The Best Feeling Ever!
How do you know you have the right product pricing?
One of the most incredible feelings you’ll have when bringing a product to market occurs the first time you stand in a retail store and watch a customer notice your product, stop, pick it up, consider it, place it into their cart, take it to the cashier, and then pay for it. You’ll be filled with a mixture of excitement and disbelief as an absolute stranger takes their hard-earned money and pays for a product that was once merely a thought in your head. It’s intoxicating, it’s addictive, and you’ll want to do it again and again.
However, in the middle of that excitement hides a few agonizing seconds. You’ll see the customer stare at the price and wonder if they should buy it. Your mind races. “Is the price too high? Did I charge too much?” You may even stop breathing until the moment they choose to buy.
That rush of relief is fantastic, until hours later when you lay in bed unable to sleep, worried that your price was too low. Questioning every decision you’ve made and fearing that you’re losing money on every sale.
Do you want to sleep better? The answer is to make sure that you start with the product pricing.
How Do You Determine The Right Product Pricing?
When Porsche decided to enter the SUV market years ago, they assembled a pool of current SUV owners, current Porsche owners, and potential future customers. Every design decision the engineers made was put in front of the customer pool for validation. They’d ask, “Do you want this, and how much would you pay for it?”
For example, after they designed and prototyped the backseat, they asked their customer pool about the cup holders. Customers responded that they wanted more, larger, cupholders, and confirmed that they would pay for them. When the engineers asked about Porsche’s famous six-speed transmission, their customers said they didn’t want it, and that wouldn’t pay for it.
Porsche listened. When they launched their SUV, the Cayenne, it was an immediate success. Within ten years it was the category leader and responsible for half the profits of the company.
It wasn’t a surprise. Porsche had ensured customer demand and pricing using the WTP (Willingness-To-Pay) method. You can do the same as an entrepreneur.
When you first have an idea, talk to your target customers, describe the problem and solution, and then ask them, “Do you want it?” and, “How much you would pay?” Be sure to ask strangers who are most likely to buy your product. Don’t ask cat owners about fish food. And certainly, do not ask your family or friends.
Record customers’ responses and calculate the average price they will pay. Use this calculation to establish your MSRP – Manufacturer’s Suggested Retail Price. In other words, whatever price customers want to pay, is the right price retailers should charge. This is ‘right’ price.
For example, imagine you survey 30 people. Add up all their responses. If the total is $1,497, you would divide that by 30 (number of respondents), and end with a MSRP of $50.
Take a large piece of paper and write out the MSRP in bold numbers. Paste it on the wall, your mirror, or somewhere prominent. This is one of the two most important numbers you’ll use when bringing your product to market. (Leave space to write another number, just as big and bold, underneath it.)
Why Should You Focus On Product Pricing So Early In Developing Your Product?
Shouldn’t the retail price be driven by costs such as manufacturing? No. It shouldn’t. For bootstrapping entrepreneurs, it should be the other way around. The retail price should drive the cost of manufacturing.
When I was at Microsoft, each time we would launch an exciting new product we’d budget millions for advertising, marketing, and promotions; all geared toward building customer desire. If the launch went well, customers would buy the product and feel they were getting good value the price. That’s what they teach in business school, and it works.
However, as an entrepreneur myself, I don’t have millions to spend on advertising and marketing and I’m guessing you don’t either. You and I don’t need to use the business school method. We need to use the ‘make-every-penny-count’ method. The most efficient way to do this is to leverage customers’ previously held assumptions about the value they place on your product, and on the solution it provides.
Think back to the scenario I described at the start of this article. When the customer looks at the price on the shelf and back to the product in their hand, they are comparing the price on the shelf to what they naturally feel is the fair value of your product. If the price is higher than what they feel it’s worth, they may not make the purchase. If the value matches what they feel, then buying the product becomes automatic.
Unlike Microsoft or other huge corporations, you won’t need to spend millions convincing customers that the price they pay for your product is worth it. You’ll start with an MSRP calculated from customers’ existing opinions of a fair price. As a result, your product price will be where most customers already felt it should be – and price concerns will simply vanish.
How Do You Use The WTP Price To Ensure Profitability?
The traditional approach to ensuring profitability when selling to retailers, is to have at least a 7X multiplier. That means your retail price is at least 7 times higher than your raw cost. Today, this applies to online sales as well as in-store sales. Amazon now takes more than 50% of Seller’s money in fees and advertising which means Amazon no longer has an advantage over physical retailers. Both ecommerce and physical store sales channels require at least a 7X multiplier to ensure profitability.
Therefore, if your product has a MSRP of $50, you should be manufacturing at no more than $7.14 per unit. This is your target product cost.
Your target product cost is the second of the two most important numbers in product development. Write this number, $7.14/unit, beneath your MSRP on the paper you stuck to your mirror or wall.
Look at these numbers every day. They will guide you throughout every step of development.
Do you really need a Bluetooth speaker in the backpack you are designing? Do you need vulcanized rubber on the handle of your product, or would TPR work just as well? It’s easy to get ‘shiny-object-syndrome’ when you design your product, search for a manufacturer, or negotiate product prices. Knowing your target product cost will keep you from being tempted by sexy ideas or inflated costs. Whenever you consider new, expensive, changes remind yourself of one inviolable rule; your product cost cannot be higher than $7.14/unit. This is what ensures profitability.
Now Let’s Return To The Moment That You Watch Your First Customer See Your Product And Buy It
This time you are confident. When the customer looks at the tag on the shelf, they’ll see that the price aligns with what they already feel is the product’s value. Their purchase decision is easily made, and they head to the cashier. It’s automatic and it’s the right price. You don’t stress and agonize at all.
When you lay in bed at night, you won’t wonder if you are charging too little, or too much. You’ll sleep like a baby.
When your accountant looks at your books they’ll smile. Your margins are high enough to ensure profits. If you have investors, they’ll toast to your success because of your healthy multiplier. Your marketing manager may grumble because you are not spending millions on ads, but they’ll brag about your sales (and possibly take credit for them).
Most importantly, the retailer will happily reorder your product because customers are buying it. The customers buy it because they think it’s a great product at the right price. And you’ll celebrate every new purchase order.
Using WTP Product pricing, the success you have at the end, starts with your success determining the right price at the very beginning.
Excellent Resources To Learn More About The Right Price
WTP Pricing – Willingness-To-Pay: What It Is & How To Calculate
Shopper Behavior – Price Effects On Consumer Behavior: A Status Report
Porsche Cayenne Development – In Product Development, Let Your Customers Define Perfection
My Book – The COMPLETE BOOK of Product Design, Development, Manufacturing, and Sales
Author: Steven Selikoff is a serial entrepreneur whose products have sold all over the world. His products have been on the Today Show, Good Morning America, Fox Business News, in USA Today, Paris Vogue, House Beautiful, and other magazines. One of his products was also in the gift bags at the Oscars. Steven was formerly a Global Business Manager at Microsoft, and has taught and lectured, across the globe. Most recently, Steven founded the Product Development Academy, a concierge program which guides entrepreneurs through developing and manufacturing products, and getting them onto retailers’ shelves. Steven also hosts regular trips to China to help entrepreneurs identify suppliers, lower costs, and manage factories.
