Kyle Poyar, VP of Growth at OpenView, said it clearly: “pricing is your most powerful and most immediate lever to accelerate growth.”
Changes in pricing are bound to have an impact on performance. It’s a mechanism that can change your business’s trajectory, but it doesn’t get enough attention.
Pricing strategy can be one of the hardest things for entrepreneurs. How much should you charge for your product? How much is too much? Are you selling yourself short?
This article will help you understand the most important pricing strategies, choose the right one for your product, and experiment with pricing techniques that will get you closer to that optimal selling price.
Table of contents
- What is a product pricing strategy?
- Choosing a pricing strategy for your product
- Advanced pricing techniques
- The magic number nine
- Value before price; always explain your price
What is a product pricing strategy?
A product pricing strategy is an approach to how you set prices for your products, with the goal of finding the ideal price that delivers the most profit and that’s placed in the “sweet spot”, where pricing isn’t considered neither too high to lose sales nor too low to have a negative effect in your margins.
What are the 4 product pricing strategies?
In product pricing, you have to decide what kind of pricing strategy you’re going for. Your strategy of choice depends on your product and your competitors. Here are the four most common pricing methods:
1. Expensive pricing
People generally have a pretty good idea of what’s cheap and what’s expensive. If you’re going for expensive pricing, your product has to feel expensive. Your role is to increase its perceived value.
Do this exercise: Think of a few luxury brands and a few discount brands. Write down the characteristics of each. What makes the difference? What do the expensive brands have that the cheap ones don’t?
Things that drive up the perceived value of a product:
Packaging and design
Every high-priced item you buy comes in a fancy box. Your product has to “look” expensive. You can also do this with digital products.
Just spend time on some high-end products’ websites and take note of what makes that website look expensive. Start by making your website look expensive, then make your product look fancy, too.
When it comes to information products, PDFs and ebooks will always seem cheap. Everybody knows how to create a PDF and that it doesn’t take much effort or money. We recommend against it.
Online courses, elearning environments, and information products shipped on physical media will always seem more valuable.
Product differentiation! Don’t be like most products in your category. Repackage it into a different format, one that no one else is using.
For instance, if everyone else is selling ebooks on your topic, do your product in video. Video products always look classier than text-only products.
Expensive products have to be one of a kind—the only one that does what it does. If your product has no differentiating characteristics in a crowded market, you really cannot charge more than the market average (unless you manufacture that differentiation with something like a brand-owned term).
You can charge a higher price if you have a very limited quantity (e.g. a coaching program that accepts only 25 people).
If you meet all four points above, choosing an expensive pricing strategy can be very profitable. Things to remember about expensive products:
- It is one of three pricing strategies to increase profits. (The other two are to sell more products or to sell to more customers.)
- Charging more money for a product instantly makes people think it’s better. Example: I bought two cars last month. One of them cost $10,000 and the other one $85,000. Which car is better? You don’t need to know anything else to answer the question.
- Different + expensive = desire.
- Once you’ve established your product as expensive, your income will go up significantly every time you have a sale. (But don’t do it too often, or you’ll end up pissing off the customers that paid the higher price.)
2. Cheap pricing
Remember: If your product is not unique, you’re always going to compete on price. If there are no significant differences between your product and competing products, people will choose based on price. That can work to your advantage.
The most proven pricing strategy in a competitive market is to be cheaper. (That’s what Warren Buffett suggests is the economic moat at Geico.) People like to get stuff cheap. This is the best strategy if your product is very similar to others in the market.
Cheap product pricing doesn’t necessarily mean that you have to be the cheapest. Testing a higher-than-average price for your product is a good thing to do. If you test a higher price and it brings in the same number of responses as the lower price, you immediately increase your profits.
Generally, a higher price will reduce the number of sales. The theory of market elasticity says that the number of sales will go down when the price goes up, and vice versa.
The question is by how much? If it’s a modest decrease, you’ll do better at a higher price because you’ll generate more profit (and possibly bring in higher-quality clients that will spend more money later).
If you make the price too high, your sales will drop precipitously to a point where you’re bringing in too few new customers to maintain cash flow. This is usually easy to notice and fix.
When you enter an existing market with a product that is not significantly better than competing products, you usually succeed by selling the product at a discount.
When there is an established price for the same type of product, it’s easier for the customer to figure out the average price. If you can sell at a significantly cheaper price, you may enjoy a strong response.
The question you need to answer is whether you can afford to run your business that way.
