The factors influencing pricing can be studied under the following heads:- 1. Internal Factors 2. External Factors.
Some of the internal factors influencing pricing are:- 1. Organisational Factors 2. Marketing Mix 3. Product Differentiation 4. Cost of the Product 5. Objectives of Firm 6. Business Objectives 7. Cost of Production 8. The Status of the Seller 9. Stage in the Product Life Cycle 10. Marketing Objectives 11. Marketing Mix Strategy 12. Level of Production 13. Pricing Objectives.
Some of the external factors influencing pricing are:- 1. Demand 2. Competition 3. Supplies 4. Economic Conditions 5. Buyers 6. Government 7. Distribution Channels 8. Buyers’ Behaviour 9. Price Elasticity of Demand 10. Nature of Buyuers 11. Prices of Substitutes 12. Legal Provisions.
Factors Influencing Pricing: Internal Factors and External Factors
Factors Influencing Pricing – Classified under 2 Heads: Internal and External Factors
Pricing decision are influenced by many factors.
These factors can be classified under two heads:
1. Internal Factors:
Internal factors are those factors that work from within the organization.
Such factors include:
(i) Organisational Factors:
In the organization pricing decision happens at two levels. At the higher level management, decisions like price range and the pricing policies are decided. The actual price is then determined by the lower level management. It must be noted, however, that such actual price decisions must keep into consideration individual product strategies and the pricing policies decides by the top level market.
(ii) Marketing Mix:
Pricing is only one element of marketing mix. All other elements hold equal importance to the success of marketing strategies of the firm.
Any shift in any of the elements has an impact on the other elements of the marketing mix. A firm must make suitable changes to all the elements of marketing mix to succeed with a change in any element, e.g. an increase in price will become acceptable only if it is coupled with adequate upgradation in the product features as well.
(iii) Product Differentiation:
Price of the product very much depends upon the nature and characteristics of the product. A differentiated product with value added features like quality, size, color, attractive packaging, different uses of the product, utility etc. always forces the customers to pay more price as compared to any other product.
Cost and price of a product are closely related and are independent. The firm must decide a realistic price based on current demand, competition, buying capability, etc. The firm must also keep into consideration its cost of production as it would not want to sell below the cost of production on a long term basis.
Pricing contributes its share in attainment of the objectives of the firm. The firm may have a variety of objectives including – sales revenue maximisation, profit maximisation, market share maximisation, maximisation of customer value, maintaining image and position, maintaining stable prices etc. Pricing policy must be established only after objectives of the firm have been decided and understood.
2. External Factors:
External factors are those factors which affect all the firms of a given industry almost uniformly and are usually beyond the control of the firm.
They include:
Market demand of a product obviously has a major impact over its pricing policy. If the demand is inelastic then higher price may be fixed but if the demand is elastic then prices must be competitive.
Demand is affected by factors like, number and size of competitors, buying capability and willingness of prospective buyers, their preferences etc.
In a market with many competitors, prices have to be competitive without compromising on the quality. But in a monopolistic kind of market, prices can be determined by the market leader, irrespective of the pricing strategy of its competitors.
(iii) Supplies:
If prices of raw material goes up then the price of finished goods are bound to go up. Also suppliers pricing policy has a direct impact on the prices. Scarcity or abundance of raw material will also determine its prices’ thereby affecting the overall price.
(iv) Economic Conditions:
Overall economic conditions have a very important role to play in the pricing decision. During recession prices have to be reduced considerably to sustain. On the other hand, during boom time, prices can be increased to reap the benefits of improved economy.
(v) Buyers:
The nature and behaviour of buyers will also have an influence on the pricing decisions. Their buying capability and willingness to pay a certain price cannot be ignored by the marketer.
(vi) Government:
Government may exercise some measure of price control through enactment of certain legislations etc. Such measures are taken to protect the interest of people at large.
Factors Influencing Pricing – 2 Important Factors: Internal Factors and External Factors
A business organization should consider all the factors that affect the pricing decisions.
These factors are as follows:
Internal factors are those factors that are within the control of the firm.
These are as follows:
Pricing is one of the factors that help a company in achieving its various business objectives. Fulfillment of objectives such as stability in prices, maximization of profits, survival in competition etc., is affected due to pricing policies. Hence, all these factors should be considered while fixing the price of a product.
