Explain what is Minimim Pricing Method in Pricing Decisions( Part 5)

October 15th, 2006 Comments off
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In the earlier article, we have dealt with the importance of making the correct pricing decisions and the factors to consider before making a pricing decision.

This article refers to the various methods of pricing which include the following:

  • Full Cost Plus pricing;
  • Variable/Marginal Cost Plus pricing
  • Rate of Return Pricing;
  • Break-even Pricing;
  • MINIMUM PRICING;
  • Standard Cost Plus

Salient Points on Minimum Pricing:
  • For this type of pricing, the selling price is the lowest price that a company may sell its product.
  • Normally the price will be the Total Relevant Costs of Manufacturing.
  • Useful method in situations where there is a lot of intense competition, surplus production capacity, clearance of old stocks, getting special orders and or improving market share of the product.
  • Minimum Price is Incremental costs of manufacturing + Opportunity Costs ( if any)

Simple Illustration:

Assuming the following details of product X:

Material $2.50

Labor( 2 hrs @ $3.00) $6.00

Variable production overhead $2.50

Fixed production overhead $1.20

Total $9.70

Say that the labor is in short supply and is used for other product Y which generates a contribution of $6 per unit and requires 2 hours of the same labor.

Material $2.50

Labor $6.00

Variable production overhead $2.50

Add:

Opportunity cost from labor scarcity:

$6 / 2 hours= $3.00 per hr x 2 hr = $6.00

Minimum price = $17.00

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