Pricing hardware and changing business models
14.25, Tuesday 14 May 2013 Link to this post
How To Price Your Hardware Product, Marc Barros:
The mistake most hardware startups make is they don’t charge enough because they don’t think of the problems they will encounter at scale. They don’t calculate the real cost to deliver their product to a customer’s door, they leave no margin to sell through retail down the road when opportunities arise, and they can’t easily raise the price after it has been set.
Covers some good points that you need to take into account, beyond your profit margin:
- Retail margin, and sales rep commission
- The cost of fulfilment: Shipping, and the credit card fee
- Return allowance
- That the product cost is the landed cost: It needs to be fully packaged, in the warehouse
All points that are easy to forget when you’re looking at the bill of materials for whatever the core component is.
Here’s one of Barros’ examples using top-down pricing: $200 retail means you get $101.80 from your customer. A product cost of $58.10 means you have a margin of $43.70, or 42.9%. He recommends shooting for a margin of 50%. All reasonable, sensible, I like his summary for this:
Don’t be afraid to charge more. Long term, your loyal customers will thank you for staying in business. You’re not thanking your customers in any way if your low margins mean you have to skimp on customer service, or developing improvements to the product they’ve invested in.
To my mind, there are two disruptions that make this take on pricing difficult.
I think about Kickstarter hardware projects in two categories. There are those made for love not money. (And that’s cool – hardware products, like any creative act, can be made for 1,000 true fans with the potential - but not requirement - to break through into the mainstream. I love it.) Then there are those where Kickstarter is about getting mindshare, learnings, and the infrastructure to build the products that come after this one – there’s no profit requirement. That’s cool too: In an established company, products sit underwater for a long time before they break even.
These projects are low margin, funded by love and future expectations, and - because Kickstarter is also a great distribution platform - they don’t need to build in retail margin. Consequently the prices are lower than equivalent non-Kickstarter projects.
I use Amazon as a proxy for the shifting sands of new business models. The Kindle is sold at cost, or below: It’s all touchscreen, PCBs, and battery. Where do Amazon make their money? Well, nowhere yet… they’re a notoriously low margin, long term view company. But once they make $3/month additional sales, the Kindle Fire moves into profit. But think about this… if the $159 was sold with the same markup suggested by Barros, we’d see a RRP of $547. Insane.
This isn’t new. Cellphones have been subsidised by carriers for years, their high up-front offset against monthly bills. Car financing is common. DFS functions more like a credit company then a sofa store.
But it’s becoming more common in the hardware world as subscription relationships become more accepted – and more necessary. When products connect to the cloud, the cost structure changes once again. On the one hand, there are ongoing network costs which have to be paid by someone. You can do that with a cut of transactions on the platform, by absorbing the network cost upfront in the RRP, or with user-pays subscription.
We’re finding product categories dominated by one business model or another. It’s hard to enter a subscription-dominated category with a straight-forward retail model. Your product will look too expensive.
It’s not as easy as it once was.
Enough product companies are operating at zero margin, or on some alternate business model, that pricing hardware is no longer as simple as making sure you have the right margin.