Cost Approaches to Pricing Chapter 8 Pricing Questions n n Which Costs Are Relevant in the Pricing...
-
Upload
beryl-perkins -
Category
Documents
-
view
216 -
download
0
Transcript of Cost Approaches to Pricing Chapter 8 Pricing Questions n n Which Costs Are Relevant in the Pricing...
Cost Approaches to PricingCost Approaches to Pricing
Chapter 8Chapter 8
Pricing QuestionsPricing Questions
Which Costs Are Relevant in the Pricing Decision?
What Is the Common Weakness of Informal Pricing Methods?
What Are Common Cost Methods of Pricing Rooms?
Pricing QuestionsPricing Questions
What Are Common Methods of Pricing Food and Beverages?
How May Profitability and Popularity Be Considered in Setting Food Prices?
Pricing QuestionsPricing Questions
Will Departmental Revenue Maximization Result in Revenue Maximization for the Hospitality Firm?
Pricing QuestionsPricing Questions
What Is Integrated Pricing? What Is Price Elasticity of Demand?
Price Elasticity of DemandPrice Elasticity of Demand
Measures How Sensitive Demand Is to Changes in Price
Either Elastic or Inelastic
Price Elasticity of DemandPrice Elasticity of Demand
Computed by Dividing % Change in Quantity Demanded by Base Quantity BY % Change in Price by Base Price
(Q2 - Q1) / Q1 (P2 - P1) / P1
Price Elasticity of DemandPrice Elasticity of Demand
Assume Hotel Sells 1,000 rooms @ $30Assume Hotel Sells 1,000 rooms @ $30 Changes Price to $33 and sells 950Changes Price to $33 and sells 950
(950 - 1,000)/1,000(950 - 1,000)/1,000
(33 - 30)/30(33 - 30)/30
= - 0.05 / 0.10 = -0.50 Inelastic= - 0.05 / 0.10 = -0.50 Inelastic
Price Elasticity of DemandPrice Elasticity of Demand
If Less Than 1 - Inelastic (Demand Is Insensitive to Price Changes)– An increase in price is offset by a smaller decrease
in demand– Normally results in more profits with a price
increase– An decrease in price is offset by a smaller increase
in demand– Normally results in less profits with a price
decrease
Price Elasticity of DemandPrice Elasticity of Demand
If Greater Than 1 - Elastic (Demand Is If Greater Than 1 - Elastic (Demand Is Sensitive to Price Changes)Sensitive to Price Changes)– An increase in price is offset with a higher An increase in price is offset with a higher
decrease in demanddecrease in demand– Normally results in less profits with a price Normally results in less profits with a price
increaseincrease– An An decreasedecrease in price is offset with a higher in price is offset with a higher
increase in demandincrease in demand– Normally results in more profits with a price Normally results in more profits with a price
decreasedecrease (up to a point) (up to a point)
Price Elasticity of DemandPrice Elasticity of Demand
Competition, Uniqueness Affect Elasticity
When Change Prices, Test for Elasticity
Informal Pricing MethodsInformal Pricing Methods
Competitive Intuitive Psychological Trial and Error Follow The Leader
Informal Pricing MethodsInformal Pricing MethodsFour Modifying FactorsFour Modifying Factors
Consider First: Historical Price Changes Guest Perceptions (Price/value) Competition Modify by Rounding
Mark Up ApproachesMark Up Approaches
Ingredient Mark Up Determine Ingredient Costs Determine Multiple to Use Multiply Costs by Multiplier Adjust Using Qualitative Factors
MultiplierMultiplier
1 / Desired Food Cost Percentage Example 1 / 40% = 2.5
Alternative to MultiplierAlternative to Multiplier
Divide Costs By Desired Food Cost Percentage
