Suppose as a manager of a profitable department store you are confronted with a

Question

Suppose as a manager of a profitable department store you are confronted with a pricing problem. You have two types of customers: a high-end type that are willing to pay a price of $25 for a pair of Levis Jeans, and a low-end type customer that are willing to pay a price of $15 for the same pair of jeans. Your marginal costs are $13 per jeans. Your survey of your customers for jeans tells you that 60% of your customers are of the high end type and 40% are of the low end type. (please show your work!)

(a) If you decided to price high, what would be your expected profits per unit?

(b) If you decided to price low, what would be your expected profits per unit?

(c) Which pricing will you choose, based on the expected pricing per unit?

Explanation / Answer

(a) If you decided to price high, what would be your expected profits per unit?

If you price high, only 60% will buy. So the expected profit would be:

Profit = (Price - Unit cost) x .60 x C

= (25 - 13) x .6 x c = 7.2C --- This means of the total customers, you would make $7.2 dollars for each one.

(b) If you decided to price low, what would be your expected profits per unit?

If you price low, only 100% will buy. So the expected profit would be:

Profit = (Price - Unit cost) x .60 x C

= (15 - 13) x 1.0 x c = 2C --- This means of the total customers, you would make $2 dollars for each one. This is also making an assumption that the "high" end customers will still purchase the lower cost jeans which some may not due to their perception.

(c) Which pricing will you choose, based on the expected pricing per unit?

In this case, choose the higher priced model. The extra cost more than offsets the lower demand

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