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No matter the industry, many entrepreneurs struggle with a common hurdle to succeeding in their business: capital. Whether they’re being rejected from a bank loan application, can’t seem to win over investors, or are struggling to keep sales up, money can be a major struggle for new business owners.
Of course, a large part of ensuring your startup can maintain a healthy cash flow is validating your idea, and ensuring you create real value for your target audience. Many business owners focus on selecting a profitable idea and get stuck micromanaging everyday operations.
However, there is another important factor to ensuring your business turns a profit: your pricing strategy. The pricing strategy you choose has more than the ability to keep your business running — your pricing can differentiate you from competition, brand your company, and open your business to new markets. That’s why among all the financial hurdles that you’ll overcome in your startup, from funding to getting paid, setting the right pricing strategy is one of the most critical.
Depending on your market and competition, selecting the right pricing strategy can take your struggling business to the next level. If your business is just starting out, or you find yourself in a financial slump, it may be time to start with the basics. Get to know your market with these key steps:
Consider Costs
In order to set the right price for your product or service, you have to fully understand all the costs associated with what you do. This includes everything from utility bills and rent to materials and labor.
This will vary greatly depending on what type of business you’re in.
If you’re a solo entrepreneur working out of a home office, your main cost will be your time. Average your expenses over time to get an accurate number that you can reliably use to estimate your business expenses.
Set Profit Goals
While it may seem unnecessary to set goals about how much money you want to make — after all, most people would say, “as much as possible” — setting a realistic number for yourself can help your business succeed. Deciding on a goal number can help you keep your operations more efficient and give you an extra push when things slow down. Keeping an eye on reasonable profits from the beginning will help you cross off any price-points that will actually be too low, or ideas that won’t be profitable.
Know Your Customers
Understanding your target audience’s wants and needs will go a long way. If you haven’t already, complete comprehensive audience research to learn who your target is, and what they want out of your kind of product.
Understand what other products or services they enjoy, and if they tend to bargain hunters or prestige-seekers. The more information you can gather about your target customer, the more likely you are to set a price point that appeals to them.
If you aren’t sure who your target customer should be, try checking out other similar products and services and who frequents their social media pages. Maintaining your own online presence will help you understand which kind of person engages most frequently with your blog or social media.
Know Your Competition
You’ll have competition, even if you have an entirely new invention. Even then, there will be competitors that solve a similar problem in a different way. It can be disheartening work to monitor your competitors every move, especially if it seems like you’ll never be able to outpace them. However, this is essential to growing a successful business. To develop a product offering at an appealing pricing strategy, you must understand what your target buyer will be looking at alongside your product and be able to offer something the competition cannot. If you’re a solo entrepreneur, even just a few minutes spent browsing competitors pages and social media can give you considerable insight.
Here are seven of the most popular strategies with small businesses and entrepreneurs:
#1 Cost-Plus Pricing
This is one of the simplest ways to price a product or service. While it doesn’t offer much in the terms of strategic advantage, it is an accessible first start. Simply add your costs and desired profit to arrive at an appropriate number. The benefit of Cost-plus pricing is that you don’t necessarily need to conduct market research. This means that your price point has a greater than normal chance of negatively impacting your business. However, if you have price-sensitive target audience, this model is generally easier to justify than other pricing strategies.
#2 Value-Based Pricing
If your audience aren’t necessarily looking for the best deal available, set your price point based on how much value you create for them. Basically, this means determining the most your customer would be willing to pay for your product or service. Value-based pricing is less effective in very heavily saturated market, where you are more likely to be undercut by another business. Ideally, you should be able to offer higher quality, more convenience, or more streamlined experience in order to succeed with value-based pricing.
An example of value-based pricing would be if you were a website designer who typically charges by the hour. As you become more skilled and can offer a high-quality product in a few hours, you may be designing a client’s entire website in half a day at a bargain rate. Since websites are so necessary for business operations, and will drive value for a client for years to come, it may make sense to price based on that value, rather than the work you put in.
#3 Competitive Pricing
In highly competitive markets, it can be impossible to select a good pricing strategy without keeping a close eye on your competitor’s prices. It may be that the instant your competitor reduces their price, you see your sales plummet. If you suspect your audience is always hunting for a bargain, competitive pricing will be necessary.
With competitive pricing, you ensure you aren’t charging more than your competitors, and also make sure you aren’t charging way less than you could currently be making, either.
If your product or service is harder to differentiate from others available, this may be a good strategy for you. The only problem arises in smaller teams or solo operations where the workload associated with monitoring competition is proportionately very high.
#4 Penetration Pricing
For highly competitive markets, another technique is to price at a low rate at first, only to raise it once your brand is more established. This strategy may require you to sell or price at a loss at first, so you should consider the sustainability of this before practically giving away products or services.
This attracts customers who are shopping for the best deal and sways others to try out a new brand. Most likely, the price point necessary to successfully gain traction in the market will not be sustainable. In addition, cut-rate prices may attract customers who are only looking for a bargain and will leave once you raise your prices.
#5 Price Skimming
For unusual products or services without a ton of competition on the market, you may have the freedom to price high in the beginning. Price skimming describes a technique of first gaining profits from the topmost layer of potential customers, before reducing prices slowly to earn profits from subsequent layers of customers. With sufficient demand and low competition, there amount your audience may be willing to pay could be considerably higher than you think.
Your prices will likely need to reduce over time as customers expect greater value and new competitors enter the scene.
#6 Demand Pricing
Demand pricing relies on the mechanics of economics you’re probably familiar with: high demand means high prices; low demand means low prices. Utilizing demand pricing is a way to affect demand for your product in a strategic way.
If you want to clear out your supplies or drive sales in slow month, price lower to drive demand up. To reduce the workload of a sparse team, raise your prices to cut down on the number of orders. The downside to changing prices based on demand is that sometimes customers may feel resentful of the ever-changing prices, or the fact that they missed out on a great deal.
#7 Tiered Pricing
For companies with a variety of offerings, it may be effective to create bundles of products or services at varying price points. This optimizes your brand to appeal to different types of customers, and possibly upsell loyal customers to a higher tiered service or product. This does not mean however that tiered pricing is a great catch-all for an audience you don’t know too well. In fact, creating an effective tiered pricing system requires you to become very familiar with your customer. You’ll need to understand not just one of their requirements, but many, and foresee how they may change over time.
So, how do you choose the pricing strategy that is right for your business?
While thorough research will take time, the more you know about the space your business is in, the more likely you are to succeed. For help on determining which pricing strategy is right for your business, audience, and market check out this flowchart by Fundera.
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