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Raising prices is a balancing act for businesses

It’s Your Money

Posted: July 3, 2008 12:49 a.m.
Updated: September 3, 2008 5:03 a.m.
 
As climbing energy and other underlying costs continue to erode the profit margins of many small businesses, owners are again considering whether they should raise prices. If you raise prices, you risk losing clients to competitors. If you don’t, rising costs can capsize your company.

Raising prices can be a balancing act. Where do you start? As with any major business decision, pricing should take into account a variety of factors. First, you need to carefully analyze the costs needed to bring your products or services to market. Such expenses might include raw materials, storage, personnel, advertising, delivery, rent, equipment, taxes, insurance and the list goes on. Failure to cover all these costs in your price will lead to shrinking profits.

It is important to establish an acceptable profit margin. You can research competitors in your region to determine their pricing for comparable products; you can discern the business climate; you can even ask your customers about their preferences. But in the end, determining the best price will be an educated guess. Fortunately, it won’t take long to discover whether the guess was a good one. Your customers will inform you. They’ll either continue to buy your product or seek out a competitor.

It is obviously easier to lower prices than to raise them. Consumers who cheer when you lower prices by 10 percent might turn to a competitor if you raise prices by the same percentage. Also, small incremental price increases tend to be more palatable to customers than a few large changes. We see this every day in the rising cost of gasoline, utilities and taxes. Incremental inflation we can handle but not a huge bill all at once.

Overall, when considering pricing it’s important to take a long hard look at both your costs and the quality of your products and services. Generally, customers will pay a premium for goods and services that provide — in their perception — greater value. Successful business owners endeavor to increase both the actual quality of their products and the perception of that quality in the minds of customers. If both are done well, then a price increase may be in order.

How do you increase the price? You can simply raise the price, you can notify your customers the price is going up as of a specific a date or you can offer an immediate discount for a large quantity due to a future price increase. Obviously, the best solution of all is testing the price to see where the most effective selling point is.

There are other alternatives to direct price increases. Create packages: Upgrade the value of what you’re offering by adding in other bonuses along with the primary product. Another thought is to offer variations of your basic model or basic package.

You can add various option levels from your standard and come up with a middle and superior model/package. Suggest additional products or services that will enhance the basic product. Retailers do this often when selling clothing and then suggesting accessories and shoes to match. After someone buys from you, follow it up with a “thank you.” Take this as another opportunity to sell. This can be by e-mail, letter or telephone. Provide a list of other products and services.

The key is to know when to make the necessary changes in your business. Many small business owners believe they know intuitively when to react to a changing business climate. Many of them simply rely on the bank account balance. Having the right tools such as the age of your accounts receivable, inventory turnover and break-even point can help make your decisions easier and more manageable.

Julie M. Sturgeon is a Certified Public Accountant in Valencia, specializing in individual and business tax issues. “It’s Your Money” appears Thursdays and rotates between a handful of the valley’s financial professionals. Her column represents her own views, and not necessarily those of The Signal.

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