1. PRICING STRATEGIES
(SL & HL Content)
IB BUSINESS & MANAGEMENT
A COURSE COMPANION
P210-212

2. PRICING STRATEGIES
There are 3 main categories:
Cost-based pricing
• Cost-plus Pricing
• Marginal-cost pricing
• Contribution Pricing
Competition-based pricing
• Price Leadership
• Predatory Pricing
• Going Rate Pricing
Market-Based pricing
• Price Penetration
• Price Skimming
• Price Discrimination
• Loss Leaders
• Psychological Pricing
• Promotional Pricing

3. COST BASED STRATEGIES
Cost Plus Pricing
• This method is very commonly used by businesses as it
is easy to calculate and understand.
• It simply involves working out the average cost per unit
produced (total cost divided by output) and then
adding a percentage mark up.
• Eg: The average cost per unit is $100 for a product. It
may decide that it wants a profit margin of
25%, meaning the selling price would be $125.
• The higher the percentage mark up, the more profit
per unit.
• This strategy is also known as full cost pricing or
absorption pricing.

4. COST BASED STRATEGIES
Marginal Cost Pricing
• The marginal cost is the addition to the total cost for
producing one extra unit of output.
• Some businesses have very high fixed costs (costs that
do not vary with output) and very low variable costs
(costs that do vary with output >> therefore once their
fixed costs have been recovered, they can sell at any
price above the variable (now the marginal cost)
• This is because the extra units sold will only add small
amount to their total costs, so the business can still be
profitable as along as these costs are covered.

5. COST BASED STRATEGIES
Marginal Cost Pricing
• Utilities companies such as gas and water
suppliers may do this as long as they have very
low marginal costs of increasing output to one
home or business.
• However, it is important that the price is not
well publicized as a business can’t afford to
sell its output at this low price – low prices for
everyone would mean an overall loss.

6. COST BASED STRATEGIES
Contribution Pricing
• This is similar to marginal-cost pricing in that it
mainly considers the variable costs of
production.
• Businesses will want to make sure that their
variable costs, such as raw materials, are
covered, but also need a contribution towards
the fixed costs of the business, such as rent on
the factory.

7. COST BASED STRATEGIES
Contribution Pricing
Example
• The fixed costs for a product are $400.
• The variable costs are $6 per unit.
• 100 units are sold.
• The business decides to price the product at $11.
• This means $5 per unit sold will go towards the fixed
costs.
• The fixed costs of $400 will be covered by the first 80
units sold. $400/ $5 = 80.
• Any more sold beyond 80, will each add $5 to profits.
• If 100 are sold the total profit would be 20 x $5 = $100.

8. COST BASED STRATEGIES
Contribution Pricing
• A business cannot guarantee profit using this
pricing method – it needs to sell enough units to
cover its fixed costs before making profit.
• This method can be very useful when making
one-off decisions, such as a special for a
particularly large order.
• As long as the price contributes to fixed costs, it
may be worth offering a special price, but if there
is no contribution then the business unlikely to
take the order.

9. COMPETITION BASED PRICING
Price Leadership
• Price leadership exists where a dominant
organization in a market sets a price for its
products and its rivals feel compelled to match
that price.
• This may be because there is one large business
in the industry coupled with lots of smaller
competitors with far less market power to set
prices.
• It can also be seen in oligopolistic markets
(markets with a few large businesses) where the
leaders all tend to match each other’s prices.

10. COMPETITION BASED PRICING
Price Leadership
Example
• Petrol/gas stations will often have policies
where they agree to match local rivals prices.
• This practice has brought about claims of
illegal agreements by businesses to fix prices
at an artificially high level and exploit
customers.
• However, it is very hard to prove that this
collusion has actually occurred.

11. COMPETITION BASED PRICING
Predatory Pricing
• Predatory pricing is deliberately selling a product
at below average cost with the intention of
forcing a competitor out of the market.
• In many countries this is illegal, but it is very hard
to prove the intention of an organization’s
behaviour – it could be simply running a loss
leader.
• Businesses often strongly contest accusations of
this in the courts – and even if they lose, they
may not change their behaviour.

12. COMPETITION BASED PRICING
Going Rate Pricing
• Going-rate pricing is where businesses price
their products at whatever the prevailing
market price may be.
• This is likely to be because the market is highly
transparent and the business would lose most
of its sales by trying to charge a higher price.

