This pricing strategy focuses on achieving a specific percentage return on investment (ROI). A company determines its desired ROI, then calculates the required profit margin needed to reach that goal. This margin is added to the cost of production to arrive at the selling price. For instance, a furniture manufacturer with $100,000 in fixed costs, $20 per unit variable cost, and a target ROI of 20% on an expected production of 5,000 units, would calculate its desired profit as $20,000 (20% of $100,000). The per-unit profit needed is $4 ($20,000 / 5,000 units). Therefore, the selling price would be $24 ($20 + $4).
Setting prices based on a desired return offers several advantages. It ensures profitability by directly linking pricing to financial goals. This method provides a clear and measurable objective for pricing decisions, promoting financial stability and potentially attracting investors. Historically, this approach gained traction during periods of economic stability, allowing businesses to predict future demand and costs with greater confidence. However, its efficacy can be challenged in volatile markets where fluctuations impact cost structures and consumer behavior.