Cost as a determinant of price
“You’re our food guy. How can they do that? asked Kevin Gustafson to Dominick Carbonne, the Director of Operations for the seven-unit Brooklyn Pizza House restaurants. The Brooklyn Pizza House was known for its midpriced, but very high quality, New York-style pizza. Located near the main campus at State University, its target market was the students attending the University. The marketing programs created by Kevin, the chain’s director of marketing, were clever and effective. Business and profits were good. But now they were discussing the new $5.99 pizza promotion that had just been rolled out by their major competitor.
“They changed their cheese topping formulation Kevin,” replied Dominick.
“They increased their use of pizza cheese by another 25 percent. One of my buddies works in their central production kitchen. That’s where they process and prepackage the ingredients for delivery to the stores. She says they changed their 75/25 mozzarella/ pizza cheese ratio to a 50/50 ratio. We still use 100 percent mozzarella.
Why would they do that?” asked Kevin.
“Well,” replied Dominick “the increased use of corn for ethanol production in this country may be good for gas prices, but it’s made the price of dairy cattle feed skyrocket. Add to that a continued drought in Australia that has limited their contribution to the world market and you now have about a 40 percent increase over last year’s cheese prices. Pizza cheese is a processed, pasteurized cheese food. Melts O.K., but it can’t compare to real mozzarella. Actually, it can contain as little as 51 percent real cheese. Using a Higher percentage of pizza cheese means a lower per-pizza cost. That’s how they can reduce the price of their large pizza to $5.99. I have been considering an increase in our own pizza prices just to maintain our profit levels.”
“Whoa!!! We need to talk about that first. When they were at $6.99 and we were at $7.99 for the same size, we were still O.K.,” said Kevin. “But now, since they reformulated, reduced their price, and are at $5.99, I think they are really going to cut into our sales. That’s a major problem. If we raise our prices now, that could absolutely kill us in the marketplace.”
- How large a role do you believe “costs” played into the decision of this competitor to reduce its pizza prices?
- Do you think “increased cheese costs” have directly reduced the quality of pizza sought by the students at the university? What is your general assessment of the wisdom of the “reduced costs and reduce price” strategy as used by this competitor? Would your opinion change if you knew that, in the near future, the cost of cheese would be reduced to its normal levels?
- Assume you were the RM of Brooklyn Pizza House. What specific price-related decision-making challenges do you now face? How would you respond to them?