What to Consider When Pricing Products for Wholesale and Retail
Product pricing is one of the most important pillars of marketing. On the face of it, it may appear like this simple, whimsical undertaking every business owner has to go through: get the products, stamp a price on them and presto – all is set and ready to hit the market!
In reality though, it can be a bit tricky to get right, as any accountant will tell you.
Price your products properly and it will have a bearing on how much inventory you move, in turn, laying the foundation for a business that will thrive. Get the pricing strategy wrong and you may find yourself fighting tooth and nail to dig yourself out of a potentially deep hole.
Product pricing probably seems easy because everything we buy has a price on it. That’s how we’ve known it all along. It thus may create this wrong impression that all you need to do is sell the product for more than it cost you and voila – in will come streaming an eternal harvest of profits!
In your head, the math looks all rosy. But it is not until you actually get in the thick of things that you find it not balancing. It is a common pitfall that has tripped many a business owner with very good ideas, and some have ended up folding up.
But it doesn’t have to be that way.
It may be tricky, but determining the real cost of a product shouldn’t be the hardest thing you do in business, whether in wholesale or retail. All it calls for is some forethought into the elements that make up for a reasonable price before you dive into the deep end.
And that’s why we are here.
The Lowdown on Product Pricing
The thing about wholesale and retail pricing is not just about how much something costs. It tells a much bigger story than that.
For one, pricing has direct practical effects on your business – it will either sustain growth or suck the accounts dry. But don’t misinterpret this to mean pricing and profitability are one and the same. There are a host of factors that affect profitability, and pricing is just one of them.
Beyond that, pricing also defines your perceived value. It can be the determining factor between a high customer lifetime value and a low one.
And then there is the issue of pricing strategies. Wholesale pricing strategies (which involve selling to retail buyers) differ from retail’s (a channel that involves selling to end consumers). It is also good to note that there is a wide range of pricing strategies in business. However, no one single formula is guaranteed to fit the many different products out there, nor businesses, or markets.
Another confusing aspect regards margins, of which there are two you need to keep in mind in this case: product margin and gross margin. The former is basically a markup on your product above cost. The latter is the profit for the business as a whole, after factoring in cost of operations.
That out of the way, let’s walk you through the various elements you need to take into account when pricing your products. For ease of clarity, we will split this into two sections: wholesale pricing and retail pricing.
Approaching Wholesale Pricing
Generally, wholesale price is made up of four key elements:
- Material cost
- Overhead costs (including overheads associated with selling the product)
Which should bring up your pricing formula to something like this:
material + labor + overhead + profit = wholesale price
This is the basic structure for wholesale pricing and the figure the retailer wants to see when they ask for your wholesale price.
Often times, a lot of product makers fail to build in all these four areas when pricing their products. Maybe your price doesn’t truly reflect the cost of overheads like utilities and rent. Or you are undercharging for your labor. And even when you add up the overheads and labor and material, you forget to throw in that all important last element: a dash of straight-up profit.
But don’t forget:
profit = growth
Let’s look at how you arrive at each, shall we?
Materials – Determine the cost of every raw material that has gone into each unit of product, including tools. What is the cost – material-wise – of moving from a jumble of loose parts to a finished product? The key here is to know with certainty how much it costs to produce a single unit – as opposed to all bundled together.
For example, if you are in the beadwork business, you should know the cost it takes to produce, say, one necklace. Or armlet. From the beading thread, to the bead conditioner, to the actual beads themselves and everything else that goes into that. Factor in everything such that you have a solid figure that explains the actual cost of materials that go into each individual item.
If you are working with manufacturers, get on the phone and establish the manufacturer minimums, price breaks and lead times firsthand. Spend ample time researching and creating samples.
It is true that creating product samples requires an upfront cost that can be frustrating for most businesses. But you will be glad you did it because it will save you a lot down the road.
Cost of labor – Determine the direct cost of labor it takes to produce one item. And by direct we don’t mean the electricity bill, or salaried supervisor, or cost of lunch. If one employee is paid $20 an hour to piece together one bracelet an hour, then it takes $20 to put together a single bracelet. Pretty simple, no?
An often overlooked but essential aspect of labor is the inclusion of one’s unique talents and depth of knowledge, so something else you should throw in. A basic principle is to just factor this in your hourly cost.
Overheads – This cost includes all the business expenses incurred in producing each product. To avoid confusing it with material costs, think of this as the indirect costs associated with making the products – employees not directly involved with assembling the necklaces, utilities and rent, equipment, advertising, health insurance, fees and so on.
A simple method to establish the overheads of a single unit is to add up all the indirect costs for the month, then dividing by the number of items produced. For example, if your overheads add up to $10,000 and you managed to produce 1,000 necklaces, it means it takes an additional $10 per necklace to cover the rest of your expenses.
