Unit :- Pricing Decision

1. Unit :- Pricing Decision (20 marks)

2. Pricing methods and strategies • General considerations and objectives of pricing policy.

3. General consideration for pricing policy. • What is a price? -- price is the amount of money charged for the good or service. -- for seller it gives revenue. -- for buyer it gives value for its money (because in return they get what they want.)

4. It is most important device firm can use to expand its stay in the market. • It is a complex decision. why ???????? --if price is too high seller may put himself out of the market. -- if price is too low he may end up making loss. • Does price remain fixed once it is fixed ?? -- NO. the prices had to be reviewed and reframed according to the changes taking place in the market.

5. Are seller and buyer are the only important parties taken into consideration while framing the price???? • NO. there are parties like rival firms, potential competitors,middlemen,government etc

6. What are the factors determining price?? OR What are the general considerations for pricing policy

7. Objectives of business-pricing in any firm is mean to achieve the overall objectives of the firm. sometimes firm may seek to maximize profit, or may aim to have huge market share or survival or sales maximization etc but whatever goal they choose should be profit oreinted.generally a target rate of profit is fixed and pricing policy is accordingly fixed.

8. 2) Nature of the competition-in perfect competition no pricing policy is required. • Imperfect competition-price maker & thus following factors to be considered • Number, relative size & product line of the competitors i.e. (degree of closeness of substitute products supplied by rivals.) • Potential competition. • Degree of product differentiation

9. 3) Pricing policy as a routine matter-firm may have their own definite price policy or may adopt mechanical formulae(prices prevailing in the market for similar kind of products) 4)Conflicting interest of manufactures/middlemen-the manufacturer may wish that middlemen (retailer or wholesaler ) may sell commodity at lower markup. Whereas the middlemen may wish to settle for large margin to sell enough goods.

10. 5) Promotional policies-promotional policies and efforts are as important as price thus the firms pricing policy must be accompanied by promotional policies to get better results. 6)Long range welfare of the firm-prices should be fixed such that it promotes long range welfare & well establishment in the market. prices should be such that it discourages new entries in the market through their low pricing policy.

11. Objectives of pricing policy • To maximize Profits-the primary objectives of a firm is to maximize its profits and therefore pricing policy should be such that it give the firm maximum revenue & thus the maximum profits. • Price stability-prices should not fluctuate (change) too often then only firm will be able to earn confidence of its customers.

12. Facing competitive situation-the firm should fix the price of the product keeping his competitors price in mind & also considering potential competitors. • Capturing the market-the firm may fix comparatively low price initially when he enters into the market to get settled in the market. • Achieving a target return-mostly done by reputed firm. Price of the product is calculated in such a way to earn the target return on the investment done.

13. Ability to pay-price decision are sometime taken based on the ability of the consumer to pay the price.(higher price for rich and lower price for the poor).this policy is used by professionals providing services. For example- doctors, lawyers, teachers etc. • Long run welfare of the firm-firms with futuristic outlook fix the price of the product considering the future interest of the firm & market prospective in the mind.

14. Pricing methods and strategies • Cost based pricing-According to cost based pricing, the price is determined by the cost of production with some profit margin. • Cost plus pricing • Marginal cost pricing • Target return pricing

15. 1)Cost plus pricing • Most common method • under this method, cost of product is estimated and a margin of some kind of profit margin or markup is added on the basis of which the pricing is determined. • Price is calculated as price= AC + Profit Margin

16. A firm produces 5000 units of commodity X at the total fixed cost of Rs.20,000 & total variable cost is Rs.30,000. Find the price which the firm would charge from its customers if it wants to make a net profit margin of 15% on cost. The firm uses marginal cost pricing method. Formula :- price= AVC + profit margin

17. Solution:- a) Quantities = 5,000 units b) Total Fixed cost =Rs.20,000 Thus Average Fixed Cost= TFC =20,000 = Rs.4 Q 5000 c) Total Variable cost= Rs. 30,000 Thus Average Variable cost=TVC =30,000=Rs.6 Q 5000

