How to price a product competitively: a small business guide

A smart solution is to use pricing strategies and research to inform your decisions. By looking deeper into the factors that affect costs - including small business expenses and appealing to your target market - you can create informed prices with confidence. If you’re struggling to know where to begin, our guide looking at how to price a product will help. Learn which strategies are right for different businesses, useful formulas for easier calculations, and see pricing in action with our small business examples.

How to price a product: a quick overview

Your pricing affects your small business in numerous ways. The right price considers profit, attracting the right demographic and staying competitive. It’s a difficult balancing act to get right. To help you learn how to price a product correctly, we’ve covered the key steps in this guide, including:

• What to consider when pricing competitively.

• Different pricing models.

• Pricing strategy formulas.

• How to price a new line of products.

We’ve also included examples of small business product pricing, showing how different strategies are better suited to different business plans. If you offer services instead of products, head over to our guide on how to price a service for more advice. 

Why is product pricing important for small businesses?

Whether you’re starting a side hustle selling homemade biscuits or opening a local grocer, the price of your products will directly impact the success of your small business. To understand the importance of pricing a product, let’s take a look at why cost is so important.

Purchasing power

Price has always been one of the key factors that influence sales. If your products are priced incorrectly, you could see more customers choosing competitor’s products instead of yours. Almost 60% of UK consumers state that due to cost of living increases, lower prices influence the businesses they buy from and the products they purchase. 

Market positioning and perception

Pricing can influence audience perceptions of your goods and establish your market position, helping you target certain demographics by appealing to their budgets. It’s important to remember that, because of this, aiming for the lowest price possible isn’t always the best strategy for your small business. For example, if you’re targeting the sustainable market, 80% of consumers are willing to pay more for green credentials and locally sourced goods. A higher price can also indicate higher quality, reflecting on the premium materials used in your products. 

Profit margins

Aside from securing sales and appealing to your target audience, learning how to price products will also impact your finances. This is due to your profit margin.

A negative profit margin occurs when:

• Products are priced too low.

• You’re not making enough sales.

• Products are excessively discounted.

• Inventory issues (overstocking and understocking).

• High volumes of returns and refunds.

It’s important to your business success to maintain a positive profit margin. Price your products too low or struggle with sales and you could find it difficult to cover basic business costs.

What to consider when pricing a product competitively

Pricing a product competitively is crucial to securing sales and creating a healthy profit margin for your small business, but it can be difficult. To guide your selling price calculations, here are some key considerations to remember:

Target audience

Managing client expectations is key when pricing products.

Let’s say, for example, that you start selling digital calendars designed for university students. Students aren’t typically known for having a large disposable income and, as it’s a digital product, they may be looking for a budget-friendly alternative to a physical calendar. Lower costs ensure you’re appealing to your audience and marketing your products competitively. On the other hand, you might be starting a business selling premium coffee at a notable London market. In this case, your audience may be more willing to spend above-average market rate for your product as it promises better quality and the added convenience of shopping at a city market. By understanding who your target market is, their budget and how much they typically pay for similar products, you’ll be in a better position to price your products competitively. This will help you meet customer expectations and stay aligned with the market while improving sales potential.

Competitor prices

To price a product competitively, you need to understand your competitors. Knowing how much a competitor is charging for similar products gives you valuable insight when learning how to calculate selling price, including:

• How much customers are willing to pay for similar products.

• Price fluctuations between business models and differentiating features.

• Costs specific to your local market.

For example, if you start a local cafe, you know that the average price of an Americano is £2.88. After conducting competitor research, however, you see that in your local area, the price of coffee is much higher. Now you can look further into why coffee prices are higher than average (it could be the quality of the beans used, the locations of the cafes or due to high demand). This can then influence your pricing, with the possibility to undercut using penetration pricing or perhaps earn a higher profit margin by matching competitor prices. 

Knowing your costs

Your product pricing should cover your costs to create a profitable business. This includes the cost of goods sold (COGS) and other expenses generated from business operations, such as utility bills. If you’re learning how to start an online business selling chemical-free household cleaners, you may need to consider your fixed costs. Fixed costs refer to the outgoings that remain the same regardless of how much you produce or sell, these include:

• The cost to produce and package the product.

• A monthly website hosting subscription.

• A yearly email and domain name fee.

You might also have variable costs that fluctuate depending on how much you sell, including:

• Supplies for packing your cleaners.

• Storage and shipping costs.

• Paid advertising fees.

Don’t forget to account for taxes when pricing a product. 

