How to set your prices
If you have tested and validated your business idea, the time has come to fine-tune your offering and pricing strategy.
First and foremost, be aware that overly low prices can put you in danger both financially and in terms of the image associated with your product/service. On the flip side, excessively high prices can chase away customers. That’s why taking time now to give it serious thought is important: once your prices are set, changing them isn’t easy!
We have compiled some tips to help you get your pricing right.
Adapt your prices to your positioning
Surely you do not expect the same thing from a discount supermarket or a local organic shop. Neither do your customers. Adjust your prices to fit your positioning. Consistency is the watchword here. You need to know how you intend to be positioned in the market and adjust your prices accordingly.
Analyze your competition
When setting your prices, you should use what’s already being done as a basis, at least to give you a ballpark idea. Then, you have three possibilities:
- Line-up: if the products/services you offer are on the same level and you are able to maintain profit margins, meet objectives and cover your costs.
- Offer lower prices: if your financial situation allows and your positioning legitimizes it.
- Offer higher prices: if you can justify it with quality, service offerings, personalization, local manufacturing, originality, etc.
Tangibly, study your competition’s offerings in detail (5 or 10 of your biggest competitors, no more) and tally the following information into a comparative chart:
- Price of each product/service
- Any subscriptions
- Positioning and value proposition
- Target
- Additional services/products and those offered
- Location
- Strengths and weaknesses
- Sales channels, etc.
You will be able to base your analysis of their offerings on these elements and adapt your own to the market.
Know your customers
Seeing things from your customers’ perspective is fundamental. You really must find out whether or not your customers have a maximum or minimum price they refuse to pass, known as a “psychological price barrier.”
It is essential to gather information about customers and ask them about:
- Their needs
- The issues they face
- Their consumption habits
- Their feedback (positive and/or negative) on the current market
- Which elements come into play in their buying process
- What could be an obstacle to buying
- Place of purchase
- The channels they use to find information about the products/services in questions
- Their budget
What you need to deduce from this is how much the customer is “willing” to pay and not what you think is a fair price.
Calculate your “cost” price
In some activity sectors, such as restaurants and fashion, calculating your “cost” will give you a solid basis for setting your prices.
A few operations you should know:
- Cost price = Sum of direct and indirect expenses / quantity of products produced and/or services provided
- Selling price = Cost price + margin + VAT
- Break-even point = Sales revenue – Total expenses
To calculate your “cost” price, meaning the total amount required to manufacture/provide a product or service, you will need to consider:
- Direct expenses: all things required to manufacture/provide your product or service (raw materials, electricity, water, fuel, staff costs).
- Indirect expenses: even though they are not directly linked to manufacturing/providing your product or service, these expenses participate in your company’s operations and need to be spread out and added to “cost” (internet, phone, administrative fees, insurance, rent, advertising, etc.).
An example: If to make a nutella crepe you pay: 20 cents for the dough (eggs, milk, flour, etc.), 10 cents for the nutella, you estimate staff costs at 0.80 € (hourly wage/time required) and water and electricity at 0.50€ (monthly bill/number of crepes sold per month): one crepe costs you about 1.60€ (= this is your “cost” price). If you sell it for 4€, that leaves you a margin of 2.40€. To set your price, you have to start by establishing your “break-even point,” meaning the minimum price to cover your expenses. Then, it’s in your best interest to add a margin (determined based on existing market pricing, regulations, your strategy and your market study).
Having calculated your “cost” gives you the minimum selling price for your product/service in order to break even, but to live comfortably from your activity you will have to add a margin.
Estimate your targeted sales revenue
You can also start from your desired sales revenue to set prices. Estimate a realistic annual sales revenue based on the results of your various studies (how many customers you can find in your market? What is their buying power? How is your market doing?). To do so, dig deep into your competitors’ balance-sheets and any data you can find about your market.
Once you have these figures, you can determine how many services/products you need to sell per month, per week, per day and zero-in on an average price. This is known as the “average basket” per customer, meaning the average amount customers are likely to spend.
You can put this amount into perspective with your estimated total expenses to evaluate the soundness of your pricing and margins. Of course, you should always compare your calculations with prices on the market, etc.
Find out about regulations
You should know that certain activity sectors have specific regulations, such as medical professions. You can find out about these on guichet.lu or contact the House of Entrepreneurship, the Chamber of Commerce, or the most relevant authority for your activity for more information.
So as you can see, setting prices isn’t a random operation. It’s part of a much broader strategy involving quite a number of factors! Nonetheless, it’s a crucial step that will bring you a great deal of peace of mind once complete.
See you again soon!
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