One of the topics I’m quite fascinated with is pricing strategies. So you built a product, now how much should you charge for it?
The common way of doing this is cost-based pricing: simply put, you figure out how much it costs you to make it (taking into account things like economies of scale, process optimizations, etc), add in your reasonable margin, and that’s your price. It’s a commonly used technique, since it just seems intuitive that price should be derived from cost.
Then there’s competition-based pricing: you look at what your competition is charging for similarly positioned products, and charge a little bit more or a little bit less. With some market research, that, too, is quite easy to accomplish.
But then there’s a third way, the one that actually is interesting: price-based costing, which means that you charge for the product as much as the market is willing to pay. This strategy is the thought-provoking one, since it’s almost entirely based on psychology. You see, a product has features, and technical specifications, and whatnot. But that’s not the interesting part of it. It also has branding. It gives a social status to the buyer. Its value, in cash, is an actual feature of the product. Even if the product is a commodity, it may not have to be marketed as such. Let’s say you make bread; the market is chock-full of bread suppliers, and it looks like there’s no way to differentiate than to compete on price. Really? What if you make flavored bread? What if you make bread in the shape of cute little bears, crocodiles and the like? What if you throw in some butter and a fancy little butter knife? Could you then not attempt to charge, say, double the price of standard bread, while keeping your costs in check?
And bread is, by all standards, a commodity. But think of a smart phone, targeted at, say, fashionable women, aged 30 to 35. And assume you have a way to produce and distribute the phone for $50, and so you intuitively price it at, say, $60, thinking you already factored in a pretty generous margin of 20% pure profit. Would customers jump all over it? Allow me to doubt that — they’ll intuitively question the value of the product, seeing as how competitors charge $200+ on similarly positioned items. “Something’s off, it must not be any good”, they’ll think. And plus, what kind of social status does $60 buy me? The price tag tells the customer how much you value your product. You, yourself, don’t think it’s worth more that $60, otherwise why would you have priced it as such? Mind you, I’m grossly oversimplifying, skipping over chain supply issues, distribution deals, and the such — I’m only trying to point out the psychology behind all this.
The takeaway? When pricing your product, keep in mind that you’re setting an upper bound on what you, yourself, think the product is worth. Think of pricing like a negotiation, where you, the producer, have the disadvantage of having to make the first offer. “But I’ll make it up in volume!”, you say. Yes, that may well be true, but I still think you ought to at least run an experiment and see when the actual drop in volume occurs. You’re trying to maximize revenue (or profit) after all, aren’t you? So run an experiment, you might be surprised.
- posted by Bogdan Dumitru