How to find the right pricing strategy for your startup
When it comes to running a business, few things are as important (and fickle) as pricing. The right pricing strategy can grow your customer base and business in no time, while the wrong price can result in a product flop or massive financial loss.
Setting prices is somewhat of an art. But like all art forms, there are numerous approaches you can take, depending on your audience. Let's take a look at several common pricing strategies and their pros and cons.
8 popular pricing strategy ideas
No two companies are exactly the same, and neither are their audiences. The most commonly used pricing strategies serve different customer bases, and are better suited to different products and services. Here are a few:
1. Cost-plus pricing
Cost-plus pricing is one of the easiest ways to determine the price of a product. This method is straightforward and requires minimal market research. Simply price your product for more than what it cost to make.
That said, there's more to cost-plus pricing than upping your price to outmatch your production cost. This model is most effective when you break down all of your production and overhead costs.
Examine your cost of production, including raw materials, labor, and even equipment use. If anyone or anything was involved in making your product, that cost should be included. Then, decide on a price that's higher than the production cost.
While this pricing model is incredibly simple, it's also rather short-sighted. It doesn’t factor in market conditions, consumer demand, or the perceived value of the product. Failing to include these factors is risky for many businesses, especially those with high-cost products.
If you're in retail and you sell no-frills products that aren't costing customers thousands of dollars, cost-plus pricing can be a beneficial pricing strategy. But it's still a good idea to poll customers and see how they feel about your prices so you can land on the right number.
2. Penetration pricing
The penetration pricing strategy is a risky one that involves selling your product or service at a low introductory price to attract new customers. This pricing strategy is all about market penetration, as it entices consumers to choose your brand over another because of a low price. This lower price can lead to a high sales volume and do wonders for brand exposure. But there's also the risk that people will flock to your brand initially then leave when the prices increase.
If you have a product that can be easily mass-produced, penetration pricing can be an effective way to introduce it to market. Penetration pricing also works if you have a product with elastic pricing, meaning the price shifts with the market demand. If neither of these criteria fits your product, penetration pricing might not be worth the risk.
3. Loss leader pricing
Do you ever see a product and think, "That deal is too good to be true?" If so, that product is probably part of a loss leader pricing strategy.
Loss leader pricing is the practice of selling a product below market cost — typically at a loss to the company— to attract customers. A loss leader product is generally not a high-quality product, but something that can be cheaply produced or acquired at a high volume.
For example, many grocery stores sell perishable foods at a low cost to get people inside. Someone going into the grocery store for bananas is likely to buy snacks or other foods with a high profit margin. Grocery stores know this, so they sell certain perishables at a loss.
Loss leader pricing can be a great way for new businesses to attract customers. Think about your products and which ones can be inexpensively produced while still having customer appeal. Then, stage these products in a way that customers will see other products while shopping. If you run an online business, feature supplemental products on the page of any loss leader items.
Remember, loss leader pricing may look bad for your bottom line at first, since you're technically selling at a loss. But these small losses can result in larger gains as people enter your business — physical or online — and purchase additional products.
4. Competitive pricing
Competitive pricing is the act of setting your product prices at the same level as your competitors. The thinking behind competitive pricing is that competitors have likely planned out their prices based on market and customer research. But this isn't always the case.
Competitive pricing leaves a lot to chance. For starters, your competitors may have mimicked the pricing of another company with no research of their own. Competitors may also have different production or material costs that impact their pricing.
Despite these limitations, competitive pricing can be a quick and sensible way for small businesses to get products priced and ready to sell. Still, it's advisable that you do pricing optimizations and research your audience and market to determine your optimal price. If you set your price too low, you could be leaving a lot of money on the table.
5. Price skimming
While loss leader pricing is all about selling at a loss, price skimming takes the opposite approach. Price skimming involves selling your product at its maximum price right out of the gate. From there, you lower the price over time to maximize your audience reach.
Price skimming is both a pricing and market strategy, as it gives your product time to build momentum and allows for competitors to enter the scene. Competitors will likely offer their products at a lower price to entice customers. But over time your product price will decrease, attracting customers who were outpriced by your initial offering.
Price skimming is particularly effective with higher-margin items. For example, a new phone is released at its absolute highest price, but generally discounted after a few months. Price is usually a significant factor for consumers purchasing a smartphone. By offering your product at a higher price initially, you capitalize on those willing to spend more. As you lower your price, you gain a larger market share while still maximizing your profits.
6. Psychological pricing
There's a lot of psychology that goes into pricing. Psychological pricing is all about capitalizing on those powerful, unseen aspects.
Psychological pricing isn't a single pricing technique like the others on this list. Instead, it uses various tactics to increase the chances people will buy a product. Some psychological pricing principles include:
- Prices that end in a 9 can outperform those that end in a 0. For example, $9.99 versus $10.
- The shorter a price is the more likely someone will make a purchase. For example, $2 versus $2.00.
- Putting a time limit on a sale can create a false sense of urgency and drive impulse buying.
Psychological pricing can be effective, especially for short periods. Avoid using it regularly as customers can become weary over time. For instance, if something is always 25% off, isn't that its regular price?
7. Economy pricing
Economy pricing is a strategy in which a product is sold for a bare minimum gain. In short, the product is priced as economically for the consumer as possible.
Economy pricing doesn't make much sense for companies selling a low volume of an item, as the company will gain very little profits overall. But if you have a product that you either sell in bulk or in large volumes, economy pricing can improve your bottom line.
For example, major chains that sell store-brand generic items will typically use economy pricing. This is because they sell so many of these items that they can still make a profit. If you have an item that's really affordable to produce and typically bought in bulk, economy pricing could be the ticket.
8. Bundle pricing
Bundle pricing, or bundling, is when numerous products are sold together at a total higher price but overall lower cost-per-unit.
A common example of bundling is a meal deal at a fast-food establishment. These meals are generally more expensive than just buying one of the items, but overall they offer a better value.
Bundling has a few advantages. First, it makes it easier for you to sell obscure products. If something isn't selling well on its own, it may sell well in a bundle.
Second, it’s easier and cheaper for you to market bundled products as you don't have to split your marketing efforts between multiple products — you're just marketing the bundle. And while marketing is cheaper and easier with a bundle, it's also easier for you to appeal to a wider variety of spenders. A stingy shopper might be willing to spend more money if they get a great deal. Bundles offer exactly that.
The biggest downside to bundling is that it can potentially hurt your overall profits and sales. If a bundle deal is popular, people likely aren't buying those products on their own as often.
Bundles won't offer the same profit margins as stand-alone products, so your bottom line won't be as healthy as it could without bundle sales. But some sales are better than no sales, so think carefully before you write off bundles entirely.
Priced for success
Pricing is an art that requires practice before you can perfect it. Analyze each pricing strategy carefully, lean into competitive pricing right out of the gate if you need to, and don’t be afraid to poll your audience for pricing feedback. Most of all, never allow yourself to get complacent with pricing. Always check your prices to ensure your company is doing well and maintaining a healthy cash flow.
Each of the above pricing strategies offers something different. Your business needs sales, but you also don't want to offer too good a deal and sell yourself right out of business. With enough practice, you'll be priced to succeed and draw in customers faster than you can imagine.