Pricing Strategy: Price Elasticity of Demand Example

This is part 5 of our series on Pricing Strategy. Previous segments are available on our archives page

Price Elasticity of Demand

Today, let’s see how the price elasticity of demand comes into effect for my hypothetical company, Doug’s Desserts. I decided in an earlier example to price my chocolate chip cookies at $7.00 per dozen. Suppose that at this price, I’ve been selling 500 dozen per month, but I think I might be overpriced and can sell a lot more cookies if I lower my price a dollar. After dropping my price from $7.00 to $6.00 per dozen, I’ve started selling 750 dozen per month.

demandcurve

Plugging these values into the equation from yesterday, I find that my cookies have an own-price elasticity of demand of -3.5.

Price Elasticity of Demand Equation

This means that demand for my cookies is elastic, which is probably not surprising because there are lots of close substitutes for my chocolate chip cookies and cookies, particularly premium ones, are not a necessity. Because demand for my cookies is elastic, this price change generated more monthly revenue for my business.

Price Quantity Revenue
$7.00 500 $3,500
$6.00 750 $4,500

 

Next week we will continue the pricing strategy conversation by looking at tiered pricing, discounts, and promotions.

Recipe of the day: Cook’s Illustrated Spiced Pumpkin Cheesecake (free trial / subscription required; I do not receive any compensation for this link)