Wednesday, October 24, 2012

Factors Affecting Pricing Decision

If you were a businessman, one of the most difficult jobs that you’re to face is in setting price of your products or services. Here you would have to consider some factors that will influence on your pricing decisions, you would have to set prices using the different cost bases of cost plus pricing formulas, you would have to compute the percentage of mark-up based on the different kinds of costs. But the job is challenging as well as exciting in setting prices for your products.
There are five factors affecting pricing decisions namely:
  • Customer Demand
  • Competitors Actions
  • Market Forces
  • Government Regulations
  • and Costs
It is said that in all phases of the business operations, the demand for a certain product or service by customers is of utmost importance because a business may cease to exist if it will not serve the need of the society or customer in particular. The reasons why many businessmen have to identify customer demand through:
  • market research
  • customer surveys
  • test-marketing programs
  • and take some feedback from sales people
In other words, business owners must provide the products its customers want at a price they perceive to be appropriate. If customers wanted high quality products, it is normal that business owners would have to set high prices for the high quality (HQ) products as well as low prices for the low quality (LQ) products if wanted by customers.

As said our time is on free enterprise and this allow competitors in every field of business. Competitors whether they are domestic or foreigners are striving so hard to sell their products to the same customers. Both would have to design products and set its prices at a competitive position. And because there is competition – both competitors must have to keep a watchful eye on each other’s actions.

There are industries where prices are determined entirely by the Law of Supply and Demand. But as observed more often, this rule of economics is being manipulated by the players – who are these players? They are the businessmen. If the competing firms or business owners who produced all of the same kind of products would adapt the so called cartel – the so called free enterprise will be ignored.

In government regulations – the government interferes with the market forces. There are regulatory boards that can deregulate firms or industries which were previously under the price control law. Business owners are prevented to change their prices without prior approval of the government – and this result in the control of production and operating costs for business owners.

The effect of costs in price setting varies widely among industries and firms. Some business owners produced their goods with a higher fixed cost. High cost of production and operation would mean higher selling prices. Some of them will adapt the absorption cost pricing tocompute the manufacturing costs of the product and used this as the cost base and provides for selling and administrative costs plus the target ROI (Return of Investment) through the mark-up.

Now let’s look how to compute normal pricing and their normal formula. Selling Price = Cost + Mark-up. The mark-up is a certain percent of the base used. However, before you can determine the mark-up for the selling price of your products – first you would have to determine the cost as it is use as the base in computing the mark-up and could be based on the following factors namely:

  • Total full cost (manufacturing and operating costs)
  • Total manufacturing costs only
  • Total variable manufacturing costs only
  • Total variable costs (manufacturing, selling and administrative expenses)
  • And any other cost incurred by the firm used

As said, mark-up is a certain percent of the base used. The most common basis is the desired rate of return. Of course, there is no rule required as to the amount or percentage of mark-up. It is up to the business owners – they can apply starting from 20 percent, 30 percent, 40 percent and above. What ever rate the business owners will use – it would definitely affect price and ultimately the volume of sales at every given time.

Of course, businessmen (especially retailers) have their own ways how to compute their selling prices of their products. As most of them will target high return of their investments in every given time. So they would have to determine all the expenses incurred to be added to the original costs when they purchased the goods and would apply high mark-up in determining the selling prices of their products before selling them to customers. See the above example.

Sources of facts and other information:
  • Management Services 4th Edition Part 2 by Ms. Luzviminda S. Payongayong
  • Fusion Boutique, Riyadh, Saudi Arabia by popdien 
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