Jul 292011
 

How Much Should I Charge?

One of the common questions I hear is, “How Much Should I Charge”?  I get this question from startups and existing businesses that are bringing a new product or service to market.

When you’ve been doing it for a while, you realize that deciding how much to charge for a product or service is as much art as science.  However, as with most things, even though there is some art involved, it is not usually the best idea to just “throw the paint against the wall” and hope for the best.

Before you decide on an initial pricing strategy for your product or service, you should gather some key data that will help you make a better pricing decision.  Here are several data points you should obtain before deciding how much to charge:

  • What is the pricing for similar products or services in the market?  The easiest way to track and update this information usually is to create a simple matrix, either in a spreadsheet or word processing table.
  • How segmented is your target market?  Are there several price levels for similar products, depending on the attributes of the products and the characteristics of the segments?
  • How do existing users perceive the current products in the market at various price levels?  Bear in mind that many times you want to be at the higher end of the price range as a small provider.  You typically don’t have the opportunity to sell a huge number of units as a small business, so you want to be able to make a healthy profit on a smaller number of units.
  • What are the product or service attributes that existing users value most?  Often times you’ll be better off including fewer attributes, but making sure that those are the ones that users value most.  You do not want to over-engineer your offering and create the equivalent of what is referred to as “bloatware” in the software industry.  When you are obtaining this data, make sure you are talking to as many real, live people as possible, through whichever medium of communication you can.  Do not guess.  Talk to real potential prospects wherever possible.
  • How much does it cost you to create and deliver the product or service?  Don’t make the common mistake that I have seen over and over again, wherein you don’t have a good understanding of your costs and end up pricing your offering too low, thus losing money unnecessarily on every unit sold.  Note that once you have a good understanding of your costs, you often times have to go back to the drawing board in order to figure out how to produce your offering at a competitive level.
  • How much profit do you want to make?  Once you have gathered the data above and determined the level at which you can realistically price your offering, given the competitive landscape and your production cost realities, you may realize that you’re not going to make much profit.  In that case, you can consider how you may differentiate your offering, so you can price higher, or you can figure out how to reduce your costs, or both.  However, if after doing all that you cannot arrive at a projected profitability of the offering that is acceptable to you, you’ll need to walk away.  That is, unless you have motives other than reasonable immediate profitability for the offering.
  • Do you have motives other than immediate profitability for this product or service?  There are times when even though your pricing analysis tells you the offering is going to be a “dog,” you still decide to move forward with it.  Such motives may include the idea that this offering is going to be a “loss leader”.  In other words, although you know you will lose money on it, it will bring prospects to you, to whom you will sell other more profitable products or services.
  • Do you expect to have “economies of scale” when you get to certain production levels?  Sometimes you start out with a product or service that is not as profitable as you’d like, but you know that as your sales volume grows you will achieve economies of scale and thus have greater profitability.  The idea with economies of scale is that once you are producing or providing a certain number of units, your costs go down for some, if not all, elements of the offering.  This may be due to reduced unit material costs when you buy in certain volumes or to advantageous contracts you’re able to strike with suppliers.

So, in order to intelligently answer the question, “how much should I charge?” you must first arm yourself with several pieces of data.  This data comes from your prospective customers, your competitors, your suppliers, and from your own operation.  Realize as you start this process of determining the right price for your offerings, it is as much art as science.  Not every piece of data that you gather will be “black and white”.  You will need to make a series of assumptions and you will need to test and re-test those assumptions on an ongoing basis.  You will need to be flexible and not believe that there is one “right answer”.  As you go, keep in mind the question, “if I can charge more and the market is willing and perhaps even happy to pay it, why wouldn’t I?”  Also, remind yourself on a regular basis that you’re in business to make money, so if your analysis says otherwise, don’t convince yourself that somehow a particular offering that isn’t profitable in the beginning is somehow going to magically become profitable later on.

I look forward to your thoughts and comments.

Paul Morin

paul@CompanyFounder.com

www.CompanyFounder.com

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  17 Responses to “How Much Should I Charge?”

  1. Isn’t this what we all want to know (and need to know)? Even though there is no magic number, you very clearly state what needs to be done before you can make an estimated guess. Thanks for for the step-by-step guidance.
    Dorien van Dam recently posted..How to Turn Off Facebook Facial RecognitionMy Profile

  2. Yes, this may be one of the most common questions in entrepreneurship. It’s an art, not a science, but it still usually works much better if you can gather as much data as possible before doing your pricing “artistry”.

  3. Excellent article here. I learn something new from you nearly everyday, Paul. Pricing is something I have considered quite often recently. Gathering the appropriate data is an intimidating task, but I have no doubt it informs and provides the best input possible.