Price needs to cover the cost of production and distribution of a product. It also should include a margin of profit for the manufacturer. Thus, the cost of production should be considered before fixing the price of a product.
Price is one of the four factors of marketing mix. The marketing mix in totality should be an effective mix of Product, Price, Promotion and Place. It must be ensured that the price of the product is such that the marketing mix is not adversely affected. Sometimes, high prices are charged to show the quality of a product and sometimes low prices are charged to make a new product popular.
Product differentiation on the basis of innovative features is often used to distinguish a product from that of its competitors. This also lets the manufacturer devise its own pricing policy distinct from that of its competitors.
Price fixing is an important responsibility of top management and the sales department has to implement the policy. Hence, in order to ensure that an effective pricing policy is formed, there should be proper co-ordination and agreement between the top executives and the head of the sales department.
External factors are those factors that are beyond the control of the firm.
These are as follows:
In a customer oriented market, the customer is always influenced by the price of the product. The price of a product is the prime consideration for a customer. At the same time, the customer is also willing to pay more if the product satisfies his wants. Hence, while fixing the price of a product, customers demand for the product should be taken into consideration.
The consumer is always looking out for a product that satisfies his wants at the most competitive prices. Most of the times, a consumer evaluates options before buying a product. Hence, the producer has to ensure that his product and pricing does not vary a lot from the competitors. In case, he wishes to quote a higher price, the producer will have to get into product differentiation and offer something new and fresh to the consumer.
Prices of a product are also influenced by Government policies. Prices for goods like petrol, gas, electricity etc., are fixed by the government and hence, the consumer has to pay the price that has already been fixed by the government.
There are a number of middlemen that form part of the product distribution chain. The charges paid to these middlemen are already included in the ‘Maximum Retail Price’ (MRP) of a product. Hence, larger the chain of distribution, higher is the price of that product.
A motive is nothing but the feelings, thoughts, emotions and instincts that compel a consumer to buy a product. Buying motive of a consumer plays a very important role in deciding the price for a product. Buyers may be ready to spend money on luxury items. However, they may not be willing to spend much on necessities. Hence, buying motives of the customer should be taken into consideration while fixing the price of a product.
Factors Influencing Pricing – Internal and External Factors
One may have an impression that a seller has maximum freedom in matters of pricing because the product is his; the investment was made by him etc. Reality however is different. In a realistic situation no seller can price his products as he likes. The price is greatly influenced by several factors and the actual price which is fixed is a healthy balance of all these factors. Therefore no seller can afford to under estimate these factors.
The following are the internal factors influencing pricing:
i. Cost of Production:
A seller should always price his products such that the total cost of manufacture is recovered in the price and also a decent amount of profit. No seller can ignore the cost of production for pricing in the long run. In certain cases if it is found that the products cannot be sold at a price above the cost, the manufacturer should reduce the cost of production but he cannot sell at a price of his own liking.
ii. The Status of the Seller:
If the seller is well established, reputed and dominant in the market, a slightly higher price can be charged but a new comer has to set low prices initially.
iii. Stage in the Product Life Cycle:
The pricing strategy should differ based on the stage occupied by the product in its life cycle. If the product is in the introduction stage, the price must low because the focus must be on securing familiarity for the product and growth. During the growth stage the price can be a little higher. During the stage of maturity, however a high price can be charged provided the product has been well accepted and received. During the decline stage, the seller has to again reduce the prices.
iv. Marketing Objectives:
A company’s pricing policy is greatly affected by its own marketing objectives. Therefore, a company should have a high degree of clarity of its own objectives while deciding the price.
If a company aims at survival, the price should be low. If a company aims at current profit maximization, the price should be high. If a company aims at quality leadership, the price should be high to provide for additional R&D costs. If a company wants to prevent the entry of new players into the field, the price should be low so that the new players get panicky.
v. Marketing Mix Strategy:
The price should be well coordinated with the other components of the marketing mix and the entire marketing mix should be well balanced.
