Many online retail businesses use one of three popular strategies to set product prices: cost-based, competitor-based, and value-based.
It can be a challenge to know how much to charge for a product online. You want to give the customer a fair price, cover expenses, and earn a good profit. Knowing something about the three most popular retail ecommerce pricing models might help you mix and match them to set prices for the products you sell.
Cost-based Ecommerce Pricing
Cost-based pricing or, as it is sometimes called, cost-plus pricing may be the most popular pricing model in the retail industry. Its greatest advantage is simplicity. It permits a store, be it brick-and-mortar or online, to set prices without significant customer or market research and ensure a minimum return on each product sold.
To calculate cost-based pricing, simply find the cost of the product and add some markup to create a profit margin.
Cost + Desired Margin = Price
Imagine that you have an online t-shirt store. It costs your store $11.50 to purchase a particular shirt and have it printed. Your average shipping cost for this shirt is $3.00 so that your estimated cost is $14.50. You want to make a profit of $10.50 on each shirt you sell, so you set the price at $25.00.
If you add a new t-shirt that requires some additional printing and costs $15.00, plus your $3.00 in estimated shipping charges, you would price it at $28.50. That would be $18.00 in product costs plus your $10.50 in margin.
This, of course, works for percentages too. You would simply add the margin percentage to the cost of your product to create the price.
Cost-based pricing strategies hedge a retail ecommerce business against losses, but can sometimes leave profit behind. First, it is possible that your customer would have been happy to pay more for the product, which would have earned additional profit on each sale. Second, it is just as likely that your price could be too high, and you sell many fewer units of the product, resulting in less profit.
Competitor-based Ecommerce Pricing
With a competitor-based pricing strategy, you simply monitor what your direct competitors are charging for a particular product, and set your price relative to theirs.
This retail pricing model works when you sell identical products as your competitors and have no differentiators. In effect, you’re assuming that your competition has done some research or has some experience or is at least visible enough in the marketplace that their pricing must be matched.
Unfortunately, this pricing strategy can lead to pricing competition and what some call a race to the bottom. Imagine that you’re also selling your products on the Amazon Marketplace. You have a product that you normally sell for $299.99 on your own website, so you set your Amazon price at $299.99, expecting the orders to pour in. But they don’t come in as expected. You discover that a competitor is selling the identical product for $289.99, so you lower your price to $279.99. Before long both of you have obliterated your margins and selling the product is hardly worth it.
The warning, then, is to use competitor-based ecommerce pricing carefully. The aim is to maximize your ecommerce store’s profitability.
Value-based Ecommerce Pricing
If you focus on the value you can deliver to a customer, setting prices based on what you perceive a shopper — in the industry segment you serve — will pay for a particular product at a particular time, you have taken the value-based or value-optimized approach to ecommerce pricing.
Value-based ecommerce pricing is the most complex retail strategy described here, for a few reasons.
It requires both market research and customer analysis. Your business will need to profile your best customers, consider their reasons for buying, understand which product features are the most important, and know how important price is in the decision to purchase.
With value-based pricing, you may not set a price and be done. Rather the act of pricing your products may be a relatively long process, wherein you make repeated, subtle changes to prices as you learn more.
Thanks to all of this research and time, a value-based retail ecommerce pricing strategy can lead to more profit, both from each product sold and overall.
Think of an umbrella vendor standing on the corner of a busy street on a sunny day. When the sun is shining, the folks walking past the vendor don’t have an immediate need for an umbrella. If they purchase an umbrella, it will be so they are prepared for a future rainstorm. Thus, on a sunny day, the product’s perceived value might be low. Nonetheless, with a bargain price, the umbrella vendor may still make sales and earn a profit from the volume of umbrellas sold.
When it is raining, umbrellas are worth a lot more. A person walking past the umbrella vendor on her way to a job interview might be very happy to pay a relatively high price for an umbrella since it is quite valuable at the moment. This shopper gets to her interview dry, and the umbrella vendor earns more profit on each umbrella sold.
The price, in other words, is based on the customer’s perceived value.