One of the toughest decisions for any business is how much to charge for their product or service. This is a decision that can have a profound impact on the success or failure of the business. Here are 10 ways to price your product or service.
How to Price a Product: 10 Ways
1. What Does Your Product Cost to Produce?
The first place to start in pricing any product is covering the costs to bring the product or service to market. Some of these costs might include, depending upon the product:
- Wages and salaries of those directly involved in the manufacturing and distribution of the product.
- Sales commissions and other compensation related to the sale and marketing of the product.
- Costs for materials related to the production of the product.
- A portion of the costs of the manufacturing and distribution facilities associated with the product if applicable, this might include a portion of the depreciation or taxes related to these physical facilities.
- The cost of any license or permits associated with delivering the product or service.
2. What Type of Profit Margin Do You Want to Earn?
Also known as a markup or cost-plus pricing, many companies start with their costs and add on an additional amount over and above their costs. This is the profit margin on your product or service.
For example, if the overall cost of your product is $10 a unit and you want to make a 20% profit margin then your price per unit would be $12.
3. Demand-Based Pricing
Beyond your costs and desired profit margin, what is the demand for your product or service? Are consumers buying up every piece of inventory on store shelves as fast you can distribute it to retailers? If it's a product geared for business customers, are orders ahead of your production, is there a backlog of demand for the product?
If this is the situation you find yourself, perhaps it's time to raise your price a bit. If your product or service is in high demand, customers will likely pay a bit more than you are currently charging, providing a boost to your bottom line. A price increase might also reduce demand enough to bring your capacity to deliver the product or service more in line with demand.
This same principle applies on the flip side as well. If demand for your product is not what you had hoped and inventory is piling up, perhaps a drop in the price might increase demand for your product. This can help reduce inventory and help your company's cash flow.
4. Competition-Based Pricing
If your product or service has a number of competitors whose product or service is very similar to yours, it's unlikely that you will be able to command a premium price for your product. You will need to monitor sales and demand for your product, as well as the price actions of competitors closely to ensure that your pricing is in line with the competition, allowing you to maintain market share.
5. Loss-Leader Pricing
For companies that offer a wide range of products or services, you might price the product at a level that draws customers to your company in order to make them aware of everything else your company has to offer. This might be a popular type of product or service that many people use frequently. Getting them to try this product at a low price can be thought of as a marketing expense to help build awareness of your company.
6. Premium Pricing
In some cases, you might consider pricing your product on the high end of the scale compared to your competitors. There is often perception that higher-priced products are better in some way and should command a premium price. This should be done in conjunction with a marketing campaign to position the product as one that deserves a premium price.
7. Market Penetration Pricing
There are times when you might price your price to achieve market penetration. This might be for a new product or service. Low pricing might be what it takes to get new customers to try your product and to build a loyal following. Over time as your product gains market share you might consider a pricing strategy that allows for gradual increases in the price to help build your profit margin on the product.
8. Discount or Value Pricing
This type of pricing can work well for larger companies but might not be cost-effective for smaller businesses. This involves selling generic-type products at a discount to name-brand alternatives. This creates an aura of value for the customer. Large stores and warehouse-type retailers often use this strategy to get customers in the door; in some ways this is similar to the loss-leader concept.
9. Price Skimming
Price skimming is a process whereby a company prices a new product or service at a high level upon its initial launch, then gradually lowering the price over time.
Price skimming works based on the assumption that there is a group of customers who will be early adopters of a new product or service if they perceive it to be unique and/or of high quality. The higher price will reinforce the idea that the product is of high quality and deserving of a premium price. This can be a way for the company to recoup the costs of development and of bringing the product to market.
Over time there will be new competitors in the market, many of whom will undercut the price of your product. At this point you will need to rethink the pricing and position the product and its pricing accordingly.
10. Bundle Pricing
Depending upon the nature of type of product, a company might choose to offer the product as part of a bundle with other products. The pricing would reflect a bundled cost for several products.
This strategy can help move excess inventory on this particular product or others in the bundle by creating a perception of value among potential customers. In pricing the bundle, companies should be looking at the total selling price versus the overall cost of the items included in the bundle.
Your product or service's price should be based on a combination of marketing and accounting factors. Overall, pricing should be based on an overall company strategy that encompasses your goals for each product or service offered.
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