Pricing PolicyPricing PolicyManagerial decision making involves one Managerial decision making involves one important thing i.e set up of price of the important thing i.e set up of price of the product.product.The businessmen use the pricing device The businessmen use the pricing device for the for the purpose of maximising profits.purpose of maximising profits.Many problems come in the way of Many problems come in the way of determining a price of the product.determining a price of the product.In order to avoid different problems, In order to avoid different problems, managers managers or businessmen must resort to suitable or businessmen must resort to suitable pricing pricing methods for set up of price of the methods for set up of price of the product.product.

Pricing MethodsPricing Methods►There are There are fivefive important methods of important methods of

pricing (i) Cost-plus of full cost pricing pricing (i) Cost-plus of full cost pricing (ii) Pricing for a rate of return(ii) Pricing for a rate of return (iii) Marginal Cost Pricing(iii) Marginal Cost Pricing (iv) Administered Pricing(iv) Administered Pricing (v) Going-rate Policy (v) Going-rate Policy

(i) (i) Full Cost Pricing Method or Cost Plus Full Cost Pricing Method or Cost Plus PricingPricing

►Cost-plus or full cost pricing is a method Cost-plus or full cost pricing is a method commonly adopted by the businessman commonly adopted by the businessman to fix a price of the product. to fix a price of the product.

►He calculates the cost of production per He calculates the cost of production per unit and adds a margin of profit to it.unit and adds a margin of profit to it.

► In other words, the producer adds a In other words, the producer adds a certain percentage of profit which he certain percentage of profit which he considers as fair to his cost in order to considers as fair to his cost in order to arrive at a price which is acceptable to arrive at a price which is acceptable to the consumers.the consumers.

► Cost-plus pricing means the addition of Cost-plus pricing means the addition of certain % of profit to the cost of production certain % of profit to the cost of production to arrive at a price.to arrive at a price.

► Advantages :Advantages :► Easy and Convenient methodEasy and Convenient method► In practice, firms are uncertain about the In practice, firms are uncertain about the

demand conditions facing them, so moving demand conditions facing them, so moving away from the cost-plus price may be too away from the cost-plus price may be too risky.risky.

► Cost-plus pricing is more popular and Cost-plus pricing is more popular and suitable in industries where price leadership suitable in industries where price leadership prevails.prevails.

►Limitations :Limitations :► Ignores the demand side of the Ignores the demand side of the

problem.problem.►Fails to consider the importance of Fails to consider the importance of

competition.competition.► Ignores the future cost in the pricing Ignores the future cost in the pricing

decision.decision.

Rate of Return Pricing or Target Rate of Return Pricing or Target PricingPricing

►Under the method of rate of return Under the method of rate of return pricing, the price is determined based on pricing, the price is determined based on the pre-determined target rate of return the pre-determined target rate of return on capital invested by the manufacturer.on capital invested by the manufacturer.

►Rate of Return Price is determined in Rate of Return Price is determined in five steps.five steps.

►It is evident from the final step that It is evident from the final step that RORRORp p changes as the costs change.changes as the costs change.

► Similarly, if the demand conditions or Similarly, if the demand conditions or competition for the product undergoes a change competition for the product undergoes a change the mark-up will change, thus leading to a price the mark-up will change, thus leading to a price change.change.

► Since this method of pricing has the same Since this method of pricing has the same underlying logic as cost-plus pricing, its underlying logic as cost-plus pricing, its advantages and limitations are similar to those advantages and limitations are similar to those of cost-plus pricing.of cost-plus pricing.

► However, it has two additional advantages over However, it has two additional advantages over the cost-plus pricing :the cost-plus pricing :

(i)(i) In case of ROR pricing, full cost is based on In case of ROR pricing, full cost is based on ‘normal’ output and cost, which is not so in case ‘normal’ output and cost, which is not so in case of cost-plus pricing.of cost-plus pricing.

(ii)(ii) In ROR pricing mark-up is based on expected or In ROR pricing mark-up is based on expected or planned rate of return on investment, whereas planned rate of return on investment, whereas cost-plus pricing is based on arbitrary mark-up.cost-plus pricing is based on arbitrary mark-up.