Pricing Strategy

What is a Pricing Strategy?

A company’s pricing strategy is its overall approach to determining how to price its products or services. Businesses set prices based on numerous factors, including production costs, market conditions, competition, target customers, growth stage, industry, and overall business objectives.

The goal of a pricing strategy is to set a price that maximizes profits, attracts customers, and maintains a competitive edge in the market. Effective pricing strategies can also influence customer perceptions, encourage brand loyalty, and drive sales growth.

There are several types of pricing strategies, including cost-plus pricing, value-based pricing, penetration pricing, skimming pricing, and competitive pricing, each with its own advantages and suitable contexts.

Synonyms

• Pricing tactics
• Pricing structure
• Pricing model
• Pricing method
• Price policy
• Revenue management strategy (in hospitality)

Pricing Strategies for Different Industries

Pricing goes far beyond the number on a price tag. It comprises the entire process of determining, communicating, and delivering value to the customer in exchange for payment.

Because of that, the exact model and approach a business takes to setting prices depends largely on whether it’s a product-, service-, or subscription-based company, its target audience, and industry-specific factors.

Let’s dive in.

SaaS Pricing Strategies

SaaS companies operate on a subscription model, so their pricing strategies usually revolve around offering different subscription plans with various features, pricing tiers, and billing cycles.

Some common SaaS pricing strategies include:

• Tiered pricing — There are multiple software tiers (e.g., Basic, Pro, and Enterprise). Each tier includes progressively more features at a higher price point, with enterprise pricing normally being quote-based.
• Per-user pricing — Customers pay a flat rate per user, so the total subscription cost increases as the number of users increases. If the price is $30 per user per month and your customer’s account has three authorized users, the bill is $90.
• Pay-as-you-go — You bill subscribers based on how much they use the software. This pricing model works well for companies with fluctuating usage volumes or a significant number of one-time users.
• Usage-based pricing — Some software companies, like AWS, charge customers based on how much they use the software (e.g., data storage, API calls, etc.).
• Flat-rate pricing — Here, you charge a fixed price for all users regardless of how many people use the software.
• Freemium pricing — Lots of companies a limited version of their software for free, while the full-featured version requires payment. Freemium models can be an effective way to acquire new users and upsell the paid version and drive brand awareness.

Most SaaS vendors use a combination of multiple pricing strategies to make up their overall pricing structure. For example, charging a flat fee for each subscription tier, allowing X number of users for free, charging $Y per user per month beyond that limit, and using a usage-based model for API requests.

Manufacturing Pricing Strategies

Manufacturers work on a contract basis with their customers. The exact approach they take to pricing differs depending on whether they’re supplying raw materials, components, or finished products.

Manufacturers tend to use the following pricing strategies:

• Cost-plus pricing — All manufacturers start with the production cost as a basis for pricing. They then apply a markup (percentage) to the total cost to determine the selling price. This markup covers all costs and delivers an acceptable profit for the company.
• Competitive pricing — Some manufacturers use the prices of their competitors as a baseline and set their own price point accordingly. This pricing strategy can be risky since it doesn’t account for your unique cost structure, but it can also help you penetrate the market.
• Price breaks — Generally, manufacturers offer volume discounts to customers who buy large quantities. That way, they can speed up inventory turnover while improving the chances of retaining their customer base.
• Price skimming —  This approach involves setting a high, premium price for the product initially and then gradually reducing it over time. Manufacturers selling products with unique features or a significant competitive advantage use it. Once other manufacturers start producing similar products, they gradually decrease prices to maintain market share.

In some manufacturing industries (particularly contract manufacturing for engineer-to-order products), a cost-plus pricing strategy is the dominant model because the cost of production is highly variable and unpredictable. This is also commonplace in commoditized industries like steel and paper, where prices are determined at least in part by market demand and supply.

For many industries, however, competitive pricing and price breaks are the norm, and companies take the margin hit to turn inventory quickly. This is common in the automotive and electronics industries, for instance.

Utility Pricing Strategies

Utilities have the unique challenge of (a) offering an essential service, and (b) needing to control demand for that service.

They’re the perfect example of true usage-based pricing, since most utilities charge their customers based on how much water, electricity, or gas they use. The more you consume, the more you pay.

However, to control the demand and maximize the revenue they generate from the limited supply of resources, they also use a time-based pricing model.

With a time-based dynamic pricing strategy, businesses charge more during periods of high usage or demand and less during periods of low usage or demand (e.g., peak vs. off-peak hours).

Telecommunications Pricing Strategies

Telecom companies have a unique challenge in that they offer both products (phones, devices) and services (voice and data plans). Their pricing is a bit of a combination between SaaS and utilities.

