7 Pricing Strategies for Small Businesses
It’s all about perceived value
At one time or another, we have all experienced the fear of being undercut by a competitor. If you haven’t faced this dilemma yet, you most certainly will. But for most of us, pricing is a never-ending battle. Determining how much to charge is one of the most important decisions you’ll make.
After you finish this article, you will know:
- The real reason so many businesses struggle with pricing
- Why “value” won’t help you make sales and what to focus on instead
- How the right strategy will help you overcome price pressure once and for all
There are two problems most business owners face when pricing their products and services. Let’s look at each in detail.
Pricing Problem #1: Chasing Competitors to the Bottom
Most people believe price is the key factor in the buying decision. After all, one of the first things prospects want to know is how much something costs.
Many businesses think they must keep prices in line or just underneath the “going rate”. Otherwise, losing sales to a cheaper competitor is all but guaranteed.
And when someone challenges our prices, we feel pressured to lower them. This is true even when we know what we do is worth every dime we charge and more.
But I would like to challenge this belief.
First, it isn’t true. People will pay more if we can show them why they should.
Second, lower prices can have an adverse effect on the value of our offer.
Is It Too Good to Be True?
Something strange happens when we buy the cheapest product we can find. A voice in our head tells us we should probably lower our expectations of it.
Are we really surprised when it quits working, the terms change, or the company we bought it from won’t call us back?
Price itself can be an indicator of quality. This study is one of many to show that a majority of buyers tie a higher price to higher quality. The reverse is true for lower-priced products and services.
Price is even more indicative of quality when comparisons are difficult to make.
Our customers still expect to get what we promise, even if they pay less. So, we must set prices that allow us to be profitable if we want to deliver quality. In other words, we can’t give our customers what they expect if we can’t afford the means to provide it.
There is another reason to avoid using your competitors’ prices as a baseline for yours. They’re almost always using guesswork instead of data to set them.
It’s rare for businesses to support their prices with anything other than an opinion. The last thing you want to do is tie your company’s financial success to “opinion-based” pricing.
Pricing Problem #2: Lack of Perceived Value
Prospects must believe you offer more value than competitors before they will buy. Of course, this is especially true if your prices are above average.
The solution to this problem isn’t tied to price, but to the market’s perception of your business or offer.
Before we go any further, let’s hit the pause button to understand more about how value is created. Then, we’ll look at how to increase your perceived value. This is the key to supporting premium prices.
The Employee Revenue Equation
As an employee, you provide a service to a company for a wage. To get the job, the employer approves of your ability to perform the position you fill.
In doing so, the employer perceives the value you offer to the company. You get paid in the form of a salary.
A variety of market factors weigh into the salary amount but the employer has the final say. Also, note that the employee receives money the day they start working.
This concept can best be expressed by what I call the Employee Revenue Equation:
Money received = Employer + Time Worked
Using this equation, an employee’s value is tied to a specific dollar amount. It’s possible to find jobs that pay more or less than industry averages. Comparisons can help an employee determine the fair value they offer.
But this equation doesn’t apply to business owners.
Now let’s push the play button and examine the Business Revenue Equation. This formula will help business owners determine the value of their offer.
The Business Revenue Equation
When you became a business owner, the way you earn money changed. The Employee Revenue Equation was replaced with the Business Revenue Equation:
Quality + Perceived Value = Money received
As a business owner, the customer is your employer. To earn money, you will need a product or service. Then, you must create value around your offer so customers will buy it. Businesses that don’t do this well end up competing on price and reacting to competitor threats.
To provide an example, I’ll use two imaginary landscape companies to illustrate.
GVB Landscaping thrives with 20 employees, company vehicles, and a robust customer base. They have a website and are active on social media. Each week, they publish landscaping tips through blogs and video. They also have different levels of services based on customer need. Their target audience is comprised of affluent neighborhoods and resorts.
Meanwhile, Billy’s Lawn Care struggles to survive as a five-man operation. While they have less overhead than GVB, they charge 10–15% less. They work for a variety of customers and rely mostly on word of mouth marketing. They had a five-year business plan, but it fell to the wayside after the first year.
Both companies manage their money well and are equally skilled landscapers. GVB started small, just as Billy’s did, and grew into a large company.
So, how can one landscaper be so much more successful than the other?
It’s possible that GVB has a bigger marketing budget. They certainly appear to have more business savvy than Billy’s. But regardless, they have done a better job of communicating their value.
GVB has created a brand.
Small Business Branding
In today’s economy, consumers have endless options. To them, your business looks like all the others that do what you do. Your competitors are telling them the same things you are. Everyone is making big, bold promises.
Our job is to show them how we’re different.
Think of your business as a living entity with its own personality. One of the exciting things about owning a business is that we get to create the “persona” we want it to have.
A brand helps customers identify with and relate to a business. It is an impression and composition of feelings. Your brand communicates your purpose and value in the flash of an eye.
We see this every day. Celebrities and influencers are personal brands. Much of their image is created and not merely who they happen to be. Yet it is through this identity that we come to love (or hate) them.
The same is true for you. Whether you know it or not, your business is already making an impression on people. And that impression is moving them closer to you or pushing them away.
Ask yourself these questions as you think about what kind of brand you want to build:
- What are your core values and how can you integrate them into your business’s mission?
- What impression do you want people to have of your business?
- What personality types does your business attract? Look for similarities among the customers you have now.
- How can you provide your product in a unique way?
Consumers must believe your product or service is the best solution for them and that its value exceeds the price.
Pricing Strategies for Small Businesses
Now, let’s explore specific price strategies. Though there are several, I’ll cover those used most by small businesses. Regardless of which one you choose, be sure it aligns with your business goals.
This is the most common. Prices are set using competitors as a baseline. Other factors, such as demand and brand value, are secondary.
This method is the easiest. It’s also an effective method to use if you don’t have a specific target customer profile or want to sell at high volumes.
We have covered the risks of this strategy in previous sections.
This is a simple pricing method that involves adding a percentage to the cost of goods and services. For example, if a product costs $50 to produce and the goal is to make a 20% profit, the price of the product would be $60.
This is pricing method is better for businesses that sell low-cost goods and services.
This is a popular method for individual service providers such as attorneys, plumbers, and consultants. A “fair” hourly charge is based on average market rates. The provider’s opinion is of his or her services (quality, expertise, etc.) comes into play. Often, this will affect whether prices are above, below, or on par with market averages.
This can be a difficult strategy because defining a “fair hourly rate” is subjective.
This strategy is popular among startups. The concept is to charge below-market prices in the beginning to get customers. Prices will increase as the business grows.
If you use this strategy, remember that it may be difficult to raise prices once you have set the bar. In some cases, you may have to change target markets to support price increases.
Using this method, the business creates a fixed price for work over a defined timeframe.
Be careful when estimating the time and work required for a project. You can end up investing much more time and money in a contract than planned. This can lead to big losses and an unhappy customer.
Using this method, research and data help determine the value of the product or service. Prices are then set just below their actual worth. This is a great pricing strategy because being able to prove how much something is worth is powerful.
Keep in mind that it takes more effort to stay up to date on the value and cost of the product or service you provide.
This strategy leverages psychology. The idea is that a premium price reflects quality. But charging a higher price isn’t enough on its own. Levels must be supported with brand building and defined targeting. But it also stands to yield the highest profit margins.