Question

stores. CASE 1: PRICING (SMAO Canadian Product Corporation Limited (CPCL) is a manufacturer of small house- hold appliances. The company has only one manufacturing facility which services all of Canada. CPCL is well established and sells its products directly to department CPCL wishes to begin manufacturing and marketing its newly developed cordless steam iron. In order to properly evaluate the performance of this new product, management has decided to create a new division for its production and distribution Two of CPCL's competitors have recently introduced their own brands of cordless steam irons at a price of S28 each. CPCLs usual pricing strategy for new products is full absorption cost plus a 100% markup. For the new iron, at a pro- duction and sales volume of 350,000 units per year, this strategy would imply a price of $31.50. CPCLS president, Mr.T.C. Leopard, is not sure whether this pricing strategy would be appropriate for the new iron and is considering other proposals as follows: 1. Variable product cost plus a 200% markup 2. A price of $27 to undercut the competition Mr. Leopard hired a market research firm to study the likely demand for CPCLs cordless steam iron at the three proposed prices. The research firm con- ducted an extensive market test resulting in projected annual sales volumes over the next five years at these prices. These sales projections are summarized in Exhibit 1-1. The research firm, however, made it clear that there were no guarantees that the market would respond according to the projections. Mr. Leopard was not happy with the probabilities that the market rescarch firm assigned to the various price/volume levels. He therefore used his own knowl- edge and past experience to assign different probabilities (see Exhibit 1-2). Mr. Leopard then called Joan Helm, the chief financial officer, to analyze the situation and recommend a five-year pricing strategy for the new cordless steam iron. As a first step, Joan assembled some relevant data which is presented in Exhibit 1-3. REQUIRED As Joan Helm, comply with Mr. Leopard's request. Include in your analysis considera- tion of both quantitative and qualitative factors in determining a five-year pricing strat- egy for the new iron Copyright © 2010 Pearson Education Canada APPENDIX EXHIBIT 1-1 CPCL Market Research Data for Cordless Steam Iron EXHIBIT 1-2 CPCL President's Probability Data for Cordless Steam Iron Selling Price Selling Price Probability $24.00 S24.00 Volume 500,000 400,000 300,000 400,000 50,000 250,000 300,000 250,000 200 000 Probability 20% 50 30 25 45 30 30 50 27.00 27.00 Volume 500,000 400,000 300,000 400,000 350,000 250,000 300,000 250,000 200.000 10% 50 40 20 40 40 40 50 10 31.50 31.50 O <

Case Study answering format should be, Executive summary, Introduction and Background, Alternatives, Recommendations and Implementation. Thank you

Answer 1

For pricing cordless steam irons, there are 2 alternatives:

• Price at Variable cost +200% markup

=Total variable cost= 2,800,000$, therefore variable cost per unit =2,800,000/350,000= 8$

=8$+200% markup=24$

• Price at 27$ to undercut the competion
• Price originally at 31.5$ (full absorption cost+100% markup) ((2,800,000+2,712,500)/350,000)+100%

Now the market research firm has given the demand probability for the above price. Calculating it as follows:

At Price 24$

(500,000*20%)+(400,000*50%)+(300,000*30%)=100,000+200,000+90,000=390,000 restricted to 350,000 (being maximum production)

350,000*24$=8,400,000$

At Price 27$

(400,000*25%)+(350,000*45%)+(250,000*30%)=332,500

=332,500*27$= 8,977,500$

At Price 31.5$

(300,000*30%)+(250,000*50%)+(200,000*20%)=255,000

=255,000*31.5$=8,032,500$

As Mr Leopard was not happy with market research firm data, he using his experience formulated his own demand probability for the above price. Calculating it as follows:

At Price 24$

(500,000*10%)+(400,000*50%)+(300,000*40%)=50,000+200,000+120,000=370,000 restricted to 350,000 (being maximum production)

350,000*24$=8,400,000$

At Price 27$

(400,000*20%)+(350,000*40%)+(250,000*40%)=320,000

=320,000*27$= 8,640,000$

At Price 31.5$

(300,000*40%)+(250,000*50%)+(200,000*10%)=265,000

=265,000*31.5$=8,347,500$

From the above calculations we can infer that:

• Both market research and presidents probability data shows that contribution will be maximum for the present production of 350,000 units if the price is kept at 27$
• If the company increases the existing capacity by more than 10,000 units (that is 360,000 units and above then it is better to price the product at 24$ as it will earn more contribution and demand too will be there for 390,000 units (as per market research) and 370,000 (units as per president) which will result in higher overall contribution at 24$
• The qualitative factors to be kept in mind are the customers mindset especially in an elastic market will be ready to buy more if the price falls
• Inventory holding when the production increases will also be an issue, under JIT it is mandated to produce only that much as is the present demand in the market, with inventory buildup, inventory holding costs may increase which will be a factor to consider if the production capacity is increased.