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How to Price Your Product or Service for Maximum Profit
Table of Contents
1. The Four P's of Marketing
2. What Is Your Objective?
3. Pricing Myths Exposed
4. Price is a Perception of Value
5. Testing Price Points
6. Teeter Price and the Six Questions
7. Six Techniques to Present Your Price
8. Advertise Your Price?
9. Pricing Rules for Rounding Off
10. Price Gimmicks that Work
11. Successful Discounting Strategies
12. 10 Stealth Ways to Increase Your Price
13. Never Compete On Price
Often the difference between a winning product and a loser is how you price it. Sales tests have shown that price is one of the most compelling factors that determine the success of a sale. Readership surveys have shown that readers will often skip copy just to get to the bottom of the advertisement to find out the price.
The Four P's of Marketing
For those of you who have studied marketing in school, you’ll remember the Four P’s of Marketing, (1) Product, (2) Place, (3) Promotion, and (4) Price. These four elements of marketing together determine the success of your product or service.
When determining a strategy for a profitable business you should ask yourself four critical questions as a result of the Four P’s…
1. How can I improve my product?
2. How do I get it from point A to point B?
3. How do I tell people about it?
4. How much should I charge for it?
The first three questions all have a cost associated with them. Only the fourth question actually determines how much money you’ll bring in. So pricing is a critical question that should be considered carefully.
What Is Your Objective?
When pricing your product or service you must always have an objective in mind. Knowing your objective will have a huge impact on the final price you set. It is true that the ultimate objective of you price is to make the most money possible. However, there are different routes to reach that objective.
For example, the following are six pricing strategies to meet certain objectives. Each strategy will, perhaps, result in a radically different price to meet the objectives of the business.
Strategy #1 - Pricing low to penetrate the market and gain customers.
Objective – Perhaps you’re just entering the market with a new product and you want to gain as many customers as possible.
When to Use – If you have a big “backend” product that you plan to sell as a follow up to the lower priced “front-end” product. Or it might be that you have a consumable product that people will buy over and over again so you want to gain customers, get them hooked on your product or service, and then slowly raise the price.
Strategy #2 - Pricing high to skim maximum profits.
Objective – To gain the maximum amount of profit per unit in the shortest amount of time.
When to Use – When your product is unique and new with no competition and you have a short window to skim the maximum profits before knock-offs start flooding the market.
Strategy #3 - Pricing low to crush the competition.
Objective – You want to squeeze your competition out of the marketplace so they no longer compete with you.
When to Use – Your product is a perceived commodity and you have one or two competitors with which you are constantly having price battles. (By the way, technically this practice is illegal)
Strategy #4 - Pricing to make a “normal” profit.
Objective – To set a price that is seen by your customer as honest and reasonable.
When to Use – You may be on contract (such as a government contract) with a customer that you have a long-term relationship with and whose trust you value immensely (and who does periodic audits on your books). In this case you might use a cost-plus pricing strategy.
Strategy #5 - Pricing to the market to be competitive.
Objective – When you want your stay competitive and be considered for any proposal, bidding, auction or other competitive pricing situations.
When to Use – When your product is very similar to your competitor’s and you are limited in the methods you can use to differentiate it.
Strategy #6 - Pricing for maximum profit and maximum sales.
Objective – You want to get the maximum amount of profit possible but not at the expense of losing customers.
When to Use – After your initial introduction and you have the ability to differentiate your product.
Hopefully after reviewing these six strategies you realize that your price is not just a function of the cost to produce your product or deliver your service but is more a function of what you’re trying to achieve.
Pricing Myths Exposed
There are a lot of myths out there about pricing your product or service an some fly directly in the face of popular thinking (and what I’ve stated in the previous section).
Myth # 1 – Price is the consumer’s most important buying criteria.
Truth – Yes, price is important but it is no way the most important criteria for a shopper. I’ve never seen one study that has shown price to be the most important buying criteria for a consumer. In fact, most studies I’ve reviewed show price to come up around fourth place on the importance list.
Just look at those who pay exorbitant prices to buy brand clothing such as Ralph Lauren or Tommy Hilfiger. How about those who buy goods at the local gas station or 7-11 store whose prices are astronomical. Remember the Cabbage Patch Doll or the Tickle-Me-Elmo craze? Prices went sky high because the demand was so high for them.
Even if you have a product that you think is a commodity, there are a myriad of other ways to differentiate your product or service so that you can charge a higher price (which leads me to the next myth).
Myth # 2 – You have to match or slightly under price your product or service in a commodity driven or competitive market.
