#1 How much should I charge for my products or services?
As financial professionals who work with many small and mid-sized businesses, we get asked A LOT of questions. In this series, we’re going to tackle some of the most burning questions. First up: how much should you charge for a product or service? Establishing the right market pricing for your products or services in your small business can be intimidating, but read on for a summary of five popular pricing strategies.
- Market Penetration Pricing: This strategy involves setting a low initial price to enter a new market and quickly gain a significant market share. The goal is to attract customers and then raise prices later as your market share expands. This approach works well when your product or service has a strong competitive advantage and you want to rapidly establish a foothold in the market.
Example: First month free, or bargain introductory fee, for a subscription-based service. This has been successfully used by HelloFresh, Netflix, Android phones, and others.
- Price Skimming: Set a high initial price for your new product or service, and then gradually lower it over time. This strategy works for innovative or unique offerings where early adopters are willing to pay a premium price. As demand from this segment decreases, you lower the price to attract more price-sensitive customers.
Example: New Apple iPhones usually launch at high prices, but older models are then discounted to be more market and price competitive.
- Value-Based Pricing: With this strategy, you price your product or service based on your customer’s perception of its value. Actual costs don’t matter – just what your customers think it’s worth based on your ability to market your unique or valuable features.
Example: Starbucks created a premium unique image in a commodity market to charge $5 for a coffee. Luxury item manufacturers also use this approach, and clients happily shell out $2,500 for a Gucci handbag.
- Cost-Plus Pricing: This is a simple strategy where you add a fixed cost or percentage (markup) to the actual cost of products or services. It focuses on how much you want to charge, vs. how much a customer is willing to pay you or your competitors.
Example: Government contracts are sometimes written to charge for actual costs plus a specific markup, like 20%. Walmart uses the cost-plus pricing strategy to generate greater sales but at lower margins.
- Dynamic Pricing: In this demand-based strategy, prices are adjusted in real-time, based on supply and demand, customer behaviors, and competitor prices. The key to dynamic pricing is your ability to adjust pricing based on changing demand.
Example: Uber raises prices (surge pricing) during high demand periods, and airlines adjust prices based on timing and capacity.
Each strategy has its unique advantages and disadvantages. Depending on your primary goal (e.g. more walk-in traffic, subscriptions, new marketing penetration, inventory clear out) one or more of these strategies may improve your sales success.
There are other strategies, including bundling, geographic, psychographic, discount, and loss leader, which can make choosing the right strategy a difficult and confusing process. Give us a call. We have experts available to help you start, grow, and optimize your business.
Have a question you would like us to cover? Contact us and we will cover it in our next edition!