One of the key pillars of business success is having and implementing a competitive pricing strategy. This process, however, can be daunting as there are many types of pricing strategies that you can consider. You must conduct research and put a good amount of thought into the pricing strategy that you deem best for your business.
If you’re like many businesses, you might set your pricing without a second guess. From the jump, this approach could mean leaving your hard-earned money on the table. The good news is that by implementing competitive pricing, you’re able to establish a strong foundation for long-term business growth, hitting your financial targets along the way. From looking into competitive pricing to value-based pricing, let’s determine how different pricing strategies can benefit your business. In addition, if you’re looking to optimize your sales process, you may want to consider exploring sales process optimization for further guidance.
What Is a Pricing Strategy?
Put simply, a pricing strategy is a method or model you use to establish the ideal price for your service or product. This price helps you to maximize profits while factoring in consumer and market demand. While the definition is simple, developing a pricing strategy requires a lot of thought and consideration.
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Why the Right Pricing Strategy Is Important for Your Business
You might have done a bit of price skimming before determining your pricing method, but in reality, this process should be carefully thought out. Even though economy pricing might be tempting to appeal to your customers, it’s important that you strive to maximize profit margins along the way.
By implementing the best pricing strategy, you’re able to build trust with your customers while also doing what it takes to meet your financial goals. For example, if you have a winning pricing strategy, you’re able to accurately and confidently portray the value that your product or service delivers to the customer. The word “cheap” can refer to both low prices but it can also infer that the product isn’t of high quality. More often than not, people associate products that are cheap with lower quality. On the other hand, if a product or service is a higher price, it’s often assumed that it has more value.
Other dynamic pricing strategy options can help convince your customers that you’re worth their money and can give your target customers confidence that they are making a good decision.
Weak pricing strategy examples could lead to:
- Uncertainty or targeting the wrong customers;
- Missing out on capitalizing on consumer demand;
- Miscalling your product or service shows a lack of confidence.
While some customers prefer to go after value when making their decision, others have a higher willingness to pay for luxury. It’s important to determine an effective pricing strategy that can strike the balance between confidence in your product and ensuring that you thrive in a competitive market.
Top 8 Pricing Strategies for Small Businesses
Of course, the proper pricing strategy depends on your specific industry and business model. Small business pricing strategies differ from larger corporations. Let’s delve into a few common pricing strategies that small businesses can implement to find the balance between profit and what customers are willing to pay.
1. Value-Based Pricing Strategy
As the name suggests, a value-based pricing strategy occurs when a company prices its services or products based on how much a customer is willing to pay. Even if market conditions or consumer demand allow the company to charge a higher price, the company still decides to set its prices using data and overall customer interest. This particular pricing strategy is ideal and popular for subscription and SaaS business models.
Rather than looking at your company costs or overall ambitions, this strategy looks inward. In many scenarios, this can be called “customer-based pricing” as this is the basis on how companies establish their price points. When implemented accurately, value-based pricing can help to increase customer loyalty as it shows that you value your customers’ opinions.
To successfully employ this pricing, you’ll need to always be aware of the various customer profiles and buyer personas and how those can impact your pricing. If you’re marketing to your customers and you’re using this strategy, you’ll want to ensure that you understand the emotional pull as to why a consumer is making the decision that they are. For example, if you are an artist and you only pay $100 for your art supplies, you are likely able to sell the product for a significantly higher price as your consumers see the value in what you’re producing. Another example of this is when a customer pays for a designer clothing item that costs fractions of what they paid to manufacture the product.
2. Competitive Pricing Strategy
The competitive pricing strategy uses the current market rate to dictate how much you charge for your product or service. Look at all of the other products in your industry to help you determine how to stay competitive with your stiffest competitors. This is particularly important if you have a small business in a very crowded or saturated industry. If you’re able to, you can also decide to price your product or service slightly above or below market value as long as it’s still within a reasonable range.
As eCommerce is incredibly popular even with small businesses, it’s easier than ever for your consumers to conduct market research to directly compare prices. In fact, 96% of consumers do market research before making a purchase. This means that you have an opportunity to win over customers if you mark your price slightly below the market average.
