Explain what is the Rate Of Return Pricing Method in Pricing Decisions ( Part 3)

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 Rate Of Return Pricing:
  • For this type of pricing, the company needs to specify the rate of return on its capital invested;
  • Similar to Cost plus pricing,the difference is that the marked up will be based on the target rate of return;
  • The target rate of return varies with market norm or what management considers a fair return.
  • Useful method to use when a business has invested too much on the project or products
  • However, difficult to use where a company has too many product lines or competes in many markets

Simple Illustration:

Capital invested / employed $2,000,000

Target return 10%

Estimated costs $500,000

Mark up

= 10% x $2,000,000

$500,000

=40%

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