CHAPTER SIX

PRICING DECISIONS
6.1 Meaning and significance of pricing
 There is no exchange for free. If there is exchange. But if there is transfer through
donation, begging, or transfer through coercion there mayn’t be transfer
 The amount of money paid for some thing
 The amount of money charged for a product or service, or the sum of the values that
consumers exchange for the benefits of having or using the product or service
 It is the sum of all the values that consumers give up in order to gain the benefits of
having or using a product or service
Price goes by many names
 Rent for apartment,
 tuition for education,
 fee to physician or dentist,
 fare for transportation,
 interest for credit,
 premium for insurance retainer for legal service,
 salary for executives, and
 commission for a sales person
 Wage for a worker.
 Utility is the attribute of an item capable of satisfying human wants
 Value is the quantitative measure of the worth of a product to attract other products in
exchange.
 Price is the value expressed in terms of money or any other medium of exchange.

1
6.2. Pricing Objectives
When companies fix/determine prices they have either of the following objectives.
i. Profit Oriented Objectives
a. Achieve Target Return on Investment
A target return on investment objective sets a specific level of profit as an objective. This pricing
objective is used by middlemen and manufacturers that are industry leaders because they can set
prices independently of competition than the smaller firms in the industry.
Example:
Variable cost/unit = $10
Fixed cost = $300,000.00
Expected unit sales = 50,000 units
Return on investment = 20%
Investment cost = $1,000,000
What is price?
Unit cost/unit = Vc + FC
Q
= $10 + $ 300,000
50,000
= $16
Price = $16 + $1,000,000(20%)
50,000
= $16 + 200,000
50,000
= $20
A target return objective has administration advantage in a large company. Performance can be
compared against the target. Some companies drop/eliminate division or products that aren't
yielding the target rate of return. Some managers aim for only satisfactory returns. They just
want returns that ensure the firm's survival and convince stockholders they are doing a good job.
Many private and public non–profit organizations set a price level that will just recover costs,
i.e., that target return on investment is zero.

2
b. Maximize Current Profit
Many companies want to set a price that will maximize current profits. They estimate the
demand and costs associated with alternative prices and choose the price that will produce the
maximum current profit. A profit maximization objective seeks to get as much profit as possible.
It might be stated as a desire to earn a rapid return on investment. Some people believe that
anyone seeking a profit maximization objective will charge high prices – price that are not in the
public interest. However, this point of view is not correct. Pricing to achieve profit maximization
does not always lead to high prices. Demand and supply may bring extremely high prices if
competition can't offer good substitutes. But this happens if and only if demand is highly
inelastic. If demand is very elastic, profit maximizes may charge relatively low prices. Low
prices may expand the size of the market and result in greater sales and profits.
Example: if we assume the demand function to be Q, the cost function to be C and the profit
function to be ‫ף‬:
Q = 10 – P R = PQ
C = 2+Q R = P(10 – P)
C = 2 + 10 – P = 10P –P2
= 12 – P
‫ף‬ = R–C
= (10P – P2) – (12 – P)
= 10P – P2 – 12 + P
= –(P2) + 11P – 12
Profit will be maximum when the 1st derivative is equal to 0;
‫=ף‬ –P2 + 11P – 12
-2P+11=0
-2P=-11
P=5.5
X 1 2 3 4 5 5.5 6 7 8 9
2 6 12 16 18 18.3 18 16 12 6
20 Y

15

10
Y

0 3
0 1 2 3 4 5 6 7 8 9 10
Y

Limitations:
– The firm assumes that both demand and cost functions are known – practically it is
difficult to estimate.
– It emphasizes on current financial performance.
– The company ignores other variables like competitor's reaction, legal restrains on
price, etc.
ii. Sales Oriented Pricing Objective
c. Maximum Sales Growth:
In this objective, the company wants to achieve maximum sales growth (unit sales, dollar sales
or share of market). In this case, companies believe that high sales volume will lead to lower unit
costs and higher long run profit. However, sales growth doesn't necessarily mean big profits.
This kind of thinking causes problems when a firm's costs are growing faster than sales or when
managers don't keep track of their costs. Usually, company's set the lowest price assuming that
the market is highly price sensitive and it is called penetration pricing.
This will be possible and effective
i. When the market is highly price sensitive and a low price stimulates more market
growth.
ii. Production and distribution costs fall with accumulated production experience.
iii. A low price discourages actual and potential competition.
d. Market Share Objectives:
Many firms seek to gain a specified share of a market. A benefit of a market share objective is
that it forces a manager to pay attention to what competitors are doing in the market. In addition,
it's usually easier to measure a firm's market share than to determine if profits are being
maximized. If a company has a large market share, it may have better economies of scale than its
competitors. Therefore, it sells at about the same price as its competitors, it gets more profit from
each sale, or lower costs may allow it to sell at a lower price and still make a profit. A company
with a long–run view may decide that increasing market share is a sensible objective when the
overall market is growing. The hope is that larger future volume will justify sacrificing some
profit in the short run.
iii. Status Quo Pricing Objective:

