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Ask About Product Pricing

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By | May 26, 2012

Dear Toolkit,

Please, please, please give me some direction on how to go about pricing my product.

Grateful in Galveston

Dear Grateful,

The information you seek is fully explained in our Toolkit Small Business Guide in dazzling detail--but since I have received so many similar queries lately, I'll try to boil it down for you here.

Your objectives, as the seller, include maximizing sales while providing enough margin to take care of direct costs, marketing and overhead expenses. You need to mesh these with your buyer's objectives, which include receiving the best value among the competitive choices available.

Here's the laundry list of steps to follow to determine optimal product pricing.

  1. Analyze the size and composition of your target market.
  2. Research price elasticity for your product.
  3. Evaluate your product's uniqueness.
  4. Select your channels of distribution.
  5. Consider product life cycles.
  6. Analyze your costs and overhead.
  7. Estimate sales at different prices.
  8. Consider secondary pricing strategies.
  9. Select final pricing levels.

Service-type businesses such as restaurants and many consulting firms sometimes operate on the "keystone" pricing principle:

  • The cost of goods is approximately 33 percent, or one-third of retail prices.
  • Labor and direct overhead are approximately another 33 percent of retail prices.
  • Gross profits are a minimum of 33 percent of retail prices. (Emphasis on gross! Remember that taxes, interest and indirect overhead expenses must be deducted before net profits are determined.)

However, be aware that any service-based business should try to take into account aspects of the above-listed points 1 through 9 whenever possible.

And be sure to consider variations that may come up to affect your pricing. You may wish to use discounting for prompt cash payment or for quantity purchases. Seasonal items may warrant special pricing from time to time. How about senior citizen and student discounts? And promotional incentives may motivate your dealers. These are but a few of many variables you'll want to consider when you formulate your pricing strategy.

Remember that pricing is but one of the famous "Four Ps of Marketing"--the others being the product itself, promotion and what marketers like to call "place" (but you and I would call it distribution.) When added to the equally famous "Four Cs"--company definition, competitors' identification, consumer target definition, and channels (our old friend distribution, again)--these 8 elements sum up "positioning."

Keep in mind that pricing is only one-eighth of the formula for successful positioning. The other 7 elements must be sprinkled into the mix to make the pricing truly effective. 

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