Business Management -- Name your price

Setting rates is more than looking at competitors’ rates; use it as a strategy to attract new customers.

by April Maguire

Good pricing strategy helps you determine the price point at which you can maximize profits on sales of your products or services.

When setting prices, a business owner needs to consider a wide range of factors including production and distribution costs, competitor offerings, positioning strategies and the business’ target customer base.

Intuit’s QuickBooks Business Resource Center outlines six pricing strategies that could be implemented in your rental operation.

While customers won’t purchase goods that are priced too high, your company won’t succeed if it prices goods too low to cover all of the business’ costs. Along with product, place and promotion, price can have a profound effect on the success of any – especially small – business.

Here are some of the various strategies to consider when setting prices on products and services. 

1. Pricing at a premium
With premium pricing, businesses set costs higher than their competitors. Premium pricing is often most effective in the early days of a product’s life cycle, and ideal for small businesses that sell unique goods.

Because customers need to perceive products as being worth the higher price tag, a business must work hard to create a value perception. Along with creating a high-quality product, owners should ensure their marketing efforts, the product’s packaging and the store’s look combine to support the premium price.

2. Pricing for market penetration
Penetration strategies aim to attract buyers by offering lower prices on goods and services. While many new companies use this technique to draw attention away from their competition, penetration pricing does tend to result in an initial loss of income for the business.

Over time, however, the increase in awareness can drive profits and help small businesses to stand out from the crowd. In the long run, after sufficiently penetrating a market, companies often wind up raising their prices to better reflect the state of their position within the market.

3. Economy pricing
Used by a wide range of businesses including generic food suppliers and discount retailers, economy pricing aims to attract the most price-conscious of consumers.

With this strategy, businesses minimize the costs associated with marketing and production in order to keep product prices down. As a result, customers can purchase the products they need without frills.

While economy pricing is incredibly effective for large companies like Wal-Mart and Target, the technique can be dangerous for small businesses. Because small businesses lack the sales volume of larger companies, they may struggle to generate a sufficient profit when prices are too low. Still, selectively tailoring discounts to your most loyal customers can be a great way to guarantee their patronage for years to come.

4. Price skimming
Designed to help businesses maximize sales on new products and services, price skimming involves setting rates high during the introductory phase. The company then lowers prices gradually as competitor goods appear on the market.

One of the benefits of price skimming is that it allows businesses to maximize profits on early adopters before dropping prices to attract more price-sensitive consumers. Price skimming can help a small business recoup its development costs, but it also creates an illusion of quality and exclusivity when an item is first introduced to the marketplace.

5. Psychology pricing
Psychology pricing refers to techniques that marketers use to encourage customers to respond on emotional levels rather than logical ones.

For example, setting the price of a watch at $199 is proven to attract more consumers than setting it at $200, even though the true difference here is quite small. One explanation for this trend is that consumers tend to put more attention on the first number on a price tag than the last. The goal of psychology pricing is to increase demand by creating an illusion of enhanced value for the consumer.

6. Bundle pricing
With bundle pricing, businesses sell multiple products for a lower rate than consumers would face if they purchased each item individually. Bundling goods is an effective way of moving unsold or slow-moving items that are taking up space in your facility, but it can also increase the value perception in the eyes of your customers because you’re essentially giving them something for free.

Bundle pricing is more effective for companies that sell complimentary products. For example, a restaurant can take advantage of bundle pricing by including dessert with every entrée sold on a particular day of the week. Small businesses should keep in mind that the profits they earn on the higher-value items must make up for the losses they take on the lower-value product.

Figuring the right price
Pricing strategies are important, but it’s also important to not lose sight of the price itself. When setting prices, consider these five areas alongside your pricing strategy.

1. Cost: You want to ensure that the price of your product generates enough revenue to cover your costs.

When calculating this figure, make sure to include the price of raw materials, assembly, labor, rent, shipping and any other overhead costs you incur. Add these up and divide by the number of products you produce in the given time period. Once you’ve pinpointed the average cost per product, you’ll arrive at the revenue needed to cover expenses.

You’re probably not trying to just break even; you want to make a profit. The percentage that you’d like to make off of each item is your gross profit margin target, which you can calculate with this formula:

Where P=price and C=cost: Gross Profit Margin Target = (P-C)/P

Create a simple Excel spreadsheet with this formula to calculate these figures as you add together all of your costs.

What should be your profit margin target? It varies based on the type of business. Entrepreneur magazine reports manufacturers and retailers often target 50 percent, while distributors target 30 percent.

2. Customers: Learning as much as you can about your customers will help you accurately price your products. Are they bargain hunters? Do they splurge on tech products? Do they value quality over mass consumption?

Conducting market research will outline the demographics and psychographics of your target audience and reveal their purchasing behavior. Basic in-house database, survey and internet research will expose common traits among your customer base. If you want a more in-depth understanding of the group’s tendencies, consider hiring a third-party market research company.

This type of research demonstrates trends like how crucial your product is to their lifestyle. If your product provides a function they can’t live without, a higher price point will not deter them. For example, smartphones have become such a critical staple for millennials that even a high price tag will not keep them from purchasing a new one every few years.

3. Competition: How is your competition pricing their products? This number is great jumping off point. Keep your price competitive, but also reflect your product’s value. Find out if competitors’ products have the same perceived value as yours. How do customers compare the products? What types of reviews is each product or competitor getting? Conducting market research and performing internet searches will provide useful insight. 

When researching the competition, don’t just settle for the prices you can find on their websites. Do some digging on review sites, or even as a secret shopper. If your product clearly provides more value than the competition, a higher price point will help reinforce that it’s a superior product. If the competition’s product proves more valuable, try pricing your product just below theirs as a less expensive, but high-quality option.

4. Tiered pricing: Does your product have options that vary in value? Can your customers choose between standard and fully loaded models? If so, consider adding a tiered pricing structure, which allows customers to choose the price level that best fits their budget. If your product(s) can be differentiated through additional features, price them at points that reflect their individual values. Try using a pricing structure that offers “good,” “better,” and “best” options for products or services that have increasing levels of value. Applying this strategy can help you capture a larger portion of the market by offering multiple options for a range of shoppers.

5. Odd-number pricing: After considering all of the above pricing factors, the exact price comes down to a matter of cents. A pricing strategy that’s been around for decades suggests that a product retailing at $39.99 is much more appealing than one at $40. Although this difference may seem arbitrary, studies have shown that this pricing strategy is successful for the majority of product categories. Once you know that you’re competitively priced and covering your costs, test single-digit strategies to find which best fits your target audience.

Pricing your product integrates the economics of your business and the psychology of your customers. Employing simple market research and competitor analysis will help you find your pricing sweet spot.

April Maguire has served as a writer, editor and content manager. Currently, she works as a full-time freelance writer based in Los Angeles and has written for Intuit on several business-related topics.

This article originally appeared in the July-August 2019 issue of Pro Contractor Rentals magazine. ©Urbain Communications,LLC. All rights reserved.