Pricing For Profit. Part 1

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Pricing For Profit. Part 1

by helencousins on March 30th, 2011
20 Comments

“The right price is the highest one that fits your business strategy.” Herman Holtz, Business Consultant & Author (….- 2001)

You should bear your business strategy in mind when setting prices. Knee jerk pricing, used simply to boost sales or cash flow by lowering prices in a slack period, can have disastrous consequences for your business in the long term. You should be wary of training your customers to expect low prices. In practice, it can be very difficult to raise prices again, and a price set too low to be sustainable will result in losses for your business.

What is your strategy?

Does your business adopt a “pile ‘em high and sell ‘em cheap” approach or do you focus more on producing quality goods and services? Obviously, your pricing strategy has to reflect your core business values. You can’t chop and change from being bargain basement to top drawer, as your business must develop a consistent brand, which includes your price. Price is your only chance to capture brand value. If you get pricing strategy wrong then you won’t optimise your profit, and worse, you could end up developing a business that can never make money. The strategy rule applies no matter if you are selling:

Services – from hairdressing to consulting, or
Goods – from glassware to computers.

Beware the Magic Formula

Many business people want the comfort of a formula, but there is no easy answer. Pricing is more art than science and more a function of marketing than finance. If you simply apply a margin onto your costs, called “cost plus pricing”, you will not optimise profit. Don’t believe me? In the next two paragraphs, there are two scenarios opposing scenarios contrasted, (high costs versus low costs), and in neither situation will profit be maximised.

Costs are high

Your customers don’t care about your costs. They only care about the value that they get. If your costs are high, you are building your inefficiencies into your price and you may be over-priced compared to your competitors. Imagine for example, that you are paying high rent on your coffee shop and you work out that you need to get €5 for every cup of coffee to be able to pay that rent. Your competitor on the same street, might own his premises and be happy to get €3 for every cup of coffee that he sells and still make profit. Assuming you both have nice clean premises and decent coffee, where do you think the customers are going to go? Your customers don’t care about your costs, so don’t penalise them with a magic pricing formula. Change your strategy instead – and that may even mean changing your entire business model or premises.

Costs are low

How do you imagine that Apple set prices for their latest uber-cool gadget? Do they add a magic % onto manufacturing and fixed costs? When Apple launched the iPod in 2001 at a price of $399, it was almost double the price of competing MP3 players at the time. By 2005, they had shipped almost 21 million iPods, so the high price didn’t detract from sales volume. Their per unit iPod profit was almost the same as their per unit profit for their flagship iMac computer. Consumers will pay a premium for highly desirable or unique items, and a crude one-size-fits-all margin pricing formula means that you will fail to capture the value of your brand. Unique, scarce, high quality, these are all positive brand values that will add to the value of your brand and this can and should be reflected in your prices. Cost plus pricing fails to recognise the needs and desires of your customers and does not maximise your profit.

Next time, in “Pricing for Profit”

Over the next two posts, we will explain the difference between costing and pricing and outline the first steps you need to take in order to price your products or services for profit.

Category: customer, Marketing Strategy, The Fours Ps

Tags: 4 ps, management, marketing, pricing, pricing strategy, profit

The Author: helencousins

Helen Cousins, a chartered accountant by profession, is a business mentor, trainer and consultant for a wide range of Irish SMEs, often working under the auspices of state agencies via her company Xcel Business Solutions. In a successful career spanning more than 25 years, Helen worked in accountancy practice for PricewaterhouseCoopers, and worked in Financial Controller and senior management positions in manufacturing industry, before starting her own consultancy for small businesses. Helen is also a self catering entrepreneur, operating her own self catering holiday home business in Wexford. She is a director and former Chair of the Irish Self Catering Federation, and she works closely with the tourist industry in Ireland. http://xbs.ie

Add Your Comment

http://twitter.com/fredchannel Fred

Good post Helen, welcome to Bloggertone!nIt surprises me how many people in business have the big assumption (I say assumption because no one taught them this) that dropping the price or being less expensive will help them move forward. Unless you’re Walmart, Dell or any huge company, being in the price race will be the hardest path.nAll businesses should strive to find at least one valuable thing, that makes them different and it should be reflected in the price. Then, business owner and consumer should be both on the same page regarding why this product/service costs more
Helen Cousins