    I wonder: is there a difference in pricing strategy for products vs. services? I would hypothesize that there is greater tolerance for a high price point on services… The value of a service would seem to be much more subjective than the value of a tangible product. I would also hypothesize that differentiating a service is easier than differentiating a product… I could be wrong on this one though.

    Thoughts?
    Barrett recently posted..Lessons from a 9 Year OldMy Profile

  4. This is very interesting, just what the doctor ordered. Thanks!
    María Inés Brumana Espinosa recently posted..What are the main advantages of using films?My Profile

  5. Hi, Barrett. Yes, once again your intuitions are dead-on. Often it is easier to differentiate a service and sell it at a higher price point. There is much more subjectivity typically in the “value” being provided by a service than that being provided by a product. This is not always the case, of course, but often that is the way it works out. One interesting nuance comes with “information products”. They are products, but they are not tangible products and thus, often times, as with a service, there is much more subjectivity to the value they provide and therefore, the price you can charge. Paul

  6. Sure, my pleasure. I’m glad the timing is good for you. I have received this question so many times, I figured it was finally time to write about it.

  7. I always thought of this as a finger in the air job. I have instinctively been following some of your points when setting prices, but its really great to get it into a proper, justifiable thought process. Thanks
    Debbie recently posted..It’s What Mothers DoMy Profile

  8. Hi, Debbie. Thanks for your comments. Yes, I think intuition plays a great part in the pricing process, particularly when setting the initial pricing strategy. As I said, for small businesses in particular, it’s more art than science. However, it usually is very helpful to have as much relevant data as possible before practicing the pricing “art”. Paul

  9. This is a great topic for discussion, and your advice is sound. I have some different thoughts here which may add to the mix: http://bit.ly/aGxiQb

  10. It is about the most common question i get in my patch, and is a core question I am asking myself whilst preparing a business Plan for one of my ventures, a product/service offering that whilst very new, is simply a recombination of existing technology in a new way to service a market not currently existing, as far as I can tell.Get it right, and all will be well, get it wrong, and I will either go broke or leave money on the table.
    Allen Roberts recently posted..When customer feedback does not matterMy Profile

  11. Mike, agreed — this is an important topic for discussion. In my own experience and that of most entrepreneurs I know, it is one of the more challenging issues. I took a look at the link you included in your comment — you make some excellent points. For small businesses in particular, I think that pricing comes down to more art than science, although it never hurts to make the process as fact-based and data-driven as possible. Paul

  12. Thanks for your comments, Allen. It’s always a lot more challenging when, as in the particular case you mention, the results are binary: get it right and you win big, get it wrong and you’re out of business. This situation does occur quite frequently, but fortunately in many cases there is an opportunity to have at least a couple “bites at the apple”; that is, it is possible to make some course corrections over time to avoid the “all or nothing scenario”. As you know, pricing decisions are highly context-specific. The more data you’re able to get beforehand and the more testing you can do along the way, typically the better off you are.

  13. Hi Paul,

    I agree that good research and planning is important. I would just add one more thing to consider. Many of us (especially women) believe in helping people and under-value our services. It is important to get over any mental stumbling blocks you may have about making money before you decide on your value to the marketplace. This is one place where motivational speakers like Tony Robbins and T. Harv Ecker can really help improve your bottom line.
    Laurie recently posted..Why I Got My White Belt in NiaMy Profile

  14. Hi Laur,

    Agreed. Undervaluing one’s offering is one of the cardinal sins. I’ve often been surprised by the large standard deviation on pricing for exactly the same services, for example. This usually has to do more with the service provider’s unwillingness or inability to price based on the value being offered rather than on what feels “comfortable”. As you said, motivational speakers can help the provider build up the confidence and understanding necessary to price more assertively.

  15. Great insight and guidance. When I was in the restaurant business, we spent a lot of time on accurately determining costs and studying what the market would bear, but also factoring in how we presented ourselves in the market place. Interestingly enough, sometimes if we initially offered a ‘special’ at a low price it would not sell, but if we really bumped the price up- it would be a big success. Value perceived I guess. Studying the motives or needs of your customers/target market can be important to the equation also.

  16. Hi Fred, thanks for your comments. I too have often seen in my own businesses and those of my clients that if an offering is priced “too low” (highly subjective, of course), often there is LESS demand than if it is priced higher. That’s one of the reasons I say that, particularly in small businesses, pricing is more of an art than a science. Even though there is a lot of “art” involved though, there is plenty of room for data gathering and testing, which brings in more of the scientific approach. Value perceived is indeed what you’re trying to infer in your research — in some cases its easier to figure out than in others. Paul

  17. I like Your Article about How Much Should I Charge? – Company Founder » Company Founder Perfect just what I was searching for! .

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