Target return price = unit cost + (desired return * invested capital) / unit sales
Here, the desired return is the desired return on investment, also known as ROI. The ROI can be calculated as = (Gain from investment – cost of investment)/ cost of investment.
The product of desired rate of return and the capital invested gives the required total return. Adding the return per unit required with the unit cost gives the target return price.
Pricing products in such a manner has certain disadvantages. This method does not take into account price elasticity and competitor’s prices. The manufacturer needs to consider different prices and estimate their probable impact on sales volume and profits.
Example for calculating Target Return Pricing: suppose a pen manufacturer has invested 1 million rupees in the business and wants to set a price to earn a 20% ROI. The manufacturing cost of per pen is Rs.16. Assuming that the sales can reach 50,000 units, the Target return price will be = 16 + (0.2 * 1000000)/ 50,000 = Rs.20