Pricing for profit. It’s easy to say and easy to remember, but it’s a challenging concept for many entrepreneurs. When you don’t price for profit, you may be driven out of business, even if you offer exceptional products and services.
Pricing for Profit Explained
Myriad examples are available in the marketplace to illustrate pricing for profit.
One of the most notable is from the coffee business. Are you a fan of coffee from Speedway or Wawa? That 16 oz cup of Columbian for $1.45 makes good sense after a fill-up on your way to work.
Enter Starbucks. Around since 1971, the company entered the industry pricing for profit – from Day 1. Regular coffee is available, with a 16 oz cup priced at $2.10 – but more people gravitate toward Café Lattes (espresso and milk) for $3.65. Add a little cinnamon flavor to that latte and you’ll pay $4.25 for a 16 oz cup. Plus, you get to speak a little Italian when you order your ‘Grande Cinnamon Dolce Latte.’ Lines at some Starbucks locations are out the door, even when a Wawa is next door.
- Why does this happen? Starbucks shifted buying coffee into buying an
experience. And they delivered what was perceived as a value worthy
of the price.
- What is the value of the Starbucks experience? The store ambiance with
comfortable chairs, free wi-fi, and upscale sweets and sandwiches (along
with good coffee), prompts consumers to say, ‘yes, we’ll spend more for
this coffee experience.’
The automotive industry also prices for profit.
Did you know the Chrysler 300 and the Dodge Charger have the same chassis? The ‘bones’ of both cars are the same.
However, the 300 retails for $38,000 and the Charger costs around $45,000. Why? Both vehicles serve the same purpose: They get you from Point A to Point B.
- But the 300 is described as ‘handsome’ while the Charger gets called the
‘muscle-sedan.’ For some consumers, this new perception of power
– it’s even called a ‘Charger’– is viewed to be worth the additional $7,000
to enjoy the experience. And Chrysler enjoys the extra profit!
Why Entrepreneurs Struggle with Pricing for Profit
Advice about how to price a new product or service is everywhere on the Internet. Most of the information makes the process harder than it needs to be. Some industry experts offer up to ten different pricing models for you to consider. You’ll hear suggestions like, ‘find out how much your competitors charge and decide whether to match them or beat them’. This advice is terrible guidance. You’ll enter a race-to-the-bottom and watch profits quickly erode.
Also, many entrepreneurs don’t have a clear line of sight into their actual costs. It’s difficult to add a profit margin to an unknown number.
Pricing becomes like a game of darts, but the entrepreneur is wearing a blindfold.
Pricing becomes arbitrary. It may not work in the market and will not maximize profits.
How to Successfully Price for Profit
Following these steps will help you price for profitability.
- Understand your costs. Look at your variable costs – those that are
affected by sales like material costs, labor and shipping. Then examine
your fixed expenses – those that you pay consistently such as rent
and insurance as well as the significant investments you pay for over
time like machinery.
- Estimate your sales. If you have historical data, use this to forecast
future revenue. If you’re starting out, do some research. Search for
‘average annual sales’ for companies in your industry. Talk with your
vendors or others in your sector operating in different geographic areas
to get their input about market potential.
- Be bold. Believe in the value of the product or service you’re offering.
You’re in business because you have more to provide – a better
experience for your customers. Most importantly, you’re in business
to make a profit. Do you want to make 40% on each item you sell?
Then build this desired return into your pricing.
- Keep your promise. Effective execution of your brand promise means
delivering the value consumers expect based on their perception of your
offering. When they have the experience they anticipated, they’ll be
satisfied, and you’ll be profitable.
There’s a market for every price point. Find it, find your price and don’t ever sell anything that isn’t profitable. If you’re not making a profit, it’s not worth being in business.