If a business continues to do just what it has always done it will probably wither and die.
Sometimes we don’t think of a decision as being “an idea” – we just do something because it seems to make sense. But of course there has been a subconscious process of considering an option and then acting upon it.
One aspect of my business of advising business owners is to review options and stimulate creative thinking. Two or more heads is often more productive than one in these cases. Trying to “see” what isn’t there.
But ideas are just a starting point.
Derek Sivers wrote a short book about how he started a hobby business – and how it developed until he sold it for $22m.(note 1) In it he says that “ideas are worth nothing unless they are executed” and then gives a simple formula for estimating the value of an idea.
He puts a “multiplier” value on ideas (from “awful” to “brilliant”) and notional dollar value on “execution” of ideas:
Awful = -1; Weak idea = 1; So-so = 5; Good = 10; Great = 15; Brilliant = 20
Notional “execution” dollars value
Awful = $1; Weak = $1k; So-so = $10k; Good = $100k; Great = $1m; Brilliant = $10m
So an “awful” idea will lose you money however well executed (e.g. “-1” times “$any”). But (for example) a good idea with good execution is, he suggests, worth (10 x $100k) = $1m
OK – it depends on definitions and circumstances but I think the principle is worth learning.
When I came back from my first trip to Australia – high on sun and surf and positive people – I felt that one striking difference in attitudes there and here seemed to be this.
When someone proposes something in Oz the reaction is “OK, how can we do that”.
My experience in the UK had been a first reaction of “That won’t work because of this and this”.
Identifying why something won’t work is easier than gnawing, sharing and diving into an idea to see how it might work.
When I read about Pete Winkelman suggesting he wanted to buy a league football team and bring it to Milton Keynes, I could see clearly that it would never work. There were obviously too many obstacles in the way of such an ambitious idea. How wrong was I? (note 3)
But it is the “incremental” and sometimes “clever” ideas that can make a big difference. As Sivers also suggested - “Success comes from persistently improving and inventing, not from persistently doing what’s not working”. To improve and invent you need to be open to ideas.
James Altucher suggests that to winkle out ideas you need to practise. (note 2)
“The idea muscle must be exercised everyday” he writes – and “to become an idea machine takes about six to twelve months of daily practise”. He advocates writing daily lists. Lists of not less than 10 ideas on any subject - whether it be business related or not. It’s hard sometimes to get past 3 or 4 – but starting with “easy” lists like “10 activities to do on holiday” might get you into it.
If this sounds like some sort of “self-improvement” rant, please believe me that it isn’t.
It’s to illustrate one benefit of engaging my firm, Inform Business, to objectively review your business and help you discover and execute ideas that add to your success.
Clifford Peat FCA
M: 07967 180615
Trello was dreamt up by the very successful Joel Spolsky.
He worked for Microsoft way back - and when he ran a customer survey of users of Excel he found that "most" people used it for making lists.
Making lists! Can you imagine how that must have felt for a high powered developer grafting away at adding math and programming features to the spreadsheet the world uses?
But evidently he filed away this bit of feed back. And a long time later invented Trello as a list maker.
If that sounds dull, unnecessary and limited, then you may not have thought through the function of "lists" and "tables". A list is at the heart of so many applications. To find things we have indexed lists - to decide what to do we have "to do" lists - to communicate we often format our thoughts in a list and project management is a list of lists that are monitored.
Take some time out and subscribe to Trello, read their helpful introduction notes and start a "board" that will be useful to you. I guarantee that you will have seen "something new" that is easy to learn and may inspire you in some surprising way.
OR you can ask me to invite you to one of my "boards" to see how I use them. I maintain a Publishing and Writing Board and a number of writers have subscribed to it because it is a "repository" of links to useful articles about those subjects. No more hunting through browser bookmarks - just add a "card". If you write books, articles or blogs and want to join this Board then email me.
