What's Your Optimum Selling Price?

Hello %%First Name%%

How do you determine the price of the product or service you sell and have you measured if it is the best selling price to maximize your profits?

Your optimum price will ultimately be determined NOT by you but by what your customers are prepared to pay. You can only find this out by testing different prices.

There is always a minimum price below which it doesn't make sense to sell your product or service. You've got your overheads to cover and the minimum amount you need to earn to cover your personal living costs.

To test for the optimum price you need to test some price points. If you can differentiate what you do, you could even look at raising prices by 25% or 50%. If you can't differentiate from your competitors, small increases are likely to be more relevant. Then record the results. You also need to test if price decreases make you more profit.

Make sure you measure the impact of price movements on profit and not on sales levels.

Let's look at an example for a company selling widgets...

At present it sells 10,000 widgets at £100 each, giving sales of £1,000,000. The widgets cost £70 each to make, so cost of sales is £700,000 (10,000 widgets at £70). With fixed overheads of £250,000 this would leave a net profit of £50,000.

The company wants to know if it is better off by reducing prices by 10% or increasing prices by 10%?

After testing, they find out...

• Option 1 of reducing prices by 10% results in a 20% increase in quantity sold

And

• Option 2 of increasing prices by 10% results in a 20% fall in quantity sold.

So which should they do?

It's tempting to go for option 1 with 20% more sales from a price cut of just 10% but let's look at what happens in each situation.

Option 1...

Sales are now 12,000 widgets at £90 each, giving sales of £1,080,000. Cost of sales are 12,000 widgets which still cost £70 each, so cost of sales is £840,000. With fixed overheads remaining unchanged at £250,000, there is an overall net loss of £10,000.

Option 2...

Sales are now 8,000 widgets at £110 each, giving sales of £880,000. Cost of sales are 8,000 widgets which still cost £70 each, so cost of sales is £560,000. With fixed overheads remaining unchanged at £250,000, there is an overall net profit of £70,000. This is a 40% increase in net profits compared to the original position!

Raising prices is better. In addition you have less work to do for more money.

Every situation will vary depending on your profit margins, which is why it's important to do the numbers. However, using discount pricing will generally mean you do have to significantly increase sales volumes to make more profit.

In the average UK Company, that makes a 5% net profit on its sales, a 1% price increase will increase the net profit percentage to 6% which is actually a 20% rise in profits from just a 1% sales increase. How many of your customers would leave if there was just a 1% price increase and would that give you a 20% increase in profits? Would you stop drinking your favourite drink down the pub if its price went up by just 1%?

The more you can differentiate your products or services from others the wider the range of possible prices as the customer has little to compare what you are offering against.

To discuss this or for any of your accountancy and tax needs, please give me a call. I'm very happy to visit you without charge for a consultation to discuss how we could help you further.