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Small business pricing can sound deceptively simple, as though it’s one final item on your checklist before your product or service hits the market. Don’t fall into this trap. Pricing strategy is intrinsically tied to the lifeblood of your business and a crucial component of your overall marketing strategy. Price products and services wisely, and you’ll set yourself up for sustained success. Miss the mark, and every aspect of your business could suffer.
As with most things in life, good pricing requires balance, which means you should eschew the worn-out mantra that you should always have the lowest price in the market. This one-size-beats-all approach has its place, but will severely undercut your success in many situations.
When you race to the bottom of the pricing scale, you do more than commoditize your product or service. You also make yourself susceptible to a pricing war. These battles don’t end well for most small businesses, as larger competitors with lower operating costs can beat you almost every time.
To ask a generous price for what you do best, you need to understand the market. This strategy is best accomplished through a competitive analysis.
To get pricing information for your competitors’ products, try using a comparison tool such as PriceGrabber or PriceBlink. These tools allow you to see how much products cost from an array of websites and brick-and-mortar stores.
Once you’ve homed in on how much your competitors are charging, you’ll then need to research how they’re positioning their products. Are they going for bargain shoppers or premium shoppers? What value-adds do they claim?
When researching prices for services, go straight to your competitor’s websites to get a better idea of their strategy. You can also use Google or other search engines to get a broader view of the going rate for your services. As with product research, take note of how your competitors position themselves. This information will help you identify ways to differentiate yourself.
All this research you’ll be conducting on the competition is critical to successful pricing, but it also puts you at risk of operating in an echo chamber. Try as you might, it isn’t easy to put yourself in the shoes of a consumer. Objectivity is tough to come by when you’re emotionally attached to and financially invested in your products or services.
To avoid this issue, don’t just try to imagine what it’s like to be a consumer. Talk to one! Start with rapid surveys to your email list with cost-effective services such as SurveyMonkey. Then seek more in-depth feedback from a broader audience by partnering with a service like GutCheck. Any effort you put into understanding your potential customers will be rewarded.
One of the most important aspects of your consumer survey is asking how much they would be willing to pay for your offerings. This price is called a ceiling price and helps you identify the pricing range you need to work with. You’ll often discover that the highest-priced product or service currently available on the market doesn’t represent the actual ceiling price.
Sometimes there is room in the market for a higher price. There’s also the chance that the highest-priced option has exceeded the ceiling and placed itself above the will of the people. If that’s the case, it will struggle to survive.
You’ll also want to ask questions in your survey that uncover what value consumers see in the products or services they currently use. Their feedback will be invaluable when applied to your pricing strategy and can help you position yourself effectively in the market.
Armed with data gleaned from your competitive analysis and consumer surveys, you’re ready to choose your strategy. Your price will need to be attractive to consumers and also convey the value you offer. Achieving this balance requires you to keep a couple of factors in mind:
How easy is it for consumers to find a product or service like yours? If the market is already flooded, you’ll likely need to take a long look at the ceiling price and then move below it. When demand is high, your price can go up accordingly. In slower seasons, your price will need to go down to attract less-motivated shoppers.
In the words of legendary military strategist Sun Tzu, “He who wishes to fight must first count the cost.” When going on the offensive with your product or service, heed this advice. Think beyond the obvious costs, as you also need to account for aspects such as storage, shipping materials, order prep, fulfillment, or marketing. If you leave these ancillary costs out of the equation, they’ll cut into the profit you’ve envisioned.
With all costs considered, you can create a budget for your product or service. This approach helps you look beyond the short term and consider how your pricing strategy will play out in the coming years.
This broader view helps you to earn a profit while also meeting the needs of your consumers. Most importantly, it empowers you to make that happen sustainably.
