Pricing and understanding the market value for your products and services are fundamental and should be reviewed regularly. I remember a conversation with one of my clients where he recalled an issue from his past that very firmly stuck with him. In his time as a young sales executive, he questioned how long it took for a particular member of an estimating department (Derek) to price a job. He had an impatient client waiting for his quotation and vented his frustration at the delay towards one of the company directors. His rationale or argument was the fact the business had an estimating system that delivered the price automatically, so why was this chap sitting there all day, every day, deliberating over a few pounds. Why did he need to price every estimate that came out of the department? To him, it looked like he was justifying his existence at the company.
The director gave him one straightforward answer. "If we can charge and an additional £10 for every job that goes through the company in a year, we would make an extra £22,000 net profit. When Derek looks at pricing, he considers the market value of the service, relates that to production costs, overheads, customer loyalty and historical margins. With this particular job, he has included an extra £100 to the quotation, and the client has confirmed the order. What extra profit would we make if we could charge an additional £100 on every order that is fulfiled by the company each year?"
Of course, the company director was correct to defend Derek and his excellent work in pricing jobs to not only convert them but also maximise profitability.
What it demonstrated to my client, who was at the time as he stated, a young and somewhat naïve sales executive, is the significance of how cumulative increases in margins can dramatically impact on profitability. That very same business is still trading today, some twenty years later. It is now ten times the size it was when my client worked there. A very successful and accomplished printing company.
Every business will have competitors who are cheaper or more expensive. What the client is looking for is value, and that value takes on board many factors that aren't necessarily directly attributable to price sensitivity. All clients or prospects consider many factors when making a purchasing decision, typically, quality and the ability to deliver a fit for the purpose end product.
How to maximise the value in your business
As well as the factors mentioned above, ESP's or emotional selling points are typical. Trust is a huge consideration for many purchasing decisions. Indeed, the ability to maximise value comes in all guises, not just the selling price, but also the cost price. Cost of sales is a critical factor in how we price our products and services; managing costs fastidiously is an area many businesses overlook. Costs can quickly escalate if not managed and measured, and this has a direct impact on margins and ultimately, profitability.
The simple answer to controlling costs, margins and sales price
Clients who work with me, fully appreciate that financial figures are an essential part of my coaching role. I often find that companies are continually squeezing their margins because of a fear of increasing prices, even though they are offering excellent value and to be perfectly honest, sometimes selling far too cheaply. While the worry of increasing their price prevails, the costs can grow, and margins can very quickly erode. It is a scenario that is one of the most damaging to a business. Cash flow can be a killer, and very often, declining margins are a major contributory factor to poor cash flow. Imagine your business had failed because it hadn't charged enough, and if it had, it would still be trading and flourishing. It is a feeling that no business person would want through their naivety.
A simple but extremely effective solution
In the first quarter of coaching, I work meticulously with clients to review and create costing models, formulated from management accounts and the budget / actual forecast. They include specific margin calculations that cover the cost of sale and overheads. They very accurately detail what it costs the company to make its product or provide their service. Adjacent to the costs section is a sliding scale of margins (Derek's deliberations). The business can very quickly establish their average margin – not a guessed or assumed figure; it's calculated exactly from historical financial data. The sliding scale of margins enables the person responsible for pricing to establish an analytical selling price. If they feel the need to be keen on a particular quotation, it details a specific bottom line, or if they can charge more or add value to the service/product, the calculator indicates incremental marginal increases and possible selling prices. The costing models have allowed my clients to be a great deal more considered and diligent with the pricing of their products and services. They have also created flexibility, with directors and owners empowering members of staff to make calculated and accurate pricing decisions.
Importantly, it identifies the real cost of sale and overheads, which is something businesses can lose sight of and become complacent over. If this happens, before too long, the company experiences a negative margin creep because the costs have spiralled without their knowledge, and the sales price doesn't reflect the increase.
Keeping control of, and potentially reducing your cost of sale and overheads, along with an increase in prices to reflect the value of your products and services, is an essential ingredient for success. As you scale your business, the overheads will naturally reduce as a percentage of turnover, as long as the assets are sweated, widening margins and increasing gross and net profits. A focus on the KPIs in the business model is the catalyst to being in control and successfully scaling a business.
When you consider why businesses fail, there are three factors. Not enough business, poor cash flow and diminishing profitability. All of which can be controlled effectively with the correct tools in place.