Whether your organization is a seasoned veteran or at a very early stage, your pricing strategy is one of the most difficult, yet incredibly important things you need to have in place before entering the market space. How you price your offerings will obviously affect your bottom line and revenue, but it will also have an effect on your potential customer’s perception. Market-based pricing is a useful method for newly emerging companies and products looking to break into a saturated market.
What is market-based pricing?
Market-based pricing is when prices are set according to current market prices for the same or similar products. When done right, a market based pricing strategy allows a business to set prices higher when a product is initially introduced, and later on align prices with market prices to remain competitive.
Often referred to as market-oriented pricing, it is comparing similar products being offered on the market. The seller then sets the price higher or lower, or even the same as their competitors depending on how well their own product matches up.
An organization is able to price it’s offerings according to market demand. With higher demand, a company may offer higher prices even if similar products have a lower price, thereby introducing competitive price levels.
Product life cycle can also determine market-based pricing. When a product is first introduced, a price point can be fixed due to little or no competitors. As the product life cycle continues, the price needs to be adjusted to reflect the appearance of competitors.
As always though, you shouldn’t get complacent with your pricing. You need to reevaluate, optimize, and be sure your product is adding value.
How market-based pricing is calculated
Calculating your market-based pricing goes as follows: You take the cost of your product, add the market factor price, and add a premium if you believe your product is driving that premium-worthy value.
Market based pricing = cost of product + market factor price + premium
You can also enact a market-based pricing strategy by surveying your competitors’ pricing, and use the average as your own price point.
File sharing platforms Box and Dropbox are great examples of competitors who have enacted market-based pricing. Both middle pricing tiers are within $5 of each other and offer very similar products.
Another example is Disney+ and Netflix, each streaming giant offers a single plan for somewhere between $6.99 and $8.99.
This form of pricing focuses solely on the public information competitors put out, not customer value.
Depending on the industry your organization is a part of, market-based pricing is pretty simple and can be rather prevalent. There is no standard industry average but if you’re in an industry with even one or two direct competitors you can implement a reasonable market-based pricing strategy.
In most industries marketing and product managers will then have to do relatively little research to find a price. It is also possible to make adjustments in prices by following tweaks made by competitors. Keep in mind though, that this gets much more complicated when you’re not comparing equal goods, which is often what happens in the software space.
Real world market-based pricing examples
You don’t have to go very far to witness market-based pricing in everyday life. Restaurants, retail stores, and even car dealerships are real world examples of market-based pricing.
One example of market-based pricing is the cell phone market. There are plenty of options to choose from but most suppliers—Apple, Samsung, Google—take a cue from each other, not only in the features, but also pricing. The latest phones have price points that are very similar.
A phone’s price will also decline over time due to new models or lack of promotion. This would be the company reacting to the market, therefore lowering the price to make it more appealing.
The Automotive Industry
Another example is the car industry. A highly competitive and saturated industry where market-based pricing is very prevalent. Just take a look at the pricing of the latest Honda and Toyota models, they’re virtually the same.
Example bundles from Autogravity.com
Pros and Cons of Market Based Pricing
Market-based pricing is pretty self explanatory. There is no reference to the customer whatsoever. You are making a pricing decision based on your competitors, and how saturated the market is. At what point do you stop and think about the customer?
A market-based pricing strategy can be effective, so long as what you’re selling is congruent with what your competitor is selling. Obviously, if that industry is particularly saturated, market-based pricing is likely to give you an accurate pricing point that will allow you to remain competitive. But you will need to focus on adding superior value compared to your competitors.
It’s also fairly low risk. If you have a solid grasp on your product’s quality, target audience, and cost, this method will most likely not lead to bankruptcy. If it's working for your competitors, it can similarly work for you. Competition-based pricing takes a very similar approach.
Replicating your competitor’s pricing is a lot like copying your neighbor in class. If they make a mistake in their pricing, it’s rather likely you will too. Competitor pricing has a certain stability toward it, but it’s extremely local and can lead to short-term thinking, as well as plenty of lost opportunities when it comes to expanding your customer base. If you mirror your competitor’s pricing, you’re also likely to acquire the same customer base, rather than create your own.
Another negative, and crucial one, is that you’re not thinking about the customer. Your end user should be considered from the very beginning. If you don’t understand your ideal customer, you’re leaving money on the table.
How market-based pricing forgets about the customer
Too many businesses focus on pricing to compete, instead of pricing to show value. Market-based pricing is solely focused on the competition rather than the customer.
As mentioned before, one of the cons to market-based pricing is not understanding your customer base or developing real buyer personas. If you develop an ideal customer, but don’t understand the value you can provide, you could be underselling your product. Understanding your value and your customer can lead to suitably charging a higher price.
Does ProfitWell recommend market-oriented pricing?
Depending on your company and your product, market-based pricing could be a good fit. Nevertheless, we recommend that you always provide value and keep your customers top of mind.
Create a superior product that is well aligned with the market. Often times we’ll see organizations pivot to value-based pricing—pricing a product or service based on how much the target consumers believe it’s worth. Instead of looking inwardly at your company or laterally toward competitors, value-based pricing gives you an outward look.
You want to make sure you price at the value you are worth.