Business Owners Toolbox Blog Discussions and articles to help the small business owner solve the challenges they face as they grow their business.

Do you price too low?

Many small businesses under-price. They should raise their prices. Pricing too low has several negative consequences:

– You drive away your preferred customers. Sometimes larger companies expect to pay a certain level, and if you charge less, their judgment is that you’re not qualified to provide what they want.

– You attract undesirable clients and customers. Those you attract are smaller jobs, clients that are on tighter budgets, the nickel & dimers, those who are shopping for low price over high quality.

– You are not very profitable. This makes your business vulnerable. You’re not building up enough reserves to weather hard times. You can’t afford to pay yourself well, to upgrade your marketing presentation, to pay your people as well as they should be paid.

— You can’t afford the strategic thinking and marketing you need to boost your company to the next level.

— You can’t afford to hire top-level people, so that more of the work falls on your shoulders when they aren’t up to it.

– You are leaving money on the table. Ask yourself, “If this client hires somebody else besides my company, how much will they have to pay?” If you answer, “They’ll probably pay more to a larger vendor, and the quality might be lower,” then it’s time to raise your prices.

How is pricing a marketing issue?

Pricing is part of your message to your prospective customers. If you set prices too high—or too low—it sends the wrong message, and they won’t do business with you.

Prices are set according to several criteria:

1) Profitability. Making sure all costs are covered with enough left over to give the desired profit margin.

2) Competition. Prices are constrained by your competition.

3) Image. Do your prices fit your image? Will they attract your preferred customers?

Why do you price too low?

— Timidity. You’re afraid if you raise your prices, you’ll drive away your customers. You may indeed drive away your marginal customers, giving you more time to focus on your better, more profitable ones.

— You don’t know what all your costs are, so you systematically underprice. Costs that are often neglected when setting prices:

Marketing and selling. The cost of getting your customers

Owner’s time, both sold and unsold

Owner’s profit, i.e.. return on your investment of time and money

Cost of glitches, mistakes, slippage, theft

Recouping the cost of developing the products or services

— You price based on hours spent or cost of goods sold, rather than on the value you provide to your customers. (See our post “Sell Value, Not Time.”)

What if you can’t raise prices?

If you feel this way, it’s time to ask yourself, are you in a viable business, or not?

Perhaps this pertains to just one part of your business. What do you sell that can or cannot bear a price increase?

Redesign your product or service so that you can sell it for the prevailing market price and retain your target margin.

If you can’t raise prices, control your costs.

• Cost of labor. Set a maximum labor ratio (sales revenue divided by cost of labor including labor overhead). Watch that number like a hawk. Many small businesses have real trouble tracking this number, because they can’t get their employees (and themselves!) to keep track of how much time they spend on different tasks.
• Inventory control. Make sure you aren’t holding too much expensive merchandise. Get rid of stale merchandise. Improve your controls of theft, waste, and returns

Focus on profit, not just revenue

When you’re setting your prices, focus on your bottom line—your profit percentage—not just the amount of sales. Know what your profit margin needs to be, then set prices (and control costs) to give you that.

This is a tough lesson for many marketing whizzes. Only the ones with thriving businesses.