Cost-plus pricing strategy – definition and usage in e-commerce
- 15 June 2021
In the e-commerce and retail world, pricing is one of the most significant elements of your business. After all, you have to ensure that your profits are high enough to run a business. That’s why you need an effective pricing strategy. Is cost-plus pricing potentially a worthy candidate for the optimal pricing strategy in your company? And if you are already using it, what can you do to tweak it a notch?
As an e-commerce entrepreneur, you have one ultimate goal–make as much money as possible on the products you sell in your online store. There are many ways to achieve this goal, and, at first, a cost-plus pricing strategy seems to be a good choice. In its essence, cost-plus pricing is probably the most straightforward and intuitive pricing strategy there is (along with flat pricing). You buy for less and sell for more. But as you will find out soon enough, there’s more to it.
What is cost-plus pricing?
In theory, everything is cut and dry. Let’s say you have a product X. You have to pay 100 USD to purchase this product from your vendor or distributor (or to make it from scratch, for that matter). You want to make 20% on each product sold. This leads you to an obvious conclusion – your ideal price is 120 USD, correct? Unfortunately, not, and the product’s price and your desirable margin are just a starting point.
Bear in mind that you have to take several additional costs into account. After all, the product’s price is just the beginning! Think about:
- Packaging (that’s including duct tape, boxes, stretch wrap, wrapping paper)
- Warehousing costs (rent, utilities, security, cleaning service, etc.)
- Marketing and website maintenance (e-commerce platform, Google Ads, Facebook Ads, etc.)
- Employment, etc.
All these costs add up to a significant amount of money you have to spend every month. Therefore, you should include each of these elements in your calculation. Only then can you obtain an accurate final cost per unit. And it can turn out it’s not 100 USD, but 120 USD, and with your desired profit margin, you have to sell this particular product at 144 USD.
But still, that’s not the end of the story.
What’s the problem with the cost-plus pricing strategy?
For starters, it doesn’t take into consideration any external elements and factors. For example, you don’t know how much your competition charges for the same product. And in the age of price comparison websites, such as Google Shopping, it can adversely affect your sales.
Imagine a situation where your only pricing strategy is the cost-plus one. You run an online store, and your desired price for a given product is at 120 USD, allowing you to make 20 USD apiece. So you set this price in your store, and… nothing happens. No one buys your product. You do some digging, and it turns out the average market price for the same product is 110 USD. People go elsewhere, and you’re left with nothing. And yes, you might say that this price is below your desired margin. But surely you’ll agree it’s better to sell at least some products and make less money per sale than to sell nothing at all.
Customer expectations are the next problem. In the article about the value-based pricing strategy, we told you about something called WTP (willingness to pay). If your prices are above the WTP level, you won’t make much money. No one wants to overpay.
And that’s the main problem with cost-plus pricing. You always end up with prices that are too low (your desired margin could be at 20%, but you may find out that competition makes 40%) or too high (above-market prices), just like in the example above.
Especially in the e-commerce world, you cannot simply think, “I want to make 20% on each product” and stop there. Pricing in online trade is a beast difficult to tame, and simplifying this complex matter just to what you want to earn will get you in trouble.
The way to enhance cost-plus pricing strategy
Be in no doubt here. We’re not saying that the cost-plus pricing strategy is useless or harmful. It can be helpful, but you have to meet one significant condition – it cannot be your only strategy. You see, nowadays, e-commerce, with Amazon and Google Shopping, is a dynamically changing environment where the number of elements affecting the final price of your product is also constantly changing. The best way to make the most of cost-plus pricing is to supplement it with another strategy. We’ll talk about that in a second.
The next thing you ought to think about is thorough research. Before you decide what your prices should be based on your costs, follow these steps:
- Analyze your current costs, eliminate unnecessary ones, and try to optimize the rest
- Compare offers of at least two or three vendors. Perhaps you will find a better deal for the same product?
- Examine your competition and their prices. Check prices on Google Shopping and Amazon as well. If there’s another marketplace popular in your country, check it too.
If you want to learn how to manage prices based on external and internal data, you can download a free ebook about Managing prices in e-commerce.
This way, you will be able to get all the relevant information you need. But there’s even more you can do, and that is to devise a more comprehensive strategy.
A COMPREHENSIVE E-COMMERCE PRICING STRATEGY
Here, we want to draw your attention to two advanced pricing solutions:
- Competitor price tracking and monitoring: As we told you earlier, you have to take competitors’ prices into account if you want your prices to be profitable to you and attractive to your customers. With this tool, you can track prices in real time, both in other online stores and marketplaces like Amazon.
- Dynamic pricing: It’s the most advanced tool in Dealavo’s offer. With the dynamic pricing platform, we can automatically change your product’s price based on predefined rules. For instance, you can choose the “Top 3 on Google Shopping” rule. With this rule, your offer will be included among the first 3 offers on Google Shopping, ensuring good visibility of your products.
When you mix cost-plus pricing with advanced monitoring tools that adjust your prices to optimal levels, you end up with an effective pricing strategy that secures your profits but also is appealing to the customers. And that’s the whole point of e-commerce, don’t you agree?
If you want to try how our solutions work, just click the button below and request a free consultation with one of our specialists: