As we discussed last week, pricing your product is an important factor in making sure your business makes a profit. If you want to work out your pricing for profit there are a few key factors that must be taken into account. The price must cover all costs but also be acceptable to customers if you are going to sell your product. There are a number of ways to arrive at the price to charge customers. Regardless of which method you use, you’ll need to know what it costs to supply your product to be sure you’re able to operate at a profit.
Work out your costs
The first step is always to work out what it costs you to supply the product. To do this, you’ll need to work out the direct and indirect costs (also known as the fixed and variable costs) involved in producing and supplying your product.
It can be a good idea to ask your accountant or financial adviser to check your figures to make sure you haven’t overlooked any important costs.
You can then go on to work out a price based upon your preferred pricing method. We have outlined the major pricing methods below.
1. Cost-plus pricing
Add on a fixed percentage of the cost price to provide you with an acceptable level of profit. Manufacturers will often add between 40 and 50 percent to the cost price of a product to arrive at the selling price. So, if it costs $20 to produce an item it will sell for between $28 and $30.
Cost-plus pricing works best in a market where there is a lot of price competition and high sales volumes. Be aware that this model is based on input costs that don’t include other factors such as customer perception of quality, what the market would pay for the product and what your competitors are charging.
2. Value-based pricing
Price your product or service based upon what you believe customers would be prepared to pay for the product. The value-based model gives you the flexibility to arrive at a price that is higher than the cost-plus model, allowing you to charge for the perceived value of your product.
Value-based pricing works best in a market where you have a distinct advantage over your competitors and where you have established customers who are prepared to pay a premium for your product – either because of quality, being first to market with the latest technology, or providing organic or eco-friendly options not provided by your competitors.
3. Competitor-based pricing
This is where you price your product relative to the price your competitors are charging. If you believe you have a market advantage and people perceive your product as superior, you might decide to set your price slightly above that of the highest price charged by your competitors.
If you want to be perceived as offering good quality at a reasonable price, you might pitch your product price at around 10 to 20 percent below your market leading competitors. And if you want to be seen as offering value for money, you might pitch your price around the level, or just below that, of the lowest prices charged by your competitors.
4. Prestige pricing
If you are first to market with a new product or have a well known brand, you can consider prestige pricing. Much like the value-based pricing model, you charge what you think your customers will pay, adding a premium for the prestige associated with buying a top brand or cutting edge technology.
Most small businesses are not likely to use this pricing model, but you can consider it if you develop a leading brand or develop a market leading product.
Pricing for profit and pricing your product correctly is a major factor in the success of your business and no matter what model you use it’s essential that you review your pricing on a regular basis to ensure you are effectively covering your costs and making a reasonable profit.
Let’s face it, running a business is hard, time consuming and stressful, so you want to ensure you are getting a reasonable return on your investment. If you would like assistance, then the team at BSN & Co would be happy to help. Just call us on 08 9204 3733 and we can meet for an obligation free review.