Do Business Well

The first basic aspect to consider is pricing. This is difficult to get right. A key element of working out pricing is understanding your costs. Once you know your costs, you can use this as an element in the pricing calculation. Two types of costs are relevant here:

FIXED COSTS

Also known as overheads, these refer to business expenditure, which is basically constant or fixed irrespective of the level of trading. Rent, rates, most salaries, and insurance, are examples of fixed costs.

VARIABLE COSTS

Also known as direct costs, these comprise expenditure which varies directly in relation to the level of business; for instance, the costs of raw materials.

The price you choose needs to meet your fixed and variable costs, and then make a surplus (your profit) on top. This is the minimum you need to make from your sales stay in business. With fixed costs it therefore makes a good deal of difference whether you sell one item or a hundred items per year, or provide a service for one day or a hundred days, since the entire fixed costs have to be recovered on those sales. Dividing the fixed costs by one, a hundred, or whatever, obviously huge impact on the end price. Be very has a cautious in predicting your likely sales in terms of units sold or chargeable time.

Fixed costs must always be kept to a minimum _as they can float upwards and soon overwhelm the profitability of a business. Businesses are usually better at controlling their “variable costs“. For example, when a supplier raises their prices, most businesses take notice and, where the rise is unjustified, they will challenge it or find a new supplier.

SENDING THE RIGHT SIGNALS

While costs are an important element in calculating a price — one you should never lose sight of — there are numerous other factors you need to take into account. For instance, your selling price can send an important signal to your customers. In the absence of other indicators, the price tells them if you are offering a cut-price deal or if you are at the top end of the market. To decide where your own price should lie demands knowledge of your target market and what the likely buyers are prepared to pay. This requires prior experience of the trade or accurate interpretation of your market research results.

In general terms, if you price slightly on the low side you will make more sales, but with a lower margin, and if you price slightly on the high side, you will make fewer sales but with a greater margin, so the net profit will remain the same. The problem is, of course, knowing what constitutes a “high” or a “low” price; if youhave existing competitors they will have already created price norms in the market. Finally, if you have one major customer, they may simply dictate what price they will pay, in which case your calculations will tell you if that issufficient for your business to be viable.

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