The Best Pricing Strategy for New Products: Is It Better To Undercharge Or Overcharge New Consumer Goods? 💲
Did you know that it is more common for Australian businesses to undercharge their customers for new consumer products than overcharge them? That’s right, the majority of Australian businesses believe (either consciously or subconsciously) that the best pricing strategy for new products is to go low on the price to penetrate the market and undersell the value of a new offer – even if a new product is highly valuable to customers.
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The Best Pricing Strategy for New Products: Is It Better To Undercharge Or Overcharge New Consumer Goods?
Is undercharging for new consumer products and services right? No, but it’s certainly prolific. We estimate that 80% if not 90% of Australian retailers are setting their new product prices too low. Sometimes the prices for new products are so low that they’re losing money on each sale — the opposite of the best pricing strategy for new products.
Companies like Masters, Harvey Norman, Myer, JB Hi-Fi are all included here. Even if you can’t believe it, almighty Amazon – who we all know, use Everyday Low Pricing as their best pricing strategy for new products to gain market share and share of wallet.
But what many people don’t realise about Big Scary Amazon, is that, for the first 14 years in operation, they were consistently loss-making. That’s right: they made no money. Which means following Amazon’s lead may not be the best pricing strategy for new products – unless of course like Amazon, you’re also backed by bountiful funding, wealthy investors and powerful institutions.
What’s the best pricing strategy for new products?
But if you, like me, are surprised by the extent of under-charging in Australia, you’ll be even more surprised to find that most of these businesses don’t even realise they’re excessively under-charging for new products in the first place.
That’s right; most Australian businesses are blissfully unaware that their pricing strategy is light years away from the best pricing strategy for new products – and that they’ve got a serious pricing problem.
They are undercharging customers because they are using cost plus mark up to set pricing and/or believe that flogging more stuff at low prices will lead to more revenue and more market share – when in fact, this is not necessarily the case…
You see, cost plus market not only ends up with an undercharging situation. Sometimes cost plus results in an un-competitive price point and sales volume declines or zero sales. There’s absolutely no guarantee that low prices will lead to more sales (or increase sales volume). If low prices were all people were interested in, we would:
- All be flying Tiger Airways…
- shopping at Aldi…
- All be driving Hyundai…
- Be staying at the Formula 1…
- All be eating Home Brand…
- We would all buy housewares from IKEA..
Which businesses do you think have the best pricing strategy for new products in Australia?
We estimate that only 10% of Australian businesses have any real clue about how to price according to the market and/or their customers. By this, I mean can move beyond cost plus or competitive based pricing. Then implement more expansive pricing strategies for new products. Strategies such as value-based pricing, customer-focused pricing, and dynamic pricing.
You’ve guessed it: businesses that have a long history of inelastic demand for their products tend to have the ‘best’ pricing strategy for new products. Like some major banks, telcos, supermarkets, fuel businesses and energy companies. That is if the ‘best’ is determined by their profitability and share price alone.
But do they have the ‘best’ pricing strategy for new products or are just really fortunate to have dominated a valuable industry without facing much price competition or change?
Do you think banks and telcos set fair and profitable prices?
Prices that customers are willing to pay for (not prices that customer has to pay because there’s no choice) and prices that represent value for the business and their customers (lowers their costs and increase their revenues) – the definition of the best pricing strategy for new products.
Difficult to say really because up until now most of these businesses (banks, telcos, supermarkets), have had very little competition in their respective markets compared to most other businesses in Australia.
All the businesses that do consistently set high and profitable prices for new products tend to be the top of their respective industries and for many years now. They also share a lot in common: There’s not a lot of players in these industries. Pricing structures and offers are pretty standard. Customers are restricted on choice. There’s a lot of regulatory pressure on pricing.
Which means when there is inelastic demand in Australia, prices tend to be high – which isn’t such a surprise. But what is a surprise is that not only are prices high, they are excessively high – almost to the point that new product pricing is extremely close to, if not smashing the price ceiling.
