The internet and the powerful ecommerce tools it brings make it easy for businesses to cut out the middle men and go direct to the consumers they are building products for. This brings increased revenue and decreased overhead to businesses who adopt the strategy. While selling direct to consumers allows businesses to keep more profit, it requires a different pricing strategy than a traditional wholesale/retailer relationship. In this post, we'll talk about ways you can find the perfect price point for your DTC product and how the power of business intelligence can help.
Direct-to-consumer vs. wholesale & retail pricing: how are they different?
Before we can talk about how you need to adapt your strategy for DTC products, we must first look at how this business model differs from the traditional wholesale and retail model. As with most things in business, there are tradeoffs. You get rid of the middle man, but you also get rid of the benefits that they were bringing to you. The two biggest factors are obvious to most business owners:
DTC sales typically have higher margins
Products sell for what the market will bear. Consumers are willing to pay what they consider the value of the product to be. This is the maximum amount that a retailer can sell a product for, so the cost to the retailer must be low enough to make selling the product worthwhile. This means in a traditional relationship, you can't get the full value of the product from the retailer. With DTC pricing, that middle man is gone.
Marketing DTC products is much more expensive
While you have to convince a retailer to buy and stock your product, they will give you a hand in marketing that product to consumers. They do this directly through their own promotional materials, but also indirectly by putting your product in front of willing customers. Absent that exposure, getting eyes on your product takes more marketing expense on your part as you need to find new ways to attract potential buyers.
Common DTC pricing methods
We've talked about what the market will bear, but how do you determine what that amount is? There are a number of pricing strategies that DTC companies employ to determine what to charge their customers. Each has value for specific business needs, and finding the one that best matches your business model is one of the first steps in finding your ideal price point. Three of the most common strategies are discussed below:
Perhaps the simplest pricing strategy, cost-based pricing simply adds a percentage on top of the cost of manufacture for a product. So if a product costs $10 to manufacture, and the company wants 10% profit, they'd charge $11 for it. This is an easy-to-implement pricing strategy but doesn't take any external factors into account. You're leaving money on the table, if your customers are willing to pay more.
This is the inverse of cost-based pricing. Here, the concern is only what the perceived value of the product to consumers is. It's essentially "customer-based pricing." With Value-based pricing you can charge higher than your competitors, it causes you to continually improve your product, and it helps you build relationships because you have to consistently communicate with your customers.
Companies willing to change their prices frequently can take advantage of dynamic pricing. With this method, algorithms are used to determine the optimum price point by taking into account supply and demand data, competitor pricing, and any other relevant market factors that apply to the product. For products where inconsistent pricing is not an issue, this method will bring the highest profit margins. This is especially true when quality analytics and data mining give enough information to make accurate pricing predictions.
Direct-to-consumer pricing: how to find the perfect DTC price point
It's all well and good to read about pricing strategies, but in reality, you'll want to try to take a little from what all of them have to offer. Dynamic pricing isn't feasible for many product types, but that doesn't mean that its attention to the data can't inform your decisions for an initial price point and revisions to it when conditions change drastically enough to warrant them. In order to maximize your profits, you should be taking as many factors as possible into account. There may be some factors that are specific to your business model or your products, but the list of steps below will give you a good starting point in determining your product's optimum price point.
Research your competitors
You can't compete with other companies in your field if you don't know what they're charging. Looking at what the competition is charging will give you some idea of what the market will bear. Don't focus too much on this though, while it is important, it cannot be the sole factor. If you are to be competitive, your product should have features that distinguish it from the competition. How much value do those features add? If you fall short of a competitor’s features, how much of a price cut will it take to attract customers?
Calculate manufacturing costs
You won't be in business very long if you charge less for your products than it costs for you to make them. While it may sound obvious, you need to make sure that you have a solid understanding of all the factors that go into manufacturing your product, so you don't accidentally end up taking a loss on each sale. This includes not only the raw materials, but the costs of the labor and any rent, leasing, or subscription fees you may incur during production. If you don't plan on using dynamic pricing, you also need to make sure that you set your margins high enough to account for any price fluctuations that may occur in the materials you use to produce your product.
Factor in marketing spend
Manufacturing isn't the only cost involved in selling something. Once you have a completed product in hand, you'll need to spend some money on marketing it. Just like manufacturing costs, if you spend more on marketing than you make in profit, you'll be losing money on each sale. It's important that you add money for marketing into the costs. Soft launches can also help set some initial expectations for marketing expenses.
Cross-reference against your SRP and wholesale pricing
Selling wholesale to retailers and switching to DTC sales can give you some valuable insights into what your prices should be. Every business selling to retailers already has a wholesale price, so this is a nice point of reference for your DTC pricing. Simply selling at the wholesale price eliminates any additional profit you can make by cutting the middleman, however. Many businesses also have a suggested retail price (SRP) for their products. If you have one, your SRP can be a big help in determining what your DTC pricing would be.
Use a subscription model if possible
Subscription pricing is all the rage for DTC products these days. This pricing model relies on much lower margins baked into the price, made up by long-term recurring income. This is especially beneficial in the world of software development, as it ensures a steady stream of income to improve upon the product, freeing developers from worrying about having to make huge improvements in each subsequent version to entice users to upgrade. Consumers benefit because improvements to the software come quicker and response to user concerns are more prompt.
Optimize pricing and reduce churn with ProfitWell
As you've seen throughout this post, having data at your disposal makes it much easier to price optimally. Without the power of data, and tools capable of processing that data into meaningful output, pricing is basically down to trial and error at best and guesswork at worst. This is no longer an effective way to run a business. ProfitWell's Price Intelligently service will combine the power of big data and machine learning to help you find the optimum price point for your products.
Price isn't the only factor in maximizing your revenue, however. Our free ProfitWell Metrics tool will give you the analytics you need to track key KPIs that help you reduce costs, optimize marketing campaigns, and minimize customer churn. The result is more money in profit each month. And when it comes to churn, we also have you covered with Retain. Our product will put our advanced algorithms will work for you, helping you reduce churn and win back lost customers.
Selling direct to consumers is easier than ever and, with proper marketing, will provide you with a great opportunity to increase your revenue. The switch to direct-to-consumer sales also requires a shift in pricing strategy. Although there are simple formulas you can follow, the best approach to pricing is one driven by data, rather than simple equations. Because pricing is a key factor in the success of your business, it's worth the time and effort required to get it right. Reevaluating your price frequently will help ensure that you are always charging as close to the optimal amount as possible.