Pricing products the right way is critical to the success of your business. Too high and you can have a catastrophe of excess inventory on your hands, too low and you'll be scrambling to stay afloat. So how exactly do you know how to price products? Is there some sort of guide or benchmark by which you could go? There is both science and art involved when it comes to arriving at prices. A number of factors all blend together to allow you to make an informed and relevant pricing decision. These eight steps will help you sort out the confusion as far as pricing your products goes.
1. What Are Your Costs?
You have to understand exactly what went into the product in order to know what you need to get out of it. The price should cover both variable and fixed costs associated. And you always want to ensure that profit is at the top of the list of what you need to get back from the product. So when factoring the costs (variable and fixed/) think about both the immediate expenses associated with the item, to include warehousing and delivery and then also the company's fixed costs; things such as rent, payroll, technology, utilities, and so forth. Gathering this information and painting a comprehensive picture of the total cost is definitely going to be the starting point.
2. Understand Markup and Gross Profit
Markup is basically what is added to the product cost to arrive at the retail price.
Product Cost + (Product Cost X Markup Percent/) = Selling Price
For example, if a product costs $40, and you add a 50-percent markup, the selling price is as follows:
$40 + ($40 X 50 percent/) = $60
Many retailers will keystone or essentially double the cost of the product to determine the selling price.
The gross profit margin is different.
(Selling Price – Product Cost/)/Selling Price = Gross Profit Margin
The gross profit margin for a product that costs $40 with a 50-percent markup looks like this:
($60 – $40/)/$60 = 33.3 percent
3. What Is Your Breakeven Sales Volume?
To ensure a sound pricing strategy you absolutely have to know where that breakeven sale volume number rests:
Breakeven Sales Quantity = Fixed Costs/(Selling Price Per Unit – Variable Cost Per Unit/)
In order to be profitable, you are going to have to reach that breakeven sale quantity. Otherwise, you will be left with inventory on the shelves. Your pricing must cover fixed costs and variable costs, yes, but you also, of course, want to factor in a profit. Setting prices too low means you have to sell more in order to get to the breakeven point and thus realize your profit goals.
4. Watch the Competition
One of the smartest things you can do is to look to your competitors. Whether it's a bigger national store or a local mom-n-pop retailer, see what they're charging and the consequent results they may be getting.
Additionally, study their patterns. Do they offer discount programs? Do they have frequent promotions? This could give you valuable insights into what you may need to do to move your products faster.
Once you gain a sense of your competitor's MO, go back to your own company. How is it different? Is there some sort of value proposition you can play up in light of a competitor's weakness?
5. Study The Customer
The more you understand about customer behavior, the more accurate you'll be in terms of your pricing strategy. You want to know what they need from your product, which features might be most attractive to them, and what sort of buying habits they possess. Some other demographic information you might gather:
- Their location
- Income range
- Age group, gender, profession,
- Reason for purchase
- Price sensitivity
In order to discover these things, you have to be willing to engage customers. Get their feedback. Reach out to them on social media. Any way you have of gathering and subsequently measuring their opinions is critical to your pricing plan.
6. Determine Pricing Strategy
Think about what you're trying to accomplish with pricing. Is your product intended to be a premium product? Or are you trying to penetrate the market now and potentially raise your prices later on? There are a variety of strategies you can actually employ here. With a penetration strategy, you set a lower price and go after the market share. Whereas with a premium strategy you need to outline the value of the product and thus justify a higher price. Then there is the bundling strategy where you offer a bundle of products together for some sort of discount. Don't forget the competitor strategy: set the price basically in line with that of your competitors.
7. Have a Revenue Goal and Profit Level
Having used the above formulas, you should know your breakeven volume, that which is needed to cover all relevant costs and bring you a profit on the product in question. So know where you need to come out as far as revenue goes and then once you have this number make certain that everyone is on board. Your sales team especially needs to understand what has to happen as far as moving the product in order for the company to meet its revenue goals.
8. Keep Track of Everything
All metrics must be tracked in this equation in order for your pricing strategy to be successful. From sales volume to gross profit, to net profit, you need to know precisely where everything stands so that if modification is required you have the information necessary to make smart choices. Another thing you want to do is keep a close eye on customer feedback. How do they feel about your pricing? What improvements do they want to see?
For any small business setting the right prices is crucial. Using these tips can certainly help, and you also have to go somewhat on your own instincts. The key again is to assess at each stage, go back if need be and adjust where you have to.
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