Question

Review the "Pricing and Breakeven Analysis" study material. Explain how a price decrease that increases volume and sales can result in a profit decrease. Discuss why implementing proper pricing strategies is important to profitable business operations. Support your ideas by citing the study materials. In replies to peers, evaluate their ideas and provide feedback.

Answer 1

Pricing and Breakeven Analysis: The financial tool of a company for determining the stage, at which, the company would be profitable, is known as Pricing and Breakeven analysis. It is a situation, where a company is neither making profits nor losses, however, all the costs of the company would be covered.

A situation of decrease in prices basically occurs due to the two different market scenarios, which are listed below:

•   Decrease in demand

•   Increase in supply

When there is a decrease in the demand of product or increase in the supply of a product, the respective prices of the product fall. Decrease in the prices leads to a situation, where the demand for the product goes upwards and its respective sales also get increased. However, the same scenario would decrease the profits of a company due to the decreased prices of the product and assuming that the incremental revenue from the excess units are less than the loss incurred due to reduction in profit. The reason being, the remaining selling price of the product after covering the overall costs of the product would be reduced. Also, the increased demand for the product would result in increased competition in the market.

The implementation of proper strategies of pricing is quite important for profitable operations of business due to the following reasons:

•   The objective of a business can only be maximizing profits with respect to each sold unit. Accordingly, the pricing strategy should be decided carefully for the only purpose of maximizing profits.

•    There are some organizations in the market, which aim at defending the existing market from the fresh entrant. So, they decide their pricing strategy from the perspective of defending the existing market.

Further, the ideas related to breakeven analysis and pricing strategies can be evaluated with the help of following discussed points:

•  Pricing and breakeven analysis do not provide an entirely reliable forecast of the potential profits of a company. Only some typical assumptions related to prices, costs and sales are taken while performing breakeven analysis. Hence, these factors are required to be carefully watched and adjusted during the process of pricing and breakeven analysis.

•  A consumer makes a standard image of the company based on its offered prices. A firm's decision of using the pricing strategy affects the decision of a consumer whether he/she wants to purchase the concerned product or not. This evidently represents the importance of choosing an appropriate and suitable pricing strategy for a business.  

Explanation:

There have always been arguments regarding the profit-related objectives of organizations. Some suggest that an organization should focus on long-run maximization of profits. On the other hand, some people believe in the theory of providing customer satisfaction rather than only focusing on maximizing the profits. Besides these arguments, there is no denying the fact that an organization should always have healthy profits in its appreciable time period and this needs proper financial control and planning, which is attained by using pricing and breakeven analysis.

The evaluation of pricing and breakeven analysis depends on certain situational factors, which can be elaborated as follows:

-Pricing and breakeven analysis work as a support to the financial control and planning.

-With the help of this analysis, the potentially profitable situation of a company can be forecasted.

-Under this analysis, the revenue of a company is used to measure the sales volume based on the assumption that sales and output are synchronized.

-The use of these specific assumptions is required to be openly evaluated and interpreted while doing the breakeven analysis.

Further, the fluctuations in the demand and supply of a product impact the prices of that product. In other words, if there is a shift in the demand of a product, its prices get affected and the same is the case with the supply of a product. The situation of decreased prices arises when the demand of product gets decreased or its supply gets increased. The sales volume of that product goes high as consumers would be attracted to the lower prices of the product. In such a situation, the profits of the company get decreased due to the reduction in the selling price of the product.

The four prominent pricing strategies of a business are:

1. Price Skimming Strategy

2. Premium Strategy

3. Economy Strategy

4. Penetration Strategy

Evaluation of pricing strategies:

Various strategies are used by a seller while determining the prices of its goods or services. These are called pricing strategies. There can be many pricing strategies like; contribution-margin based, absorption, creaming, decoy, double-ticketing, keystone, high-low pricing, and such others. A seller should be extremely careful while deciding the pricing strategy for its goods or services.

Pricing can be called one of the most important demanded components of the marketing mix theory. The decision of selecting a pricing strategy highly impacts the image of the seller in the eyes of consumers. A consumer can perceive these strategies on the basis of some specific factors or laws. These factors include; price-quality effect, expenditure effect, difficult comparison effect, reference price effect, end-benefit effect, switching costs effect, shared-cost effect, the framing effect and fairness effect.