Now you’re ready to choose the best pricing model for your product or service. Here are 13 top contenders worth considering:
As the name implies, this model involves totaling the costs associated with selling the product or service, then adding a “plus.” Your total costs represent where you’ll break even on sales, so add the desired profit identified in your budget for the right markup. This approach requires you to have a firm understanding of your costs. Also, you’ll need to position your product or service effectively so that consumers understand the unique benefits.
As mentioned earlier, this method is one of the most basic approaches to pricing. After your competitive analysis reveals the current lowest price, you’ll just need to place your price below that. Being the lowest in the market, you’ll definitely catch consumers’ eyes. One problem with this model is that small businesses typically have higher operating costs and can’t afford to get into a price war with larger competitors. Also, when you make your product or service cheap, it takes excellent marketing and positioning to convince consumers that it isn’t actually cheap.
Your consumer research really comes into play with this model. Remember how your surveys revealed the ceiling price for your product or service? Based on that information, you can set a price that stays a bit below the ceiling, but still expands your gross margins. Although most small businesses would love to use this model, it’s only relevant if you know the maximum you can charge and position your product or service in a way that illuminates the value associated with the higher price tag.
Here’s a risky approach that has gained more acceptance in modern times. Rather than set the price yourself, you allow consumers to decide what they want to pay. Yes, it’s scary. But it can work in the right situations. If there’s an emotional element to your product or service, such as a socially conscious campaign, this approach can be successful. Otherwise, chances are good that consumers will leverage the cost-saving potential of the model and decimate your gross margins.
The market is constantly evolving, so perhaps your pricing should as well. This model requires a firm grasp on the market because changing a price without a good reason probably won’t yield positive results. To improve your success, pay attention to demand and competitive pricing. You’ll need to stay close to the data and react quickly. Otherwise, you’ll be altering the price for your consumers without tying the change to relevant factors.
This model also involves flexible pricing, but customer segments determine the amounts. For example, you might set lower prices for your most loyal customers or higher prices for more affluent parts of the country. If you’re strategic with this model, you can meet the needs of various customer segments and boost your bottom line. Done poorly, it can generate backlash from consumers.
While price discrimination allows you to set different prices for various customer segments, this model puts the choice in the consumers’ hands. You create segments within the pricing structure for your product or service, then let customers decide if they want to purchase the high, medium, or low option.
Ever notice how items are priced at, say, $9.99 instead of an even $10? That’s not an accident. It’s proven that consumers will pay more attention to that first number in the price. Impulse pricing plays on psychological factors, like paying attention to that first number on the price tag or the sudden urge to buy an item they hadn’t planned on buying.
New businesses with plenty of competition may want to consider penetration pricing, which is entering the market at a lower price than anyone else. You get the consumer’s attention and begin to build loyalty.
If your business has received an investment, loan, or other additional financing, this situation could be a great time to use penetration pricing. But it’s probably not a good idea to keep using those low introductory prices for the long term.
Not unlike a “meal deal” at a burger joint, package pricing bundles several items together at a lower price than each of the items would cost if purchased individually. Customers will feel they’re getting more value, and it’s a good way to goose sales of items that are near the end of the lifecycle or selling poorly.
Package pricing is certainly a good idea when you have overstock of a particular item. Just pay attention to your math to ensure you’re making an adequate profit on the higher-priced item to recoup the loss you may take on the lower-priced item.
Not everyone can get away with premium pricing, the practice of charging more because the brand or item has unusual prestige or value in the eyes of the consumer. This model totally ignores the actual cost of the goods and experiments with how much the market is willing to pay.
New brands and businesses may not be good candidates to use premium pricing, at least at first. But if the product or service fills a need that cannot be filled otherwise, premium pricing could be an effective strategy.
With price skimming, you charge a higher price on a brand-new product or service, simply because it is new and has novelty. New tech gadgets are often released at a higher price, but then the price is later reduced to attract more buyers.
It’s important to remember that Apple was criticized for price skimming when they lowered the price of the original iPhone by $200 a couple of months after its initial release. But it’s also important to remember that most of those early buyers remained loyal Apple customers, so the scheme seems to have worked.
