I have mentioned my dear old dad, the carpet store owner, a couple of times on here, and while he was generally a great entrepreneur, one thing he never really got right was pricing.
For instance, he once put up billboards all over town that said, “Carpet World – Elegance Underfoot.” But the thing is that Carpet World was a discount carpet warehouse – nothing elegant about it. His theory was that people would be pleasantly surprised when they found out that they could have “affordable elegance.” The campaign, of course, didn’t work.
Pricing is challenging because it has to be like Goldilocks’ porridge – it can’t be too high or too low, it needs to be “just right.” How much to charge for your goods or services can be tough to figure out because there are a lot of different factors that go into the mix, for example, your wholesale costs, your brand, what the market will bear, and what the competition is doing, just for starters.
While coming up with the right price can seem daunting, it can actually be done in five easy steps.
Step 1: Appreciate the psychology of price: The first thing to understand is that people react to different prices in different ways, and depending upon who you are trying to reach, you will have to price accordingly.
- Prices ending in 9 are seen as cheaper and offering value, e.g., “On sale this week for $9.99!”
- Not surprisingly then, even numbers, especially whole numbers ending in 0, are seen as offering higher quality. $15 is a lot different psychologically than $14.99.
With that being said, the first consideration is whether you want people to think you are offering quality or value. Of course, ideally, it would be both, but you get the idea. The answer to this is based on Step 2:
Step 2: Know your brand: The “quality vs. economy” conundrum is easily solved if you have a clear idea about your brand. Nordstrom’s prices are different than Costco. Both are valid brands and strategies but it just depends upon what you are trying to accomplish with your brand.
Step 3: Know your overhead: You cannot know what the right price for you is until you know the wrong price, and the wrong price is one where you don’t turn a profit. While seemingly obvious, it is nevertheless vital. What does it cost you to sell your product? How much is your overhead? What is the minimum you must get on each sale to turn a profit? That is your base price.
This is often called COGS – the Cost of Goods Sold. It should include your wholesale cost, along with labor, distribution, and sales costs, among others.
Step 4. Pick a pricing strategy: You have a few options based on your brand, costs, and goals:
Premium pricing: With this strategy, you purposefully decide to sell your wares for more. You may choose to do this for a few reasons, but the main one is that you want to establish your business as a premium brand. There are all sorts of German automakers, but Volkswagen and BMW clearly have different pricing and branding strategies.
The usefulness in this strategy is two-fold:
- First, you establish your business as better, worth more.
- Second, you make more on each sale.
The problem is that you will sell less. Can you make up for that with your higher profit margins? That is what you must see.
Value pricing: This is the way that most small businesses choose to go. Value pricing is where you price your goods and services in the sweet spot for consumers. It is where most of your competition will be and it will be what most potential customers are looking for. This is the Goldilocks zone. Not too high, not too low - “just right.”
Economy pricing: Think Walmart or Taco Bell or McDonald’s value meals. Economy pricing means that you are trying to sell a lot more for a lot less. Your small margins should work because people love a deal and as such, you will likely penetrate the market. But the caveat is that you will have very small margins and your brand will be that of a discounter. This is what my dad was shooting for and why his billboard campaign was unsuccessful.
Step 5: Test: There are a couple of ways to test your pricing strategy:
First, if you have a service you are selling, simply try the new price and track the results. Try one price for, say, two weeks, and a different price for another two weeks. Compare the results.
Conversely, you can test a new price on current customers and get feedback.
If you are selling products, the idea is the same: Try selling the same (or very similar) items at different prices and see which pulls better (and which makes you more profit, which may not be the same).
Even better: Advertise the same item at different prices and use a code to track the results, i.e., “Mention Y24 for a 10% discount.” Using this method you should be able to see fairly quickly what individual price points work best. You can then roll that strategy out to the rest of your products or services.
Your first price will probably not be your last price. It will likely take some tinkering until you get it, well, “just right.”
About Steve Strauss
Steven D. Strauss is one of the world's leading experts on small business and is a lawyer, writer, and speaker. The senior small business columnist for USA Today, his Ask an Expert column is one of the most highly-syndicated business columns in the country. He is the best-selling author of 17 books, including his latest,The Small Business Bible, now out in a completely updated third edition. You can listen to his weekly podcast, Small Business Success, visit his new website TheSelfEmployed, and follow him on Twitter. © Steven D. Strauss.
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