This essay originally appeared in Hardware Massive Resources.
A brief intro to “pricing”
You’ve seen “Early Bird Prices” offering 50% discounts for consumer hardware products that are on the cusp of launch. As you browse Amazon in any given category, such as drones, you will see a variety of products with similar specs, but available at a wide spectrum of prices. So, how does any company decide what their product is worth to a customer?
I work at Indiegogo, a crowdfunding platform for new hardware products, and my job is to advise entrepreneurs on their launch strategy. Pricing is a key component of that conversation:
Product Price x Units Sold = Total Sales
The total amount of funds raised is the center of success for a pre-order campaign, because it reflects sales volume, which demonstrates market demand for a product. These funds also provide capital to build a business with. The higher the total funds raised, the more successful a product is.
Word on the street is that pricing as low as possible is critical to selling as many units as possible. Low prices are used as an incentive to consumers, to convince them to buy here and now. But, lowering prices does not always make sense if it results in inadequate funds for production, or if it does not match the positioning in the market.
This article takes a practitioner’s approach to pricing, focused on what’s profitable and feasible, rather than on pricing theory. The best place to start your pricing decisions is based on your own operations and customers.
Your price should mirror your product positioning
Pricing is not always about covering costs of production. At the core of your pricing decision should be identifying which set of customers will ultimately be your paying customers.
These are some types of pricing that might be applicable for your new product launch:
|Pricing type||Economic efficiency||Market penetration||Premium||Monopolistic|
|Example of situation to use||I can produce and distribute this product at a much lower price that my competitors, and match or better their quality.||I want to get this new product into the hands of as many customers as possible. I might be able to recoup margin through value added services, subscription fees, accessories, repeat purchases, or volume.||Customers have trust issues with product quality in this category, and my product promises reliable and transparent practices. We sell more than just a product.||My product’s core technology is unreplicable and patented, so we are the only company who can offer this product.|
|Example product||Onion Omega 2 Linux computer for $5||Crazybaby Air Wireless Earbuds for $99||Z CAM S1 Professional VR Camera for $1,500||OSVehicle World’s First Open Source Vehicle for $19,000|
Common mistake #1: I want to sell as many units as possible, so I will adopt a “low price strategy” for my product.
This is always going to be a mistake for your bottom line. You will not leave enough margin for yourself to effectively pay for marketing and growth efforts, and there will be operational costs that you can’t anticipate right way. During your customer servicing, you might have shipped a product late to a customer, and the customer may want a refund because of the delay. Or, after the product is shipped, the customer may not want the product anymore. Returns are something you won’t be able to accurately anticipate, and will impose financial loss for you. There are other costs that you may not be able to forecast, such as credit card chargebacks, or a shipping price spikes from your service provider.
As a baseline, think of the 20/80 rule: your product should cost 20% of the selling price. Mark up your product 4x to start, and start whittling down your price from there. Keep reading for my take on how to build up your cost spreadsheet below.
Common mistake #2: I have a premium product in a new category, so I can charge a high price point and customers will understand why.
Premium positioning is not achievable right off the bat – it usually requires extensive user education through awareness campaigns to make it happen (this awareness can be driven by the industry at large, by influential parties, or paid for by your own marketing campaigns). Companies who may succeed with this type of pricing strategy are those who are offering an innovative product with massively improved user experience in an existing category, or they are carving out an entirely new category. However, this doesn’t always work, as the customers must be willing to pay comparable sums for substitute experiences.
Let’s imagine that you invented the first robot that can help you fold your laundry at home, and you want to charge $10,000 per unit. Unless you are substituting a service that is worth that amount, or unless customers understand exactly how easy it is to use this product and can imagine how much value this laundry-folding machine will bring to them, you can’t necessarily offer this price to consumers. This will take a lot of convincing through videos, demonstrations, and third-party validation to get the word out, and showcase to users why they would pay the equivalent price of a car for this robot.
Common mistake #3: I will sell my hardware for a really low price, and then make my money by selling the software or monetizing my app.
Think twice about this strategy. Unless the app experience is providing a core feature for the product, it will be hard to monetize the app. In the case of a home security camera, you won’t want to charge much of a premium on top of data storage costs that you’ll incur, since it will make your product unappealing. If you’re selling an IoT wearable product that unlocks gamification features through the app, you may want to rethink the value that is really being offered through the software.
As corny as it sounds, think of this as as analogous to selling pizza: you won’t convince a user to pay for features that they don’t want, just as someone won’t come in and add extra toppings if they don’t want to eat it.