4
Managers satisfied with their current market share and profits sometimes adopt status quo
objectives–don't lock–the pricing boat objectives. Managers may say that they want to stabilize
prices, or meet competition, or even avoid competition. This doesn't rock–the boat thinking is
meet common when the total market is not growing.

Non–Price Competition: a status quo pricing objective may be part of an aggressive overall
marketing strategy focusing on non–price competition–aggressive action on one or more of the
Ps other than price.
This pricing style is also called stabilizing pricing, which avoids price competition by following
large firms that are price leaders and when the products are highly standardized. The major
reason to use this objective is to avert price war.
There is also other pricing objective, i.e., survival–companies set survival as their major
objective if they are suffering from over capacity, intense competition or changing consumer
preference. To keep the plant going and the inventories turning over, they will often cut prices.
As long as their prices covered variable costs and some fixed costs, they will continue to
business. However, survival is only a short run objective. In the long run the firm must find a
way to add value in the market or face extinction.

6.3 Factors influencing price determination

Knowing the objective of its pricing, a company then can move to the heart of price
management: determining the base price of a product.

Base price, or list price, refers to the price of one unit of the product at its point of production or
resale. This price does not reflect discount, freight charges, or any other modification.

The same procedure is followed in pricing both new and established products.

Other factors, beside objectives, that influence price determination are discussed below:

6.3.1 Estimated Demand

In pricing, a company may estimate the total demand for the product. This is easier to do for an
established product than for a new one. The steps in estimating demand are

5
a) Determine whether there is a price the market expects and
b) Estimate what the sales volume might be at different prices.

A product must also consider a middleman's reaction to price. Middlemen are more likely to
promote a product if they approve its price. Retailer and wholesale buyers can frequently make
an accurate estimate of the selling price that the market will accept for a particular item.

Moreover, the seller is gauging price elasticity of demand, which refers to the responsiveness of
quantity demanded to price changes.

6.3.2 Competitive Reactions

Competition greatly influences base price. A new product is distinctive only until the inevitable
arrival of competition. The threat of potential competition is greatest when the field is easy to
enter and profit prospects are encouraging.

6.3.3 Other Marketing - Mix Elements

The other ingredient in the marketing mix influences a Product’s base price considerably.

a) Product
We have already observed that a product's price is affected by whether it is a new item or an
established one. Over the course of a life cycle, price changes are necessary to keep the product
competitive.

b) Distribution Channels
The channels and types of middlemen selected will influence a producers pricing. A firm selling
both through wholesaler and directly to a retailers often sets a different factory price for these
two classes of customers. The price to wholesaler is lower because they perform services that
the producer would have to perform - such as providing storage, granting credit to retailers, and
selling to retailers.
c) Promotion

6
The extent to which the product is promoted by the producer or middlemen and the methods used
are added considerations in pricing. If major promotional responsibility is placed on retailers,
they ordinarily will be changed a lower price for a product than if the producers advertises it
heavily.

6.3.4 Discount & Allowances

Discount & allowances result in a deduction form a base (or list) price. The deduction may be in
the form of a reduced price or some other concession, such as free merchandise or advertising
allowances. Discount & allowances are commonplace in business dealings. Discount takes
several forms as explained below:

1. Quantity Discounts
Quantity discounts are deductions from a seller's list price intended to encourage customers to
buy in large amounts or to buy most of what they need from the seller offering the deduction.
Discounts are based on the size of the purchase, ether in Birr or in units.
e.g. from 1-10 units none
10-20 units 2% discount
21-30 units 3% discounts etc.
2. Trade Discount
Trade discount sometimes called functional discounts, are reductions form the list price offered
to buyers in payment for marketing functions the buyers will perform - functions such as storing,
promoting and selling the product. A manufacturer may quote a retail price of $300 with trade
discount of 30% and 10%. The retailer pays the wholesaler $230($300 less 30%), and the
wholesaler pays the manufacturer $215 ($230 less 10%). The wholesaler is expected to keep the
10% to cover costs of the wholesaling functions and pass on the 30% discount to retailers.
3. Cash Discount
A Cash discount is a deduction granted to buyers for paying their bills within a specified time.
The discount is composed on the net amount due after first deducting trade and quantity
discounts from the base price. Every cash discount includes three elements.
 The percentage discount
 The period during which the discount may be taken &
 The time when the bill becomes overdue

7
Let's say a buyer owes $250 after other discounts have been granted and is offered terms of 2/10,
n/20 on an invoice dated November 8. This means the buyer may deduct a discount of 2%
($7.20) if the bill is paid with in 10 days of the invoice date - by November 18, otherwise the
entire (net) bill of $250 must be paid in 20 days - by December 8, etc.

6.4.5 Cost of a Product

Pricing of a product also should consider its cost. A product's total unit cost is made up of
several types of costs, each reacting different to changes in the quantity produced.
Cost means the amount of expenditure incurred to produce a job or a product or to render a
particular service. The total cost of a product is divided as material cost, labor cost, and other
expenses incurred. These costs are further divided in costing as:
1. Direct material cost & indirect material cost
2. Direct labor cost & indirect labor cost
2. Direct expenses & indirect expenses.
Direct material cost plus direct labor cost plus direct expenses is known as prime cost. Indirect
material cost plus indirect labor cost plus indirect expenses are known as overheads and prime
cost plus overheads is the total cost.
These costs are further classified as per their common characteristics as follows:
1) According to their nature: - such as material cost, labor cost and overheads.
2) According to their functions: - such as prime cost, factory costs, office & administration
costs, selling costs, and distribution cost.
3) According to their variability: - such as fixed costs, variable cots, and semi-variable costs etc.

1. According to their nature

In this classification cots are divided as material cost, labor cost, and overheads.
Material cost: " The cost of commodities supplied to an undertaking.
Labor cost: the cost of remuneration (wages, salaries, commission, bonus etc) of the employees
of the undertaking.
Overheads or Expenses: the cots of services provided to an undertaking & the notional cost of
the use of owned assets.
2. According to their Function

8
In this classification costs are divided as prime cost, factory cost, office & administration cost &
selling & distribution costs.
Prime cost: Cost of direct material, direct labor and direct expenses.
Direct material cost: It is the cost for material used for producing the product.
Direct labor cost: the wages paid to the workers who are manufacturing the goods are known as
direct labor cost. If the work of a particular worker is clearly identified with the production of a
particular product, then the amount paid for such work is direct wages.

Some indirect wages such as wages paid to foreman, inspectors etc. are charged as direct wages
because they can be identified with the product.

Direct Expenses
Direct expenses are those, which can be identified with a particular cost unit or cost center. In
other words direct expenses are those expenses, which are spent for a particular job or a
particular product. Direct expenses however, do not include direct material cost and direct labor
cost. Direct expenses are included in the prime cost.

6.4. BASIC METHODS OF DETERMINING PRICE

Most of the approaches used by many companies to establish base prices for their products are
variations of one of the following methods:
1. price based on total cost plus a desired profit
2. price based on a balance between estimates of market demand and supply (the costs of
production and marketing)
3. price based on competitive market conditions
6.4.1. Cost-plus pricing
With cost – plus pricing the marketer determines the price of are unit of a product by computing
the unit’s total cost plus the designed profit on the unit.
In general the steps for computing cost-plus pricing one to estimate the number of units to be
produced, calculate fixed and variable costs and add a predetermined profit to costs.
The formula for cost-plus pricing is
Price = Total fixed cost  Total variable cost  projected profit
Units produced

9
As an illustration from the table, if three units one pressed and the firm desires a profit of 500, its
per unit selling price to retailers would be
Price = 1750  7800  500
3
= 3,350
While this is a very simple and easily applied pricing method, it is based on standard volume of
production. Consequently the unit price at various levels of production capacity are different. In
short it disregards that are different types of costs and that these costs are affected differently by
increases or decreases in output. Furthermore, the short comings of this method are the
following:
- profit is not expressed as percent of sales, but as percent of cost
- It ignores consumer demand, thus it should be considered as tentative price rather
than a finalized price
- There are no plans for using excess capacity
Cost plus pricing is also used by wholesaler and retailing middlemen. Some companies call it
marks up pricing and they consider it independently out of cost plus pricing but the concept is
the same. A wholesaler, for example, pays a given amount to buy products and have them
delivered to the store. Then the wholesaler would add an amount (mark up) to the acquisition
cost. This mark up is estimated to be sufficient and to cover the stores expenses and still leave a
reasonable profit.
6.4.2. Price Based on market demand and cost of production and marketing
Break-even Analysis
One way to use market demand and still consider costs in price determination is to conduct a
break-even analysis and determine break even points. A break-even point is the quantity of
output at which the sales revenue equals the total costs, assuming a certain selling price. Sales of
quantities above the bread-even point result in a profit on each additional unit. Sales below the
break-even point result in a loss to the seller.
Bread-even analysis examines the relationship among costs, revenues and profits. Let us assume
that
P = unit price
Q = Quantity
R = Revenue (p x Q)
F = Fixed cost

10
 V = variable cost per unit
TC = Total cost (F  VQ)
Break-even point – R = TC
PQ = F  VQ
PQ – VQ = F
Q(P - V) = F
Q =F
P-V
Total Fixed cost
Break-even point in units =
Price – variable cost per unit

1 2 3 4 5
Unit price Unit variable Contribution to Over head Break – even
cost overhead 1 - 2 TFC point 4 3
60 30 30 250 8.3
80 30 50 250 5.0
100 30 70 250 3.6
150 30 120 250 2.1

When price is $80, the break-even point is reached when the company sells five units. Fixed
costs regardless of quantity produced and sold are 250. The variable cost per unit is 30. If this
company sells five units, total cost is 400 (fixed cost of 250 plus variable cost of 5 x 30 or 150).
At a selling price of 80 the sale of five units will yield 400 revenue, and costs and revenue will
equal each other. At the same price, the sale of each unit above five yields a profit. Break even
point can also be used in sales volume, this can be dome by first determining the price.
Fixed cost
BEP =
Variable cost per unit
F
=
V

11
 1-
P
Let us look at the above graph with selling price of 80
250 5
BEP in sales = = 250 x 8 = 400
30
1-
80
Market Total BEP Total cost Total profit
Unit price demand revenue
60 7 420 8.3 460 -40
80 6 480 5.00 430 50
100 5 500 3.6 400 100
150 2 300 2.1 310 -10

The break-even analysis has certain limitations. In terms of cost structure it assumes the variable
and the fixed costs to be cost to be constant and the total cost line is a straight line because the
variable costs are constant. In terms of revenue the total revenue curve is a straight line but in
reality it is the most flexible. Besides it ignores the market demand at various prices; and if it
considers it, it assumes as if market demand can be predicted accurately.
However as indicated in the above graph, the optimum price, which can generate maximum
profit, can be found by using the break-even analysis and estimated.
Market demand
If the demand curve lies below the break-even point, we incur loss. Higher price does not
necessarily indicate maximum profit and vice-versa. To find the optimum price, which can
generate maximum profit, a firm looks for the break-even points that pass along the demand
curve, and should choose the break-even point with maximum vertical distance from the total
cost line.
6.4.3. Price determined in relation to market alone
Cost- plus pricing is one extreme among pricing methods. At the other end of the scale is a
method where by a firm’s prices are sets in relation only to the market price disregarding cost.
This method is used to meet competition or it may be set either above or below the market price.

12
Pricing above the market
This is based on charging prices that are higher than those of competitors. It may also be
referred to as skimming pricing when producers introduce a new product. The producer charges
a high price during the introductory stage, and later reduces it when the product is no longer a
novelty and competition heats up. The price is set high relative to the cost, which results in high
gross profit. Consequently, it often attracts competitors. Companies, which adopt a skimming
policy, try to cover their development costs as quickly as possible through high initial prices.
Pricing below the market
Charging prices, which are below those of competitors, is called pricing below the market. It is
also called penetration pricing. Producer’s charges a low price during the introductory stage and
plan to get back to the initial investment through big sales. It may be economical because
producing large quantities- production oriented approach-saves money. This policy is practiced
by a company coming in to a market in which competitors are well established.
Pricing with the market
Premium pricing is another name for pricing with the market. It is charging prices that match
with the market or those of competitors. By pricing with the market producers avoid tremendous
effort required to find out what the consumer would actually pay. This pricing also creates a
business climate in which all firms can avoid the unpleasantness of price competition.
Companies prefer to compete through brand differentiation rather than through price competition
although competitors gain a small profit per unit.
6.5. PRICING PROCEDURES
The procedures to determine the price of a certain product are similar for a new and existing
products. In fact to set price for a new product is more difficult than for already established
products. The pricing procedures adapted by many firms are following.
1. Estimation of demand for a product
Demand estimation is an important step in pricing a product. It is easier to estimate the demand
for an established product than for a new one. Two steps in demand estimation are first, to
determine the expected prices. And second to estimate the sales volume at different prices.
The expected price for a product is the price at which consumers consciously or unconsciously
value it looking the expected price from the point of view of consumers. The expected price is
usually expressed as a range of prices, rather than as a specific amount. It is possible to set a
price too low but if the price is much lower than the market expects sales may be lost because
consumers may be suspicious about the quality of the product or their self-concepts will not let

13
them to buy such low-priced merchandise. To set appropriate expected price a firm has to use
the following sources:
- approaching experienced middlemen
- judgment of potential customers
- approaching an engineer working with prospective products
- Marketing the product in a limited area – the most effective but costly method.
In obtaining the expected price using different sources firms may be faced with two problems.
First, the expected price may be below the cost of the product. Even if it equals the cost the firm
does not generate profit and is faced with heavy resistance. This problem can be overcome by
introducing more attractive product features to the product, and under taking different
promotional activities that can increase the apparent price of the new product.
The second problem is the intended price may be less than the expected price. It is possible to
set a price too low but sales may be lost because consumers may be suspicious about the quality
of the product or their self-concepts will not let them to by such low-priced merchandise.
The second step in estimating the demand for a product is estimating sales at various prices.
Determine the expected sales volume to conduct market testing, offering the product at a
different price in each market and measuring consumer purchases at these different prices. Or
some firms can get these estimates by surveying their wholesalers and retailers.
2. Anticipate competitive reactions
Present and potential competition is an important influence in determining a base price. Even a
new product is distinctive for only a limited time, until the inevitable competition arrives. The
threat of potential competition is greater when the field is easy to enter and the profit prospects
are encouraging. Competition can also come from three other sources:
 Directly similar products – metal (aluminum and iron)
 Available Substitutes _ plastic Vs metal
 Unrelated products _ two different products with similar money value
3. Consider company marketing policies
In setting a price management should take into account the impact of different marketing
policies and considerations. The policies concerning the product and its attributes, the
channels selected and the types of middlemen used; and the promotional methods used, and
the extent to which the product is promoted by the manufacturer or middlemen are of
significant impact on pricing.
4. Select pricing strategy to reach the market

14
 The most dominant and basic pricing strategies are of three types: skimming, penetration,
and premium pricing strategies.
Skim the cream pricing
The cream skimming pricing involves setting a price that is high in the range of expected prices.
This strategy is particularly suitable for new products for the following reasons.
 In the early stages of a product life cycle, price is less important, competition is minimal and
the product’s distinctiveness lends itself to effective marketing.
 If the original price is too high and market does not respond, a firm can easily lower it. But it
is very difficult to raise a price that has proven too low to cover costs
 High initial prices can keep demand within the limits of a firm’s productive capacity, and
generate large profit at the beginning of the marketing stage
Penetration pricing
In penetration pricing, a low initial price is set to reach the mass market instantly. It is often
employed at the later stage of the product life cycle. Penetration pricing has an advantage over
skimming if the following conditions are fulfilled:
 If the product has highly elastic demand
 If substantial reductions in unit costs can be achieved through large scale operation,
and
 If the product is expected to face very strong competition soon after it is introduced to
the market
Penetration pricing discourages other firms from entering the market because of anticipated low
margin, and helps to expand market share.
Premium pricing
Premium pricing is an extension of skimming pricing strategy. In this case firms develop equally
high prices with other competitors. Premium pricing should be accompanied by the following:
 strong product in terms of quality
 high promotional activities
 high quality customer services
5. Select a specific price.
Based on an appropriate method(s) assumed by the firm, we select a specific price that best
matches the market and generates higher profit.

