Pricing Concepts

Pricing is an important, if not the most important, function of all enterprises. Since every enterprise is engaged in the production of some good(s) or / and service (s), incurring some expenditure to sell in the market, it must set a price for its product. It is only in extreme cases that the firm has no say in pricing its product because there is severe or rather perfect competition in the market or the good happens to be of such public significance that its price is decided by the government. In an overwhelmingly large number of cases, the individual producer plays the role in pricing its product.

It is said that if a firm is good in setting its product price, it would certainly flourish in the market. This is because the price is such a parameter that it exerts a direct influence on the product’s demand as well as on its supply, and through them on its turnover (sales) and profit, both of which are the important yardsticks for the success or otherwise of the firm. Every manager endeavors to find the price which would best meet with its objective. On the one hand, if the price is set too high, the seller may not find enough customers to buy his product. On the other hand, if the price is set too low, the seller may not be able even to recover his costs. Thus, there is a need for the right price. Further, since demand and supply conditions are variable over time, what is a right price today may not be so tomorrow. Hence, pricing decisions must be reviewed and reformulated from time to time.

Price denotes the exchange value of a unit of a good, expressed in terms of money. Thus, the current price of a Maruti car is around Rs 285,000, the price of a hair cut is Rs 40, the price of a call from Ahmedabad to Delhi is Rs 15, and so on. Nevertheless, if one gives a little thought to this subject, one would realize that there is nothing like a unique price for any good. Instead, there are multiple prices. The pertinent questions here are the following:

1. Price of what?
2. Price to whom?
3. Price where?
4. Price when?

Unless a good is properly defined, one can’t talk of its price. This is particularly true with the case of durable goods. Consider the Maruti car, for example. When one says, its price is Rs. 285,000 one is not precise. Is it the price of an ordinary or of a deluxe model? Does the price free services; if yes, how many and when? Does it include a guarantee; if they say yes, for which parts and for how long? Depending on the answers to these and such questions, there are multiple prices of Maruti car. However, if the product is unambiguously defined in all respects, there could be a unique price at least on this count.

Price of a well defined product varies over the types of the buyer. Thus, there are prices to wholesalers and commission agents, to retailers and to consumers. Since wholesalers and commission agents buy in bulk, producers incur lower transaction costs in such dealings than in dealings with retailers and consumers. The same is the case with regard to trading with retailers vis-à-vis consumers. Besides, the market intermediaries incur some costs (transport and storage costs) and they too must make some profits. Thus, the three prices are different, for they include different things.

The price of a good or service also depends upon the place it is received, for there is a transport cost. Thus, there is a price at the site of the factory /production center, major rail or road head, the heart of the town, suburbs and at one’s house (home delivery). Today, while some transactions take place on credit, others are on down payments. Consequently, for an item, there are two prices, one for buying on credit for a given period and the other for making down payment. The former thus includes an element of interest cost, which the latter does not, and accordingly the former is higher than the latter.

It should be obvious to the readers, that the price differences on account of the above four factors are more significant, the more durable, expensive and heavy the good is, and vice versa. Thus, the case of multiple prices is more serious in the case of items like cars, refrigerators, coal, furniture and bricks, and is of little significance for items like shaving blades, soaps, tooth pastes, creams and stationeries.

Since differences in various prices of any good are due to difference in transport cost, storage cost, accessories, interest cost, intermediary’s profits etc. they are explainable. One can still conceive of a basic price, which would be exclusive of all these items of cost, and then rationalize other prices by adding the cost of special items attached to the particular transaction. In what follows, we shall explain the determination of this basic price alone and thus resolve the problem of multiple prices.