How to choose a pricing strategy for your business
Pricing products and services competitively while still managing to clear a profit may prove one of the biggest career challenges an entrepreneur will face. Though every market sector entails unique circumstances, a few ground rules apply across the board, no matter your trade.
What is a pricing strategy?
Simply put, pricing strategy refers to the methods and models that organizations of all sizes use to determine the appropriate level to set prices for their goods, products, or services to maximize profitability. Depending on the size of the business there are numerous factors involved when it comes to determining what to charge such as, but not limited to, operational costs like labor and rent as well as things like banding, advertising, PR, and so on. The price is set by a complex set of computations, market research, and carefully calculated risks. A well thought out pricing strategy will be properly targeted at the correct audience and in line with competitors in the same space.1
How to build your pricing strategy
Don’t slap on a price ticket until you conduct enough in-depth market research and analysis to ensure you’re costing products or services appropriately. Besides scoping out the local scene, examine pricing structures in similar markets nationally. This is particularly important when your product or service is new or unique to your market.
Before finalizing a pricing structure, consider:
- Government and trade regulations around pricing
- Potential consumer concern if your prices are too high
- Possible service needs following a completed sale
- The manufacturer’s suggested retail price
- Your company’s market edge, including factors such as convenience, location, product/service support, product/service exclusivity and web presence
- Business overhead, including labor, rent, staff, marketing costs and materials, if applicable
What are the different types of pricing strategies?
To determine the most appropriate price for a product or service, it’s vitally important to consider the right methods and models for your business. There are literally dozens of models, methods, strategies and guides that can help companies better understand how to set the most suitable price to appeal to their audience, challenge competition and meet revenue goals. Below are some of the most frequently used and most successful strategies for determining a fitting price.2
Cost-plus pricing
Cost-plus pricing is one of, if not the most, popular and straightforward methods when it comes to pricing strategy. This formula is one in which an organization will calculate any and all production costs incurred during the entire manufacturing process and add a mark-up to meet a predetermined profit margin.3
Value-based pricing
Value-based pricing centers on what they, the customer is willing to spend on the product or service. This method is used heavily in the luxury market where branding and advertising have played huge roles in determining value and creating demand. A prime example of this is a famous luxury handbag where production cost is only a few hundred dollars, yet the bag sells for tens of thousands and upwards of hundreds of thousands of dollars (!).4
Standard markup
Standard markup is a cost-plus type of system that involves calculating price and then adding a margin or percentage on top at every point along the chain from raw material or inception to finished packaged product. This margin could be 10%, 100%, or more and is influenced by factors such as inventory turnover rate and seasonal considerations.
Competitive positioning
Competitive positioning, sometimes also called competitive pricing, involves positioning prices comparable and in direct contrast to those of a competitor of the same size and in the same market range.5
Price lining
Price-lining involves pricing similar products, each with varying degrees of quality or attributes, both higher and lower to reach a more targeted segment but reach a larger audience. This method plays on most customer’s perception of value as a great majority of people believe that higher-priced products and services mostly mean better features and quality.2,6,7
Price skimming
The technique of price skimming means setting an initially high price for a novel product, good, or service and lowering that price as the market evolves, competition increases, and demand weakens. This is commonly used on things like electronics, software, and other new-to-market retail products.6
Penetration pricing
Penetration pricing is one that helps organizations bring new products to market by setting a low price in a competitive market and raising it later based on market factors such as demand.1
Multiple pricing
This technique is used to mix prices with promotions and works particularly well in retail for things like bulk discounts, blow-out sales, clearances, buy one get one sales, and the like.8
Next steps
Once a pricing strategy is determined and found to be successful it can still be changed. Remember, as the market changes so too can your pricing strategy. Staying flexible and adjusting to the demands of your audience is vital to continued growth.9 For more information on similar topics, visit the Business Solutions Center.