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Smart Pricing for your
Products and Services
Pricing your products
and services can make a difference between profit and loss. When you
think about pricing your products and services do not limit your
thinking only to whether your price is low or high or your gross
margin percent but think about the price point where you can
maximize the net profit. This is your pricing objective. The price
will drive the volume up or down and your net profit will change at
each pricing level.
Mark-Up Pricing
Model
Traditional pricing
model uses mark-up percentage. This model takes into consideration
the cost of your product or service and uses a mark-up percentage to
calculate the selling price. For example if the cost of your product
or service is $5 and you use 35% mark-up you will come up with the
sales price of $6.75.
The difference
between mark-up and gross margin:
Gross Margin is the
gross profit percentage of your sales price and it is different from
a mark-up percentage. In our previous example our mark-up was 35% or
$1.75 however the gross margin percentage of $1.75 out of the sales
price of $6.75 will be 25.92%.
Gross Margin
Pricing Model
Many businesses use
gross margin percentage pricing model. This means they have target
gross margin percentage for all products or product categories and
they calculate the target gross margin they need to make out of the
total selling price or in other words gross margin out of the
revenue. If we use the same example and the cost of our product or
service is $5 and we want to use 30% gross margin then our sales
price will be $7.14. The gross margin is 30% out of the sales price
or $2.14. if we assume that we sell all products and services by
using 30% gross margin that means that our gross margin will be
equal to 30% of our total revenue. In most cases businesses sell
more than one product and because of that you need to calculate your
average or overall gross margin.
The two pricing
models so far (the mark-up pricing and the gross margin pricing
approaches) are pricing models based on cost only and they do not
take into consideration the competitors’ prices, market demand,
branding, marketing, etc. In other words you cannot really focus on
pricing your products and services based on your cost.
Competitive
Pricing Model
The competitive
pricing model takes into account the competition and the
marketplace. The most important questions here is “How much my
competitors charge for the same or similar products and services?”.
Other questions you need to consider are “How many people will buy
my products and services at different price levels?” How strong is
my brand compared to competitors? How effective is my marketing
approach?...
As a conclusion,
when you need to make important pricing decisions it is helpful to
go over all these models and approaches back and forth and tro to
come up with the right prices for your business. Your competitive
analysis will give you usefull information but calculating your
margin will help you decide if this is a profitable product or
service for your business. Every business is different and what is
profitable for one business might not be profitable for another.
When you think about pricing also think about how you can improve
thee way you sell and charge your customers as well as how can you
improve your products and services in order to be more competitive.
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