Businesses entering the marketplace with a new product could consider penetration pricing as a means of capturing market share. A penetration pricing strategy involves setting low prices to raise curiosity and persuade consumers to switch brands.
Whilst a penetration pricing strategy can increase your sales volume and market share, lower costs mean lower profit margins. There is also a risk that customers will return to a competing brand once you raise prices.
Retaining customers is the key to a successful penetration pricing strategy. Consumer psychology is built around the concept of associations. Although reports reveal that 87% of consumers shop around for the best deals, only 8% of the revenue generated by eCommerce stores comes from repeat customers.
Although brand loyalty is on the decline, 79% of consumers rank quality as their most important purchasing decision. Quality is more important than brand name.
In short, a penetration pricing strategy will only work if the product you are selling is of higher quality than your competitors.
What is penetration pricing?
Penetration pricing is a marketing strategy used by new businesses to break into the market and increase sales volume from the outset. The strategy involves offering lower prices than any of your competitors for the initial offering.
The goal of a price penetration strategy is to attract the attention of customers and entice them away from your competitors. The strategy helps raise product awareness, accrue a customer base and build market share.
This pricing strategy is typically used in highly competitive markets. A lower price point can help brands to penetrate the market, grab the attention of consumers and establish a foothold in the early stages of your business. After a certain period or initial offering, you increase the price point to a level that will turn a profit.
The key to psychological pricing is to simplify the decision-making process for consumers and make them think they have walked away with a bargain - or at the very least made a purchase that offers good value for money.
In contrast, brands with a product that has low competition are better placed to use a price skimming strategy. This strategy starts with a high price and is gradually lowered.
Examples of Penetration Pricing
The modus operandi of a price penetration strategy will be determined by the type of industry, the amount of competition and the quality of your product or service.
For example, a subscription-based website may offer a first month trial period for free and then use a competitive pricing strategy thereafter.
Ecommerce business owners in competitive markets typically launch with a buy-one-get-one-free (BOGOF) campaign to attract customers on the lookout for a bargain. Once a purchase has been made you should follow up with a customer loyalty strategy.
Supermarket chains use penetration strategies to sell niche products or products with a higher margin such as organic foods. Because the demand for organic food is growing, supermarkets gradually extend their selection of organic products at a premium price point to boost their profit margins.
Businesses that can purchase or manufacture a high volume of products in bulk at a lower cost are well placed to take advantage of a penetration pricing strategy. Because costs are spread across a larger number of goods, economies of scale dictate lower prices will result in a higher volume of sales.
Advantages and disadvantages of penetration pricing
Capture market share
Penetration pricing enables new businesses to quickly acquire new customers
Create brand loyalty
Once new customers have made contact, eCommerce businesses are well placed to build brand loyalty. Customers appreciate quality and if they find a bargain in the mix, they are more likely to return in the future.
High inventory turnover
Lower prices result in a higher sales volume and an increased inventory turnover rate.
Gain a foothold in the market
Businesses that use supply chains or manufacture products in bulk at low production costs can generate significant demand early in the life cycle of the business and strengthen your position in the market.
Low customer loyalty risk
Penetration pricing comes with the risk that early customers will return to competitor brands once the prices are increased. Only use a penetration pricing strategy if you deliver quality.
Customers may expect prices to stay permanently low and become dissatisfied once the price in raised. The early bird offer should be well signposted so that customers do not have any expectations.
Poor brand image
Low prices are typically perceived as low quality in the minds of consumers. Unless you nail your marketing strategy, penetration pricing could damage your brand image.
Existing businesses may decide to compete against newcomers by lowering their prices as well. They do this to retain their customers and prevent new businesses from acquiring market share.
Inefficient long-term strategy
Consistently selling products at low prices is not a viable long-term strategy and penetration pricing may not be the best strategy if customers do not recognise the value for money in your product or service.
Whilst a price penetration strategy can work for some businesses, it is not suitable for every eCommerce business owner. Unless your product and services have prevailing qualities, it is better to approach the market place with a competitive pricing strategy.
A key disadvantage of a penetration pricing strategy is that an increase in early sales volume does not guarantee an increase in profits. Unless a business can retain customers, the early losses can pose financial difficulties.
There is also a risk of competitors starting a price war which could drive prices and profits even lower for an extended period. Before setting low prices, the smart approach is to determine profit margins.
Before deciding on your initial offering, it’s pertinent to understand market price points and where you want your product to eventually sit in the market. Utilising competitor price monitoring software helps existentially.
Our price monitoring solutions collect billions of competitor price points from across the web without any manual input required. This alone offers value for money because it saves hours of clicking on customer websites to monitor prices.
Consumers have come to expect a certain level of quality from the price of a product. A penetration pricing strategy can make or break your business. With insightful pricing data at your fingertips