"How Much Is That Thing in the Window?" - How to set your price

The last thing on their mind is the price. © James Madelin 2016

The last thing on their mind is the price. © James Madelin 2016

I'm greedy. Greed is good.

Sounds extreme, right? Not so fast.

In business, if you're not trying to make as much money as possible, as quickly as possible, you won't be in business for long.

You need to do everything you can to maximise your sales (how many things you sell, actual or software) and maximise your prices.

"But.... but! Corporate values! Customer growth! Instagram!" I hear you cry... 

You're right. There are some caveats to being greedy. There are always exceptions.

You have to make as much money as possible as quickly as possible while holding true to your personal and company values. Being nice is a given.

The exception? In every million companies or so, there's one like Whatsapp that succeeds without making much, or even any, money. They're the ones that stick in our minds because we hear so much about them.

You're not that company. It's not a rational strategy to bet on being one in a million, whether you’re the investor or the entrepreneur.

Most companies thrive and survive thanks to the good ol' fashioned method of making as much money as they can, as fast as they can, until they mature and the business becomes a machine that turns capital (raw materials, ideas, code….) into cash.

Price is huge. You can lower your manufacturing and logistics costs, your overheads, but everything is much easier with a high price. 

So how do you decide the price, or prices, for your product?

Broadly speaking, there are two schools of thought... The first is 'cost plus' pricing and the second is 'strategic' or ‘value’ pricing.

'Cost plus' works best in commodity businesses... businesses where you know and accept that you're going to be copied fast (or you're copying), and that the customer has very little reason to buy from you rather than someone else, because your products aren't different to theirs ('differentiated', as we consultants say).

It's not just your product that might be the deciding factor in whether your business is commoditised; it may be the supply chain or the sales channel.

Pricing and marketing for success in a commoditised market is another article for later.

Today I'm assuming your business is not completely commoditised. Either through design, channel management, marketing (promotion) or luck -or all three- there's more to your customers' decision to buy from you than just price.

I'm also assuming you don't have several days of reading time, so what follows is stripped-back-to-the-bare-bones wisdom to get you started. Not what I'd teach an MBA class.

Before we go into pricing itself, marketing can accomplish a lot here; doing everything you can to give your customers more reasons than just price, to buy from you. Marketing as a differentiator. Marketing across the spectrum of product, place, people and promotion. 

Ski, mountaineering and photography bag companies are great examples of this. They all make a ton of money making and selling gear that is mostly no different to their competitors', but their marketing (their products, geo focus, customer segmentation and promotion) sets them apart. It's why you buy Salomon and not Rossignol, Black Diamond and not Petzl, Arcteryx and not Rab.... or the other way around.

They all tell great stories, differentiating themselves in the process, even though their products are often interchangeable. They should be in a commodity market, but they’ve marketed their way out.

So how do you set the price, or prices, for your product?

Remember, we're not exploring 'cost-plus' pricing, where you simply work out your landed cost to the customer (not your 'per unit' cost alone), and add your expenses divided by unit sales to the equation.

You need to make as much money as possible as quickly as possible. 

And you sell something special.... something that's not commoditised.

"Remind me again why we need to be greedy?" I hear you ask.

Here's why.... Business is hard. It's chaos. It's unpredictable. It's a race. 

It's an awful lot easier to win when you have positive cashflows. Big cashflows. A fat bank balance.

Cash is king. It really is. 

The best way to have cash is to earn a lot more than you burn. 

The more money you make, the faster you grow, the more you earn, the more you pay your team, the faster you range, the longer your business survives. And you sleep better too. Sleeping well makes you sharper, better, faster and richer.

If you're growing through outside investment, all this still applies. Make more on every sale and start by raising more than you think you'll need. Then you'll have less need for B, C, D rounds.... and their consequent dilution. And if you do go for them, you’ll be in a position to be more aggressive on terms.

Pricing When There's Already A Market

If there's already a market for your product, it's a lot easier. Your competitors have probably validated your market's pricing and margin strategy. Make sure you're comparing yourself with competitors running their businesses efficiently, and not competitors who are secretly failing (do some digging), predatory pricing, or who are over-leveraged. Use your competitors' prices as the basis for setting your prices. All other things being equal, it's unlikely your product will sell for twice the price that the market has already settled on paying (differentiation aside), for example.

If all you can find in your market are competitors who aren't pricing on a level playing field to you, that's probably all the validation you need, to tell you to steer clear of that market. Unless you have a strong reason to charge a lot more.

Pricing When You're Breaking Ground

With no market for your product, strategic pricing gets interesting. Here's how I do it.

