Price: Types of Pricing Methods (CIE IGCSE Business)

Cost plus

• The business calculates the cost of production and then adds a markup to determine the final price
• The markup covers the cost of production plus the business's desired profit margin
• This pricing strategy is simple and is commonly used by manufacturers that produce standardised goods e.g. washing machines

• A simple and quick methods of calculating a price for a product
  
  
• It ensures that a profit is made on each item sold

• It does not consider the needs of the market 
  
  
• The pricing approach of competitors is ignored

Price skimming

• The business sets a high price for a new product/service when it is first introduced to the market
• The business will then gradually lower the price to ensure sales continue

• This is effective when an established brand is introducing a new product and there is a high demand for it e.g successive models of Apple's Macbook Air
• The high price helps the business to recover its development and marketing costs quickly

• Only effective when used by strong brands with an established and loyal customer base
• Loyal customers may become tired of paying high prices for new product versions and look to see what competitors offer

Penetration

• The business sets a low price for a new product/service when it is first introduced
• This is effective when a business wants to quickly capture market share and attract price-sensitive customers e.g. many new perfumes launch using penetration pricing
• Once they have enough customers, the business will start to raise the price

• Customers are attracted to buy the product at a low price leading to high sales volume and market share
  
  
• Competitors unable to match or beat the low price are forced out the market leading to less competition

• Customers may perceive that the product is of low quality if the product is sold at a low price
  
  
• Selling at a low price limits the amount of profit made

Predatory pricing

• The business sets prices so low that it drives its competitors out of the market
• This strategy is illegal in many countries as it is considered anti-competitive and harms customers by reducing choice in the market

• This method allows a business to gain a dominant position in the market
  
  
• It acts as a barrier to entry for firms considering selling in the market

• Use of this strategy may have a negative impact on a businesses reputation
  
  
• It is an expensive strategy for which a business needs sufficient finance to fund

Competitive pricing

• The business sets its prices based on its competitors' prices

• This is effective when a business is in a highly competitive market and wants to maintain its market share

• The business must continually monitor its competitors' prices and adjust its prices accordingly to remain competitive

Promotional pricing

• This pricing strategy takes into account the customer's emotions, and compulsive behaviours in responding to price promotions
• E.g. a business may have a Bogof offer - buy one get one free

• Generates higher volumes of sales for many products

Premium pricing

• The business sets a high price for its product which gives customers an impression of high quality and luxury
  
• This is effective for designer brands such as Chanel and Ritz Carlton Hotels
  
• Premium pricing should not be confused with price skimming, where a high price is set for a short period at a product's launch 

• The high price helps the business differentiate its products from competitors
• It emphasises  exclusivity and improves the value of a brand
• Premium-priced goods often attract attention from celebrities and the media which reduces the need for promotional activity

• Large numbers of more price-conscious customers are ignored which limits sales revenue
• Premium-priced products require high quality raw materials and components so variable production costs are usually high

• Products with many USPs and high differentiation can command higher prices
  • E.g Dyson vacuum cleaners have unique features which allow the company to charge a premium price

• The use of online platforms and development of new markets has created new pricing strategies
  • E.g. Candy Crush Saga uses a freemium strategy where the initial game is free of charge after which users
    have to pay for additional features
  • Charging for these features generates a very high
    profit margin

• In highly competitive markets businesses may need to set their prices low to remain competitive
  • E.g. The budget airline industry is highly competitive and airlines keep their prices low so as to increase demand
     
• In less competitive markets, businesses may be able to set higher prices

• A strong brand with a loyal customer base can command higher prices
  • E.g. Nike's strong brand allows it to charge premium prices for its athletic shoes and apparel

• In the introduction stage, prices may be set lower to attract customers and build market share
   
• In the growth stage, prices can increase as demand for the product increases
   
• In the maturity stage, prices may need to be lowered again

• Prices must cover the cost of production and provide a reasonable profit margin
  • E.g. A restaurant needs to consider the cost of ingredients, labour, rent, and other expenses when setting menu prices