• Sole traders, for example, will need to pay taxes on gross profit (profit after expenses) when submitting year-end accounts. 

• When setting up a limited company you’ll need to understand corporation tax.

Future discounts and promotions

If you plan on using discounts and promotions to advertise your business, your product cost formula (the formula you use to calculate a selling price) should leave room for these reductions. For example, if you sell soaps at a local market, you might encourage more sales by offering a 10% discount for every 5th bar purchased. To avoid losing money on the 5th bar, you need to ensure that each bar is priced to generate more than a 10% profit. This way, you maintain profitability while offering attractive deals to potential customers. 

Avoid pricing yourself out of the market

Pricing yourself out of the market occurs when your product prices are too high or too low. When your products are priced too high, you may lose customers to competitors selling the same product at a lower cost. When products are priced too low, customers might question the quality and the reasons why it’s so cheap. This could potentially harm your business’ credibility and reflect negatively on your brand image, putting your small business at risk of losing the trust of potential customers. This is why research and competitor analysis are crucial to pricing correctly. By understanding your market and audience, you can price competitively and align them with your small business goals.

Market conditions

When learning how to calculate the selling price of a product, consider market conditions including:

• Supply and demand for the product.

• Current consumer spending habits.

• Consumer spending predictions.

• Inflations, recessions and unemployment rates.

Let’s say you’re starting a business from home selling refurbished bicycles. You know that second-hand goods are in demand due to increasing awareness of sustainability. You can therefore price your bicycles slightly higher than you would have done a few decades ago when there were fewer environmentally-conscious consumers. Cycling events, like the Tour de France or the Olympics, can also cause an increase in demand for particular products, like road bikes. There could be fewer second-hand road bikes available during times of peak demand so you can increase your prices accordingly.

Business identity and positioning

When understanding how to work out a selling price don’t forget to consider your brand’s image. Merchants looking to present an affordable brand identity should consider pricing lower to attract price-sensitive consumers. If you’re developing a high-end, premium business, higher prices can amplify your luxury image. It’s also important to consider market demand, industry standards, and customer expectations to make sure you remain competitive in your market. Use your prices to reflect your identity to strengthen your market position and ensure you attract the right demographic to your business.

5 pricing models worth considering

There’s no shortage of strategies and formulas to help when pricing new products. However, when pricing new products, you need to add applicable taxes and VAT on top of your chosen formula. To give you an idea of the different pricing models you can choose from, we’ve put together the 5 most common strategies for small businesses.

Penetration pricing

Break into an existing market using penetration pricing. This method involves setting lower prices when you launch your small business to slightly undercut competitors. By offering cheaper products, you give customers a reason to choose you over a more established brand. Once you’ve started building customer loyalty and developing a positive reputation, you can begin increasing your product prices and boosting your profit margin. Penetration pricing is ideal for start-ups looking to launch a product in a competitive marketplace, such as clothing or skincare markets. It’s important to note that this method requires careful cash flow and working capital management. With less gross profit to cover costs, you’re likely to be more reliant on your income to pay your business expenses. To avoid going into an overdraft or missing utility payments, keep a close eye on your accounts.

Keystone pricing

Designed for brick-and-mortar shops, keystone pricing involves doubling the initial cost of your product. This provides a simple solution for how to price a product with a calculation. Simply multiply the wholesale price by 2. For example, if you’re selling body lotions in your shop, you might pay £5 per bottle. Using the keystone pricing model, you’d set a retail price of £10 per bottle, creating a 50% profit. This method is designed to cover the costs of running brick-and-mortar shops while leaving you with a healthy profit margin. 

Cost-plus pricing

Also known as markup pricing, cost-plus pricing is popular among merchants with a clear knowledge of their small business expenses. To calculate cost-plus pricing, you need to work out the total expenses that go into the product, including material costs, labour costs and operational costs (overheads). You then add your expected markup to the product, creating a profit for your small business. To calculate cost-plus pricing, follow the formula:

Competitor pricing

If your products are similar to those your competitors are selling, you can use competitor pricing to strategically position yourself in the market. This model involves using competitor prices to guide your pricing strategy. You have 3 options when looking at how to set a price for a product using competitor pricing:

• Set your prices below the competition.

• Set your prices in line with the competition.

• Set your prices above the competition.

For example, if you’re opening a cake shop, you might use competitor research to find out what similar businesses are charging for a slice of cake. To gain a competitive advantage, you can charge slightly less. This is especially useful if you have additional products, like hot drinks, which have a higher markup and are frequent add-on purchases.

