Many small business owners struggle with pricing decisions. How much money should you charge for a given product or service?
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The typical thought process evaluates what value the customer attributes to the product or service. In addition, pricing consultants also recommend looking at how competitors are pricing their similar wares.
Ultimately, the small business owner must decide whether he is a low-cost provider or a premium-cost provider.
If two businesses are charging different amounts for an identical product, what gives? Why would one of the businesses charge more than the other?
There are many possible reasons. Maybe one small business owner has to charge more because he has higher costs. Perhaps his rent is fifty percent greater than his peer's rent. Maybe he pays more money for his raw materials; either he hasn't found the low-cost suppliers or he's a poor negotiator. Or, maybe he just wants and needs to make more money. That might be the case if he lives in a bigger house than his competitor and has a much bigger mortgage.
We can also think about pricing from the other side of the fence. Why would a customer pay more for an identical product provided by one vendor than he would pay for the exact same product offered by another vendor?
Is a customer willing to pay more money to Small Business Owner A for a given product than he would pay to Small Business Owner B simply because Small Business Owner A has a higher standard of living? Probably not.
So why on earth would the customer pay the higher price?
The answer lies in positioning, and once you understand how positioning affects price, you'll be privy to a startling relevation. The "ah-ha" is that you shouldn't spend your time thinking about what price is appropriate. Instead, spend your time thinking about how your positioning is affecting your ability to price at higher levels.
Positioning, of course, is simply how you portray yourself to the market. That gets translated into customer perceptions of what they think about you and your small business. Do you tout yourself as being reliable, convenient and high-quality? Or do you hang your hat on easy-to-do-business-with and hard-working?
Regardless of how you are trying to position yourself, the market is making conclusions about you. Many of those conclusions relate to customers' psychological needs. For example, does their sense of personal prestige increase if they do business with you? Are you perceived as being cool -- so that they will be perceived as being cool if they do business with you?
Believe it or not, it's those psychological needs and justifications that ultimately affect what you can charge for your products or services.
The classic study on this topic was done by an economist named Richard Thaler. His 1985 "Beer on the Beach" study showed that thirsty sunbathers would pay $2.65 for a beer delivered from a resort hotel but only $1.50 for the same beer if it came from a shabby grocery store.
The only way to explain this is to conclude that people are willing to pay different prices for the same goods depending on who is providing the goods and what their perceptions of the vendors are.
So, if you want to charge more money for your products or services, ask yourself this question: Are you the resort hotel or are you the shabby grocery store?
Better yet, ask your customers and your competitors' customers that question. Find out what they think about you. Once you know how you are perceived, think about what you can do to improve your positioning in the market.
Mind you, it has to be cost-efficient. You could pay six million dollars for a TV advertising campaign and that might allow you to up your prices by 10%. But if you never could possibly recoup that six million dollars through a 10% price increase, your marketing investment would be one of the stupidest marketing moves ever.
Since our site provides resources for entrepreneurs and small business owners, it's probably ludicrous to talk about TV advertising, but we're just trying to make the point that some investments in marketing and positioning will be cost-effective and some won't. Positioning investments might be as simple as new signage for your retail store, uniforms for employees, a newsletter, higher quality business cards, or improving your web site.
What positioning investments make sense? If they get you to the point where you can increase your costs such that the increased revenues cover your investment in positioning and your positive cash flow increases, then you are ahead of the game.
Focus on positioning instead of pricing, and you'll find you're in a great position to raise prices and grow your business.