When the price is right, you create a strong foundation for your business. Whatever your business goals, a pricing strategy ensures that your small business can keep growing. And when you’re growing, you’re sharing your business with even more customers.
Imagine two companies selling Bluetooth speakers. One company sells a basic speaker for $20 and another company sells a high-end speaker for $200. They both satisfy the music-playing need, but what makes two similar products sell at such drastically different price points?
Pricing can be confusing when you’re starting a new business. There’s no sure-fire way to price your products. Knowing the different strategies can help your business grow larger faster. So, let’s pull back the curtain to look at how pricing will contribute to the success of your small business.
Why Is Pricing So Important?
What’s the right price for your product or service? That’s easy—the price that can help maximize your revenue or help to keep customers coming back. You need money to sustain your business, and finding that optimum price point is one important way to appeal to customers. It’s also what sets the foundation of your company.
It’s no secret that some companies are viewed as luxury or bargain brands. The $20 no-name Bluetooth speaker is the bargain, and the $200 Beats Pill+ Bluetooth speaker is the luxury. Depending on what you’re selling and your cost to make it, setting your price at a certain point will determine whether you’re more of a high-end or low-end business.
Pricing reflects your business identity, and your target market can help you determine the best price. Luxury products won’t likely sell well in stores like Walmart, just like economy products aren’t going to sell well in Bloomingdale’s stores.
Creating the right price for the product or service you’re selling is about so much more than making money. If you price too low, you might not drive the revenue needed to cover the expenses you have—interest on financing, salary expenses, an accountant fee, etc. When you price too high, your prospective customers may look at those offering better deals in search of more value. Over time, while per-unit revenue remains high, you may need more volume to sustain the business.
There’s a fine line between working for free and being greedy when it comes to pricing. Choosing correctly can help you in the long run. Let’s break down the planning process to price correctly.
How To Choose Your Pricing Strategy
There are a lot of ways you can approach pricing your product or service—and we’ll get to all of them in a minute. Below is a quick step-by-step guide to help you choose the best pricing strategy for your business.
Step 1: Create Your Business Goals
What is it that you want to accomplish? You should set your business goals before you start pricing. This could be something like get a larger market share or provide employment for others. You might not be opening up a business for the cash (or maybe you are!) but knowing your goals is important because proper pricing helps to achieve these goals.
Step 2: Do Your Market Research
Thorough market research is an important step in planning your pricing strategies. When you think of Tide laundry detergent, you probably think of “clean.” Tide has done an amazing job at showing the market they are the best brand for what they do. But they didn’t get that way by crossing their fingers and watching what Dawn dish soap did. Just like laundry companies don’t look toward the dish aisle, you need to stay in your zone. Focus on your market specifically to know what products are out there already and why yours is a better solution than those ones.
Step 3: Find Your Customers—And Analyze Them
Have you ever been watching ESPN and a commercial for the new and improved Pampers diapers comes on? You’re a lot more likely to see Budweiser than babies while watching sports. Just like ESPN knows their audience, you too must learn about your target market. You don’t need to view them under a microscope like a lab rat. But you should know how your product or service will create value for your customers. Find how your product improves a customer’s life, and use that to come up with your brand positioning.
Step 4: Learn From Your Competitors
Lebron James wouldn’t go into a game without checking out the competition—and neither should you! Find out who you’re up against and learn what makes their products good and bad. Whether you’re a premium product or a low-cost alternative, competitors can help you to price your product or service.
To do this correctly, find your top three competitors. You can start this out by doing a Yelp search for your product or service in the area. Beyond that, ask your projected customers who they are currently buying from. It’s one of the cheapest and easiest ways to get some research under your belt. You can also ask your suppliers who else purchases from them.
Once you find out who they are, learn how they price their products or services. Maybe they make more by bundling multiple products together. Or, maybe they structure their business with multiple price points to purchase at. You might not price exactly like they do, but it can help you see examples of what works—and what doesn’t—in your industry.
Step 5: Create A Pricing Plan
Just like you should have a business plan, you also need a pricing strategy plan. There are a dozen pricing strategies to choose from. And don’t underestimate the option of mixing and matching. For example, you can use bundle pricing and penetration pricing (which you’ll learn about below) in tandem to help establish your brand. That’s the cool thing about your small business—you’re in control!
The Pricing Strategies
You’ll find 12 different pricing strategies—each of which can work for the right kind of small business. Choosing one of these strategies, or mixing several to perfect your pricing, will help you get the price right.
With skimming, business owners set their prices high when unique products and services are first introduced. Early on, the high prices create a sense of exclusivity and quality. As similar items come out, you can start lowering your prices to defend your piece of market pie. It takes a little market research to get price skimming just right.
Think about wireless earbuds. When they first came out, the prices were really high. Now, you can get a pair of wireless buds for $20, but the big competitors (like Beats by Dr. Dre) still rule the market because they’re considered the innovators with great brand image.
With penetration pricing, set your prices low to attract customers early on. This draws attention away from the competition. In those first months, a business using penetration pricing could lose money—so be careful if you’re wrestling with big startup costs. But, once the business has been established in its target market, it can raise prices.
