"How do you price your good or service? It’s one of those questions that you have to have an answer for on day one. And you really, really want to get the right answer," says John Henry, entrepreneur, venture capitalist and host of eBay's Open for Business Podcast. "It all starts back in 2008 when a guy named Terry Kniess did something on The Price is Right that hadn’t been done in four decades. He did something that every business owner can learn a valuable lesson from." What the now legendary Terry Kniess did was "guess" the exact price of $23,473 to win the Showcase prizes in 2008.
What did Terry Kniess and his wife do that entrepreneurs can learn from? Study the data. Once Kniess and his wife decided to attend a Price is Right taping they decided that it would be a good idea to study the show by recording episodes and watching the show looking for clues. "After we decided that that was where we were going to go, I said if we're going to the Price is Right, let's do it correctly," Kniess told Henry. "I said, let's study the show, and we’ll go in the fall."
"We’d sit down every night and watch the show and look at the prizes that were up for grabs that day, and we started making a little mental list, of ‘Oh, this has been on before," said Kniess. "And the first thing we noticed, was that the prizes repeated... and the prices never changed!" That key piece of information was the trick that Kniess used to predict the price of his showcase. "Do your homework. Do your homework. Do your homework."
Lesson One: Do Your Homework
"Do your homework sounds really simple, but it can feel daunting when you’re first starting out," stated John Henry, the 23-year-old Dominican-American entrepreneur and founder of the startup accelerator Cofound Harlem and the podcast host. "How do you go about taking all the work and expense, the blood, the sweat, and the tears you’ve put into your business, and distilling all of that into a single number, the price of your product?" Henry noted that picking the wrong price can be disaterous, even leading to business failure. He says, "Do your homework. That’s lesson one. Everything starts there. The thing is, doing your homework used to take a lot of time. In the past, companies had to send people to actual physical stores all over the country, in order to get information about their competitors’ prices and set a baseline number. Now there are tons of e-commerce sites that can help you find the right price. And one of those sites is eBay."
"I like to think of eBay as sort of like the Kelley Blue Book of everything," stated Zoher Karu, Chief Data Officer at eBay. "We have such a vast number of items for sale. I think it’s around 900 million now, and eBay, of course, has brand new inventory, but it also has, for example, last season’s model. Or it has maybe a refurbished version. The used version. So it’s that breadth and depth of inventory and sales histories that allows us to think of the Kelley Blue Book of everything."
In essence, eBay should be used to validate all of your product price points before you add them to your ecommerce website or on eBay itself.
"If you do it right, you can bear fruit for a long time, and if you do it wrong, which is what happens in most cases, you’re digging out of a hole for a long time," commented Mickey Goodman, who has worked for Kraft and Unilever and has taught classes on pricing strategy at NYU Stern and is now a Professor of Business & Entrepreneurship at Savannah College of Art and Design. Henry points out that most small business owners do something called “cost-based pricing," and it's a really bad idea. "Let’s take it back to when I was setting prices for dry cleaning at my first company, Mobile City," explained Henry. "I called all the dry cleaners in the area, and pretended to be an interested customer. I asked how much for a shirt, how much for a blazer. Eventually, they’d get suspicious and stop giving prices to me over the phone, so I’d get my girlfriend at the time to call. And then, once I knew the price range I was working with, I decided to charge just a little bit more for the service than what it cost me to provide it. In business speak, this is called “cost-based pricing.” And in my case, and lots of other cases, it’s a mistake."
"That’s what people intuitively do because it kind of makes common sense, which is you take your costs and you say 'I’d like to make a 20% profit,' you know, whatever it is," replied Goodman. "And you add 20% to your costs and you say here’s my price."
Henry drives the point home with a personal story that all business owners can learn from:
"If you go the cost-based route, you risk underselling yourself and leaving a lot of money on the table. It can cost you your business. It nearly cost me mine. I remember sitting in the living room with my Pops. I was crunching the numbers. I usually did it every Sunday and I realized I was gaining customers, but actually losing money. And that’s because I simply was not charging enough. I called a mentor of mine, and I’ll never forget what he told me. He said, 'John, you’re delivering five star quality at McDonald’s prices.' That conversation saved my company. The very next day, I immediately raised my prices. And while I lost a bunch of my customers at first, I ultimately found a new clientele that weren’t as price sensitive. They were happy to pay a premium for the service I provided. This brings us to lesson two: don’t set a price based on what it costs you to make something. Instead, set the price based on what your customers think that thing is worth. This is what Mickey calls “value-based pricing.”"
