How much to charge for a product or service is a tricky task as there are many ways in which you can approach it. Some people look at the market and see what others are charging, some people go through a testing phase of pricing elasticity, other just seem to make it all up!
But there is one tactic which I strongly think should be avoided, yet people seem to do it, and that is pricing based on what you think people will be willing to pay. This is generally done when you think there is an above average margin to be made, or your customers aren’t savvy enough to understand the cost of delivering the service. But ultimately this approach leads to unsatisfied or disillusioned customers, and eventually you are going to have to reduce costs as competition increases or customer awareness brings more transparency.
I recently experienced this approach whilst on honeymoon in Bali. We stayed in 2 different 5 star hotels on the island, both of them great in very different ways. But what they both had in common was their ridiculous over charging for food and drinks. I had a rough idea of the wages they were paying staff, and the general price of goods and services in the country and could not fathom how they were coming up with their prices. It wasn’t even as if you had to go far for a comparison. 10 mins from each hotel was a local centre where you could buy meal and drinks, of a similar quality to which you could find in the hotel for around 40% of the price. I am also pretty sure even these prices were a fair amount higher than other areas of Bali given the resorts and areas we were staying in.
The only reasoning I could come up with for the hotels pricing policies was the nature of the clientele. The hotels were largely frequented by Europeans, Australians and Asians who are from more affluent markets than Bali. It seemed clear to me therefore that the hotel was simply pricing based on what they thought people would be willing to pay, and had the money to pay, rather than what they should charge based on their in costs and an acceptable margin level.
The outcome of this approach was damaging on two levels. Firstly it left the restaurants and bars relatively empty most of the time as people quickly realised they got more for their money just down the road. Secondly, it left customers such as myself feeling exploited when they did pay for food and drinks, and left a negative opinion of what were, in all other areas, excellent hotels.
I’m not saying you should cut your margins to unmanageable levels to please your customers. Make sure your margins after in costs are enough to keep your business running and make sufficient profits, but don’t feel tempted to add additional margin where unnecessary. Pricing in a more logical and fair way will lead to more customers (as your prices are less prohibitive) and will leave customers happier, leading to return business and recommendations.
In the case of the hotels above, if not for the pricing I would have been raving to anybody who listened about them. But due to their pricing strategy there is always a bit “but” at the end of the description which makes the review less glowing. I am also only likely to recommend the hotels to those with deep pockets or credit card limits thus reducing the word of mouth effect.
Your pricing has major impacts on your business and how well you can scale, whatever market you operate in. So before you start to get greedy with your margins, think about how it might impact your ability to sell, and the message your customers will be putting into the market about you.