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E-commerce platforms like Shopify and Amazon Marketplace make it easy for virtually anyone to sell anything online. So it’s no wonder research shows direct-to-consumer (D2C) sales grew more than 24% between 2019 and 2020 — and that growth is expected to continue. But increased sales also mean more competition within online commerce — even with easy-to-use online tools, there’s still a lot of strategy work that must be done behind the scenes when launching an e-commerce business. Below, we'll detail the different pricing strategies and the pros and cons of each.
Unfortunately, there is no one-size-fits-all option when it comes to setting prices. If you seek to appeal to consumers with low prices, you risk losing profits. But price your goods too high, and you can alienate potential customers who find better value elsewhere. And low versus high is just the tip of the iceberg when it comes to pricing strategies. You also have to consider human psychology, which plays a major role in purchase decisions.
But it’s important to get your pricing strategy right because it impacts nearly every aspect of your business, from cash flow to conversion rate to profit margins. And it may require some trial and error before you settle on the right prices for your brand and its customers.
The best place is with research. Ask yourself questions like:
How much does the product cost to make?
What other costs does your business incur in acquiring and marketing that product?
How much do competitors charge?
How much revenue do you want to pull in?
How much are consumers willing to pay?
The answers will help you zero in on the right strategy. For businesses just starting out, we recommend one of the following seven pricing strategies:
With cost-based pricing, you are setting a price based on the total cost of selling a good — including marketing and shipping — combined with your ideal profit margin.
So if you pay $10 to acquire widgets and another $5 for marketing and shipping those widgets and you want a 25% margin, you would price the widgets at $18.75 using this cost-based pricing strategy. Easy, right?
Pro: This pricing strategy is about as straightforward as it gets — and it doesn’t require any market research. If your costs vary depending on consumption, you could deploy a usage-based pricing that is dynamically updated based on the total cost.
Con: In an era obsessed with customer experience, the cost-based strategy doesn’t consider customer wants or needs.
As the name implies, the competitive pricing strategy establishes price points just below competitors’ prices to stand out in the market. It requires researching all possible avenues through which those brands are selling their products, so you have a comprehensive understanding of the market. Then, once you know the average price of a given product, you should compare this figure to your total costs. The difference between the two is where you should set your competitive price.
Pro: Competitive pricing ensures your products are priced near the market rate. It can also be an effective strategy for sellers who work out deals with their suppliers to lower acquisition costs.
Con: Competitive pricing comes with lower profit margins and relies on high sales volume to sustain revenue. In addition, the strategy is only effective in product categories where consumers are motivated solely (or mostly) by price.
With economy pricing, a vendor sets low prices and relies on these bargain price points to drive sales volume and revenue. It’s similar to the cost-based model — except the profit margin you’re using to calculate price is lower.
Pro: The economy pricing strategy is another simple strategy that appeals to consumers on the lookout for value.
Con: Economy pricing only works for the seller when customers are abundant, and sales are high to make up for the low-profit margin.
This pricing strategy sets prices based on the value a brand’s products have to consumers. To put a number on this, sellers have to first determine their total cost for a given product. Then, they research competitors’ prices for similar products and figure out the median price. The value-based price will fall somewhere between the two, depending on how much extra you determine consumers are willing to pay for the experience of your brand.
Pro: The strategy takes both the brand and its customers into consideration when setting what is typically a fair price.
Con: Value is a loosey-goosey concept and can therefore be difficult for a brand to assign a specific dollar amount to it.
Premium pricing is essentially the opposite of economy pricing. Assess the market and set your price above your competitors to distinguish your brand as a superior alternative worthy of the additional cost. Like the value-based pricing strategy, premium pricing gets into the human psychology of what consumers are willing to pay based on their perception of a brand.
Pro: The premium pricing strategy can in and of itself lead consumers to see your brand as better than competing options.
Cons: If you can’t back up a higher price point with better quality or a better experience, customers may seek out comparable products at better price points.
Some suppliers provide suggestions, which sellers can use to easily set their prices. This, however, is typically limited to more commoditized products and may not be applicable to small businesses.
Pro: It’s a very easy strategy for sellers to implement.
Con: Vendors who use MSRP no longer compete on pricing.
Keystone pricing is another relatively simple tactic in which sellers double the cost they pay to determine the price they charge.
Pro: It’s another simple strategy to implement.
Con: Keystone pricing can result in prices that are far too high for popular consumer goods and far too low for one-of-a-kind products. As a result, sellers need to carefully consider supply and demand when thinking about this strategy.
This is just the beginning of potential pricing strategies. More established sellers may want to consider one of the following alternatives:
If you’ve bought something with a price that is crossed out and replaced with a new, lower price, you’ve seen anchor pricing in action. By using this strategy, retailers are once again trying to show their customers what a great deal they’re offering to encourage sales.
Pro: Anchor pricing can indeed influence consumer perception of value in a positive way and encourage them to convert.
Con: Vendors who artificially inflate the original price run the risk of eroding consumer trust.
To further enhance customers’ sense of value, merchants can group multiple products together for a single price in what is known as bundle pricing.
Pro: With a compelling offering, sellers can increase sales thanks to consumer value perception. Retailers can also sell individual products in those bundles at higher prices thereafter to boost profits elsewhere.
Con: If the bundles don’t drive higher sales, profits will fall.
Similar to the value-based pricing strategy, the discount pricing strategy involves temporary markdowns to attract consumers. This can be an effective means of getting rid of old inventory to make room for new inventory. But if it successfully drives a marked increase in traffic, it could be a sign your prices are set too high.
Pro: This easy-to-implement strategy has been proven to drive sales.
Con: When used too often, consumers may be reluctant to pay full price. It may also affect consumer perception of your brand.
One tried-and-true strategy in the retail landscape is loss-leading: Luring customers with a low price on a high-demand product with the hope they will buy others at the same time.
Pro: It’s a proven retail tactic that makes up for profit loss on one product with higher sales of others.
Con: Once again, lowering the price of a product can change consumer perception of both the good and the brand, which can make it harder to charge higher prices later. You’re also dependent on cross-selling other goods to maintain revenue.
You can potentially influence consumer perception of price with a psychological pricing strategy. Here, instead of pricing a product at $10, you’d price it at $9.95 or $9.99 to make it seem like the best possible price.
Pro: The perception of value can help increase conversions.
Con: It can also be seen as a gimmick.
If you can believe it, this isn’t even a totally comprehensive list of all the possible pricing strategies out there. It is, however, a line-up of the most popular and engaging tactics. Like so much in digital marketing, the right pricing strategy will depend on what exactly your brand does and who you are trying to reach.
In another similarity with digital marketing, there’s no shame in testing and learning. Start with one of the easy-to-implement pricing strategies and see what happens. Your experience there should help you whittle down the list. And if you’re looking for an e-commerce partner on this journey, AdRoll is ready.
Originally published on January 21st, 2021, last updated on November 19th, 2021.