Example $3.00 Cost / 40% = $7.50 Selling Price
Ingredient Ingredient Mark Up Approach Up Approach
If total ingredients cost $1.32 and you have a 40% desired Food Cost– Multiplier = 1/0.4 = 2.5– Suggested Price = $1.32 * 2.5 = $3.30
– Would suggest rounding to $3.50
Mark Up ApproachesMark Up Approaches
Prime Ingredient Mark Up Determine Prime Ingredient Cost Some Versions Add in a Fixed Dollar
Amount for Other Ingredients
Mark Up ApproachesMark Up Approaches
Prime Ingredient Mark Up (Continued)
Determine Multiple to Use - Higher Than Mark up (Arbitrary)
Multiply Costs by Multiplier Adjust Using Qualitative Factors
Prime Ingredient Mark Up Approach
If Prime Ingredients cost $0.59 and you have a Prime Multiplier of 7.8– Suggested Price = $0.59 * 7.8 = $4.60
– Would suggest rounding to $4.75
– Note, the Prime Multiplier is based on history or industry standards there is not a formula for it. It is usually higher than the ingredient multiplier
Rooms Pricing Traditional Rooms Pricing Traditional MethodMethod
$1 Per $1,000 Cost Per Room Doesn’t Consider Current Value Doesn’t Consider Other Services Assumes 70%occupancy Assumes Profitable Food and
Beverage
Rooms Pricing Traditional Rooms Pricing Traditional MethodMethod
If $100,000,000 to build a 5,000 room hotel
= 100,000,000 / 5,000
= 20,000 per room
= 20,000 per room / $1,000
= $20.00 per room rate
Rooms PricingRooms Pricing Hubbart Hubbart Formula Formula
““Bottoms Up”Bottoms Up” Start With ProfitStart With Profit Determine Pretax ProfitDetermine Pretax Profit
Rooms PricingRooms Pricing Hubbart Hubbart FormulaFormula
Add in Fixed ChargesAdd in Fixed Charges Add in Undistributed Operating Add in Undistributed Operating
CostsCosts Estimate Non Room Income (Loss)Estimate Non Room Income (Loss) Sum Is Rooms Department IncomeSum Is Rooms Department Income
Rooms PricingRooms Pricing Hubbart Hubbart FormulaFormula
Rooms Revenue Equals Rooms Rooms Revenue Equals Rooms Income Plus Rooms Department Income Plus Rooms Department CostsCosts
ADR = Room Revenue / Rooms to Be ADR = Room Revenue / Rooms to Be SoldSold
See page 371 for exampleSee page 371 for example
ADR to Single and Double ADR to Single and Double RatesRates
(Singles Sold * Single Rate) + (Singles Sold * Single Rate) + (Doubles Sold * (Single Rate + Price (Doubles Sold * (Single Rate + Price Differential)) = Average Rate * Rooms Differential)) = Average Rate * Rooms SoldSold
Solve for Each Rate Solve for Each Rate
Rate Calculation
Assume 200 room hotel with occupancy of 75% and double occupancy of 40% with ADR or 68.71 (doubles are $10 more than singles
Sell (.75 * 200) 150 rooms per day90 singles 60 doubles
Rate Calculation
Let X = Single Room Rate 90x + 60(x + 10) = 67.81 * 150 90x + 60x + 600 = 10,171.50 150x = 9,571.50 x = 63.81 Single Rate
x + 10 = 73.81 Double Rate
Yield ManagementYield Management
Increasing the Rooms RevenueIncreasing the Rooms Revenue
Yield ManagementYield Management
Take the Guess Work out of Your Take the Guess Work out of Your Rooms InventoryRooms Inventory
The Business of Selecting the Most The Business of Selecting the Most Profitable Reservations Profitable Reservations
Yield Management Is the Process of Yield Management Is the Process of maximizing the total revenues, rather maximizing the total revenues, rather than selling more roomsthan selling more rooms
Why Yield Management ?Why Yield Management ?