AND if you are in business I urge you to read Joel Spolsky's article about the original idea and development of this great on-line application. You'll find it at http://www.joelonsoftware.com/items/2012/01/06.html Lots of "startup" good sense and advice.
Rounding up this series of notes on the important topic of pricing. We hope the summary at the end is a useful checklist for your business.
The Wholesaler’s Story
An actual instance where lower prices did produce profits (eventually) is the case, some years ago, of a client company, who operated in a "crowded" market place. Goods and quality of service were much the same and they decided that the only way to build market share was to compete on price.
They had a distribution unit. The two partners and three staff were highly committed to hard work and endeavour. The business started on a shoestring and though the customer base expanded rapidly - attracted by competitively low prices - it was clear that a loss was being incurred.
Should they increase their prices like the retailer? On analysis it seemed that if the on-take of business continued at the same rate the business would reach "break-even point" - that is cover their costs - in a further 8 or 9 months.
But, vitally, after that point had been reached, any increase in sales would - in their case - feed additional profit almost straight to the net profit line. (They had ample capacity within the existing business costs to cope with a lot more business without the need to increase premises or staff.)
Like a lot of business plans (or most business plans?!) it looked like a case of "jam tomorrow" - but we were convinced that the odds were on the side of the clients achieving their goal.
The bank was not convinced. There were trials, tribulations and a change of bankers which held up progress by several months - but in the end the projected pattern of business - and profits - substantial profits - materialised.
There is no Magic Formula
A lot of businesses are required to quote for their work on an order by order basis. In our experience the majority of such businesses use a fixed formula to work out their prices - sometimes called "on cost" or "standard" costing.
We hate these formulas. They are the cause of more losses and more lost contracts than any other business technique (probably!).
Among the key profit factors that need to be "guessed" is the level of productivity of a business. Generally speaking the more productive it is, the more flexibility it has to be in its pricing policy. This is because, for many concerns, the basic fixed costs - such as premises and administration - do not change significantly whether the firm is busy or slack. However, the profit contribution normally varies in line with the level of activity.
Information and more information
It is vital that such businesses have immaculate financial data systems to enable a constant detailed review of costs and work projections. By constant we mean at least weekly and ideally there should be "real time" data available to track profitability of current work and modify the financial forecast.
Without this it is impossible to achieve the "double target" of:
pricing to get the work and
winning the mix of work that will produce the maximum profit
We have been retained by such businesses where a fresh approach to the whole method of costing quotations has totally reformed their profitability (even after paying our fees!).
When the price quote has been calculated using such a relatively sophisticated costing appraisal system there is still the necessity to "stand back" and consider the "value" of the work being quoted for.
Value versus Cost
An organised client computed a quote to make several hundred items for a large company.
He was thinking initially in terms of the total value of the potential contract.
However, by looking at the quote from the point of view of the "cost per item" produced, he realised this was £8.50. Knowing the use the customer was going to make of the products, he made an intelligent guess that they might well be regarded as worth £12.00 each. It turned out that on this occasion he was right and won the job - and made a "super profit". Happiness all round!
What do People Really Cost?
Finally, for those businesses that sell peoples' time, a reminder that the cost of productive time is often far more than it seems.
Guessing at the proportion of unrecoverable time and monitoring those guesses against the actual performance is essential to profit management.
The attached sheet (available at the drop of an e-mail) shows a simple example of an employee being paid £8 per hour but actually costing over £12 for each saleable hour he or she works - that is £12 before any profit at all is earned. This sort of ratio is fairly typical and often ignored. Self-employed people who sell their own time might well apply the same exercise to themselves - substituting what they regard as a reasonable target "salary".
We need a summary of all of that – read on.
To sum up this "fly past" of some of the practical issues of “Pricing for Profit” you might wish to work through the following check list:
What are your profit targets?
What are the business objectives - short and longer term?
What effect would the 5% and 10% changes have on your business?
Are there other ways of exploiting demand by a different pricing strategy?