Wholesale profit – As obvious as it sounds, the profit issue is often confusing for many wholesalers. Many add less than they should and what this does is leave them short of cash to keep the business running.
When calculating your wholesale price, one way to derive the profit is to multiply your breakeven price by a certain amount (often x2 or x2.5).
wholesale profit = breakeven price x 2 (or x2.5)
But as we said, products and businesses are different and this may not always work for everyone. If that is the case, worry not, there is an alternative approach.
This one involves adding your desired profit to your breakeven price. With this method, you will need to establish your desired profit on each sale. Or, if you like, you can determine your desired profit during a specific timeframe, then divide that by the amount of products you expect to move during that period of time. You can then derive your wholesale price by adding the profit per sale you get onto your breakeven price.
There is a lot of pressure to offer products at throwaway prices which is leading to a lot of brands lowering their price points in order to reflect the market price. The result? A reduction in margins. Instead of adjusting your margins, consider sourcing cheaper materials or find ways to bring down your labor costs.
Unless of course, your product is very well differentiated and doesn’t need to be in the price range of similar products.
Approaching Retail Pricing
Retailers are usually expected to sell their inventory at double the price of the wholesaler, if not higher.
It often goes like this:
wholesale price x 2 (or more) = retail price
This practice is known as keystone pricing, and is just one of many retail pricing strategies; albeit one that reflects a general derivative of the retail price.
Sellers usually release their products with a MSRP (Manufacturer’s Suggested Retail Price) – or RRP (Recommended Retail Price) to our Canadian, English and Australian friends – which matches the keystone pricing expectation. While it may seem like the retailer is out to joyride the manufacturer’s or wholesaler’s hard work, s/he too has to their expenses to cover, never mind slim profit margins to contend with.
Plus, the retailer is an important part of the marketing process – unless you, as a wholesaler, opt to eliminate the retailer from the chain by choosing to market directly to consumers. Even then, you will have to set a different direct-to-consumer price that is different from the wholesale price.
Retail pricing can be a pain, and this is because there is a lot riding on it.
Costs – First and foremost, you need to understand the costs involved in purchasing every product you offer. There are two elements of cost involved: cost of goods and cost of operating expense.
The cost of goods is the amount paid for the product, and it includes other costs like shipping and handling expenses. Operating expense is the cost of running the business, including overheads, payroll, marketing and office supplies.
When fixing the price, the retailer must be able to recover both sets.
Competition – The final price a retailer ends up stamping on the products should be consistent with other players in the market.
If the competition is low or the product is unique with no or few competitors, then a high price can be justified. But if the competition is high, the prices should be kept low in order to effectively deal with the competition.
Which takes us to the next point.
Pricing strategy – There are many retail pricing strategies available to the retailer, with each being employed depending on circumstance(s).
Some common examples include:
- Competitive pricing. As we have mentioned, one may opt to base their price based on the competition’s. You can price below competition, but this approach works best if the retailer is able to negotiate a lower cost of product acquisition. The retailer can also price above competition (prestige pricing), but s/he must be able to justify this cost through, for example, location, exclusivity or unique customer service.
- Multiple pricing. This strategy involves selling more than one item for one price, such as three items at $10. This approach is great for markdowns (and sales events), but retailers have found they are likely to make more sales when using this strategy as consumers want to purchase in bulk.
- MSRP. The Manufactured Suggested Retail Price is a common strategy employed by smaller retail shops to avoid price wars while still taking home a decent profit. Applicable to products which have a suggested retail price, it means the retailer is out of the profit decision-making process. This strategy also means the retailer cannot wield a competitive edge.
Economic conditions – The business owner should also consider the prevailing economic conditions in the market while fixing their retail prices. During times of economic slowdown, the consumer typically has less money to spend, so lowering the price might be a good idea. Businesses should also think of fashioning creative ways to bring in more sales – special offers on some items, discounts etc.
Type of customer – Understand the type of customers who want your product and the part that price plays in their purchase decision. Are they driven by the value they receive or are they after the cheapest price in town? You also need to consider the offering itself – are your current customers buying high-end or run-of-the-mill products? This is information that can help you to not only determine the appropriate price, but also the level of inclusions or service you should be offering, as well as informing you whether or not you are targeting the right market.
The way you set about establishing prices for your merchandise will be one of the most important decisions you make in business. Why? Because it will directly impact on that all-important variable: profit.
Whether you are in wholesale or retail, aim for a delicate balance. A balance that results in a price that is high enough to enable you to achieve a reasonable profit margin, yet low enough as to make your merchandise affordable and competitive.