Van Westendorp Pricing for Optimizing Net Profits
Pricing has been a problem for marketers since the dawn of humanity. Sell the horse for five seashells or hold out for six? Joe’s selling his horse for four, but it’s not as big or strong. What if the buyer cannot afford six?
Economists say both buyers and sellers seek to maximize profits on every transaction. Both parties seek to understand the other’s position. How high will the buyer go? How low will the seller go?
When you price a product too high, you lose out to the competition or even to “doing without.” Price a product too low, and even if you make the sale you’ve left money in the customer’s pocket that could have been yours, lowering your profit.
When old-time bazaar buyers and sellers bargained and haggled face-to-face, they looked into each other’s eyes. However, since mass manufacturing and marketing, businesses must figure out the psychology of large groups of consumers.
In the past hundred years a lot of companies have priced a lot of products, at least initially, by guesswork. Many have run tests, and used those results to gauge the market’s response. However, it’s difficult to know the best price at which to launch a product. Therefore, trial and error was a common strategy.
One alternative companies have thought of was simply to ask consumers in focus groups, “What would you pay for this?” However, that’s so direct and obvious it just invites them to give a low-ball figure. Or they estimate too high because they are not faced with the competition, and estimates don’t come out of their pockets the way cash does in real life.
What is the Van Westendorp Price Sensitivity Meter?
In 1976 Dutch economist Peter van Westendorp introduced a direct technique to discover the Goldilocks not too-high, not too-low, “just enough” price that maximizes revenue.
The Van Westendorp pricing model maps out how typical consumers in your target market view the “economic utility” of your product as measured by price. In other words, it discovers, from actual consumers, prices they say are too high or too low. And it does this by asking just four questions.
- What price would make this product too expensive for you, so you would not even consider buying it?
- At what price would this product be so expensive you might still buy it, but you’d first have to stop and think about it?
- What price would make this product too cheap for you, so you would not buy it?
- What price would make this product a great value for you?
If somebody says they would not buy the product at any price, they’re obviously not in your target market. Don’t include them.
Some people criticize the Van Westendorp pricing model for not including the competition. However, consumers weigh and balance that factor as part of their answers. If they know they can get a widget similar to yours for $9.95, they’re unlikely to say they would pay more than $9.95 for your widget.
By recording the answers to these four questions from a statistically significant group of your target market, you perform the math to solve for the optimum price. It gives you range of prices at which your product will sell. As the price goes up, so does profit, until sales decline because many consumers consider your product too expensive.
Analyzing Van Westendorp Pricing Data
To analyze data from a Van Westendorp pricing study, you first plot the data. Let the x-axis measure price and the y-axis measure the cumulative proportion expressed as the percentage of respondents. You usually get four intersecting lines.
- Point of Marginal Cheapness: the lowest price you can go while maximizing the other factors. That means if you set a lower price you lose more sales due to mistrust caused by the low amount than you would gain from bargain hunters.
- Point of Marginal Expensiveness: the highest price you can go while maximizing the other factors. That means if a set a higher price you would lose more sales due to people who can’t afford the high figure than you would gain from the remaining buyers who are willing to pay a premium.
- Range of Acceptable Pricing: The range between those two prices.
Considerations of a Van Westendorp Pricing Study
You need to perform a Van Westendorp pricing survey of your target market on a regular basis or, at least, when there’s a major change in your niche. If one of your competitors comes out with a new model that’s significantly cheaper or more expensive, that change consumer perceptions and expectations. An economic crisis affects how your target market views pricing.
It’s important to remember that the Van Westendorp Price Sensitivity Meter measures consumer psychology, not production costs. Therefore, the optimum price as determined by the Van Westendorp pricing model has no connection with the price per unit you must charge to cover all your fixed and variable marginal costs. Of course, if your product is digital, that keeps your marginal costs low.
The price necessary to cover your costs of production usually goes down with the number of units sold, because the fixed costs remain fixed and the marginal costs often go down because ordering materials in quantity allows you to take advantage of economies of scale. Raising prices tends to reduce the number of units sold, but brings in more profit per unit. For the highest net profit, calculate the highest price per unit within the Range of Acceptable Pricing.
What is Your Brand’s Image?
This is also an important factor. Wal-Mart and Amazon have built huge businesses on making prices as low as possible. They don’t run focus groups. They assume that in the long run the lowest possible price is the most profitable, and so far it’s worked well for them. However, if you’re the Rolls Royce in your niche, your customers expect high prices. Don’t destroy your brand’s reputation.
The Van Westendorp Price Sensitivity Meter is a useful tool for obtaining a range of prices, and you can obtain data by giving your customers or other members of the product’s target market a survey online. Contact us today for help.