Small Business Blog

Profit Margins & Pricing Strategy

Have You Put Your Figures Through This Model To Find An Extra 17.4 - 41.4% in Net Profit?

If you are not prepared to implement this strategy, that only takes a bold and smart decision to make and 5 hours to implement, don't waste your time reading this article. Your accountant has probably told you this strategy, you've hear this before from other coaches and advisers, you are probably even thinking about doing it, but are you prepared to make the bold decision and get the benefits?

Calculate your own figures to see how different things could be...

Are You Feeling Your Net Profit Margin Eroding Away?

Each year the same thing happens. Always, just like the two certainties' in life of death and taxes, inflation happens every year... prices go up. Wages, kiwisaver, general expenses, suppliers costs, and what about the general personal cost of living... you'll need to pay yourself more as well this year. What does this all lead to? Net Profit erosion, from $50,000 last year to $35,000 this year, or $0 to -$20,000 or $250,000 to $200,000.... whatever the figures, there is a quick way to project and effect a different result and easily implement it.... take a look...  

The Profit Model

Take some time to study the below figures. What we are looking at here is a well performing business, they have entered some very basic data into the white cells and all the rest is automatically calculated. If you want a copy of this simple yet power tool download your copy now profit model template.

Let's examine the Original Position

Here this business makes $180,000 per year in Net Profit, that's a 18% Net Profit Margin based on sales of $1m. They had 400 sales or invoices or transactions last year so we can calculate that out to an average amount for each sale of about $2,500. What is particularly useful for businesses that are yet to make a profit is the next 2 rows, Breakeven Sales $, and Breakeven Transactions. This is a key target for businesses yet to make a profit, and can be broken down into monthly, weekly and daily targets so you can see how you are tracking.

Each business also has a conversion rate, some high (like most business owners think) and some low (like most businesses really are). Very few businesses actually measure this key figure, but it is very important and will determine the number of leads or enquiries your business needs. From this you can start to determine what marketing & advertising spend you need to bring in that many leads.

And what about the Projected Position

The Four key areas used in this Model to affect your Net Profit are;

• Price
• Sales
• Cost of Sales (COS)
• Expenses

Let's put up prices by 10%, not a huge amount just 10%, increase $50p/hr to $55 p/hr, a bottle of wine from $17 to $18.70, etc... Now assuming 3% inflation on Expenses and Cost of Sales (suppliers & service team wages) we can still lose, yes lose 10% of last year's sales transactions and achieve a 17.4% increase in Net Profit, that's an extra $30,000, for the business doing 10% less work!!!!!!

And what hourly rate are you now working at for working ON your business and making a strategic decision to increase prices and implement it? Well, it only takes a few minutes to run your own figures through the profit model and a few hours to organise a price increase, let's say 5 hours in total to get this strategy implemented. That's 5 hours to make $30,000 more in profit! But, what about the value of the business' goodwill, which is linked to the profit it makes by a multiplier? In an owner operator business it might just be 1 x Net Profit, a stock exchange listed company is likely to be 20 x net profit, in an average small business it is 2-3 x Net Profit. The more stable, systemised, and predictable future profits of a business are, the higher the multiplier.

Add the increase in goodwill value to the extra net profit, and you have a great hourly rate for working ON the business!!! Think about what your time is worth.

What if we didn't put up prices and just sold more?

Using this same example, you would need to do 15% more transactions and this also does account for an increase in marketing or advertising expenses to achieve this, it just assumes it happens organically, or by itself, without a increased marketing spend to attract more leads. Doing 15% more transactions would also have an effect on the in-house resources required to do that, so it's likely to increase expenses by more than inflation alone.

As far as valuation is concerned we are probably about the same, but with an extra 15% increase in sales I bet you'll be working another 5 hours per week, see what that does to your hourly rate below...

Are you saying I should put my prices up or not?

Can you always increase prices by 10%? No, normal supply and demand will see to that. The idea here is to see just where you are going to position your business; Economy (low price & high volume) or Premium (high price & low volume), both are fine, but what do most businesses do, price themselves in the middle, not taking the risk either way and in the process just become another ‘average' business that gets lost in a sea of like businesses. Play with the figures and shape your business to fit your targets, at a high price you better be awesome, at a low price you better have awesome scalable systems. In the middle, you've bored me and I've already changed the channel.

This week's Action Points...

Get your copy of this useful and powerful tool, and take a few minutes to project and shape the future of your business and not just take it the environment lying down.