Truth – There are so many ways to differentiate your product or service that it baffles me why businesses continue to believe this myth. Here are just a few ways you can differentiate yourself:
There are a myriad of ways to differentiate your product or service. All it takes is a bit of creativity and some good marketing. You should never have to just accept the prevailing price of a product. Price-takers get eaten up and spit out. Price-makers spend their vacations in Hawaii.
Myth # 3 – Pricing is a simple matter of taking the cost of your product or service and marking up your desired profit margin.
Truth – The fact is that most businesses don’t know their costs so even if they wanted to do cost-plus pricing they couldn’t. If you don’t know your cost how can you “mark up” your price? In addition, the cost-plus price may have nothing to do with the value you provide or the market price of your product or service.
Even though you may not be able to determine your price, you should be able to approximate it. It’s better to be approximately wrong than to be precisely right. In any pricing scenario, you must know the approximate cost of your service so that if you are losing money, at least you know it and it is part of your strategy.
Myth # 4 – If sales are lagging just drop your price and sales will increase.
Truth - Just open the paper and count the number of times you read the word, “sale.” The truth is that people do put a high value on price but they also put a high value on quality and when you lower your price you cheapen the perception of your quality.
If you lower your prices just to increase sales you should have a good reason. If you believe you’ll be able to upsell your new customers or you believe that can backend them with bigger offers then your strategy is justifiable. But if you just lower your prices to increase sales you could be just speeding up your losses.
Price is a Perception of Value
It’s important to remember that you must sell your product or service at a price that is higher than your cost to produce and promote it. That’s called a profit. But perhaps, even more important is knowing that your customer will only buy your product or service if they determine that its perceived value exceeds the price they have to pay to receive it.
Price is a perception of value and has little to do with actual value. The whole goal of your marketing efforts is to spread the word and convince people that the value is higher than the price they are being asked to pay.
I’ll never forget a story I once heard about a fellow who approached the legendary marketer/copywriter Gary Halbert to ask about the seemingly high price he was planning to charge for his new product. He asked Gary, “Do you think people will pay $XX dollars for my new widget?” Gary’s reply is profound and something you should always remember. He said, “I don’t know. How good is the sales letter?”
I love this story because it summarizes everything that is great about the power of good marketing. Your product or service’s price has nothing to do with its actual value. It has everything to do with it’s perceived value and how well you can build that perception in the mind of a prospect using effective marketing.
Testing Price Points
All the price theory in the world won’t tell you what your optimum price is until you let consumers test it with their wallets. I remember Mark Nolan, author of “The Instant Marketing Plan” once telling a story about how he sold 100,000 copies of a book on free publicity he’d written for $29 a piece.
After selling a ton of these books he had a conversation with another marketer who asked him if he had tested his price at $49. Mark just stared at him as he realized that he’d been so busy selling his book and things we’re going so well that he hadn’t tested his price.
You should consider starting your test with four price points:
1. What you think should be the price.
2. The highest possible price you can imagine, but one to which you think that consumers would still respond.
3. A low price that is a great deal for the customer, but less than you want to charge.
4. A fourth price that is outrageously high or low.
Holding everything else constant, determine the sales from each price point. You’ll probably find that the price that obtains the maximum sales and profitability is higher than what you had originally intended.
You might also consider price testing a combination offer. By this I mean, what combination of items can I offer for the maximum sales at the highest price. This may be more difficult in the real world but one the Internet it is simple.
Just send one stream of prospects to a page with one combination and price and send a second set of prospects to a second page with a different combination and price. The combination could include different products bundles, different guarantees, different service features etc.
Teeter Point and the Six Questions
Ken Evoy, coauthor of “Make Your Price Sell,” an online price determination product invented the term “Teeter Point,” which he has even trademarked. The teeter point is the price at which a consumer just can’t make up their mind. It’s the point at which if the price was raised a dollar you’d lose the sale and if it was dropped you win the sale.
The trick of course if find the teeter point. Ken asks two questions to two different groups of people to find the teeter point.
Question # 1 – What price is almost too high to buy?
Question # 2 – What price is just a bit too high to buy?
If the median for question # 1 is $50 and the median for question # 2 is $45, then your teeter point is somewhere between $45 and $50.
To determine a consumer’s buying habits Ken has asks two more questions.
Question # 3 – What is the price you usually spend for (product name)?
Question # 4 – How often do you buy (product name)?
This information is important because it helps you determine what a consumer might expect to pay for your product or service.
Other questions that are asked in Ken’s price survey are:
Question # 5 – On a scale from one to seven, how unique is (product name)?
Question # 6 – On a scale from one to seven, how important is (product name)?