One pro about the competitive pricing strategy is that it allows you to maintain market share and appeal to customers who are shopping around for similar products or services at a slightly cheaper range. However, one con is that you need to be diligent in staying on top of the average market price to make sure that you are priced correctly for consumers.
Let’s say that you’re a lawn mowing company that looks at local competitors to price shop. You’ll then set the price for your most popular service slightly below the average market price to help bring in price-sensitive customers.
3. Price Skimming Strategy
In a price skimming strategy, you will charge the highest amount for new products and over time, these prices decrease. Initially, you’ll set the prices as high as the market will tolerate, meaning you’ll “skim” the top of the market and ultimately lower prices to reach everyone else as the market continues to evolve. Using this price point involves researching different aspects of your target audience and understanding the maximum amount that they will be willing to pay, factoring in the perceived value of the product or service. The main benefit of this skimming pricing strategy is to help maximize profits to help compensate for the production cost.
There are risks of price skimming, however, and not every pricing strategy is ideal for all businesses. When it comes to price skimming, there’s the risk that the manufacturer allows copycat products to enter the market at a lower price than what the company is selling the product or service for. For example, let’s say you’re a television manufacturer and you’re the first company to go to market with the newest version of a particular tv. This allows you to set a premium pricing strategy to help show your customers the true value of your new product. As competitors are able to make the same product, they will undercut your pricing as they know their customers’ willingness to pay a higher cost for the same product is low. Another risk is that the manufacturer isn’t able to demonstrate that the new product should have such a high price.
4. Cost-Plus Pricing Strategy
This pricing model consists of factoring in the costs that it took you to manufacture the product and increasing that amount by a set percentage to help offset those costs to determine your final price. Many companies use this pricing strategy based on the final production cost and work backward to determine how much of a profit margin to take on each sold product. Using a fixed percentage to determine the pricing makes it straightforward to determine the price based on your production costs. Of course, there are other variable costs involved, but generally speaking, this is a foolproof way to dictate the overall margin that you want to make on your product or service. Despite this being easy to implement, SaaS and subscription businesses don’t always thrive using this model when customers expect consistent monthly goods or services.
This is due to the fact that the subscription model is based on monetizing the customer relationship which stems from the value that your service provides. This strategy doesn’t factor in the total amount of value that you deliver to your customers and it revolves more around production costs.
Another con of using this strategy is that it doesn’t take into account the pricing that your competitors are offering or what the current market demand is. This means that you could be missing out on essential sales if your markup is too high.
For example, a bakery might use this model by adding the total labor and ingredients costs and marking up the item by 20% in order to determine the price.
5. Penetration Pricing Strategy
Let’s face it, it can be incredibly difficult to break into a new market and capture the attention of your audience without spending an arm and a leg on developing a marketing strategy. Penetration pricing refers to offering discount pricing compared to your competitors to help earn initial sales. By using a discount pricing strategy, you can help to appeal to customers who might not have heard of your brand or who might be currently shopping with more expensive competitors.
The idea behind this pricing model is to introduce yourself to your target customers on a positive note, hoping that you will be able to pique their interest and convert them into loyal customers. Even if you have a high product production cost or you might not be taking as much of a profit as you should, you are still jumpstarting your sales by drawing in new customers and building brand recognition. As your monetary loss will be apparent upfront, it doesn’t mean that you won’t be able to raise prices in the future. In this case, prepare yourself to lose some customers along the way as they continue to shop around for the cheapest option. One way to mitigate churn is to ensure that you offer not only a reputable product but that you’re a reputable brand that offers more than just a great product. Customer loyalty is essential to long-term business growth.
The major pro of a penetration pricing strategy is that it’s easier to break into a new market, especially when you’re up against SaaS and subscription companies that have been around for quite some time. On the downside, this isn’t a sustainable approach to how you run your business.
Let’s say you’re a new pizza parlor in town and you offer slices that are 25% cheaper than your competitors. You also pride yourself on working with local farmers and implementing a loyalty program that incentivizes your customers to continue to come back for more. As soon as you’ve reached an ideal level of customer demand, you can continue to slowly increase your prices to a more profitable level.