Building your cost spreadsheet
A common mistake that hardware teams make when looking at costs is not accounting for operational and marketing costs. These calculations should be built into your retail price calculation, as these are the funds you will need to continue to grow your business.
Here’s are some of the items you should be aware of that will cost you money. As an example, we’ll imagine that this is the cost spreadsheet for a wireless earbud product that retails for $100:
Wireless earbuds ($100 MSRP)
|Type of cost||What this includes||Expected margin cost||Dollar cost|
|COGS (Cost of Goods Sold)||BoM (Electronic, mechanical bill of materials), including the cost of components and assembly costs. Don’t forget to factor in your fixed costs for tooling and production, especially if it’s your first run and you are cash-tight.||20-30%||$20|
|Shipping & logistics||Costs associated with warehousing your product, forwarding your freight to warehouses, shipping products from your production port to your destination, and shipping to customers’ doors.||10-20%||$10|
|Channel margin||These are the fees you will pay to your channels of distribution, whether it’s third party sales distributors, offline retail stores, or online retail stores.||Variable based on product category and channel|
(Example: typically 10-20% for online retail, and 30%-50% for offline retail.)
|Marketing margin||What you will pay via direct marketing or overall cost to invest in marketing your product. For example, it might cost you||15-25%||$20|
For this wireless earbud product sold at $100, subtracting all of the costs above, the company can expect to net a gross margin of $30 per pair sold, which equals a 30% gross margin:
$30 net margin / $100 retail price = 30% gross margin
Maintaining a 30% gross margin per unit is a great path toward profitability, as there will be other costs incurred as part of the business. This can include hiring new talent, paying office rent, and more.
Offer sensible disounts
So now that you’ve got an idea of what price to set for your product, how do you know when and how much to discount?
Discounting is a bit of an art. Once you’ve accounted for your core costs of business, it’s a matter of making sure that your discounts are valuable to the right people, at the right time. Let’s say that you’re selling a connected ski goggle: you’ll probably anticipate an increase in demand during snow season in December, or when people are planning to ski. Based on that, it might make sense to discount the product to incentivize purchases during the winter season. It may be tempting to discount on Mother’s Day, Independence Day, and every major shopping event, but you should avoid discounting too frequently, or else you’ll train your potential customers to undervalue your product.
Here are some basic principles to consider when deciding when and how much to discount:
|Pricing factors||Why this matters||Considerations|
|Your customer’s price elasticity||Will your customers care if your price is lowered, or does it not impact their purchase decision?||There are some product categories where dropping the price doesn’t necessarily incentivize someone to complete the purchase. A good example of this is a refrigerator, a product that you only need to purchase once every few years, so regular discounts don’t make sense.|
|Frequency of discounting||Seasonality is a big factor for many products. Think about which holidays and market penetration opportunities you have to drive up order volume with promotional incentives.||Don’t provide huge price cuts regularly. It’s tempting to lower the price every holiday. Instead, consider offering free accessories, and save big discounts for big holiday pushes, like Black Friday, or another relevant season for you.|
|Tradeoff between margin and volume||Lowering your price can bring you bigger boosts in sales volume, but at a trade-off of how much cash you can take home.||For any discounting in which you’re going to break even (i.e. not make any money, but not lose money either), be sure that you’re pursuing a worthwhile opportunity. Once you set a low price, it will be tracked online in articles and on deal sites, which will make it harder to increase the price later on.|
We’ve gone through and covered the basics of what to consider when setting your price, how to build up your cost spreadsheet, and then when to change the price for customers.
The above materials are great to consider when you’re presenting a price to consumers, but distributor and B2B pricing (where your customers are businesses) is going to be more complex. Where pricing gets challenging is factoring in the intangibles, such as the marketing value that a third-party channel might bring in, or access to a specific group of customers with a specific retailer. You may consider offering a better price to different partners based on the value they can bring to your brand.
My best advice to you is to experiment with price points, but remember not to sell yourself short. You’ve got a long-term business to build, and you will need the right amount of capital to reinvest into it.
Pricing isn’t just about making money for your business–it plays into the market positioning of your product as well. If you find that you aren’t able to sell units, try to adjust the price as a lever for marketing optimization. Often, consumer hardware can just be too expensive for mass consumers, or the price point isn’t right for a specific audience. Always talk to your customers and see who your paying customers are, so that you can adjust your product for them. Sometimes, it might mean going back to your manufacturer and working on a cost-down plan so that you can lower the price and sell ten times more units.