Pricing is one of the most important decisions you make as a business owner. It is a very sensitive issue that can make or break any business, and this is why every business must get it right.
Because of the complexity of the topic, many pricing models have been devised over the years in different industries and businesses – there are as many different pricing models out there as there are businesses, but there is no one-size-fits-all pricing model for any business. What works for one company may not work for another, and that’s why it’s important to take a data-driven approach when selecting the best pricing strategies for your business or company.
In this article, we will be discussing the different pricing models, and we will highlight the different pricing strategies used in different businesses and sectors. We will also learn, how to determine the best pricing strategies and models for every business type, and how to ensure that the chosen pricing strategy doesn’t negatively impact sales and by extension your entire business.
To achieve all of these, we must begin with the basics.
What is Pricing?
Pricing is the process of determining how much to charge for a product, service, or good. It is both a science and an art. It involves understanding how consumers think, what they want, how much they would be willing to pay for it, and how you can set prices that will attract the right customers while not turning away those who are not willing or able to pay more than a certain price.
It is important to note that pricing is not just about selling the product at an attractive price, but it’s also about ensuring that you have enough revenue to cover all your costs and make a profit. Therefore, it is usually a result of a set of factors such as the cost of production and distribution, the business goals and objectives, market demand, competition, and the perceived value that the consumer places on the product.
The Science and Art of Developing Pricing Strategies
While pricing is simply the process of determining the sheer value to charge for your product, service, or good, pricing strategy on the other hand involves a lot more than just the price itself. It is a process of identifying and understanding your target market’s needs, wants, and desires, as well as the competition’s offerings. A successful pricing strategy will make sure that your products are competitively priced while still allowing you to achieve your business goals such as profitability.
The following questions are usually asked when developing a pricing strategy for any business:
- What do I want to achieve (my business goals & objectives)?
- How much will it cost me in time and money to create the offering?
- Is this worth it for me?
- What do I want my customers to pay for?
- Am I overpricing myself out of market value?
- How are my competitors pricing their services/products compared to mine (and why)?
- What am I willing to offer at each price point to get more sales?
These are important questions to answer before you start to price your offerings. Once you have the answers, then it is time to put together a pricing strategy that will help you achieve your goals. To do these, we first have to know the different types of pricing strategies.
Types of Pricing Strategies
As a business owner, there are several different ways to approach pricing for your products and services. Each type of pricing strategy has its advantages, but they may not work in every industry or situation. Let’s take a look at the most common types of pricing strategies:
- Cost-plus pricing
- Competitive-based pricing
- Value-based pricing
- Dynamic pricing
- Freemium pricing
- Premium pricing
- Penetration pricing
- Skimming pricing
- Bundle pricing
1. Cost-Plus Pricing
Cost-plus pricing is the most common type of pricing strategy popular across different industries and businesses. This strategy uses an item’s cost to determine its price.
It involves adding a markup to the Cost of Goods Sold (COGS), which is a percentage of the item’s cost. Meaning that the price you charge will be higher than what it costs you to make or deliver your products or services.
For example, if it costs you $2,000 to manufacture one unit of your product and sell it for $3,000, then your markup is 100% ($3k – $2k = $1k).
The goal of cost-plus pricing is to ensure that you make a profit on every sale while still being competitive with other businesses in your industry.
2. Competitive-Based Pricing
Competitive-based pricing is a pricing strategy that involves comparing your products or services to those of your competitors. You can use this method to determine what price points are most common in your industry and then set yours accordingly.
For example, if you’re a photographer and your local competitors charge $200 for senior portraits, then you can use that as your starting point. If you want to sell at a higher price point than the competition, then one way to do this would be by offering more services for that price (such as an online gallery). Or if you want to offer lower prices than your competitors, then consider reducing the costs in some way (such as outsourcing some parts of the process).
3. Value-Based Pricing
Value-based pricing is a strategy of setting prices primarily based on consumers’ perceived value of your product or service. Value-based pricing is customer-focused, meaning companies base their pricing on how much the customer believes a product is worth.
To determine your value, you can use any combination of three factors:
- The gravity of the problem that your product or service is addressing (or will solve).
- The features and benefits that make up your offering and how they fit with customer expectations (what customers expect from your category).
