Different types of pricing models

March 2, 2021

Benefits of ‘pricing models’?

For customers, having the ability to compare different prices is one of the most important benefits of purchasing. As e-commerce continues to grow, price comparison is becoming easier by the day, which means customers will increasingly seek the best value they can find.

Having a strong pricing strategy in place can help you better meet customer expectations by putting reason behind your higher or lower prices. Your strategy will create a repeatable process that encourages you to consider how your target audience—and perhaps even your competitors—will react to your pricing decisions. As you refine your tactics, you’ll be able to convert even the most price-sensitive shoppers.

Paired with a great marketing strategy, your pricing strategy may even help you transform the perceived value of your products or services in the long run.

What is the definition of ‘pricing model’?

Pricing your products or services accurately is one of the greatest challenges you are going to face as a business owner or manager. The importance of pricing is obvious, as it has a direct correlation to the amount of money you bring into your company. If you price your products and services too high, you are going to risk driving customers into the arms of your competitors. On the other hand, prices that are too low will leave you with small margins, even if you are able to make plenty of sales. In the end, only companies who are able to find the ‘sweet spot’ for pricing will be able to thrive well into the future.

For that reason, it is a good idea to use advanced pricing models to settle on a price point that makes sense for your market and your products. It doesn’t really matter what you would like to sell your products for – it only matters what customers are willing to pay.

How machine learning and AI help support price models

Setting the right price for a good or service is an old problem in economic theory. There are a vast amount of pricing strategies that depend on the objective sought. One company may seek to maximize profitability on each unit sold or on the overall market share, while another company needs to access a new market or to protect an existing one. Moreover, different scenarios can coexist in the same company for different goods or customer segments.

What is the best and most effective Pricing model and what is best for your business?

We at Symson cannot determine for you what the best pricing model is for your organization. However, we can outline a number of pricing models for you. In this way, we can help you determine which pricing model suits your organization best:

·       Key-value item pricing model

Value-based pricing is a strategy of setting prices primarily based on a customers perceived value of a product or service. Value pricing is customer-focused pricing, meaning companies base their pricing on how much the customer believes a product is worth.

Value-based pricing is different than “cost-plus” pricing, which we will talk about later. Cost-plus pricing factors the costs of production into the pricing calculation. Companies that offer unique or highly valuable features or services are better positioned to take advantage of the value pricing model than companies which chiefly sell commoditized items.

·            Hourly Pricing Model

Hourly pricing is pretty simple for everyone to understand. You bill €X for each hour of work you do for a client. You can sell prepaid blocks of time (10 hours at €X / hour, for example) or you can simply do the work and then send periodic invoices. You can even create some kind of retainer system where the client pays you a set amount each month in exchange for X number of hours of your time.

When quoting for a project with a well-defined scope and time schedule, making use of value-based prices is probably the better option.

For work that does not fit into a project or for ongoing work that will change over time, hourly rates are then often more convenient to use.

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·       Mixed bundling pricing model

Mixed price bundling implies that customers can freely choose to buy one of the two products, both of them, or neither of them.

Price bundling, also product bundle pricing, is a strategy that companies use to sell lots of items at higher margins while providing customers a discount at the same time. With bundle pricing, sellers offer several different products as a package deal, then offer that package to customers at a lower price than it would cost to purchase those items separately.

This model works because price is the most important “p” in the marketing mix. Price is often the most important differentiator for consumers, and when they can get a bundle price on products they love, they will feel like they’ve gotten the best deal possible.

·       Market penetration pricing model

Penetration pricing is a marketing strategy used by companies to attract customers to a new product or service by offering a lower price in the initial offer. The lower price helps a new product or service to penetrate the market and lure customers away from competitors. Pricing for market penetration is based on the strategy of initially using low prices to make a large number of customers aware of a new product and build trust and reputation with potential customers to attract additional customers.

The aim of a price penetration strategy is to entice customers to try a new product and build up market share in the hope of retaining the new customers once prices return to normal levels. Examples of penetration pricing include an online news website offering one month free for a subscription service or a bank offering a free checking account for six months.

·       High low pricing model

High low pricing is a model in which a firm relies on sale promotions to encourage consumer purchases. In other words, it is a pricing strategy where a firm initially charges a high price for a product and then subsequently decreases the price through promotions, markdowns, or clearance sales. With this model, a product’s price alternates between “high” and “low” over a given time period.

The reasoning behind this pricing strategy is to give customers the perception of a bargain and, thereby, to generate high sales during a promotional period. By applying a discount to a product that is priced “high,” customers will be more likely to purchase the product because of their presumption that it is a bargain. In essence, the initial high price establishes the value of the product to customers. Then, when the price is later reduced during a promotional period, the low price is established as a bargain for customers. For example: “get it while it’s a bargain!”.