6. Dynamic Pricing Strategy
As the name suggests, dynamic pricing means that you’re constantly looking at the market and your competitors to determine how much to charge for a product or service. This is also called demand pricing and it usually occurs in markets where products are constantly shifting, even on a daily or hourly basis. Examples of industries that are pricing with a dynamic strategy include airlines, event venues, utility companies, and hotels. Other references include “surge” pricing or time-based pricing.
As customer demand is shifting and algorithms are in place, companies are constantly ready to make a shift to their pricing to help maximize profits. One of the main benefits of this approach is to ensure that you’re striking while the iron is hot and ensuring that your profit margins are constantly maximized. It’s important to have a good marketing strategy when using this type of pricing approach so you can appeal to your customers when they are looking for your exact product or service. Some companies even implement A/B testing to ensure their profits are maximized.
One positive about this approach is that there are essentially infinite price points (within reason) that you can consider using. You’ll be able to increase your overall revenue when demand is on the rise.
On the other hand, the most successful companies use dynamic pricing algorithms to constantly stay in the know, and this is not something that small business owners may be able to afford.
For example, hotels in a big city might charge a premium during the weekend of a large event, or an airline could increase its prices during the holidays when they know so many people are trying to travel to be with family.
7. Keystone Pricing Strategy
Another optimized pricing strategy that companies might use is referred to as keystone. Rather than using psychological pricing, this approach occurs when retailers determine how much to charge by simply doubling the wholesale costs that they paid to produce a product to ensure they have a healthy profit margin. Even though it sounds ideal, this approach could often mean that your prices are too high, too low, or just right.
Let’s say that you manufacture hot tubs and they have a slow turnover during the shoulder seasons. Or maybe you have to incur outrageous shipping and handling costs to deliver the product to your customers. In these types of scenarios, the keystone pricing strategy might not be ideal. This strategy also isn’t ideal if you have products that are highly commoditized and can easily be found elsewhere, such as toilet paper.
However, if you have products that can easily be produced and shipped, this is an ideal strategy to maximize profits.
8. Psychological Pricing Strategy
This is the best pricing strategy to use if your product or service plays into the value of consumer psychology. Simply tweaking the product placement, packaging, or price of a product such as offering bundle pricing or pricing an item at $99 instead of $100 can make a big impact. Nearly all businesses can benefit from using this strategy, but it is most commonly seen in the retail and restaurant industries.
The major pro to this is that you can sell more products without making a big impact on your profits. However, some people might not enjoy the “trickery” behind this approach, leading to a less positive purchasing experience and an overall poor brand reputation.
Pros and Cons of Different Pricing Strategies
How to Create a Winning Pricing Strategy
1. Evaluate Your Pricing Potential
Value-based pricing requires that you understand the value metric the last thing you want is to charge a large customer the same amount that you charge a small customer. For example, if you charge a flat monthly fee, what about the potential profit margins that you could tap into above or below that flat rate? By having a value metric, you help to maximize your revenue potential. These are also integrated directly into how much you charge in the case that the usage or perceived value amount goes up or if the customer’s willingness to pay increases.
To understand your value metric, consider the ideal essence of your product; what value are you delivering to your consumer? For B2B businesses, your value prop is likely money or time saved, revenue gained, etc.
2. Determine Your Buyer Personas
The second part of determining your pricing model is having a solid grasp of who your ideal customer is. Even though personas are often overlooked because they aren’t quantitative enough, they can be incredibly helpful when used properly. Make sure to outline the customer profiles that you’re targeting and the characteristics of each profile including the most and least-valued features, willingness to pay, lifetime value, customer acquisition costs, etc. The bottom line: there’s no such thing as too much of a focus on customer research, so don’t take this step lightly.
3. Analyze Historical Data
Next, you’ll want to analyze the data of the industry in which you’re operating. The pricing method has likely changed over the years along with the market share and the overall demand for the product. Make sure you have an understanding of the common pricing strategies implemented in your field as well as a good grasp on why they are or are not successful. The more research you can conduct on historical data, the better.
4. Find a Balance between Value and Business Goals
A few pricing strategies solely focus on finances while others factor in the overall goals of who and what you want your business to be. Sure, you want to take up as much market share as possible and make sure that you’re profitable, but you also want to focus on the long-term growth and reputation of your company. The best pricing strategies factor in both your business goals and the offer that you value to your customers, so make sure to take a wider-lens approach before you determine your prices.
