Pricing

Pricing
Situation
Your company manufactures pizza ovens. You sell these ovens to pizza parlors, ranging from the local “mom and pop” operations found in just about every city and town to major chains such as Papa Gino’s, Pizza Hut, etc. You use your own sales force.

Assignment
1. You are looking at adding a new coal-fired model that cooks pizzas at extremely high heat. While a pizza parlor might purchase this type of oven, it is really designed for the gourmet market (specialty pizza shops, higher end restaurants). Because this is a new market for you, you decide to sell through high end restaurant supply companies. Because of the expense of these ovens, you feel this may be a hard sell and so would like to provide some assistance and incentives for the supply companies. Your budget therefore includes the cost of three marketing specialists to help the supply companies analyze their markets and plan and execute marketing programs to sell the ovens. The cost of each specialist is $95,000 per year, including training and benefits. The support costs for this introduction are forecast at $50,000 for the first year. In addition, your company is giving the supply companies a 10% allowance on the purchase of each oven for resale as a reward for their part in introducing the ovens to their customers. The ovens wholesale for $25,500 each; the variable cost for each one is $11,300. You expect to sell 35 ovens in the first year of the program.
a. In Excel, calculate the contribution margin (total contribution) for the ovens.
b. Also calculate how many ovens your company needs to sell in order to break even.
c. What do these results tell you about moving forward with the oven introduction?

2. Many schools, hospitals, government agencies, and other public institutions are upgrading their food offerings to clients and employees. Since pizza is a popular food, you feel there’s an opportunity to enter this market with your basic pizza oven. A friend knows the food service director at a local hospital, one of a regional chain of hospitals and health care facilities. Your hope is that if you can sell to the local hospital, you may have an “in” with other facilities in the chain. Your list price for this oven at $9,800. Cost of the oven is $4,500. Your selling costs are 20% of the price of each oven for sales salaries, commissions, and related selling expenses.
a. In Excel, calculate your “profit” on each oven, including both oven and selling costs.
b. Also in Excel, calculate the lowest you should sell the oven for and still cover your costs.
c. Given that this is a new market with some risk for the food service manager, the manager is playing hard ball with you and asking for your lowest price. What do you do? Why?
d. What is your approach if you enter negotiations with this manager? Include the transaction goals of both you and the manager, where you feel the leverage lies, the long term relationship potential, and negotiation style you would use.
e. Would you ever price the oven below your cost in this situation? What would be some reasons you might do this?
3. You have some older ovens in inventory that you would like to get rid of. These ovens were originally priced at $9,500 but you figure they’re only worth $8,000 or so now. The cost on your books is $5,000 each. Through an industry contact, you have heard that an entrepreneur in a remote African country is looking at setting up a chain of pizza parlors and is looking for ovens. You expect this would be a one-time deal with no further sales opportunities (you don’t want to do business in remote Africa on a regular basis).
a. What should you offer the ovens to this entrepreneur for? Why?
b. What is your approach if you enter negotiations with this entrepreneur? Include the transaction goals of both you and the entrepreneur, where you feel the leverage lies, the long term relationship potential, and the negotiation style you would use.
c. Would you ever price the oven below your cost in this situation? What would be some reasons you might do this?

4. Your boss has decided to bid for the ovens to be used by the local Veterans Administration (VA) home. Your bid is for the basic oven in Question 2 with no additional selling or other expenses added on. Your pricing analyst has developed the following information using your cost data (basic oven only, no selling expenses involved) and estimates on the probability of winning the bid.

Bid Probability of Winning
$8,000 .20
$10,000 .40
$12,000 .55
$14,000 .64
$16,000 .58
$18,000 .47
$20,000 .30
$22,000 .15

a. In Excel, create a table like that in Exhibit 10-10 in your text.
b. At which price do you optimize profit?
c. How would you use this information in bidding on the VA job? What would you enter the bid for? Why?