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Pricing & Royalties

Wednesday, February 3, 2010 4:21 am

One of the first questions I ask inventors is: What do you think your product’s Suggested Retail Price should be? Usually it’s an educated guesstimate, which is just fine as a starting point. Although there are many sophisticated methods employed by large corporations to calculate potential market acceptance and pricing, no fool-proof method exists. We all remember products like the Ford Edsel and “New” Coke. Correct pricing can’t be overstated.

A rule of thumb often used for pricing consumer oriented products is The Rule of Five. This rule says that the Suggested Retail Price needs to be five times production cost. That means a product that can be made for $2.00 should sell for $9.95 retail. Every industry is of course different, and every product unique, so this rule doesn’t work in every case.

The next logical question is: If a product can be made for $2.00, and if it sells for $10.00, then who makes the $8.00 profit? The largest portion goes to the retailer who buys the product at a wholesale price of $5.00 or $6.00. The remaining $3.00 or $4.00 is the manufacturer’s gross profit. Business overhead costs including royalties are paid from the gross profit. What’s left is the net profit. Inventor royalties fluctuate higher and lower, but usually range from 4-10% of wholesale – not retail. So for an example: a 5% royalty on a $5.00 wholesale cost nets a 25¢ royalty for a $10.00 retail product. A quarter doesn’t sound like much to an inventor, but the goal is for the product to be sold many times over, in many locations, and to generate many, many quarters.

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