Preparing to launch the world's first modular photography ringflash, the orbis Ringflash, I knew that the only other products - not modular - cost thousands of dollars. Our landed cost was due to be somewhere around $30-40. I validated the market by asking hundreds of photographers what they'd pay for the amazing lighting effects they'd get from my invention. They all said $99. 

Not enough. $60 on every unit sold is not to be sniffed at, but it wasn't enough.

It wasn’t enough to repay the hundreds of thousands we’d invested in getting the business to launch, nor enough to build the strong lead we needed for growth.

So I took a reasonable guess that photographers would pay $200 for something they'd otherwise have to spend over $1000 on.

"Why not more,” I hear you ask? The product itself was ridiculously simple; no moving parts, no electronics..... There's a rational upper limit to how much someone will spend on something like that, that's not a premium product.

Making something for $30 and selling it for $200 retail represents a solid gross margin of 85%. For every unit we sold DTC (Direct to Consumer) we raked it in, funding rapid range extensions, newer and better versions, advertising, events and decent salaries for my team and me. Oh, and a rapid extension of sales channels that put my invention into camera stores worldwide by the end of Y1 on sale.

Competitors swiftly launched copycat products at a fraction of the prices. That confirmed the orbis Ringflash's position as the gold standard. Our sales (and profits) increased. More importantly, our big margins (huge for consumer durables) meant we had space for the retail and distribution margins that none of our competitors could afford, putting my invention in more stores than anyone else's.

It set us a strong path to growth that we maintained for a decade. 

There was (and is) considerable resistance from the mass-market customer segment (eg. early and late majorities and even some early adopters) to buying things they've never seen in any shop, anywhere. So we could afford to cross Moore’s Chasm (something you must know about and coming in a forthcoming post), 

And if you're running a DTC business, you'll swiftly find that your advertising budgets eat the margin you'd otherwise be paying into the distribution channel anyway. It's the new rent. It’s a common but naïve opinion that a DTC strategy means lower prices. It doesn’t.

Another example; another photography accessory I invented, the frio Coldshoe, offered significant benefits over competitors' products that all cost less than $5. So we launched at $12.99. Many, many people said we were crazy. Many customers said they'd never buy one. 

Tens of thousands of photographers recognised the value they got from the frio’s unique, protected, differentiated benefits and bought them.

If no one is complaining about your high prices, raise your prices. 

Motorcycle luggage brand Kriega is a great example of this.

Almost every review of a Kriega product says a variation on the theme; 

"This costs a lot... but it's worth it. Buy one!" 

Be like Kriega.

Search for the level that gets you to “no”, in every channel you sell into. If you’re never hearing “no” in response to your price, it’s not high enough… there should always be a proportion of your market for whom your price is too high. Don’t try to please them, you don’t have to close every sale.

Does any of this apply in other markets, like SaaS? Yes!

Here's an another common-sense strategic approach to pricing that I worked on.

An award-winning AI chatbot company tasked me to help establish their pricing framework. They had nowhere to start.

  1. No market to assess competitor pricing. There were no competitors in their frontier market.

  2. They had no customers yet, to ask how much they'd pay.

  3. Potential customers had no idea how much AI chatbot efficiencies were worth to them, so simple validation wasn’t an option.

This was never going to be a cost-plus pricing strategy. 

A small startup runs on fumes and a common mistake they make is pricing to cover operating costs which are near zero; startups commonly, massively under-price.

They needed to make as much money as possible, as fast as possible.

I priced up the value to the target customers. How much was the market spending to fulfil the function their AI chatbots do? How many people were their target customer employing to do jobs the system could replace*? How many customer enquiries were they handling, that chatbots would handle? How many upsell and cross-sell opportunities did their targets close, for what revenue and how often, that chatbots could do more efficiently? 

W+X+Y+Z / Q = The value, or strategic, pricing proposition.

(Q is your choice of per month, per year, per seat or any other rational unit metric that you will sell by.)

We came up with a number a lot higher than we expected. Going back through the calculations, it was there in black and white; the clear argument for the end result, that they would use in their pitches.

We estimated sales volumes from there and, using the new base price, performed rigorous forecasting to base business decisions on. 

We then had data to instruct the sales team, to build pitches on the significant financial benefits of their chatbots.

We had a clearly explainable price that we showed made sense to the market. 

We had a price that set the company on a path to success, making as much money as possible as fast as possible to fund astounding growth and smash their competition.

At first glance, it’s greedy; but really we planned for success. And earned it. You should too.

Be greedy. Greed is good.*

PS Does your business need help with this? Give me a call for a chat.


*Except when it isn’t… but you’re a grownup. You know when it isn’t.

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James Madelin

Consumer durables, apps, insurance and SaaS business consultant.