How to Price Your Products or Services (Small Business Guide)

You shouldn’t have a ‘set it and forget it’ mentality when pricing products or services as a small business. Many companies in Canada make this mistake. They hope that the pricing they set once will work itself out. However, pricing is never static. It needs to adapt. That is why you need to learn how to price products for a small business to succeed. 

Our guide covers everything you need to know about setting your pricing so it feels realistic and thoughtful. This should make it easier to manage cash flow and growth. We also cover strategies, as a pricing strategy for a small business can make or break it. After all, pricing influences customer perceptions, overall profitability, and competitive positioning. 

So, let’s dive in and have a look. 

Know Your Costs First 

Before diving into the strategy and psychology of pricing products, it’s important to first understand costs. Usually, without cost clarity, you have no hope of pricing properly. 

Here’s a closer look at direct costs, indirect costs, and breaking even, and what they each mean for your business’s pricing. 

Direct Costs: What Changes With Each Sale

Your direct costs coincide with your production, delivery, or service hours. These define the minimum price you should charge to avoid incurring a loss on each transaction. 

Here’s a look at what you need to know about direct costs: 

• Your direct costs will usually include contractor payments, employee wages, raw materials, shipping, packaging, and inventory. These are direct costs because they increase with volume. 
• If you have a service business, your labour is usually the highest direct cost. This is the case even if you, as the owner, do most of the work. 
• As salaries increase, direct costs rise. Unfortunately, ignoring them often leads to pricing that encourages activity without profit. 

Indirect Costs: What Exists No Matter What

Your indirect costs remain the same regardless of whether sales are booming or sluggish. Many businesses make the mistake of overlooking indirect costs because they don’t change with each transaction. However, these costs determine how much revenue your business must generate overall. 

Here’s a closer look at how they work: 

• Your indirect costs include utilities, rent, insurance, software, accounting, marketing, and administrative expenses. These costs remain the same even during slow periods. 
• A business’s indirect costs are what make cash flow feel tight when your pricing is too thin. 
• If you underestimate indirect costs, you create pricing situations that only work in perfect conditions. 

Break-Even: The Line Between Busy and Profitable

If your business breaks even, it means you are earning enough revenue to cover direct and indirect costs. Anything before breaking even means your business is operating at a loss. Likewise, if you do more than break even, you’re starting to earn a profit. 

It’s important to know at any given time whether your business is breaking even, operating at a loss, or making a profit. With this information, you can determine how best to reevaluate pricing. This is crucial as pricing that doesn’t account for ‘breaking-even’ often creates an illusion of success without actual financial stability. 

Common Pricing Strategies

Here’s a look at some of the best pricing strategies you may want to try. Yet, bear in mind that some protect the stability of your business while others can increase risk:

• Cost-plus pricing: With cost-plus pricing, you have structure and safety if costs are calculated properly. If you choose this strategy, you’ll determine the selling price of your product or service by adding a fixed markup to your total production cost. This is often the simplest pricing strategy, but if you underestimate costs, the margin becomes meaningless. 
• Value-based pricing: One of the most powerful pricing strategies, especially in service industries, is value-based pricing. With this strategy, you base and set prices for products and services according to what customers perceive their value to be. You base it on this rather than on historical pricing insights and production costs. As you can imagine, this can be risky, as the success of this strategy depends on market positioning, trust, and structure. 
• Competitive pricing: A competitive pricing strategy is one in which you set the prices based on competitors’ pricing rather than on costs and desired product margins. With this strategy, you could, in theory, attract price-sensitive customers and maintain market share if you’re aligning prices with competitors. However, the problem with this strategy is that you’re assuming competitors are pricing responsibly, which they might not be, and this can make the entire market unstable. 
• Penetration pricing: With penetration pricing, you set prices for goods and services low to quickly build sales volume and penetrate the market. This strategy can be beneficial for new small businesses, but only if you have a clear plan to raise prices steadily over time. If you don’t have a plan in place to do this, you could become trapped in low-margin operations. 