15
6.6. PRICING STRATEGIES AND POLICIES
A policy is a managerial guide to future decision making when a given situation arises. A
strategy is a broad plan of action by which an organization intends to reach its goal. Thus a
policy becomes the course of action followed routinely any time a given strategic or tactical
situation arises. Suppose a firm adopts the strategy of offering certain quantity discounts in order
to achieve the goal of a 10% increase in sales next year. Then routinely, every time the firm
receives an order of a given size, it is company policy that grants the customer the prescribed
quantity discount.
6.4.1 Discounts And Allowances
Discounts and allowances result in a deduction from the base or list price. The most common
types of discounts and allowances are:
Quantity Discounts- are deductions from the list price of the product fined by a seller to
encourage customers to buy in larger amounts or to make most of their purchases from that
seller. Quantity discounts can be either cumulative in which the discount is based on the total
volume of purchase over a given period of time, or non-cumulative in which the discount is
based on a single purchase of one or more products. These discounts are designed to increase
sales potential.
Trade Discounts – trade discounts, also called functional discounts, are reductions from the list
price offered to buyers when they perform a service or function within a channel of distribution.
A manufacturer quotes a retail list price of 500 discount of 45 percent and 8 percent. Then the
retailers cost will be 275(500 minus 45 percent). The wholesaler will pay 253(275 minus 8
percent)
Cash Discount – is a deduction granted to buyers for paying their bills within a specified period
of time. This is computed on the net amount that is after deducting trade and quantity discounts
from the list price. If a buyer owes 360 and the seller offered terms 2/10, n/30 on an invoice
dated September 8, the buyer may deduct a discount of 2 percent (7.20) if the bill is paid within
10 days after the date of the invoice. Otherwise the entire bill of 360 must be paid in 30 days
(October 8) cash discount is designed to encourage buyers for cash payment and minimize
uncollectable accounts.
Seasonal Discounts – are price reductions for buying merchandise out of season or slack season.
Off-season orders enable manufacturers to make better use of their production facilities and / or
avoid inventory-carrying costs.

16
Promotional Allowance – it plays a dual role; it is a pricing tool and a promotional device.
Promotional allowance is price reduction offered by the seller in payment for promotional
services performed by buyers. For example the manufacturer may share half of the cost of
advertising made by the retailer. Promotional allowance can also be given in terms of free
goods.
Freight Allowance – the seller may absorb all or part of the actual freight charges. It is used
where competition is intense or when breaking into new market areas. It is advantageous when
the size and cost of goods is large and the distance of transportation is long.
Merchandise Bonuses – it refers to the provision of excess merchandize, beyond the agreed
amount, for various purposes such as to offset damages. It may also be effected in the form of
complimentary goods and trading stamps.
6.42. Promotional Pricing
Under certain circumstances, companies will temporarily price their products below the list price
and sometimes even below cost. Promotional pricing takes several forms:
 Loss leader pricing- in this case, supermarkets and department stores drop the price on well-
known products to generate store traffic. But manufacturers typically disapprove of their
brands being used as loss leader because this can dilute the brand image as well as cause
complaints from other retailers who charge the normal price. Manufacturers have tried to
restrain middlemen from loss leader pricing through retail price maintenance laws, but these
laws have been revoked.
 Special event pricing- this involves provision of discounts that is used by sellers in certain
seasons to draw in more customers.
 Cash rebates- consumers are offered cash rebates to get them buy the manufacturer’s product
with in a specified time period. The rebate can help the manufacturer clear inventories
without having to cut the price.
 Psychological discounting - this involves putting an artificially high price on a product and
then offering it at substantial savings. For example ‘was Birr 459, now Birr 389”.
The difficulty with promotional pricing tactics is that if they work, competitors copy them
rapidly, and they loose their effectiveness for the individual company; if they do not work, they
waste company money that could have been put into longer-impact marketing tools, such as
building up product quality and service and improving the product image through advertising.