Some common telecom pricing strategies include:

• Bundling — Offering discounts when customers purchase multiple services or products as a package deal. Bundle pricing works well when telcos offer multiple complementary products (e.g., phone, internet, and cable TV). It also works well for families, who will all use the same service.
• Metered pricing — Similar to utilities, telecom companies charge for data overages and additional usage on a per-unit basis. For example, if a customer goes over their phone data by 1 GB, they might be charged $10 for that additional usage.
• Flat-rate services — Companies that offer unlimited plans (e.g., unlimited texting, minutes, data) charge a set rate for the service. Internet service providers also use a flat-rate model to charge a set amount for specific connection speeds.

Gradual price increases are also standard practice in most telecom businesses. To get new customers, they run promos to undercut their competition. Over time, as customers become accustomed to the service and potentially rely on it, the prices are gradually increased.

Professional Services Pricing Strategies

The price of a professional service varies wildly based on the industry, company size, and geographic location.

Some popular pricing strategies for professional services include:

• Hourly billing — This is the most common pricing strategy for law firms, freelance consultants, and other service professionals. Customers are charged by the hour, and prices can vary depending on the experience level of the professional.
• Project-based pricing — For larger projects, professionals may offer a fixed price based on the scope of work and estimate, calculated using a sort of flat-rate model.
• Cost-plus pricing — While project-based pricing incorporates elements of cost-plus, some services (like recruitment agencies) bill their clients for the cost of the work plus a markup according to their target margins.
• Value-based pricing — When the perceived value of a service is high, the price of that service can be similarly high. For example, a highly sought-after consultant or expert is using a value-based pricing strategy when they charge a premium for their services because of their reputation and expertise.

Retail and Ecommerce Pricing Strategies

Since retail and ecommerce target the consumer market, they can’t afford to offer highly complex pricing models. They also aren’t able to fluctuate prices based on input costs as much, since customers are more sensitive to price changes.

Some common pricing strategies for retail and ecommerce businesses include:

• Premium pricing — With a premium pricing strategy, a business prices its products or services higher than competitors. This creates an aura of exclusivity or luxury around the brand. Or, it communicates a higher degree of quality compared to competitors.
• Economy pricing — This is the opposite of premium pricing. Economy pricing involves offering the lowest possible price for a product or service and sacrificing margins to gain market share. It relies on continuous product sales to make up for low profitability.
• Competitor pricing — To stay competitive, many retail and ecommerce businesses monitor their competitors’ prices and adjust their own accordingly (Amazon changes its pricing 2.5 million times per day). This can also involve offering price-matching guarantees to customers.
• Penetration pricing — For new ecom products, a common strategy is to offer a low price initially to gain market share before gradually increasing it as demand increases.

In addition to competitive pricing strategies and promotions, retail and ecommerce businesses also use psychological pricing techniques. There are dozens of different psychological pricing tactics, all of which are aimed at influencing a customer’s perception of the value or cost of a product.

A common example is charm pricing — setting a price at $9.99 instead of $10, even though the difference is only one cent. Potential customers perceive the price as being significantly lower than it actually is, since the number “49” is perceived as being closer to “40” than “50.”

How to Determine the Optimal Pricing Strategy

To find the ideal pricing strategy for your business, you need to consider several key factors and conduct thorough market research and competitor analysis.

Let’s take a closer look:

1. Outline all the factors that affect pricing.

Before anything, you have to factor in all the variables that affect whether or not a certain pricing model or amount is both reasonable to your customers and feasible for your business.

Start by mapping out how the following areas will impact your pricing strategy:

• Your target market. This includes identifying your buyer personas, their price sensitivity (willingness to pay), and their pain points. Do they look for the best of the best or are they budget-conscious?
• Consumer demand. How much do customers need your product or service? Low-demand products should have higher margins and vice-versa. Products with seasonal demand require a pricing strategy that takes into account both the high and low demand periods.
• Cost structure. Calculate the total cost of production, including direct and indirect costs such as raw materials, labor, marketing, and overheads. This helps determine your break-even point and desired profit margins.
• Brand perception. Consider how your pricing strategy will impact your brand image. Premium pricing can position your brand as high-quality and exclusive, while lower prices can attract cost-sensitive customers but may impact perceived value.
• Product type and business model. Different products require different pricing strategies. For instance, SaaS products need a subscription model with tiered pricing, while physical products might use a penetration pricing strategy to get to market faster.
• Government policies. When the government enacts a new law that affects an input cost or imposes taxes, these laws can significantly impact your bottom line and, by extension, your pricing.

