Small business owners often have so much responsibility on their shoulders that they just don’t have time to really look into effective pricing strategies.
Many small business owners simply look at their competitor’s prices and then go a bit lower in order to be competitive. While this may work for some businesses, it is not recommended for all small businesses.
Pricing is one of the major aspects to your marketing mix along with the product, promotion and place. In many ways, besides the actual perceived value of the product or service, pricing is the main driver of sales.
There is a wide variety of pricing strategies available, but today we’ll look at the 5 most important and effective strategies to help your small business remain competitive and be profitable.
Version pricing is a popular strategy for many software or information services that charge for subscriptions. It is the market standard for most SaaS (Software as a Service) companies.
Essentially, you are charging your customers different prices for different versions of the same product. Usually there’s an introductory offer that is very attractive to potential customers. This introductory offer is competitively low or even free, as in the freemium model.
This version of the product is quite limited in many ways, and if the customer wants more functions or features of the service, he or she will have to upgrade to other versions. This has the benefit of inducting the customer into the ecology of your service, such that, having already invested time and energy into learning it, he or she will be more likely to just remain and upgrade.
This pricing strategy is especially applicable for retail or ecommerce businesses. It is one of the most used psychological pricing strategies. Here, you will take the rounded-number for your price, for example £7.00, and reduce it by one cent to £6.99.
Although the price decrease is only one cent, the psychological effect is much stronger.
This is because the consumer views both the right-most figure (the 9) and the left-most figure (the 6) but simplifies it and places more significance on the left-most figure. The brain looks to the left and sees the price going from £7 to £6, which is much larger than a cent decrease.
In fact, the University of Chicago and MIT did a study by testing this concept on women’s clothing. In the experiment, they set prices for the clothing at $44, $39 and $34. Surprisingly, the best-selling clothing item was priced at $39.
It is important to note, however, that the left-most number is the most important here. That’s why, if your original price is £8.80 and you set the new price to £8.79, there won’t be much effect at all. The brain still sees the £8 and the price decrease is seen as basically meaningless.
Smart competitive pricing
Competitive pricing is one of the more popular pricing strategies because it is effective if done correctly. Specifically, it should involve the following components.
First of all, your small business needs to look at a wide array of competitors and not just your biggest or most immediate. Then you need to take the average of all their prices and determine if you will go lower or stay at the same price level but offer different benefits.
Secondly, you should determine whether your cost structure is similar to your competitors’. This is important because if they are vastly different, that means your costs can be higher than theirs. That means that you won’t be able to compete on price without first reducing your expense, or else you will cut deeply into your profits.
Customer Perceived Value pricing
Customer Perceived Value (CPV) is a pricing strategy that looks at how much monetary value a customer places on your products or services. This requires a bit more homework in terms of data, but it can help to create an effective pricing strategy.
Calculating CPV is pretty straightforward:
Total Perceived Benefits – Total Perceived Costs = CPV
For example, imagine a customer is looking to purchase your product. He perceives the benefits of your product at £375 (including any emotional benefits) and perceives the costs at £275. That means you have a range from £275 to £375, and the lower you charge the higher the customer’s CPV and incentive to make the purchase. If you charge more than £375, you will price yourself out.
This is one of the more straightforward pricing strategies because it relies solely on your costs and your markup requirements. Here, you first need to calculate exactly what your costs are to produce your product or service and then add on your desired markup.
As an example, let’s say that your direct materials comes to £20, your labor is £8 and your allocated overhead is £7.50 per unit. If you want to apply a standard 30% markup, your price for the product will come to £46.15.
While this pricing strategy is simple, it does have a few drawbacks. The major problem is that you are not taking into account your competitor’s prices, meaning you could be overcharging or undercharging, depending on the market. This could affect your sales.
Pricing strategies for your small business
All of these pricing strategies can be effective for your business, but you should first understand your product and your cost structure very well. By investigating those, you will be able to make careful decisions on which pricing strategy will work best for your business.
With the right pricing strategy, however, you’ll see great effects on your sales, which means ultimately more profits and a boost to your business.