What if I told you that the average selling price of a product is not always the same as the price you paid for it?
If you’re curious about pricing strategy, the concept of average selling price might be mind-boggling initially. Why would a company purposefully sell items at the same (or different prices) only to average the selling prices later for reporting purposes?
The short answer: average selling price can reveal a lot about the health of a company.
Business executives and investors pay close attention to average selling price because it’s a reliable indicator of a company’s financial performance. In most cases, the higher the average selling price of a product, the better. But in some cases, like start-ups or businesses making a come-back, a low average selling price can be a smart, short-term strategy to penetrate the market.
In this short guide, you’ll gain a better understanding of average selling price and how to calculate it for your business.
But first, here’s a quick refresher on selling price.
What is a selling price?
The selling price is the amount a buyer pays for a product or service. The price can vary depending on how much buyers are willing to pay, how much the seller is willing to accept, and how competitive the price is in comparison to other businesses in the market.
Selling price can also be known as market price, list price, or standard price. And the following factors help organizations determine the selling price of its products:
The price a buyer is willing to pay
The price a seller is willing to accept
The price that's competitive in the market
Depending on the type of business you own and the offerings you sell, you might prioritize one of these factors over the others. The average selling price of a product can act as a summary of all these factors to help you determine the price you should assign your product.
How to Calculate Average Selling Price
Average selling price (ASP) is the amount of money a product in a specific category is sold for, across different markets and channels. To calculate the average selling price of a product, divide the total revenue earned from the product or service and divide it by the number of products or services sold.
Average Selling Price Formula
The average selling price formula is:
Average Selling Price = Total Revenue Earned by a Product ÷ Number of Products Sold
Now that we understand the average selling price and how to calculate it, let’s apply this concept with actual selling price and apply these formulas to a scenario.
For example, we’ve determined that the average selling price for PCs is $632. Let's say you're trying to determine a price for your high-end, personal computer. You'd likely choose to price your product above the average to stand out as a luxury PC provider.
But how much is enough — or worse — too much? Luckily, you won’t need to guess this number. A simple formula can be used to calculate the actual selling price of your luxury PC.
Actual Selling Price Formula
The selling price formula is:
Selling Price = Cost Price + Profit Margin
Cost price is the price a retailer paid for the product. And the profit margin is a percentage of the cost price.
Let's define the key elements in the formula.
Cost Price: The price a retailer paid for the product
Actual selling price can tell you how much to sell your luxury PCs for. Once your product life cycle is nearing completion, you can calculate the average selling price of your luxury PC to see how it compares to the price you sold it for and the average selling price of non-luxury PCs.
How to Calculate Selling Price Per Unit
Determine the total cost of all units purchased.
Divide the total cost by the number of units purchased to get the cost price.
Use the selling price formula to calculate the final price: Selling Price = Cost Price + Profit Margin
If your business purchases inventory in bulk and sells it, you’ll want your selling price per unit to be higher than the price you paid for it so that you turn a profit. Otherwise, you’ll break even on revenue. While that’s not as bad as losing money, it’s certainly not as good as making it.
For example, Hot Pie's Bakery Supply needs to calculate the selling price for its product line of bread machines. The business purchased 20 bread machines for $3,000.
Total cost of units purchased: $3,000
Number of units purchased: 20
Cost price: $150 ($3,000/20)
Now it's time to plug the numbers into the selling price formula. The cost price for each bread machine is $150, and the business hopes to earn a 40% profit margin. Here's what the selling price formula would look like in action:
Selling Price = $150 + (40% x $150)
Selling Price = $150 + (0.4 x $150)
Selling Price = $150 + $60
Selling Price = $210
Based on the formula, Hot Pie's Bakery Supply has a selling price — each bread machine will be sold to buyers for $210.
Let’s fast forward one quarter. Hot Pie’s finished the quarter with $20,000 in revenue. The business leaders want to know the average selling price of Hot Pie’s bread machines.
Total revenue: $20,000
Number of products sold: 20
Here’s the formula for average selling price in action:
Average Selling Price = $20,000 ÷ 100
Average Selling Price = $200
This is an example where the actual selling price and the average selling price don’t match exactly. This happens occasionally for several reasons including a lower-priced sale item being introduced to sell inventory faster or an unplanned discount to smooth over a customer interaction. This could also be caused by the factors of selling price not being accounted for.
Is the price right for your business?
Both actual and average selling price are critical to telling the financial story of a business. If the pricing is not based on what a buyer is willing to pay, willing to accept, or competitive in the market, you may end up with a pricing strategy that doesn’t make you money. With the correct selling price in place, your business can earn a profit and loyal customers along the way.
Editor's note: This post was originally published in April2019 and has been updated for comprehensiveness.
Originally published Apr 21, 2021 1:30:00 PM, updated April 21 2021