Do you need to be afraid of price competition - from all sources?
Can your product/service be pared down? or
Spruced up - with "added value"?
Have you guessed the effect of a complete change in pricing structure - just to see what thoughts it inspires?
Can you "test" a price increase?
Should you have multi-level pricing?
Are your prices too low anyway?
Should you consider "buying" market share through low pricing?
Is your standard pricing "formula" due for an overhaul?
Do you get the financial and sales data you need for fixing prices?
Do you know the real cost of the productive time of your people?
Do you need help ..........................
We have a wide experience of advising owners wishing to develop their businesses. We have developed a number of business planning models that help to predict the outcome of price variations and other key decisions.
For more details speak to Clifford Peat on 07967 180615 or email firstname.lastname@example.org
Price and demand
Now let's look at the big "if" referred to before. Judging the effect on business volume of a price change - either up or down - is very difficult.
You will be familiar with what economists call "elasticity of demand" - which is simply "how far can you push the market on price before the demand for your product goes up or down?".
But ask yourself the question - how do you know that your present price is the "optimum" price which will produce the greatest profit from the market?
Lower sales at higher margins might produce a greater profit - or higher sales at lower prices might.
For an established business this really is one of the most interesting aspects of decision making.
Attracting by price
Market research might help to establish the reaction to a price change - but for the smaller business this is both potentially expensive and common sense suggests that the outcome may not be reliable.
For "minor" upward price changes of up to 15% we would suggest that there is a case for a "suck it and see" strategy.
Our experience shows that an objective "outsider" opinion can help overcome an understandable timidity to "upset customers".
A case in point: Before the recession a client company was doing very well and the directors were happy with the profit. During the recession they set their objective as keeping the turnover level up - and being good at their job, they achieved this. However all the costs - including the wages of a staff of 8 - had carried on going up. The book-keeping was OK but no "accounting" was being done and the reserves of cash - which had kept them going - were suddenly exhausted. They had been making small losses over a period without realising it.
The one success was keeping the customer base - and they were very hesitant when we said that increasing their charges was the only option they had.
We eventually all agreed that the standard "man hour" charge of £14 would be increased to £16. Our view was that an average invoice to customers of about £72 included materials of about £30 and the labour increase would mean this would only increase to £78. We doubted that customers would "notice" and, given the quality of the service, would almost certainly not go elsewhere for such a small overall increase.
Finding the Break Point
You have probably already seen where this is going - even at 50% efficiency - the 8 employees were each contributing an additional £40 per week towards profit - £320 altogether - and, of course, productivity was better than 50%.
The price increase was one of a number of fine tuning changes to the business. In the event, the clients believe that they lost no customers - and the financial recovery was dramatic.
The Retailer's Story
Another example of judging whether the customer base will "stand" an increase in prices, is illustrated by the case of the retail shop in one of the MK local centres some years ago. The proprietor sold a "necessary" product, at a budget price, his shop was always busy and he worked very hard - but was only scraping a living.
To the suggestion that he might put up his prices to the level of shops in the City Centre he was adamant that this would "destroy the trade" and that his customers would go to the Centre instead of shopping locally.
We asked him just three questions -
- Are your customers happy with what you supply? - Yes, very
- Why do they shop with you aside from the price? - I'm convenient
- If you were a customer would you shop in the Centre, not to save money - but to pay just the same? - No
We persuaded him to raise his prices for just a week on the basis that he could reverse the situation and limit the damage if this proved to be a mistake. Well it wasn't and he didn't have to - and enjoyed the benefits, at last, for his considerable skill and effort.
We know what it "costs" but what is it "worth"?
The little "market survey" we conducted at the outset of the presentation was designed to illustrate that for some common place purchases there is a very wide difference in price expectancy caused by differing perceptions of value.
It is worthwhile looking at one's products and services to see if there is any way that value - or perceived value - can be added to it.
