Access To Market - Pricing Presentation

“How Much Does That Cost?” or

“That Costs How Much?!?!”

KSBDC Access To Market ProgramPricing WorkshopJanuary 25, 2013

Vallorie HendersonManagement Consultant

Importance of Proper Pricing

• Underpricing– Lose money with each sale– Business failure

• Overpricing– Loss of sales– Business failure

• Proper pricing– Business success!

Wholesaling vs. Retail

• Keystoning

• Be consistent every place you sell

• Don’t undersell the retailers

• Corporate gifts or sales to the trade

The Real Price

The real price of your product or service is the amount the

customer is willing to pay for it.

Pricing Strategies

• Promotional: Temporary strategy to generate interest, launch a new product, or sell in quantity.

• Close-out: Lower prices to sell off unwanted stock, excess inventory, or out-of-season or perishable goods.

• Quantity: Lower prices for customers who purchase multiple units or large quantities.

• Product line: A range of products based on varying benefits.

Pricing Strategies

• Bundling: Items bundled together at a price lower than if purchased separately.

• Psychological: Hitting price points that are significant ($99.99 sounds better than $100.00).

• Captive: Charging a low price for the initial product but higher prices when customers need refills or upgrades for the item.

• Loss leader: Charging below cost to try to attract customers to other products.

Pricing Strategies

• Destroyer: Charging a price below average to drive out competition (not appropriate for most small businesses).

• Skimming: Charging a high initial price on new, innovative products due to popularity and a lack of competition.

• Discrimination: Charging different people different prices for effectively the same product.

How to Price

Determine…

A. What the market will bear

B. What the competition is charging

C. Your production costs • selling price must be greater than costs

D. Your break-even point • how much you must sell in order to cover

expenses

What Price is Right?

What will the market bear?

• Conduct customer surveys– Ask what is considered a reasonable price

• Shop the competition– What does the competition charge?

• Market research selling– Selling small quantities at fairs or in sublet

space

Who Is the Competition?

Know competitors by name Identify their strengths and

weaknesses Understand their pricing strategies Know what they offer customers

(superior customer service, expert installation, etc.)

What Are Your Expenses?

Cost of Goods Sold– The direct cost of producing your goods or

services• Production labor, materials, packaging, and

shipping– Fluctuates up and down relative to sales

Fixed Expenses– The indirect costs of being in business

• Overhead, administrative costs– Exist whether or not you have sales

Paying Yourself

If you don’t include your compensation in your pricing strategy, the money will never be there to pay yourself.

Build in the ability to pay yourself in two places: COGS: in the beginning, you’ll probably be

the production labor force, so include an hourly labor rate here.

Fixed expenses: You will also manage the business, so include a manager’s salary here.

Paying Yourself

Until you reach break-even, you may choose to pay yourself only the hourly labor rate included in COGS.

Once you reach break-even, you may choose to pay yourself the manager’s salary included in Fixed Expenses.

The Break-Even Analysis

Tells you how many products or services you need to sell to reach break-even (no profit and no loss)

At the break-even point, you will cover all your expenses but realize no profit (profit occurs with the next sale)

Financial Terms

• Gross income: Amount of income a business earns before expenses are considered; total sales revenue.

• Gross profit: What remains of income after subtracting COGS. Gross income – COGS = Gross profit

• Net profit: What remains of gross profit after subtracting fixed expenses.Gross profit – Fixed expenses = Net profit

Financial Terms On the Income Statement

Income

Sale of widgets (10@$75/ea) $ 750

Total gross income $ 750 Gross income

COGS/Variable costs

materials & labor (10@$25 ea) $ 250

Total COGS $ 250 – COGS

Gross Profit $ 500 = Gross profit Gross profit

Fixed/Overhead costs

Rent $ 300

Utilities $ 100

Accounting $ 100

Total Fixed expenses $ 500 – Fixed expenses

Net Profit (loss) $ 0 = Net profit (loss) BREAK-EVEN

What You Need to Calculate Break-Even

1. Gross income (price) per productAt first, an educated guess based on your research; you’ll use this number in your calculations.

2. COGS per product Research the direct cost to produce your products (materials, labor, packaging, shipping, etc.).

3. Fixed ExpensesResearch the indirect costs of being in business (rent, utilities, insurance, etc.).

Break-Even Formula (2 Steps)

#1 Gross Income (per widget)– COGS (per widget)

= Gross Profit (per widget)

#2 Fixed Expenses (per month) ÷ Gross Profit (per widget)

= Break-Even Point

© JIST Works. Duplication Prohibited.

A Widget Business Calculates Break-Even

Widget business assumptionsGross income per widget: $ 9COGS per widget: $ 4Fixed expenses per month: $1,000

Break-even calculationsStep 1: Gross Income – COGS = Gross Profit

$9 - $4 = $5

Step 2: Fixed Expenses ÷ Gross Profit = Break-Even$1,000 ÷ $5 = 200

Must sell 200 widgets per month to break even

Do the Numbers Work?Income Consider: 200 widgets sold.

Sale of widgets $ 1,800 Gross income per widget: $9

Total Gross Income $ 1,800 COGS per widget: $4

Gross profit per widget: $5

COGS/Variable Costs

Materials & labor $ 800 #1 Gross income – COGS = Gross profit

Total COGS $ 800 per widget per widget per widget

($9 – $4 = $5)

Gross Profit $1,000

Fixed/Overhead Costs #2 Fixed expenses ÷ gross profit = B/E point

Rent $ 300 per mo per widget

Utilities $ 200 ($1000 ÷ $5 = 200)

Owner’s salary $ 500

Total Fixed Expenses $1,000 I must sell 200 widgets per month to reach B/E.

