How to Set Prices

So you just launched a new product line and you want to supply your product to local retailers. There's just one small problem - what price do you quote?

This might be a small problem but it is critical - set your price too high and you lose demand to the competition; set too low and you make a loss without even knowing it.

Let's take a look at HOW to set prices. Before you can set prices for your products, you need to know the following:

1. What is your cost of production?
2. What is the least markup you can live with?

Let's look at the first one - cost of production. It might sound like a lot, but your cost of production is really how much it cost you to turn out a unit of your product. Depending on the type of  product, your cost of production may be a little tricky to calculate. Here are the basics for figuring out cost of production:

a.) Material cost per unit product
b.) Labor cost per unit product
c.) Machine cost per unit product

(a) above refers to the total cost of materials required for your product. Let's say your product is a jar of home-made orange juice. Materials required include the jar and fresh oranges. Your cost here is the cost of the jar plus the cost of oranges.

(b) above is simply the total wages paid to workers to produce a unit product. It is a function of the total time taken to produce one product, since wages are paid per hour. Simply multiply the time to produce one product by the wage rate you offer your staff.

(c) above is the cost of machines used in producing a unit good. It is once again a function of time. Most times businesses rent specialized equipment for producing their goods. Such costs are per hour and you simply multiply the time to produce a unit good by this rate to arrive at the machine cost per product.

Once you've figured all this out, you nearly home!

Cost of Production = Unit Material Cost + Unit Labor Cost + Unit Machine Cost

OK. Now that you know your cost of production, how do you figure out your selling price?

This part's easy - you just have to add a markup. A markup is a percentage of this cost price that you add on to arrive at a convenient selling price. But don't get too comfortable here - if you set your markup too low you may be hurting your business; set it too high and people won't buy your product.

It's probably best to aim for the middle. First, figure out your cost of production. Let's say it costs you $43.60 to produce a unit of your product. Let's also assume that the leading product similar to yours costs $60.99 on the shelf at local stores. That gives you a margin of $ (60.99 - 43.60) = $17.39.

This margin is the maximum you can realistically add to your cost price to survive in the marketplace. Since one of the major advantages of a new product on the block is lower prices,  you should knock off say 20% from this margin. This means you can add $13.91, making for a selling price of $57.51.

This means you make $13.91 on every sale of your product as profit. That's how you do it!

Follow me on Twitter @MontyDimkpa and read this blog for more small business tips and tricks.  Remember:

"Fortune favors the smart in small business."


Take Care.

M.