To determine which pricing method is appropriate in different situations, let's analyze the characteristics of each method:
1. Markup on Total Cost:
- When the overall cost structure is stable and predictable.
- When the pricing decision-maker desires a specific target profit margin across all products.
- When price changes are primarily influenced by changes in costs.
2. Markup on Variable Cost:
- When the impact of fixed costs on pricing decisions needs to be minimized.
- When the goal is to cover variable costs and contribute towards fixed costs.
- When there is a need to quickly adapt to changes in variable costs.
3. Markup on Product Cost:
- When the proportion of overall costs allocated to different products varies significantly.
- When the pricing decision-maker wants to better understand the profitability of each product.
- When the company wants to avoid cross-subsidization between products.
Now, let's apply these concepts to the pricing methods mentioned:
a) Markup on Total Cost:
- Suitable when pricing decisions are largely influenced by cost changes.
- Best choice when the pricing decision-maker desires a specific target profit margin across all products.
b) Markup on Variable Cost:
- Appropriate when the impact of fixed costs on pricing decisions needs to be minimized.
- Ideal for covering variable costs and contributing towards fixed costs.
c) Markup on Product Cost:
- Recommended when different products have varying proportions of overall costs.
- Useful when the pricing decision-maker wants to understand the profitability of each product.
- Suitable for avoiding cross-subsidization between products.
In summary, the choice of pricing method depends on various factors, such as stability of cost structure, desired profit margin, the influence of fixed costs, need for adapting to cost changes, allocation of costs among products, and the aim to understand individual product profitability.