Net Profit $ 0

BREAK-EVEN

Fixed Expenses for Sarah Sue's Sandwich Shoppe

Fixed Expenses:

Rent $ 600

Utilities $ 150

Telephone $ 100

Business Insurance $ 25

Owner's Salary $2,000

Miscellaneous $ 50

Total Fixed Expenses: $2,925

COGS For the Swiss Gobbler

Supplier Price Sheet and Labor Costs

Sarah estimates Ingredients per Gobbler

COGS Swiss Gobbler

Turkey @ $3.00/Lb 10 slices per lb. 2 slices $ .60 Bread @ $ .75/Loaf 30 slices per loaf 2 slices $ .05 Sw Chs @ $3.00/Lb 10 slices per lb. 2 slices $ .60 Mayo @ $2.00/Jar 32 ounces per jar 1 oz. $ .06 Mustard @ $1.00/Jar 32 ounces per jar 1 oz. $ .03 Tomatoes @ $ .50 ea 8 slices per tomato 2 slices $ .13 Lettuce @ $ .60/Head 30 leaves per head 2 leaves $ .04 Secret Sauce @ 3.00/Jar 32 ounces per jar 1 oz. $ .09 Wax Paper @ .03/Sheet precut sheets 1 sheet $ .03 Labor @ $8.00/Hour 20 sandwiches per hr 3 minutes $ .40 Total COGS: $ 2.03

Monthly Break-Even Point

Three things Sarah must know to calculate her break-even point:

1. Sarah estimates her monthly fixed expenses will be $2,925.

2. Sarah has determined that it will cost her $2.03 to create her most popular sandwich (COGS).

3. Sarah believes that a fair price to ask for this sandwich is $4.95 (gross income).


Sarah Sue's Break-Even PointStep 1:

Gross Income - COGS = Gross Profit $4.95 - $2.03 = $2.92

Step 2:Fixed Expenses ÷ Gross Profit = B/E per Mo

$2,925 ÷ $2.92 = 1,001 Sandwiches/Mo

Sarah Sue knows that she will have to sell 1,001 Swiss Gobblers per month to break-even.

If Sarah Sue is open 25 days per month, how many sandwiches will she have to sell each day to reach break-even?

1,001 ÷ 25 = 40.04 sandwiches per day

Selling Multiple ProductsMary is an artisan who makes unique creations from a studio in her home. She makes one-of-kind stuffed animals in three sizes: small(babies), large (adult animals), and giant (such as 6-foot-tall giraffes). Her COGS can be calculated as follows:

• Mary sells her small stuffed animals for $35. Her materials costs average $5, and the small animals take Mary about 1 hour to make. She calculates her production labor at $10 per hour.

• Large animals sell for $70. materials costs average $18 and they take about 1.5 hours to make.

• The giant animals sell for $150. Materials costs are typically $35. Mary spends about 4 hours making a giant animal.


Mary’s Lions, Tigers, and Bears

A friend of Mary’s has a shop in the village that sells hand-painted children’s furniture and bedding. She has agreed to display Mary’s stuffed animals in one corner of her shop for a flat fee of $300 per month. Mary also has a business phone line for which she pays $75 per month. She plans on drawing an owner’s salary of $1,000 per month.

Monthly Fixed Expenses:Rent $ 300Telephone $ 75Owner’s compensation $ 1,000Total Fixed Expenses: $ 1,375


Mary’s Lions, Tigers, and Bears

Know Your Daily Sales Goals

Based on B/E points of 1500, 500, and 300 per month: If you’re open 25 days per month, how many

units do you have to sell each day to reach B/E? How many do you need to sell each hour?

Ask yourself: Is this reasonable? Is there time to produce this much product? Do I want to produce/sell this much?

Pricing for Service Providers

Step 1. Determine personal income requirementsAnnual Operating Expenses $10,000Owner's Gross Wages + $30,000Total Income Requirements $40,000Step 2. Calculate available working hrs.52 weeks x 40 hours per week 2,080

hrsMinus 40 vacation hours and 56 holiday/sick hrs – 96 hrsEquals available hours 1,984 hrs


Step 3.

Estimate billable hours: 1,984 hours available per year divided by 4 quarters = 496 hours per quarter

Billable Hrs.Available Hrs. X Percent Billable = Per Qtr.Qtr 1: 496 X 20% (1 day/week) 99 Hrs.Qtr 2: 496 X 25% (1 out of 4 days) 124 Hrs.Qtr 3: 496 X 30% (1 out of 3 days) 149 Hrs.Qtr 4: 496 X 40% (2 days/week) 198 Hrs. Estimated Billable Hours: 570 Hrs.

Step 4.

Calculate the Hourly Billing Rate

1. Total income required (Step 1) $40,000 per yr.

2. Divided by number of billable hrs per year (Step 3) ÷ 570 hrs

per yr.

3. Equals hourly rate = $70 per hr.


When is the right time to review your prices?

You introduce a new product or product line Your costs change Your competitors change their prices The economy experiences either inflation or

recession Your sales strategy changes

Do so if:

Is It Reasonable? Will the market bear this rate? Can I adjust my prices? Can I reduce my COGS or fixed expenses? Is my salary goal too high? Is my sales goal too high? Can I accomplish this amount of work and

manage my business while maintaining a reasonable schedule?

Is this business venture worthwhile given my financial and lifestyle goals?

Business Plan

As you complete this information, insert it in your business plan:

2. Selling strategy–Pricing strategy

Access To Market - Pricing Presentation

Education