So, you want guacamole on your burrito. You know that’ll be $1.95 extra, right?
Erin McNamara doesn’t need to be reminded. She knows the guacamole is extra. And she knows why it’s $1.95.
If you’ve ever wondered how much should I charge for that, Erin could help. Erin has worked as a pricing strategist for three of Arizona’s fastest-growing software companies Integrate, WebPT, and Infusionsoft.
Although her knowledge of pricing is framed by her experience in software, she knows that Chipotle didn’t just toss darts to land on $1.95 for guacamole. You shouldn’t be tossing darts to optimize your prices either.
How Much Should I Charge? Well, Not Time and Materials.
If you’ve never thought deeply about your pricing, you’re not alone. 30% of software companies in one study said they base their prices on those of their competitors. That’s pretty much how I charge strangers to sleep in my bed.
Another 21% were willing to admit that they guess and 7% use cost-plus.
Ah, cost-plus. This is how most online sellers determine price. They combine the cost of their materials and the cost of their hours of labor and then add a percentage as profit margin.
Pretty smart, huh?
Well, at Chipotle, your whole burrito costs $6.95. Do you think the guacamole really adds $1.95 of time and materials? Absolutely not.
How Much Should I Charge? As Much as Customers Will Pay!
The key to pricing like software companies, Chipotle, and other successful companies is to test different prices with a LOT of different customers.
Of course, as a small business, you don’t have the scale to do legit price testing.
However, you can still think about pricing like a big company would. You might even play with some different price points at farmers markets or in your online store.
Here’s what you want to determine.
- At what price is my product so cheap that customers question the quality?
- At what price is my product a really good deal?
- At what price does my product start to become expensive, but customers would still consider purchasing it?
- At what price is my product so expensive that customers would never purchase it?
Based on the answers to these questions, you’ll start to identify two pricing options.
Pricing Option A. Sell All the Things!
The price where a roughly even number of customers think that either A) your product isn’t so cheap that it’s crap (question 1) or B) your product is starting to get a little pricey (question 3) is where you’ll sell the most stuff.
This is the price where the most customers will say, “Hey, guacamole is only $.75 to add? I bet it’s real avocados instead of spicy mashed potatoes with green food coloring. This is a no-brainer!”
This is not a bad place to be, especially if your business is new or you have a lot of inventory to move or you just really like working nights and weekends.
Pricing Option B. Get the Best Price!
Warning: Buzzword ahead.
The price where a roughly even number of customers think that either A) your product is a pretty good deal (question 2) or B) your product is starting to get a little pricey (question 3) is your indifference price point.
The indifference price point is the price where customers will have to think about their choice. Some will decide to pass. But some will pay a premium to get that delicious guac in their faces – and you’ll maximize your margin.
How Much Should I Charge? Well, What Would Chipotle Do?
In software, finding that sweet spot of charging the most you can without turning away too many customers has twice the impact on profits of improving customer retention and four times the impact of new customer acquisition.
How much is Chipotle’s bottom line impacted by charging $1.95 for a tiny ramekin of guacamole?
And how would your bottom line be impacted by charging what your products are worth to your customers?