How Your Pricing Policy Can Maximize Profits
Posted on | November 21, 2008 |
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The pricing policy you use in your business is an important factor when it comes to overall profitability. Selling goods at the highest possible profit margin does not necessarily generate the maximum profit. The maximum profit is the result of many factors including sales volume, product cost, operating costs and, of course, price.
Although increasing price may result in a decrease in sales volume, this approach may actually generate a greater total profit. If sales volume is too low, however it may decrease total profits. Alternatively, dropping prices may create a large enough increase in sales volume to generate greater total profits. Again, if volume is not increased enough a lower profit total may result.
Knowing the cost per item of each product and your actual cost of doing business is of primary concern when developing your pricing policy. It may take some time to come up with the necessary information. Although you can’t be expected to determine these numbers with complete exactness, it is important that your estimates be as close as possible to reality.
Failing to accurately estimate the actual costs closely enough so that you can make sure your price is high enough to cover them is often the cause of a business failing. This is because many business owners underestimate the overall cost and without knowing it, they end up selling their products at a loss.
You will need to determine the approximate cost of product research and development, indirect overhead expense, raw materials and labor before setting the final price of each item. Since costs may change over time you should update these numbers regularly.
No matter what approach you decide will achieve the maximum levels of profit, the approach for determining product costs will involve four expense categories. These categories are: Labor Costs, Materials Costs, Overhead Per Unit and the Desired Profit Margin.
Combining these factors allows you to calculate an item’s minimum sales price. A detailed explanation of this method can be found at the resource listed below.
Of course, pricing your product to achieve some level of profit is only one of the factors that needs to be considered in a business plan. Once you have figured out your costs, your break even point and your minimum profit requirements you will also want to consider your sales strategy. To succeed in a competitive market most businesses use three major sales strategies (sometimes all at the same time).
As you can see there are many factors to consider when determining a products final price. Although many businesses try to compete on price alone there are many others that compete on value by offering a more effective product or by finding a niche in the market that is being under-served or not served at all. Regardless of your market approach, it is essential that you analyze and understand all the factors relating to your product pricing.
Tags: accounting > business > business;finance > entrepreneur > entrepreneurial > Finance > marketing > planning > pricing policy > pricing products > product costing > product development > small business
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