The Top Three Mistakes Made with Pricing (Article 2 of 3)
The Top Three Mistakes Made with Pricing
(Article 2 of 3)
A Pricing Strategy That Uses Cost as its Foundation
In the first article, I covered the topic of “pricing to the competition.” In this article, I want to concentrate on how “cost” can affect your pricing strategy and the pitfalls that it entails. However, let me make it clear that cost is not that easy to define. Although, you can define hard costs easier. Let me explain. For instance, a specific product consists of components that cost A and manufacturing takes B time as well as factoring in the C personnel to complete this process. These are the hard costs. This may seem a simple equation to grasp, but there is more to it than that. In order to obtain a more accurate picture of the full cost, you have to factor in the soft costs as well, like the overhead costs. And here lies one of the problems you need to overcome. Honest questions need to be answered. For example: How can you allocate a sufficient budget for marketing and sales expenses for a specific product? Or how can you factor in cost capital, delivery services, management overhead, rent, or other expenses to that budget allocation for a specific product? The simple answer is you can’t—not accurately anyway. At best, it is a judgment call which is another way of saying you make an informed guess. Not the best footing for these types of decisions.
It still amazes me knowing the negative attributes attached to cost-based pricing and yet even today, so many companies still employ this pricing strategy. But why? Well, one of the reasons is because of the point of view of corporate management, that it is relatively easy to understand. CFOs, controllers as well as other managers have instant access to data regarding cost, margin, and price, which may not give them the full picture, especially when they use this data for both tactical and strategic decision-making purposes. Also, another reason for adopting cost-based pricing is that this method is easy to explain to the personnel in the company as well as it not being resource-intensive.
Cost-based pricing is a totally imprecise way of setting prices for your products and services. By using this faulty pricing strategy, you are leading your business to perform at a below-par level. However, my direct experience of businesses that switched their pricing strategy to one that incorporates their customers’ willingness to pay for the company’s products and services always experience substantial benefits and improvements such as higher sales and profits.
Don’t forget to check out the third and final installment in this series: Pricing to Competition as a Pricing Strategy.
Download our Guide to the 7 Easy Steps To Successfully Increase Prices.
Contact a pricing consultant to fix your pricing issue today.
