Settling on a pricing strategy is a key decision that small businesses have to make. The decision is an important one as the prices you set affect your sales, revenue, cashflow and business performance. Pricing also has a direct bearing on customer satisfaction, a crucially important consideration for a growing business. So, how do your customers perceive your pricing?
Bargain or ‘Too Good to Be True’?
The basic rule of economics states that as prices decrease, demand for a good increases. That is, customers are more interested in purchasing lower priced products. This intuitively makes sense as customers are able to purchase more at a lower price. At a lower price, the mental barrier for a customer to purchase your business’ product is much lower, although you might think for a moment about spending $50, you’re likely to think for longer before spending $200.
On the other hand, a low price does not always translate to higher consumer demand. Where a product is selling well below average price, your customers may infer that a product is ‘cheap’, low quality or even ‘too good to be true’. Moreover, a substantially lower price may draw your customers’ attention to downsides of a particular product, even when comparable higher priced products have the same features. Lower prices can put a damper on customer sentiment before a product has even been purchased.
Certain groups of customers are likely to experience ongoing satisfaction from purchasing a product that is inexpensive relative to the market. These customers are often highly pragmatic; while they may be aware of certain shortcomings with the product, they recognise that they have paid a highly competitive price for a good quality, functional product.
On the other hand, low pricing strategies can actually have an enduring negative effect on customer satisfaction. It is well documented that consumers who purchase goods at a discount are more likely to find faults with those goods after purchase. Pricing a product too low may prompt a customer to perceive the product they have bought in a negative light, potentially preventing that customer from purchasing from the same retailer in the future. In particular, pricing a product well below market value may attract customers who have unreasonable expectations and who may have been unwilling to pay closer to market price.
Some products break the mould in another way. Luxury products (also known as Veblen goods) are often increasingly sought after as their price increases. In some cases, the price and scarcity of a product may drive a sense of exclusivity, motivating well off customers to pay the higher price.
The more common situation is where price acts as a signal of a product’s quality. It can often be difficult for customers to find reliable evidence that a product is well manufactured and designed, so pricing is often used as a mental heuristic for quality. Obviously, if prices increase too far then customer satisfaction is likely to drop off – customers are likely to think that the retailer is price gouging or exploiting high customer demand. However, prices act as a signal, so it is important not to drop them too far if they are relied on to create the perception of a quality, desirable product.
Article by Melanie Chan in collaboration with our team of Unleashed Software inventory and business specialists. Melanie has been writing about inventory management for the past three years. When not writing about inventory management, you can find her eating her way through Auckland.