Calculate the Highest Tolerable Cost Price Based on the Reservation Price

Previously, we discussed how to calculate wholesale prices based on your production cost price. However, although a cottage industry manufacturer who must secure a markup of the cost price, ie a percentage increase of the cost price, you may start to consider production from the market perspective.

After all, factors that motivate buyers do not correlate with your costs. Besides, your cost structure may be sufficiently low to allow you to make a profit beyond what you calculate your price to be if you base prices only on low costs in a highly priced market.

Consequently, if you do market research to establish the highest sale price your market will pay, you will already know the final sale price (which you struggled to calculate using the cost-based pricing method, like a ground up approach). Now, you must work from the ceiling downwards. You must calculate the maximum tolerable cost price. You must still have an idea of the margin (a more fitting word than markup in this context).

Maximum SP is $5.00 (based on market research) = 100%
Margin (example when selling to distributor) = 35%
Maximum cost price or 'X' is therefore 65% (ie 100% - 35%)

Use cross multiplication

5 = 1.00

X = 0.65

5*0.65 = 1*X

Create a common denominator using the value on the same side as the 'x'

(5*0.65)/1 = (1*x)/1

Cancel the recurring value

(5*0.65)/1 = (1*x)/1

(5*0.65)/1 = x

3.25 = x = maximum tolerable cost price

At this point, ensure that you can keep your cost price at $3.25 or less. Otherwise, you can not be certain of a profit.

CONTENT RELATED TO CALCULATING THE HIGHEST TOLERABLE COST PRICE (BASED ON THE RESERVATION PRICE) 

• How to calculate wholesale prices for distributors and retailers and the retail price.