Seven pricing strategies for your business
Setting the best price for your goods or services requires a pricing strategy. It has the power to increase sales or send customers to your competitors — so, getting it right is critical. Data analytics can help you make sound pricing decisions by providing a clear, consolidated view of your sales performance
What is a pricing strategy?
A pricing strategy is how you determine how much to sell your goods and services for. It’s a commonly overlooked and undervalued means of increasing your profit margin.
Implementing the right pricing strategy for your business takes a deep understanding of your product, customers, and market – but it’s worth the effort, we promise.
Lessons from the Cola Wars
In 2006, when three Coca-Cola employees tried to sell trade secrets to Pepsi, why did Pepsi tell Coca-Cola? The two companies are fierce rivals, often slugging it out through aggressive advertising. The competition between the two runs so hot, it's known as the Cola Wars.
Why would Pepsi pass on learning its rival’s deepest, darkest trade secrets? Economist and co-author of Freakonomics, Steven D. Levitt, came up with a theory. Despite what it may seem, Coca-Cola’s secret recipe is worth less than nothing to PepsiCo.
He argued that publishing Coca-Cola’s formula would bring a tonne of additional competition, as companies make identical coke — but cheaper. Coca-Cola would likely have to drop its price, leaving Pepsi as either the more expensive option or forcing it to also reduce its price, cutting into both company’s profit margins.
If Pepsi itself decided to make an identical product to Coca-Cola from the recipe, they will have created what economists call “perfect substitutes”—identical goods that are interchangeable to the consumer, which causes a race to the bottom to see who can make it for less.
So, 14 years ago when Pepsi executives told their long-time rivals about the shady employees, they were either being good Samaritans or good economists — or both. Either way, it demonstrates how complicated pricing strategies can be, even in situations that at first seem black and white (or red and white... or red and blue).
But being clever with pricing isn’t just for massive beverage brands. Here are seven sweet pricing strategies for small businesses looking to bottle their own magic formula — plus a secret ingredient to help you along the way.
1. Penetration pricing
A low price is used as an introduction to gain customers and greater market shares with the understanding that it will go up in the future.
Mortgage providers often use penetration pricing to get buyers to sign up for a great introductory interest rate, which goes up over time.
Pros An attractive offer for new customers aims to increase sales volume quickly.
Cons It can be hard to attract enough revenue to get new projects off the ground.
2. Optional pricing
A strategy for selling multiple items together. The business sells one item at a heavy discount with the intention of making more from accessories.
Take printer retailers as an example. While consumers can buy a printer for pocket change, the ink cartridges are marked up in price — they’re essential for using the main product and have short lifespans once opened. In some instances, the printer machine itself can cost less than a pair of refills because the retailer knows how much they can make from the latter.
Pros You can attract a large consumer base and high profitability when optional extras are priced well and are popular.
Cons Consumers can be put off by the high price of goods when they perceive them as having less value than the cheaper introductory sale.
3. Premium pricing
Premium pricing is putting a higher price tag on your product or service to differentiate it from cheaper options. A higher price point suggests higher levels of quality and better value for consumers, or a unique offering others can’t provide.
A good premium pricing example can be seen with Gillette Co, the makers of higher-priced razor blades and healthcare products. Despite huge competition from companies selling razor blades for around a quarter of the price, Gillette’s more luxurious brand has seen the company maintain high sales.
Pros with high profits, luxury brands often spend substantially on marketing, making it hard for competitors (particularly new market entrants) to keep or catch up.
Cons Premium pricing comes with a limited customer base, which the brand will have to focus on and invest heavily in nurturing.
4. Value pricing
Wafer-thin margins, basement-low prices, high volume of sales. Value pricing is the opposite of premium pricing; it’s where a business aims to recoup money through low production costs and selling at high volumes.
Also known as economy pricing, supermarkets use this method to great effect — take Tesco’s Everyday Value brand, as an example. Home-brand goods are sold cheaper than other items on the shelves, often by eliminating overheads like product advertising and constantly updated packaging design. They target a large end of the consumer market, aiming to sell more products at finer margins.
Pros High volume of sales can cause the business to grow quickly and benefit from word-of-mouth marketing.
Cons With products, a fast turnaround of inventory calls for exceptional stock management. With services, high demand can push employees to the limits of their capabilities.
5. Competition pricing
At times when there are few competitors in the market selling the same product — ideally two — neither will dramatically compete on price, but instead try to gain more market share through ramping up advertising and marketing, or reduce costs in the supply chain or distribution levels, to maximize profits.
It’s not a bad situation to be in. And it's one that ultimately benefits both Coca-Cola and PespiCo, to the extent that Pepsi refused to rock the boat when it came to their competitor's secrets and risk having to adopt a value or premium pricing strategy.
Pros It can be extremely profitable in markets with little competition, when selling volumes are high and when the cost of production is low.
Cons Concentrating on the competition can take the focus away from the product and consumer, leading to low levels of innovation.
6. Bundle pricing
Bundle pricing is about packaging products or services together at a discount to increase sales numbers.
It’s like when you buy a car, and it comes with a range of optional extras — heated seats, alloy wheels, parking sensors. You get individual items for less than they would otherwise be because they’re bundled together.
Pros It’s a simple way of selling and delivering multiple products or services.
Cons It reduces the consumers’ freedom of choice in what exact products or services they’re buying, and provides the business less insight into what their customers really like – the sharper details.
7. Skimming pricing
When a high price point is adopted. Then over time, as competition increases, the price will drop dramatically to make it more suitable to the general population. This perhaps works best with new technologies, when initial premium pricing can fund early development, though eventually, the price falls through economies of scale.
Just think of televisions in all their iterations — flat-screen, plasma, 3D. When Sharp and Sony collaborated on the first flat-screen television in 1997, it cost US$15,000. Today, you can pick one up for around $100.
Pros It funds innovation in the early (more expensive) periods of development.
Cons It can breed consumer dissatisfaction because some people will end up paying more than others.
Remember the pricing strategy magic formula
To truly make the right decision when creating your pricing plan, you’ll need to know your competitors, your customers, your products and services, the market, and essentially your business better than ever. With data analytics, you can price according to your business, your customers, and the market.
Fortunately, business apps can help. Apps working across different parts of your business — your accounts, inventory management, and sales, customer, and marketing functions — provide you access to more data to help make sophisticated pricing decisions.
By collating this information, and making it visual and easily accessible in a business data dashboard, you’ll also have all that data at your fingertips.
Companies that use data in their pricing strategies increase their profit margins on average between 3% and 8%, according to McKinsey & Company. It’s a lasting way to make a positive change in your business, so why not give it a go today — for free — with your 9Spokes business Tracker?