3. Niche product pricing
So how does being a “nobody” relate to pricing? Well, one would assume that if you don’t have a big name, then you can’t charge a high price.
The truth is that you can sell your product for a nice price, even if your site visitors don’t know who you are. You can also do well regardless of the size of your product (e.g. a single video vs. a video series).
Here’s the process to execute a niche product pricing strategy:
- Write down the prices of as many comparable products within your niche. By “comparable” I mean products that target the same topic and audience.
- List the top three products. These are the products that you think are the most likely competitors for your potential customer.
- Ask yourself these questions: Is your product something brand new that nobody else is offering? If it’s a product geared toward consumers, charge 20–50% more than the highest priced alternative (if there is one). If it’s geared towards business people, charge 30–100% more than the highest priced product. Does your product provide an existing benefit differently than your competitors? Charge a median price—the price midway between the lowest and highest priced products. Are you selling the same product in a different format (e.g. video instead of print)? Choose a price between the lowest- and average-priced product.
Online buyers come from all walks of life. Some people perceive “free” as being poor or of inferior quality. Maybe they’ve been misled by free product offerings, so they’re leery of them. Likewise, if you price a product too low, some buyers get suspicious. Quality = high price in many peoples’ minds.
The rationale I hear quite often—from infoproduct creators, at least—is that if you price low, you make it up in volume. Not always. Most people overestimate the number of people they think are going to buy their product. You might guesstimate 1,000 but end up with 500. That’s a big difference in the bottom line if you’ve decided to sell for $9.95 instead of $22.95.
4. Optimum pricing strategy
Before you set your price, you have to gain some insight into how much room you have to maneuver. A good way to start is to get a clear overview of your costs. Costs can be divided into variable and fixed costs.
Variable costs are the costs you incur that are directly linked to the product you sell. For example, if you sell a instructional video course “How to grow healthy houseplants” on Blu-ray, your variable cost-per-item would include the cost of the Blu-ray discs, the rights that you might have to pay per video sold, and the shipping costs.
For customer acquisition, if you pay $0.20 per click to Google and convert every 50th visitor into a customer, you’d have to add $10 to your variable cost-per-product.
Fixed costs are the costs you incur to keep your business running. These include employee wages, the rent for your office, Internet costs, utilities, and so on.
Let’s say that in the case above, your fixed costs amount to $1,000 a month. Your variable product costs come to $25 per Blu-ray. You’re expecting to sell 500 videos a month.
Fixed costs = $1,000
Variable cost per video = $25
You’re expecting to sell 500 videos, so your total cost will be:
Quantity Sold x Variable Costs + Fixed Costs = Total Cost
500 x 25 + 1,000 = $13,500
To break even, you have to charge $27 per video (13,500 / 500 = 27). At this price, you’re not making or losing any money. This is your lower limit. The highest price you can ask for is the market’s ceiling price. Look at your major competitors to estimate what this price could be.
Choosing a pricing strategy for your product
The price you charge for your product has a major impact on sales. Choosing the price, like choosing the media or the product, is fairly easy to do.
Start by finding out what the competition is doing. If your competitors are selling their widgets for $195, you should consider selling yours for $195, too. You can safely assume that any product that has been selling well at $195 has been tested at other prices—higher and lower—and that $195 is where the money is.
To be successful, you’ll need to find this optimal selling price: a price at which the selling campaign will yield the greatest profits. This optimal price can change during the lifecycle of the product—being higher when the product is hot, for example—but it is always important to know. If you deviate from it significantly, you’ll reduce profits or even create losses where profits should have been.
Once you’ve taken stock of your costs, your product’s value, and your competitive positioning, it’s time to select a price. Here are some guidelines to keep in mind:
- Better to charge more than less. A higher price increases the perceived quality of your product. If your price starts on the low side, you’ll meet more resistance from your customers as you try to increase your price compared to when your product starts a little overpriced.
- If you’re a small business, don’t compete solely on price. For a smaller ecommerce business, it’s normally a better idea to compete on added value than on price. In a price fight, larger competitors with deeper pockets and lower operational costs wipe you off the field.
- When marketing to the global market, think about the U.S. market and in U.S. dollars. Undoubtedly, the U.S. dollar is the currency of the Internet. Most Internet transactions occur in U.S. dollars.
- Price points matter. Never charge $100. Charge $99.95 instead! If you want to charge over $100, then don’t go up to $101. Go to the next natural bracket, such as $109.95.
