It may surprise a lot of people to hear that one of the most common pain points for business owners is pricing. What is not surprising is that pricing is critical to the success or failure of every business. Business owners should check that they’re not making one or more of these mistakes.
Situation #1 – Sales versus Profit
Times were tough, so David decided he had to drop his prices below his competitors. The results seemed gratifying. Business picked up quickly and when David looked round his shop he could see his sales staff were always busy with customers.
Then came the call from his accountant. “Aren’t the sales figures great?” said David, getting his bit in first. ‘Yes”, said the accountant, “impressive sales indeed. That’s the good news. The bad news is that the business has actually lost money over the last quarter.”
This was how David learnt that trading for sales and trading for profit can be two different things. Chasing sales revenue is fine, provided your prices give you a sustainable profit. John hadn’t checked his costs for some time – so the unwelcome news from the accountant came as a shock.
Lesson #2 – Under cutting competitors
Sue’s PR and media consultancy start-up was struggling to gain some traction in the market. She was promoting a charge-out rate 20% below the industry average, explaining her overheads were lower than larger companies. But clients were just not biting.
The turning point came after advice from her mentor. “You’re selling yourself short, Sue,” said the mentor. “With your qualifications and experience in large media companies you should be charging at least as much as other businesses do – if not more. I understand your marketing strategy, but I don’t think clients see it that way. They are more likely to interpret lower costs as lower value and lower quality. In your industry confidence goes a long way, so you shouldn’t be afraid of marketing yourself at a price that reflects your expertise and experience.”
Furthermore, Sue’s mentor also noted that “if your prices are lower than your competitors, it makes your business much harder to grow as you don’t have the profit margins to afford to be able to hire appropriately qualified staff”. Without being able to scale her business, Sue runs the risk that her business cannot grow beyond just herself which is a very common trap for entrepreneurs.
Lesson #3 – Differentiation
The service side of Alan’s computer store was doing reasonably well, but the computers, laptops and tablets he offered were mostly gathering dust. He tried to price as closely as possible as the big shed competitors, but that meant there was hardly any margin in each sale.
After a brainstorming session with his accountant, Alan realised it was pointless trying to compete head on with larger competitors who had far more buying power. Alan knew that many of his customers were small business owners so he decided to reposition his business as a one-stop niche store for small businesses and start-ups.
His new point of difference was to offer a comprehensive service package to small businesses that bought his computing gear. The package focused on solving their main pain points, such as setting up new computers, laptops and tablets and networking them effectively; transferring data from previous machines; and setting up the systems, databases and accounting programs they needed to operate efficiently.
Alan still makes relatively small margins on the actual computing hardware, but has enhanced his profit margin considerably by selling his ‘total solution package’ of added services and service contracts.
Takeaways
These business stories all show how pricing can be crucial to your success. You must know all your costs to price appropriately and you must know what competitors are charging, without blindly trying to follow them as they may have different cost structures.
It also helps to remember that there’s more profit at the top end of the market, so if price proves a stumbling block, look for innovative ways to add value through compelling points of difference.
A final lesson is that discounting seldom works for smaller businesses. Sacrificing profit margins for sales means you need high sales volumes while bigger businesses can undercut your prices even more in a price war – resulting in a race to the bottom.
Contact the Maddock’s Accounting & Advisory team here to find out how we can help.