By Ilona Dolinska-Reiser, CFA, Wealth Skills, Inc.
THIS IS A SPECIAL GUEST POST BY ONE OF OUR ANYMEETING USERS. WANT TO WRITE FOR THE ANYMEETING BLOG? GET THE DETAILS.
Working with entrepreneurs I often find they are uncertain about how to price their product or service. Mispricing your product or service, at minimum, leads to frustration: working hard, growing the revenues, but not getting what you want financially out of the business.
Wealth Skills recommends using three methods for pricing of product or service: cost based, market based and pricing for your desired income. Using all three methods for arriving at possible prices for your product or service may just give you the confidence and profitability you desire to have.
For illustration purposes we’ll use a simplified example. Let’s say you are selling 100 units of product/service per month that costs you $30.
Cost based pricing – pricing based on your costs. Let’s say you want to have 50% operating profit margin. This implies $60 price for the product or service (=$30/0.5). At $60 revenue per unit and your $30 costs of delivering product or service, you have $30 left as profit (a 50% profit margin)
Market price – what similar products or services are selling for. Let’s say the prices range $55-$75. Therefore the average is $65.
Pricing for your desired income – how much do you want to pay yourself from this business. In this case you sell 100 units per month, each unit cost you $30, for total costs of $3,000. Let’s say you want to pay yourself $5,000. This would translate to $8,000 in gross revenue ($3,000+$5,000) or $80 per unit (=$8,000/100).
Usually, these three methods lead to different price levels. One method is not better than another. They are simple methods which help you think through pricing and profitability in your business.
Often times, pricing for the desired income yields a higher price than the other methods, but simply dismissing it as too high and settling for pricing based on one of the other methods means forgoing an opportunity to have what you want financially from your business.
If your product or service has a unique and different value (one recognized by your customers) it may be worthwhile to try to sell the product/service at $80, and be the high value, high price provider in your industry.
If you are not certain about the unique, differentiating value of your product, you could ask yourself if the costs could be sustained at a lower level: $2,500 per month total (lowered by $5 per unit), then you could price the product at $75 (within the market price) and have the desired income from the business.
I find that these three methods help entrepreneurs gain confidence in pricing their products/service, help them manage the financial aspect of business, and have the desired income level.