- When possible, and if your product is expensive, offer installments or financing. Many people are short on cash, so offering them a special deal can work wonders to motivate sales. Why do you think there are so many retailers that offer “Zero money down!”? Giving customers the option to pay in installments or to receive financing can increase sales.
Advanced pricing techniques
The contrast principle
Do this experiment at home. Fill three bowls with water: one with cold, one with hot, and the third with lukewarm water. Put one of your hands in the cold water and the other one in the hot water. Keep them in there for 30 seconds. Now, put both hands in the lukewarm water. One hand feels cold, the other warm. This is the contrast principle.
Nothing is expensive or cheap. It’s what you compare it to. The best way to sell $800 shoes is to place $3,000 shoes next to them. This works very well with expensive products. You can make them seem less expensive compared to other products.
Go to any high-end retail store and see how this is done effectively. The only reason watch stores carry $50,000 watches is to make the $3,000 watch seem reasonably price.
Decoy pricing is a method of strategically pricing products so that consumers will choose the one that you most want to sell to them.
Dan Ariely, in his book Predictably Irrational, explains the pricing technique. When people were offered to choose a trip to Paris (option A) versus a trip to Rome (option B), they had a hard time choosing. Both places were great; it was hard to compare them.
Then, they were offered three choices instead of two:
- Trip to Paris with free breakfast (option A);
- Trip to Paris without breakfast (option A-);
- Trip to Rome with free breakfast (option B).
Overwhelming, the majority chose option A, a trip to Paris with free breakfast. The rationale is that it’s easier to compare the two options for Paris than it is to compare Paris and Rome.
How can you use this in pricing? Here’s another example from the book. An ad for an Economist subscription gave three options:
- Print only for $59;
- Web subscription only for $125;
- Print and web access for $125.
Obviously, three looks like the best deal. In an experiment Dan ran with this setup:
- 16 subjects chose option 1;
- 0 chose option 2;
- 84 chose option 3.
What if we remove option 2 and have people choose between print-only and print and web access (without changing the the prices)?
The results should be the same as the prices did not change, right? Instead, the results changed dramatically:
- 68 chose print-only;
- 32 chose print and web access.
Only option 3’s relation to option 2 made option 3 look so good. Option 2 in the Economist’s pricing served as a decoy price. They didn’t even want to sell it.
The old truth about offering three pricing options/packages holds water. Check out this test they did with selling beer.
People were offered only two kinds of beer: premium beer for $2.50 and bargain beer for $1.80. Around 80% chose the more expensive beer.
Now a third beer was added, a super bargain beer for $1.60. Some 80% bought the $1.80 beer, and the rest the $2.50 beer. Nobody bought the cheapest option.
The third time around, they removed the $1.60 beer and replaced it with a super premium $3.40 beer. Most people chose the $2.50 beer, a small number the $1.80 beer, and around 10% opted for the most expensive $3.40 beer. Some people will always buy the most expensive option, no matter the price.
Moral of the story: You can influence people’s choice by offering different options. Old-school sales people also say that offering different price points will make people choose between your plans, instead of choosing whether to buy your product at all.
Three packages with decoy pricing plus the contrast principle
Now let’s put all of these options together for maximum effect.
Let’s say you want to sell your product for $59. The best way to do it is to add a cheaper decoy price option and a more expensive contrast option.
It could look something like this:
|Decoy $49||What you actually want to sell $59||Contrast $159|
|Minimum amount of features, benefits||Tons of features, benefits||Some extra benefits, but not that much better|
The magic number nine
It’s true. Prices ending with a “9” sell better. A test described in the pricing strategy book Priceless said that a product was sold for three different prices: $34, $39, and $44 dollars. The highest volume of sales took place when the price was $39.
Everybody understands that $39 is basically $40, but in our subconscious mind, it still seems to be a lower bracket price.
Better than nine
There is one way of displaying the price that is even more effective than prices ending with a 9. It’s the former price–current price technique. When selling the same product with these two price labels, the $40 price will win.
Crossing out the previous price is very effective. Have you noticed how Amazon uses it all the time?
Value before price; always explain your price
Never publish your prices before communicating the value of your product first. You have to put the price into context.
If I say the price for the loaf of bread I’m selling is $50, it seems expensive. If I had first communicated that it was handmade from fair-trade organic wheat and rye by Angelina Jolie, the $50 price tag wouldn’t seem that steep anymore.
Always sell the value before publishing your price.
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