Pricing Strategy: What is it and how to choose one for your business

Small and medium businesses play a key role in the global economy and macro economics. Yet, given their size and the workforce, such businesses fail to generate big revenue.  

For example, small businesses that do not have any employees average just R44,000 a year in annual revenue with two-thirds of these companies earning less than R25,000 per year.

Even though there are numerous factors, including market research and profit margin, that affect their revenue, the pricing models play a key role. 

To get this right, it’s critical to use financial reporting and insights to guide small businesses. Additionally, it is quite important to get a thorough understanding of different pricing models to attract the target customers. To make it easier for you, here are different strategies that might help you set a proof margin with economy pricing. 

What is a pricing strategy and why is it important?

Before setting the right pricing strategy for your business, it is important to understand what it really means. Well, to put it in a nutshell, it includes all the factors that a small business considers when setting economy pricing for their products or services. It includes factors like 

• Market Research
• Actions that competitors take
• Target Customers 
• Account segments
• Profit Margins 
• Trade margins
• Input costs
• Consumers’ paying power
• Logistical costs
• Variable costs

Mostly, the pricing strategies vary from company to companies. Some do it to maintain their market share, while the others plan to increase their profit margin. However, it's not always about making more money. Sometimes it is important to cut your prices to attract customers and prevent competitors from entering your space. 

This way, you might have to adopt competitive prices and significantly cut your profit margins. Yet, we recommend caution while taking such steps as these could blow back and bring your company down. In such a situation, you must stick to the most important rule of thumb that if your prices are not competitive, you might end up losing a big chunk of market share, but your business will fail to cover the operational costs if your pricing is too low.

12 Different Pricing Strategies For Your Small Business 

As we have discussed how so many strategic and actionable decisions are involved when setting the right pricing strategy for your service or product. To make it easier for you, we have identified some strategies that you must consider. 

One of the most important goals of any small business is to gain a sizable market share. This is where the penetration pricing comes into play and helps attract customers by offering lower prices on your products than competitors. 

1. Penetration Pricing

As a small business owner, you’re likely looking for ways to enter the market so that your product becomes more well-known. Penetration pricing aims to attract buyers by offering lower prices on goods and services than competitors.

For instance, imagine a competitor sells a product for R100. You decide to sell the product for R96. Even if it might increase your losses, penetration pricing strategies draw attention away from other businesses and can help increase brand awareness and attract early adopters, which can then lead to long-term contracts.

Penetration pricing can also be risky because it can result in an initial loss of income for the business. Over time, however, the increase in awareness can drive profits and help small businesses stand out from the crowd. In the long run, after penetrating a market, small businesses can increase prices to better reflect the state of the product’s position within the market.

2. Economy Pricing

This pricing strategy is a “no-frills” approach that involves minimizing marketing and production expenses as much as possible. Used by versatile businesses, including generic food suppliers, fast food chains, and discount retailers, economy pricing aims to attract price-conscious consumers. Given the lower logistical and expenses cost, small companies can set a lower sales price and still turn a slight profit.

While economy pricing is incredibly useful for large companies like Walmart and Target, this pricing model can be harmful for small businesses. That’s primarily because small businesses lack the sales volume of larger companies, making it challenging to cut production costs. Additionally, as a young company, they may not have enough brand awareness to forgo custom branding.

3. Premium Pricing

Here is another important strategy used by many businesses that have a unique product or service with almost no competition in the market. You should only consider this model, if you have a significant advantage and remove the possibility of being undercut by products of similar quality. 

It would be safe to say that this is quite risky as you have to justify the high pricing by creating the perception of value for customers and early adopters. In addition to creating a premium service, the branding, packaging, and product awareness play an important role in justifying the premium pricing. 

Let’s understand this with a simple example. Big tech and automobile companies like Apple and Tesla, get away with premium pricing as they offer unique products that outrank the market. For example the electric and self-driving feature in Tesla as well as the innovative tech used in Apple tech products. These features are unique that are rarely found in the market. 

4. Price Skimming 

Designed to help businesses maximize sales on new products and services, price skimming involves setting rates high during the initial phase of a product. The company then lowers prices gradually as competitor goods appear on the market. An example of this is seen with the introduction of new technology, like an 8K TV, when currently only 4K TVs and HDTVs exist on the market.

One of the benefits of price skimming is that it allows businesses to maximize profits margins on early adopters before dropping prices to attract more price-sensitive consumers.

Not only does price skimming help a small business recoup its development costs, it also creates an illusion of quality and exclusivity when you first introduce your product to the market. It’s one of several dynamic pricing strategies available, which we look at in more detail below.

5. Psychological Pricing

Psychological pricing refers to techniques that marketers use to encourage customers to respond based on emotional impulses, rather than logical ones.

For example, setting the price of a watch at R199 is proven to attract more consumers than setting it at R200, even though the actual difference here is quite small. One explanation for this trend is that consumers tend to put more attention on the first number on a price tag than the last. The goal of psychology pricing is to increase demand by creating an illusion of enhanced value for the consumer.

6. Bundle Pricing 

With bundle pricing, small businesses sell multiple products for a lower rate than consumers would face if they purchased each item individually. A useful example of this occurs at your local fast food restaurant where it’s cheaper to buy a meal than it is to buy each item individually.

Not only is bundling goods an effective way to reduce inventory, it can also increase the value perception in the eyes of your customers. Customers feel as though they’re receiving more bang for their buck. Many small businesses choose to implement this strategy at the end of a product’s life cycle, especially if the product is slow selling.

