Price formation in the industrial market
After studying this chapter, the student must:
• the main models of pricing in the industrial market;
• classification of prices in the industrial market;
• the price structure from the manufacturer's point of view on the B2B
• The concept of "enterprise pricing strategy";
be able to
• identify the most effective pricing model for a particular enterprise in the industrial market;
• characterize the main stages of the enterprise pricing development process;
• analyze the structure of the price of a product in the industrial market;
• the specific application of the main pricing models in the industrial market;
• skills in developing an enterprise pricing strategy.
Effective pricing models in the industrial market
When choosing a pricing model in the industrial market, companies take into account not only such important factors as the demand for the goods, the elasticity of this demand, the prices of competitors, but also the total cost of the product for the buyer (taking into account its delivery, installation of necessary components, engineering development etc.), as well as the level of prices for products, equipment and services surrounding this product.
Taking into account the fact that an enterprise should economically efficiently conduct its economic activities in the market, in order to obtain maximum/sufficient profit, then the level of prices for its products should be determined by targeting its consumers and main competitors. In accordance with this fact, the following groups of pricing models can be distinguished:
• cost-oriented pricing models;
• consumer-oriented pricing models
• Pricing models that are oriented to competitors (Figure 8.1).
Fig. 8.1. Pricing Models
The essence of a cost-oriented group of models is that an enterprise establishes a level of prices for its goods so that they cover all (or most) the costs of producing this type of product. Calculation of costs is based on production accounting and planning data.
The group of cost-oriented pricing models includes such commonly used companies as (Table 8.1):
1) full cost model;
2) the return on investment model;
3) Marginal cost model.
Characteristics of cost-oriented costing models
Characteristic of the model
The full cost model
The enterprise sets a price that exceeds the cost of its products over production costs, and provides the company with a certain level of profitability. In practice, the price of a product consists of the cost of production of the product and a certain percentage set for the customer.
The model is effective if the expected sales volume coincides with the real one, high market predictability, good knowledge of demand and competition
Return on investment model
The company sets a price that covers the level of return on investment. The final price consists of the sum of the costs of production of the product and the surcharge, which ensures the level of return on investment. In practice, this model is often used by businesses that are limited in obtaining "fair" quotes. and sufficient income from their activities (for example, public catering, transport, communications, educational institutions and health care)
Marginal Cost Model
The essence of the model is the separate accounting of conditionally variable and conditionally fixed costs. The formation of the price occurs by adding to the total value of variable costs an amount that covers conditionally fixed costs and provides a normal profit (marginal profit). Thus, the peculiarity of this model is the calculation of the upper and lower price limits. The upper limit should ensure the recovery of all costs and the receipt of planned profits. The lower limit of the price is focused on covering variable costs
The full cost model is often used by manufacturing organizations in practice, as managers are more easily guided by their costs of product production than by difficult-to-forecast demand; producers are guaranteed a certain level of income, but they can not raise the price of the product with increasing demand.
It's important to remember!
All pricing models that make up a group of cost-oriented pricing models have their advantages and disadvantages. So, for example, the shortage of the full cost model is the ignoring of the current demand for the product, its customer evaluation and competition. The model of investment return does not take into account the market conditions, and when setting the price level, the company is focused primarily on internal factors. The marginal cost model takes into account demand, and when it is applied there is no need to allocate overhead costs per unit of its output.
Pricing models that are consumer-centric. Among the advantages of this group of methods is the consideration of the competitive advantages of the company's products.
From the models of pricing oriented at consumers, one of the most frequently used models by the manufacturers is:
1) pricing model based on perceived value;
2) The tender method.
In general, using these models, manufacturers are based on the willingness of the consumer to pay a certain price for a specific product. Companies that have information on the maximum price that consumers are willing to pay set a certain price boundary beyond which the demand for a product of this quality will cease (due to financial constraints or because of the availability of goods of higher quality at this price).Pricing based on perceived value. At present, more and more companies-producers, when establishing the final price for a product, are oriented not to the costs of production and circulation, but to the consumer's assessments of this goods of the company. In the conditions of toughening of competition in the market, in order to raise product ratings in the minds of the buyer, companies are increasingly resorting to various marketing tools, among which one of the leading positions is product positioning. When using this pricing model, the company develops a multi-attribute product model, its managers estimate the volume of output that it intends to sell at a given price, plan production volume, determine investment and the level of costs per unit of output. Then, the adequacy of the profit share per unit is estimated at a fixed price and costs. If the results are acceptable to the company's management, then full-scale production of the goods begins. One of the most important factors of using this model in practice is a detailed and in-depth analysis of the customer's product evaluation, because in this case it is the perception of the goods by consumers that allows the company to argue the established level of the price of the product.
Tender pricing method is more focused on the perception of the price by the buyer in comparison with competitive prices. However, the establishment of a price for a product as compared to a competitive one below the level that provides the manufacturer coverage of the total amount of costs for the production of the product is impossible. Conversely, the higher the level of the price assigned by the manufacturer, the less likely it is for him to obtain a contract.
It's important to remember!
Playing on the price difference, the company can achieve maximum profit in the long term, but its occasional application does not give the company significant benefits.
The essence of competitive pricing models is that the company is guided by the current prices of competitors, while the company has alternatives - to set the price level above or below the competitor's price level. These methods are most effective for those producers who find it difficult to pinpoint their unit production costs and adhere to the average level of prices for similar products in the industry. With this approach, the company does not change the level of the established prices for the goods when the costs of its production and demand change, until it is made by its closest competitors. However, as soon as competitors change their prices, the company will immediately react to these changes and raise/lower its level of prices, despite the fact that own costs for production and market demand remain unchanged.
Pricing models targeting competitors include:
• model of adaptation to the existing price;• a consistent price increase model (based on high reputation and quality of the product);
• The model of a consistent price reduction.
The pricing model data can be used separately from each other, but there is a method that links them together. It is called the method of calculating alignment and is used to determine the price of a large number of goods.
A huge number of pricing models can be used within price competition. The most popular among them is the pricing model at existing prices, the essence of which is to study the prices of competitors and less focus on their costs and demand for the product.
The main task of the department of prices and pricing policy of OJSC "Lukoil" is the development of an effective pricing policy based on monitoring, analysis, development of recommendations, calculation and adjustment of current prices in order to ensure a reliable adaptation of the enterprise to fluctuations in market conditions, price policy to changes in the external environment and internal factors to ensure profitability of the economic activities of the enterprise. The main duties of the head of the price and pricing policy department are to offer suggestions on price changes, depending on the elasticity of demand for this type of product and the level of competition; to adjust the price policy depending on changes in political, environmental, social and other external factors; to forecast the prices for raw materials, materials, works and services; to analyze the effect of prices on deviations of the actual cost price from the estimated cost (by types of products).
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