13. MARKET BASED PRICING
Price Penetration
• Price penetration is where a business sells it
products at a low price to try to break into a
market and gain market share quickly.
• The aim of this policy is to gain enough market
share to be able to raise prices in the future
once the business has become established.

14. MARKET BASED PRICING
Price Skimming
• This is most commonly seen with new and innovative
products, such as new mobile phones and games
consoles.
• The price is set high initially to gain those customers
who will pay almost any price to get their hands on the
latest gadget.
• Once the business has profited from selling to those
customers, it drops the price to tempt other customers
who may have been put off by the high price originally.
• It is only able to do this because there is likely to be
almost no competition in the market due to the cutting
edge nature of the product.

15. MARKET BASED PRICING
Price Discrimination
• Most markets can be broken down into
different sub groups.
• It is likely that customers in some of these
groups may be prepared to pay slightly higher
prices than those in other groups.
• Ideally the business would like to sell its
product at different prices in the various
segments, by charging higher prices to
customers who are prepared to pay more.

16. MARKET BASED PRICING
Price Discrimination
Examples of Price Discrimination
• Phone calls – it is usually more expensive to make
a call during the day (Monday to Friday) that the
evenings or weekend.
• This is because some users will have no choice
but to use the phone a lot in their work) and are
therefore more likely to pay higher prices.
• Conversely, those people who just wish to call for
social purposes are often prepared to wait to
make their calls and so only pay a lower price.

17. MARKET BASED PRICING
Price Discrimination
• Price discrimination is only possible if the
product cannot be easily traded.
• Eg: Selling footballs in one town at a higher
price than in another town would tempt
entrepreneurs to buy up the cheap footballs
and drive them to the first one to sell at a
profit.

18. MARKET BASED PRICING
Loss Leaders
• Loss leaders are products sold at very low prices to
tempt customers into a store.
• Most supermarkets offer a low cost range, which in
itself may not be profitable.
• The supermarket know that someone coming in is
unlikely only to buy products in the low cost range and
as a result the supermarket will be able to earn profit
overall on consumers weekly shopping.
• A business can use these loss-leading products as part
of its promotional activity – they will also give the
business a reputation for good value which may in turn
also increase sales and profits.

19. MARKET BASED PRICING
Loss Leaders
Walmart Example
• In the US Walmart has managed to combine its
huge buying power with a loss-leading strategy to
offer new CD albums for sale at half their
recommended retail price.
• The headline grabbing strategy allows Wal-Mart
to attract customers from far and wide, but it has
resulted in accusations of unfair market practices
by music retailers where sales have been badly
hit.

20. MARKET BASED PRICING
Psychological Pricing
• Psychological pricing considers the fact that
price gives a customer information about the
characteristics of a product.
• Eg. You would expect a luxury product to be
priced at the higher end of the market. If a
perfume is priced too cheaply, its sales may
suffer as potential consumers perceive it as of
poorer quality than the higher priced rivals.

21. MARKET BASED PRICING
Psychological Pricing
Psychological pricing also refers to the practice of setting
prices at just under the currency unit such as $19,99
rather than $20. This is based on a number of
assumptions:
• Customers only take account of the “big number”
rather than the proper rounding.
• If a product is $19,99 it appears that it is offered at the
lowest possible cost rather than being priced up to the
nearest full currency unit.
• Psychological pricing pushes products into cheaper
price bands. Examples of this are cars and property.

22. MARKET BASED PRICING
Psychological Pricing
• Whatever the reason, pricing at amounts
ending .99 or .95 has become common place.
• Most bizarre are petrol and gas prices that
often end in fractions of a penny or cent – a
price that is impossible to pay as we don’t
have small enough coins – so the prices
quoted need to be rounded up before we can
pay.

23. MARKET BASED PRICING
Promotional Pricing
• Special offer or promotional pricing is used to clear excess
stock quickly or to try to gain market share.
• The best example is “buy one get one free”
(“BOGOF”) offers, which are now common place across the
world.
• This enables a business effectively to halve the price
without it seeming that the product is of lower quality.
• It also ensures that those customers who would only have
bought one product at half price have to buy twice as
much.
• Promotional pricing can also be used to boost sales in times
of low demand, or to boost customer awareness of a new
outlet that has opened in an area.