Lesson Two: Use Value-Based Pricing
"It’s based around the concept of you know when people are buying a good or service it's ‘cause it's fulfilling some need for them," stated Goodman. "Now at the most basic level if they're thirsty and they buy a bottle of water the need is that they were thirsty." Henry replied, "So lesson number two: value-based pricing. Price your product based on how much it’s worth to your potential customers."
There is also the question of how to determine value. Jon Wirt, Head of Marketing for Pushd, tests the market for its new products by having people come in and give their feedback on the product, price and value. "How much do you think this costs to buy and what is the max you personally would pay for it," Wirt asked a beta tester in reference to their new digital picture frame product called the Aura.
Tester: "I think something like this is probably worth $150. I would not pay more than more than $225."
Wirt tells the beta tester the actual price is $399.
Tester: "Yeah, that’s expensive for the size. I could see if it bled all the way up to the end, I would consider paying $399, but as-is I wouldn’t pay $399."
"It’s a weird experience to come in and do that," Wirt said. "Like, you came into a beta test, you’re getting paid, you’re using something that’s half finished in a room where I’m videotaping you and writing down notes. It’s like an awkward experience. And then you're like guessing this number. I don’t expect them to get it right."
"I have to ask, you’re framing it like they’re getting the answer wrong," stated Frances Harlow, Branded Content Producer at Gimlet Media and one of this podcasts producers. "But what if you guys are getting the answer wrong and how do you know that you’re not getting the answer wrong?" Wirt replied, "Until you launch, you don’t really know." Harlow added, "What Pushd is facing is a problem that lots of business owners face. When we consumers are presented with a product, we naturally and immediately make mental comparisons. We ask ourselves, 'What is this thing like?' And then we form our opinion about what the price should be. And in the beta testers case, I got a clue about how this works when Jonathan brought up the iPad, and the tester described his mental comparisons."
Lesson Three: Manipulate Your Comparisons
"And this challenge that Pushd is facing gets to our third lesson," stated Henry. "As a business owner, you have to manipulate your comparisons." Henry elaborated, "Position your product in the marketplace so when people inevitably compare it to similar products out there, they’ll feel like they’re getting a good deal."
"What you want to do is differentiate your offering so much that there is no straightforward comparison," added Ruth Bolton who is Professor of Marketing at the W.P. Carey School of Business at Arizona State University and formerly worked in R&D at Verizon for years helping them with their pricing. "You have something that’s somewhat unique."
"There’s always, in a sense, a competitive offering in that there’s some substitute that the customer will make if they can’t buy the service or the product that you’re offering," said Bolton. "So it really comes down to kind of benefits per dollar."
"One other point about manipulating comparisons -- or the kinder, gentler way of saying it: creating favorable comparisons," added Harlow." One way to position your product in the marketplace is to literally position it, in the right environment. So with Pushd, they want you to think “fancy home decor” when you see the Aura."
"Well if they want to do that, it might just be helpful to put them in a “fancy, home decor” showroom with the Aura, not a startup's temporary office space," said Henry. "And there’s one more thing Ruth would do differently, she doesn’t ask open-ended questions about prices, the way that Jonathan does at Pushd. What she would do is ask each customer a single yes or no question." Bolton responded, "Would you buy it or not and then you do it with somebody else, would you buy it or not?"
"You don’t push back and you don’t ask how they arrived at that number," said Henry. "And that’s because it’s more realistic. With pricing, it’s almost always a yes or no question. Would you buy it or not?" Bolton added that "you start varying the price and so you can kind of sort of start to figure out, what the shape of that demand curve is."
"The shape of the demand curve is what we’ve been talking about this whole time... how to set a price," said Henry. "There is no guaranteed way to pick the perfect price, but there are concrete steps you can take to get close."
John Henry's four steps to picking the perfect price:
1. Do your homework. The good news? It’s now easier than ever with all the data we’re gathering from e-commerce sites, like eBay. That will give you a range of prices.
2. Once you’ve found that range, be bold. Pick a number that reflects the value you bring to your customers, not just your own production costs.
3. Create favorable comparisons. Position your product so that customers feel like they’re getting a fair deal, and one way to position your product is to pay close to attention to how you’re physically positioning it.
4. Be prepared to repeat steps one through three. Prices change. They’re dynamic. That’s part of why they’re so hard to set in the first place. Even on the Price Is Right. After Terry’s spectacular win,, the show’s producers switched it up. The show now features all-new prizes, and guess what? Their prices change.
Listen to the full podcast here:
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