What You Absolutely Cannot Afford to Forget When Pricing Your Products 3

When it comes to finding the right price for your product or service, there is no formula and no single correct answer. Even within the same industry, what works for one company won’t necessarily work for the next. Today, a Google search for the term “pricing products” returns 297,000,000 results, almost double the results of a search for the phrase, “writing a business plan”—a business process that does have a formula, and which can be learned.

Pricing products correctly is by comparison, an art. It requires an awareness of the market as it currently exits, the vision and ability to see a market as it could or will exist, and the logic to decide on a figure that will cover costs, send a message and maximize sales.

Because there is no definitive guide to pricing, rather than create my own list, I believe you will get more out of considering what the price you choose will mean for you and your business, and how it will play a key role in terms of attracting your target audience.

Your starting price defines you

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Image Credit: Flickr/Carmen Shields

In 1986, Pixar Animation Studios was a very different company than the one we know today. It was a hardware company whose main focus was on selling the Pixar Image Computer. In these early days, the partners of the company—Steve Jobs, Alvy Ray Smith, John Lasseter and Ed Catmull—struggled with figuring out how to run the type of business they had just started. For Ed, an early concern was figuring out how much to charge for their machine:

I was told by the presidents of Sun and Silicon Graphics to start with a high number. If you start high, they said, you can always reduce the price; if you lowball it and then need to raise the price later, you will only upset your customers. So based on the profit margins we wanted, we decided on a price of $122,000 per unit. Big mistake. The Pixar Image Computer quickly gained a reputation for being powerful but too expensive. When we lowered the price later, we discovered that our reputation for being overpriced was all anyone remembered. Regardless of our attempts to correct it, the first impression stuck.” – Ed Catmull, Creativity, Inc.

Ed Catmull acknowledges that for a complex question like pricing, there is no simple answer. Rather, focus on the bigger questions: How will you meet your customers’ expectations? How will you invest in further development of the product? Finding answers to questions that keep the ‘bigger picture’ in mind, should help you figure out the most appropriate price for your product.

Your price positions you in the market

While Ed argues against “start high” pricing advice, Tim Berry, the Founder of Palo Alto Software, believes that pricing too low is the real risk:

There is no algorithm for pricing. It’s mostly instinct. Covering costs acts as a floor, not a useful indicator. Pricing is your strongest marketing message and most startups should price high, position themselves as premium value with premium price. Oh, and one of the common fallacies around is that startups are supposed to price below the competition. Wrong. Higher is better, by far; and then back that up with value.” – Tim Berry, Founder of Palo Alto Software

Tim and Ed may disagree on low versus high pricing but both recognize that there is more to the question than a “tried and tested process.” According to Tim, you set your pricing based on your situation, the strategy you are pursuing, costs to produce, your competition, the weather, your instinct—basically, whatever is most important to you at the time. And while there is no formula for the right price, there are several mistakes you can avoid making when you get to this stage of planning:

Mistake 1: Thinking it’s best to be the lowest price provider

This approach may work for businesses that sell undifferentiated commodities but strategies that center on being the “lowest price” usually require a lot of initial investment and a very large scale implementation.

Mistake 2: Forgetting that your price is also your “marketing message”

How do you want to be perceived by the outside world? Price too low and chances are the opinion of your product will be low or you will attract an audience that isn’t the one you wanted in the first place. Don’t forget that your pricing sends a message. It says “I believe I’m worth this much” or “this is the amount of value you’re going to get out of this product/service.” In short, it’s your positioning. Be sure to carefully consider what that is before you settle on a price.

Mistake 3: Underestimating your real-life costs

Pricing your products based on your gross margin analysis alone is a bad idea. You also need to consider you overheads —your rent, payroll, marketing costs, utility bills, insurance, hardware and software costs, installation of telephones, new carpets, and whatever other miscellaneous expenses may come up. If you do not take these costs into account when setting prices, you may run out of money

Your price affects your business operations

shutterstock_152288732Beyond the risk of sending the wrong message, pricing your product too low could result in having to compromise your morals and your mission as you fight to remain the company with the lowest prices. Seth Godin refers to this downward spiral as “the tyranny of the lowest price” and provides a perfect example to help you put this notion into perspective:

To cut the price a dollar on that ebook or ten dollars on that plane ticket (discounts that few, in the absence of comparison, would notice very much) you have to slash the way things are edited, or people are trained or safety is ensured. You have to scrimp on the culture, on how people are treated. You have to be willing to be less caring or more draconian than the other guy.” – Seth Godin, Author & Entrepreneur

The solution? Get known for something other than your price. What is it that your product stands for or that you would like it to imply about your company?