You’ve probably experienced this strategy with a subscription service. Fabletics, a popular athletic wear subscription service, reels in customers with a half-priced outfit the first month. After the first month, you end up paying $49.95/month. The goal is that you are so in love with your athletic wear that you won’t want to cancel. A lot of brands do this, but you have to factor in that a certain amount of your customers will cancel after that original offer expires.
With premium pricing, your new business can set prices high to make more money while selling less. This strategy works best when a product or service is new. Businesses only find success with premium pricing if they create the perception that customers get more bang for their buck.
Companies who benefit from this strategy are going to be marketed as “luxury.” It’s like a fine wine that was created on a farm using sustainable and organic methods. They can charge more versus your boxed wine because of a better quality and flavor.
Check out your competition and see what they price their product at. You want to set your price similarly, which will help you avoid price competition. Keep in mind: Your price isn’t going to wow customers, so you’ll need to attract them in other ways.
Just like Domino’s may attract customers with their pasta and wing sides, Pizza Hut may attract customers with their varieties of crusts and crust finishes. While both may offer similar pricing.
Offer versions of the same product at different price levels. Version pricing is especially common online when businesses sell software or digital services. Let’s look at Pandora. Anyone can listen to music on Pandora without a subscription for free. But if you want ad-free tunes, it’ll cost you $9.99 a month. And if you need multiple users—you’ll pay $14.99 a month. Lots of businesses do this knowing that the majority of customers will upgrade for more features.
Captive Product Pricing
A small business uses captive product pricing to sell item A at a discount. They do this knowing that customers will need to buy item B at full price to make item A function. For example, stores may put printers on sale knowing that customers will need to buy the ink at full price. Then when the ink runs out, you have to buy more. The stores end up making more money off of the ink sales than the original printer sale.
Just do this carefully because the captive products can end up being affected by the core product and vice versa. If a customer constantly has to buy expensive new printer ink, they aren’t likely to purchase that same printer brand again.
You see charm pricing on grocery store shelves constantly. Charm pricing is when a small business lowers the price of a product from $5 to $4.99 due to the psychological effect a 1-cent discount creates. Our brains are incredibly quick computers, and we look at the left-most digit. In fact, we make a judgment before we’ve finished reading the whole number. So when we see $4.99, we look at the 4 and perceive it as a lot smaller than the 5.
For premium goods, do the opposite of charm pricing. For example, rather than selling a product for $99, sell it for $100. This works when selling higher priced items. Think fine wine, jewelry, and luggage. When you’re competing on luxury, discounting your price on a premium product can actually work against you. People want to know what they are buying is high-quality, and discounts are often perceived as unusual and unattractive.
Sell products at a package price that’s lower than the price of buying all the items individually. Bundling is a great way for a small business to make customers feel like they’re getting value. Pro tip: Use it for clearing out slow-selling products that are taking up warehouse space.
You can find this again with your TV and internet company. TV might cost $50, but when you bundle it with internet, it’s only going to cost $30. It’s beneficial to the customer because it saves them money, but the real benefits are to you.
If you’re selling a product, you save on costs of acquiring new customers by appealing to your existing ones. And if you’re selling a service, you cut down on costs as well. Think of a bar offering discounted wings with the purchase of one of their premium beers. Chances are, the customer wouldn’t have bought both beer and wings. With the bundle pricing, they’ll spend more on the beer and purchase an additional item (even if it’s at a small discount). As long as it doesn’t cut too much into your margin, this is a great way to sell more.
Let’s say the bar makes $2.00 on premium beer, versus $0.50 on a regular beer. On wings, the bar makes $5. Even if the discount cuts into their profit by $4.00 on the wings, they’ll still make more money ($2.00 beer profit + $1.00 wings profit = $3.00 profit) than if the customer would have bought just a beer by itself ($0.50 profit on regular beer or $2.00 profit on premium beer).
Loss Leader Pricing
You sell one product at a loss so customers will later buy another product with better profit potential. Like how Discount Tire offers free rotations knowing that customers will then return when it’s time to buy new tires. This cuts into your margins, so use it sparingly. Discount Tire spends hundreds of hours each year offering free tire rotations, but they price their tires accordingly to factor this in.
Both startup and established businesses sometimes offer discounts and specials to members—their most loyal customers. Members get lower prices, and you get their email addresses. Then you can track a customer’s behavior and send customized promotions based on past purchases. You can also reward customers for purchasing from your brand, enticing them to purchase more. Like how Coca-Cola has a rewards program that allows you to earn free or discounted product.
Buy one get one free pricing is great when you’re selling a product or service with a huge margin. Businesses use this to get customers in their store. T-shirt shops at vacation destinations offer buy one get one free deals to get customers in the door, hoping they will then buy more souvenirs. This a great model for those who have high margins and a lot of offerings. Try offering a BOGO for a smaller service or product that you have high margins on.
Choosing The Right Strategy For You
Here’s our tip for choosing correctly: Go through the five steps once, then reverse! Doing the steps backward can make it easy to see whether the pricing strategies you chose would work for your target audience and your goals.
Don’t be afraid to play around with pricing strategies when you’re in the planning phase. Just remember to be cautious when you set your price for good. While your price isn’t set in stone, it can raise a customer’s brow when they see the price changing often. It’s a process, but your customers will be watching price! Using this guide as reference will keep you on track as you evolve your pricing model.