How should I price my Products?
Written By Ethan King
Last month, we discussed pricing for services. This month, let’s discuss ways to price products by looking at the pros and cons of five of the most popular choices used by vendors to sell products:
Cost-Plus Pricing
Fixed Pricing
Tiered-Based Pricing
Market-Based Pricing
Customized Pricing
Again, remember, there is not a one-size-fits-all solution. Just like with service pricing, many vendors selling products will have a combination of various payment types.
1. Cost-Plus Pricing
The vendor determines the price based on the cost to make or obtain the product and adds a markup, either a percentage or dollar amount increase.
Pros:
● It is simple for the vendor to calculate and understand
● It ensures vendors cover costs and earn a profit
● Pricing is transparent for buyers in vendor agreements
Cons:
● Pricing does not account for changes in market demand or competition, and thus can result in pricing the product lower or higher than necessary
● It can result in high-priced items if the cost of creating the products is high
Pro-tip: Use cost-plus pricing when material costs are stable and you want to ensure a consistent profit margin. Avoid using cost-plus if you are in a dynamic market where competitors are always looking to undercut each other; otherwise, your cost-plus pricing will look a lot like market-based pricing.
2. Fixed Pricing
A set price agreed upon for the duration of the vendor agreement to purchase the product.
Pros:
● It is predictable and stable for budgeting and forecasting
● It simplifies accounting and invoice processes for the sale of products to the client
● Vendors attract buyers who are looking for consistency in pricing to do their own planning and budgeting
Cons:
● It is inflexible if market prices change, and now the vendor may lose money on the sale
● The price may not reflect raw materials or shipping cost fluctuations for the creation and obtainment of the product
Pro-tip: Use fixed pricing when the price of materials is constant and you, as the vendor, exercise control over the manufacturing process. Do not use fixed pricing in an unstable environment where vendor costs can go up. When this happens in cost-plus pricing, you can adjust to ensure a profit margin. With fixed pricing, the price is set.
3. Tiered Pricing (Volume-Based Discounts)
The vendor adjusts the pricing based on the number of products being purchased.
Pros:
● This strategy encourages bulk purchasing
● Can build trust and long-term vendor relationships
● Vendors can hopefully optimize production and logistics
Cons:
● This can lead to high levels of storage and inventory, and higher costs for the vendor, especially if there is a recall of a product
● There can be difficulty managing pricing tiers and thresholds
● Low market clients may have difficulty purchasing the amount needed to make an order of the products.
Pro-tip: Offer this type of pricing when customers purchase a product in large quantities. It does not work as well if the customer is purchasing only a few customized products.
4. Market-Based Pricing
The price for a specific product is changed based on current market conditions and pricing for the same or similar product.
Pros:
● This strategy allows vendors to stay competitive in the market, and evaluate whether they are selling to high-end or low-end customers
● While profit margins may be low, it allows the vendor to control the price to ensure they still make a profit on the sale (think about items at restaurants that are listed “market price” instead of a fixed price on the menu)
● Can help win new contracts or retain buyers because the vendor can adjust on the fly
Cons:
● This strategy is quite volatile and hard to develop long-term forecasting
● Profit margins may be thin if the vendor is solely competing on price
● It may lead to pricing wars with other vendors and a potential race to the bottom
Pro-tip: Vendors can use this pricing strategy when they first enter the market and want to win customers. It can also be used when a vendor has a greater market share and price control.
5. Custom pricing
The cost to make that product is set at a base price, and then the customer may add features to the product, either in a set list or by providing their own features and designs, resulting in a high-priced product.
Pros:
● Can increase sales and customer satisfaction because the customer gets a product that fits their exact needs
● Allows personalization, and it gives the vendor market insights into what customers really want
● Vendors can determine price quotes for each added feature or customization
Cons:
● Unless the only available features for customization are pre-set, open-ended customization adds more complexity in creating the product
● There is a higher risk of error in the product due to its customized nature
Pro tip: Custom pricing is good when a vendor provides a product that customers like to have a say in, to make it more personal. In the B2C context, consider jewelry and clothing. In B2B, consider manufacturing equipment and software.
Closing thoughts
As a vendor selling products, consider which options fit your business model and clientele best. Do not be afraid to combine models either. And, If none of these pricing strategies fit your business model, there are still other options. The lawyers at Yohanan Law are more than happy to speak with you to find the strategy that fits your needs.
Adam Yohanan is a transactional business lawyer with extensive experience representing companies, investors, and entrepreneurs in a wide range of high stakes business transactions.
Adam handles the small and large transactions in the life of a businesses, including mergers & acquisitions, entity formations, partnerships and joint ventures, investing and fundraising, commercial contracts, and dissolutions. His office can be reached at 212-859-5041.
Haley Kopp is a corporate lawyer focused on representing start-ups and small companies in formations, venture capital, angel investor financings, mergers and acquisitions, and general corporate matters.
Haley's diverse experience gives her a practical approach to solving complex business issues, whether guiding companies through financing rounds or corporate transactions. Her office can be reached at (619) 512-3652.
This guide is meant for educational and informational purposes only and should not be considered legal advice. It is essential to consult with an attorney or other advisors regarding all legal and other important matters.
