What is Pricing Policy?
Pricing is the policy by which a company determines the wholesale and retail prices for its products or services. Pricing is the process of determining what a company will receive in exchange for its products. Pricing factors are manufacturing cost, marketplace, competition, market condition, and quality of the product.
Pricing is also a key variable in microeconomic price allocation theory. It is a fundamental aspect of financial modeling and is one of the four Ps of the marketing mix. The other three aspects of the marketing mix are product, promotion, and place. Price is the only revenue-generating element amongst the four Ps, the rest being cost centers.
Objectives of Pricing
Some of the more common objectives of pricing are:
- Maximize Long-run Profit.
- Maximize Short-run Profit.
- Increase Sales Volume (Quantity) and increase Monetary Sales.
- Increase Market Share.
- Obtain a Target Rate of Return on Investment (Roi).
- Obtain a Target Rate of Return on Sales.
- Maintain Price Leadership.
- Desensitize Customers to Price.
- Discourage New Entrants Into the Industry.
- Match Competitors Prices.
- Encourage the Exit of Marginal Firms From the Industry.
Factors of Pricing Policy
The following are the considered factors of pricing policy of the product:
- Profit Maximization in Short Term
- Profit Optimization in Long Run
- Price Stabilization
- Facing Competitive Situation
- Maintenance of Market Share
- Capturing the Market
- Entry into New Markets
- Deeper Penetration of Market
- Achieving a Target Return
- Whole-Line Profit Maximization Strategy
- Long-Run Welfare of Firm
- Ability to Pay
- Ethical Pricing
Profit Maximization in Short Term
The main goal of a company is to maximize profits. To achieve this, pricing policies should aim to increase sales revenue and profit. Maximum profit means earning the highest possible earnings. In the short term, a company should cover its costs and make extra revenue.
This boosts the company’s confidence and morale. Firms can start by setting high prices (skimming) initially to target specific customers, but this might not work well in the long run, leading to a loss of customers. Alternatively, they can choose lower prices (penetration) later on to attract more customers and dominate the market.
Profit Optimization in Long Run
The traditional profit maximization hypothesis may not prove beneficial in the long run. With the sole motive of profit-making a firm may resort to several kinds of unethical practices like charging exorbitant prices, following Monopoly Trade Practices (MTP), Restrictive Trade Practices (RTP), and Unfair Trade Practices (UTP), etc.
This may lead to opposition from the people. In order to overcome these evils, a firm instead of profit maximization, aims at profit optimization.
Price stabilization over a period of time is another objective. The prices as far as possible should not fluctuate too often. Price instability creates an uncertain atmosphere in business circles. Sales plan becomes difficult under such circumstances.
Hence, price stability is one of the pre-requisite conditions for the steady and persistent growth of a firm. A stable price policy only can win the confidence of customers and may add to the goodwill of the concern. It builds up the reputation and image of the firm.
Facing Competitive Situation
One of the objectives of the pricing policy is to face the competitive situations in the market. In many cases, this policy has been merely influenced by the market share psychology.
Wherever companies are aware of specific competitive products, they try to match the prices of their products with those of their rivals to expand the volume of their business. Most of the firms are not merely interested in meeting competition but are keen to prevent it. Hence, a firm is always busy with its counter business strategy.
Maintenance of Market Share
Market share refers to the share of a firm’s sales of a particular product in the total sales of all firms in the market. The economic strength and success of a firm is measured in terms of its market share. In a competitive world, each firm makes a successful attempt to expand its market share.
If it is impossible, it has to maintain its existing market share. Any decline in market share is a symptom of the poor performance of a firm. Hence, the pricing policy has to assist a firm to maintain its market share at any cost.
Capturing the Market
Another objective in recent years is to capture the market, dominate the market, and command and control the market in the long run. In order to achieve this goal, sometimes the firm fixes a lower price for its product and at other times even it may sell at a loss in the short term.
It may prove beneficial in the long run. Such pricing is generally followed in price-sensitive markets.
Entry into New Markets
Apart from growth, market share expansion, and diversification in its activities, a firm makes a special attempt to enter into new markets. Entry into new markets speaks about the success story of the firm. Consequently, it has to bear the pioneering and subsequent risks and uncertainties.
The price set by a firm has to be so attractive that the buyers in other markets have to switch to the products of the candidate firm.
Deeper Penetration of Market
The pricing policy has to be designed in such a manner that a firm can make inroads into the market with minimum difficulties. Deeper penetration is the first step in the direction of capturing and dominating the market in the latter stages.
Achieving a Target Return
A predetermined target return on capital investment and sales turnover is another long-run pricing objective of a firm. The targets are set according to the position of individual firms. Hence, the prices of the products are calculated to earn the target return on the cost of production, sales, and capital investment.
Different target returns may be fixed for different products brands or markets but such returns should be related to a single overall rate of return target.
Whole-Line Profit Maximization Strategy
Target Profit on the Entire Product Line Irrespective of Profit level of Individual Products: The price set by a firm should increase the sale of all the products rather than yield a profit on one product only.
A rational pricing policy should always keep in view the entire product line and maximum total sales revenue from the sale of all products. A product line may be defined as a group of products that have similar physical features and perform generally similar functions.
Long-Run Welfare of Firm
A firm has multiple objectives. They are laid down on the basis of past experience and future expectations. Simultaneous achievement of all objectives is necessary for the overall growth of a firm.
The objective of the pricing policy has to be designed in such a way as to fulfill the long-run interests of the firm keeping internal conditions and the external environment in mind.
Ability to Pay
Pricing decisions are sometimes taken on the basis of the ability to pay the customers, i.e., higher prices can be charged to those who can afford to pay. Such a policy is generally followed by those people who supply different types of services to their customers.
Basically, pricing policy should be based on certain ethical principles. Business without ethics is a sin. While setting the prices, some moral standards are to be followed. Although profit is one of the most important objectives, a firm cannot earn it in a moral vacuum.
Instead of squeezing customers, a firm has to charge moderate prices for its products. The pricing policy has to secure a reasonable amount of profits for a firm to preserve the interests of the community and promote its welfare.
What are the factors of pricing policy?
The factors of pricing policy are:
1. Profit Maximization in Short Term
2. Profit Optimization in the Long Run
3. Price Stabilization
4. Facing Competitive Situation
5. Maintenance of Market Share
6. Capturing Market
7. Entry into New Markets
8. Deeper Penetration of the Market
9. Achieving a Target Return
10. Whole-Line Profit Maximization Strategy.