All sorts of things go into figuring out a price point. First, you have to pick your market (niche or not) and figure out what that marketing is generally willing to pay for things. Then it is just about the cost of goods sold or cost to provide the service and a target margin / volume. The general retail customer will be very sensitive to price, but if your customers are other businesses, this is less of a factor.
There are several factors that a company may consider when determining a price point for their products or services. Some of these include:
- Production costs: The cost of producing the product or providing the service is a major factor in determining the price. This is relevant for a manufacturing plant. Here are more details on how to do this:
- Direct or Variable costs: These are costs that are directly associated with the production of a product or provision of a service, such as materials and labor. To determine direct costs, you would need to calculate the cost of raw materials, the cost of direct labor, and any other direct expenses.
- Overhead or Fixed costs: These are indirect costs that are necessary to keep the business running, such as legal fees, upper management salaries, and marketing/advertising. To determine overhead costs, you would need to calculate the costs associated with running your factory as well. This would be things like office expenses, rent, utilities, property taxes and insurance as well.
- Sunk costs: These are costs that have already been incurred and cannot be recovered. To determine sunk costs, you would need to calculate the costs that have already been incurred, such as research and development costs, tooling costs, and the cost of prototypes.
- Once you have calculated all of these costs, you can add them together to determine the total cost of producing the product or providing the service. It's important to note that cost calculation can be complex and it's best to consult an accountant or financial advisor to determine the cost of producing a product or providing a service. Most of the startup financial models on this site will help you with this.
- Market research: A company may conduct market research to determine what consumers are willing to pay for a particular product or service. This is huge and getting it wrong could bankrupt a big retailer. You saw this with Limited Too as they decided to start selling clothing that was out of the price range of their target customers. This did not go well. Here are some effective ways to perform market research regarding price point determination:
- Surveys: Surveys can be used to gather information from a large number of consumers about their opinions on a product or service, as well as their preferences and willingness to pay for it. Surveys can be conducted online, by phone, or in person.
- Focus groups: Focus groups are a way to gather information from a smaller group of consumers, typically in a face-to-face setting. These groups are moderated by a facilitator and allow companies to gather qualitative data on consumer perceptions and preferences.
- Interviews: Companies can conduct one-on-one interviews with consumers to gather information about their preferences and willingness to pay for a product or service.
- Online research: Gathering information by researching online, such as by looking at consumer reviews and ratings, as well as competitors' prices and promotions.
- Sales data: Gathering information from their own sales data to understand consumer demand and preferences for their products or services.
- Industry reports and analysis: This involves reviewing industry reports and analysis, such as market size and growth, consumer demographics, and trends in pricing and promotion.
- Competitor analysis: A company may also look at the prices of similar products or services offered by their competitors to determine a competitive price. This is a very common and accepted practice. Don't put too much weight on competitors, but it is worth having some context of what your competitors are offering and how much they are charging.
- Distribution and promotion costs: The cost of distributing and promoting a product or service can also be factored into the price.
- Profit margin: A company will also consider their desired profit margin and set the price accordingly.
- Additional factors like time, location, and target market also play a role in determining the price.
Ultimately, the goal is to find a balance between setting a price that will be profitable for the company and setting a price that will be attractive to consumers.
Relevant Financial Models:
- SaaS Pricing Simulator
- Cost per Unit and Profit Margin Calculator (simple but a really good starting point)
Article found in General Industry.
