CHAPTER 3

FINANCIAL ANALYSIS IN PRICING

 The learning goals of the chapter

✓ General understanding of financial analysis in pricing: constraints in pricing,

purposes of financial analysis, and prerequisites for financial analysis in
pricing.

✓ Understand and apply financial analysis approaches in pricing.

Constraints and purposes of financial analysis

Constraint conditions: Optimal integration between internal and external

conditions
• Inside: cost, profit
• External: customers, sales volume
Purpose of financial analysis
• Quantitative assessment of the profit potential of proactive price changes
• Assess the ability to be profitable under the impact of cost changes and to
respond to competitors' price changes
Prerequisites for financial analysis in pricing

• Establish the basis or standard

of measurement: Sales and
profits at current prices
Determine the sales that need
• Change the price: Set a new
to change to be profitable with
price
changes in price and costs
• Determine the cost change
associated with the price
change
Increased break-even analysis

The goal is to calculate the minimum sales required to at least maintain the
same contribution as before the price change.

The question needs to point out:

• Sales increase (how many products sold) in order to make a profit when
reducing prices
• Sales (how much the sales decrease) so that when the price increases, it
still makes a profit
• Find ∆Q where profits are balanced before and after the price change
Approaches in financial analysis

1. Break-even sales analysis – base case: Price changes, costs no change

2. Break-even sales analysis: Price change, variable cost change

3. Break-even sales analysis: Price changes and fixed costs add up

4. Break-even sales analysis: Price, fixed cost, and variable cost all change
Building formula

C
A D
E

0
Determine sales volume change to achieve
target profit on price change
Assumption:
• Total fixed costs remain the same

• Variable cost of a fixed product

%q: Rate of change in sales volume when price changes

ΔP: Price change = P' – P (P: old price, P': new price)

CM: Contribution margin = P - AVC

Exercise

ABC Joint Stock Company specializes in manufacturing vacuum cleaners.

In 2017, the company sold 4000 products with the price of 3 million

VND/product. The average variable cost to manufacture one vacuum

cleaner is 1.4 million VND. In 2018, to increase sales volume the company

plans to offer a 5% discount to wholesalers.

Determine the number of products needed for the company to reach its

pre-rebate level of contribution.

Exercise

Answer: To determine the number of products needed for the company to reach
its pre-rebate level of contribution, we use the following formula:
Delta Q = -Delta P*Q0/(CM + Delta P)
Delta P = P1-P0 = 0.95*P - P = - 0.05*3.000.000 = -150.000
CM = P-AVC = 3.000.000 – 1.400.000 = 1.600.000
Q0 = 4000
Delta Q = 4.000*150.000/(1.600.000 - 150.000) = 413.7 (414 units)
Q1 = Q0 + Delta Q = 4.000 + 414 = 4414 units
Therefore, the company needs to sell 4414 units in 2018 to reach its pre-rebate
level of contribution.
Exercise
Answer 2:
To determine the number of products needed for the company to reach its pre-rebate level of contribution, we need to calculate the
contribution margin (CM) per unit, which is the difference between the selling price per unit and the variable cost per unit.
CM = Selling price per unit - Variable cost per unit = 3 million VND - 1.4 million VND = 1.6 million VND
Using this CM, we can calculate the total contribution for 2017 as follows:
Total contribution = CM x Q = 1.6 million VND x 4,000 = 6.4 billion VND
Now, to determine the number of products needed for the company to reach its pre-rebate level of contribution, we need to factor in the 5%
discount to wholesalers that the company plans to offer in 2018. This means that the company will receive only 95% of the selling price for
each unit sold in 2018.
New selling price per unit = 95% of 3 million VND = 2.85 million VND
The new contribution margin per unit can be calculated as follows (no change in variable cost):
New CM = New selling price per unit - Variable cost per unit = 2.85 million VND - 1.4 million VND = 1.45 million VND
To calculate the number of products needed for the company to reach its pre-rebate level of contribution, we can use the following formula:
Number of units sold = Total contribution / Contribution margin per unit
Plugging in the values we have calculated, we get:
Number of units sold = 6.4 billion VND / 1.45 million VND = 4413.79
Rounding up to the nearest whole number, we get:
Number of units needed = 4414
Therefore, the company needs to sell 4414 units in 2018 to reach its pre-rebate level of contribution.
Building formula

Before price change contribution (profit) = (P - AVC) x Q

After changing the price contribution level (profit) = (P'- AVC) x Q'

′
𝑃 − 𝐴𝑉𝐶 × 𝑄 = 𝑃 − 𝐴𝑉𝐶 × 𝑄’
′ ′
𝑃 = P + ∆𝑃; 𝑄 = 𝑄 + ∆𝑄
𝑃 − 𝐴𝑉𝐶 × 𝑄 = 𝑃 + ∆𝑃 − 𝐴𝑉𝐶 × 𝑄 + ∆𝑄
∆𝑄 ∆𝑃
𝑄
=- (𝑃+∆𝑃−𝐴𝑉𝐶)

