Find out the best methods for setting the right prices for your products or services.
It’s no secret that setting prices can be a challenge as a business owner. There’s a fine line to walk between establishing yourself as competitive in the industry while ensuring you are paid appropriately for your products and/or services.
Whether you’re a budding entrepreneur or long-time business owner, establishing an impactful pricing strategy is invaluable for the success of your business. This can help you to avoid sacrificing on profit to retain customers, or limiting your customer base by pricing yourself too high.
Let’s dive into just how pricing can make or break your business, and some pricing strategies you may want to consider for 2021.
Your prices hugely impact your profits
It should go without saying that pricing is one of the biggest and most significant factors impacting your profits - particularly in the early years of your business.
Ultimately, how you price your products or services comes down to the perceived value in the eyes of your customers. This is where businesses can utilise price optimisation to help determine just how they should price their products or services.
Price optimisation involves mathematical analysis of how different customers react to varying prices for your business. In economic terms, this is knows as price elasticity. For example, if you offered customers a discount on your prices, do you know just how much that would affect sales volumes? Alternatively, if you increase your prices, how much would volumes fall? Often the best way to gauge the price elasticity of your products or services is through surveying your customers and listening to their feedback.
Understand your cost base
The price set for your goods and/or services is in part driven by the cost of production. The cost can be split into two components: direct costs associated with production and also indirect costs, or overheads, incurred in running your business. It's very important that you understand the driver of these costs as they influence your gross profits (Sales less direct costs) and net profits (Sales less all costs). Only by understanding your cost base well, will you know how profitable your business is at the different price points.
If you set out to make extremely affordable products, you’ll either need to sell a higher volume of said product to sustain profitability or reduce the costs associated with making those sales. You may also find that as volumes increase, your cost base falls as you can source your materials at better prices in bulk. Equally, at greater volumes, you can allocate your overheads across a largest number of units.
Walking this line as a business owner can be challenging, and this is where pricing strategies come in handy. Here are some of the most popular pricing strategies for businesses
1. Penetration pricing
When you first get a business off the ground one of the most common strategies is to lower your prices against the market average to help your business to stand out. This is also known as market penetration pricing.
While this strategy can be effective in helping to snap up market share early into the game, it can be hard to maintain these prices as time goes on. You may be tempted to consider increasing your prices to bring on new staff, new equipment and new software to maintain your workload. Often a better strategy is to be ruthless with your cost base, push for your suppliers for better terms and focus on making your business more efficient as volumes grow. This way you can maintain high volumes while eeking out higher gross and net profits making your business model more sustainable.
2. Psychology pricing
Another popular pricing strategy even the best of us can fall victim to is when you set your prices to work with a customer's emotions, rather than their logic. This is also known as psychology pricing, and a common example is to set your prices to be, say, $299 instead of $300.
Research shows that customers are more likely to pay attention to the first number and perceive the price as more affordable at $299 versus $300, despite there being only $1 difference. This helps to increase demand for your product or service through the misconception of greater value found by the customer.
3. Bundle pricing
This strategy involves a business selling multiple products or services ‘bundled together’ at a lower cost than the sum of their total individual prices. This not only plays on a customer's psychology by creating greater perceived value, but can have the added benefit of shifting higher volumes overall.
The downside of bundling and discounting your products or services is that it will place downward pressure on your margins. If your business model is more efficient at higher volumes though, it could be a good option and lead to a higher level of dollar profits overall..
4. Price skimming
If you’re bringing a brand new product or service into the market, price skimming may help you to rake in greater profits. This strategy involves setting a new product or service at the highest possible rate for an introductory period. Then, when competitors begin offering the same product, you eventually lower the price again.
As your new product or service will hopefully be innovative enough to compete at such a high price, you should be able to bring in a serious profit from the temporary higher pricing. Once the pricing is lowered, you may then be able to maintain your customer base as they recognise you as being the leader in the market. It will also be likely that your cost base will fall as you become more experienced in producing the product or service.
5. Pricing fees
Overdue client invoices can be one of the biggest hindrances of your businesses cash flow. One key strategy you may want to consider is outlining clear late payment fees in your invoice pricing terms and conditions.
Set a baseline of zero tolerance for late invoice payments and you may be more likely to have your invoices paid on time. This may help turn that improved cash flow into greater company profits by being able to spend on new staff, upgraded machinery or commitment to big projects without fear of late payment.
If you’re currently struggling with unpaid invoices, it may be worth reaching out for help. This is where invoice financing can offer a lifeline for Australian businesses. Earlypay helps Aussie businesses grow with market leading invoice factoring and invoice discounting services.
If you'd like to discuss taking out a small business loan against your outstanding invoices with either an invoice discounting or invoice factoring arrangement, please call us on 1300 760 205, or email us at email@example.com.