Yes Fred, you have it nailed. If a company can’t define what’s unique and valuable about their product, then they can only compete on price. Nobody wins price wars. Prices wars are a race to the bottom and the consumer loses in the end through reduced choice and usually poorer quality and service too.This is why the marketing message is so important to pricing. To put it simply, you need to give customers reasons to justify paying your price. With discretionary spend, people buy emotionally and justify intellectually. So give them a reason to really want your product and also a logical reason to brag to their mates as to why they paid more for it.nThanks for the welcome Fred, I’m delighted to be featured here!
http://www.tweakyourbiz.com Niall Devitt

Hi Helen, Welcome to Bloggertone! Great post and very topical right now, I’ve seen so many small businesses adopt a reactive rather than proactive approach to their price setting. Dropping price is not the answer, particularly when you consider that’s the exact same approach that your competition are engaging in too. As Fred points out, the key is really examine the business and learn how to diffrenciate. Thanks for sharing, Niall
Helen Cousins

Hi Niall, nSmall businesses can differentiate without spending wads of cash or discounting. For example, if you are providing B & B, free WiFi is really valued by guests and could give you the edge over your competitor. Thanks for the welcome Niall and for adding to the post!
http://www.pricingforprofitbook.com Dale Furtwengler

Great message Helen. One of the things that I’ve found that’s made pricing easier for my clients is the realization that there are only three things any business sells – image, innovation or time savings. Any benefit that a business offers will fit into one of those three categories. Once we determine the primary value proposition – image, innovation or time savings, we have readily available buyer data to see what buyers will pay for each. I hope this helps your readers.
Helen Cousins

Hi Dale, I was just thinking about a job I had early on in my career, as an Industrial Accountant in a manufacturing company. The primary product was sewage pumps (!) and there were constantly new products coming on stream, (pardon the pun). I guess the value proposition there was innovation – offering better way to pump that stuff. I am mulling over the 3 categories you suggest to see how they would apply to the small businesses I work with now. Would a restaurant fit into image perhaps? I’m not sure, but pricing is all about how you pitch it – I certainly agree with you on that. Thank you for adding to the post – you have me thinking now!
http://www.pricingforprofitbook.com Dale Furtwengler

Helen,nnYou’re exactly right. That pump manufacturer’s value was innovation. They should have been reaping huge premiums for that innovation – assuming it was something the market valued. All to often businesses add benefits to ‘gain competitive advantage’ without knowing whether or not the buyer will value that improvement. Why? Because they fail to ask them to pay for it.nnEvery restaurant, to some degree, has image as a factor in its value proposition, as do most businesses. The key is to understand that whether the primary value proposition is image, innovation or time savings, you’re looking at a spectrum. The question is where does that business fit on the spectrum. The local diner might offer great food at an incredibly low price and little, if any, ambiance. At the other end of the spectrum you have 5-star restaurant where people a spending huge sums for the experience including great food.nnThe diner’s image is one of practicality. Their customers are interested in good food, a friendly atmosphere and affordable prices. Conversely, the 5 star restaurant’s image is ‘the place to be seen.’ Anyone who’s anyone will be there. It says “I’ve arrived!”nnWhile these are very distinct images, they are images nonetheless. Hopefully, this will make clarify my earlier comment. Continued success!
Helen Cousins

Thanks Dale – I like your thinking!
http://www.ivanwalsh.com Ivan Walsh

Hi Helen, nnre do you focus more on producing quality goods and services?nnOne trend I’ve seen when selling digital products is that the higher the price, the less customer support and refund requests we get… nnIvannnnn
Helen Cousins

Hi IvannSpot on! The production & sale of quality goods and services is what I focus on & can relate to. I like to see businesses being rewarded for their efforts, by reflecting the product / service value in their price. Of course, the business has to deliver & meet customer expectations every time to merit the higher price & generate repeat and referral business. It’s good to hear that your higher priced digital products are giving customers a good experience, as evidenced by fewer support requests. Thanks for sharing your experience Ivan. nHelen
http://alidavies.com/ Ali Davies

