DONE BY: ADITYA SHIRODKAR
T.Y IMCOM
IMCOM18-34
Q1. Statement of minimum price which the company can afford to quote for
the new customer (based on relevant cost)
(figures in ₹)
Particulars
Cost to be incurred to bring the equipment in its original
condition
Opportunity cost of the direct material
Direct Wages:
Dept A (15 days x ₹120)
Dept B (25 Days x ₹ 100)
Opportunity cost of Contribution lost by Dept B (₹ 2500 x ₹3.20)
Variable Overheads [25% x (₹1800 + ₹2500)]
Delivery Costs
Supervisory overtime payable for Modification
Control Device to be used in another job (WN- 1)
Net Loss on material cost savings in the original equipment
(WN-2)
Opportunity cost of remaining materials which can be sold as
scrap
Opportunity cost of sale of drawings
Total Minimum price which may be quoted
Amount
29,700
2,250
1800
2500
8000
1075
1350
1050
(10,350)
11,700
11,400
1,500
₹ 61,975
Working Notes: WN- 1 Cost of Control device to be used in another job
Cost of controlling device
Less: Dismantling & Removal cost of control mechanism
(1day x ₹ 120)
Less: Variable Cost (25% x ₹120)
Balance Cost of Control Device
WN-2 Net loss on material cost saving of equipment
Loss on material cost saving equipment
Less: Conversion costs (2 days x ₹120)
Less: Variable Overheads (25% x 240)
Net Loss on material cost saving of equipment
(figures in ₹)
10,500
120
30
10,350
(figures in ₹)
12,000
240
60
11,700
Q2. (a) Price skimming is a product pricing strategy by which a firm charges the
highest initial price that customers will pay and then lowers it over time. As the
demand of the first customers is satisfied and competition enters the market,
the firm lowers the price to attract another, more price-sensitive segment of the
population.
Situations in which Skimming Pricing can be adopted:

If a limited supply exists, the company may follow a skimming approach
to match demand and supply.

Where a company wants to maximize its revenue.

When initial cost of production is very high which has to be recovered as
early as possible.

Where the products are of specialty goods such as fashion-oriented
goods.

Where the segment of the market is willing to pay a premium price for
the value received.

Where the price and quality relationships are viewed favourably. High
prices imply high quality for quality conscious customers.
Advantages of Price Skimming Strategy are as follows:  To boom the profit: - The company will try to increase the profit as much
as possible during the initial product release as they know that
competitors will introduce new products with the same or better feature,
and their sale quantity will decrease over time. Moreover, after some
time the sales quantity will decrease, so the company must decrease
some price to maintain the selling quantity. They will suffer from low
margins, but it much better than allowing the customer to go and buy
competitor products. The company may have heavily invested in the
production equipment, so they have to take a lower profit rather than
dealing with substantial fixed costs. They will keep doing this until the new
product arrives.
 To maximize profit from different market segment: - The company
understands that some customers willing to pay more to become the first
to own the products while others may wait until price decrease and pay
for the best value. By using price skimming, the company will be able to
maximize profit from both types of customers. For example, PlayStation
3 was sold $ 599 and then decrease to $ 200. The loyal customers will be
happy to pay premium during the initial release.
 To protect the brand value: - High prices can convince the customers that
our product has high quality and features. It also differentiates ourselves
from the other competitors too. For example, Apple, Supreme,
Lamborghini is the brand that considers as the luxury brand due to its high
price.
 Massive demand in the market with low supplier: - The company can
take this opportunity to increase the price as they know their products
will be the market leader as it is new and unique. It doesn’t matter if we
charge a higher rate; customers are willing to pay for it.
 Short life product: - Some products life span is concise, and the demand
will drop very quickly. So, the company needs to act fast. For example, in
the fashion industry, the price of new clothes are very high due to the
original design and customers willing to pay for them. But after several
months, the company needs to decrease price as the market moving
forward to new trending.
Disadvantages of Skimming Pricing are as follows:  Encourage the competitor to join the market: - When we set a high price
for the product, it means there is a huge profit for them. The competitor
sees the opportunity and will try their best to enter the market. For
example, after Apple introduced the iPhone in 2007, the gross margin was
around 50%-58% based on the experts. It such a high-profit business while
another company charge below 40% of gross margin. As a result, many
companies join the race and push the market up to now. In the top 10
smartphone companies, more than half of them introduce their
smartphones later than in 2010.
 Slow down the product growth: - In each product life cycle, the initial
release is the time that the company needs to boost sales by increasing
marketing expenses. However, the high price seems a barrier for
customers to purchase our product. It will limit the potential growth of
the product as well as reduce the peak of its life cycle.
 Damage reputation: - The way that the company keeps charging high
prices will alert to customers sooner or later. Customers will start to
compare the product from one company to another. If we can’t
differentiate our features, it will ruin our reputation due to the high price.
For example, Apple is known as the company with a high price tag. Some
even use the word “Apple Tax” to represent Apple margin due to its high
price compare to other suppliers.
 A huge problem if the demand is elastic: - Different product in a different
market at different times has different elastic level. If we are setting price
skimming without critical market analysis, we will face the issue as the
demand is very elastic due to the high price. Customers will be looking for
a similar substitute product at a lower price. It is mostly happening in a
market recession when people try to save money. It also occurs when
there are too many products available in the market at different prices.
 It will not last for long: - We may have a plan to reduce prices within a
period of time. However, competitors may come up with their product
earlier than our expectations, and it will put pressure on us to decrease
the price sooner or loss the sale volume. It will ruin our business plan.
Q2. (b) Penetration pricing is a marketing strategy used by businesses to attract
customers to a new product or service by offering a lower price during its initial
offering. The lower price helps a new product or service penetrate the market
and attract customers away from competitors. Market penetration pricing relies
on the strategy of using low prices initially to make a wide number of customers
aware of a new product.
Situations in which penetration pricing can be adopted:  Elastic Demand: When demand of the product is elastic to price. In other
words, the demand of the product increases when the price is low.
 Mass Production: When there are substantial savings on large scale
production. Here increase in demand is sustained by adoption of low
pricing strategy.
 Frighten Competition: When there is threat of competition the prices
fixed at a low- level act as an entry barrier to the prospective competitors.
Advantages of Penetration Pricing

