“Price is what you pay. Value is what you get.”
― Warren Buffett
First off, let’s clear a few pricing myths:
Checklist: Pricing myths and the reality
“When you increase prices, volume will always go down:” In many situations, this statement is not true. Customers see price as an indicator of quality. If the current price of your product is, in the eyes of the customer, very low for this type of product, then they equate this with low quality and don’t buy. For example, if you are in the business of selling umbrellas, you may actually sell more umbrellas at a price of $20 than at a price of $5. This is because customers may believe that a $5 umbrella will break after the second use. So they rather go for the higher-priced version, expecting that it will last longer.
“The lowest price always wins:” Even in many RFQ situations, it is rarely the lowest price offer that wins. Your price needs to be within an acceptable range, and then other factors become decisive. Does the client trust that you can deliver? Do you have a stellar track record? Of what perceived quality is your product or service?
“100 percent price transparency:” With price comparison sites now everywhere, especially in the consumer segment, some people believe that it becomes ever harder to make a sale if your product is priced significantly higher than the competition. This does not have to be the case, especially if you unbundle price components. To illustrate, consider this example: You sell printers. They typically sell for $100, including the cartridge. If you unbundle ($70 for the printer and $30 for the cartridge), your printer will end up at the top of the list on all comparison sites. And likely you will still make the $100 sale since people will ultimately want their printers with cartridges.
“Only limited potential to innovate:” Many companies are saying that they cannot deviate from the pricing model that is prevalent in their industries. I ask: “Why is that?” Even if you are not among the top three players in your industry, you still have the possibility to innovate. A good example is mobile phone plans. Some companies, like T-Mobile or O2, have been very successful with innovative pricing models.
“Price thresholds:” This is a myth that actually works; pricing a product at $9.98 yields significantly higher sales than pricing it at $10. So, use them.
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Set prices to maximize profits, not revenue, not market share, not volume, or any other measure. Typically, the prices that would max out revenue are significantly lower than those that max out profits. But at the end of the day, profits are what count, not revenue.
The problem is that many salespeople are incentivized based on revenues. Try to substitute this with a profit component (if you don’t have actuals, then use calculated profit).
Secondly, it is essential to maintain a long-term view. Structure the pricing in a way so you can expect repeat purchases (at lower customer-acquisition costs). It is the lifetime (profit) value of a customer that counts, not whatever profits you can make today.
Some people argue that Amazon used a market share-based pricing model for a very long time and that this is what made Amazon successful. They say that Amazon showed losses for a very long time, but at the same time tremendous revenue and market share growth, and now the company reaps the benefits.
Our response? Yes, in certain situations it makes sense to first drive market share so that you can command a price premium once you have a dominant market position. But, first, you may very quickly find yourself in an anti-trust situation. And, secondly, this strategy requires significant investment and patience. Only very few companies and investment funds will, therefore, be able to go this route.
Finding the right pricing strategy is always context specific: It depends on which industry you’re in, your positioning (premium versus value), and your growth ambitions. Therefore, this articles can only give you a few hints on which strategies work in most industries.
Checklist: The pricing basics
Trials to build confidence: Often, potential customers are hesitant to buy because they do not yet know whether the product or service will deliver on what it promises. You can overcome this hesitance by offering the customer a limited-time trial at no or low cost.
The trust factor: Beyond trials, there are other ways to build trust in your product or service. Celebrity endorsements still work since the trust that they have earned reflects on you. A money-back guarantee typically also works since it reflects your confidence in your product or service being able to deliver.
When in doubt, go premium: Today, it is tough to pull off a price leadership strategy. It requires significant investment to be able to produce the products or services at such a low cost and still return a profit. You need to be a clear market leader (or at least a close second) to achieve solid profitability levels. If there is no way for you to get there in the nearer future, then price leadership is not a good strategy for you.
Checklist: A few innovative pricing strategies that work
Loyalty program: Loyalty programs can be an excellent way to tip the scale in your favor. For example, look at airline loyalty programs: Many people go to great lengths to get their flights booked on their favorite airlines to maintain or elevate their program status. Loyalty programs can be combined with volume incentives (e.g., discounts when reaching a specific purchase volume) and value incentives (e.g., free airline lounge access or hotel room upgrades). Try to find an incentive that does not cost you much in addition, but offers enormous added value to the customer (e.g., room upgrades in hotels).
Freemium: Used a lot, for example, for internet services. You have an attractive basic offer that is free. The primary goal is to tie in the customers, then once the customers have tasted your product, you move them to a premium version. Many apps on the Apple App Store and Google Play work this way.
Auction and reverse auction: If you have privileged access to a sought-after product (e.g., art, valuables, prime real estate), the best way to sell it at a max premium would be an auction model.
Intelligent surcharges: Many price comparison sites take whatever price you also show on your website. Sometimes, it is a wise idea to unbundle your product, so that it shows up as one of the top offers on any product comparison site. You can then still provide additional services and products.
Paying in installments combined with a money-back guarantee on the first installment: In some instances (i.e., when customers first need to try a product before they can appreciate its full value) it may make sense to offer payment in installments combined with a money-back guarantee for the first installment, in case the customer is not happy.
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The psychology of pricing: Price is seen as an indicator of quality; High price equals high quality.
If you combine a high list price with a significant discount (e.g., north of 10 percent), then many customers believe that they get an excellent product at a very attractive price. If you make this offer expire within a few days or mention that it is valid for the first 1,000 purchases only, then you get customers to take action. (Creating scarcity works wonders.)
An alternative to an actual price discount would be add-on services at no extra cost. The benefit of this strategy is that you achieve higher revenue and share-of-wallet (at the same profitability levels).
A closing statement: Price discipline generally increases a company’s market valuation. What this means for you is that before you start cutting prices, make sure that you have looked at all other ways to act (i.e., bundling, unbundling, change of price scheme, brand push, celebrity endorsement).
Moving to Action: Questions to Ask Yourself
Assuming that repeat customers are the most profitable, is your current pricing scheme targeted to acquire precisely those customers?
Are your pricing strategy and your product/quality promise aligned?
How can you use some of the pricing strategies that are mentioned in this chapter?
Do you see ways to adjust the pricing scheme to get higher profits and share of wallet from your customers?
This insight is a chapter from the book "10x Results: 240+ proven ideas to boost revenues, profits, customer loyalty, and employee engagement". The book is available on Amazon.