Pricing for Services vs Products

If you don’t already know it, the pricing for services vs products differs because the costs behind them behave differently. For instance, when it comes to products, your money is most likely tied up in inventory. You pay before you sell, carry storage costs, and take on the risks associated with stock that moves slowly or even worse, not at all. 

Because of these realities, your pricing must cover not only the pricing of a product but also the time and money it takes to turn your inventory back into revenue. In addition, if pricing is too tight, your cash flow will get trapped on shelves, and you won’t have enough available funds for your business. 

On the other hand, services are limited by time. So, your pricing has to take into account that there are only so many hours in a day, and your labor is, by default, your most valuable and constrained resource. With this in mind, you don’t want to price too low, as it can leave you busy without being stable. Your business’s growth also isn’t going to come from working longer hours but rather from charging in a way that truly reflects the value of your time. 

Psychology of Pricing

Psychology plays a role in almost every aspect of life and business. So, it should come as no surprise that the psychology of pricing is important to understand. With the psychology of pricing whats most important to know is that how people interpret value and risk plays a role in how you price products and services. 

For example, when a client looks at your pricing, they are not solely deciding if they can afford it.  They are also deciding if they can trust it. 

This is actually fairly easy to understand when you put it into perspective: 

• When a customer sees a price that looks too low, they immediately start questioning it, with many wondering why it is so low. Most will think there could be defective materials, poor quality, or ethical concerns. 
• If clients see a price that is too high, they begin to question whether it’s worth the investment. They may also believe the price is high just for the sake of it, or that the company is being greedy. 
• When a price feels considered and aligned, most customers feel fairly confident in their choice to buy the service or product. They often feel the pricing is stable and fair.

Essentially, knowing your costs and pricing with intention matters. At the end of the day, your prices signal that your company understands value and can consistently deliver on its promises. 

When to Raise Your Prices

When it comes to learning how to price products for a small business, you also need to know when to raise your prices. 

Even though price increases may feel uncomfortable, you can view the process as a form of maintenance. If your costs rise over time, it’s only natural to raise your pricing to keep the business running and profits growing. 

So, with this in mind, here’s when you might want to raise your pricing on products or services as a small business: 

1. If you notice supplier costs rising and margins narrowing, it may be time to adjust your pricing, even if sales remain stable. 
2. When you raise wages and your payroll becomes a larger share of your expenses, your pricing needs to be adjusted to reflect this pressure. 
3. If you notice demand consistently exceeding capacity, it’s time to reevaluate your pricing to restore balance. 

Pricing and Cash Flow 

Many small businesses in Canada don’t realize that pricing is one of the most effective tools for managing cash flow because the two work hand in hand. Let’s look at an example. 

Let’s say you own a clothing shop that specializes in crocheted items. You realize that the price for your crocheted pieces is too low. This sobering realization is that the only way your business can survive is through volume. Unfortunately, this creates unnecessary stress and instability, where a single slow month can jeopardize your business’s success. 

This situation wouldn’t occur if your pricing provided the flexibility to manage cash-flow fluctuations. When your pricing is carefully set, you’re allowing your business room to absorb delays, seasonal swings, and unexpected expenses. 

The result is a greater appeal to lenders when you need financing, as they can see that your pricing will sustain your business. If your pricing is well thought out, they can also see that your company is predictable and disciplined. On the other hand, weak pricing signals risk, which is another reason to adjust prices regularly. So, keep this in mind.

The Key Takeaways for How to Price Products for Small Businesses

Hopefully, everything you have learned in this product and service pricing guide today helps you understand how pricing works. We also hope you now know the common strategies to consider, and when to raise your prices. Armed with this information, you have a better chance of maintaining pricing that benefits your business while helping you remain a lower risk to lenders.  

At the end of the day, your business’s pricing signals to lenders like Bizfund, an alternative lender offering merchant cash advances, whether your business can meet its obligations. If you can demonstrate your pricing is sound, you’ll have a better chance of securing financing. This will let you meet your business’s growth goals in the future. To learn more about our quick financing solution, you can click here.