High adoption and diffusion: Penetration pricing enables a company to
get its product or service quickly accepted and adopted by customers.

Marketplace dominance: Competitors are typically caught off guard by a
penetration pricing strategy and are afforded little time to react. The
company is able to utilize the opportunity to switch over as many
customers as possible.

Economies of scale: The pricing strategy generates a high sales quantity
that enables a firm to realize economies of scale and lower its marginal
cost.

Increased goodwill: Customers that are able to find a bargain in a product
or service are likely to return to the firm in the future. In addition, this
increased goodwill creates positive word of mouth.

High inventory turnover: Penetration pricing results in an increased
inventory turnover rate, making vertical supply chain partners, such as
retailers and distributors, happy.
Disadvantages of Penetration Pricing

Pricing expectation: When a firm uses a penetration pricing strategy,
customers often expect permanently low prices. If prices gradually
increase, customers may become dissatisfied and may stop purchasing
the product or service.

Low customer loyalty: Penetration pricing typically attracts bargain
hunters or those with low customer loyalty. Said customers are likely to
switch to competitors if they find a better deal. Price cutting, while
effective for making some immediate sales, rarely engenders customer
loyalty.

Damage brand image: Low prices may affect the brand image, causing
customers to perceive the brand as cheap or poor quality.

Price war: A price penetration strategy may trigger a price war. This
decreases overall profitability in the market, and the only companies
strong enough to survive a protracted price war are usually not the new
entrant who triggered the war.

Inefficient long-term strategy: Price penetration is not a viable long-term
pricing strategy. It is usually a better idea to approach the marketplace
with a pricing strategy that your company can live with, long-term. While
it may then take longer to acquire a sizeable market share, such a patient,
long-term strategy is more likely to serve your company better overall,
and less likely to expose you to severe financial risks.
Q3. Decision Making based on Relevant Cost
(i) Buy from External Company A:  Relevant Cost= ₹ 33,200
(ii)Buy from External Company B: Cash Paid to B
Cash Received from B
Purchase of Parts
Relevant Cost of RS:
(125% x own costs) + 7500
= 13,000
Therefore, own costs = 5,500/1.25 = 4,400
Therefore, Variable costs to group = 4,400 x 70% =
Relevant Cost
(35,000)
13,000
(7,500)
3,080
(32,580)
(iii) Buying Internally From RS
Opportunity cost of external sales foregone by RR (Production
costs incurred away)
8,000 + 11,000
Relevant Costs Of RT
Total Costs= 30,000/120%
25,000
Less: Transferred Costs from RR
(11,000)
Therefore, own costs
14,000
Therefore, Variable Costs to group (14,000 x 65%)
Relevant Costs of RS
Own costs=42,000 – (30,000 + 8,000)
4,000
Therefore, Variable Costs to group = 70% x 4,000
Relevant Costs
(19,000)
(9,100)
(2,800)
( 30,900)
Decision: Since the relevant costs are low when buying internally from RS so we should
place the order with them.