Analyzing Customer Profitability, and Activity-Based Pricing

1
Chapter 8

• Analyzing Customer Profitability, and
  Activity-Based Pricing

2
The Profit Maximizing Price

• Economic theory focuses on the demand function.
• Own-price elasticity the higher the price, the
  lower the quantity demanded.

3
Pricing Special Orders

• Generally, products are not sold for less than
  full cost.
• In some cases it may be beneficial to charge a
  price less than full cost.
• Special order.
• Order will not affect demand for a firms other
  products (or current sales).
• Company may be better off charging a price below
  full cost.

4
Pricing Special Orders Example, Model A Standard
Unit Costs
Direct Material 30 Direct Labor 15 Variable
Overhead 10 Fixed Overhead 20 Total 75
Should Quality Lens Company accept (or reject) a
bid for 20,000 lenses for 73 each? It depends on
whether there is excess capacity.
5
Cost-Plus Pricing

• Cost-Plus Pricing is simple, but limited.
• Ignores demand for product.
• Leads to circular pricing schemes for
  manufacturers.
• Ignores own-price elasticity.

6
Target Costing

• Target Costing Process
• Specify features and price.
• Determine desired profit.
• Target cost price desired profit.
• Design to meet the target cost.
• Change price and/or features if product cannot be
  designed to meet target cost.

7
Analyzing Customer Profitability Revisiting the
Wholesale Office Supply Case

• Customer Profitability System (CPM).
• Indirect costs of servicing customers assigned to
  cost pools.
• Returns
• Shipments
• Using cost drivers, costs are assigned to
  customers
• Customer revenues product costs - indirect
  costs (above) customer profitability.

8
Activity-Based Pricing

• Activity-Based Pricing uses the same information
  as customer profitability.
• Also called menu-based pricing.
• Examples include
• Charge for Internet order 1.25
• Charge for phone, fax or mail order 4.75
• Charge per order line item 1.00
• Delivery charge per mile 0.40
• Per pound packing charge 0.50
• Per item restocking fee 1.00