Value-based pricing

If you’re looking at creative ways to make money, you might develop an entirely new product or business model. In these situations, value-based pricing can be useful. Value-based pricing is based on how much a potential customer is willing to pay for a product. If you have a unique product, customers are likely to see more value because there’s less supply. To correctly determine value-based pricing, it’s essential you learn how to do market research for a small business. This includes understanding the demand for your product and collecting target audience feedback to analyse how much different demographics are willing to pay.

Calculating the average selling price

When looking at how to calculate the selling price of a product, there are formulas you can use to make pricing simpler. Start by identifying how much it costs to produce your products using the formulas:

Once you understand your costs, you can use a simple selling price calculation to work out the price you should be charging per unit:

This uses the same strategy as cost-plus pricing. If you’re unsure of your net profit margin, you can also use the formula:

These formulas are a straightforward way to calculate a product price that will help you cover your business costs.

Pricing a product in 8 steps

Pricing models and formulas are a brilliant way to calculate average selling prices. There are a few more steps involved for a more accurate pricing strategy. From market research to pricing reviews, learn more about how to set a price for a product with these 8 key steps:

Data collection on costs to the business

A successful pricing strategy starts with understanding your COGS. If you handmake your products rather than buying them from a supplier, you’ll need to identify the costs of your raw materials. For example, as a low-cost business idea, you might sell handmade candles. You’ll have costs for:

• Wax

• Scents

• Wicks

• Jars

Break these costs down for each unit. Let’s say that to make 10 candles, you know you use:

• 1kg of wax: £10.

• 2 bottles of essential oils: £8.

• 10 eco-friendly wicks: £1.

• 10 branded glass jars: £12.

To work out the total cost for 10 candles, you’ll add these expenses together for a total of £31. You’d then divide it by 10 to find your per-unit cost, which would be £3.10. You’ll also need to consider the fixed costs (overheads) of running your business, which we mentioned earlier in the article. Be sure to track any supplier expenses and record all of your business transactions for a clear record of your overheads.

Target market research

When it comes to how the selling price of a product is determined, target market research is key to understanding:

• How much customers are willing to pay (value-based pricing).

• Customer sensitivity to price changes.

• How many products you sell or are likely to sell.

These factors help you calculate profit margin formulas based on target sales and create customer-centric prices that appeal to your target market. There are a few ways you can collect insights into your target market. For start-ups and small businesses, these include:

• Surveys with your target demographics.

• Free online research.

• Paid for access-only research.

For merchants who are already selling products, you can also gain insights from your existing customers. Test different pricing strategies and record how sales fluctuate, look at your highest-selling products and try out price bundling (reducing the cost when multiple products are bought together).

Competitor comparison

Learning how to do a competitor analysis is an essential step when pricing a product. The simplest way to start is by visiting competitor businesses. If you’re a local brick-and-mortar cafe, for example, take a look at other cafes in your area and make a note of prices for similar products. For online businesses, carry out a Google search to find your closest competitors and their current pricing. Online marketplaces, including Amazon and Etsy, can also give you a comprehensive overview of prices for similar products.

Set your pricing goals

Pricing goals make decisions around product pricing simpler. For example, if you’re looking to sell higher volumes of products, you know that price bundling is a smart way to increase sales. If your goal is to create exclusivity around a product, you might choose to charge higher prices than competitors but have a discount for members or loyal customers. Consider your goals from the perspective of:

• How much gross profit (the profit after expenses are deducted) you’re looking to make.

• Long-term and short-term profit goals.

• Your target sales.

• Customer acquisition targets.

• The target demographic you’re looking to attract.

• Your desired business image.

• Whether you want to take the market share from your competitors.

Choose your pricing model

We outlined a number of small business pricing models earlier in the article. Be sure to read through these thoroughly before choosing the right model for your business. Remember that you can test different strategies and blend methods. For example, value-based pricing helps you to understand more about how much your audience is willing to pay, but it needs to be balanced with cost-plus pricing to ensure you can cover your business expenses. If you find that value-based pricing doesn’t cover the COGS, consider how you can reduce expenses or add a unique product feature to boost value and therefore the price.

Set your price (product cost formula)

Use your pricing model alongside your product cost formula to create a final price. As a reminder, your selling price can be calculated using the formula:

Make sure your final value aligns with your pricing goals, is suitable for your market and allows you to compete with similar businesses. 

