Pricing is one of the more elusive aspects of business. Unlike other tasks involved with entrepreneurship, setting rates isn’t an exact science. In fact, not only is it confusing, but it’s also downright mystical–there’s no rhyme or reason why customers prefer one amount over another. The commonsense approach of selling wares cheaply to attract more sales doesn’t always work.

Perceived Value Versus Actual Value

There are two ways to set prices for products or services.

The first and most popular is actual value. This method implies that the business owner calculates the time, effort, or cash spent during production and then uses that number as a baseline to charge the customer. For example, if the entrepreneur is involved in the car industry, he must first evaluate the total manufacturing costs. Pricing the vehicles at this exact amount will break even–the business neither gains nor loses money. To profit, the entrepreneur must sell his cars above this break-even point. Typically, the sweet spot is at the 20 percent mark, which makes it cheap enough to attract clients but expensive enough to keep the store afloat. Actual value has been tried and tested throughout the centuries and is the traditional business pricing process.

“Revenue is a vanity metric. What you want is profitability.”

— Jonathan Stark, Hourly Billing is Nuts

“If we are not seen as more expert than our competition, then we will be viewed as one in a sea of many, and we will have little power in our relationships with our clients and prospects.”

– Blair Enns, The Win Without Pitching Manifesto

How to Increase Perceived Value

Sadly, it’s not simply raising prices that create perceived value. You’ll have to make five changes to the product or service itself to produce the effect you want:

Function – function is an absolute requirement for both actual and perceived value items. No matter how much you raise or lower prices, customers will only buy your goods or services if they perform well and meet their needs. The function is non-negotiable and will make or break a business. Broken or ineffective wares will never sell. There is no shortcut.

Feature – actual and perceived values begin to differentiate themselves at this stage. Generally, the more features an item has, the greater its perceived value. Features differ from functions in that they are optional minor enhancements that make the user experience easier and more enjoyable. These improvements increase prestige since customers associate them with positive emotions, making them think the brand is significantly better than its competitors even though they are functionally the same.

Packaging – at this level, it is almost purely perceived value. Packaging has nothing to do with the functionality and features of the product or service. Instead, it’s solely an artistic endeavor. By using visually appealing logos, color schemes, and designs, the brand stands out more in a customer’s eyes regardless of its performance. For example, some manufacturers now utilize containers with matte or polished finishes instead of shipping their wares in plain cardboard boxes. They also include regal envelopes with letters of appreciation and multiple freebies that are inexpensive to produce but create an image of success and generosity. Packaging also applies to the product itself. The more sleek and stylish the item is the greater its perceived value.

Rarity – Nothing stops a company from producing thousands, if not millions, of their merchandise. Still, to make more money from a single sale, they will intentionally decrease the supply to raise demand. This technique is a practical, if not artificial, way of boosting perceived value. Customers are willing to pay considerable sums to be part of an elite group. Words like “hand-crafted” are also thrown around to bolster the perceived uniqueness of an item. The non-fungible token (NFT) business is built entirely on rarity and has yielded tremendous profits for its creators.

Brand Image – Finally, brand image is the most elusive but simultaneously the most effective way of boosting perceived value. The more a product or service is associated with the rich, powerful, and famous, the more it will draw people. As a social experiment and public prank, the well-known discount shoe store Payless once changed its name to the high-sounding word Palessi, placed extravagant chandeliers and marble statues in its interior decoration, and hired gorgeous models as salespeople. Despite selling the same cheap shoes at jacked-up prices, unsuspecting customers hailed Payless (or Palessi) as the next big thing and shelled out tons of cash.

Perception is Key

No matter which value-based pricing you prefer, quality comes first. Selling your goods and services becomes irrelevant if no one wants to buy them because of shoddy craftsmanship.

However, once you’ve established the reliability of your brand, it’s time to think about perception. The only way to outperform your competition is to imprint in people’s minds the superiority of your wares. Create an air of mysticism and an aura of greatness to justify an increase in prices.

Profits are sure to follow.