Some ways of doing this include "prestige" packaging - for instance this might include an attractive and useful item such as a decorative tin or wooden box. If the perceived value can be enhanced to command a price higher than the cost of the box, then there will be profit added as well as value. The problem is to know whether the potential customers for the "unadulterated" version of the product will still buy at the higher price or whether one is replacing one customer sector with another. Marketing techniques such as developing exotic brand names can achieve similar results - everyone knows that Häagan Dazs is a made up name and for a clever psychological reason it automatically commands a higher status than "Lyon's Maid". In this specific case it is likely that the objective was to "position" the product to appeal to a particular market sector - which is probably different from and separate from the "choc ice" buyers.
Another common technique is used by the electrical goods industry which supplies "peace of mind" along with the Hi Fi - by selling product maintenance insurance. We understand that a large part of Dixons profits are derived from this.
In today's business environment it is dangerous to link the concept of "quality" with that of higher prices.
To take an example - the software producers, Intuit Inc., offer a book- keeping system called "QuickBooks". This is sold for £100 (1996) but has features that many systems costing 5 or 10 times as much do not have.
The pricing strategy has evidently been fixed to get the product into the market place at a very accessible - or irresistible price. The software company has in the past, and is likely in the future, to produce upgrades and new products. It is now well placed to achieve substantial sales to a satisfied and large user base but with relatively low marketing costs.
Is this principle one that can be applied in the case of a smaller business? Well, it requires a first class "sector beating" product or service - and it also does need skilful market research - otherwise it becomes simply a gamble.
Prices and strategy
Price setting cannot be considered separately from the whole question of the business objectives.
Most commonly the broad strategic objective of a business will be the earning of a profit that is "satisfactory" to the owner, to compensate for the time, effort, risk and capital put into the venture. One person's satisfactory might be 10 where another's might be 100. Decide what YOU want to achieve.
In our experience it is clear that many people are not aware of the high levels of profit that can be achieved by businesses and set sights too low.
We would guess that most readers want to increase their net profit while maintaining business stability and sustainable growth.
The Squash Club
But consider the case of the Squash Club some years ago (during the boom) which had a waiting list of 1,200 prospective members and which was bought by some "city types".
You might think that here is an ideal case for expansion by building some additional courts and improving social facilities and thereby increasing the paying membership and ultimately profits.
The clean up
What actually happened was that they simply doubled the membership fee. A lot of members left but, with the queue waiting to join, they had no trouble in filling the "gaps". The owners then sold the club at a premium price because of the vastly increased profitability.
They had clearly focused on their main objective which was to produce a profit to enhance the value of the business so that they could realise a short term capital profit.
If you are lucky to have a high demand for your products/services then it is worth considering the alternative ways of exploiting the situation.
Another case concerned a business where the owners were coming up to retirement age. In their particular sector, businesses were valued not so much by the profit they achieved but by the number of "live accounts" they had.
In the run up to selling the company the owners fixed their prices at very competitive levels in order to increase the number of accounts even at the expense of the margin of profit. This worked and they were very satisfied with the deal they achieved.
So, having decided what the key business objectives are, what are the key factors which affect pricing policy?
Let's start with the Market place competition.
Depending upon what sort of business you are in, it can be difficult to establish exactly what the competition is really charging for their products and services, but generally one will have a good idea of "the going rates".
Customers (bless 'em) will generally fall back upon "price" as one of the key criteria in the purchase decision making process - even though "research" sometimes indicates that quality, service and other factors figure higher up the scale.
Well, for attracting "new" customers let's start with the assumption that the price has to appear to be "competitive".
Consider first of all whether you can offer your products or services in such a way that they cannot be directly compared with the competition.
This is a common ploy in areas such as mobile telephones and savings schemes (financial services - dread phrase).
Why be paranoid about the low prices of competitors? Your customers are not going to be perfectly informed about all the prices of the competition. And if your sums show that you cannot come down to the competitors’ price consider whether the competitor is actually a fool and working at an unsustainable loss.