∆𝑃
% change in sales volume break-even = - 𝐶𝑀+∆𝑃
Determine the change in sales volume when price changed,
fixed costs unchanged, variable costs changed

Assumption:
Contribution level lost
due to discount
• Price changed
Contribution level
• Fixed costs unchanged is not affected
Contribution level increased
because of increased sales
• Average variable cost
Contribution level received due to
change in variable cost
changed
Additional variable cost
Determine the change in sales volume when price changed,
fixed costs unchanged, variable costs changed
Assumption:
• Price changed

• Fixed costs do not change

• Average variable cost changed

− (∆𝑃− ∆𝐴𝑉𝐶) − ∆𝐶𝑀
∆𝑞 = 𝑥 𝑄= 𝑥𝑄
𝐶𝑀+(∆𝑃 −∆𝐴𝑉𝐶) 𝐶𝑀𝑛𝑒𝑤

− (∆𝑃 − ∆𝐴𝑉𝐶) − ∆𝐶𝑀

%∆𝑞 = =
𝐶𝑀 + (∆𝑃 − ∆𝐴𝑉𝐶) 𝐶𝑀𝑛𝑒𝑤
Building formula

Before price change contribution (profit) = (P - AVC) x Q

After changing the price contribution level (profit) = (P'- AVC') x Q'
𝑃 − 𝐴𝑉𝐶 × 𝑄 = 𝑃′ − 𝐴𝑉𝐶′ × 𝑄’
𝑃′ = P + ∆𝑃; 𝑄′ = 𝑄 + ∆𝑄; AVC’ = AVC + ∆AVC
𝑃 − 𝐴𝑉𝐶 × 𝑄 = 𝑃 + ∆𝑃 − 𝐴𝑉𝐶 − ∆AVC × 𝑄 + ∆𝑄
𝑃 − 𝐴𝑉𝐶 × 𝑄 = 𝑃 − 𝐴𝑉𝐶) X 𝑄 + (𝑃 − 𝐴𝑉𝐶) X∆𝑄 + (∆𝑃 − ∆AVC × 𝑄 + ∆𝑄
𝑃 − 𝐴𝑉𝐶) X∆𝑄 + ∆𝑃. 𝑄 + ∆𝑃. ∆𝑄 − ∆AVC 𝑄 + ∆𝑄 = 0
(𝑃−𝐴𝑉𝐶).∆𝑄+∆𝑃.𝑄+∆𝑃.∆𝑄−∆AVC.𝑄−∆AVC.∆𝑄 = 0
(𝑃−𝐴𝑉𝐶).∆𝑄/Q+∆𝑃+∆𝑃.∆𝑄/Q−∆AVC−∆AVC.∆𝑄/Q = 0
Building formula

(𝑃−𝐴𝑉𝐶).∆𝑄/Q +∆𝑃.∆𝑄/Q −∆AVC.∆𝑄/Q = - ∆𝑃 + ∆AVC

∆𝑄/Q = - ∆𝑃 + ∆AVC / 𝑃−𝐴𝑉𝐶+∆𝑃−∆AVC
∆𝑄/Q = - (∆𝑃 - ∆AVC) / CM+∆𝑃−∆AVC

− (∆𝑃 − ∆𝐴𝑉𝐶) − ∆𝐶𝑀

∆𝑄/Q = =
𝐶𝑀 + (∆𝑃 − ∆𝐴𝑉𝐶) 𝐶𝑀𝑛𝑒𝑤
− (∆𝑃− ∆𝐴𝑉𝐶) − ∆𝐶𝑀
∆𝑄 = 𝑥 𝑄= 𝑥𝑄
𝐶𝑀+(∆𝑃 −∆𝐴𝑉𝐶) 𝐶𝑀𝑛𝑒𝑤
Exercise

ABC Joint Stock Company specializes in manufacturing vacuum cleaners.

In 2017, the company sold 4000 products with the price of 3 million
VND/product. The average variable cost to manufacture one vacuum
cleaner is 1.5 million VND. In 2018, to increase sales volume the company
plans to offer a 5% discount to wholesalers.
The company increased sales at the same time by changing suppliers, so
variable costs decreased by 5% for a product. In this case, what quantity of
sales is needed to reach the same level of profit as before the change in price
and variable costs.
Example
Determine the change in sales volume when
fixed costs change

Assumption:
• Total fixed cost changed
• Average variable cost unchanged
• Price unchanged
∆𝑇𝐹𝐶 ∆𝑇𝐹𝐶
∆𝑄 = =
𝑃 −𝐴𝑉𝐶 𝐶𝑀

∆𝑄 ∆𝑇𝐹𝐶
=
𝑄 𝐶𝑀 × 𝑄
Determine how sales volume changes as price changed,
fixed costs changed, and variable costs unchanged

Assumption:
• Prices changed
• Total fixed cost changed
• Average variable cost unchanged
−∆𝑃 ∆𝑇𝐹𝐶
∆𝑄 = 𝑥Q+
𝐶𝑀 + ∆𝑃 𝐶𝑀 𝑛𝑒𝑤

