Ministry of Higher Education College of banking and financial studies (2015-2016)

The price of a product is the value placed on a good or service by the customers. It is what consumers are willing to pay for a good or a service. In many cases, it has a psychological impact on consumers.

Pricing Strategies

Home Furniture Ltd and Hospitality Furniture Ltd can adopt various pricing strategies for their products and services. Absorption and marginal-cost based pricing strategies are the most common depending on the targets of the companies.

Absorption Pricing Policies

Using this policy, the product price will encompass its unit variable cost plus a proportionate amount of its fixed costs. All costs associated with the development of the product are recovered. Some of the pricing methods under this policy that the two furniture companies can adopt include:

  1. Skimming

A market skimming price is appropriate when introducing a new product. The product is launched at a high price with a relative promotion. The high price is aimed at recovering as much gross profit per unit as possible while the promotion is aimed at convincing the market of the superiority of the company’s products. At this high price, only a few sales are required to breakeven.

Home and Hospitality Furniture Ltd can apply this pricing policy when: the demand at the current price is sufficient; the high initial price does not attract new entrants; and that the price communicates the quality of the product being offered.

  1. Cost-plus Pricing

This system of pricing is based on pre-determined standard cost and revenue per unit. Home and Hospitality Furniture Ltd can then use these variables to benchmark and assess their performance. For instance, if a competitor’s price is established, the firms can decide to set a higher/lower price depending on what the company intends to attain. It is appropriate where there is stiff competition, and the market is positively price elastic.

Marginal-cost Pricing Policies

It is the practice of setting the price of a company’s products equal to the cost of producing an extra unit of output. This pricing policy is appropriate during periods of poor sales. Hospitality and Home Furniture Ltd can use various methods under this strategy to determine their prices.

  1. Penetration Pricing

It involves setting a low price for a new product with an aim of attracting buyers and thus gaining a large market share. After establishing a market for the product, the price is then evaluated upwards.

Home Furniture Ltd could use this pricing policy to introduce standard lounge sofas under the following conditions. A low price will discourage new entrants into its market. The market in which it operates is highly sensitive to price, and such a low price will stimulate growth in its market share. Finally, penetration pricing is only appropriate if the costs of production shall be falling with the accumulation of production experience.

  1. Contribution Margin-based Pricing

This pricing strategy aims at maximizing the contribution derived from an individual product. Home Furniture and Hospitality Furniture Ltd could use this method to maximize the difference between their product’s prices and the related variable costs. The firms can adopt contribution margin-based pricing in a situation when the market is highly sensitive to price.

 

Question B)

Penetration Pricing

In the case of penetration pricing as an example of marginal pricing policy, Home Furniture Ltd is able to use bring into the existing market standard lounge sofas but charge a low price that block new manufacturers from venturing into the market. This will enable it to increase its market shares in market because most customers will buy cheap sofas. This strategy will be appropriate for the Home Furniture Ltd because it provides with opportunity to reduce its production cost as it gains experience in the productions.

Contribution Margin-based Pricing

Contribution Margin-based Pricing is another strategy of marginal pricing policy that can be used by the Home Furniture Ltd to maximize the sale of its sofas. Through this strategy, it will be able to reduce the price of its sofas lower than the lowest existing price in the market to attract more buyers, hence increasing its market shares.

Cost-plus Pricing

Cost-plus pricing can be used by Home Furniture Ltd to determine its competitor’s price and establish a lower price to attract more buyers hence recover from its fall in the number of orders.

Skimming

Skimming is a strategy of absorption pricing policy and it involves introducing a product into the market at a higher price but consequently selling it through promotions. Since the business is fast and he market is highly competitive for the Hospitality furniture it would be prudent to adopt this strategy. This will increase its survival chances in the market because promotion activities will convince many consumers that their new product is superior to all other products in existence in the market. When this is achieved, it will be able to get an increase market share and income. It will eventually obtain stability in the market.