18. Thus Average total cost= AFC +AVC =Rs.4 +Rs.6 = Rs.10 Now find out net profit margin i.e 15% of ATC or AC Thus 15 x 10 = Rs.1.50 100 There fore the price of the commodity is Rs.10 (ATC) + Rs.1.50 = Rs.11.50

19. Technologies Pvt.has invested Rs.10 crore in plant & machinery ,with a capacity to produce 10,000 units of television per month.Total variable cost is estimated at Rs.5 crore & the firm expects a return of 20% on total investment. what should be the price of television if we suppose that the firm can sell its entire output.

20. TC=TFC + TVC =10 cr+ 5 cr = Rs.15 cr TR= P x Q = Rs.18000 x 10,000 = Rs.18 cr Profit= TR – TC =Rs. 3cr

21. Advantages • Fair method • Easy application • Uncertainty of demand • Stability • Economical • Protects firms against price wars • Product tailoring

22. disadvantages • There is no reciprocity between cost and demand for the goods • Failure to show forces of competitions • Based on cost concept

23. Marginal cost pricing-Here the price of the product is determined on the basis of variable cost • when demand is slack(low) and market is highly competitive ,full cost pricing method may not be adopted. • an alternative to this method would be to fixthe price on the basis of variable cost instead of full cost. • under marginal cost pricing ,price of the product is the sum of variable cost plus profit margin. • Price=(AVC+ Profit margin)

24. Firm adopt this method when a • Firm wants to introduce its product into new market. • Firm faces stiff competition in the market. • Firm has unutilized capacity.

25. Advantages • This method is very useful to beat the competitors because of lower price. • Used by the firms to enter the new market. • Retailers adopt these method on seasonal items that have gone out of date.for example-umbrellas,winter coats etc. • It is also useful in case of goods of public utility where profitability is not the objective.

26. Limitations • Marginal cost pricing cannot be adopted as long term strategy because it will lead to price cut by all the sellers. • It can be used only as short term pricing strategy. • It does not cover the full cost of production. • In period of recession marginal cost pricing method is not useful it will lead to price cut by all the sellers.

27. Target return pricing • It is the minimum rate of return which must be earn by the product. • under this method the prices are determined along a planned rate of return on investment. • for example-a firm may set its price of the product in order to get on an average a 12 percent return on net investment.

28. Steps involved • To estimate the normal rate of production & total cost. • The total cost of a years normal production is then taken as a basis of standard cost. • To estimate capital turnover ratio is computed as (invested capital/total cost). • The markup percentage of profit margin is obtained by multiplying capital turnover with the expected rate of return on investment. • Suppose the capital turnover is 0.6 lakh and expected rate of return is 30 percent . • Then % markup=0.6 x 30 = 18 percent. • Percentage markup on cost = capital employed /total annual cost X planned rate of return.

29. Competition based pricing 1) Penetration pricing-When a firm plans to enter a new market which is dominated by the existing players,its only option is to charge a low price, even lower than the ongoing price. This price is called penetration price. It is due to the fact that consumers may buy the product at a low price. • In case of low penetration price, profits may arise in the long run. • One advantage is that, it is possible for the product to establish itself firmly in the market. If the price is raised afterwards, the demand is not going to fall.

31. 2) Entry deterring price Under entry deterring pricing the price is kept low,thus making the market unattractive for other players. • the objective is to keep rivals away from entering into the market with substitute products.the low price prevents competition. • If the price is set low,the margin of profit is also low and thereby new comers are not going to enter into the market.a low price is advantageous when the productive capacity of the plant is high.alow price is sure to capture the entire market and production price is profitable because large quantity can be sold.

32. 3) Going rate pricing-no separate pricing but prefer to follow prevailing market price. • prices are fixed by dominant firm and other firms accept its leadership and follow that price. • firms do not want to enter into price war. secondly small or new firms may not be sure of shift in demand by charging a price different from prevailing market price.thirdly the products sold by the players are very close substitutes,hence their cross elasticity is very high.