Test your pricing

After setting a value, monitor how your product pricing performs. You can do this by:

• Tracking sales over time.

• Monitoring gross profit.

• Collecting customer feedback.

The more data you can collect, the better informed your pricing will be.

Communicating your pricing

Customers need to understand your pricing. That’s why as a merchant, you should always prioritise communicating the value of your products, highlighting benefits and offering proof where possible. For example, if you’re selling eco-friendly toothpaste, you need to justify higher costs compared to standard toothpaste. These might be for locally sourced ingredients, glass packaging instead of plastic tubes, and plant-based ink labels. Communicate these benefits clearly to establish your sustainable ethos and ensure eco-friendly audiences know why they’re paying a higher price. Communicate the product value on the product packaging, any promotional materials (including leaflets and online ads) and via product descriptions on your online store. You can also apply for sustainable credentials - like Planet Mark, Carbon Neutral Britain and B Corp - as proof of your claims.

Review periodically

When looking at ‘how much profit should I make on a product?’, it’s important to consider changes to business goals and market conditions over time. A great example of how prices can change is inflation. As inflation increases, so do your raw material costs and shipping expenses. To ensure your business still generates the same gross profit amid rising fixed costs and overheads, you need to increase your product prices. Other factors that can affect prices over time include:

• Market demand.

• Cultural trends and events that influence demand.

• Competitors (new competitors in your market and existing competitors lowering prices).

• New technologies that can reduce business costs.

• Recessions.

Your business goals can affect prices, too. For example, if you’re looking to purchase a second premise, you might need to increase your prices slightly to earn the revenue needed to afford the expansion.

Plan promotions

By leaving room to lower your prices while still generating a gross profit, you can offer promotions. These can help boost sales, attract new customers and increase brand awareness for your small business. Consider the promotions you’re likely to hold in the future. For inspiration, look at competitor promotions and discounts, and conduct target market research on what deals encourage them to purchase more. 

How to price a new product? 

Whether you’re planning ideas for a second income or embarking on a journey as a full-time entrepreneur, it’s smart to consider business growth strategies. How can you keep your business relevant and your profits growing year after year? One method is to introduce new products and product lines, all of which will need to be priced. This offers the perfect opportunity to reassess your current pricing strategies. For example, you can look into how your competitors have changed their prices since your last product launch. Not only will this influence your new product prices, but it’ll also ensure your existing pricing is still competitive. You should also conduct target market research for your new products. Even similar items may hold different values for your audience, warranting different prices.

Small business product pricing examples

When looking at how to price a product in the UK, examples can help you prepare for different scenarios. Let’s take a look at the pricing strategies of a few different business types to learn more.

Pricing in a craft beer bar

Imagine you open a small bar serving locally produced craft beers. A can of craft beer costs £3 from the brewery. You don’t need to worry about any packaging or shipping costs, but you do need to take into account operational costs such as:

• Payroll

• Utility bills

• Premises rent

• Monthly repayments of your small business loan. 

• Alcohol license.

Let’s say your total operational costs add up to an average of £300 per night. You expect to sell 100 beers in an evening, adding £300 of beer to your total costs. 

• Direct costs: £300 + £300 = £600

• Break-even price: £600/100 = £6

To break even, you can charge £6 per beer. You know from target research that your audience will be willing to pay £6.50 a beer. The additional £0.50 on every beer sold becomes your gross profit. 

Pricing plants for a market

Let’s say you’ve looked into low-cost high-profit ideas and noticed a growing demand for homegrown plants at your local market. With operational expenses low, you can make a higher profit margin for the plants sold. To work out pricing, you decide to use the cost-plus pricing strategy, which follows the formula:

Your unit cost is £1.25 per plant. You want a markup percentage of 200%. To work out your cost-plus price, you calculate:

£1.25 x 200% = £2.50

Pricing for natural skincare products

You start a line of natural skincare that you sell through your online store. After researching the industry, you know that skincare is a saturated market so you decide to sacrifice gross profit to accelerate sales, grow a customer base and give your small business a competitive edge. To do this, you simply work out the unit price of your products using the formula:

Your cost per unit is less than your closest competitors are charging for similar products. This means you can go ahead with penetration pricing while managing to cover all business costs and break-even. Once you have a growing customer base, a positive reputation and online reviews, you can start working a profit margin into your pricing calculations.

Disclaimer: The contents of this page are intended for informational purposes only and should not be construed as professional advice. For matters requiring legal or financial expertise, it’s recommended to seek guidance from qualified professionals.