What is the difference between cost-based pricing and value-based pricing?
Cost-based pricing is a model where you work out how much a product or service costs to deliver and set your price accordingly. As long as you factor in all your overheads and sales & marketing costs, you will be able to work out your profit margin.
Value-based pricing is a very different model, and people often struggle to get their heads round it, so I use this story to explain what it means...
A large power company was having a problem with their plant. They were losing thousands of pounds a day and so they called in an expert to diagnose what the problem was.
The expert came and spent a couple of hours walking around the plant, not saying anything but looking and listening. Then he took out a piece of chalk and marked an 'X' on a component.
"That's where your problem is", he said." Replace that component and you'll be up and running." And he put in a bill for £10,000.
The company went back to him saying "that's a lot of money for 2 hours of your time. Please could you break down your invoice for us?"
The expert wrote back with the following breakdown:
This is value-based pricing.
The expert knew the company was losing thousands of pounds a day and he was the only person with the skills and expertise they needed to identify the problem. He knew the alternative for the company was to replace the whole piece of kit which would probably have cost them hundreds of thousands of pounds. So £10,000 was actually extremely good value for money for the company.
How do you price your products and services? Is value-based pricing a viable model for your business? I'd be happy to help you work through these questions to find a profitable pricing strategy for your organisation at a Strategic Sounding Board Session. Give me a ring to discuss options.
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