If you have multiple products, your own prices can affect sales

shutterstock_179942957If you’re pricing more than one product, beware! In 2012, the Yale School of Management published a study, which revealed that if two similar products were the same price, the consumer would be much less likely to buy either of the products than if there were minor differences in price. In fact, the study found that when participants were given the option to buy two different brands of gum at the same price, only 46 percent made a purchase. By contrast, when the two packs of gum were priced only a couple of cents apart, 77 percent of the participants bought a pack!

This doesn’t mean you have to price every product differently, just that you may want to keep this in mind when your products are incredibly similar. Done right, you stand to do more than save sales; you could very well increase them.

Consider the bigger picture

Hopefully this list will get you thinking about more than just recouping product costs. As we’ve seen, pricing is essential to branding and to the future of your company so take the time get it right but also to consider the bigger picture. Putting a number on your product doesn’t answer the questions that will steer your business—how will you provide value? How will you develop into the future? How will you adapt to competition?

What do you think? Is there anything you’d add to this list? What else should we consider when it comes to pricing products?

About the Author Candice is the Managing Editor of Bplans. With a background in writing and digital marketing and an interest in technology, business, creativity and just about everything else, she aims to find the best answers to your questions. Follow Candice on Google+ Read more »

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  • https://www.max-profits.com/ Max-Profits

    Well a formula can be created to determine how one should price their product. There are two that I’m aware of. But the market setting should also be taken into account, especially for startups.

    The first being a % markup on your VC and current FC per product being sold, if you do not sell any products you could determine an approximate number being sold. Or experiment to see how changing the price will affect the break even quantity. To help determine a realistic pricing strategy.

    The other is a little more complicated. One must determine the relationship between price and quantity sold, can be done by comparing previous price changes or promotional offers, and seeing how it affected the quantity sold. Or the changed the rate of change for that quantity sold, and then specify that expected change to the current rate of change with respect to time to determine the relationship between price and quantity right now. One must also determine the relationship between the variable such as expenses as variables such as quantity change. Then all of these need to be plugged into the profitability equation (factoring in all of the changes due to variable changes) solve for the vertex and determine the price to bring in the optimal total profits.

    But these would just be tools to help you determine your pricing strategy, you would also take into account your competition.

  • Jim Morgenstern

    Value to the customer is, i believe, the key to pricing. If your value to the customer is $100 then whether to price at $50 or $75 is not a big issue. [Pricing at $5 would be bad business practice; pricing below real costs is also poor] So the key question for any business is to discover the value they provide. To do so one has to get away from qualitative thinking [ better quality, better response, better looking, etc.] and get to quantitative thinking. To get hard numbers you have to talk to your customer; its their money and they really know what the value of your product is to them and more importantly they understand their models, how their business works and how they calculate value. You are not the expert on your buyer — they are. Even “pet rocks” provided value for the buyer — its the seller’s problem to understand the buyer and how they determine value.

  • http://about.me/Lindeskog lyceum1776

    I agree with Tim Berry’s idea of backing up your “high” price with value. That’s why I am basing my pricing on the spot price for silver. My standard price is following the silver trend, i.e., the fluctuation of real money. This is a philosophical statement. You have to relate your price of dollars to some kind of standard. I am telling my potential customers a story in my post, SPONSOR AND SUPPORT EGO BLOG::

    “As a “trader in matter & spirit,” I am open to discuss different terms of exchange of values, i.e., delivery of service and payment. As a supporter of objective money, i.e., precious metals, my standard price is 1 kg / ~35.27 oz of silver (Ag) according to the buy rates at GoldMoney for a 1/2 working day (circa 4 hours, effective time). (EGO, February 1, 2009.)”

    I now have my own online coin shop, so you could purchase silver and gold products, directly from a trusted source (International Silver Network)!