The more unique and important your product and service, the higher the price you can attach to it.
The last question that is asked is:
Question # 7 – What is a fair price for (product name)?
The respondent will normally answer with a price that is lower than what they truly consider fair. However, combined with the teeter point questions, you’ll have a good indication the optimum price you can charge for the most sales.
Presenting Your Price
Perhaps the only thing more important than setting the right price is how you present it. The key to presenting your price is to compare it with something that the consumer perceives as relatively huge.
For instance, the following techniques uses the compare / contrast method to give the perception that your price is not only fair, but a great deal.
Technique # 1 – Volume Method
Imagine you are selling a course on how to stop smoking. Using this method your copy would read something like this: “…you’d have to have 12 months of personal smokers rehab counseling to get the same amount of coaching that you’ll find in this course.”
Suppose you are selling taxation consulting you could say “…in just one session you’ll learn how to save more in taxes than you paid last year to the I.R.S.” Notice how what you are giving them is compared to a much larger quantity, which has the effect of making your.
Technique # 2 – Monthly Installment Method
Offer to have your customer pay low monthly installments rather than one hefty price, then just advertise the monthly installment price. This gives the perception of a low price. Recently I sold a mobile home and noticed that people didn’t really care about the price of the home, they were more concerned about the amount of the monthly payments.
Technique # 3 – Individual Value Comparison
This method takes each individual component of the offer, places a value on it and then adds it all up for a total and then compares it to the asking price.
For instance, if you were in the hotel business you might say this, “…your luggage carried to your shuttle van (value - $15), a swift shuttle ride directly to your hotel (value $35), your personal assistant to help you carry up your baggage and get settled in (value $10), premium movie channels for your viewing pleasure ($12), a relaxing overnight stay in your personal suite (value $189), and a hearty breakfast in the morning ($15) for a total value of over $260…yours for only a small investment of $99. You save over $160!
Technique # 4 – Pain Avoidance Method
As a consultant I often try to put a price tag on the problem to give my client a realistic picture of what it is costing her to continue to do nothing. Then I compare it to my relatively small fee for helping to rid her of that problem.
For instance, the conversation might go like this…
David: “Hmmm, so you have a theft problem in your stores?”
Client: “Yes, it’s terrible”
David: “What types of things are being stolen?”
Client: “Computers and software mostly.”
David: “What do you think the average price is for the computers and software being stolen?”
Client: “The computers cost around $1,200 and the software costs around $50.
David: “How many are missing on a monthly basis?”
Client: “We usually come up about five computers short and probably about 20 different software packages are missing.”
David: “Now this is happening in all your stores?”
David: “Well, let’s see. From what you told me you’re experiencing a shrink problem of around $6,000 per store and you own 12 stores so you’re total shrink is costing you around 60,000 a month overall.”
David: “So, in a year’s time you could have a million dollar problem.”
David: “Would you be willing to invest $50,000 to get rid of you million dollar problem?”
Technique # 5 – “Most – Some – But” Method
This technique is a simple competitor comparison that gives the perception of rarity or exclusivity.
Example # 1 – Nail Salon
Most upscale salons you’ll pay $50 - $100.
Some popular salons you may pay as little as $35 - $40.
But our low preferred customer price is just $19.95.
Example # 2 – Jewelry Store
Many jewelry stores charge $200 - $300.
Some jewelers will offer special as low as $99.
But, during our Customer Appreciation sale you only pay $67.
This method is used to dramatize the discounts or low price that you offer compared to other businesses in your market.
Technique # 6 – “Reason Why” Method
If you charge a very high price or a very low price, both may be a bit hard to believe by consumers who are used to paying a certain price. Telling the consumer why the price is so high or so low helps to reconcile the price discrepancy and accept it as reasonable.
Example # 1 – Inventory Overstock
“Our prices are so low because we goofed on our last inventory order and are now seriously overstocked. If we don’t sell all our (product) we’ll have to file for bankruptcy so we’re clearing out all our inventory at ridiculously low prices.”
Example # 2 – Custom Pool Builder
“Rainey pools recruited a team of the most experienced pool design engineers in the country to design each and every pool, down to the last nail. No expense was spared. We have developed the pool industry’s most advanced software at a cost of over half a million dollars to ensure that the surrounding landscape blends in with the pool design to create your complete three dimensional vision before anyone even steps foot on your soil. Our advanced planning system takes every circumstance and detail into consideration to guarantee that your project will be completed on time and on budget. Lastly, we’ve scoured the eastern seaboard to find the most experienced pool construction people whom we pay twice the industry average to create your backyard masterpiece. With over millions of dollars worth of experience, research, technology, and quality control, you’ll have the finest backyard experience available anywhere in the world.”