Also consider your profitability goals. Depending on the stage of growth your company is in, your approach to pricing might change.

If you’re in the early stages, it’s more important to get market share and build a customer base than to make a hefty profit. But, if you’ve established your business and have authority in your space, discounting can actually hurt your business.

2. Conduct market research.

Meeting customers where they’re at is Pricing 101. To understand how your target customers make purchases and what they’re used to, you have to conduct market research.

The best ways to do that:

• Gather data on customer preferences and price sensitivity through surveys and focus groups.
• Examine historical sales data to understand how different pricing strategies have impacted your sales and profitability in the past​.
• Collect and analyze feedback from current customers to understand their perception of value and price fairness.

You should periodically test different prices (through A/B tests or focus groups) to see which ones resonate best with your target customers. When you notice an uptick in conversions (or, for B2B, sales velocity), you’ll know you’re on the right track.

3. Look at your competitors.

More than likely, you already have direct or indirect competitors who have already validated your market and set the standard for the overall pricing structure. You can use their pricing as a baseline to inform your own strategy.

For instance, every CRM vendor charges a per-user or flat-rate fee. That’s what CRM users are used to paying, so you won’t change much there. You’re left with micro-level variables like smaller plans and prices.

Start by listing your competitors off. Then, analyze the features, quality, and prices of their products compared to yours. Also look at their target markets and positioning to understand how they’re differentiating themselves.

A solid example of pricing differentiation is Apple. Its premium pricing creates perception of superior quality and exclusivity. And, for new product launches, Apple often uses a skimming pricing strategy by setting initial high prices and gradually lowering them over time. This approach maximizes revenue from early adopters willing to pay a premium for the latest technology.

By maintaining high prices, Apple continues to reinforce its image as a leading innovator in technology. By reducing them when the hype dies down, the company increases access to their products for a wider, more price-sensitive market (without affecting its overall image).

Indicators Your Pricing Strategy is Working

Achieving price optimization is the ultimate goal. At that point, you’ve found the perfect balance between charging customers a fair price and making enough profit to stay in business.

You know you have an effective pricing strategy when:

• Customer satisfaction is high, with minimal complaints about the price.
• You’re taking an increasing amount of market share from competitors.
• Sales volumes, revenues, and gross profit margins are all on an upward trend.
• You’ve reached your profitability goals within a reasonable timeframe.
• Your pricing reflects your brand positioning.
• Competitors are not undercutting your prices.
• Customer lifetime value is high.
• You have a loyal customer base that say they believe your product is worth it.

If, on the other hand, you notice your sales, retention, or customer satisfaction going down after a pricing change, isolate pricing as the variable of focus. Consider whether the issue was with poor communication of the pricing change, a lack of marketing to back the change, or a misalignment with product value and willingness to pay.

Technology and Pricing Strategies

Modern pricing requires constant evaluation and adjustment as market dynamics, customer preferences, and competitor strategies change.

Three main tools are the driving force enabling this:

• Revenue management systems
• Price optimization software
• Configure, price, quote (CPQ) software

Revenue Management Systems

Revenue management systems leverage historical data, real-time analytics, and predictive modeling to help businesses optimize their pricing and inventory decisions. They’re widely used in the hospitality, airlines, and car rental industries, where demand fluctuates significantly.

Broadly speaking, revenue management works by adjusting prices based on real-time demand fluctuations. In the hotel industry, that means tracking occupancy rates, reservations, demand patterns, and other data to figure out when it’s time to raise or lower prices.

Price Optimization Software

Price optimization software is a sophisticated tool that applies algorithms to customer and market data to determine the most effective pricing strategies. It’s designed to help businesses set prices that balance supply and demand, while maximizing a company’s revenue and profit.

Configure, Price, Quote (CPQ) Software

Configure, price, quote (CPQ) is a sales tool companies use to streamline the product configuration and quote-to-cash processes. But it also enables real-time pricing strategies through dynamic pricing capabilities, product bundling, and guided selling.

On CPQ’s backend, a rules-based engine executes pricing algorithms that determine the most optimal price for a given product or service, based on pre-defined policies (e.g., profitability constraints) and product availability/feasibility (via an ERP integration or other external data source).

CPQ for industries like airlines and travel, hospitality, telecom, and manufacturing have dynamic pricing capabilities, so customers see different prices as they navigate the configurator or a seller configures products from scratch.

FAQs

Andrew Parker

Andrew is a professional copywriter with expertise in creating content focused on business-to-business (B2B) software. He conducts research and produces articles that provide valuable insights and information to his readers.