−∆P ∆TFC
%∆Q = +
CM + ∆P CM new x Q
Determine the additional volume change when price
changes, fixed costs change, and variable costs change
Assumption:
• Prices changed
• Fixed cost changed
• Average variable cost − (∆P − ∆AVC) ∆TFC
∆Q = xQ+
changed CM + (∆P − ∆AVC) CM 𝑛𝑒𝑤

−∆CM ∆TFC
∆Q = xQ+
CM 𝑛𝑒𝑤 CM 𝑛𝑒𝑤

−∆CM ∆TFC
%∆Q = +
CM 𝑛𝑒𝑤 CM new x Q
Applying in pricing management

Decide to change the price (increase or decrease)

• Competitive goals
• Encourage customers to buy more
• Price discrimination according to the quantity purchased by the
customer
Example: calculating the impact on profit

If the price change is reduced by 5%, the variable cost of a product remains
the same, and the fixed cost does not change.
• Consumption volume: 4000sp
• Wholesale price: 200,000 VND/p
• Income: 800,000,000 VND
• CPBD 1 product: 110,000 VND/p
• Production capacity of 4000 products, knowing that to expand the
production scale by 1000 products, an additional investment of
16,000,000 VND is required.
How much of the product needs to change to reach the target compared to
before the discount? The following discount options can be achieved?
Analysis break-even sales increased with 5% discount

Breakeven sales change summary Before price change Suggested price change

Price (VND/p) 200.000 190.000

% price change -5%

Contribution/p (VND/p) 90.000 80.000

% contribution 45% 42%

Change in Break Even Sales (%) 12.5%

Change in Break Even Sales (p) 500

Total sales (p) 4.000 4.500

Total contribution 360.000.000 360.000.000

Options to change break-even sales with 5% discount

% change of actual Change in Change in contribution level Additional fixed Change in total profit
Plan
sales volume actual sales (P) after price change (VND) costs (VND) after price change (VND)

1 0,0 0 -40.000.000 0 -40.000.000

2 5,0 200 -24.000.000 16.000.000 -40.000.000

3 `10,0 400 -8.000.000 16.000.000 -24.000.000

4 12,5 500 0 16.000.000 -16.000.000

5 17,5 700 16.000.000 16.000.000 0

6 20,0 800 24.000.000 16.000.000 8.000.000

7 25,0 1.000 44.000.000 16.000.000 24.000.000

8 30,0 1.200 56.000.000 32.000.000 24.000.000

9 40,0 1.600 88.000.000 32.000.000 56.000.000

Chapter 3 exercises

ABC Company specializes in manufacturing audio-visual equipment for home

use. One of the company's most famous products is the DVD player.
• Current sales volume: 4,000 units
• Current price: 5 million VND/piece
• Average variable cost: 2.25 million VND
• Production capacity is limited to 5,000sp/year
The company estimates that next year sales will increase to 4,800 units at current
prices. However, to compete, the company plans to reduce prices by 5% next year.
At the same time, the company also calculates that to increase 1000 products, the
additional investment in machinery and equipment is 300 million VND.
Question: Determine the number of products to add to the business to achieve the
same profit as before the 5% discount.
Chapter 3 exercises

Q0: 4800 units (production capacity 5000 units)

P0: 5 million VND
Q1=?
P1= 5 million x 0.95 = 4.75
Delta TFC = 300 million (1000p extra)
AVC0 = 2.25 million
Determine the change contribution, the number of products that need to be
increased by the above product when the price is reduced by 5%.
Solution:
−∆𝑃 ∆𝑇𝐹𝐶 −(4,75 −5) 300
∆𝑄 = 𝑥 𝑄+ = 𝑥 4800 + = 480 + 120 = 600 products
𝐶𝑀+∆𝑃 𝐶𝑀 𝑛𝑒𝑤 5−2,25+4,75 −5 4,75−2,25

Q2 = 5400 products
Chapter 3 exercises

Company ABC specializes in manufacturing small capacity water pumps for

home use with current consumption of 10,000 products/year with a total
fixed cost of VND 5 billion and an average variable cost of VND 0.7 million.
copper. The selling price of the product to the market is 1.5 million VND.
1. Since a change in raw material prices increases variable costs by 7%, the
company decides to increase selling prices by 2% next year. Determine
the level of sales required for the company to achieve the same
contribution as before the price increase and variable cost increase.
2. From the results of sentence 1, if fixed costs increase by 100 million, how
many products should the business need to sell to achieve the target
compared to before the change..
 References of chapter 3

Nagle, T.T. Holden, R.K, “The strategy and tactics of pricing- A

guide to profitable decision making”, Chapter 3.

Vũ Minh Đức, “Quản trị giá trong doanh nghiệp”, NXB Đại học
Kinh tế Quốc dân, 2019, Chapter 3.
 Thank you
for listening
Please do not hesitate to ask questions!