The price the firm charges will be somewhere between on that is too low to produce a profit and one that is too high to produce any demand.
General pricing approaches
The price the firm charges will be somewhere
between on that is too low to produce a profit and one that is too high to
produce any demand. Product costs set a floor to the price and consumer
perceptions of the product’s value set the ceiling. The firm must consider
competitors’ prices and other external and internal factors to find the best
price between these two extremes. Firms set prices by selecting a general
pricing approach that includes one or more of these three sets of factors. Let
us examine the following approaches:
Buyer-based approach, and
The simplest pricing method is
cost-plus or markup pricing - adding a standard markup to the cost of the
product. Markups vary greatly among different goods. Some common markups (on
price, not cost) in supermarkets are 9% on baby foods, 14% on tobacco products,
27% on dried foods and vegetables and 50% on greeting cards.
Markups are generally higher on
seasonal items (to cover the risk of not selling) and on specialty items,
slower moving items, items with high storage and handling costs and items with
inelastic demand. It must be noted that any pricing method that ignores current
demand and competition is not likely to lead to the best price. Hence markup
pricing only works if that price actually brings in the expected level of
It covers all the costs
It is designed to provide the target rate of margin
It is generally a rational and widely accepted
It is an easy to comprehend and simple method
The cost calculations are based
on a predetermined level of activity. If the actual level of activity varies
from this estimated level, the costs may vary, rendering this method
If the costs of the firm are
higher than its competitors, this method would render the firm passive in relation
Another drawback is that
sometimes the opportunity to charge a high price is foregone.
ignores the price elasticity of demand.
The cost-based pricing would not
be helpful for some of the objectives or tasks like market penetration, fighting
competition and so on.
imparts an in-built inflexibility to pricing decisions.
Another cost-based pricing
approach is break even pricing, or a variation called target profit pricing.
The firm tries to determine the price at which it will break even or make the
target profit it is seeking.
An increasing number of firms are
basing their prices on the product’s perceived value. Perceived-value pricing
uses buyers’ perceptions of value, not the seller’s cost, as the key to pricing.
The company uses the non-price variables in the marketing mix to build up
perceived value in buyers’ minds. Price is set to match the perceived value. A
company using perceived-value pricing must find out what value buyers assign to
different competitive offers.
Sometimes consumers are asked how
much they would pay for each benefit added to the offer. If the seller charges
more than the buyers’ perceived value, the firm’s sales will suffer. Many firms
overprice their products, and their products sell poorly. Other firms
under-priced products sell very well, but they produce less revenue than they
would if prices were raised to the perceived-value level.
Many firms follow the dominant competitors, particularly the price
leader, in setting the price. The main advantages of this method are:
1. It is a
very simple method
follows the main market trend
3. It has
relevance to the competitive standing of the firm
to the going price will prevent harmful price wars
disadvantages and limitations of following competitors are:
If the competitors’ price
decisions are unrealistic, the follower will also be going wrong on the price
The cost factors of the follower
may not be similar to that of the competitors’
The pricing objective of the firm
could be different from that of the competitors’
the competitor may initiate price change for wrong reasons
approach may take the form of going-rate pricing or sealed-bid pricing. In
going-rate pricing, the firm bases its price largely on competitors’ prices,
with less attention paid to its own cost or to demand. In oligopolistic
industries that sell commodities, firms normally charge the same price. It is a
popular pricing method.
When demand elasticity is hard to
measure, firms feel the going price represents the collective wisdom of the
industry concerning the price that will yield a fair return. Competition-based
pricing is also used when firms bid for jobs. Using sealed-bid pricing, a firm
bases its price on how it thinks competitors will price rather than on its own
costs or on the demand.
The firm wants to win a contract
and winning the contract requires pricing lower than other firms. Yet, the firm
cannot set its price below a certain level. It cannot price below cost without
hurting its position. In contrast, the higher the firm sets its price above its costs, the less
its chance of getting the contract.
Tags : MARKETING MANAGEMENT - Pricing Objectives and Approaches
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