How to put a price for your product

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When you asking a startup owner or small and intermediate company owner what is the hardest thing you faced when you make your own private business his answer will be the price.

How can a startup, small and intermediate businesses put the right price for their products and services?

When you are asking a startup owner or small and intermediate company owner what is the hardest thing you faced when you make your own private business his answer will be the price.

How can a startup, small and intermediate businesses put the right price for their products and services?

Historically, the price has been the major factor affecting the choice of buyers, price is the only element of the marketing mix (product – price – place – promotion) that makes revenues, price also the most important elements that determines a firm’s market share and profitability.

Some marketing managers see price as a big hustle. However, smart managers think that price is a key tool for creating a competitive advantage in the market and capture value in return from the customer.

Companies know that, small changes (positive) in prices can affect the profitability with a large percentage, prices also play an important role in creating the relationships with customers (the aim of marketing).

Unfortunately, sometimes companies make a price that is falling somewhere between:

  • A price that is too high to create a demand.
  • A price that is too low to create a profit.

 

Companies, must put into considerations the customer perceptions of the product’s value because, if customers perceive that the product’s price is greater that its value they will not buy the product, also if the company put a price for a product below product’s cost the company will suffer, so you can put your price between these two extremes.

 

There are a lot of pricing strategies in marketing such as competition pricing, value based pricing, penetration pricing…etc.

In this article we will focus on the most known pricing strategy “Cost based pricing strategy” and how we implement this strategy to put a price on a product.

Cost based pricing strategy:

Cost based pricing strategy is the easiest way to put a price for your product or services and it based on adding the costs of producing, distributing and selling the product to a profit margin at a fair rate of return for the company’s effort and risks.

But, first you should know the types of costs that you will add to your profit margin to put a price for your products:

Fixed costs: A cost that does not change with an increase or decrease in the amount of goods and services produced, Fixed costs are expenses that have to be paid by a company, independent of any business activity. (Investopedia). A fixed cost is a basic operating expense of a business that cannot be avoided, such as a rent payment.

Variable costs: A cost that varies depending on a company’s production volume. They rise as production increases and fall as production decreases. (Investopedia)

Total costs: The sum of fixed and variable costs.

See graph (1)

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In this strategy, we will add a profit margin percentage to the total cost of a product (let’s see the example):

Variable cost = 20 EGP

Fixed cost = 150,000 EGP

Expected unit sales = 30,000 units

To calculate the unit cost we need to sum the variable cost per unit to the fixed cost per unit (Fixed cost / Expected unit sales):

Unit cost = Variable cost + Fixed cost / unit sales = 20 + 150,000 / 30,000 = 25 EGP

Now, suppose that the profit margin will be 30% on sales so the price will calculated as the following equation:

Cost based pricing = unit cost / 1 – profit margin = 25 / 1 – 0.30 = 35.71

That’s mean the profit per unit will be = Cost based pricing – Unit cost = 35.71 – 25 = 10.71 EGP profit per unit.

Is this the best strategy to calculate the price? Generally no, because any pricing method ignores the external factors such as market demand and competitor price is not likely to lead to the best price.

Thanks to:  Philip Kotler and Gary Armstrong.

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