Importance

Price determines amount of revenues to be realized from sale of a product

Price is a major determinant of return on investment (ROI)

Price affects competitiveness of Firm

Price creates product image, and reflects value that customer places on product

Price Setting

Price should be sufficient to compensate for cost of resources required to produce/buy and sell unit sold.

Often, price is established based on market condition.

Price may be based on value of product to customer

Determinants of Price

Sensitivity of price to demand

Market condition – supply/demand, size, growth rate, business cycle

Nature of industry- innovations

State of competition and competitive position

Cost of production and ROI desired

Government regulations

Optimum price is the price at which profit is maximized.

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Establishing Pricing Policy

Pricing policy is rooted in the firm’s financial objectives, one of which is return on capital employed, or return on investment (ROI).

Return should be high enough to attract capital, considering degree of risk and market/economic conditions

Return should be competitive vs.  alternative uses of capital;

Market research studies to establish relevant market info and do forecast;

Pricing decision is evaluated by conducting breakeven and sensitivity analyses;

Price should never be the prime differentiator for one’s product

Factors Determining ROI

Income, which is influenced much by sales price

Invested capital:

Sound cash management

Reduce level of accounts receivables

Control inventory level

Improve management of accounts payable

Effective management of fixed assets

Pricing under Competitive Market Condition

 

Market pressure on price requires the following:

Tight cost monitoring and control

Effective asset management to  minimize assets employed or invested capital

Readiness to reduce profit margin to maintain competitiveness

Methods of Pricing

Market Pricing – same as competitors, irrespective of costs

Cost Plus – all costs plus markup for overhead and profit margin

Marginal pricing – variable costs plus some percentage as contribution to overhead

Administration of Pricing Policy

Pricing policy is so critical to the success of a business that its administration involves several key officers in the organization:

– Marketing Executive – responsible for establishing key market information and adopting/recommending price

– Financial Executive is responsible for preparing quantitative analysis based on financial records, reporting actual results and updating financial assumptions

– Chief Executive reviews and approves pricing proposals