·       Psychological pricing model

Psychological pricing is the business practices of setting prices lower than a whole number. The idea behind this model is that customers will read the slightly lowered price and treat it lower than the price actually is. An example of psychological pricing is an item that is priced €3.99 but conveyed by the consumer as 3 euros and not 4 euros, treating €3,99 as a lower price than €4.00.

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·       Cost-plus pricing model

Cost-plus pricing, also called markup pricing, is the practice by a company of determining the cost of the product to the company and then adding a percentage on top of that price to determine the selling price to the customer.

This model is a very simple cost-based pricing strategy for setting the prices of goods and services. With cost-plus pricing you first add the direct material cost, the direct labor cost, and overhead to determine what it costs the company to offer the product or service. A markup percentage is added to the total cost to determine the selling price. This markup percentage is profit. Thus, you need to start out with a solid and accurate understanding of all the business’ costs and where those costs are coming from.

·       Premium pricing model

Premium pricing is a strategy that involves tactically pricing your company’s product higher than your immediate competition. The purpose of pricing your product at a premium is to cultivate a sense in the market of your product being just that bit higher in quality than the rest. It works best alongside a coordinated marketing strategy designed to enhance that perception.

Premium pricing is closely related to the strategy of price skimming. However, unlike skimming, it involves setting prices high and keeping them there. Luxury brands have often implemented premium pricing, but this strategy has its place in SaaS, too.

Because premium pricing is sensitive to your company’s reputation, you’ll need to meet a number of conditions before using this strategy. Many brands start to use premium pricing once they’ve developed a large amount of demand. Once your company enjoys brand loyalty and has a correspondingly strong customer base, you can afford to price at a premium, knowing you have an assured set of buyers.

Brand loyalty also engenders strong word-of-mouth publicity for your product. In this case, customer willingness-to-pay will greatly depend on how much your buyers are convinced that other buyers are willing to pay that premium. This is known as building brand equity for your product.

·       Performance-based pricing model

In performance-based pricing, you invoice your customer based on the performance of the product or service you deliver. Such a pricing model might only be used for certain clients and in specific situations as it requires significant agreement (in writing) between you and your client. You must spend the time up front setting guidelines for performance-based pricing models and developing very clear and unambiguous metrics for achievement of the objectives. If you are in a rush, or getting pressure from the client to move forward, do not attempt performance-based pricing models.

Performance-based pricing is insurance. It insures that the seller does not undercharge the buyer. When the final performance of the service or product is in doubt, the performance-based arrangement guarantees that as the seller provides more, it is paid more. Significantly, the buyer also receives insurance that it will not overpay at both the institutional and the individual level. No person or organization wants to pay more for a product or service than it is worth.

·       Customer value based pricing model

In the end, the customer decides whether a product’s price is right. Therefore, from a marketing perspective, pricing decisions, like all other marketing mix decisions, must start with customer value. When a customer buys a product, he exchanges something of value (the price) to get something of value in return (the benefits of having or using the product or service). Therefore, effective pricing should focus on the value the product provides for the customer: Customer value-based pricing. Effective, customer value-based pricing involves understanding how much value consumers place on the benefits they receive from the product. Then, we have to set a price that captures this value.

Customer value-based pricing uses buyers’ perceptions of value as the key to pricing. This model is setting price based on buyers’ perceptions of value. Therefore, the marketer cannot design a product and marketing program and afterwards set the price. Instead, price is an integral part of the marketing mix – it is determined before the marketing program is set.

·       Competitor based pricing model

Competition based pricing is a pricing method that involves setting your prices in relation to the prices of your competitors. This is compared to other strategies like value-based pricing or cost-plus pricing, where prices are determined by analyzing other factors like consumer demand or the cost of production. Competition based pricing focuses solely on the public information about competitor’s prices, not customer value.

A strong competitor based pricing strategy is built on research. When you understand how the top competitors in your market are pricing their products and how that pricing might impact customers’ expectations, you have a foundation for setting your product’s or service’s rates.

Competitor based pricing is a great first step in finding the best possible price for your product or service. Market research gives you a solid base on which to make your pricing decisions. One that’s easy to calculate, quick to implement, and relatively low risk.

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·       Dynamic pricing model

In dynamic pricing, companies and shops continuously adjust their prices in order to optimize their margins on the one hand and their sales opportunities on the other. In this pricing strategy, shops look for the price that consumers are willing to pay at a specific moment.

There are chains of shops where the price of articles is adjusted up to several times a day. These changes are often automatic, based on algorithms and collected data.

Dynamic pricing takes into account the competitor’s price, the time of day or day of the week, demand and stock levels. Competitors’ prices are constantly monitored, among other things with the help of spiders who keep an eye on webshops. But also more abstract factors such as the weather can play a role in determining the best price.

In conclusion…

which model works best for your organization is always up to you to decide. So it is quite a hassle to be able to make a prediction of which model is most suitable in every situation.So why bother trying to figure it out yourself when Symson can do it for you?