This is the sixth in a series of posts on the issue of setting prices too low.
Undercharging is a mistake that happens for many reasons:
· Fear of losing sales
· Desire to spread their beneficial product
· Over-developed fear of greed
· Lack of confidence in the product or service quality
· Attempt to undercut opponents
There is a common misconception, it is that one can capture market share by setting the price for a new item, or items from a new company, low enough to grab attention and customers from more established companies.
Low price introductions usually work but a few conditions must exist:
- Prices for existing products are artificially high due to a lack of competition or collusion
- The new product cost less to make, market, and sell than existing products
- The new product technology renders obsolete the existing product
- Sufficient resources to support little or no profit while the marketshare shift changes
Low prices have some significant drawbacks:
- Perceived as inferior or not made as well as higher priced items
- Less room to discount, put on sale, or to offer promotions
- Less room for channel partners (distributors, wholesalers, etc...) to make their margin
- Lack of profits inhibits R&D for the next generation item to be created
- Crimps cash flow, the lifeblood of a business
- It can be difficult to raise prices later
If a product has significant advantages over another, then it should be possible to charge a premium for those advantages. Price setting is an art not a guess. Finding the right price point is a combination of research, awareness, and planning. The level of pain a person is willing to bear to have the product, is a good indicator of the place to start, but it is not the end of the game. This is where marketing makes a big difference. The quality of story will affect the ability of the company to ask for a better price.
Another aspect of the pricing strategy is the ability to work with partner companies. Many companies have some mechanism to sell directly to individual customers. The interaction is very important and it can help the company to make the most profit on an individual sale. Usually, the profits are less than one thinks because many entrepreneurs do not account for their time, shipping, billing, customer service, and so on. If the "retail price" is too low, channel partners, who usually ask for a 40 - 80% discount, will not be able to sell your product for a profit. They have costs that must be covered. They often do the advertising, although in some cases these costs are passed along back to the manufacturer, they have overhead, inventory, and selling expenses. If you don't leave them enough room to make up their costs, they are not going to sell your product.
While it may be tempting to cut prices - consider who is really the loser in the game. If you teach people they should not be paying so much for something, they will remember that when you want to raise prices. If you undercut your own channel partners, you will probably not be in business very long. If people perceive your product as cheap, even if it is well made, they will be less likely to be proud of their purchase. If they are ashamed of what they buy, then you will not get a very good word-of-mount endorsement wave going.
In cases where a large company tries to drive others out of a market, or to take over a market by introducing a product at a loss, there are often laws to deal with dumping. One can argue that in a true free-market this practice should be allowed, however, what market is truly free? Government subsidies that promote dumping go far beyond a free-market. Companies with large reserves on the other hand, have probably every right to defend their territory. They will also reap what they sow, a very price intolerant market.
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