Pricing Decisions - Research Paper Example

Pricing decisions Organizations and business entities require proper pricing in order to maximize on their strategies. According to Nagle & Holden (2002) pricing entails putting price tags on products in an organization or business entity after consideration of all the operational costs. The author further argues that, pricing strategies are shaped by the profit levels expected by an organization. Just like any other operational strategy, pricing requires participation of all stakeholders in an organization. In this particular case, stakeholders also involve the consideration of the market. Other main stakeholder includes the management team of an organization. However, the pricing decision does not come directly from the management team. This decision is a based on the results from a team that is appointed to evaluate the possibilities of different pricing suggestions. The evaluation considers many factors including the market price of related products, the market perception of the pricing system, and the level of competition in the market and most importantly the possibility of making the required profits from the sales (Paull, 2009). In an argument by William (2010) factors considered in pricing revolve around maintaining the organization profile and profit levels. How to price commodities is significantly influenced by external environmental factors. These factors are effectively evaluated in order to reach a consensus on the most appropriate price. The paper will provide an insight on pricing decisions with the inclusions of various methodologies of pricing strategies. Additionally, the paper will evaluate the methodologies and come up with the most effective recommendation on the best pricing strategy. Literature review In the words of Nagle & Holden (2002) pricing strategies is an operation that requires more than management in the internal operations of the organization. The author further argues that pricing decisions are intentionally influenced by factors outside the control of an organization. William (2010) explains this point further by arguing that factors affecting pricing decisions are mostly influenced by the external business factors. However, with a proper market analysis, an organization can be in a best position to control the pricing trend of a particular trend of product. Nagle & Holden (2002) supports this argument by providing an example by evaluating the influence of Coke and Pepsi in the soft drinks market. In his evaluation he argues that the two companies have the greatest influence on the pricing decisions taken by other companies. This is because the soft drink market has significant support of the two drinks. Every aspect of the soft drink market from taste, packaging, supply and pricing is greatly compared to the two drinks. When Pepsi and Coke come up with pricing decisions, they have little consideration of the market acceptance. In this case, the competition is greatly considered than any other factor. In the book by Paull (2009) he highlights the pricing decisions of Honda after great success in the market. The quality of products supplied by Honda was enough to ensure that the organization has the significant influence on its target market. From the above evaluations, it is an obvious assumption that pricing decisions in an organization is hugely based on the factors in the external environment and the influence of the organization’s strategies to these factors Internal factors also have significant influence on the pricing decisions. These factors are greatly considered in terms of quality of teams involved in the decision making process. This includes the management team and their decisions to apply a specific pricing strategy. Additionally, pricing decisions greatly depend on the reflection of the financial records of an organization. The financial records considered in pricing decisions are dated back to at least three financial years (William, 2010). This enables for the realization of the profit levels at different pricing decisions. For this to be effected effectively, the financial records of an organization should be accurate and greatly reliable. Rugma & Collinson (2012) suggests that organizations should consider outsourcing for services in evaluating their financial records and profit differences in different financial years. Outsourcing for audit teams creates transparency in the evaluation process. However, Ernstein (2009) warns that outsourced teams should not be provided with the mandate of choosing the pricing decision. The author further argues that this mandate should be solely being given to the management team. The experience and past decisions regarding pricing are very crucial in implementing new pricing strategies (Paul, 2009). Methodologies In the external environment consideration there are several types of pricing. They include (Paul, 2009); Variable cost pricing Cost plus pricing Value based pricing Competition based pricing Time and material pricing Internal factors also influence the mode of the pricing decisions applied. They include (Paul, 2009); Cost based transfer prices Market based transfer prices Effect of outsourcing on transfer prices Negotiated transfer prices Transfer in division located in different countries One strategy used in pricing decisions is the objective to maximize the profit. Profit maximization is the usually the main aim of every management team. Under profit maximization the following assumptions are considered: The level of demand is greatly influenced by the pricing of a product The higher the pricing of a commodity the lower its demand level A management team should set a price that will generate the highest profit Another approach used in determining the pricing decisions is the long run pricing approach. This approach is classified in the market based and cost based strategies. In the market based strategies the pricing is based on the consumer’s wants and the reaction of the competitors to the pricing. The cost based strategy on the other hand is based on the determination of the cost of production and then basing the price on the maximum returns basis. Many organizations consider the use of either the cost based approach or the market based approach. However, many organizations have a greater preference on the cost based approach. In the words of Rugma & Collinson (2012), the cost based approach generates reliable figures and numbers that provide accurate assumptions. Additionally, the cost based approach usually gives an obvious assurance that there will be positive results on the profits returns. Results In an analysis by Emerson, Menkus & Van Ness (2010) the cost based approach yields positive results that the market based approach. The author further argues that regardless of the quantity of demand the cost approach assures and organization that there will be no losses incurred in the long run. The results of this analysis show that 8 out 10 organizations prefer cost based approach. Out of the 8 organizations, 7 of them have not recorded any losses while 5 of them have recorded profits in their returns (Paull, 2009). These results are based on analysis on more than one financial year. In an evaluation highlighted by Ernstein (2009) the market based approach records fluctuating results that involve a lot of risk taking. In out of 10 companies, 5 of them use the market based approach as a backup approach in their pricing decisions. Additionally, 7 out of 10 organizations employ risk mitigation strategies to shield their organizations from suffering risks due to the implementation of the market approach (William, 2010). The instability of the market approach is due to the fact that the market factors cannot be influenced by the organization’s operations. Most organizations that have implemented the cost approach have come up with a specific costing method that greatly considers the cost of production. This type of costing is referred to the target costing. According to Rugma & Collinson (2012) target costing is simpler way of applying the cost approach but in a more specified way. Target costing is summarized in the diagram below. To fully implement this approach, an organization should change the pricing of their commodity in order to achieve their desired profit returns (Rugma & Collinson, 2012). Conclusion From the above evaluation of results and methodologies, pricing has been greatly influenced by the external factors of the business environment. However, focusing on changing these factors may not be the best strategy when it comes to pricing. External factors are always fluctuating and no stable record can be placed in their trend. In words by Nagle & Holden (2002) external business factors should be only be considered when generating the desired price of the commodity. The desired pricing of the commodity should be based on the market structure, condition and trend. This includes the pricing by other competitors, the human nature of the target market, the needs and wants of the consumers and emerging trends in pricing and market appraisal strategies. With many organizations trying to avoid high risk operations, it is a recommended assumption that they should apply the cost based approach. However, if an organization has a great competitive advantage they should consider the market based approach. Ernstein (2009) argues that the ability of an organization to influence the market structure and direction should be strength to be effectively utilized. References Emerson, S., Menkus, R. & Van Ness, K. (2010). The Public Administrator’s Companion: A Practical Guide. New York: CQ Press. Ernstein, J. (2009). "Use Suppliers Pricing Mistakes", New York: Control. Nagle, T. & Holden, R. (2002). The Strategy and Tactics of Pricing. Pearson: Prentice Hall Paull, J. (2009). The Value of Eco-Labeling. New York: VDM Verlag Rugman, A. & Collinson, S. (2012). International Business, 6th Edition, Pearson: Prentice Hall. William, P. (2010). Priceless: The Myth of Fair Value. London: Hill and Wang. Read More