Getting your price right is crucial for any new business. Price your product or service too high and you’ll be scaring away prospective customers. Price it too low and you may struggle to make a profit.
Before you set a price for your offering, it’s important to think about revenue versus profits. Your revenue is all the money coming into your business – your whole income. Your profit is your entire income, minus your costs.
The simplest way to decide on pricing is to add up all your costs (wages, office space, utility bills, supplier costs – everything), decide on a suitable profit margin and add this amount on top. If your monthly costs are £10,000 and you want to make £1,000 profit every month, you need to set your price so that your monthly sales total £11,000. Simple!
Of course in reality there’s more to it than simply adding an arbitrary amount to your costs. Bear in mind that customers will pay a premium for convenience or scarcity. That’s why milk is more expensive at a corner shop than at an out-of-town supermarket, and why the price of gold continues to skyrocket.
There’s plenty more to consider when deciding on your pricing, including:
How you price your product will heavily impact how your business is perceived, both by your customers and your competitors. Think about the kind of clientele you want to attract. Do you want to cater for a small group of high-paying customers, or offer a low-cost, one-size-fits-all product with mass appeal?
Also think about how your pricing positions you in the market, and who your most direct competitors will be. If you’re targeting a high price point, make sure you are offering a better product than those with similar prices, or you may disadvantage yourself when any comparisons are made between your businesses.
There are ways you can structure your pricing which not only makes it more appealing to potential customers, but also more profitable for your business.
Let’s say you own a business designing websites for freelancers and small businesses. One pricing structure would be to charge £500 upfront for a website and two years’ hosting. Or, you could charge £30 per month over two years. This means less upfront costs for your customer, and will actually generate more revenue: £720.
Subscription pricing is becoming more and more popular with the rise of online services. For customers, it means less immediate outlay, while businesses can benefit from regular, predictable income, and more “tie-in”, meaning your customers remain engaged with your business for longer.
The only disadvantage to subscription pricing is that it carries slightly more risk than prepayment. If a customer goes out of business halfway through your contract you will lose that revenue.
Once you’ve decided on either an upfront charge or a subscription model, next consider tiered pricing.
The classic case study for tiered pricing is air travel. The thinking goes that the top pricing bracket – first class – exists primarily not to generate a profit, but to make the middle pricing bracket – business class – look more attractive by comparison.
For example, a first class return to Hong Kong on British Airways will set you back around £5,500 – a hefty sum no matter how you look at it. By comparison, a business class return is “only” about £3,000 – almost half the price. Never mind that an economy return is just £700 – think of all the money you’d be saving by going business!
Of course, tiered pricing isn’t all about playing mind games with your customers – it’s also about offering choice.
If you are offering a service with some kind of measurable capacity (for example email marketing services or virtual servers) consider having multiple tiers at different price-points. This will allow you to engage smaller businesses at competitive prices, and provide them room to expand as and when they require.
Complicated price-points and over-wrought conditional discounts without fail lead to customer confusion, anger and loss of business. If a prospect can’t understand your pricing or feel they have been misled they will mostly likely walk away quickly, fearing a scam.
Common problems include:
VAT – many business-to-business (B2B) services state their prices exclusive of VAT, assuming their customers will be VAT registered. With VAT currently at 20% the increased cost can be a bitter pill to swallow for businesses which are not VAT registered.
Make sure you state clearly if your prices are inclusive or exclusive of VAT. The best way to do this is to split out the basic price and the additional VAT, to make the cost crystal clear for all involved.
Basket shock – adding extra charges at the last stage of purchase is a particularly rotten tactic, used commonly in the travel industry. State the total price of your product or service at all times throughout the buying process, or risk losing the trust of your customers.
Advertise monthly, charge annually. If your promotional material states a certain monthly charge, make sure you bill monthly. £10 per month is a fairly incidental cost, but if your customer then finds out they will be billed £120 upfront, they may feel misled.
Darren Fell is the founder and managing director of Crunch, an award-winning online accountancy firm combining free cloud accounting software with a dedicated team of accounting experts. Launched in 2009, it is now the UK's fastest growing small business accountant.
For more information on Crunch’s accounting software, which is ideal for small businesses, contractors and freelancers, visit our Start Right Now section