After doing only God knows how many income tax returns this season, it was obvious from the financial results that some of my entrepreneurs knew how to price their products and services properly. Others don’t.
We live in inflationary times. If inflation is increasing ten percent annually and you aren’t raising your prices on average by at least that amount, then the only person not getting paid is going to be you. Your suppliers and employees are getting paid.
That 10% your prices inflate is going to come out of your end.
Talking about raising prices isn’t an easy or comfortable conversation. It isn’t a good time on a Saturday night, but it’s obviously necessary.
So before half of you start jumping up and down, beating your breasts, and shaking a boney fist a God saying that you can’t do it, let’s have a scholarly discussion. Sooner or later everyone raises their prices.
If we didn’t, we’d all still be working for a dollar a day.
We’re all familiar with the concept in Keynesian Economics, where if you raise your prices you sell less goods and services. This was the norm and the standard until a couple of University of Chicago Economists won the Nobel Prize with a theory called Price Elasticity.
In order to explain this theory, let’s use a couple of examples.
You’re in the business of selling unleaded gasoline. Every other station in your neighborhood sells a gallon for $3. You increase your price 100% to $6 per gallon.
Will you lose 100% of your demand? Probably not because someone will run out of fuel right in front of your station and need a couple of gallons in order to get to another station that’s charging less.
But this is an example of a homogenous product where if you raise your prices 100%, you’ll lose around 99% of your demand. From a business standpoint, this probably isn’t a great idea.
In the next example you’re a defense attorney. You charge $300 per hour with a $30,000 retainer.
The last five cases you’ve handled received national attention where you got obviously guilty drug dealers off on technicalities. You decide to raise your prices 100% to $600 per hour with a $60,000 retainer.
How much demand will you lose? Probably none.
This is an example of a heterogeneous product where if you raise your prices 100% you won’t lose any demand. From a business standpoint, you’d be a fool not to do it.
These are two extremes. Most of us fall somewhere in between these examples, but one thing is certain.
If you raise your prices 10% and only lose 2% of your sales then you’re making an additional 8% for doing less work. This isn’t just a good business decision, but over time it will probably keep you in business.
Let me leave you with this…
This is only talking about averages. There are specifics that need to be addressed.
If you’re a machine shop and the cost of metal, transportation, or labor has increased 20% or 40%, then this needs to be factored into your pricing.
If you own a breakfast restaurant and the cost of a carton of eggs has gone up 100% in the past year, you’ll need to factor this in as well.
The examples go on and on, but I hope you’re getting my point.
No one wants to do it, but that’s the job. Like it or not, that’s what you signed on for. Entrepreneuring isn’t supposed to be easy. If it was easy, everyone would be doing it.
We provide you with monthly financial statements for a reason. Our monthlies include comparison statements going back to the same period a year earlier.
Look at them. Digest them. Use them to make good financial decisions.
The business you save may be your own. If you need help, please don’t hesitate to contact us.
We’re all going to get through this. Let’s get through it together.
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Chris Amundson
President
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