Does this sound far-fetched? Look at the record of business failures in the last fifteen years in Milton Keynes alone - some of these were due to uncontrollable outside forces such as the economic recessions - but many were caused by financial ineptitude (which is a less offensive word than stupidity).
An example which might give a bit of confidence to some:
The painters brush with reality
Many years ago, a commercial painting company went to the wall just when it was half way through one of the biggest factory painting contracts it had ever landed. It transpired that this customer had accepted the company's tender price (which was way below that of the next lowest tender) knowing that it was "impossible" to do the job at that price but reckoning that if the painters got half way through the work and a new contractor had to come in, it would still be cheaper than accepting the next higher tender. And they had built in performance clauses so they would not have to pay if the job was not completed!
This may be regarded with some distaste - after all it is the cynical exploitation of the naiveté of a supplier - but there is no law against it.
So, it may be that the competitor that you cannot beat on price, may soon disappear.
Next, if you have to compete on price, look again at your products and services to see whether they can be "re-designed" to achieve cost savings.
The starting point in this exercise is to revisit the fundamental and core touchstone of all business - Defining what the customer wants.
Are there unnecessary features - cheaper materials - cheaper packaging - features that can be sold as add-ons instead of incorporated? (Blue Ocean thinking before the book was written!!)
Airlines are a good example of tailoring the basic service of "personnel transportation" so that you can fly the same distance - in much the same time and sometimes on the same plane but have a choice of whether to pay £100 or £600 for the flight - the difference in price being accounted for by often fairly minor (and psychological, about which more later) variations in service, comfort and status.
"Designing" to a price
A local law firm offers a standard tariff of services on a "you get what you pay for" basis but knowing that often one thing leads to another and a client will often choose to "buy" additional "bespoke" advice.
If this sounds as if we are straying into "marketing" territory - well of course we are. The straight jacketing of the business "disciplines" has to be thrown out of the window. For many small businesses the owner combines all the functions anyway - but when setting price levels never take the accountant's advice in isolation from a consideration of the real business environment in which you have to work.
more on Monday ....
This brief paper supplements a presentation to the BUSINESS2000 group on the subject of "Pricing for Profit"
The Business 2000 group was mainly business owners who want thoughts and ideas of practical application to themselves.
The theory of pricing can be studied in any standard economics, business or accounting text book. Our purpose here is to outline some of the practical issues as they affect the owner controlled business. We also share some of the instances where clients, over the years, have applied pricing techniques successfully.
All the illustrations have been modified sufficiently to ensure that individual client cases cannot be identified.
The underlying assumption is that business owners want to be more profitable. So here we are concerned with profit making.
It is also assumed that most readers work hard and are good at what they do. Being so close to our day to day businesses we sometimes need to stand back.
We hope that this article might provoke a fresh look at some of the fundamental issues that relate to Pricing and Profitability.
What is "PROFIT"
Profit for our purposes can be expressed as a simple equation. It is:
The number of products or services sold times
the selling price of each product/service
less the direct cost of each product/service
less the overhead costs.
In business there are many things you just cannot forecast accurately ….
and unfortunately two of them are in this equation. For most businesses the unknowns are the "number" sold and the "price" people will be prepared to pay for them.
Intuition, trial and error, observation, psychology, kidology and a little bit of maths all combine to help us come up with some "best guesses" - but that is all they are. Creative thinking - a willingness to abandon conventional wisdom - and a touch of gambling spirit are all required.
We hope to give some ideas about how to become better at "guessing" in the business context. And we will be looking at some examples where those guesses have "come off" (- and we will be ignoring any cases where they have not)!
So here goes.
Let's first have a detailed look at the influence of the selling price upon the NET PROFIT of the average business.
Using the "formula" for profit at the head of this article it is obvious that the profit will be affected by
Volume of sales
Cost of production or procurement and
Prices and Profit
In almost all circumstances, an increase in selling price - if (and a big elastic "if" it is) - if it does not result in lower volume of sales - will result in the greatest relative benefit upon the final net profit.
