Chapter 10

Retail Pricing

Learning Objectives• Discuss the factors a retailer should consider

when establishing pricing objectives and policies

• Describe the differences between the various pricing strategies available to the retailer

• Describe how retailers calculate the various markups

• Discuss why markdown management is so important in retailing and describe some of the errors that cause markdowns

Pricing Objectives and Policies

• Pricing - Is an interactive decision made in conjunction with the firm’s:• Mission statement • Goals and objectives • Strategy • Operational and administrative management

• Yield management• Focuses on optimizing the total sales revenue or

yield from its capacity to provide services (hotels)

LO 1

Exhibit 10.1 - Interaction Between a Retailer’s Pricing Objectives and Other Decisions

LO 1

Pricing Objectives

Profit oriented objectives

Achieve either a certain rate of return or maximizing profits.

Target return objective

States a specific level of profit, such as percentage of sales or return on capital invested.

Profit maximization

Seeks to obtain as much profit as possible.

Skimming Price is initially set high on merchandise to skim the cream of demand before selling at more competitive prices.

LO 1

Pricing Objectives

Penetration Price is set at a low level in order to penetrate the market and establish a loyal customer base.

Sales-oriented objectives

Seek some level of unit sales, dollar sales, or market share but do not mention profit.

Status quo objectives

Adopted by retailers who are happy with their market share and level of profits.

Pricing Policies• Guidelines, that ensure uniformity of pricing decisions within a retail operation• Types of policies• Below-market pricing: Discounts merchandise from the established market price to:

• Build store traffic• Generate high sales and gross margin dollars per square foot of selling space• Discourage competitors from entering a given trading area

• Pricing at market levels• Price zone - Range of prices for a particular merchandise line that appeals to

customers in a certain market segment.• Above-market pricing policy - Retailers establish high prices because nonprice

factors are more important to their target market than price.

LO 1

Pricing Policies• Pricing at market levels• Price zone: Range of prices for a particular merchandise

line that appeals to customers in a market segment• Size of a retail store affects its ability to compete on

price• Above-market pricing policy• Retailers establish high prices because nonprice factors

are more important to their target market than price• Factors that permit retailers to price above market

levels• Merchandise offerings• Services provided• Convenient locations • Extended hours of operation

LO 1

Specific Pricing StrategiesCustomary pricing The retailer sets prices for goods and services and seeks to

maintain those prices over an extended period of time.

Variable pricing Recognizes that differences in demand and cost necessitate that the retailer change prices in a fairly predictable manner.

Flexible pricing Encourages offering the same products and quantities to different customers at different prices; used for personal selling; costs can dramatically increase, and revenues decrease, as customers begin to bargain for everything.

One-price policy Establishes that the retailer will charge all customers the same price for an item; speeds up transactions and reduces the need for highly skilled salespeople.

LO 2

Specific Pricing Strategies• Price lining • Helps customers make merchandise

comparisons and • Specifies number of price points for

each merchandise classification• Trading up• Retailer uses price lining and a

salesperson moves a customer from a lower priced line to a higher one

• Trading down • Retailer uses price lining, and a customer

exposed to higher-priced lines purchases a lower-priced line

LO 2

Specific Pricing Strategies• Retailers select price lines that have the strongest

consumer demand• Advantages• Helps buying more efficiently• Simplifies inventory control• Accelerates inventory turnover

LO 2

Specific Pricing StrategiesOdd pricing Practice of setting retail prices that end in the digits 5, 8, 9—

such as $29.95, $49.98, or $9.99.

Multiple-unit pricing

Price of each unit in a multiple-unit package is less than the price of each unit if it were sold individually.

Bundle Pricing Selling distinct multiple items offered together at a special price.

Bait-and-switchpricing

Advertising or promoting a product at an unrealistically low price to serve as ‘‘bait’’ and then trying to ‘‘switch’’ the customer to a higher-priced product.

Private-label brand pricing

A private-label brand can be purchased by a retailer at a cheaper price, have a higher markup percentage, and still be priced lower than a comparable national brand.

