Dynamic Pricing: What Is It and How to Use It to Boost Your Profit Margin
- eCommerce

Dynamic Pricing: What Is It and How to Use It to Boost Your Profit Margin

The destiny of your eCommerce company depends, for the most part, on your product pricing approach. Even if your products are the best in the whole world, a wrongly chosen pricing strategy can cause your company significant problems. If the price is too high, few people will be able to afford a purchase. If the price is too low, you will be too far from making an adequate profit margin. 

The point is, your pricing strategy has a critical impact on your business. It affects your business in two significant ways:

  • Your customer purchase decisions. The price is the number one factor when it comes to deciding whether a particular item is worth buying or not.
  • The amount of money your company will make. With a wrong pricing strategy, you risk getting much less money than you could have got having chosen a better policy.

You need to grasp the idea that the goal of setting a pricing strategy is not to squeeze every last penny out of the people who buy from you. Instead, you should aim to find that ‘space’ where the prices meet customer expectations and make them feel they paid a fair price for the emotions and experience they had while using your products.  

Let’s talk about dynamic pricing and how it benefits companies, especially in the eCommerce industry today. 

Traditional approaches to pricing vs. dynamic pricing

These are two of the most common pricing strategies:

  • Premium Pricing is a strategy where companies set the price higher than the average market price. Such pricing effectively works when a product has a unique value proposition that makes it stand out from similar products in the market.
  • Penetration Pricing implies setting the price relatively lower than your competitors. This strategy works for companies whose goal is market penetration. Although penetration pricing may help raise brand awareness and increase customer loyalty, it may also cause revenue loss. 

The principal pitfall of these strategies is possible difficulties with profit maximization. At a premium price level, demand would be low due to high prices. Companies with a penetration pricing strategy are likely to have higher demand, but their low prices won’t allow them to make much profit. 

  • Dynamic pricing is the process of setting flexible prices and changing them based on market factors such as industry averages, supply, demand, and expectations from consumers. Examples of such an approach to pricing can be airlines that change their pricing based on peak season. Or Uber that charges more at rush hours or for traveling in certain areas.
  • Dynamic pricing is based on a human-driven algorithm, assisted by big data and analytics. It requires collecting a lot of information about the industry, competitors, and customers. Collecting, organizing, and storing such data is a task better delegated to dynamic pricing tools that are made to suggest optimal prices for your products based on all collected information.

So, dynamic pricing enables suppliers to adjust prices to be more personalized. It has never been more relevant these days when customers are interacting with brands in new ways — they want the company to know who they are and expect consistently personalized service. 

The benefits of dynamic pricing

Again, the primary positive side of leveraging dynamic pricing is maximizing your company’s profit margin and sales. Adopting dynamic pricing ensures you’ll always remain competitive in terms of price, regardless of what changes may happen in the market or industry. 

To sum it up, the benefits of dynamic pricing are:

  • faster response to market fluctuations
  • creating higher levels of demand
  • more insights into customer behaviors
  • personalized customer experience
  • positive impact on sales and profits

Potential disadvantages and pitfalls of dynamic pricing

There are some potential disadvantages to watch out for when implementing dynamic pricing. Here are some of the most detrimental mistakes companies make when leveraging a dynamic pricing approach:

  • Having a wrong attitude If you believe that setting up your dynamic pricing software and forgetting about it is enough, you’re dead wrong. Sorry to disappoint you, but the software won’t take care of product pricing by itself. Let the computer do the technical part of work, but make the final call when it comes to approving the recommended price.
  • Make customers distrust you and your business Customers will likely be disappointed if they discover that someone else paid a lot less for the same item they purchased. So, fluctuating your prices too often can eventually lead to losing customer trust that is essential in terms of repeat purchases of goods and services.
  • Undercut your competition When customers are not loyal to any particular company, they will go wherever they have the best offers. If a company prices a product or service lower than its competitors by the dynamic pricing approach, it can make other companies reduce their prices to outpace the competition. In its turn, increased competition can lead to bidding down the product prices and lower profit margins, which is detrimental to businesses.

How to get started with dynamic pricing

Getting started with dynamic pricing can feel overwhelming. That’s why we’ve pulled together the best tips for successfully implementing the new pricing approach. 

  • Choose a dynamic pricing tool that fits your business needs. First, your pricing software should allow you to easily collect as much data as needed to price your product correctly. Secondly, it should ‘know’ how to convert this data into meaningful and understandable information. Thirdly, the pricing tool needs to be able to use this information to make automated pricing predictions. Make sure your software of choice is also easy to use and comes with free service and support.
  • Collect relevant data needed for dynamic pricing. To implement your dynamic pricing strategy efficiently, you need to collect data coming from a variety of sources. In addition to things we mentioned earlier (industry benchmarks, competition data, etc.), you also need to look ‘inward.’ Be specific with your goals related to company sales, growth, profit margin, and revenue. Once you nail down these goals, work out the pricing strategy that will help you reach them.
  • Make sure you have the bandwidth to handle dynamic pricing Adopting a dynamic pricing approach will likely require more human effort than you might think. Human touch is necessary for three primary purposes:
    • To define what exactly your pricing software will do in terms of collecting and processing data.
    • To make real decisions based on automated predictions or suggestions.
    • To make sure the software functions the way it should 

While a new use of human resources may be a bit of an investment, it will pay off in the long run when the leverage of dynamic pricing helps your company’s sales and profit margin grow. 

  • Do not follow standards blindly, but consider them wisely It may seem like setting your prices somewhere between your industry’s and competition’s averages is the best course of action, but that’s not the case. First, you don’t know much, if anything, about your competitors’ real internal metrics. You don’t know their customer acquisition costs, and you also don’t know their business goals. While their metrics may work for their goals, the same metrics will be meaningless for your businesses and not attached to your goals. That’s why it makes no sense to set the prices according to what others in the industry are doing.

The main thing you should grasp is that implementing dynamic pricing isn’t something that happens overnight. Changing your pricing game plan immediately and completely would bring nothing but havoc to your company’s cash flow.

Besides, your regular customers will notice if your prices start fluctuating more than usual.

How to choose the best dynamic pricing solution?

The absolute ‘must-have’ features for pricing optimization software are:

  • profitability analysis
  • automated price management
  • forecasting upcoming price trends
  • analysis of customer behavior for personalized pricing
  • market analysis for price competition

If you are choosing between SaaS and in-house systems, you should know that cloud-based solutions may reduce the risk of data loss, but the cost of cloud-based tools is usually higher.  

To get the most accurate data, pricing software should be able to integrate with existing company systems like CRM or ERP. 

Consider dynamic pricing tools that have freemium options with access to just a few features before paying for the complete service. 

Conclusion

To adopt a dynamic approach to pricing, you need to accept the fact that there is no “right” price for any item. Well, even if there is, it may change at any moment. The ‘real’ price is what a satisfied customer is willing to pay for something at any given moment. That’s it. There will always be new pieces of information that will help you optimize your pricing again and again. 

So, your ultimate goal should be to continue learning as much as you can about your customers, competitors, industry trends, and to stay focused on how you can use this information to bring real value not only to your company’s growth but to your customers.


Anna Grechko is a marketing enthusiast and knows the field inside out. She is the marketing specialist at Smart IT. Sharing knowledge is a big part of her career, so Anna doesn’t miss any opportunity to do so. 

Dynamic Pricing: What Is It and How to Use It to Boost Your Profit Margin

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