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Building a Fair Pricing Model for Your Business

Author

David Rodeck

More by David
Author

David Rodeck

More by David

Setting prices for your company's products or services is a delicate balance. Go too high and you may drive away your customers. If you go too low, you may shortchange yourself — and possibly won't earn enough to stay in business. So how do you come up with a fair pricing model? While there's no perfect answer, there are some strategies that can help you set your prices.

Pricing Models

One popular way to set business prices is through the cost-plus system. Under this system, you determine the total cost of creating your product, then add your target profit margin. For example, if your product costs $100 per unit and you are aiming for a 10 percent profit margin, you'd price it at $110. Make sure to take into account all your expenses and factor these into your initial cost. This includes the value of your time, staff salaries, rent, bills, equipment costs, etc.

Another pricing strategy is the perceived value system. Using this approach, you would set your prices based on what you think your customers are willing to pay. This is more subjective, since you aren't basing your prices on a set formula but rather your estimate of market conditions. The perceived value system can help you maximize your profits, because you're aiming for the highest possible price that your customers will recognize as worthwhile.

Determining If Your Prices Are Fair

One way to gauge whether your prices are fair is by checking out your competitors. If the price you set is way above or below the market, it's likely that you miscalculated. You can also review data sets and analysis about your industry to find average profit margins and other important numbers. That information can also help you calculate your prices.

Once you've set your prices, notice the reaction from your customers. See if they'd be willing to respond to a survey that asks whether they think your current prices are fair. If people are telling you that your business is a huge bargain, that's probably a sign that you've priced too low.

Small Versus Medium-Sized Businesses

While these general pricing model concepts apply well to both small and medium-sized businesses, there are some differences. Medium-sized businesses have a higher volume, so your prices could have smaller net profit margin and you could still make up the difference with more sales. That can help you continue to expand your market share.

Smaller businesses typically have more flexibility with their pricing. You can experiment a bit more with different prices, since changes will impact fewer customers. It gets more difficult to change your prices as you expand so you have less room to experiment.

Setting a reasonable and fair price isn't easy, but is incredibly important for making your business a success. By keeping these ideas in mind, you can properly determine your fair market value.