Product’s unit price is contributed by its purchase price plus transportation cost, handling cost, inspection cost, insurance and administrative cost (variable). To an organization, the right price might near that price which satisfies its requirements and yet is how enough.
Prices are determined through published price lists, competitive bidding and buyer seller negotiations. Competitive bidding is most applicable to standardized products, Here the lowest bidder, generally sets the order. For high value purchases, where even specifications are valued, the negotiations are a great help.
Some terms used in pricing when a consignment is shipped (transported) need classification.
E O B Buyer’s Plan: EOB means Free on Board. Here the goods are delivered to buyer’s plant. The transportation charges are borne by the supplier. The buyer takes the title in delivery only, and so all claims for damage / losses during transit are borne by the supplier.
EOB Seller’s Plant: Here the title is transferred to the buyer as soon as goods are loaded onto the carrier. The transportation charges are therefore borne by the buyer. The buyer has to lodge claims against the transportation for damages / losses if any.
EOB Seller’s Plant Freight allowed: It is similar in legal sense to the above but the seller pays the freight charges.
CIF Contracts: The price aggregates cost of materials + insurance + freight
FAS: It stands for Free Alongside Ship. Here in export trade, the supplier has to get the goods up to the ship. Therefore, the buyer takes the title as well as all responsibilities.
Trade discount: The distributor gives this discount to the buyer. It makes buying from the distributor economical.
Quantity Discount: It is offered when we purchase beyond a certain value of money.
Seasonal Discount: It is offered for purchases made in off season
Cash discount: It is offered for full/cash payment.
Purchase Timing Decisions:
Purchase timing in an unstable price market situation is critically important. The organization responds to the market conditions by any of the following responses:
1) Speculative Buying: Buying here is to take advantage of rising prices so that profits can be made through these rising prices.
2) Forward Buying: Buying in quantities which exceed current requirements, but are within actual forcible requirements. It is an approach adopted in situations where prices are stable over a period of time. This approach gives the following advantages.
a) A favorable price
b) Quantity discounts
c) To exploit availability
d) To protect against shortages
The inventory carrying cost is high and so working capital is tied up.
Hand to Mouth Buying: It satisfies only our current requirements. It is uneconomical. It can be used for certain high value items.
To reduce the financial risk the following two techniques are in vogue:
Time Budgeting Purchases: Items are frequently purchased over a long period with cyclical fluctuations very close to average market price. This is achieved by purchasing small quantities over short operating periods of equal length. In other words a purchase budget is prepared in terms of quantity required and to be purchased and the amount to spent on purchases during a particular period. This method is useful when the price fluctuations are somewhat or extremely irregular; but if they show only one sided trend (i.e. continuous downward or upward trend) month after month this method will do more harm.
Hedging: The buyer uses this method to protect his organization from the losses rising out of wide fluctuations in prices. The buyer can protect this company hedging in futures market. Here the buyer enters into two contracts at the same time – one for purchase of materials for spot (ready) delivery and other for sale of materials for future delivery. This is concept of hedging. It is used in organized commodity markets or exchanges.