Pricing Strategy: How to Price a Product or Service

Start with the number you cannot go below

Before strategy, there is arithmetic. Your floor is total cost per unit: direct materials, direct labour, allocated overhead, your own time at a realistic rate, and the cost of the capital tied up in the business. A business that prices above variable cost but below fully loaded cost is funding its own decline, one sale at a time.

This matters most for solo operators, who often price as though their time costs nothing. If you would pay someone $70,000 a year to do what you do, your labour costs roughly $34 an hour before benefits and taxes, not zero. Pricing below that is not a competitive advantage. It is a subsidy you are personally paying.

The three strategies, honestly compared

Strategy	How it works	Best for	Main risk
Cost-plus	Cost per unit + target margin	Commodities, contract work, tenders where cost is the story	Ignores what customers will pay; anchors you low
Competitive	Set relative to market leaders and comparables	Undifferentiated markets with visible prices	Turns into a price war you cannot fund
Value-based	Price from the measurable value delivered	Services, software, specialist expertise, anything with an outcome	Requires evidence of value; harder to communicate

Most healthy pricing is a blend: value-based for positioning, competitive for reassurance, and cost-plus as the floor that stops you from making a bad day worse.

Value-based pricing, practically

The method is to quantify the customer's alternative and price against it, rather than against your cost.

A bookkeeping service that charges $400 a month looks expensive next to a $60 software subscription. It looks cheap next to a $1,800 monthly accountant, a late-filing penalty, or a founder spending nine hours a month on receipts. The job is to make that comparison visible in your proposal, not to argue about the invoice.

Two tools do most of the work:

• The cost of inaction. What does the customer lose each month by not solving this? Quantify it in their currency: hours, penalties, lost sales, churn.
• The next-best alternative. What would they actually do instead, and what does it cost in money and hassle? Your price should sit between your cost and that number, closer to whichever side your differentiation justifies.

Elasticity: when a price cut actually pays

Price elasticity of demand is the percentage change in quantity divided by the percentage change in price. If a 10% price cut produces a 25% volume increase, elasticity is 2.5. Demand is elastic, and revenue rises.

But revenue is not profit. When you cut price, you keep less per unit, so volume has to rise much more than intuition suggests. The useful shortcut is the break-even sales change:

Current contribution margin	Volume increase needed to break even after a 10% price cut
20%	100%
30%	50%
40%	33%
50%	25%
60%	20%
80%	14%

The pattern is unforgiving. Thin-margin businesses cannot discount their way to profit, because the volume required is almost never available. A coffee shop running at a 20% contribution margin would have to double its sales to recover a 10% price cut. High-margin businesses can afford to experiment with penetration pricing, which is one reason software can and restaurants cannot.

Anchoring, packaging and the middle option

Price is judged in context, not in isolation. Three effects are reliable enough to design around.

• Anchoring. The first number a customer sees shapes what feels fair. Showing a premium tier or a large project rate before a standard one makes the standard one feel considered rather than costly.
• The centre-stage effect. With three options, buyers cluster toward the middle. Design the middle option to be the one you most want to sell, and let the top tier exist partly to make it look reasonable.
• Decoy pricing. An option that is clearly worse value than another nudges choice. Use carefully, because customers notice when it is clumsy.

Packaging matters as much as the number. Bundling raises average order value and hides the price of individual components. Unbundling lets price-sensitive customers in at a low entry point and lets you charge more to those who want everything. Neither is universally better; it depends on whether your customers buy by budget or by outcome.

How to raise prices without losing customers

Most businesses underprice for years and then panic. A calmer sequence:

• Start with new customers. Raise the published price. Existing customers stay on their terms for a defined period. Your revenue per new customer improves immediately and nobody has to be told anything uncomfortable.
• Give notice, and a reason. Thirty to sixty days is normal in B2B. The reason should be about the product, not your costs. Customers care about what they get, not your supplier's diesel bill.
• Improve something visible at the same time. A new guarantee, faster turnaround or added service makes the increase feel like a trade rather than a tax.
• Use segmentation rather than a blanket discount. If you must discount for a segment, do it through a channel, contract length or volume commitment, so the discount is earned and reversible.
• Measure churn honestly. Expect some. Losing the bottom 5% of customers by profitability at a higher price is often the best thing that happens to your margin that year.

Review pricing on a schedule

Prices decay. Input costs rise, competitors reposition, and your offer improves without the price reflecting it. Put a pricing review in the calendar at least twice a year and check four things: contribution margin per unit, the distribution of discounts actually granted, win rate in competitive deals, and revenue per customer by segment.

If discounting is routine, your list price is fiction. Either raise the list price and hold it, or lower it and stop apologising. What kills margin is not a low price. It is a high price that nobody actually pays.