Pricing Rules for Rounding Off
How you end your price has more to do with human psychology than practicality. People buy on human emotion rather than rational logic. The following are several rules developed by price expert Erin Mitchell, President of the Pricing Society (www.Pricing-Advisor.com).
Tip # 1 – For prices up to $10 use endings such as $.99 rather than $.95. Customer’s reactions are the same for both price points and the $.99 garners you four more cents. Also, prices ending in odd numbers such as .34 are confusing to people and may cost you sales.
Tip # 2 – For prices from $10 to $100 the best ending to use is $.95 rather than $.99 because the $.99 is seen as a “greedy” price.
Tip # 3 – For prices greater than $100 it’s better to present your price in whole dollars rather than cents. It’s a cleaner look.
Tip # 4 – Pricing for professional services should be in whole numbers such as $150 rather than $139.95. It’s more professional and promotes dignity and confidence in your fees and rates.
Advertise Your Price?
I often get the question of whether to advertise price or not. This has been an ongoing debate for years. I recommend not advertising your price unless it is surprisingly low. You’re limited as to what you can do to build value in an average size advertisement. Displaying a high price without first building value is a losing proposition.
If you’re running a sale just advertise the discount amount rather than the price. For instance, advertising “20% Off” or “Take $1,000 Off” rather than showing the actual price can get people just as excited as showing a low price, without showing the actual price.
Price Gimmicks that Work
All you have to do is open the paper to see a lot of price gimmicks that retailers use to lure people into their business. I could have listed a dozen gimmicks but I’ve limited it down to five common price gimmicks.
1. The $1.00 Gimmick
The $1.00 gimmick is my favorite and is very powerful. It includes advertising a product for the “almost free” price of $1.00. Tell you consumers to call or come in and find out how to get your product for only $1.00.
Your average consumer knows that this is a gimmick but it’s so intriguing that many come in just to see what the catch is. This is especially effective if the $1.00 product has value. Currently, a friend of mine is offering a marketing course to insurance professionals for $1.00 using a postcard marketing campaign.
However, to get the marketing course for $1.00 they must purchase his $300 marketing course. Is it a gimmick…yes! Is it a good deal…absolutely! In fact, the $1.00 course even more valuable than the $300 course, which is the key to attracting prospects.
2. Bait and Switch Gimmick
First of all the bait and switch gimmick is illegal, nonetheless, it is still practiced. The bait and switch gimmick advertises a very low price for a product and then when the prospect comes in to buy it, the business has “sold out” and the prospect is then steered toward a higher priced product.
3. The Down/Monthly Payment Gimmick
Car dealerships are famous for using the down payment / monthly payment gimmick. In act, I have a newspaper advertisement as I sit here writing that says, “Used Cars to Be Sold For As Low As $69 Plus TTL. Millions of Dollars in Unclaimed Vehicles.”
Do you believe that this car dealership is going to sell a car for $69? Of course not! The $69 is a down payment; however, it is presented as the total price of the auto. It is very convincing and many people flock to these car sales every weekend.
The monthly payment gimmick is done the same way. A low monthly payment is presented as though it is the entire price of the product.
5. The Free Gimmick
The free gimmick is great for giving away teaser or trial test products without losing your shirt. If you’ve been watching television lately you’ve probably seen the CEO of the Video Professor computer training company. They sell computer training courses on CD-ROM.
The CEO offers you a free CD-ROM of your choice. He says, “Why am I giving these away? Because I know if you try just one of my CD-ROM training courses, you’ll come back for more.” However, in small print you’ll see that he charges $6.95 for shipping.
The $6.95 will not only cover his shipping, but also the manufacturing cost of the CD-ROM. He loses nothing in the offer. When you call up (like I did) you’ll find out that they try to upsell you like crazy.
6. The Shipping Charge Gimmick
A spin off of the Free Gimmick is the shipping charge gimmick in which a low price is advertised. But when the order is made an exorbitant shipping fee is charged. So the real profit is hidden in the shipping fee.
There are no restrictions on how much you can charge for shipping. The higher priced product you buy the easier it is to hide profit in the shipping fee.
Successful Discounting Strategies
Discounting can be a powerful tool to close the sale. However, it is over used and entirely abused. Consumers just expect a discount in our current retail environment. Instead of discounting, business owners should consider building value through adding low cost, high value bonuses and premiums to entice customers to buy.
To make your discount even more powerful it should be tied to a deadline. This introduces a feeling of urgency, which motivates prospects to action.
