Price pressure is a common reality of doing business and setting prices can drive an entrepreneur crazy.
Not to mention the consternation faced by owners and managers everywhere, being asked to sign off on discounted deals by sales reps and customers alike.
Price will be one of several buying motives for most people. If you are not competing in the price basement market, but price is the only motive you are responding to, then price will be all people will judge you by.
Maintain your price by adding value in other ways
It’s important you understand the danger of discounting and it is perhaps timely to remind ourselves to resist the temptation to discount as our only tactic to win business.
While reducing price to get the sale might help grow the revenue, it has a significant impact on the bottom line profit.
Did you realize that if you normally sell a product for $100, and make $40 profit, then if you discount by 10%, you will have to sell 1/3 more product to make the same amount of profit that you did before you started discounting?
Here’s an example
Gross Margin = the % of sale price left after deducting costs
Gross Profit = Total sales less direct costs
Say your product has a sale price of $100 and direct cost of $60.
Gross Profit per item is $100 – $60 = $40
Gross Margin is ($100-$60)/$100 = 40%
So if you sell 10 units, the profit will be $40 x 10 = $400.
Now, if you take $10 off the price, (a discount of 10%), then sale price will become $90 and the cost remains at $60.
Profit per item is now $90 – $60 = $30.
To maintain your profit of $400 at this discounted sale price will require sales of $400/$30 = 13.3 units or 33% more units sold!
Here is a useful table all entrepreneurs should be aware of when setting prices
1) First work out your product margin at list price, which is shown on the top row of the table.
2) Then work out the percentage discount you are offering.
3) Go down the margin column, and along the percentage discount row to calculate the percentage increase in sales you need to make to maintain the profit you would have been making at list price.
The table stops at 25% discount. The numbers get too scary above this. Hopefully you are not discounting more than 25%!
Paul Newsom is a change agent at Young Enterprise Trust.
