Talking about setting prices & adjustments

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How to Make Sure Your Price is Just Right

Is it time to pass on rising costs to customers? Is your product or service priced too high or too low? Yes, the all-important issue of pricing can stump even the most savvy small biz owner, but these 10 tips should help:

Small business owners and managers are loathe to raise prices. According to this June feature in Inc. Magazine: "After years of almost no inflation, relentless downward pressure from places like China and India on the price of almost everything, and comparison shopping at the click of a mouse, it's more competitive than ever out there. It's easy to see why fewer than one-third of business owners surveyed by the National Federation of Independent Business reported in February that they had increased their prices over the previous three months."

But now that prices are generally increasing nationwide, entrepreneurs have some serious thinking to do. Keep prices too low and they're cutting into their margin more than they need to. Raise prices too much and they risk angering or even losing customers. In short, it's a tough call. Fortunately, Inc. Magazine offers some pricing dos and don'ts.

1) Don't rely on your gut feeling. It's often off the mark. "Entrepreneurs tend to keep prices too low," says Reed K. Holden, founder of Holden Advisors in Concord, Massachusetts, and the co-author of The Strategy and Tactics of Pricing, a commonly consulted book on the subject.

2) Don't make any of the following--your costs, competitors' prices, customers' opinion and salespeople's feedback--the main determinant for your price. According to Inc., yes, you should consider them but "nearly all experts agree that making any of those factors the primary basis for your decision is a big mistake. Instead, the right price for a product or service should rest on one thing--the value that a product or service provides."

3) Ask this question: "How much would a rational consumer be willing to pay for your product, assuming the consumer had a perfect understanding of its actual worth?" That's the first thing you should mull over when setting prices, says John Gourville, a marketing professor at Harvard University, who studies pricing. In other words, step one involves attaching dollar amounts to the benefits provided by your products and services.

4) Determine--and try to influence--your customers' expectations. Take note that the "greatest influence on the context of a purchasing decision is whether the consumer believes the price is fair," and expectations figure prominently in this perception. Remember that people tend to base their expectations on what they've paid for similar products or services in the past. In academic circles, this is what's called the "reference price." For instance, satellite radio companies overcame a $0 reference price (the hardest of all to come up against) and were able to charge annual subscription fees of up to $142 by convincing customers through savvy marketing that they offer more value.

5) Place your product in a different price category, if appropriate, to influence expectations. This can help you overcome a low reference price. For instance, don't let customers label your service as a basic program when it's really a more comprehensive solution.

6) Get around the limitations of your own past price. "People are going to use your past price as a reference point," says Robert J. Dolan, dean of the Ross School of Business at the University of Michigan and co-author of Power Pricing: How Managing Price Transforms the Bottom Line. You can employ two strategies: a) convince customers that the new, higher price is justified by increased value and B) destroy the reference point through a redesign, relaunch or by unveiling "premium" versions of your service.

7) If you do decide to, explain to customers why you're increasing prices. This is one of the best ways to make people accept your price hike. "People are actually very sensitive to what they think something costs to make," Gourville of Harvard University tells Inc. When costs go up, and a company mentions that as a reason to explain a price increase, few customers feel slighted. While they seek a fair price, people are also cognizant of the fact that a company has to stay afloat.

Remember that you don't have to increase prices across the board, all at the same time. Sometimes it can be a good idea to try out new price hikes with test groups of customers.

9) Deal with "price buyers" only when you can do so profitably. Given this moniker by Holden of Holden Advisors, these buyers "often release a request for proposal with a set of specs, pick the lowest bid, and call it a day." The trick is to entertain these buyers only when it benefits you--if you have excess inventory, for example. Or you can give them exactly what their money buys; for instance, giving them older technology and reserving the innovative products for those who'll pay for them.

10) If you're dubious about your ability to communicate or don't want to face clients, try easing a price hike in through more painless ways. For example, you can discontinue discounts or adjust your terms and conditions. "People are more sensitive to list price than to discount terms," says Dolan, dean of the Ross School of Business at the University of Michigan.

Finally, don't hesitate for too long. Take it from Kevin Kelly, who runs California-based Emerald Packaging and writes about his efforts to avoid raising prices and eventual capitulation in this Fortune Small Business item.

Looking back, I think our buyers recognized reality before my fear would allow me to do so. My hesitation cost us two or three percentage points of margin in the fourth quarter, and could have cost much more if I had dithered any longer. The lesson? I have to pay more heed to pricing our product so that we make a profit, and worry less about whether we'll lose business.