What impact will pricing through the ceiling have on leading businesses in Australia like, Telcos, Banks, and Supermarkets?
Businesses with a long history of uninterrupted inelastic demand and limited competition (fuels, cigarettes, energy, Australian supermarkets) are now under pricing pressure for the first time.
Customers want more value for their money and are demanding better customer service from their banks, telco operators and supermarkets. Excessively high prices – at this point in time – is likely to have a negative and long term impact on profitability and reputation in these respective industries. It’s possible that the ‘high price’ legacy enjoyed by so few for so long may be over.
Let’s take each of these high-priced industries one by one…
At the moment, Fintech is moving into the transactional banking space. They’re providing customer-focused solutions to improve payments and wallets (a traditionally safe and stable area for the banks for many years now).
Banks are responding by improving their IT systems and centralising transactions to make it easier for customers to make payments. However, their systems are still really quite bad. It’s going to take time and lots of training to ensure staff and customers can use these new systems.
There’s also a lot of charges and red tape. Customers are complaining they’re are not getting the advice they need from the big four banks to decrease leverage. Branch staff are not trained or capable of giving business owners wealth management and investment advice – and this is what customer really want and need.
Telcos’ pricing challenges
The telcos market is also being turned inside out at the moment. T-Mobile in the US has radically changed the global telcos market; offering simple pricing plans for multiple phone lines, including 24 monthly billing credit and phone included – no hidden charges, no data charges, more data and more video content– one of the best pricing strategies for new products in the mobile phone market.
Australian Telcos still fundamentally provide the customer with the core offer. They are still a communications services business, not a technology services business. They offer us stuff we don’t really need or want as much anymore. Like voice and SMS, limited data, limited services, slow internet, limited offer, complicated bundles, upgrade and lots of hidden charges.
Telcos have no choice but to transform their model and operations. Now T-Mobile has done it. It’s a race between who does it first now: Telstra or Optus or perhaps a techy platform-based operator will do it.
Australian Telcos is a space which is going to radically change its pricing strategy for new products. Telcos can no longer get away with charging lots of fees for every single thing – a unit based-price metric is not the best pricing strategy for new products in a transforming Telcos market.
Customers don’t like complex and confusing pricing plans and offers. They don’t want to pay hidden charges for no reason. They don’t like poor customer service whether online or offline. Furthermore, they are switching over to platform-based alternatives which make their lives easier.
To read more read my blog: How CEOs make big pricing decisions.
The major supermarkets (i.e., Coles and Woolies) are also going through a major transformation. Customers are underwhelmed with their:
- warehouse-style stores
- cheap electro lighting
- limited range
- aggressive procurement style with farmers
- and row upon row of the same expensive sugar and fat products
Mainstream supermarket retailing needs to change. People are fed up with zone pricing. All incomes and demographic groups are planning to or are switching to Aldi for the bulk of their weekly shopping. People are now buying selectively from other specialist outlets for their meat, veg and even bakery goods.
Customers are now using online groceries; retailers like Harris Farm, and good quality butchers. Yes, the old-fashioned high street concept once disrupted by warehouse supermarket retailing is making a come back. And from what I can see, the major disruption in supermarket retailing is highly connected to the economic situation in Australia.
You see, traditional Coles and Woolie’s customers no longer have the buying power they once had. The majority of people in Australia are mortgaged to the hilt, with loans for everything and very little disposable income.
The median household in Australia is between $44K-$70K after tax. People may be living in $1-4M dollar homes, but they are also struggling to re-pay their mortgages, loans and buy their weekly groceries. Payments are steady, but people with mortgages and car loans have decreasing disposable income to spend on overpriced, processed groceries from Coles and Woolworths.
The Australia population is changing radically. The economics of Australia is changing. What once was the best pricing strategy for new products is no longer the best. Time to change!
Under-charging customers for new products is not the way to go either.
Good businesses are closing down every week in Australia because they are not charging customers enough for the value they are receiving. And, it seems to me, many businesses are too afraid to trial new approaches to pricing because they are afraid of how their customers would respond or simply don’t know how to do it.
