ABC pricing strategy would match the distribution fees with the services rendered by the company so that the hospitals and clinics could use more efficiently the ordered products. In this way, the waste of financial and time resources will he highly reduced, so O&M can better analyze the actual incurred costs, and on the long-run it can run on enhanced profits.
In order to have a clearer image on the advantages presented by the ABC approach and its reduced expenses for both commercial entities, we chose to select Exhibits 4 and 5 from the Case Study.
In Exhibit 4 the case for Cost-plus pricing technique is presented. It is computed that at 150,000 dollar-order, the distribution fee and commission represent and extra margin of 22,500 dollars. After adding the extra expenses, like administrative, order processing, general and other expenditures, the Total operating expenses end up at the level of 30,759. On the other hand, in Exhibit 5, the statistics for the Activity-based pricing method is presented in the form of a pricing matrix. The two determinants of the distribution fees, according to O&M management, are the number of monthly purchase orders (PO), and the number of lines ordered per month. So, as a result, if we proceed with the data from Exhibit 4, namely Total expenses of 30,759 dollars, the customer could make an average number of purchase orders of 111 to 130, and an average monthly number of lines order of 3250 to 3749. This fact raises an important issue as the, first of all, the company could monitor closely its costs, and subsequently could match the costs incurred to the distribution fees charged to the customer, and the customer also may induce an efficiency in his procurement activity, leading to reduced costs according to the monthly product orders.
Implementing the optimal solution
This Activity-based pricing method will be submitted by O&M as a bid for the medical supply contract to Ideal. The strengths of the O&M proposal are the fact that the company could provide a large variety of products and brands, which the competition cannot, as they are subsidiaries to a manufacturer and their product lines are limited to the products of the manufacturer. Secondly, the offer may permit both companies, the Distributor and the Customer to better track their costs, and make their activities more efficient, as the elements of the pricing matrix- number of monthly purchases induce the fixed administrative costs, while number of lines purchased match the variable costs. Their proposal is considered a very flexible one, able to better suit the interests of the customer, and adjusting in turn his costs to actual needs for medical supplies and devices. Also the distributor-customer relationship will be consolidated through the transparency assumed by this proposal, due to the fact that the customer will have access the O&M financial performance statements to better observe the costs and level of revenues of its supplier.
However, this pricing strategy may encounter difficulties in being actually implemented on the market. The client may have complaints about the fact that Cost-plus strategy was a common practice within the medical industry, and the entire budget forecasts and provisions were computed based on the Cost-plus pricing strategy. The employee's of the customer may have little incentives of being efficient in their activity so the new approach would not bring as many benefits for the customer. This issue can be resolved through the introduction of employee policies regarding the use and procurement of medical supplies and the reintroduction of storage spaces, so that the Supplier would gradually renounce to the zero-inventory distribution.
As a conclusion, taking into consideration the advantages and drawbacks of the ABC pricing method, the Distributor and Consumer must find way to an agreement. Reducing expenses on both sides is a mandatory condition for staying into business in a competitive market, with low margins and extensive services offered to the clients. But on the long-run, both companies could profit from this approach, and also get a stronger and more durable working relationship.