Though “Raise Your Prices” is common business advice, sometimes putting it into practice is easier said than done. The key isn’t to raise or lower prices in a blanket fashion but to identify optimal pricing for your products and charge that.
And considering a recession is looming, customers could be more price sensitive than normal, which means it’s important to do your research before raising rates on a whim. A pricing sensitivity analysis can help you with that research, so that you can price your products competitively, regardless of the current economy.
What is Price Sensitivity?
Price sensitivity definitions can vary depending on the source, but in a nutshell, pricing sensitivity is the degree to which demand for a product or service changes in relation to price changes.
In other words, it’s the ability or willingness of consumers to alter their buying behavior in response to price changes. How much demand is there for a product at different price points? A pricing sensitivity analysis can help you determine the answer, and find the ideal price for your goods.
How Understanding Price Sensitivity Improves Business Performance
Pricing your products is a balancing act, and finding the sweet spot is integral to your ability to turn a profit. The key is to focus on value, not cost. In other words, what are your customers willing to pay for what you’ve got to offer? That’s your optimal price, and why understanding cost sensitivity is so important.
Pricing is not just about finding the perfect price point. It’s about creating a pricing strategy that meets the needs of your customers and drives your business goals. That guiding strategy can have a big impact on revenue and profits.
A pricing strategy is not enough on its own, though. You also need to ensure your pricing supports the rest of your customer experience. If your prices are too high, you may lose customers. If they’re too low, you may not make enough profit.
Remember, the goal is to charge the optimal price, not the lowest price. By taking the time to find that sweet spot, you’ll be able to increase your profits without driving away business.
Factors that Can Impact Price Sensitivity
Unfortunately, when it comes to pricing products, there’s no one-size-fits-all answer. What you charge will be heavily influenced by your target market, your competitors, and the perceived value of your brand and products.
To determine the best price for your products, you’ll need to conduct your own pricing sensitivity analysis, and assess the costs of your products against the pricing of similar products on the market.
You’ll also need to consider your target market’s willingness to pay for your product. Pricing sensitivity tends to increase as the perceived value of a product decreases. For example, pricing for luxury items is often less sensitive than pricing for essential items.
Put simply, people are willing to pay more for luxury items, perhaps because they’re viewed as status symbols. In contrast, people are less willing to pay high prices for essential items, since it’s often easy to find cheaper alternatives.
Once you have a good understanding of pricing sensitivity, you can develop a pricing model that takes all these factors into account. And, by taking the time to do your own cost analysis, you can ensure you’re charging a fair price for your product, maximizing your profits, and providing real value to your customers.
How to Measure Price Sensitivity
There are a few ways to measure pricing sensitivity. One of the most common is to look at the elasticity of demand. This measures how much demand for a product changes in relation to price changes. If demand is elastic, then small price changes can have a big impact on demand. If demand is inelastic, then small price changes have little or no impact on demand.
Another useful way to measure is to conduct customer surveys to gain feedback directly from your target market. After all, they’re the ones making the purchase! Based on their responses, you can construct a price sensitivity model that will help you determine the most optimal prices for your products.
You can ask your customers questions like:
- What’s your first reaction to the price you see in front of you?
- What factors are important to you when determining if a price is worth it?
- What price point makes buying this product a no-brainer?
- What price point makes buying it a no-go?
- How did you come up with those numbers?
- Assume the price goes to $X. How would that impact your opinion of this product?
- What would have to change about this product to make it worth $X, in your mind?
You could also do a comparison of your product site alongside a lower or higher priced alternative, and ask your reviewers questions like:
- Which products would you be most inclined to buy, and why?
- What’s your initial reaction to the pricing of each product?
- What factors are important to you when determining if a price is worth it?
- What could the higher priced product do to earn your business?
You could even do a test using a control price, compared with variant prices, and ask questions related to which prices are more attractive and why.
Pricing sensitivity analysis can be a useful tool for your business to understand how your customers react to price changes and assist with decisions about pricing, product development, and marketing.
However, always remember that pricing isn’t the only thing that drives demand. Other factors like quality, availability, and customer service do, too. So this type of research should be just one piece of your overall business strategy.
Why More Ecommerce Brands Should Analyze Price Sensitivity
Unfortunately, many brands adopt a “take it or leave it” approach to pricing. However, doing that means you’re failing to realize that pricing is a complex and ever-changing dynamic. It’s so vital to use data to gain a deep understanding of how your pricing affects consumer behavior.
And though your price analysis can take different forms, the ultimate goal is to identify optimal price points for each of your products, and use factors like cost, demand, and competitor pricing to help you develop a pricing model that maximizes revenue while remaining competitive.
How to Increase Your Prices without Alienating Your Customers
Price increases can be tricky, precisely because of price sensitivity. Sure, you need to increase prices to keep up with rising costs and boost earnings, but you risk losing customers if you raise your prices too dramatically. With that in mind, there are a few strategies to try to strike a good balance between price and value.
- Phase in price increases gradually, giving customers time to adjust, ala Netflix. The streaming giant gradually increased its prices over the years, with little resistance from subscribers. Why? Because it’s been a slow, gradual increase, which people tend to respond to better than sudden price hikes.
- Focus on increasing the perceived value of the product or service, rather than the price itself, such as adding new features or improving customer service.
- Bundle your products or services. This way, customers feel like they’re getting more value for their money, even though they’re paying more overall.
- Introduce a new, higher-priced product or service. This allows you to raise your prices without affecting existing customers.
- Use price anchoring. This involves offering a higher-priced option alongside your regular product. Customers will then perceive your regular price as being a bargain in comparison. Hello, Apple, that’s a nod to you! In 2013, the tech giant went with a pricing strategy of “Good, Better, and Best” for its new iPhones. Or more accurately, “Better and Best”. They essentially offered the new, upgraded version at a premium price, and offered the older model with older technology at a lower price, combined with some attractive cosmetic changes.
- Be transparent about price increases. If you explain why prices are going up (e.g., due to inflation or the introduction of new features), customers will be more likely to accept the price hike.
Ultimately, you need to know your customers’ price sensitivity thresholds and tailor your approach accordingly. That way, you can increase your prices without driving them away. Just be sure to use price hikes judiciously, given their inherent risks.
Why Aren’t All Brands Doing a Price Sensitivity Analysis?
That’s a great question. Some business owners might believe the process is too time-consuming and costly. However, it doesn’t have to be, and given the importance of pricing in driving gains, it’s an essential tool more businesses need to use.
After all, pricing is one of the most important aspects of sales performance, but it’s also one of the hardest to get right. By doing a little legwork up front, you can increase your confidence in your pricing strategies and land on a pricing structure that’s right for you, and right for your customers. Win-win, don’t you think?