How to price a product: strategies and best practices
What is product pricing?
Product pricing is the act of setting a price for your product.
While this often means sticking to a standard price, it can also involve using an algorithm or calculation to adjust prices over time.
Common product pricing strategies
Common pricing strategies include dynamic, value-based, competitor, cost-plus and penetration pricing.
Dynamic pricing
With a dynamic pricing strategy, prices shift up and down in response to a range of factors, including demand, time, sales channel and purchase volume.
This pricing method is also known as surge pricing, demand pricing or time-based pricing.
Value-based pricing
Value-based pricing involves working out what your audience is willing to pay for your product or service and setting prices accordingly.
Competitor pricing
If you choose this strategy, you need to monitor your competitors' prices closely and shift your prices to match or undercut theirs.
Cost-plus pricing
A simple, straightforward pricing strategy, cost-plus pricing involves adding a specific percentage to the cost of the product to find the sale price.
The percentage — or markup — determines the revenue you earn on each sale.
Penetration pricing
A penetration pricing strategy aims to draw people in when launching a new product or service.
You price the product at a low or discounted rate to start with, then raise the price or return to your 'standard' pricing structure after you've built market share.
What to include in your product pricing
Your product pricing has to include several key figures to ensure prices cover your costs and meet profitability goals.
Add up variable costs per product
Variable costs change as the number of products or volume changes.
For example, unit costs, raw materials, delivery costs and packaging are variable because they depend on your sales levels.
Some costs, like fuel for work vehicles, are variable for some businesses and fixed for others. If you run a food truck, your fuel costs will be similar no matter how much food you sell.
If you're in the delivery business, more deliveries mean higher fuel costs.
Add your fixed costs per product
Fixed costs are expenses that stay the same, no matter the sales volume on a particular day.
For example, rent and utility costs, insurance or mortgage payments, and staff salaries that don’t change with sales or production volumes, are all fixed business costs.
Add a profit margin
Your profit margin is the amount of money you make from each product sold.
While people often talk about profit margin as a percentage of your sales, you can work out the dollar amount to add using a profit margin calculator or manual calculation.
For example:
Selling price = Cost price ÷ (1-profit margin)
So if you want to achieve a 25% profit margin on a greeting card that cost you $5 to produce, the calculation looks like this:
5 ÷ (1- 0.25) = 6.666
This tells you that should sell the card for $6.67 to achieve a 25% profit margin.
How to calculate your product price
While there are lots of ways to calculate a product price depending on your chosen price strategy, the standard cost-plus price calculation looks like this:
Step 1: (Fixed costs + variable costs) ÷ number of units = cost per unit
Calculate the total cost associated with producing and selling the product, and divide it by the number of units produced to find the cost per unit
Step 2: Cost per unit X (1 + markup percentage) = sale price
Example of pricing a product
Let’s say you manufacture shoes. Each pair of shoes costs $30 to produce ($20 in materials and labour and $10 in overhead costs) and you would like to mark them up by 50%.
You calculate their selling price as follows:
30 x (1 + 0.5) = 45
So with cost-plus pricing and a 50% mark up, you should sell the shoes for $45 a pair.
How much profit should you make on a product?
There's no standard profit that you should make on a product, and your profit margin will vary according to the industry that you operate in.
For example, supermarkets and other food and beverage businesses tend to have low margins, typically around 2%, as they make money based on high product volume.
On the other hand, the margin on shoes can be up to 50%.
Product pricing best practices
Best practices for effective product pricing include using inventory software or a pricing calculator to ensure your mark up margins are consistent, testing different strategies, monitoring your competition and sales figures, and using promotions to attract customers at a lower price point.
Use inventory management software
Most business owners don’t have time or inclination to complete a manual calculation for every product they sell.
Fortunately, most inventory management software will do it automatically. You just input the cost per unit, add your chosen margin, and the software will price products appropriately.
Be proactive and test different pricing strategies
A static or fixed pricing strategy may be simple to manage, but it's not necessarily the best option for your business.
Do your homework on different approaches and test them out — it could help you find a more profitable way to price your product.
Competitor research
Even if you're not doing true competitor-based pricing, keeping an eye on your competition is crucial.
You need to know how much your competitors charge and how their pricing structures work so you can understand where your business fits into the market.
Stay on top of your sales data
Regular sales data monitoring can give you insight into how your pricing strategy is working — or not working.
Track sales volumes, profit margins and customer feedback to figure out whether your pricing is too high, too low or just right.
Run product promotions
Promotions and sales events can pull in new customers who may not have tried your product at a higher price point. They can also be a way to test new prices without a long-term commitment.
How to price a product FAQs
What is the product pricing formula?
The basic cost-plus pricing formula is:
Cost per unit x (1 + Mark up percentage) = sale price.
What are common product markups?
No single product markup works for every business — it depends on the value of your product, how much your customers are willing to pay, and what others in your industry are doing.
As a general rule, a markup of 5% or below is fairly low, 10% is average, and 20% or above is high.
What is the difference between profit margin and markup?
Profit margin and markup are two ways of looking at the same numbers.
Profit margin is the percentage of the product price your business makes in profit, while markup is the amount added to the cost of goods to calculate the retail price.
In short, you determine the markup, while the profit margin is calculated after the fact.
To calculate the margin or markup on a single product, you use the same inputs — your sale price and the cost of goods sold (also called your buy price).
Margin = (Sale price - Buy price) ÷ Sale price
Markup = (Sale price - Buy price) ÷ Buy price
You can then multiply by 100 to get a percentage.
Is a 30% profit margin good?
A 30% profit margin is, in most industries, reasonably high.
Generally, a profit margin of 20% indicates a company with healthy finances, while anything below 5% could hinder profitability.
However, as we've seen, some high-volume industries, including supermarkets, have lower profit margins as standard without impacting their business.
Making profits a priority with MYOB
An effective pricing strategy helps maximise the revenue you can expect from your business, balancing the cost of what you're selling with the price your customers are willing to pay.
Getting it right can be complicated.
Not-so-complicated is using technology to simplify your financial record-keeping and sales processes.
MYOB Business helps you do everything from sending invoices and balancing bank statements to calculating sales prices for your products.
Simple, effective and user-friendly, it's a powerful tool for business owners looking to minimise paperwork and maximise profitability.
Disclaimer: Information provided in this article is of a general nature and does not consider your personal situation. It does not constitute legal, financial, or other professional advice and should not be relied upon as a statement of law, policy or advice. You should consider whether this information is appropriate to your needs and, if necessary, seek independent advice. This information is only accurate at the time of publication. Although every effort has been made to verify the accuracy of the information contained on this webpage, MYOB disclaims, to the extent permitted by law, all liability for the information contained on this webpage or any loss or damage suffered by any person directly or indirectly through relying on this information.