Wherever, I turn to retail, fashion, electronics, B2B industrial, building materials, stationery, office equipment – you name it (even commodity and highly replicable products like pens and paper). Businesses in Australia (both big and small) are routinely undervaluing themselves. In turn, setting prices for new products that are way too low. They are educating their customers to ask for discounts and dismiss all the value they deliver.
Too much money is being left on the table. Businesses are either setting prices slightly higher or lower than their competitors OR using an incremental cost-plus pricing approach.
These are uninformed pricing practices that are costing so many businesses millions if not billions of dollars each year.
And let’s make no mistake either. This wide-scale under-charging in Australia is not down to a kind or benevolent act. All businesses want to make money – and rightly so, it’s the basis of a capitalist system.
The real issue here is that 90% of businesses in Australia don’t even realise they have a pricing problem. They are in effect blindly underselling their new product offerings and losing hard-earned revenue, profit and price positioning in the process.
Is under-charging new products a big deal?
Some people may argue at this point, that under-charging is not such a big deal. All you need to do is sell more stuff when prices are low, or if that doesn’t work, increase prices later on.
But it is a big deal…
A low price doesn’t guarantee people will buy from you on mass. People have to:
- Know of you
- Motivated to buy from you
- Informed about the offer
- Have a problem they want to solve right now
A low price for a new product doesn’t address any of these needs.
- How much will you increase prices at a later date? 2-3%?
- What are you using as your reference product?
- Across which products and categories?
- Will all price increases be the same across the board?
- What if you’re already overcharging on some items and under-charging on others?
- What is your back up plan if customers reject your prices?
When you undercharge a new product offering by just 1 per cent less than the best possible price, you’ve just given away about 8% of its potential operating profit, which means lots of hard-earned money down the drain.
It is no longer an option for big and small businesses to take an undisciplined approach to pricing anymore. Serial undercharging and overcharging is creating more harm to bottom-line profitability than good.
Profitable pricing decisions are based on an expansive rather than an incremental cost-plus approach. Cost-plus and competitive based pricing are just not good enough when you’re operating in a dynamic market and will lead to an undercharging situation.
You need to stop thinking about margin expansion just as a volume play or cost-cutting/reduction exercise. And, start thinking about how you are going to unlock the full value of your businesses and your people.
Tips to set the best prices for new products and services
- Asking customers what they would pay usually results in a price point 10-20% below what they would actually pay. This is because people are naturally biased toward obtaining a bargain or asking for discounts; which is the problem with just measuring ‘willing to pay’ when you set prices for consumer products.
- Setting an excessively low reference price might accelerate a new product’s penetration of the market. But, the resulting lower margins forgoes the future profits; a higher price would have captured once a customer base had been established.
- Setting an excessively high reference price might capture more revenue and margin in the short or even mid-term from a small group of customers. But, you’ll also isolate a large proportion of your customers who are A) not prepared to pay the high price you want and B) don’t see or understand the value that you are offering.
A close look at the Australian retail and consumer market in 2019, tells me; Australian businesses (big and small) across the board need to get more scientific with their pricing. Well, if they want the best pricing strategy for new products; that drive more customer usage and more revenue and more margin that is.
When you set prices too high, you’ll lose revenue and volume. Once you set prices too low, you may not even cover your costs. When you set prices just right (i.e., known as the optimal price), however, you’ll not only delight your customers, you’ll deliver at least 10-15% earning growth (conservative estimation).
To make sustainable and profitable revenue growth (and without losing volume along the way), you need to examine the full price spectrum or range before you set a price for a new product or service.
What is the highest and the lowest prices you could charge before you set a price for a new product? Don’t know? You’ve got a pricing problem.
How can you set the best and most profitable price for a new product without losing volume or revenue? If you don’t know, you need a world class pricing manager to help you work this out.
Don’t want to do any of this? Remember there’s no reason you should be undercharging a new product. Losing your hard-earned revenue, profit and price positioning in the market. Or overcharging a new product and have people accuse you of price discrimination or price gouging.
