Preface: Pricing products or services requires planning. Opportunistic businesses will review and re-review pricing continuously.
What Is Your Product or Service Worth
What should you charge? It’s a question business owner, managers, and marketers have debated for centuries. Pricing your product or service is key to profitability; and business continuity. After all, you’re in business to make a profit; otherwise you’re a non-profit organization.
So what factors are considered in pricing? Common methods are variables of cost times a percentage markup; or cost+ pricing. Cost+ pricing factors cost of raw materials, labor, and overhead multiplied to a net profit margin. Overhead adds a pricing factor for utilities, rent, depreciation, insurance, repairs, advertising, office wages, employee benefits, etc. These are often fixed costs since you would have $5,000 dollars of rent per month whether you sell 100 units or 1,000 units. The set margin of markup should give you an above average market rate of return to your business and be a value to your customer too. Industry averages could include markups from 10% to 35%+. The markup should result in a 5%-10% margin of net income after all-in costs are calculated, i.e. cost of goods sold, production labor, and overhead.
Let’s say you produce 1,000 units a month and raw materials and labor cost $300 per unit. You would have $300,000 of costs per month + overhead. If monthly overhead is $50,000 you would have an average of $50 per unit of overhead for a total cost of $350 per unit. If you marked up your product 30% you would sell each unit for $455. This is simple pricing structure. You also need to evaluate your customer’s perception of price and value. Is $455 equal/higher/or lower than competitor’s? What is the shipping cost if you’re selling to products in multiple states? If it costs $30 to ship each unit, is it competitive in other geographic regions? If you’re selling to a luxury market, trend design and quality will surpass lower price as the key sales tool. You need to understand why your customer buys from you. Businesses that compete on price values and price values only must have a competitive advantage in say location to ward off competitors.
You need to understand the competitive moat in your business. What will that moat be, or what is it? Let the marketplace tell you what moats are in your best interest.
Optimizing pricing for your product or service is as key as optimizing efficiency. Too often businesses price themselves out of the marketplace, either with a product price that is too high to be competitive long-term, or maybe too low to weather market volatility. If you need to discount sales often to clear inventory, your price is too high. If you’re working 2 many hours, for 2 little profit, your price is too low.
Pricing requires constant optimization; your price should never stay stagnant for more than 12 months. Inflation increases costs, management efficiencies reduce costs. Your prices don’t need to be volatile, but 1% to 2% adjustments should occur at least yearly. If you don’t have pricing power, your product is in a deteriorating marketplace and you need to innovate – quickly.
Summary: Pricing your product or service is vital to profitability. Multiple factors are considered in pricing. Cost+ pricing is typical for most business so the more units you can sell, while reducing or managing, overhead and input costs, the more profitable your business will be. Assign a key staff to monitor prices at least monthly in your business; and keep your financials polished.