Price to Compete: A Small Business Guide to Understanding Pricing Models

Price to Compete: A Small Business Guide to Understanding Pricing Models

A small business may have outstanding products and services, but if they aren’t priced correctly, few customers are likely to buy. Each business controls its own pricing, and correct pricing is crucial for making a profit.

Setting prices is both art and science; there are proven pricing strategies that work well in certain industries and locations. But all business owners should know their own market to determine which strategies will work best for a particular situation. And pricing doesn’t need to be static—business owners can always retool their pricing to try to yield higher profits.

Understand Total Costs

For starters, business owners must understand their costs to provide a certain product or service. These costs include labor, materials, and overhead like transportation, taxes, and utilities. A percentage of business operating costs goes into each product or service, but business owners often overlook that fact. A good rule of thumb is to determine the costs to provide your product or service, and then add a certain percentage for profit and overhead. That percentage depends on the industry. For instance, many retailers charge 50 percent profit, while construction companies may charge 30 percent.

Understand Competitive Positioning

Taking a look at competitors’ prices can help business owners see how different companies are handling similar products and services. But it’s best to compare notes with other companies of like size because larger companies have different circumstances to consider, such as bulk purchasing and stock prices. Small business owners can use the U.S. Small Business Administration’s SizeUp tool to see how their businesses stack up against the competition. Knowing what competitors are charging can help business owners determine which market positions to take.

Pricing Above Competition

Some small businesses price their products and services slightly above competitors to position themselves as elite providers. If a company’s prices are higher than the competition, it doesn’t have to sell as much to achieve the same level of revenue. However, the company must demonstrate that their products and services are worth the higher prices by consistently providing exceptional service and value.

Pricing Below Competition

Other small businesses choose to price their products below competitors to establish themselves as a discount provider. While lower prices can yield more sales, a higher volume of sales is necessary to achieve the same level of revenue. To be successful with lower prices, business owners must keep a close watch on expenses—cutting costs wherever necessary.

Pricing with Add-Ons

Some businesses have success with pricing models that rely heavily on add-on, or back-end services such as warranties, finance plans, and service agreements. For instance, a sewing machine shop may get customers interested in a sewing machine for a certain price on the sales floor, but when customers go to check out, the salesperson could sell them a package of sewing classes or a service agreement. These add-on services aren’t involved in the customer’s original purchasing decision—but they certainly add to the company’s bottom line.

Choosing the right pricing model is vital to making a profit. But because prices are always subject to change, businesses can experiment until they find the strategy that works best for them.

Nancy Mann Jackson

About the Author

@nmjackson

A content marketing writer and editorial freelancer since 2001, Nancy Mann Jackson specializes in writing about personal finance, insurance, careers, education and small business.

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