LO 2

Specific Pricing Strategies• Leader pricing• High-demand item is priced low and is heavily

advertised in order to attract customers • Requires careful evaluation• Strategy ineffective if consumers are limiting their

purchases to only leader items• Loss leader: Extreme form of leader pricing where

an item is sold below a retailer’s cost• High-low pricing• Use of high every day prices and low leader ‘‘specials’’

on items featured in weekly ads

LO 2

Specific Pricing Strategies

• Bait-and-switch pricing• Advertising or promoting a product at an

unrealistically low price to:• Serve as bait and then trying to switch the customer to

a higher-priced product

• Is considered illegal by the Federal Trade Commission when:• The low-priced model used as bait is unavailable to

shoppers

LO 2

Specific Pricing Strategies

• Private-label brand pricing• Permit the retailer a large degree of pricing

freedom because:• Consumers find it difficult to make exact comparisons

between the private and national brands

LO 2

Using Markups

• Markup: Selling price of the merchandise less its cost, which is equivalent to gross margin• Basic markup equation - SP = C + M

• Where: C - Dollar cost of merchandise per unit M - Dollar markup per unit SP - Selling price per unit

LO 3

Exhibit 10.3 - Relationship of Markups Expressed on Selling Price and Cost

LO 3

Exhibit 10.4 - Basic Markup Formulas

LO 3

Initial Versus Maintained Markup

• Initial markup = (original retail price – cost)/original retail price

• Maintained markup = (actual retail price – cost)/actual retail price

LO 3

Initial Versus Maintained Markup

• Reasons for the difference between initial and maintained markups:• The need to balance demand with supply• Stock shortages• Employee and customer discounts• Cost of alterations• Initial markup may be different from maintained

markup is cash discounts

LO 3

Planning Initial Markups

• Initial markup percentage = (operating expenses + net profit + markdowns + stock shortages + employee and customer discounts + alterations costs - cash discounts)/ (net sales + markdowns + stock shortages + employee and customer discounts)

• Initial markup percentage = (gross margin + alterations costs - cash discounts + reductions)/ (net sales + reductions)

LO 3

Planning Initial Markups

• Initial markup percentage = (gross margin + alterations costs + reductions)/ (net sales + reductions)

LO 3

Planning Initial Markups• Rules of markup determination:• As goods are sold through more retail outlets, the

markup percentage decreases and vice versa• Higher the handling and storage costs of the

goods, higher should be the markup• Greater the risk of a price reduction due to the

seasonality of the goods:• Greater is the magnitude of the markup percentage

early in the season• Higher the demand inelasticity of price, greater

the markup percentage

LO 3

Markdown Management

• Markdown: Any reduction in the price of an item from its initially established price

• Markdown percentage = Amount of reduction / original selling price

LO 4

Markdown Management

• Retailers do not possess perfect information about supply and demand factors

• Merchandising process is prone to:• Buying errors - Retailer buys:• The wrong merchandise or buys the right merchandise

in too large a quantity

• Pricing errors - Price of the item is too high to move the product at desired speed and quantity

LO 4

Markdown Management• Merchandising errors• Failure by the buyer to inform the sales staff of how the

new merchandise:• Relates to the current stock• Ties in with the store’s image• Satisfies the needs of the store’s target market

• Improper handling of the merchandise by the sales staff• Ineffective visual presentation

• Promotion errors• Promotion activities are too weak or sporadic to elicit a

strong response from potential customers

LO 4

Markdown Policy

• Early markdown policy• Advantages• Speeds the movement of merchandise• Enables the retailer to take less of a markdown per unit

to dispose of the goods• The store has the appearance of having fresh

merchandise• Allows the retailer to replenish lower-priced lines from

the higher ones that have been marked down

LO 4

Markdown Policy

• Late-markdown policy - Allowing goods to have a long trial period before a markdown is taken• Avoids disrupting the sale of regular merchandise

by too frequently marking goods down• Bargain hunters or low-end customers will be

attracted only at infrequent intervals

LO 4

Markdown Policy

• Amount of markdown• Prices should be marked down at least 20 percent

in order for the consumer to notice• Suppliers supplement retailers markdown losses

with:• Markdown money or some other type of price

reductions

LO 4

Markdown Policy

• Amount of markdown• Maintained markup = (actual selling price – cost) /

actual selling price• Maintained markup percentage = initial markup

percentage – [(reduction percentage) (100% - initial markup percentage)]

Where:Reduction percentage = Amount of reductions/net sales

LO 4