There are countless pricing strategies at your disposal, but not all are created equal. Some strategies are much more effective than others at increasing margins, moving inventory, and keeping customers happy.
To cut through the noise, we’ve created a glossary of some of the best pricing strategies that you need to know—complete with definitions and tips to help you flawlessly execute them.
Your Ultimate Pricing Strategy Library
True to its name, this pricing strategy involves adding the fixed and variable costs for a product and selling it at production cost. This can make sense when there is an extreme surplus of items in a store or warehouse, but it is not usually a sustainable long-term pricing model.
In many product categories, shoppers need to buy a number of products to get the full experience. If an electronics retailer were trying to create a COVID-19 bundle, they might offer a laptop with a mouse, mousepad, and keyboard to encourage the shopper to buy more with a helpful bundle that will ultimately improve their experience.
This is much better psychologically than itemizing the products in the bundle. Outside of retail, you might think of an all-inclusive resort. Wrapping it up into one high-value offering removes some stress from the customer because they don’t have to think about all of the individual charges that they might have incurred otherwise.
In this strategy, you will price the basic product low and make up the difference on other items. A purveyor of jeans might price their flagship items low, but shirts, jackets, and shoes to complete the outfit could be offered with premium pricing to encourage shoppers to buy higher-margin products.
In this pricing model, you will set the core product price low and complementary items high. A retailer might offer a trendy instant camera for less, but make the film a bit more expensive to make up profit margin on an item that shoppers will need to buy on an ongoing basis to enjoy the full value of the product.
This pricing strategy has a few moving parts. Depending on the business, cost can refer to the full cost associated with the product. For example, the cost associated with staffing, property, any overhead, and debt. That is on top of the cost required to manufacture, distribute, advertise, and sell.
- Cost-plus pricing: the cost of the product plus a flat amount to cover profits and contingencies.
- Marginal cost pricing: the cost of the item multiplied by one plus the margin percentage.
- Six-X pricing: the full cost of the item (sales, advertising, distribution, and administration expense of direct marketing) multiplied by six. This pricing model is often used in mail-order retail businesses; other verticals might use a factor of five or less.
This is a pricing strategy popular at Walmart in which prices seem to be so low that no further discounting is possible. The product is offered at this price consistently and it can help win market share.
No product exists in a vacuum, so you’ll need to make sure your pricing makes sense within your competitive set by determining the pricing of leaders in the market and strategically increasing or decreasing based on what the market dictates.
As more competitors enter the market, you’ll need to set a rule to determine whether you will base your price on the median, mode, mean, minimum, or maximum to generate a price that works best for your business. The particular formula you will follow is: (Price or Average of Prices) x (1 + your markup or markdown rate).
If you sell in different countries or regions, there are many factors you have to take into account when selecting pricing for each geography. There may be specific tariffs, customs, or preferences that you need to keep in mind. This requires you to have pricing rules in place for each country or region to ensure you present competitive pricing. You must take stock of all the places you sell in order to set up a cascade of pricing options. It’s important to note that this pricing strategy is often used on top of other strategies.
This strategy follows the principle that the majority of your sales come from a small fraction of your products, called the “head.” These products must be priced very competitively, but are especially beneficial in terms of high sales volume. “Tail” products might not sell as fast, but they do offer higher margins.
High-low pricing is a method of pricing in which the goods or services are regularly priced higher than competitors but lowered through promotions, advertisements, and coupons.
A limit price is set by a monopolist to discourage entry into a market. The limit price is often lower than the average cost of production but is likely to attract a very high volume of sales if there are signals in place to prove to shoppers that the item is high quality.
While you might want to leave this strategy for last, it comes in handy when certain parts of your inventory are moving at a glacial speed. It involves deep promotional pricing to get those slow items out of warehouses and stores to make room for higher margins and faster moving products.
This is a psychological pricing tactic that encourages a buyer by shaving a cent or more off of a price so that it feels significantly cheaper. For example, a bottle of shampoo offered at $4.99 is in the $4 price range, while adding just one more cent and making it $5 automatically makes shoppers associate it with a higher price range.
An additional way to put this concept into practice is by offering products at seemingly random prices. This often goes hand-in-hand with everyday-low-prices. Using the example above, the same bottle of shampoo price at $4.91 might signal to the customer that the retail has taken all discounts possible to offer them the lowest price they can.
Price discrimination changes prices for the same product based on which segment of the market a buyer is in. This could mean charging less to senior citizens or early birds who come in for doorbusters.
Retailers use this strategy to segment merchandise in terms of perceived quality and value. For example, a department may carry men’s coats priced at $100, $200, and $300. Customers tend to buy products at their chosen price points, regardless of whether the actual prices are raised or discounted.
Product Life Cycle Pricing
Pricing will be very different based on how established a product is in the market. A new product will have to establish itself as a valuable addition to the competitive set through innovative pricing strategies, while products nearing the end of their lifecycle may have to discount in order to keep sales up for older models.
Here’s what you need to know to present optimal price points across a product’s life cycle.
- Price skimming: When first introducing a product to the market, you may want to initially have a high price and systematically reduce it over time to provide the impression that the price will eventually fall.
- Penetration pricing: Set the price low to attract more customers. This can be a great way to spearhead reviews and make sure that future customers have the appropriate signals that this new product is already well-loved and worth their hard-earned dollars.
- Experience-curve pricing: Set the price low to build the volume and reduce costs through accumulated experience.
Many products are seasonal: from winter coats to swimsuits. This seasonality impacts the product value based on region and requires global eCommerce players to pay special attention. The related price rule is to build season-specific price strategies, the run a simple formula to set the strategy depending on the season. More expensive winter coats in the winter, cheaper coats in the summer.
Create special events to have a reason for a reduced price, such as a semi-annual sale like Victoria’s Secret. This will lower prices on certain items either for a defined period of time or until stock is depleted.
This demand-based strategy prices based on time of day or day of the week (which is also an important factor in dynamic pricing). So when demand is high (for example, on the weekend), prices go up accordingly, and a dip in prices can restart slumped sales (such as early in the morning). Historical sales and profit data are essential to this strategy in order to effectively understand the relationship between price and demand.
Another example of this strategy is a practice called seckilling, a portmanteau of “second” and “killing” in which a buyer successfully bids and wins items at incredibly low prices during a short window of time.
Customers pay what they want based on how they value the product. Without minimum prices put in place, this can mean that consumers value the commodity at zero. In order to have an effective value-based strategy, retailers must set a minimum price to maintain an appropriate profit margin.
How to Measure Pricing Strategy Success
Now that we’ve gone through key pricing models, the last step is to learn the metrics you need to track to determine success. Based on the strategies you choose, you may want to track:
- Profit rate
- Average order value
- Branded search lift
- Growth rate
- The average revenue per user
- Customer lifetime value or customer acquisition cost ratio
Whether you want to create a premium pricing strategy or prefer to appeal to price-conscious customers, there is a way to do so while winning market share and keeping up profit margins.