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The main pricing pratices can be classified into three broad categories. They are
1.COST ORIENTED PRICING:
a) Cost plus pricing:
This is the most popular and common method of pricing in pratice because
* It is simple to compute.
* It assures profitable business.
* It is scientific as it eliminates any subjectivity.
* It is Considered a satisfactory for taking care of business.
In this method the price is used to cover costs and add a predetermined percentage for profit. The percentage of profit differs among industries among members in the same industry and even among products of the same firm.
Demerits of Cost plus pricing method:
a) Cost plus pricing ignored demand.
b) Cost plus pricing fails to reflect the forces of competition adequately.
c) Cost plus pricing ignores marginal cost and Incremental cost and instead uses average cost.
d) It cannot be applied to industries dealing with perishable goods.
Merits of Cost plus pricing:
a) This method is easy and convenient and involves no complicated tools even in case of multiple products.
b) It fulfills the objective of profit Maximization.
c) It reduces the cost of decision making.
d) The prices fixed by cost plus pricing is considered fair among consumer's.
b) Marginal cost pricing:
In marginal cost pricing fixed costs are ignored and the prices are determined based on the marginal cost. The cost pricing implies that the price of the product is based on the incremental cost of production. In the concept of marginal cost we tend to find out the cost involved in producing one additional unit.
It is difficult to findout the cost of producing one additional unit of output so in pratical business situation the concept of marginalism is replaced by incrementalism.
In a competitive situation when the price is below the average cost the firm will shut down in the short run. In the long run the firm must cover it's average cost. Thus in the case of Incremental cost coverage it sure that the firm doesn't shutdown. But since it doesn't cover the fixed cost fully it does not assure that the firm will operate at break even point.
Advantage of marginal cost pricing:
1) Marginal cost pricing is useful for pricing over the life cycle of the product.
2) Marginal cost permits a manufacturer to develop a far more aggressive pricing policy than does full pricing policy.
3) Marginal cost more accurately reflect future as distinct from present cost level and cost relationship.
Disadvantage of marginal cost pricing:
1) Marginal cost pricing does not guarantee that the firm will operate at the break even point.
2) Marginal cost pricing helps in shortrun only thus it can be applied only on a temporary basis.
3) Sometimes the accountant who manage the accounts are not fully conversant with the marginal cost technique.
4) During the times of recession, firms using marginal cost pricing may lower cost and reduces prices.
c) Target pricing and rate of return pricing:
It is a refined version of cost plus pricing. Due to certain reasons firm has to revise it's prices. It needs to ensure that the price so revised would allow it to maintain either.
* To fixed percentage markup over cost.
* Profit as a fixed percentage of total sales.
* A fixed return on existing investments.
Rate of return price P= Full cost + Markup
The formula is,
markup = (Capital invested / Full cost) × (Earnings / Capital invested)
= (Earnings / Full cost)
d) Programming policy:
This pricing is popular with the wholesalers and retailers. In the method supply price is taken as the base. Inorder to cover own cost and profit margin a markup is put over the supply price. This supply price may be the price at which the product is given to the wholesalers or that of the goods at godown etc.
2. COMPETITION ORIENTED PRICING:
a) Going rate pricing:
In going rate pricing policy organisation fix the price of their product based on the general pricing structure of the Industry of the product. In this pricing policy industries characterized by price leadership will avoid costly price wars. Also this rate is less complicated and also less costly to calculate.
b) Loss leader policy:
This pricing strategy is used in retailing business. This policy aims at increasing profits. The product which attracts the customer's to the bunch of products offered by the firm is the leader and since it is priced less it is called the loss leader. It only means that the actual price charged is lower than what could have been charged otherwise.
c) Customary pricing:
In case of some products their prices get more or less fixed. Any change in costs of such product is not reflected in the price but on the quality or quantity of the products.
d) Price leadership:
The firm who has achieved the lowest cost of production in the industry dominates the whole Industry. Usually the lowest cost of production will be achieved by big firm's who have been in the industry for long and can afford new technologies to reduce cost and they will fix low price for their products. Thus similar firm's may tend to follow the price fixed by the leader.
e) Trade association pricing:
This kind of pricing arises out of an unsaid understanding agreement between the firm's operating in the market. Firm's frequently come to this kind of an implied agreement to maintain prices at a similar level.
f) Cyclical pricing:
The pricing strategy which is done to capitalize on the cycles of the seasons in nature and the cycle in the economy as known as Cyclical pricing.
g) Imitative pricing:
This pricing policy is used in retail business. In many business situations it is considered useful to imitate the price setup other firms.
h) Turnover pricing:
Turnover is the word denotes the the sale of the product. It is generally useful to maintain a lower markup on high turnover products because these items are purchased quite frequently by the customers and any increase in price will make them to shift to the competition.
Eg: High turnover products are fast moving consumer goods. Such as toilet soap, tooth paste etc.
3. PRICING BASED ON THE OTHER ECONOMIC CONDITION:
a) Administered pricing:
Inorder to safeguard the interests of the general public prices for certain essential goods are statutorily fixed by the government. Prices for fertilizers, petroleum, kerosene etc are fixed by the government.
b) Dual pricing:
Usually the firm's which produce essential commodities have part of their product under administered pricing and part of the product is sold in the free market. These products are said to have dual pricing.
For eg: sugar, when given through the public distribution system is priced lesser than the one that is available in the open market.
c) Price discrimination:
In price discrimination the seller is charging different prices to the same buyer or to different buyer for the same commodity or services without corresponding difference in cost.
The price discrimination is divided into five types
1) Time price differential: Demand of a product even though used generally has a time dimension in it. The demand may shift in very short time span.
2) Use price differentials: Different products have different use to different buyer's. Eg: telephone can be used for domestic and business purpose.
3) Quantity differentials: These are pricing used where the seller discriminates the buyer on the basis of the quantity of purchase.
4) Geographic price differentials: This differential is based on the buyer's location.
5) Personal price differential: This is sellers who provide discounts to buyers for personal reasons.
OTHER PRICING STRATEGIES:
1) Stayout pricing:
Here the seller quote very high price. If the product does not sell the required target the firm keeps on reducing the price till it sells all the required target.
2) Pshychological pricing (or) Odd number and round number pricing:
It is a price tagging method where the price of the product is fixed in manner to give an impression that the price is low.
Eg: If the product is fixed at 99.90 rather than RS.100.00
3) Skimming price strategy:
This pricing strategy takes the advantage of the target segments willingness to pay more for a new product. In this method the manufacturer takes the maximum advantage as early as possible before the competition follows.
4) Penetration pricing:
Here the seller quotes a price which is very low. So as to stimulate demand for the product of the firm and capture a large share of market. This strategy is adopted by firm's who introduce new products.
5) Premium pricing policy:
Here the price of the product is higher than the Industry price. The idea is to enhance the image of the product as a high quality product.
6) Price out pricing:
This strategy adopts a very competitive pricing where the aim is to eliminate all the weak Competitors.
7) Fraction below competition pricing:
This strategy is adopted by close competitors. Here one firm prices its products just below it's direct competitor.