Strategies to Determine

Optimal PricesEntrepreneurship 1 ~ 5.02 B

Return on Investment

• When you make investments, you have the potential to make money (called a return). Money in a bank account pays interest, which is your return. 

• Return on Investment (ROI) - is a measuring tool investors use to see how well their investment in a particular company is faring — and to help them make that important decision to sell a stock and move on or to stick with it. 

Calculate ROI

The formula is: ROI = R – I x 100R = Money received after making the investment.I = Original money invested.

• Example: John invests $100 in a mutual fund for one year. At the end of the year he has $108. What was his return on investment?

• Answer: 108-100 = 8. 8/100 = .08 .08 * 100 = 8%

Mark-up

• An amount added to a cost price in calculating a selling price, especially an  amount that takes into account overhead and profit.

•  A widget bought for $5 and sells for $10 has a mark-up of 100%. (Add $5 to the $5 cost to get the price.) A widget bought for $2, which sells for $3, has a mark-up of 50%, (Add $1 to the $2 cost to get the price.)

Markup Formulas

• Mark-up Formula:

Cost + Markup = Retail Price• Markup based on Cost Formula:

$MU/C=MU% based on Cost• Markup based on Retail Price Formula:

$MU/RP=MU% based on Retail Price

Pricing Floors

• A price floor is the lowest legal price a commodity can be sold at. Price floors are used by the government to prevent prices from being too low. The most common price floor is the minimum wage--the minimum price that can be paid for labor.

• A price floor creates excess supply if the legal price is above the market price. Suppliers are willing to supply more at the price floor than the market wants at that price.

Price Ceiling

• A price ceiling occurs when the government puts a legal limit on how high the price of a product can be.

• The intended goal of price ceilings is to protect consumers from rapid price increases and price gouging.

• Most price ceilings involve the government in some way. For example, in many cities, there are rent controls. This means that the maximum rent that can be charged is set by a governmental agency.

• A price ceiling creates a shortage when the legal price is below the market equilibrium price, but has no effect on the quantity supplied if the legal price is above the market equilibrium price.

Estimating Product Demand

• One of the reasons that companies use demand estimation is to assist with pricing. When you offer a new product or start a new business, you may not have any idea how to price your product. When you have an idea of what the demand will be for the product, you know approximately how much you have to price the product. 

Supply and Demand

• Supply represents how much the market can offer. The quantity supplied refers to the amount of a certain good producers are willing to supply when receiving a certain price. 

• Demand refers to how much (quantity) of a product or service is desired by buyers. The quantity demanded is the amount of a product people are willing to buy at a certain price; the relationship between price and quantity demanded is known as the demand relationship.

Price, therefore, is a reflection of supply and demand.