17
 5.5.3. Discriminatory Pricing
Companies will often modify their basic price to accommodate differences in customers,
products, locations, and so on. Discriminatory pricing describes the situation where the company
sells a product or service at two or more prices that does not reflect a proportional difference in
costs. It takes several forms:
 Customer segment pricing: here different customer groups are charged different prices for
the same product. Museums will charge a lower admission fee to students and senior
citizens.
 Product form pricing: here different versions of a product are priced differently but not
proportionally to their respective costs.
 Image pricing: some companies will price the same product at two different prices.
 Location pricing: here different locations are priced differently even though the cost of
offering each location is the same.
 Time pricing: prices are varied seasonally, by the day, and even by the hour. Public utilities
vary their energy rates to commercial users by time of day and weekend versus weekday.
6.4.4. One-Price Vs Flexible Price Strategies
Under one price policy a seller charges the same price to similar customers who buy similar
quantities of a product lowing advantages:
 it is a great time saver
 it is easily and widely applicable in mail-order retailing, self-service selling, and automatic
vending
 it builds confidence of consumers on seller
Under flexible, also called variable, price strategy similar customers may each pay a different
price when buying similar quantities of a product. In this case the price is often set as a result of
buyer-seller bargaining. It is common in automobile vending. This strategy is adopted by firms
using aggressive selling to enter new markets and increase their market share. The chief
advantage of flexible pricing is the flexibility of prices that match different customers in different
conditions.
6.4.5. Price Competition Vs Non-Price Competition
Price competition
A firm can effectively engage in price competition by regularly offering prices that are as low as
possible. Any firm uses price to compete by changing its prices, and reacting to price changes
made by a competitor.

18
When a firm’s market share is declining or its sales are declining, its management decides to
reduce the price, i.e. the price change is instated by the firm. In taking the initiative of price
reduction, a firm should check that demand is elastic, i.e. a relatively small change in price
should result in a relatively larger change in quantity demanded. Indirectly, when a firm cuts its
price it expects larger sales volume although the objective may be to maintain or increase profit.
The percentage increase in sales units should at least offset the percentage of price cut to
maintain the existing gross margin. We use the following formulas.
a) Percentage increase in sales units
Let X = percentage increase in sales units
C = percentage price cut
c
Then, x = 1-c
To illustrate if a firm is selling 200 units at 10 Birr per unit currently, and wants to cut the price
by 20%, what is the necessary percentage increase in sales so as to maintain the same sales
volume?
Required: percentage increase in sales units
Objective: sales Birr volume as before
c
X= 1–c
0.20
X=
1 – 0.02
0.02
=
0.08
20
= x 100
80
= 25%
price cut = 10 x 20 = 2 Birr
the new price is then 10- 2 = 8
percentage increase in units 200 x 25 = 50
100

19
 the new sales Birr volume = 250 x 8
after price cut = 2000
The previous sales Birr volume = 200 x 10
Before price cut = 2000
b) Percentage increase in sales Birr volume
If a company has a 40 percent gross margin and cuts its price by 10 percent. Then the percentage
increase in Birr sales volume to earn as much gross margin Birr as before the cut in price would
be as follows:
Let X = percentage increase in sales Birr volume
M = gross margin percentage
C = percentage in price cut
Then X = m (1- c) -1
m- c
= 0.40 (1- 0.10) - 1
0.40- 0.10
= 0.36 -1
0.30
= 0.06
0.30
= 6 x 100
30
= 20%
When price changes are to be initiated by a firm, care should be taken because when competitors
are few (oligopolistic competitions) they will retaliate. The net can be a price war, and the price
may even settle at a lower level. Thus the firm should be aware of its competitors’ reactions in
advance.
Any firm can initiate a change in price, thus every firms should be ready with some policy
guidelines on how to react. Advance planning is then necessary in case of a competitive price
reduction; and any firm should carefully analyses and investigate whether the price reduction is
right or not. When a competitor takes the initiative of cutting down prices the firm has to check
whether it is for short run or for the long run and finally determine to cut its prices or utilize the
other marketing elements.

20
Non – price competition
Unlike price competition, in non-price competition organizations increase their sales volume and
market share by manipulating all the marketing mix variables except price. They use product
differentiation, product positioning, promotional activities, channel selection or some other
device such as variety and quality of their services.

21