34. Product life cycle

35. Product life cycle based pricing refers to different pricing for a product at different stages of its lifecycle. • Price skimming-skimming price means high price of the product in the beginning which is coupled with heavy promotional expenses. • When an entirely new product is introduced the firm may set the price at a relatively higher level.

36. It takes the advantage of consumers who are willing to pay the high price in order to be the first users of the new product. • High price is set because the new product may soon be imitated by other firms. & number of buyers wishing to buy this product at high price may diminish.

37. Product bundling • Two or three products are bundled together for a single price. • Strategy adopted at maturity stage when demand starts at falling and product also starts losing its attraction. Advanatges-1)it saves cost of spreading awareness 2) It captures part of consumer surplus,since the consumer gets the satisfaction of additional good at no extra cost.

38. A packaged product starts gaining customers in this phase. • For ex:-a tourist agency would charge only airfare which would include hotel stay,sight seeing etc. • Hotels providing breakfast or drinks as part of room tariff.

39. Perceived value pricing • According to perceived value pricing, value of goods for different consumers depends upon their perception of utility of that good. • These pricing is also known as psychological pricing • Many people believe that higher the price,good is the quality of the product.

40. It is normally adopted at growth & maturity stage so as to differentiate the product from its competitors product. • For ex:- Titan watches, Tanishqjewellery & parker pens are some brands which have adopted these strategy.

41. Loss leader pricing • These strategy is adopted by companies producing or selling multiple products & products which are complementary. • It is assumed that buyers would buy multiple products of same company. • In this case firm charge low price for the good which is durable & has high value(printer) & high price to for the product which is consumable & has low value and has recurring demand( cartridge)

42. Peak load pricing • Here the consumers are segregated on basis of time segments. • Different prices are charged for the same facility used at different points of time by the same consumers. • Time zone is divided as peak load paying higher price & off peak load paying lower price.

43. Sealed bid pricing • In this kind of pricing method buyer doesnot prefer open market price but demands that the seller provide their rates in sealed form commonly known as tenders. • In this pricing buyer makes a demand to a large number of qualified firms to provide a product or services & the sellers make their offer under sealed cover.

44. Cyclical pricing • There are seasonal and cyclical factors that influence prices. • When pricing is based on an assessment of general economic environemnt it is known as cyclical pricing. • In a condition of boom it will increase its price. • In the condition of recession it will decrease its price. • Cost might remain same.profit margin is adjusted

45. Rigid pricing-according to these approach companies should follow stable pricing policy. • Flexible pricing-prices should be changed according to market conditions.

46. Administered pricing • Those are the prices which is decided & arbitrarily fixed by the govt. • Not decided as per demand & supply forces. • For ex:-prices of foodgrains,kerosene rationing etc. • Govt may aim at changing the pattern of consumption through this pricing system. • To make public revenue. • To ensure equitable distribution of scarce resources.

47. Retail pricing • The total price charged for a product sold to a customer, which includes the manufacturer's cost plus a retail markup.

48. Everyday Low Pricing • Low price is charged throughout the year and none or very few discounts are given on special occasions. • Possible only when retailer is large in size. and can reap the benefits of economies of scale. • Possible when overhead expenses are less. • example-Wal-Mart ,Big bazaar etc.

49. High/Low Pricing • These method involve high prices on regular basis coupled with temporary discount days as promotional activity. • Here prices are high most of the time but discount prices are low then EDLP prices. • These method is adopted by the firms that have high overhead expenses & cant afford every day low pricing. • For ex:-Tanishq offering discount on diamond jewellery

50. Multi product pricing • There are firms who produce a large number of goods which have some kind of interdependence either in terms of production or of demand. • Firm producing multi product with the same production facility needs to decide on pricing on a different pattern then the firm producing products a single product.