The word ‘freemium’ is well known in the smartphone app sector—a combination of ‘free’ and ‘premium.’ In apps or software, there’s often a bare-bones free version of the service, but then certain additional features cost money.
Freemium and promotional pricing can also be applied to brick-and-mortar businesses. Subscription services or memberships can start with a free month or trial period, hourly charges can be sweetened with a free hour or two, and first-time visitors might be offered a free item with a purchase.
Every pricing model presents benefits and challenges. What matters is that you understand all the reasons for choosing the various options and then decide which is the best fit for your particular situation.
The following case studies offer a quick snapshot of how other companies have approached pricing for their products or services. Some of the pricing attempts were successful, while others failed miserably.
Starbucks uses a value-based approach to identify the ceiling price for its different drinks. Based on their research, they’ve raised prices on certain drinks in specific areas of the country, underscoring the precision required for success with this model. Starbucks can’t compete price-wise with cheaper competitors like Dunkin’, and they inevitably lose some budget-minded customers. To compensate, they carefully raise prices where they know they can get away with this without hurting sales.
After years of battling rivals for the best deals on insurance, Allstate shifted gears. They surveyed consumers to find out what mattered most to them, then launched Your Choice Auto, with options ranging from a Value plan to a Gold plan. This empowering approach spurred millions of policy sales right out of the gate. Better yet, that success has proven to be sustainable.
In the history of product launches, few have fizzled like Ford’s Edsel in the late 1950s. The car had its share of nice features, but the price tag was higher than consumers felt comfortable with. If Ford had done better research, they would’ve identified the ceiling price and then been careful not to exceed it. Instead, the overpriced car generated a $350 million loss for Ford, and the Edsel earned a spot in the pricing hall of shame.
When rock band Radiohead released their 2007 album, “In Rainbows,” they used a pay-what-you-want model. More than 60% of consumers downloaded the music for free, but the band still made more money than they would’ve with a traditional release. Why? Because Radiohead offered the downloads directly from their website, eliminating middlemen such as record companies and iTunes. They made enough money from the 38% of consumers who paid for the album to score a hefty profit and make the gamble a success.
Six Flags amusement parks have faced stiff competition in the past couple of decades, especially from the Disney juggernaut. They boosted sales by creating a tiered pricing model for their Flash Passes (regular, gold, or platinum). The more expensive the pass, the shorter the amount of time you’ll need to wait in line for rides. The plan worked because Six Flags identified the ceiling price and ensured the passes delivered value for the price. In the words of one Six Flags executive, “It’s amazing, actually, how many people pay for this.”
While it’s true that many consumers are attracted to lowest-tier options, you still need to make sure you’re delivering value. History has shown you can’t strip all that’s good from something and then offer it for a bargain price. Town Sports International learned this the hard way when they offered a barebones membership option that wasn’t worth the paper their fliers were printed on. Revenues plummeted, and the CEO resigned a short time later.
Whether you aim for the lowest price or try to position your product or service near the ceiling, research and careful consideration must guide these decisions. The irony is that many businesses focus on customer needs when creating a product or service then disregard those customers when they’re figuring out the pricing. The closer you stay to the hearts and minds of your customers, the better your odds for success.
To get a fresh spin on things, seek insights from throughout your company. Talking to a sales representative or warehouse manager can provide perspectives that you can’t get anywhere else. This kind of all-hands-on-deck approach also helps your team feel like they have a voice, which increases their confidence and morale.
Ultimately, every effort you put into getting your pricing right is well spent. As the adage goes, “It pays to think about pricing.”
Grant Olsen is a writer specializing in small business loans, leadership skills, and growth strategies. He is a contributing writer for KSL 5 TV, where his articles have generated more than 6 million page views, and has been featured on FitSmallBusiness.com and ModernHealthcare.com. Grant is also the author of the book "Rhino Trouble." He has a B.A. in English from Brigham Young University.
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