The different types of pricing strategies are cost-plus pricing, target return pricing, value-based pricing, and psychological pricing. It is very important for every business type brick or mortar or bits and bytes.
Pricing is one very important aspect of any business and one has to be very keen and has to look into various factors before taking a decision about pricing. It is very important for every business type brick or mortar or bits and bytes.
There are various pricing strategies that exist; here is a small discussion on all types of new product pricing strategies. The different types of pricing strategies are cost-plus pricing, target return pricing, value-based pricing, and psychological pricing.
There is no best method or strategy to calculate the price. Pricing for every business has to look upon various factors and thus has to decide on a pricing strategy accordingly which suits that business best.
Cost Plus Pricing– In this method the price is calculated keeping in mind three major factors, the production cost of goods, fixed cost at current volume, and last but not the least profit margins. Every business operates for profit and thus while calculating price profit is a major area of concern. Let us explain it with the help of an example suppose the production cost per unit of a company at present is dollar 20 including raw materials and all factors of production. The fixed costs incurred by the company is dollar 30 per unit. The total cost incurred by the company is dollar 50. If the company decided to operate at a 20% mark up then the calculation will be dollar 10(20% * dollar 50) and this way total cost or price comes up to be dollar 60. Thus to operate at profit it’s very important that you calculate your cost appropriately and predict your sales well.
Target Return Pricing– Price is set in a way that helps to achieve a target return on investment (ROI). Return on investment can be explained as all the organization exists if it yields output at least comparable to input. No organization can run in the long run if it doesn’t get minimum output which is equivalent to input. Let’s understand this with an example assume the same situation discussed in the above example and also consider that you have invested 10000 dollars in the company. The expected sales volume for the first year is 1000 units. If you want to cover all your investment in the first year itself you would want the company to make a profit of 10000 dollars in the first year itself. The profit estimate on 1000 units is 10000 dollars which means 10 dollars per unit. The cost incurred is 50 dollars per unit, thus the price comes to be 60 dollars per unit.
Value-Based Pricing- The product is priced based on the value it creates in the minds of the customer. This pricing strategy is considered the most profitable form of pricing strategy if achieved as it is somewhat difficult to achieve as compared to other methods. In this method, you charge the customer on a variable basis which is based on the results achieved. The most extreme variation on this is “pay for performance” pricing for services. Let us explain it with an example say that your widget above saves the typical customer $1,000 a year in, say, energy costs. In this particular case, 60 dollars seems to be very cheap and like a bargain. Now if the product is really producing that kind of energy savings for the customer then the company should charge a dollar 200 or a dollar 300 from the customer. In this particular case, the customers will be happy and willing to pay this amount as they will recover their money in a short span of a month time.
Psychological Pricing– The ultimate consideration which has to be taken by a company while deciding on pricing is consumers’ perception of the company’s product and service and whether they find the price decided by you worthy to pay or not.
The various method for this is positioning, if you want yourself to position as the low-cost leader you will have to price your products cheaper than the competitor’s product but if you want to position your products as quality products you will have to price them higher than your competitors do.
The second criterion considered is popular price points this talks about there are certain “price points” (specific prices) at which people become much more willing to buy a certain type of product. Let us explain it with the help of the example that “under $100” is a popular price point.
“Enough under $20 to be under $20 with sales tax” is another popular price point, because it’s “one bill” that people commonly carry. Meals under $5 are still a popular price point, as are entree or snack items under $1 (notice how many fast-food places have a $0.99 “value menu”).
Now if you drop your price below the popular price point it will lower your profit margin but it will be an added advantage and attraction for the customers and thus will lead to an increase in sales. And this increase in sales will elevate the profit margins as the concept of economies of scale will come into the picture.
The last and very important factor to be considered is fair pricing, sometimes the value of the product does not matter directly even if you don’t have direct competition. The consumers have their own set of minds and thus they themselves decide on a fair price for a particular product now if you want to charge them higher than that because of your product’s quality they are unwilling to pay.
Market research is very good to deal to mark out what is the fair price for a product in the minds of the customer. After you have decided on a pricing strategy you should remember that there has to be a relation between pricing and valve which can be gauged by the price value matrix.
ABOUT THE AUTHOR: Richard Docc