Value-based pricing: The smartest strategy for SME growth

In this final of 5 articles, learn how value-based pricing helps SMEs grow by charging based on customer-perceived value, not costs, and with appropriate reference to competitors.

Pricing is one of the most critical decisions a business can make. Charge too little, and you leave money on the table. Charge too much without justification, and you risk losing customers. For small and medium-sized businesses (SMEs), pricing is often approached with a mix of guesswork, cost-based calculations, and competitor benchmarking. However, a more effective strategy exists: value-based pricing.

This article will explore what value-based pricing is, how to implement it in your business, and how it should be augmented with an awareness of competitors and substitutes.

Value-based pricing is the strategy of setting a price based on the perceived value of a product or service to the customer, rather than on the cost of production or the prices of competitors​.

Instead of asking, "How much does it cost to produce this?" or "What are my competitors charging?" the key question is, "How much value does this provide to my customer?" The goal is to capture a fair share of the value your product creates while ensuring the customer receives a compelling benefit.

• Example: Pricing the £1M Gadget

Imagine a company develops a breakthrough ‘gadget’ that helps businesses save £1,000,000 annually in fuel costs. Using a traditional cost-plus approach, the company might set the price based on production costs—say £900—then apply a 50% markup, resulting in a price of £1,350. While this ensures a profit, it completely ignores the immense value the gadget provides to customers.

With value-based pricing, the company instead considers the customer’s perspective. Since the gadget delivers £1M in savings each year, pricing it at a percentage of those savings - perhaps £250,000 - still allows the customer to benefit from £750,000 in net savings. This approach aligns price with value, ensuring the company captures a fair share of the benefits it creates rather than limiting itself to cost-based pricing. This example highlights how value-based pricing allows businesses to price based on economic impact rather than arbitrary cost calculations.

An added benefit of value based pricing is the calculation above can be used to help explain to customers why they should buy.

1. Understand your customer’s perspective

Value-based pricing begins with understanding your customers deeply. Ask:

• What problem does my product solve?

• How much does this problem cost my customer?

• How much money, time, or resources does my product save them?

• What emotional or functional benefits does it provide?

By answering these questions, you can quantify the value your product delivers.

2. Identify the customer’s alternatives

To understand value, you must also consider substitutes. What would the customer do if your product didn’t exist? Would they:

• Use a competitor’s product?

• Implement an inefficient workaround?

• Accept a lower quality solution?

Identifying alternatives helps determine your pricing power. If your solution is vastly superior, you can charge a premium.

3. Quantify the value delivered

In business markets (B2B), quantifying value is often straightforward—cost savings, productivity gains, or revenue increases. In consumer markets (B2C), emotional value plays a larger role. For example:

• A luxury handbag doesn't just hold items—it signals status.

• A premium software subscription may include superior support, reducing frustration.

Apple is a master of this approach, charging premium prices not solely based on technology but also on brand perception, ease of use, and customer experience​.

4. Determine your share of the value

Once you quantify the value, decide what portion to capture. In many industries:

• The business retains 15-25% of the value created.

• The rest benefits the customer​.

For example, if a software solution saves a company £100,000 annually, charging £20,000 per year (20%) would be a fair value split.

5. Test and refine pricing

Pricing isn’t a one-time decision. Conduct market tests, collect feedback, and adjust as needed. A/B testing, customer interviews, gross margin benchmarking and sales data can reveal whether you are underpricing or overpricing.

Many businesses default to cost-plus pricing, where price = cost + markup. While simple, this entirely introspective method ignores customer value and can lead to either leaving money on the table or being uncompetitive​.

Competitor-based pricing, where businesses price based on industry norms, also has issues:

• It assumes competitors set prices correctly, which isn’t always the case.

• It ignores differentiation, meaning businesses may undervalue unique strengths.

• It leads to price wars, which hurt profitability.

• “Me too” pricing will signal that you are no better than competitors.

Value-based pricing solves these issues by aligning price with the actual value perceived by the customer.

While value-based pricing is the most effective approach, competitor and substitute awareness remain important. If competitors offer a similar product at a significantly lower price, customers may not perceive your value proposition as strong enough.

How to balance value pricing with market awareness

1. Analyse competitor pricing, but don't match it
   Look at competitors to understand the price range, but use it as a reference—not a rule.

2. Emphasise unique benefits
   If your product is superior, highlight the differentiation in marketing and sales efforts.

3. Segment your market
   Not all customers perceive value the same way. Consider tiered pricing or premium options.

4. Use reference points strategically
   Customers often judge prices relative to benchmarks. Introducing a premium-priced option can make your main product seem like a "better deal" (known as price anchoring)​.

For SMEs looking to maximize revenue, profitability, and customer satisfaction, value-based pricing is the optimal strategy. By understanding how much value your product creates, capturing a fair share of that value, and adjusting based on competitive positioning, you can set prices that reflect true worth rather than arbitrary cost or industry norms.

While competitor pricing and cost awareness are useful sanity checks, the foundation of pricing should always be customer value. With this approach, businesses can increase margins, differentiate effectively, and build long-term customer relationships.

Are you using value-based pricing? If not, now is the time to start.

Winning Sales & Marketing Book 2024 in the Business Book Awards with “Double Your Price: The Strategy and Tactics of Smart Pricing” Professor David Falzani MBE has trained over 2,000 growth companies at the University of Oxford, Royal Academy of Engineering, and Nottingham University, leveraging his experiences as an entrepreneur and business consultant.