Getting your pricing strategy right is one of the most important parts of running a good business. There are many approaches, and choosing the right strategy depends on a number of factors, including market conditions, competitive landscape, and the maturity of your product or service.
In this article, we explore the advantages of penetration pricing (as well as its disadvantages) and offer insight into when and how to make this strategy work for you.
Why is pricing strategy important to product management?
Pricing your product can be a tricky balancing act between what consumers are willing to pay for your product or service, and what works best for your business. The way you price your product also contributes to its perceived value within the competitive landscape. "A mass-market product with already stiff competition means you can take a clue from your competition to find that sweet balance," says Brian David Crane, founder of digital marketing fund Spread Great Ideas. “Set it too high or too low, and you stand to lose your market share and sales.”
Example of penetration pricing
“Penetration pricing works very well for us,” says Jennifer Brown, managing director of leather accessories company Pampeano, which used penetration pricing to enter the UK market around eight years ago but now retails here at full price. "When the brand was less well known in the UK, our price was similar to that of competitors, but the quality was better. I feel confident about pursuing penetration pricing at the moment in the EU and the US because of this earlier success," she says.
The downside of this strategy was that profit margin was compressed; Pampeano was paying for expensive raw materials, a skilled production workforce, expensive packaging, and the option to personalise, but this wasn't reflected in the initial pricing.
“Once we started to gain a reputation as being the best-in-market, we started to push prices higher," says Brown, "as our prices shifted upwards to better reflect the labour involved, we further established our position as the premium brand for the product range, and we sold more.”
When you're trying to gain competitive advantage with lower pricing but still have to pay for supplies, an American Express® Business Gold Card can help you to maintain good cash flow. You get up to 54 days to clear your Card balance, so you can keep your money in the account while your product gains traction and sales build.¹
Goals and advantages of penetration pricing
The goal of a penetration price strategy is to offer a product or service at a low rate during launch to attract early customers, build a loyal following, or even export to international markets. Companies adopt penetration pricing strategies when the market they're looking to enter is overcrowded and they need to stand apart. Here are some key advantages of this approach.
Create brand loyalty
Penetration pricing helps companies to build an early customer base. If the product is good, then customers will likely keep buying it, and may even stick with it if you increase the cost of the product over time.
Gain a foothold in the market
Good brand loyalty helps you to gain a foothold in the market, ideally to the extent that new competitors would have to work hard to win customers from you.
High inventory turnover
Lower prices can lead to increased demand. If you provide similar services or more advanced features than the competition, you can gain a competitive edge which allows you to sell in high volumes.
It’s easy to implement
Lower pricing is a relatively easy way to differentiate new entrants from existing market players.
Disadvantages of penetration pricing
There are some penetration pricing disadvantages, however. Including:
Short-term cost pressure
Since you sacrifice short-term profits for a more significant early market share, there can be an initial pressure on your budget. Initial costs also include increased resources for production and marketing since discounted prices can increase demand.
Perception change
As a general rule, customers equate higher pricing with higher quality or additional benefits, and lower pricing with inferior quality.
“Price and perception are inextricably linked," says Brown. "If the brand or the product is already known for being premium, price is accepted – even expected – as being premium. If not known, then something has to give to get it off the starting blocks.”
Unhealthy price competition
Aggressive competitors may want to lower their product pricing further to counter your product cost. This can trigger cost wars and customers may lose sight of product benefits.
Price penetration strategy vs. price skimming
Price penetration and price skimming are both strategies to introduce a new product offering and build market share. However, price skimming involves charging a high price at launch to make short-term profits at the onset. This is applicable especially when there is a clear need for the product and competition is limited. Once comparable competitors start to enter the market, prices are gradually lowered.
The usual target market for price skimming strategies is early adopters for whom price is not a barrier to the product's perceived benefits, while the target market in the case of penetration pricing is customers who are very price sensitive and want the same benefits but at a lower price.
Market penetration vs. pricing penetration strategy
A market penetration strategy is employed by a company that already exists in the market to grow its footprint or market share. They use the current market share or the total number of products/services sold to target and reach the estimated market size.
Is penetration pricing right for your business?
“If your customers are price sensitive and your offering is a mass-market product, this can be a great strategy,” says Crane. “The volume of sales can balance the risks of a lower price."
"This cost is low compared to the benefits you get from this app," says Crane. "But the goal is to rapidly build brand loyalty, build a supporter base, cut competition, and generate high demand in the least time.”
1. The maximum payment period on purchases is 54 calendar days and is obtained only if you spend on the first day of the new statement period and repay the balance in full on the due date. If you'd prefer a Card with no annual fee, rewards or other features, an alternative option is available – the Business Basic Card.