When you are talking pricing strategy, there is no such thing as the “best price” in absolute terms. Pricing depends on consumer, context and timing. A customer using a mobile app to shop is not the same as someone buying from a POS in a downtown store or using a desktop to reach an online store via sponsored links. A customer in a hurry will also tend to pay more than one planning their purchase well in advance.
In this context, Amazon was one of the first online retailers to show that prices should vary to match the audience, supply and demand. When a business is analyzing variables, some products may have their prices changed more than 20 times in the course of a day.
The example below shows a product’s price varying month to month:
To take pricing strategy to this level of maturity, the customer base must be highly segmented, determined by how much customers are willing to pay. The current level of demand for a product and the amounts currently held in stock are also crucial factors for optimizing the profitability. Differentiation by channel is key to this optimization since consumers will vary depending on the channel.
In relation to pricing, a cost-based strategy has historically been the most used by retailers due to it being financially prudent. In this model, a gross profit margin (percentage) is multiplied by the cost of the product to acquire the sale price.
However, this strategy may be viewed as naive in certain circumstances, as it ignores some important factors, such as:
- How much customers can afford/ are willing to pay;
- The competition;
- Macroeconomic factors.
Relying on this pricing strategy alone may mean that financial planning is disconnected from the real situation in the market. No one wants to keep an item with an excellent markup but zero sales if all their competitors have cut the price of this item. Nor should there be a very tight margin on a product that competitors are not currently stocking.
The idea is to charge each customer as much as they are willing to pay at the time of purchase, while of course not dropping below a certain level, which is the product’s cost price plus a minimum margin.
When there is a clear leader, or if a firm is operating in a very competitive segment, a pricing strategy that takes the market into account may be very useful. Complementing its initial price based on data from your competitors’ prices makes sense in these scenarios. For this purpose, tools that continuously monitor the price are ideal to avoid making mistakes.
Another tool that may help to analyze the context is Google Trends, or any other similar tools that show the volume of searches for a particular word or phrase.
Hybrid pricing, which involves cost and competition, is also an effective strategy for retailers offering low-cost products and solutions, when having the lowest price may be a differential factor.
#Creating your Pricing Strategy
Defining a model for your pricing strategy is just the beginning, but it's obviously a good starting point. Prices must be constantly adjusted because since neither customers nor costs or markets are stationary, keeping up with the changes in demand is essential. In addition, a model itself will tend to evolve based on its own results.
Sticking to a rigid pricing strategy or following a set of basic rules, and expecting them to always apply to every situation is not the solution. Here are our suggestions:
- Take aspects from each of the classic techniques if they make sense for your business, but never lose sight of your minimum markup;
- Analyze your audience and segment customers by their perception of how much value they will obtain from your product;
- Do not forget to factor in the amount you have in stock, expectations, capacity and pace of sales.
The above-mentioned strategies are widely used by market leaders. One of South America’s top retailers has over 200 brick and mortar stores and they divide their stores into groups by average income of the region in which each one is located. There is a single base price per product (based on cost) but once minimum markup has been reached, prices then vary across regions, and the stores make specific adjustments to the prices of certain products depending on competition from neighboring stores.
A good pricing strategy is critical for the success of any business. This requires creativity, research, keeping records (to enable historical analysis) and lots of flexibility. Create your own strategy and then monitor the outcomes, to continuously test what's working.