Increase Room Revenues Increase Room Revenues Improve Total Corporate Profitability Improve Total Corporate Profitability Enter New Markets With Strategic Enter New Markets With Strategic
Pricing Pricing Identify and Respond More Quickly to Identify and Respond More Quickly to
Changing Market Trends Changing Market Trends Manage Distribution Channels More Manage Distribution Channels More
Effectively Effectively
What We Gain Is:What We Gain Is: Assume 100 room hotel and you can Assume 100 room hotel and you can
sell either to business or group:sell either to business or group:– Business - ADR = $80 Business - ADR = $80 – Business books 1 week out, and have Business books 1 week out, and have
40 business guests already booked and 40 business guests already booked and can book 55 more in the next 3 weekscan book 55 more in the next 3 weeks
– Group - ADR = $55Group - ADR = $55– Groups books 3 week outGroups books 3 week out– It is 4/1/02 and a group wants to book 20 It is 4/1/02 and a group wants to book 20
rooms for 4/21-11/02rooms for 4/21-11/02
What We Gain Is:What We Gain Is: Option 1 Accept the GroupOption 1 Accept the Group
Group Rooms 20 * $55.00 = $1,100Group Rooms 20 * $55.00 = $1,100
Business Rooms 80 * $80 = $6,400Business Rooms 80 * $80 = $6,400
Total $7,500Total $7,500
Option 2 - Reject the GroupOption 2 - Reject the GroupBusiness Rooms 95 * $80 =$7,600Business Rooms 95 * $80 =$7,600
Since only $100 difference look at the overall revenue Since only $100 difference look at the overall revenue that will be generated from each option (ie food and that will be generated from each option (ie food and bev)bev)
Menu EngineeringMenu Engineering
A Tool to Increase Food and A Tool to Increase Food and Beverage ProfitsBeverage Profits
Breaking Out of the BoxBreaking Out of the Box
Is It Really Important to Sell Each Is It Really Important to Sell Each Guest a Selection From Each Part of Guest a Selection From Each Part of the Menu?the Menu?
Is Food Cost Percentage the Best Is Food Cost Percentage the Best Measurement of Performance?Measurement of Performance?
Breaking Out of the BoxBreaking Out of the Box
Can We Determine the Exact Labor Can We Determine the Exact Labor Cost for Each Item Sold on the Cost for Each Item Sold on the Menu?Menu?
Should Selling Prices Be Determined Should Selling Prices Be Determined on a Consistent Mark-up Basis?on a Consistent Mark-up Basis?
Selling the Entire MenuSelling the Entire Menu
Drives up Check Average and That Is Drives up Check Average and That Is GoodGood
Additional Points of Service Reduces Additional Points of Service Reduces Seat TurnoverSeat Turnover
Waiting Time for Table May Cause Waiting Time for Table May Cause Loss of CustomerLoss of Customer
Selling the Entire MenuSelling the Entire Menu
Would You Rather Serve a Dessert at Would You Rather Serve a Dessert at a Cost of $2 for $5 or an Entrée at a a Cost of $2 for $5 or an Entrée at a Cost of $4 for $10?Cost of $4 for $10?
Food Cost PercentageFood Cost Percentage
Ratio of Cost of Goods Sold to SalesRatio of Cost of Goods Sold to Sales Gross Profit Is Sales Minus Cost of Gross Profit Is Sales Minus Cost of
Goods SoldGoods Sold Objective Is to Increase Gross ProfitObjective Is to Increase Gross Profit
Food Cost PercentageFood Cost Percentage
Do You Deposit Percentages or Do You Deposit Percentages or Dollars?Dollars?
Item “A” Costs $4 and Sells for $12 or Item “A” Costs $4 and Sells for $12 or 33%33%
Item “B” Costs $8 and Sells for $20 or Item “B” Costs $8 and Sells for $20 or 40%40%
Which One Would You Rather Serve Which One Would You Rather Serve (All Other Things Being Equal)?(All Other Things Being Equal)?