Small business owners should keep in mind that the profits they earn on the higher-value items must make up for the losses they take on the lower-value product. They should also consider how much they’ll save in overhead and storage space by pushing out older products.

7. Geographical Pricing 

If you expand your business across state or international lines, you’ll need to consider geographical pricing. Geographical pricing involves setting a price point based on the location where it’s sold. Factors for the changes in prices include things like taxes, tariffs, shipping costs, and location-specific rent.

Another factor in geographical pricing could be the basic supply chain. For instance, imagine you sell sports performance clothing. You may choose to set a higher price point for winter clothes in your cold-climate retail stores than you do in your warm-climate stores. You know customers are more likely to buy the clothes in the winter environments, so you set a higher price to take advantage of demand.

8. Promotional Pricing

Promotional pricing is another competitive pricing strategy. It involves offering discounts on a particular product. For instance, you can provide your customers with vouchers or coupons that entitle them to a certain percentage off the good or service. You could also entertain a “Buy One Get One” campaign, tacking on an additional product as an add-on.

Promotional pricing campaigns can be short-term efforts. For instance, you may run a promotional pricing strategy over an extended holiday, like Christmas or Thanksgiving. By offering these deals as short-term offers, businesses can generate buzz and excitement about their services or products. Promotional pricing also incentivizes customers to act now before it’s too late. This pricing strategy plays to a consumer’s fear of missing out on the buzz.

9. Value pricing

If you notice that sales are declining because of external factors, you may want to consider a value pricing strategy. Value pricing occurs when external factors, like a sharp increase in competition or a recession, force the small business to provide value to its customers to maintain sales.

This pricing strategy works because customers feel as though they are receiving an excellent “value” for the good or service. The approach recognizes that customers don’t care how much a product costs a company to make, so long as the consumer feels they’re getting an excellent value by purchasing it.

This pricing strategy could cut into the bottom line, but businesses may find it beneficial to receive “some” profit rather than no profit. An example of value pricing is seen in the fashion industry. A company may produce a product line of high-end dresses that they sell for R1,000. They then make umbrellas that they sell for R100.

The umbrellas may cost more than the dresses to make. However, the dresses are set at a higher price point because customers feel as though they are receiving much better value for the product. Would you pay R1,000 for an umbrella? Probably not. Thus, external factors like customer perceptions force the value pricing strategy.

10. Captive pricing

If you have a product that customers will continually renew or update, you’ll want to consider a captive pricing strategy. A perfect example of a captive pricing strategy is seen with a company like Dollar Shave Club. With Dollar Shave Club, customers make a one-time purchase for a razor. Then, every month, they purchase new razor blades to replace the existing one on the head of the razor.

Because the customer purchased a DSC razor handle, he or she has no choice but to buy blades from the company as well. Thus, the company holds customers “captive” until they decide to break away and buy a razor handle from another company. Businesses can increase prices so long as the cost of the secondary product does not exceed the cost that customers would pay to leave for a competitor.

Like penetration and promotional pricing, captive pricing is a type of competitive pricing strategy.

11. Dynamic pricing

Dynamic pricing is when you charge different prices depending on who is buying your product or service or when they buy it. It’s a flexible pricing strategy that takes many factors into account — particularly changes in supply and demand.

You might have heard dynamic pricing referred to as demand pricing, surge pricing, or time-based pricing. There are even different types of dynamic pricing, including price discrimination or variable pricing, price skimming (discussed in more detail above), and yield management.

A good example of dynamic pricing comes from the airline industry. If you’ve ever noticed how much flight prices can change depending on when you book, you’ve experienced dynamic pricing firsthand. While dynamic pricing is relatively common in ecommerce and the transport industry, it doesn’t work for every type of business. The greatest risks can come when variable prices are applied to products or services that are typically bought by price-sensitive customers. This is also known as price elasticity — when small changes in price have a large impact on demand.

12. Competitive pricing

Competitive pricing is when your prices either match or beat those of similar products that are sold by competitors. Often this simply means selling your products or services at a better price but you could choose to offer better payment terms instead.

As we’ve seen above, competitive pricing strategies include penetration pricing, promotional pricing, and captive pricing. The secret to knowing which of these could work best for your business comes from data. Gather as much information as possible about your market and what your competition is doing. If you combine this with the assistance of advanced pricing software solutions, you can analyse and update price data continuously.

What is the most effective pricing strategy?

The most important factors influencing your pricing strategy are rooted in your financial data. First and foremost, you need to know what it costs to produce your products or provide your services. You need to continuously monitor these costs so you can quickly react to changes and maintain long-term profitability.

External conditions are often just as important as your cost of production. Know your market, your competition and your customers. Emerging trends, supply chain threats, and even shifting perceptions of your brand can all force you to rapidly change your pricing strategy.

Finally, consider your longer term revenue goals. If you are selling premium goods and want to drive up demand, think carefully about whether discounts could do more harm than good by damaging the perceived value of your product. If you are going for market penetration with a loss leader, how long can you sustain this before cash flow becomes too stretched?

Keep Track Of Your Business Revenue

Once you determine the right pricing strategy, your profit margins could increase. You’ll want to make sure you’re using reliable accounting software to keep track of relevant data. QuickBooks makes it easy for you to monitor relevant sales data and manage cash flow in one place. This data allows you to continually evaluate your pricing method so that you can make price changes in real-time, grow your business, and improve your customer success.