Pricing your food product for profit
It is virtually impossible for small food businesses to compete in the lower price range of the commodity market. Because of this, it is critical to highlight product attributes consumers value and will pay a higher price for.
June 7, 2012 - Author: Diane Smith, and Matt Birbeck, Michigan State University Extension
In the retail world, consumers have a preconceived set of values that influence what they are willing to pay for a particular food product. Even before consumers pick up a product, they have a price range in mind for what they are willing to pay for it.
Typically supermarkets work within price ranges that they feel consumers use when shopping for products. These price ranges are:
New small businesses, often due to small-scale inefficiencies, have to charge more for a product. This puts their product outside of the normal price range that similar products sell for on the shelf. If a company discovers that the product they are making is going to be over the usual price range due to their production and supply chain costs, then they need to look for ways to add value to the product so the consumer is comfortable paying the next higher price range.
As a small business, you can add value to your product by adding new attributes to your product or noting its current attributes on the label to influence the range that consumers are willing to pay for it.
Since the consumer has a price range in mind that determines what they are willing to pay for a product, it is critical for you to target a workable production cost so you and others can make a profit from your product. Research suggests that you start with setting your production costs at 40 percent of the retail price. That means your ingredients, labor, package and label must price out at 40 percent of what your product will sell for on the shelf. The other 60 percent of the retail price will typically be used to get your product through the supply chain and on to the shelf.
Once you determine your production cost target, you’ll need to determine what price you’ll then sell that product for to the supply chain to make a profit. The usual percentage of a return, or profit margin, for a manufacturer is 30-35 percent.
Formula: $ Production Cost Target = $ Price To Distributor
(1 –Profit Margin)
Beyond your sale to the supply chain, your product will most likely go through other links in the supply chain that add mark-ups that lead to the shelf price. Although you may not use each of the links below, the industry standards for the mark-up ranges of the links in the supply chain are as follows:
Broker 5-15 percent
Distributor 25-30 percent
Wholesaler 10-20 percent
Retailer 30-50 percent
This “mark-up” is calculated by multiplying the purchase price by a percentage of increase. The method for determining their mark-up is below:
Formula: Price of Product Purchased x Mark-Up Percentage = Mark-up Amount $
In summary, since it is virtually impossible for small businesses to compete in the lower price range, it is critical that they highlight attributes about their product that consumer’s value and will pay a higher price for.