total output is that for whichMRT=

MCFor profit-maximization, allocate sales of

total output so that

MRT

= MC = MR1

= MR2


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Third-Degree PriceDiscrimination

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Equal-marginal-revenue principle

Allocating output (sales) soMR1= MR

2which

will maximize total revenue for the firm (TR1

+ TR2)More elastic market gets lower priceLess elastic market gets higher price


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Allocating Sales Between Markets(Figure 6)

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Constructing the Marginal RevenueCurve (Figure 7)

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Profit-Maximization Under Third-DegreePrice Discrimination(Figure 8)

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PRICING OF MULTIPLEPRODUCTS

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Multiple Products

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Related in consumption

For two products,X& Y, produce & selllevels of output for which

MRX = MCX and MRY = MCY

MRXis a function not only ofQ

Xbut also of

QY (as isMRY) -- conditions must be satisfiedsimultaneously


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Multiple Products

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Related in production assubstitutesFor two products,X& Y, allocate production

facility so that

MRPX

= MRPY

Optimal level of facility usage in the long run

is whereMRPT= MCFor profit-maximization:

MRPT= MC = MRP

X= MRP

Y


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Multiple Products

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Related in production ascomplementsTo maximize profit, set joint marginal revenue

equal to marginal cost:

MRJ

= MCIf profit-maximizing level of joint production

exceeds output whereMRJkinks, units beyond

zeroMR are disposed of rather than soldProfit-maximizing prices are found using

demand functions for the two goods


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Profit-Maximizing Allocation ofProduction Facilities (Figure 9)

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Profit-Maximization with JointProducts (Figure 11)

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Cost-Plus Pricing

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Common technique for pricingwhen firms do not wish to estimatedemand & cost conditions to apply

the MR = MC rule for profit-maximization

Price charged represents a markup

(margin) over average cost: P = (1 + m)ATC Where m is the markup on unit cost


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Cost-Plus Pricing

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Does not generally produce profit-maximizing priceFails to incorporate information on demand &

marginal revenue

Uses average, not marginal, cost


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Practical Problems with Cost-PlusPricing (Figure 13)

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Pricing Techniques and Analysis 1.1

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