BA 267-1: Pricing Policy



MBA 269-1: Pricing Policy (Fall 2006)

This examination consists of 5 questions and a bonus question (printed in 9 pages including this page). Complete all questions on your own. Do not talk to anyone about this examination. Note that each question carries different points so plan your time accordingly. This examination is due on December 13th at 9:00 a.m.

You can either drop off your completed exam at Laura Gardner’s office (F 631) or email it to her at lgardner@haas.berkeley.edu (Please make sure that your completed exam is a PDF file and that she receives your email). If she is not around, slide your completed exam into her office.

Have a great winter break!

Question 1 (22%)

Question 1a (8%)

Super Pillow produces goose feathers pillows with monthly sales and costs given as follows:

Sales: 3600 units

Wholesale price: $10.00 per unit

Variable costs: $6.00 per unit

Fixed costs: $10,000

a. Super Pillow is considering a 10% price cut. By how many units would sales need to be increased in order to be at least as profitable as before the price cut? (4%)

b. The owner Patricia Hwong believes that the firm can replace goose feathers with synthetic filler as a consequence of the proposed 10% price cut. This will decrease the unit variable cost by $0.40. By how many units would sales have to be increased to be at least as profitable as before the price cut? (4%)

Question 1b (6%): Explain the following phenomena.

a. Visit and we see multiple versions of TurboTax being offered. (2%)

b. Vickrey auction format is hardly used in practice even though it induces all bidders to reveal their willingness to pay. (2%)

c. Visit and we see the firm adopts “Buy one and get ½ off on everything” price strategy. That is, you buy the first pair of shoes at regular price and receive 50% off for the second pair (as long as its regular price is less than or equal to that of the first pair). (2%)

Question 1c (8%)

The Gilbert Orchestra is targeting a market that has 1000 patrons. The value of each piece of music to the two segments of customers is given below:

Type of Patron Value of Piece

“Old Favorite” “Avant Garde”

Conservatives $3.00 $1.00

(70% of Market)

Progressives $2.00 $5.00

(30% of Market)

a. If a concert consists of three pieces, what is the optimal price and profit for a concert that consists of 3 Old Favorites? (4%)

b. What is the optimal bundle (i.e., the mix of three pieces) and at what price Gilbert Orchestra should offer in a concert in order to maximize profit? (4%)

Question 2 (18%)

Question 2a (6%):

Pendse Computer’s current prices on Dell personal computer and the complementary products are as follows:

Historical data indicate that 50% of the computer buyers also buy a printer and 80% also buy a game package. Pendse Computer is considering dropping the price of the computer by 10% to spur sales. What is the breakeven sales quantity (in terms of percentage change)? (6%)

Question 2b (12%):

a. How do you select a loss leader in general? (4%)

b. Pick any retailer and identify its loss leader. Is it a good loss leader? Why? (4%)

c. As a pricing analyst for Purewal grocery chain, you are asked to prepare the analysis of a proposal to price beef low in order to attract shoppers to the Purewal store. The current price for beef is $1.99 per pound. The proposal is to set a promotional price of $1.19 per pound. The wholesale cost of beef, prepackaged and ready for sale, is $0.99 per pound.

By tracking past changes in sales of beef with changes in sales of other grocery products, you discover that each one pound increase in the sales of beef is associated with the following changes in the sales of other products:

Assume the above sales relationship holds, by how much must beef sales increase (in percentage terms) to make this price promotion profitable? (4%)

Question 3 (20%)

Question 3a (6%): Answer the following questions, clearly stating the price customization variable used (i.e., customer, location, quantity, time or product design) in each case.

a. Visit a local Safeway store and describe a price customization strategy that it adopts in selling a product category. Explain whether or not this is the most important variable that differentiates customer’s willingness to pay in that category. (3%)

b. Pick your favorite restaurant and provide its street address. Suggest a price customization strategy that it might adopt in order to improve its profit. (3%)

Question 3b (4%): Visit and determine which kind of auction (English, Dutch, First Price Sealed-Bid Auction, or Vickrey Auction) does Google use to price its adwords. Provide a scenario when this auction scheme generates lower revenue compared to other auction formats.

Question 3c (3%): Explain the strategic equivalence theorem in auctions. Does Dutch or English Auction generate more seller revenue if bidders are risk averse in independent private-value auctions?

Question 3d (7%): Visit and describe its revenue model. What are its revenue levers? Give one specific suggestion to improve the model.

Question 4 (20%)

Sears Tires is interested in measuring consumers’ tradeoffs among the following attributes of a tire: Brand (Sears, Goodyear, and Goodrich), Miles (30K, 40K, and 50K), Price ($50, $60, and $70), and Sidewall (White and Black).

A group of 400 retail customers and a group of 50 business customers were asked to rate a set of 18 product profiles on a 10-point scale and their ratings were used to construct customer utility equations for both retail and business customers:

Utility Equation for Retail Customer (70% of the Total Market)

Utility Equation for Business Customer (30% of the Total Market)

a. Which brand has the highest brand equity for the retail market? Which customer segment is more price-sensitive? (4%)

b. If the products available in the market are (Sears, 30K, $50, Black), (Goodyear, 40K, $70, White), and (Goodrich, 30K, $50, Black), which brand is likely to have the highest market share in the business market? (4%)

c. If the market share of a product in the retail and business markets are predicted by the following equations respectively:

where Ui is the utility of product i and Uj is the utility of any product j available in the market. Compute the aggregate market share for Sears. (4%)

d. Sears is considering three price options for a new and improved product: (Sears, 50K, $50, White), (Sears, 50K, $60, White) or (Sears, 50K, $70, White). Assume Sears replaces the old product (Sears, 30K, $50, Black) with the new one. If the marginal cost is $25 and the total market size is 2 million units per year, which price option should Sears adopt in order to maximize its annual profits? (Note that the same product serves both the retail and business markets). (8%)

Question 5: Cambridge Software Corporation (CSC) (20%)

Analyze the CSC case with the following demand, cost, and willingness to pay (WTP) estimates for the Modeler software. Note that we now have three instead of five customer segments. Also we have a different set of cost and WTP estimates. Like before, the firm sells directly to small businesses and large corporations but uses bookstores to reach students and pays the stores a commission of 40%.

| | | |"Student" |"Professional" |"Enterprise" |

| | | | | | |

|Product Development Cost | | |$300,000 |$400,000 |$500,000 |

| | | | | | |

|Variable Cost Per Unit | | |$15 |$20 |$30 |

| | | | | | |

|Market Segment |Size |Segment | |Willingness to Pay | |

| | |Dev. Cost | |(Per Unit) | |

| | | | | | |

|Large, Multidivisional |25,000 |$450,000 |$500 |$1,000 |$2,000 |

| Corporations | | | | | |

| | | | | | |

|Small Businesses |50,000 |$350,000 |$200 |$400 |$600 |

| | | | | | |

|Students |500,000 |$250,000 |$100 |$150 |$200 |

| | | | | | |

a. If CSC offers only one version of Modeler, which version should it offer and at what price? What is the total surplus generated by the offering? (10%)

b. Should the firm offer more than one version of Modeler? If so, which versions should it offer and at what prices? What is the incremental profit for the firm? (10%)

Bonus Question (5%)

Each of you in the class (62 altogether) should pick a real number between 0 and 100. Define the lucky number to be 0.7 times the group average (the average is calculated as the average of the numbers picked by all of you). Five bonus points will be awarded to the student whose number is the closest to the lucky number (if there are more than one student who are equally close, the five bonus points will be divided evenly among them).

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