Pricing strategy refers to the methods by which a business calculates how much it will charge for a product or service. It is based not only on the cost of the product, but also on profit margin and a holistic view of the market and future viability.
Effective Pricing Begins Early
Pricing strategy can begin before you start the business or have a product ready. Consider how much the item costs, how much profit is realistic and future growth. If you are selling cell phones and a certain phone costs you $X, consider what your competition is getting for it, your location, client base and how many you could expect to sell. A seller in the middle of a high-traffic, high-income business environment such as downtown Manhattan, Chicago or Los Angeles can take on more expensive products and set a higher profit margin than a location in the suburbs that won’t attract much foot traffic, and where people do not have the need or income levels for luxury items.
Many businesses have what is called a “Loss Lead,” meaning they buy an item in bulk or are able to charge less than cost for it. This actually causes the owner to lose money on that item, but the strategy is to bring people into the store, or on the website, in the hope they will buy more.
Your Resources Versus the Market
A pricing strategy used by many large retailers like Walmart, Ralph's, CVS Pharmacy and Hollywood Video is to rely on their large savings and corporate resources to outlast the competition. They can price items very low, even below cost for a certain time, which will take business away from smaller, private businesses. Eventually the smaller businesses will close, eliminating the larger store’s competition. Once they become the sole business, they can raise prices to bring back profitability. They can even charge more than what the other businesses were charging, since there is no one else offering the product anymore. Obviously one must carefully estimate savings and for how long they can maintain a loss.
Competition as a Guide, not an Authority
The pricing strategy of your competitors is not necessarily performed by experts. It is best not to simply copy the competition and react to them. You still must know what a realistic market value for your product is. Competition should be used as a guide to boundaries. Many competitors have engaged in price wars where they charge less and less to try to steal each other’s customers and what winds up happening is they run each other out of business.
Cover Your Costs
Pricing strategy means analyzing diverse factors and deciding on a price that will cover cost of goods, overhead and gross margin (price minus cost of goods). Businesses have multiple costs such as licensing, property fees, electricity, administrative costs, mailings and advertising. The price of your product must not only appeal to the consumer, but ensure your viability.