Labor CostLabor Cost
Labor Is a Mixed Cost - a Fixed Labor Is a Mixed Cost - a Fixed Component and a Variable Component and a Variable ComponentComponent
Customer Demand Is Variable on a Customer Demand Is Variable on a Daily BasisDaily Basis
Daily Labor Is Scheduled Based on Daily Labor Is Scheduled Based on Forecasts Which Inherently Are Forecasts Which Inherently Are ImpreciseImprecise
Labor CostLabor Cost
Therefore, Exact Labor Cost Therefore, Exact Labor Cost Quantification on a Per Item Basis Is Quantification on a Per Item Basis Is Impossible to ComputeImpossible to Compute
Can Rank Labor Cost Per Item (High Can Rank Labor Cost Per Item (High or Low Relative to the Items in the or Low Relative to the Items in the Mix) Mix)
Menu EngineeringMenu Engineering
Smith and KasavanaSmith and Kasavana Analyzes Popularity and Analyzes Popularity and
Contribution MarginContribution Margin Two by Two MatrixTwo by Two Matrix Classified Items As Stars, Dogs, Classified Items As Stars, Dogs,
Puzzles, or PlowhorsesPuzzles, or Plowhorses
PopularityPopularity
Item Is Popular If Individual Item’s Item Is Popular If Individual Item’s Sales Mix Exceeds 70% of the Sales Mix Exceeds 70% of the Average Popularity Average Popularity
Average Popularity = (100% / Number Average Popularity = (100% / Number of Items) * (70%)of Items) * (70%)
Popularity ExamplePopularity Example
10 Items10 Items Average Popularity = (100% / 10) * Average Popularity = (100% / 10) *
(70%) = 7%(70%) = 7% If Individual Sales Mix Is > 7%, The If Individual Sales Mix Is > 7%, The
item has HIGH Popularityitem has HIGH Popularity If Individual Sales Mix Is < 7%, The If Individual Sales Mix Is < 7%, The
item has LOW Popularityitem has LOW Popularity
Contribution MarginContribution Margin
Selling Price Minus Variable Costs or Selling Price Minus Variable Costs or Gross ProfitGross Profit
Compute for Each ItemCompute for Each Item
Weighted Average Weighted Average Contribution Margin Contribution Margin
CalculationCalculation Compute Individual Contribution Compute Individual Contribution
MarginMargin Multiply Item Contribution Margin by Multiply Item Contribution Margin by
Number of Item Sales Number of Item Sales Result Is Total Contribution MarginResult Is Total Contribution Margin
Weighted Average Weighted Average Contribution Margin Contribution Margin
CalculationCalculation
Divide Total Contribution Margin by Divide Total Contribution Margin by Number of Sales Number of Sales
Result Is Weighted Average Result Is Weighted Average Contribution Margin Contribution Margin
Contribution MarginContribution Margin
Compare Against Weighted Average Compare Against Weighted Average Contribution Margin for Menu Contribution Margin for Menu Section EngineeredSection Engineered
If Item CM Is > WACM - Label “HIGH”If Item CM Is > WACM - Label “HIGH” If Item CM Is < WACM - Label “LOW”If Item CM Is < WACM - Label “LOW”
ClassificationsClassifications
Star - High Popularity & High CM– Continue promoting item
Plow Horse - High Popularity & Low CM– Re-price the item to increase CM
Puzzles - High CM & Low Popularity– Promote the item to increase popularity
Dogs - Low CM & Low Popularity– - Drop the item from the menu
Menu Engineering ConcernsMenu Engineering Concerns
Ignored Variable Portion of Labor Ignored Variable Portion of Labor CostCost
Inconsistent With Performance Inconsistent With Performance EvaluationEvaluation
Difficult to Collect DataDifficult to Collect Data Extensive CalculationsExtensive Calculations ““So What” Theory So What” Theory
Adjust Sales Mix Without Adjust Sales Mix Without CostCost
Create Signature Item High in Create Signature Item High in Contribution MarginContribution Margin
Train Staff on Contribution Margin Train Staff on Contribution Margin PrinciplesPrinciples
Provide Periodic Tastings to Public Provide Periodic Tastings to Public for Items Low in Popularity but High for Items Low in Popularity but High in Contribution Margin in Contribution Margin
Adjust Sales Mix Without Adjust Sales Mix Without CostCost
Use Internal Marketing ToolsUse Internal Marketing Tools Reevaluate Pricing Strategies Using Reevaluate Pricing Strategies Using
Data, Profit Factor, and Elasticity of Data, Profit Factor, and Elasticity of DemandDemand
Consider Profitability When Printing Consider Profitability When Printing MenusMenus