If a company aims at a very effective distribution policy with a large number of marketing intermediaries, the price should be high to provide for their remuneration. If a company decides to offer high quality products, the price should be high to provide for additional design expenditure. If a company wants to spend heavily on product promotion, the price should be high to provide for additional advertising and promotional expenses.
vi. Level of Production:
If a company aims at a low or medium scale production, the price must be high because such a company will not have the benefits of economies of large scale production. If a company aims a very large scale production, the price can be low because such a company will have the benefits of large scale operation.
vii. Pricing Objectives:
Every organization has its own pricing objectives and the pricing should be in tune with such objectives.
The following are the external factors influencing pricing:
A company cannot price its products merely by looking inwards.
It has to look beyond itself because a company’s pricing is also influenced by several external factors such as the following:
i. The market and demand – Demand has a great influence on pricing. The demand and supply equation is a very crucial one. If the demand exceeds supply, a high price can be fixed, however if the supply exceeds the demand the seller has to accept a low price. Moreover the prevailing competitive situation in the market also influences pricing. In a pure monopoly, a high price can be set and in a pure competition, the prevailing market price has to be accepted.
ii. Price elasticity of demand – Elasticity refers to the change in demand as a response to a change in the price. If a small drop in the price brings about a great increase in the demand, there is a high degree of elasticity and vice-versa. A seller has to consider such factors while pricing.
iii. Competitors’ prices – The prices fixed by the competitors for similar products should be considered while pricing.
iv. Nature of buyers – The nature of buyers has to be considered while pricing. If the buyers are very loyal, a slightly higher price can be fixed. If the buyers have high purchasing power, a slightly higher price can be fixed etc.
v. Prices of substitutes – Every product will have substitutes and if the prices of these substitutes are low, a seller cannot fix high prices because customers will shift to the substitutes. However if the substitutes are also highly priced, a seller can fix a slightly higher price.
vi. Legal provisions – A seller has to keep in mind several legal aspects and governmental regulations while fixing prices.
Factors Influencing Pricing – Nature of Consumer Demand, Competition, Distribution Network, Internal Factors and Environmental Factors
The pricing decision is potentially a very complex one because it often has to adjust to the requirements of different groups within the firm. For example, finance and accounting may be concerned with price only in relation to costs and the organisation’s ability to meet certain specified financial targets.
Marketing may focus attention on general market reactions and the ability of price to generate a required level of sales, while a sales department may be rather more concerned about the reaction of individual customers. Furthermore, the complexity of the pricing decision can be compounded by the degree of uncertainty that exists in relation to the marketing environment in general, and consumers, competitors and distributors in particular.
Indeed, in general terms a variety of factors will affect the outcome of the pricing process:
Factor # 1. The Nature of Consumer Demand:
Basic economic theory suggests that there is a relationship between price and the level of demand, and that demand will be lower at high prices and higher at low prices. This general principle probably holds for most markets; however, there are always instances of higher prices leading to higher demand.
These typically occur when the price is taken as an indicator of quality, so that demand is higher for a higher-quality product. Some consideration must be given to the basic principle of a negative relationship between price and quantity because revenue depends not just on price but on quantity sold.
Furthermore, costs may also be affected by quantity in that some products may be significantly cheaper when produced on a large scale. When a high level of sales is a target, then it must be recognised that this will often only be achieved by adopting a relatively lower price.
In addition to considering the negative relationship between price and quantity, however, it is also important to consider the responsiveness of price to quantity (price elasticity of demand in economic terms).
If demand for a product is described as elastic, it means that quantity is responsive to demand and only a small change in price may be required to produce a large change in quantity demanded. From a marketing perspective, this suggests that it will be relatively easy to increase sales with only a small reduction in price.
By contrast, when demand is described is inelastic, then it suggests that quantity demanded is not very responsive to price. In such circumstances, reducing price will have very little impact on the level of sales, unless that price reduction is very substantial.
The economic approach to consumer demand considers reactions to price in a narrow sense. From a marketing perspective, we would also want to think about consumer perceptions of value and the benefits they receive from the product. If additional features, which are highly valued by the consumer, can be added to a product, then the price of that product can be increased significantly, irrespective of the cost.
If on-site warranties for personal computers are highly valued by consumers, then including these as a product feature will allow a manufacturer or retailer to charge a higher price over identical products without such features. What is important is not what these features cost, but how highly the consumers value them.