5. Evaluate Competitor Pricing
Competitive pricing is essential to your success, so it’s important to constantly be aware of how your competitors are pricing their products and services. This ongoing research is incredibly helpful in letting you know when or if you should be making adjustments of your own.
Pricing Strategies for Different Industries
Not every industry can benefit from the same pricing strategy as different industries’ pricing strategies depend on many moving parts. We’ve outlined some of the most common pricing strategies based on various industries.
Pricing Strategy for Product-Based Businesses
Physical products such as televisions or clothing items can’t follow the same strategy as services or digital products. This is due to the hard costs such as production, shipping, storage, etc., all of which can impact pricing. Product pricing strategies need to factor in these costs and ensure that their retail price helps to maximize profits while factoring in research and development, all while staying competitive in the marketplace.
When pricing physical products, ideal strategies include competitive pricing, value-based pricing, and cost-plus pricing.
Pricing Strategy for Restaurants, Cafes
Cafes and restaurants are a unique scenario as they involve overhead costs, service costs, and physical costs all in one. It’s important to factor in your customer base, your location and your cuisine, the cost of the food, and the overall market trends, each of which can significantly fluctuate.
The ideal strategies for these scenarios include premium pricing, value-based pricing, and cost-plus pricing.
Pricing Strategy for Event Businesses
Unlike digital products and other similar offerings, events cannot be measured accurately solely based on the production cost. Rather, the cost of marketing and organizing the event impact the value of the event. Don’t forget to factor in assets such as entertainers, speakers, entertainers, networking, and the big-picture experience that you’re delivering. The ticket prices that you sell should be reflective of all of these factors.
Common pricing strategies for events include dynamic pricing, value-based pricing, and competition-based pricing.
Pricing Strategy for Education
There is a wide range of costs when it comes to education and factors include the overall level of education, the program or discipline, private or public education, etc. Other factors include books, tuition, scholarships, housing, meals, etc. You should also factor in the level of competition to get into the school, the volume of teachers, attendance rates, and other similar factors.
In this case, premium pricing, cost-based pricing, and competitive pricing are ideal to implement.
Pricing Strategy for Real Estate
Real estate pricing factors in the overall market competition, demand, cost of living, and home value estimates. However, other factors include bidding wars, housing estimates and benchmarks, seasonal shifts, and more.
Pricing strategy examples for real estate include premium pricing, competitive pricing, value-based pricing, and dynamic pricing.
Pricing Strategy for Agencies
This is a pricing model that impacts your retention rates, customer satisfaction, and overall profitability. As you are developing this strategy, make sure to factor in the various ways that you can optimize it so you can choose the best way to benefit your company.
In addition to hourly pricing, you can use project-based pricing and value-based pricing.
Pricing Strategy FAQs
Can you combine pricing strategies?
Yes, many of the above strategies can be combined, or you can take some aspects from multiple strategies to find what works best for your business. For example, initially, you might choose to take a value-based approach with your product. Over time, you could switch to a skimming strategy and then conclude with penetration pricing.
What is the best strategy for my small business?
Small businesses don’t have a ton of room for error when it comes to determining the ideal pricing strategy for their needs. While it’s possible to do the research and attempt to complete this process on your own, we highly recommend working with business advisors such as Cultivate to help ensure that you’re putting your best foot forward. Our team is here to help!
What is the simplest pricing strategy?
Cost-plus pricing is the simplest and most straightforward option as you only need to add the cost to make your product and tack on a percentage.
Should you end your price in 9s or 0s?
This depends on your price point. If you are a discount brand, it’s ideal to end your prices in 9s as it feels as though the customer is getting a good deal. When a price ends in a 0, it insinuates a premium and high-end product. The studies around 9 vs. 0 are inconclusive as sometimes the conversion rate is higher but customer retention is lower.
Get a Tailored Pricing Strategy for Your Business
As you can see, there are so many factors that impact the overall strategy that you implement. It can be overwhelming, especially for small and medium-sized businesses, to determine the right strategy. Thankfully, we have a team of experts who can assist you and give you peace of mind! If you’re in need of pricing strategy consulting, we are only a phone call away. Contact us today to get started!