- Your company’s reputation, brand recognition, experience, and track record in providing solutions like yours
4. Dynamic Pricing
This is an interesting form of pricing where prices change as the demand for a product or service changes. The dynamic pricing strategy adjusts prices based on demand.
A good example of this strategy is seen in Uber and other ride-hailing services. When there’s surge pricing in effect, the company charges higher rates than normal to encourage more drivers to get on the road and meet customer demand. The same goes for hotels: Hotels can charge you more when they know there are no rooms available at lower rates nearby due to high occupancy levels or special events occurring in town (like conventions) which bring out large crowds of people looking for accommodations near their destination venue(s). This is while this strategy is also referred to as surge pricing, demand pricing, or time-based pricing.
5. Freemium Pricing
The freemium pricing strategy requires offering a free version of your product or service but then charging for additional features.
Freemium is an effective way to grow your customer base by attracting new customers with the free version and converting some of them into paid users.
Freemium has proven to be the most popular pricing model among companies that make the majority of their revenue from online products and services. It accounts for 51% of all subscription-based businesses.
6. Premium Pricing
Premium pricing on the other hand is a strategy that offers customers high-end products or services at a higher price point than the ordinary market price. This strategy works if your customers are willing to pay extra for quality, or if there’s an uncommon benefit that only your business can provide. It also works if you’re considered “the” brand in your industry (and not just another company trying to compete).
If done correctly, premium pricing can be profitable because it allows you to charge higher prices without sacrificing too much of your market share. Some studies show that premium-priced products may make up more than 50% of total revenues in certain markets!
A good example of premium pricing is seen in the tech giants Apple. Apple generates a significant amount of revenue from selling its products at a premium and has done so for many years. This is true even though they have plenty of competitors in the tech industry who sell similar products at lower prices.
7. Penetration Pricing
Penetration pricing is the practice of charging a low price for your product or service when you are first entering the market.
The goal of penetration pricing is to get your product into as many people’s hands as possible, and if done correctly it can be very effective. The premise here is that by lowering the price of your product, you will be able to sell more units and (in theory) make up the difference in profits later on when demand drops off.
Penetration pricing is often used by companies who have just launched their first product or are trying to enter a new market. However, this strategy is only a short-term strategy because it eventually leads to lower margins and increased competition as other businesses follow suit with similar offers.
8. Skimming Pricing
Skimming pricing is the direct opposite of the penetration strategy. Skimming is a pricing strategy that involves setting the price of your product as high as possible at first, then slowly lowering it over time as the popularity of the product or service declines.
The premise behind this strategy is to make as much money as possible while the demand for your product or service is still high. Once you’ve reached a certain level of profit, it’s time to start lowering your price. This strategy works well if you have a limited supply of goods and services that are in high demand.
9. Bundle Pricing
Bundling is a pricing strategy that involves combining several products or services to offer a lower price than if they were sold separately. You’re probably familiar with this model in the form of a cell phone plan, which includes data, text messaging, and voice calling as part of one monthly fee.
Bundling can increase the perceived value of your product by adding something extra that customers will appreciate—and it can do the same for your service offerings too! This is an effective strategy because it allows you to reach more customers and make more money.
Other Common Pricing Models and Strategies
In addition to the above-named strategies, there are many other common pricing models and strategies. Some of these other strategies include;
Hourly Pricing
Hourly pricing is a common strategy for businesses that offer services or products that require an employee’s time, such as service-oriented businesses. Hourly pricing can be a good option for businesses where the quality of your work depends on how much time you put into it.
With hourly pricing, you charge a set rate for every hour that a customer uses your services. This is an effective strategy because it allows customers to budget their expenses more easily and helps prevent overspending.
Project-Based Pricing
Unlike hourly pricing, project-based pricing is a strategy in which one charges flat fees for each project instead of exchanging direct payment for the time spent on tasks. This approach is used by consultants, freelancers, and other individuals who offer business services.
Psychological Pricing
Psychological pricing is a pretty interesting type of pricing strategy. It takes into account human psychology and applies it to boost sales. For example, the “9-digit effect” demonstrates that people will see a price like $99.99 as significantly better than a straight $100 even though they’re technically just one cent apart—simply because of their 9s in common!
Another excellent example of this strategy is placing an expensive item next to the product you most want to sell, this makes the consumer go for the inexpensive item or vice versa if they are price sensitive. Whichever way you are making sales.
