How to Win with Pricing Strategy!

Focus your small business marketing plan and your sales plan on pricing strategy and pricing objectives.

Pricing is so important a subject in your small business environment that it has its own section on this website and it is also covered in several other areas (strategy and marketing).

Why is pricing strategy so important to your business? Because price is often the single most important factor in your customer's decision making process.

Yes, if your quality is good, your customer will pay for quality. Yes, if you have unique services, features and benefits, your customer will pay for those additional and unique characteristics. But how much more will they pay? That is really the key question.

Price is only one of four elements of your marketing mix (along with the other three: product, promotion and place) however price is the only element of your mix that provides revenue, the other elements are costs (there is cost in building your product or service, promoting it, and placing or distributing it).

The first element of price setting is understanding where your product or service is positioned in the market:

• Are you pricing for survival? Do you have competitors chasing you or copying you or pricing below you? Is your market saturated with similar products? Are customers moving on - outside of the industry? Is your product in the declining phase of its product life cycle? Be aware if survival is your pricing objective, it is a short term strategy - you need to develop long term, value adding strategies for your business to stay in business.
• Are you the market leader, with the largest market share? If so, can you gain economies of scale in the production of your product, or in the distribution of your service? If so, a low price strategy might be a good objective for you to focus on. Are you the market follower and content to be there? Then follow on price too. If you want to move up and become a market challenger, your pricing strategy will need to reflect that intent.

The next element of price setting is determining what the demand is for your product and understanding the price elasticity of demand in your market.

If you think about pricing as setting levels of price (for the same product) and if you were able to test those prices (by survey, or a focus group, or even in real markets) you would see that as you priced your product at higher levels, the demand for the product would fall. You can create demand curves (using a spreadsheet analysis) to capture that data. Normally, the higher the price, the lower the demand. On a very restricted basis (for prestige or luxury type products), a very high price might signal a better or more desirable product and so for that type of market the demand curve would be 'abnormal'.

If demand changes considerably with price increases/decreases, demand is elastic. If demand does not change much if the price goes up or down (to a certain point), then demand is inelastic. What is the price elasticity of your product in your market? Be aware that price elasticity of demand is closely tied to the amount, direction (up or down), and frequency of price change.

Price sensitivity needs to be considered when setting the price for any product and service; and it needs to be particularly considered when you change a price (price increases or price decreases).

• Customers are less sensitive to price increases if the product is very unique and has high value.
• Customers are more sensitive to price increases if they can easily substitute the product for a lower priced alternative.
• Customers are less sensitive to price increases when they have difficulty comparing the qualities of alternative products.

There are many sensitivity considerations in setting price.

The process of setting your price or building a pricing strategy must also include understanding and knowing your cost structure.

You will need to estimate (if a new product) or review your historical data (if an existing product) for both fixed and variable costs. Your fixed costs are those costs, such as rent, heat, light, salaries (not wages related to production output) that you have to pay whether you produce one product or many. Variable costs are tied directly to production output, such as wages, materials, shipping costs.

For pricing purposes, you will need to know how increasing production capacity can affect your costs per unit. Understand that costs always need to be covered in setting the price, unless you are using a pricing strategy for specific reasons (e.g. loss leader pricing strategy).

In addition to understanding the market, the potential buyer behavior, the price elasticity, and your costs, you will need to understand your competitors' pricing strategy and methods.

By understanding their pricing objectives, you will be able to develop a competitive strategy to respond to their pricing tactics (most common is cutting price to gain market share - but this most common approach is very costly to the business owner).

Selecting the pricing strategy for your price setting methodology means that you need to have a good understanding of a number of different strategies: loss leader pricing, market penetration pricing, value pricing, price skimming, product line pricing, promotional pricing, psychological pricing, and other alternative strategies and pricing methods, such as captive or companion pricing, premium pricing, generic or economy pricing, differential pricing.

Many small businesses take a very traditional pricing approach: add up their costs and upcharge by the profit margin they wish to achieve.

Other businesses take the approach that the market sets the price and that they need to meet that market price.

You can differentiate yourself by analyzing your market and your product approach and applying a pricing strategy that is created specifically for the environment you operate in.

This is always easier to do if you are in the introductory phase of the product life-cycle and/or if you are the market leader. If you are not in either of those positions, then create enough of a difference between you and your competition and make sure that your customers and the market understand and accept those unique differences and advantages.

You will be able to get the price you want; if you plan for it.

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