Method of determining prices or setting price:
Cost of the production of a product is the most important determinant of its price. They may be many types of costs such as fixed cost, variable cost, total cost, average cost and marginal cost etc. An analysis study of these costs must be made under for determining the price of the product. Methods of determining price on the basis of cost areas under:
Full cost or mark up pricing or cost plus pricing method: in this method, the marketer estimates the total cost of producing or manufacturing the product and then adds it a make- up or the margin that the firm wants. This is indeed the most elementary pricing method and many of the services and projects are priced accordingly.
For example: if a fixed cost for making 10000 shirts is Rs. 150000 and the variable cost per shirt is Rs. 30, then cost per shirt Rs. 45. Now the firm expects 30 % return on the sales. Now the firm expects 30 % return. This method assumes that no product is sold at a loss. This method is used when there is no competition in the market or when the cost of the production of all the manufactures is almost equal and the margin of profit of all the manufactures is also equal. This method is used by retail traders also. This method of pricing is based on a simple arithmetic of adding a fixed % of profit to the unit cost. Thus, retail price of a product can be the cost of manufacturer plus the margin of profit to the unit cost. Thus, retail price this is also known as "the sum of margin method".
Marginal cost or incremental cost pricing method: here, the company may work on the premise of receiving its marginal cost and getting a contribution towards its overheads. This method works well in a market already dominated by giant firms or characterized by intense competition and the objective of the firm is to get a footpath in the market. In the example of shirts given above, the variable cost is Rs. 30 per shirt. As long as the firm is able to recover this cost and get a contribution towards its overheads. It is an acceptable pricing method. This will also works well in a market this will also when the firm has an inventory of finished goods and it want to liquidate it. At that time the prime concern is to recover the direct costs. The problem with this method is that, it often sparks price wars, which is not beneficial to any firm in the industry.
Breakeven point or B.E.P. pricing method: breakeven point is the volume of sales at which the total cost revenue of the product is equal to its total cost. In other words, it can also be said that breakeven point is the volume of the sales at which there is no profit and no less. Therefore, this method is also known as "no profit no less pricing method". For the purpose of determining price under this method, total cost of the promotion of a product is divided into two parts - fixed costs and variable costs. The price is determined equal to the total cost of production of the product. It is based on the fact in short run the enterprise will not make only any profit but in the long run, it will start to earn profit and higher be the scale of the production, more will be the amount of the profit to the enterprise because all fixed costs remain constant at all the levels of production and as the fixed costs are recovered in the beginning, the enterprise starts to get profit with the increase in sales above breakeven point. This method of the pricing is very useful for determining the price of a competitive product.
Rates of return or target pricing method: under this method of price determination, first of all a rate of return desired by the enterprise on the amount of capital invested by it is determined. The amount of the profit desired by the enterprise is calculates on the basis of this rate of return. This amount of the profit is added to the cost of the production of the product and thus, the price per unit of the product is determined. This method of the price determination can be used by an enterprise to get a certain return on invested capital. The use of this method is possible only when there is no competition in the market.
Going rate or "follow the crowd": while the above methods are cost oriented, this is a method which is competition oriented. In this method, the firm prices its product at the same level as that of the competition. This method assumes that there will be no price war within the industry. This is a method commonly used in a market. Despite is advantage of preventing price wars; the method suffers from serious limitations. The first is that, it is not necessarily true that all firms or the leader firm is operating efficiency. In case it is not, it will mean that the necessarily true that all will also adopt a price level, which reflects the leader's inefficiency. Rather its own efficiency. Besides, it is not always true that a decision takes in the collective wisdom is the best. It may certainly not be so from the customer's point of view.
Sealed bid pricing: another form of the competition oriented pricing is the sealed bid pricing. In a large number of projects, industrial marketing and marketing to the government, suppliers are asked to submit their quotations, as a part of the tender. The price quoted reflects the firm's cost and its understanding of competition. If the firm was to price its offer only at its cost level, it may be the lowest bidder and may even get the contract but may not make any profit out of the deal. So, it is important that the firm uses expected profit at different price levels to arrive at the most profitable price. This can be arrived at by considering the profits and profitably of getting a contract at different prices. This method obviously assumes that the firm has complete knowledge or information about the competition and the customer.
Customer - oriented or perceived value pricing: there is an increasing trend to price the product on the basis of the customer's perception of its value. This method takes into account all other elements of the marketing mix and the positional strategy of the firm, as the value of the product is a function of all these variables. This method helps the firm in reducing the threat of price wars. In fact, it can help the firm steer out the ugliest to the price wars. But the key to this method is to correctly understand customer's perception of the product value and not to overestimate method is to correctly understand customer's perception of the product value and not to overestimate the firm's product value. Marketing research can play an important role here.