By Drew Estes
Pricing a product is more complicated than you might expect. Or rather, if you want to maximize your profit, you can’t just pick a number and start selling. So here’s our step-by-step guide to different product pricing formulas to set your price on Amazon or other physical product platform of your choice.
Before you consider setting your price, you need to understand your market. How niche is your product? How similar is your product to others? Are you selling a commodity, or something unique and new? Does your product give customers extra value that competitors don’t? What’s the typical sales volume and search volume for your category?
The more you research your product and market, the better position you’ll be in to maximize your profits with the perfect price. This seems simple, but few Amazon sellers are willing to put in the time and effort to do it right.
If you still need to perform product research, you may want to try our product and market research tools. (Update: these are now available free with any account).
If you create a private label product, you’ll have an easier time setting a higher price than your competitors. Differentiation is harder, but leads to much better profit margins, as we’ll discuss below.
Meanwhile, if you sell a commodity such as a common household product, you need to find a way to differentiate yourself unless you plan to compete on price. Competing on price tends to be a loser’s game, so avoid it unless you’re a large company whose logistics and supply chain are so finely tuned you can afford to beat out your competitors on price alone. We’ll touch on this as well.
Before you really dive into this, it’ll help to calculate your costs. When you select one of the pricing methods below, you’ll want to make sure your margins are high enough to make it worth your time and money to sell the product.
Factor in your initial startup costs, which will vary depending on which ecommerce business model you’re using. If you’re starting a private label for instance, you’ll have much higher upfront development costs.
Then you need to factor in costs of manufacturing, how to get your products from the manufacturer to FBA, and your Amazon FBA fees. Product photography, branding, promotions, and other marketing costs might also come into play.
This is a lot of data to work with, so if you need some help to simplify your calculations, use our free Amazon FBA fee calculator. For a more convenient experience, you may want to use the Monocle Chrome extension, which has some free bonus tools you might also enjoy.
If you’d like to learn more about the calculator before you try it, watch the FBA calculator demo video.
Remember, costs are not always fixed. When you optimize your supply chain (e.g. increasing order quantity to get lower costs per item, or sourcing from a country with lower import costs) or optimize your manufacturing (e.g. using cheaper materials or a cheaper manufacturer), this optimization will lower your total costs and boost your potential profit margins.
There’s no single formula to price a product. In fact, you can calculate the selling price of a product in one of many ways. While some methods will earn you a higher profit, not every method will be realistic for your budget and time constraints. If you have the time and means to perform deeper market research though, and your product is effectively differentiated from the competition, we highly recommend option #4: Value-Based Pricing.
“The crucial task is coming up with the right profit margin that will maximize the profits without scaring off the customers.”
If you need to brush up on Economics 101, look at it like this: in simple terms, everybody has a maximum price they’ll pay for a product. People who really want the product will often pay a lot more. People who only kind of want it will only buy if the price is low.
This means if you advertise to 100 people at a low price, you might get 50 buyers. If you advertise to 100 people at a higher price, you may only get 15 buyers. However, at the higher price, there’s a higher profit margin per sale, so if you price correctly, your total profit might end up being higher than it would with 50 buyers. But if you price too high, despite the great margins, you’ll push away too many potential buyers.
So the goal of a pricing strategy is to find the sweet spot, where:
Unless you have the capacity for such massive scale that you can set lower profit margins, you should generally strive for a minimum of 50% return on your investment (ROI) for the average cost of the product. An even smarter move is to aim for 100% ROI.
While Apple has a fraction of the annual sales Walmart has, Apple has a much steeper profit margin per sale (21.3% in 2014, compared to Walmart’s 3.6%), so they’re still insanely profitable.
It sounds straightforward, but companies spend millions each year trying to figure out exactly where that sweet spot is for their product. So how can you figure it out? Start by choosing your pricing strategy:
Snagshout’s Amazon FBA calculator is most useful for this method. So if you want to know how to calculate the selling price per unit for your product, especially the minimum selling price that you can work with, the calculator is where you’ll need to start.
To find this price, it takes some time and a flexible budget. It’s a dynamic approach and takes smart data analysis to get it right, but you can set a price easily on day 1 and not worry about all the prep work. It comes down to setting your product at different prices over time and figuring out which price gets you the maximum total profit.
There are a few ways to start, but two of the most common are the Skimming approach and the Penetration approach. With the Skimming approach, you start selling at a higher price and gradually lower it over time. With the Penetration approach, it’s the opposite: you start at a low price (such as one much closer to your product cost), and gradually increase it. From there, you gather your data and (to grossly oversimplify the math) multiply your conversion rates by your profit per sale to see which price point is the best.
This method will be the smartest for most Amazon sellers, because it’s cost effective to establish the price, and has a lower risk of leaving money on the table. Simply look at your direct competition and their prices, and set your price within that range (some sellers just take an average market price and use that). You can play around with different prices here to see what sells best.
With the amount of sales data available on Amazon, you have instant access to your competitor’s prices, and with good sales data you can get a sense for what customers are currently paying for. We’ll plug the Monocle Chrome extension again here, because it gives you free access to a ton of sales data.
For many companies, especially private labels who differentiate their product to add value, this is the best choice. Instead of considering costs or what the market is paying, this method focuses on figuring out the maximum price most customers are willing to pay, also known as the perceived value of your product. This can require a lot of market research, which may help you get to know your target market better and give you valuable insights for how to adapt your product down the road.
A shortcut to find this is to look at the market pricing, but then account for your value-add. First, you look at the maximum price an equivalent product is selling for. Then, consider how your product is different: what features or changes have you made that make the product more valuable to customers? Figure out how much more a customer is willing to pay for this added value, and tack that price onto the market maximum.
No matter which of these four product pricing formulas you use, if you adjust your price wisely you can often end up reaching the same ideal price in the end. However, smart pricing doesn’t stop here. So here are a couple bonus strategies to further increase your profits.
Once you’ve gotten a sense for how to price your product, you may want to develop your pricing even further. Consider options like:
If you sell a product that has a lot of accessories or complementary products, this is worth looking into. Think of how camera buyers may want cases or lenses, or how bikers may want helmets or repair equipment.
Present them with a “Buy these items together and save” option, which will lower your margins per item but increase your average order value, boosting total sales.
Another option, if they may need to order your product multiple times, is to offer bulk savings: let the customers save money if they order multiple of your product.
This is simply a variation of Market-Based pricing, and is found more often in ecommerce. You will usually use repricing software and follow given sets of rules, such as setting your price to always be “the cheapest on the market” or “10% higher than market average” or “$20 less than my cheapest competitor.” The pros and cons for this are similar to market pricing, with some extras.
These pricing strategies can help you a ton, but they’re not static: recurring customers are going to be much more valuable to you than first-timers, for a number of reasons.
While a customer might make their first purchase from you at a low price, once they’re familiar with you and the product quality you offer, they’ll be increasingly comfortable spending more with each new purchase they make from you.
Data shows that the average customer will spend 67 percent more in months 31-36 of their relationship with your business than they will in the first six months. That’s like getting an additional free customer for each repeat customer you hold onto for a few years.
This is why it’s important to build an email list or establish an easy way to reach your past customers. Keep yourself top of mind, offer new products, and upsell them on what they’ve purchased.
It’s the initial customer acquisition that can be tricky, though. That’s why we created Masschat, our automated chatbot for Facebook, offering discounts and rebates to our massive list of shoppers. Masschat helps you get your initial customers, but also builds an email list, so you can retarget past customers with greater price flexibility, allowing you to earn much higher profits per sale, and with lower marketing costs. We’re excited for you to try it!