Let’s talk about your pricing strategy today!
Pricing is such a broad and tricky subject. SO MANY factors influence it. As we head into a global recession (no thanks to COVID), businesses have to re-adjust their pricing strategies to encourage customers to return. On the flip side, some economies may even experience inflationary pressures as their economies bounce back after COVID.
So the challenge remains for business owners:
Before picking your pricing strategy you must do this
Before picking any pricing strategy, we need to ask ourselves an important question:
“How much profit do I want to be making each month?”
For example: Dara runs a cake shop and wants to make profits of $2,000 a month. She has to pay rent of $2,000 a month. Each cake she makes costs about $30 for ingredients and $20 for her time. This makes the total price for each cake $50. On average she sells 100 cakes a month. To work out her selling price to achieve a profit of $2,000 a month, she needs to work it out, starting from profit:
| Targeted Profit | $2,000 |
| Add: Monthly Rent | $2,000 |
| Add: Cost of making 100 cakes ($50 X 100 cakes a month) | $5,000 |
| Targeted Sales (Profit + Rent + Cost of cakes): | $9,000 |
| Required price per cake: $9,000 divided by 100 cakes a month | $90 |
As you can see, Dara needs to make sales of at least $9,000 a month to hit her profit target of $2,000. This works out to pricing her cakes at $90 each to hit this sales target. Once you, as a business owner, can work out how much sales you need to hit your profit targets, you can start working on your pricing strategy.
Your pricing strategy
Now, there’s a lot of different ways to approach your pricing strategy.
There is the low cost, high volume strategy. This is where you low-ball all your competitors and give your customers the cheapest, most affordable product.
There is the high cost, low volume strategy. This is where through a combination of clever marketing and brand positioning, you can price your product really high. Customers will buy from you because of the ‘brand’ associated with your product.
But let’s be honest. If you’re reading this you’re probably a small business owner (or are in the process of becoming one) and you don’t have the $$$ to run either strategy effectively. So what do you do?
Learn what your competitors are pricing
Once you’ve figured out how much profit you need to make a month, you have a rough estimate of the price you’re aiming for. Next, you need to learn what your competitors are pricing at. In other words, what’s the market value of your product?
Thanks to the power of the internet, it becomes really easy to figure out the market rate for your services. Let’s go back to Dara:
Having worked in other cake shops before, Dara knows that cakes go for between $50 to $200 each, generally. To confirm this, she searches ‘cake prices NZ‘ and she gets a better idea of what the market rate is for cakes in her location.
Ideally your target price should fall within this range of prices that your competitors charge. Price too high and you won’t attract any customers. Price too low and you’ll not be making enough money (and may end up devaluing the market).
Learn what your customers are ready to pay
Somewhat related to the first point, but different. Figuring out what your competitors are charging is one part of the equation. Finding out the price your customers are willing to pay is the other part. Different customers will have different price points. Each one of your customers will have a different perception of how much your service/product is valued at.
Talk to your customers. Have them fill out survey forms. Discuss with them the value they see in your product. That way you can figure out what they think of your product and your current prices. Remember that customers usually won’t volunteer this information – you need to ASK THEM for it directly.
Once you’ve figured this out, you can set your price at a level that is acceptable to your customers. Figuring this out is important. You can work out the maximum amount you can charge your customers for and get away with it! Using Dara as an example:
After talking to some of her walk-in customers and getting other customers to fill out a survey form, Dara works out that the average customer spends about $80 on a cake. However, while communicating with her customers, many of them said that Dara’s cakes were of very good quality and were said to be more on the premium end of the market. This indicates that Dara could very well price her cakes a bit higher to match the quality that her customers perceive.
Armed with a better idea of what her customers are willing to pay, Dara sets about creating her pricing strategy:
Setting your pricing strategy
After working out your target profit, finding out what your competitors are charging and learning what your customers are willing to pay, you can set your pricing strategy. Going back to Dara:
Dara has worked out that she needs to be selling cakes at $90 each at least to be making $2,000 profit a month. After researching her competitors, it looks like $90 falls within the market range of prices for cakes. After talking to her customers, she learns that on average they spend about $80 on a cake and that many customers perceive her cakes to be of higher value. Armed with this knowledge, she starts to set her pricing strategy.
So what should Dara do? Easy:
Dara should have an offering of three different product lines:
- An entry-level ‘Dara’s Choice’ line of cakes priced at around $70 each. These are the ‘less premium’ cakes but still good enough to justify the price tag
- A premium ‘Dara’s Finest’ line of cakes priced at around $100 each. These are the ‘top-end premium quality ingredients’ cakes which are priced higher to reflect the increased time and expense spent on them.
- Custom-made cakes starting at $200 each. These are special made to order cakes for the more discerning customer who wants a one of a kind cake.
Naturally, Dara will end up selling more of the entry-level and premium cakes compared to the custom-made ones. But the idea is to have a good range of prices customers can choose from. This allows Dara to tap into both the higher and lower ends of the market. All the prices set here are still well within the range of what her competitors are charging. The premium and custom cakes are priced higher than what her average customer spends, but given that her products are perceived to be of good quality, Dara can get away with this. For customers who don’t like the high prices, they can always spend money on the $70 cakes.
So there you go: A very easy way to set your pricing strategy! Note that this strategy works for Dara’s business. Your business may be very different and require different strategies – but the principles remain the same.
But what about inflationary pressures and/or the global recession??
What about it?
Look, by the end of the day, you can only price at a level your customers are willing to pay and what your competitors are charging. Working in inflationary pressures into your pricing means passing on the cost to your customers without giving them any added value. You might be able to get away with this if your competitors are doing the same – but if you don’t give into pressure, you can end up keeping more customers (and even attract customers away from your competitors). This allows you to beat back inflation through an increased customer base.
In a recession, people just aren’t spending. Attracting customers in a recession is tough. Reducing prices is one way to attract/retain customers but it can eat into your profit margins and you will have less money to spend (which worsens the recession). If you are experiencing less sales as a result of a recession, you will have to think of ways to pivot your business to deal with the reduced demand. Using Dara again as an example:
In the middle of a recession, no one wants to buy cakes. Dara finds that the average customer views cakes as a luxury item which no one wants to buy. She pivots her business towards a cafe oriented setup. Selling tea and coffee with small slices of cakes and muffins. She finds that customers are still happy to have tea and coffee. Once they are in her cafe, it is far easier to sell them small slices of cake and subtly nudge them towards buying full cakes.
How the heck is a hospo business going to run a cafe when there are lockdowns and Movement Control Orders everywhere!!??
Ok, ok, I hear you. COVID demands a much different way of thinking and operating. Dara will likely have to shift her operations back home and work out new products like cake packages, muffin selections, etc. that she can courier out to her customers from home. The principles remain the same though – she still needs to work out what her competitors are pricing, what her customers are willing to pay (in this Pandemic) and what profit she needs to survive. Things will be tough, but if she’s willing to have those hard conversations with her customers, she will work out a pricing strategy that suits them.
Ultimately, the ultimate pricing strategy is one that your customers are happy to pay AND helps you make a decent amount of $$$. Never sacrifice your financial well-being for the sake of low prices. At the same time, if you want to charge high prices, make sure that your service/product value matches the price you are charging.
Stay positive!