Other tactics include offering a “buy one, get one at half price” deal so customers feel like they’re getting the most for their money. Etc.
Geographic Pricing
Geographic pricing is a pricing strategy that involves adjusting your prices based on where your customers are located.
For example, you might charge more for an item in a popular vacation spot than in a small town. It’s also common practice to charge more for shipping if the customer lives far away from your business—though this may not be accepted by all states or countries.
The Best Pricing Strategies and Models Based on Different Business Types
While there are many different pricing models and strategies, the best pricing strategies for your business will depend on your industry, market, and goals.
Some businesses have very high costs of production and must use cost-plus pricing to determine their prices, while others may be able to sell products at a much lower price point. The type of business you are in will also determine how you price your products and services.
Service-Based Businesses
Service-based businesses can be a bit tricky to price, especially if you are new to the industry. However, there are a few strategies you can use to help determine your price points. Some of the pricing models for this business type include;
- Hourly pricing
- Project-based pricing
- Competitive Pricing
- Value-based pricing
- Sometimes dynamic and geographic pricing strategies.
Product Specific Businesses
Product-based businesses tend to have a lot of pricing models because their products can be priced based on the following factors: cost to manufacture, unit sales volume, demand for the product, and competition.
The common types of pricing strategies for product-based businesses include;
- Competitive Pricing
- Cost-plus pricing
- Value-based pricing
- Premium pricing
- Psychologic pricing
- Geographic pricing
- Penetration pricing.
Manufacturing-Based Businesses
For a manufacturing-based business, several factors like demand, production cost, sale price, unit sales volume, etc. have to be considered in selecting a pricing strategy.
The common types of pricing strategies for manufacturing include;
- Cost-plus pricing
- Competitive Pricing
- Value-based pricing.
Digital Product Pricing Model
Digital products, such as software and online courses, are often priced differently from physical goods. This is because there’s no tangible offering involved (no production cost).
Pricing strategies for this type of product include
- Competition-based pricing
- Freemium pricing
- Value-based pricing
- Premium pricing.
Ecommerce Businesses
Ecommerce businesses are also another interesting type of business to price. This is because there are many different factors to consider when pricing a product. Ecommerce businesses often have to take into account costs such as customer acquisition, shipping costs, and other marketing expenses.
Pricing strategies for eCommerce businesses include;
- Competition-based pricing
- Cost-plus pricing
- Value-based pricing
- Dynamic pricing
- Freemium pricing
- Penetration pricing.
Real Estate Businesses
Real estate pricing models are designed to account for factors such as home value estimates, market competition, housing demand, and cost of living. The pricing model of this business takes into account factors such as location, market trends, sales history of similar properties in the area, and other relevant data points before determining a price estimate.
Common pricing models in this industry include;
- Competitive Pricing
- Dynamic pricing
- Premium pricing
- Value-based pricing
- Geographic pricing.
Education-Based Business
Some costs to consider in an education pricing strategy are tuition, scholarships, and other fees (labs, books, housing), though there may be others.
The common pricing strategies when pricing education-based businesses include;
- Competitive Pricing
- Cost-based pricing
- Premium pricing.
Non-Profit Based Organizations
Non-profits are often considered to be the most difficult businesses to price, as they have a wide range of revenue sources and expenses that could affect their pricing strategy. However, with careful research into each of these components, organizations can develop a fair pricing model.
The pricing strategies for non-profit organizations vary, but it’s important to be aware of how your pricing affects your mission. Non-profits can use several strategies, including;
- Cost-plus pricing
- Competitive Pricing
- Premium Pricing
- Dynamic pricing
- Project-based pricing
- Hourly pricing.
The best pricing strategy depends on the unique needs of your business.
When it comes to pricing your products and services, you want to make sure that the prices you set are fair and competitive. You can’t create a one-size-fits-all pricing model and expect it to work for every customer, in every situation. The only way to come up with a truly effective pricing model is by tailoring it specifically to meet the specific needs that exist within each situation at hand (or at least as much as possible).
Pricing strategies can vary depending on many factors such as how much competition your business faces or whether you’re trying to sell something high quality or low cost. Pricing strategies can also vary according to your industry type, so make sure that you have the right strategy for your unique situation by conducting your research and selecting the best pricing strategies suitable for your industry and customer type.
