Importance of Prices in e-Commerce. Cost-plus vs Value-based Strategy

With the rapid growth of e-commerce over the last year, more and more companies are forced to offer their products online. The pricing strategies they use are often not suitable for e-commerce. With new channels of distribution, companies have to adopt new strategies not to fall behind.

Risks of cost-plus approach in e-commerce

Let’s consider the cost-plus strategy. It is the simplest strategy one can take. In traditional commerce, to set the price of the product, a seller would sum all the expenses and add his margin. For example, if the sum of all the costs was 100 and he wanted a 10% margin, the final price would be 110. It felt right for both seller and buyer, and in traditional shops, it can work well as the buyer has no comparison with other offers. In e-commerce, however, a fixed price like this may not be a successful strategy, as the possibility of checking if another shop offers the same item but cheaper is super easy. According to studies, over 70% of people shopping online compare prices to find the best deal [1]. If the shop does not compete in prices, it can lose customers.

However, ignoring competitors in the pricing process is not the only risk of this strategy. Considering the cost-plus strategy, one also does not check the willingness of a customer to pay or verify the real value of the product. That means he loses a potential income as in particular cases he possibly could set the price higher. Sometimes the price can be set higher than the cost-plus strategy indicates. An example of a case is LED light bulbs. In a cost-plus strategy, they would cost around $ 1. However, considering their long-lasting and low energy consumption, they are worth more than traditional light bulbs, so their prices can be higher, even as high as $ 10.

Value-based pricing

We have mentioned the need for verification of the real value of the product. This pricing strategy is called Value-based pricing (VBP). It was described in detail in the article of Lee Frederiksen, but let us go briefly by what it is and check some examples of application, mixed with other strategies.

It is setting the price of the product based on how much people are willing to pay for it. This depends on the customer’s perceived value of the product. The customer checks if the product meets his expectations, if the quality is high enough etc. If the product meets his needs, desires and expectations, he is willing to pay for the product more than it would usually come from a cost-plus strategy. That means, thanks to putting the customer’s needs first, a seller can increase his profits.

The two examples showing VBP are Fritz Kola and Apple.

Launching their drink, creators of Fritz Kola set the price twice as much as Coca-Cola. With this, they wanted to emphasize that the quality of their drink is higher than their competitors. Also, the VBP strategy was combined with a limited distribution strategy, which means that the product was available only in the chosen points and stores. Thanks to this, the product could be treated as a luxurious, a hard to reach one. By implementation of such a solution, the company could increase the price to the current $ 3.20 for a 0.33 l bottle [2].

Another example of VBP is Apple. When they first launched the iPhone, they priced it at $ 599. Eventually, it appeared that it was too expensive, and after the customer’s feedback, they increased the price to $ 399 [3]. Over the years, they were creating an image of an exclusive brand, keeping the quality high and developing their price skimming strategy. Thanks to this, they were able to slowly increase their margin, and nowadays prices of their iPhones start at $ 500.

Summary

To sum up, not all the pricing strategies that were working well in traditional commerce will succeed in e-commerce. The possibility of comparing prices allows people to find the cheapest option and not to overspend. If you are a distributor and your competitors offer the same product, it is recommended to control their prices and adjust your prices accordingly.

If you launch a new product and you need to set a price for it, you can check how much people are willing to pay, and set the price accordingly.

To learn more about price management in e-commerce I invite you to download a free ebook written by Dealavo’s specialists in e-commerce pricing.

[1] https://mediakix.com/blog/ecommerce-statistics-online-shopping/
[2] https://dealavo.com/en/value-based-pricing-strategy/
[3] https://www.forbes.com/sites/gregpetro/2014/08/06/why-pricing-power-is-the-real-secret-to-value-investing/?sh=3ff2f5082565

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