The prices you charge for your products or services can have a dramatic effect on sales and profits. Your pricing strategy also determines how customers view and respond to your product or service.
Consider the different options when it comes to pricing, to make sure your strategy is effective.
The main pricing options
Since you’re new to running a business, it’s important to learn about the different pricing methods in order to work out which is best for you. We’ve got a few tips that can help guide you.
This is really an essential starting point to avoid selling at a loss. Calculate all your costs in producing your product or service, then add a margin for your profit.
Get your accountant to check you haven’t missed anything. Make sure your prices include enough profit to grow your business.
For example, if you’re selling outdoor furniture, you have to add up all your costs of manufacturing furniture, such as raw materials and labour costs. Then, add your profit margin on top.
What cost-plus pricing doesn’t do is take into account demand, what the competition is charging, or market expectations.
Let’s say your business manufactures costume jewellery, and the cost for you to make a necklace (including raw materials and the time you spend actually making it) is $25.
You also need to factor in an amount for overheads. The best way to do this is to add up all you overheads, and divide that by your estimate of how many sales you expect to make.
So you might look at adding a margin of 100%, and selling the necklace for $50. Can you sell them for that much?
This is what you’d probably work on if your business were service-based, such as gardening or lawn mowing.
Work out how much you’re going to charge your customers per hour. For example, a lawn mowing business would need to take into account:
- Wear and tear on the mower.
- Gas costs for both the mower and travelling to the customer’s property.
- The cost of their own labour.
If you work on a base of $5 for mower gas and wear and tear, plus another $5 to travel to each customer, you might be charging your labour at $25 per hour.
You then need to add overheads, so if yours are $50,000 and you can work 2,000 hours a year, you’d add in $25 per hour for overheads.
Then you need to add profit. If you’ve decided you want a salary of $100,000, then at 2,000 hours, that’s $50 per hour.
Now the charge out rate becomes:
- $50 profit + $25 overheads + $25 labour and petrol.
If $100 is way over the market rate, then you can look at lowering your overheads and variable costs. Or you could work longer hours, and reduce your profit margin.
A mix of margin retail and hourly pricing
Combining margin retail and hourly rate pricing is something you’d do if your business offered both a product and a service.
If you’re manufacturing entertainment units that are custom-built for a client’s home, including installation, you would need to charge your customer for both the unit and the time it takes you to install it.
What does the market say?
When you’re deciding how much your labour or your product is worth, it’s important to get a feel for the market by finding out about similar products and services.
Buyers’ risk can be one of the most important factors in getting a higher price. Would you feel confident buying a cheap parachute? Ask yourself:
- Which products do your customers see as offering the best value?
- What do your customers expect to pay for your products or services?
- Which products are likely to be the most successful?
Consider what you can do to reduce or reverse the risks a buyer might see in your products or services so you can charge a higher price. For example, you could offer a better guarantee than your competitors.
What are your competitors charging?
Your competitors will influence your pricing to some degree. Think about:
- Who your competitors are and what they offer.
- What the key features and benefits of their products are.
- How their prices compare with yours.
Do your products or services have a clear point of difference? If you can offer more, such as better quality, more features, or free installation, you may be able to charge more.
In addition, decide how you want to position your products or services. For example, customers often associate a high price with a premium product or service.
Review all your options and decide which one suits your business best. When you’re deciding on your strategy, it’s a smart idea to consult your accountant.