Factor # 2. Competition:
There are few situations where an organisation can set its prices without giving some consideration to the activities of its competitors. The pricing decisions of competing organisations will affect the relationship between price and quantity sold for an individual organisation – if prices are noticeably out of line, sales will be lost.
At the same time, however, it should be recognised that using price as the basis for competition and looking to undercut competitors usually has little to offer as a long-term strategy. In the situation where organisations have broadly similar cost structures, price cutting can be destabilizing and can ultimately lead to damaging price wars.
This is not to suggest that price cutting is not an option — it can be a useful tactic to gain short-term advantage – but it will always be difficult to sustain.
Factor # 3. The Distribution Network:
For consumer and industrial goods the importance of considering distribution channels stems from the fact that many organisations will be involved, not simply in setting a price to their final consumer, but also in setting a price for their goods as they enter a particular distribution channel.
Distributors make profits on the basis of volumes and margins, and are often willing to accept low margins for high-volume items and will require high margins for low-volume items. Some awareness of normal or acceptable margins acts as a useful starting point in determining the appropriate price for selling into distribution channels.
In addition, an equally important aspect is the nature of discounts offered, which not only affect the price but can often be an important influence on the willingness of the distributor to carry a particular product.
Factor # 4. Internal Factors:
There are a variety of internal factors that affect the pricing process. At the most general level, the nature of internally determined business objectives will affect the level of price. In particular, if market share or sales growth is a prime objective, then it is likely that the price that is set will have to be towards the lower end of the range, while if product profitability is the main requirement, then a rather higher price may be acceptable Equally important as an influence is the way in which the product has been positioned.
In particular, if the product is to be positioned as a quality or prestige product, then that image must be supported by a high price – a cheap Porsche isn’t a Porsche. Indeed, this link may be taken a stage further – consumers can encounter difficulties in judging the quality of certain products, particularly when specialist knowledge or information is required.
Examples of such products might include vintage wines, designer clothes and many consumer durables. While in some instances, brand names can be used to provide the consumer with information regarding quality, another option is to use price to signal quality. A high price is often taken as an indicator of a high quality.
Thus, for example, the recent advertising campaign for Stella Artois lager uses the idea that the lager is expensive to reassure the customer that it is of a high quality. The use of price as a signal for quality is perhaps most common in services, since the consumer cannot form a judgement of the quality of the service until it has been purchased, and in the absence of information from others who have previously used that service, the price is perhaps one of the best indicators to the consumers.
However, a word of warning is appropriate – price can be used to signal quality, but if the quality is not in evidence, the organisation is unlikely to be able to sustain a quality premium in the longer term.
When we talk about internal influences on pricing, however, the most widely recognised influence is cost. Although price must be determined in relation to the level of demand and the willingness of consumers to pay, costs cannot be ignored. Costs are typically categorized under two headings – fixed and variable.
Fixed costs refer to those costs that are incurred irrespective of the level of sales for a product, while variable costs refer to those costs that relate directly to the number of units sold. To identify the cost of a particular product requires that its share of fixed costs is identified along with the variable cost on a per-unit basis. The price that is set should cover variable costs and make a contribution to fixed costs, though this will depend on the level of sales.
Factor # 5. Environmental Factors:
A final set of influences on pricing can be generally grouped under the heading of environmental factors. This category covers factors that will affect the pricing decisions of all organisations and are largely outside the control of those organisations. In particular it covers legislative and fiscal developments.
The pricing of certain products is affected by specific legislation. Perhaps one of the most obvious forms of legislation is that governing the pricing of ‘sale’ goods. Equally relevant is legislation regarding the price of credit and agreements which control prices, such as the Net Book Agreement.
In addition to legislation, changes in taxation can have a major impact on pricing decisions. Changes in excise duties, VAT, etc., generally affect all firms in the industry, meaning that no individual business is necessarily disadvantaged. Many organisations, however, have been caught out by sudden and unpredictable changes in taxation.
Few businesses can have anticipated the increase in VAT to 17.5 per cent in the 1991 budget. Many simply passed on the increase in prices to their customers, but for some organisations, the tax change provided a useful opportunity. By absorbing the VAT increase internally, they were able to gain a short-term competitive advantage over their competitors.