Do you ever get tired of trading your time for money? If you are like many of the small business owners I talk to, then you certainly do. You know that the product you are offering is worth more than what you are getting, but you just can't imagine charging more.
That is okay. You have been basing your prices on the cost of the product to you instead of the value that the customer ultimately receives. If this resonates with you, then you may want to consider shifting your buisness model to a "value-based" model rather than a cost-based model.
Sure, those of you that sell physical products may be thinking that this model can only work in the service industry. Well, that isn't the case at all. I plan to show you how you too can start to transition to a value-based model.
In fact, a value-based pricing model can work in any business in any industry.
What is a Value-Based Model?
Value-based pricing is a hack that any business can consider in order to increase their total revenue by charging slightly higher prices for products or services they already offer. This differs from cost-based pricing where the price of a product is set based on the actual cost - if materials cost you $15 and labor cost you $15, then you charge around $35 - $45 for the job.
The idea behind value-based pricing is that a customer might be willing to pay for the value they receive rather than the actual cost of the product or service - if sold to them properly. In a service-based business, value-based pricing could be implemented through the process of formalizing the service into a clearly defined package where the customer is paying for the outcome received rather then the time it takes to complete that service. Alternatively, value-based pricing in a product based business can be implemented by combining multiple products, repackaging of the products, or adding a service to the product.
An Example of Value-Based Pricing
I was recently shopping for a new transmission on one of my vehicles. Unfortunately, I have had to replace more than one transmission and I knew that the costs of this service can vary greatly from one mechanic to another. In my quest this time, I received two quotes from two different businesses, both of which offered a slightly different value.
The first offer would have cost me just over $2,000, but would have included both a new transmission and a three year or 75,000 mile warranty. Their competitor however, offered me a new transmission for about $700 less - at $1,300 - but without the warranty.
The difference between the two pricing models is the value that I receive in purchasing the new transmission. The first company has offered a value-based product where the warranty (a service) is an added value to the core product of the new transmission. Alternatively, the second company is most likely charging based on their cost - the cost of parts and labor.
Applying Value-Based Pricing
The end goal of value-based pricing is to transition the sale so that the customer is paying for the value they receive rather than the actual cost of the product or service. The following are four ways that any business (serviced or physical product) can consider value-based pricing of their products.
Quit Adding Up Your Expenses
The first step in transitioning to a value-based pricing model is to stop thinking about how much the product costs you and to start thinking about how much value the product will bring to your customers. This can often be a huge challenge because we have become so used to adding up expenses and trading time for money.
For example, I recently paid a neighborhood kid to mow my lawn. It was desperately overgrown and as I was out of town, I was willing to pay whatever it took to get it cut before another rain came in. While I would have been happy to pay $35 or even $40 dollars to cut my lawn, the kid charged me $10 because it took him only about an hour to complete. For him, he was making above minimum wage, but he didn't realize the value he was clearly missing out on. As he didn't approach his pricing from a value-based approach, he missed an opportunity to charge for the value he provided.
Add a Service
The second way any business can start to transition to value-based pricing is to add an additional service to their initial value proposition. Just as the first transmission mechanic increased the value of his product, most businesses could consider an additional service - such as a warranty - to add an increased value. Other services could include customer support, product demonstrations, or anything else that complements the original product and adds increased value.
The next way to begin transitioning into a value-based pricing model is to considering bundling products together. For example, a tooth paste seller could bundle complementing products together and sell a comprehensive tooth-health kit complete with tooth past, a brush, floss, mouthwash, essential oils, supplements, a guide that explains tooth-healthy foods. No matter how you do it, you can create a competitive advantage with product bundles.
Focus on the Outcome
In addition to adding a service and building product bundles, a business can transition into value based pricing by focusing on the outcome of the product being offered. In keeping with the toothpaste example previously, a tooth paste maker could establish a 5 minute daily protocol for tooth health. The idea here is to sell the value of the outcome - great tooth health - rather than focusing on the cost of making the tooth paste. In selling, we often hear the phrase “sell the hole the drill makes, not the features of the drill.” This philosophy helps us in transitioning into a value-based pricing model as consumers are often willing to pay much more for a desired outcome - such as great tooth health - than they would for an individual product, like toothpaste.