With that said, let’s review a few successful discounting strategies.
1. New Product Introduction Discount
When introducing a new product you may consider offering it to a select group of individuals on an exclusive basis. This will jumpstart sales.
You might say something like this, “For the next two days I’m offering this introductory discount of 40% off exclusively to my current customers. After this introductory period, you’ll have to buy my product at the regular purchase price of $XX. Hurry and take advantage of this special exclusive offer right now.”
Or you could introduce it to the customers of a joint venture partner by having your partner say, “…I wanted to let you in on an exclusive special offer on a new product that my friend John Doe is coming out with this week. I had to twist his arm to get him make this offer to my customers. He finally relented. Hurry and take advantage of this deal while it lasts. I was fortunate enough to get him to agree to extend to you such a significant price break.”
2. Quantity Tiered Discounting
A quantity tiered discount is one that increases with the volume of purchase. For instance, if you buy three cans of peanuts you get a 10% discount. If you buy 10 cans you get a 12% discount. And if you buy 20 or more you get a full 15% discount off the regular price.
Many consumer goods companies do business this way. Unfortunately it creates erratic order quantities and makes it difficult to predict future product demand. But that’s another article.
3. Value Bundle Discount
The value bundle discount offers a lower total price for a bundle of products or services. For instance, assume you were selling a membership as a preferred customer to your clothing store you might offer…
1. A $50 coupon for shirts and slacks. (value = $50)
2. A $100 coupon for a suit. (value = $100)
3. One free tie. (value = $25)
4. One free pair of socks. (value = $8)
5. One year of free tailoring. (value = unlimited)
The total value of the entire bundle of goods and services exceeds $183. Instead of offering each of the goods separately you offer the entire bundle in a membership package for $100. That’s a great value that would be tempting to anyone. But because your markups are over 100% you still make a respectable profit.
4. Secret Code Discount
The Secret Code Discount is also one of my favorites because it gives a feeling of intrigue, exclusivity, and excitement. The discount includes offering a coupon or ticket with a secret code on it. You must go to the business’ website, enter the secret code, which then takes you to a webpage containing a discount coupon that you can print out that you carry into the store.
10 Stealth Ways to Increase Your Price
Ever wanted to increase your prices in stealth mode? Here's 10 ways to generate more revenue without making a public price increase announcement.
1. Revise your discount structure by decreasing your level of discounts offered to customers.
2. Increase your minimum order sizes so that customers will have to meet a higher minimum threshold to get their discounts.
3. Increase your delivery charge and start charging for any special services related to delivery.
4. Start invoicing for repairs on serviced equipment.
5. Bill your customer for any engineering and installation services that you previously included in the purchase price.
6. Raise your prices for overtime on rushed orders.
7. Start aggressively collecting on overdue accounts from the past several months.
8. Shift your sales mix to higher margin products and service and start phasing out the lower margin items.
9. Begin to write stiff penalty clauses into all your contracts.
10. Decrease the physical characteristics of the product or remove services that you are now providing and continue to charge the same prices.
Never Compete On Price
Let me first say this, and if you get nothing else from this article remember this, “Never compete on price!” Never, never, never! It’s a losing proposition for you and for your competitors. Okay, there’s always an exception. If you have a substantial cost advantage that is virtually impossible to duplicate then there might be a case for competing on a lower price.
What usually ends up happening is after you lower your price, your competitor is forced to lower their price a little more, then you have to match the lower price and down it goes. Every body loses (except for the customer).
Why compete on price when there are so many avenues for differentiating you product or service? It doesn’t make sense, or should I say cents.
Pricing is a key factor in marketing and selling your product or service. Whatever price your choose, make sure that you have an end objective in mind and that your pricing strategy supports your end objective.
Don’t believe the myths that are swirling around about pricing. In the end, price is simply a perception of value. Build your value and charge higher prices. Make sure that you do some testing on your price points or you might be missing out on a lot of profits.
How you present your price can be just as important as the price you choose. Always make a comparison to something large that your customer can understand. Advertise your price only if it’s very low or you can build value into the advertisement.
Although some price gimmicks may seem juvenile and down right dumb, never overestimate the intelligence of the public. Not only do some price gimmicks work, but discounting can also be a successful motivator…if done correctly.
Lastly, never compete on price, unless you have a cost advantage that is near impossible to duplicate. Competing on price is almost always a losing proposition.
David Frey, President of Marketing Best Practices Inc., a Houston-based small business marketing consulting firm, is the senior editor of the Marketing Best Practices Newsletter featuring small business marketing best practices.