10 common strategies to set profitable prices in retail
The pricing balancing act
The 2015 movie “The Walk” is about the legendary high-wire walker Philippe Petit and his preparation and ultimate success performing the amazing feat of walking on a tight rope suspended between the twin towers of the World Trade Center. As you watch Petit walk across a 1-inch steel rope 1,350 feet in the air, it brings to mind the complex yet delicate balancing act that retailers must employ with their approach to pricing.
Before selecting a pricing strategy, consider your sales volume and profit goals. Do you seek to maximize sales volume at lower profit margins, or do you seek to maximize profit margins at lower sales volumes? Then, you must analyze market trends, distribution objectives, customer behavior and competitive pricing levels to help determine which retail pricing strategy will best meet your business goals. Ultimately, you need to find the right balance of multiple price strategies to ensure the most significant impact on performance and profitability.
Price optimization can help keep your balance
Just like there is much more to high-wire walking than most people realize, I also consider pricing to be extraordinarily complex. Even entry-level functionality like basic price setting and price maintenance can be challenging for retailers relying on spreadsheets for this activity. You also need to factor in the price elasticity of your products (as this can dramatically affect volumes) and the impact and frequency of price increases due to inflation or changes to trade promotions, incentives and rebates.
So how does pricing optimization work? Pricing strategies such as dynamic pricing, value-based pricing and promotional pricing can help increase revenue while keeping costs in check. You can set optimal prices that maximize profits by analyzing sales data and customer behavior. Inventory levels can be controlled when the right price is set by reducing overstock and understock conditions. Loyalty discounts and promotional pricing can be used to personalize the customer’s experience. Most importantly, price optimization allows you to react to changing market conditions caused by supply, demand or competition.
Inflation impacts the cost of goods as well as the disposable income of consumers, which affects demand. You’ll typically see price increases from manufacturers and suppliers during times of inflation and adjust pricing across all SKUs you sell. Some retailers use “forward contracts” or “futures contracts” to hedge against inflation. Inflation should be viewed as a big red flag that can lead to lower net-profit margins. What are you considering or doing around pricing to help ‘walk a fine line’?
Price elasticity measures how sensitive the demand for a product or service is in relation to its price. High elasticity means it is overly sensitive to price changes. If the price increases even slightly, the volume can decrease significantly and vice versa. However, when a price is inelastic, price changes do not substantially affect demand, and in turn, its sales volume.
Ready, steady, go: 10 common strategies to set profitable prices in retail
Let’s take a closer look at these so we can better understand and simplify how we manage price setting:
Manufacturer Suggested Retail Price (MSRP)
Price the product to align with the manufacturer’s suggested retail price to ensure that a strong profit margin is realized and competitors will use the same price point. This strategy encourages a standardized everyday price within a marketing area. Sometimes the MSRP is pre-printed on the packaging, like potato chips. The product is discounted, but you won’t discount your profit margin due to the common price.
This is where you double the product cost to get the selling price.
Loss Leader Pricing
You sell the item at cost or below cost to drive customers to your store. Some examples include milk or bananas at an exceptionally low price because they are frequently purchased items, and while instore will tend to purchase other products at regular prices that offset the loss.
Cost Plus Pricing
Common pricing strategy that takes the cost and desired profit margin to calculate the selling price. Profit margins can vary widely based on product category and/or selling location.
Does not initially look at the cost but seeks to put a value on the product or service, aiming to charge more for items with a higher perceived value.
Supply and demand will change prices accordingly. If supply is limited or demand increases, the price goes up. For example, if the weather is extremely hot today, you might raise the price of water and soda because the demand for those will increase.
Offer the consumer a temporary discount to encourage a purchase or incremental purchases due to the lower price. A BOGO at 50% off is a promotion that offers a 25% discount, but only if they buy a second product.
Similar to promotional pricing, but the product is a bundle of multiple products, and you only receive the discounted price if you buy the bundled offer.
If you see a product priced at $1.99 and wonder why it is not priced at $2.00, this is an example of psychological pricing. Numbers ending in 9 or 5 are perceived to be a better value.
Penetration Pricing or Introductory Pricing
You set a low price on a new product to attract initial customers and market share. After a period, the price will rise to increase the profit margin.
By now, it should be easy to see why pricing is such a complex daily balancing act. Technology can help with your “walk” much better than old-school spreadsheets, which are still used at many smaller and midsize retailers. Different pricing strategies should be leveraged based on the product, service and your business objectives. Seek to manage 100% of your SKUs and revenue, not just the 20% of SKUs responsible for 80% of your revenue.
Best wishes and happy pricing!