How much should you charge for your products or services? It is a question that vexes many a small-time entrepreneur. Of course, you want to charge enough to make a healthy profit, but not so much that you drive customers away. The price you charge is also an important aspect of your brand.
Thus, you may need to study a bit before you find that perfect price.
If your pricing isn't right, your marketing plan, no matter how well crafted, won't get off the ground. Prices too high? Your product won't sell. Prices too low? Your product may sell, but your company won't be profitable. The price, as any marketing guru would tell you, must be right.
Developing pricing strategy
Every business needs agood overall strategy to guide it in making its pricingdecisions.Pricing shouldn't be a decision you make on a day-to-day basis, but rather an extension of an overall plan.
For example, you may decideto be the lowest-priced company in your niche, thus attracting customers who think they're getting a bargain by frequenting your business. Or you may want to have the highest prices in your niche; high prices send messages of quality and distinction to some customers. You may even want to sell some of your products at cost or even at a lower-than-cost price (these products are referred to as loss leaders) in order to attract customers who will then buy other products at higher prices.
As a small-business owner, you have the flexibility to determine your price points any way you see fit. Keep the following factors in mind as you consider your pricing strategy.
Marketing objectives
Marketing objectives vary with the product or service you're selling. If, for example, you have a new product to introduce, your short-term objective may be to gain market share and pre-empt competition, making your product well known to the consumer in the process. So, you may discount your normal prices over the short-term, with profitability being shunted to the background, in order to achieve your long-term objectives.
Another marketing objective may be to sell slow-moving inventory in order to generate cash. Similar to the example of new-product introduction, this objective also dictates short-term discounted pricing.
Be careful, however, not to get in the habit of continually discounting prices - unless, that is, you want to be perceived as a discounter. Most of the time, your marketing objective should be to maximize profit on your products without losing (too many) sales in the process. This objective should dictate your long-term pricing decisions.
Cost of the product or service
Cost is the total of all the expenses involved in generating your product or service - not only direct costs, such as wages and salaries directly involved in the product, materials, and freight-in, but also indirect costs, such as administration, accounting, and sales. Knowing the direct and indirect costs of your product or service is important in determining its break-even point (also called break-even cost), or the price below which you can't sell your offering without losing money.
Cost is one barometer of your break-even point, but itshould never be the primary determinant in the pricing process. The process of determining your break-even cost is quite simple - assuming, that is, that your accounting system is capable of gathering the necessary figures.
Determine your break-even cost
1. Determine the direct-cost allocation for each product or service. Add all the direct costs (those directly involved in its manufacture, wages specifically involved in the product or service, materials, and incoming freight) associated with that particular product or service during a specific accounting period (preferably one month but no more than one quarter). Divide the total amount of direct-cost rupees by the total number of products manufactured or services to be provided during that period.
2. Determine the indirect-cost allocation for each product or service. Add the total rupees of your indirect costs (those indirect general and administrative costs that can't be specifically tied to a product or service) for the specific accounting period. Divide that number by the total number of products or services you plan to provide in that period.
3. Add the direct-cost allocation to the indirect-cost allocation to reveal your break-even cost. Amounts above the break-even cost represent your profit on that product or service; amounts below it represent your loss. If you offer more than one product or service, the process of determining a break-even point for each product or service can become complicated. Whether yousucceed in arriving at an accurate break-even cost for each product or service depends on the sophistication of your accounting system.
Customer demand
The relative ease or difficulty of selling your product or service to the customer should play an important part in the pricing decision. What's the ratio of product on the market to supply available? The price points in all industries are subject to fluctuating supply-and-demand factors. (the supply and demand principle is basically a scarcity-of-goods/services equation. For instance, the more computer maintenance and repair people you have in your area, the less the demand for their services. The consumer simply has too many choices.)
Comparative value to the customer
Just as beauty is in the eyes of the beholder, the value of a product is in the eyes of the customer. In addition to knowing what your product is worth in your eyes, you need to understand how much your product is perceived to be worth in the eyes of your customers. Set your prices at a level where your desired customers feel that they're getting their money's worth.
For instance, when Apple comes out with yet another new product, it doesn't set the price by arriving at the cost and then adding on a percentage of profit. Rather, Apple sets the price by attempting to determine where the customer will place the new product on the price scaleof comparable products; then the company fits its new product's price somewhere in that vicinity. In other words, Apple attempts to determine how much the customer will perceive the new product to be worth, based on similar or competing products.
Competition
Who is your competition, and what's the price point of their products? How comparable are those products to yours? What are their products’ perceived values compared to yours, and what factors affect their perceived values?
To determine the answers to these questions, you (or your representative) must first visit your competitors’ stores or websites where their products are sold or by picking up the phone and asking the right questions. Ask buyers of their products questions like the following:
Why did you purchase the product? What is your perception of the relationship between value and price? Would you pay more for it if you had to? What do you like most about the product, and what do you like least about it?
When comparing your product to that of your competitors, be sure to include all the criteria involved, not just the price. Additional criteria can include delivery, strength of brand name (image), packaging, quality, after-sales service, guarantees, return and trade- in policies, and much more.
Picking the right price
After you understand the factors that go into making your pricing decisions and you've done your comparative shopping, you need to pull all the pieces together to make the pricing decision.
Pricing new products or services
When introducing new products or services, you have three pricingoptions. You may choose any one of the following three, depending on your predetermined pricing strategy:
Premium pricing: Premium pricing is when you set your price higher than the competition or, in the event that you have no competition, higher than what's typical within the industry for that particular product. In this way, you skim the market, in effect appealing to the customers who are most motivated to pay a high price for products based on perceived value. Premium pricing may limit your unit sales, but it will also increase your profit margin.
Market penetration: This pricing choice involves lowering your price to undercut competition, with the intent of gathering dominant market share (the percentage that you own of the total available market). This pricing strategy is designed to help maximize your company's name recognition in the marketplace and is frequently used by start-up businesses that want to attract low-cost buyers. Generally speaking, this is a short-term tactic that can't be maintained over the long term.
Meeting the competition: This pricing decision is, as the name implies, designed to meet the price of your competition, thus encouraging the customer to compare your product or service to your competitor's - feature by feature, benefit by benefit.
Before adopting this pricing decision, you must first make sure that your product or service can withstand the comparison and that you can offer a competitive price and value without threatening your survival.
Updating prices or services
Reviewing and altering prices on existing products or services is an ongoing procedure, not a once-a-year occurrence. Prices must never be cast in stone; they can and should change as market conditions change (consider gasoline prices). You can't always change prices - for instance, in those cases when you have to generate an “official price list” - but remember that pricing is primarily a marketing strategy; as markets change, so must your strategies for capturing those markets.
(Lionel Wijesiri is a retired company director with over 30 years’ experience in senior business management. Presently he is a freelance newspaper columnist and business writer.)
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