When it comes to creating a price tag for the product or service, most businesses do not spend a lot of time on it. Set the price equal to that of your competitors or just set it a little higher/lower than theirs to name a few. However, the price of your product or service is not just the cost to the customers but it is also a signal to the customer about the quality of the product. Your price indicates a lot of factors. The cost of your product, the profit margin, the quality, the type of customer you target and more. To explain this ideology better, I will use an example from the concept of Asymmetric information.
Let’s say a customer is confronting 3 products A, B and C. B is your product and A & C are your competitor’s product. All 3 products are basically same but each producer has made his own amendments to differentiate his product. Earlier, only A and C were sold in the market. You just released B in the market, and now the customer has a choice from 3 options. If Price of A is set to $100 and C is $98. What will be your price? An ordinary producer will say maybe $99, or $97 but not any far away from that of the competitor’s.
Now let’s consider the customer’s point of view. To him, there is just one more product in the market. Since prices are pretty much the same, the customer will probably say something like
Customer’s initial thought: “hmm, B seems to be just another similar product around the same price. I better buy A or C, they are more reliable since they have been around for a while and I have used them. I better not take a risk since there is no monetary difference.”
Now let’s say you set the price of B at $85, here is what the customer might think
Customer’s initial thought: “A and C cost around $99 each while this one is much cheaper. Perhaps, this is maybe more of an economical product. I should try it someday to check the quality, or when I do not have extra money.”
Next, consider price of B to be $118
Customer’s initial thought: “B is much expensive than A and C. It may be a more luxurious product. It might even last longer and have better quality. I should save money and try it next time”
In both of the second 2 scenarios, we are assuming that the knowledge about the product is incomplete on the customer’s end. The customer does not have absolute knowledge about either of the product A, B, and C and cannot entirely differentiate them. This is a very practical ideology because the reality is very similar. This is the case with most products and services.
Overview; how should I decide?
These were only a few directions to look at if you are a business entering a market and deciding the price. But what if you are already in the market and have made some changes? Pricing strategy will work differently, but you might want to reflect either your enhanced quality in a higher price or economical cost in a lower price.
In reality, there can be many cases. To name another, imagine your business produces an ordinary product just like everyone else and you are just entering the market. There is almost no way for you to differentiate your product with that of your competitors, what price are you going to choose?
To answer this and much more similar questions while setting the price you have to consider the following:
- Competition: Their product’s quality/specs and prices
- Your previous products or previous form of the product
- Your market state; Competitive? Oligopolistic? Other?
- Your cost of the product and required margin
• Your signal; what are you trying to tell about yourself from that