Pricing Strategy: Organising a business for better pricing decisions
Pricing Strategy: Everyone wants to make the best pricing strategy decisions (i.e. dynamic pricing models etc); and in the heat of the moment (and sometimes without the right skills, support and information and time available), what we actually end up doing is making okay decisions and a fair few mistakes when making a business plan.
How much do these decisions cost us: i.e., in terms of our pricing professionals careers (promotion, compensation), our team (team performance, morale, job loss and redundancy) and our organisations (cost-cutting, extreme values and toxic, silo-ed culture, impact on pricing power)?
Is there some way to avoid preventable pricing mistakes to improve pricing strategy? And, do all good pricing decisions have to lead back to buying very expensive pricing software solutions?
Pricing strategy – latest research
Beshear and Gino propose an alternative solution: Alter business environments in ways that encourage teams and leaders to make better decisions. Thaler and Sunstein call this,” Choice Architecture” whereby the goal is to improve people’s decisions by carefully structuring how information and options are presented to them.
Google uses behavioural economics like “Choice Architecture” to motivate and adapt unhelpful patterns of thought. First they understand the underlying problem leading to unprofitable or unhealthy decisions. Then, they design the behavioural solution, which essentially “nudges” employees in a certain direction without, they claim, taking away their freedom to make decisions for themselves (a matter of debate, I think…).
As people, we like to think that we recognise when we make the wrong decisions. We like to think we know right from wrong in real-time. However, as many big businesses like DOW, Google, DuPont, IBM know all too well: real-time decision making is extremely difficult for us humans and at times unprofitable and destructive for the individual, team and business.
Latest research has shown, for instance, that we are basically biologically pre-wired to not even know ourselves and our weaknesses, mistakes or foibles.
We all (whether we like to admit it or not) rationalise, deny, blame and basically react in ways that push us away from the reality of our mistakes. Our ultimate comfort zone is to think we are righteous and magnanimous in most situations. However, our responses and subconscious behaviours (i.e., try thinking back to your 360 feedback from colleagues and customers for a moment if you are finding this difficult to believe) and even annual financial results can all indicate quite a different picture to the picture of reality we would hold firmly in our heads…
The human brain finds it extremely difficult to rewire itself to undo the patterns that lead to our mistakes.
If you thought learning new things was difficult, research shows that people are actually much better at learning how to make the right decision for the first time than undoing that learning and replacing it with a better way or thought pattern.
Why? You ask. Competitive plasticity research explains why our bad habits and mistakes are so difficult to break or ‘unlearn’. Most of us think of the brain as a container and learning as putting something in it. But, when we learn a “bad” habit that eventually leads to a mistake, it takes over a brain map, and each time we repeat the mistake, it claims more control of that map and prevents the use of that space for “good” habits and “preferred” decisions. And, it is this space or map in our minds that drives pricing strategy in the market (not pricing software tools).
That is why “unlearning” is often a lot harder than learning, and why finding the right people with the right mindset is critical for building high functioning teams. The fewer bad habits a person has the less unlearning needs to occur. Likewise, think very carefully about providing new recruits targeted pricing training and readiness training because it’s best to get team on the right track early, before the “bad habits” get a competitive advantage and destructive team norms set in.
The next question is can we change and overcome our biology? Yes…
We can overcome our cognitive circuit breakers and make much better pricing options decisions in the following ways:
- Work in high functioning price management teams that coach and remind us of our strengths and goals.
- Encourage people with a performance mindset and learning agility to be the best vision of themselves and make this the norm
- Do not beat ourselves up when people are not the right fit for the new vision.
- Support compassionate leaders that know how to create positive environments in which people thrive.
- Choose to identify with ‘healthy’ organisations that value and care about people (not just profitability, hierarchy, or brand value).
- Learn and accept that we need to fail fast and safe to eventually arrive at the right decisions because this is the only way we ‘innovate’ and achieve shared organisational visions.
Click here to download the whitepaper.
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