Helen, I see issues relating to pricing with my clients regularly. I work mostly with women who run a buisness from home. Often the approach to pricing is linked to things like how much they value themselves, confidence, limiting beliefs, fear and so on. As a result many people are under pricing their services and the real value they bring to the table. I think it is vital to be aware of mindset and how it might be sabotaging pricing strategy in our businesses
http://www.seefincoaching.com/blog Elaine Rogers

Hi Helen,nThere is a notion that you get what you pay for in this world.nQuality, innovation, uniqueness are all great things to offer a potential customer/client. But unless it solves a problem they have, it won’t sell, in my opinion.nnPricing must also reflect the goals and dreams of the small business owner. Do they wish to work 80 hours a week, offering a mediocre product/service, or can they create a niche for themselves, and get better return for their solutions, unique product, or great service?nnEvery entrepreneur has unique qualities, and if we can hone these, we can price accordingly. Sometimes it is better to look to breaking from the pack, instead of staying in the safety of the pack or herd, and just “doing what everyone else does”. nnWelcome to Bloggertone, looking forward to part II
http://www.pricingforprofitbook.com Dale Furtwengler

Elaine, I believe that we’re saying the same thing, simply using slightly different language. You’re right, we have to either solve a problem or help the buyer fulfill a dream or it won’t sell. I also agree that every entrepreneur has unique qualities, strengths and passions that set them apart whether they’re providing image, innovation or time savings. Indeed, many of my clients have told me that they hire me because I align the market to them rather than asking them to adapt to the market. That’s because their greatest value lies where their unique qualities, passion and strength reside.nnYou’re also right that pricing often reflects the seller’s personal goals. I have two friends, one consultant and one professional speaker, who fear that they’ll lose their edge if their not working, in my mind, an inordinate amount of time. Their pricing reflects the desire for volume. As you’ve probably surmised, not my business model. Thanks for the insightful comment.
Helen Cousins

Hi Elaine, nI agree with you. In the example cited in the blog above, Apple charged almost double for an iPod at launch compared to other MP3 players atthe time. They would still have made a lot of money at a lesser price, but as they offered such an innovative product, Apple didn’t need to price low. This way they made more money for the same effort and costs.This is a good example of “breaking from the pack.” There are different considerations to be taken into account when pricing a product or service, but there are some principles that remain the same. nThank you for your welcome and the comment – much appreciated. I now have food for thought for Parts 2 and 3.nHelen
Helen Cousins

Thanks Dale, good points again. I wasn’t planning on doing a post exclusively on pricing professional services, but based on your comments & those of Elaine and Ali, a post on that topic might be useful and will probably generate debate. If we keep this up,we’ll have another book written between us all!n
Helen Cousins

Hi AlinI have even encountered that same issue with some professional services firms that I have mentored, and the partners were indeed women. But men have issues too, (they can find dealing with losses very difficult for example).nI agree that mindset is fundamental to business success, from asking for the right price, to closing the sale, through to collecting the fee. I will addess the issue of professional service pricing in a later post.nThan you very much for raising the point Ali – it’s a good one!nHelen
http://www.pricingforprofitbook.com Dale Furtwengler

Kudos to you, Helen, for initiating such a lively discussion. Nothing wrong with creating content for another book.
Patricia

Helen, this is a great post – really enjoyed it – thank you! nnAs a relatively newbie to the entrepreneurial world, pricing certainly was one of my main areas of struggle and certainly can relate to points noted by Ali Davies below!nnI got lots of advise on this very matter before going into business – but no matter how much I intellectually reasoned things out, I personally felt it was necessary for me to directly feel the barriers I came up against before positive change happened. Guessing this is different for everyone?nnI was also fortunate that I got to meet Ali in person recently and though we hadn’t meet to discuss this point in particular, during this meeting Ali was very generous with sharing her wisdom. I therefore don’t discount Ali’s positive influence on my thinking and thank you too Helen for sharing your own insights which are equally valuable.nnLooking forward to Part 2.nnPatriciannn
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http://www.capitalsteelbuildings.com.au/ steel building design

If a business can’t characterise what’s exclusive and precious about their merchandise, then they can only contend on price. Nobody wins cost wars. Prices conflicts are a rush to the base and the buyer misplaces in the end through decreased alternative and generally poorer value and service too.

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Tweak Your Biz » Marketing » Pricing For Profit. Part 1