We even have an "accountantish" table of figures to illustrate the point (If you want a copy of this please e-mail us).
Double your profit
A "typical" business might achieve a net profit of around 10% of total sales revenue.
If the selling price is increased by 10% the profit doubles!
Or triple it
If the direct costs are reduced by 10% and the overheads are reduced by 10% and the price of sales increased by 10% (without triggering any extra costs) then you end up with a net profit of more than 3 times the original figure - WOW!!
OK - just double it
If all the increases are just 5% the profit doubles - WOW again - TWICE THE PROFIT FOR ONLY 5 PERCENT!
All of which is staggeringly simplistic and unlikely to be achievable in many business situations - but the point is that it will be achievable in some.
It is worth every business owner examining their own figures to see what can be achieved.
Having just prepared some basic notes for the local under 13 cricket training session it struck me that so much of the guidance applies equally to business!
So I reproduce it here - what do you think?
Cricket [Business] is a team game that relies on each member to do as well as he or she can.
To do well at anything requires practice. You already know this.
It is important to build on good technique – because continually to practise bad habits makes it harder and harder to break those habits and improve.
But the game is played for FUN. Most of us enjoy competing and the possibility of winning spurs us on to work hard and get better.
REMEMBER: There are the important three “Cs”
When batting the mind needs to be clear and focussed only on the bowler, his/her arm and run and then the ball. The eyes have to follow the ball intently. With training and practice the body will respond to the eyes and brain in milliseconds and do what is necessary (defending or attacking – and, yes, sometimes ducking!).
When fielding observe the way the batsmen play the ball – where they are strong and where weak. On every ball you must expect to be involved – and if 39 balls are bowled without it coming your way - you must still be alert for the 40th.
The bowler needs to focus on line and length. He/she also needs to observe the batsmen and decide how to break through their defences. The bowler is also responsible with the captain, for setting the field.
Physical strength and fitness helps the brain make the body do what you want it to do – consistently.
Practice makes many of the cricket reactions and responses more or less instinctive – it will seem as if you don’t have to “think” what to do – you just “know” what to do.
Being tense or thinking about other worrying things reduces our ability – a state of alert, controlled relaxation is what we aim for.
Everyone can improve their skills. That’s a fact. On the “bad days” (which we all have) just remember that.
The nets and other training is the place to try new things – making mistakes and learning from them is GOOD.
And EVERYONE in the team counts! Australia have just beaten England in a one day match because the Oz number 9 batsman knocked up a quick 60!
So everyone should learn to bat AND bowl AND field as well as they can. Every team has its “stars” but during a game EVERYONE needs to do their best. For the team and for themselves.
Ask “why” AND “how” whenever you are unsure of what you have to do to improve – or the purpose of a training exercise.
Are you thinking of starting a business or changing your existing business?
Can I suggest you invest time in watching Strategyzer's new set of 6 short videos -
"From Idea to Business - Animated Series" (link at end of this blog)
These are animations with a sensible story line and well written narrative.
The narrative clarifies how the Business Model Canvas (BMC) can be used.
It's a framework for modelling your proposed business
Not as a static statement: but as a dynamic developing hypothesis
The BMC is updated when the business "guesses" are tested, validated or revised
And here is the spoiler - the final model produces a successful and scaleable business.
The audience cheer and you may feel a burst of optimism.
(If you don't like happy endings I'm sorry!! but just get over it.)
To fully understand the principles referred to in the videos you need to read these books (at least)
- The Lean Startup by Eric Ries
- Business Model Generation by Alex Osterwalder and Yves Pigneur
- Four Steps to the Epiphany (Customer development) by Steve Blank
All of them are very readable and tell stories of "real" businesses.
The Amazon links are in the sidebar on this page - or simply search Google
If you want to discuss any aspect of Business Modelling just call me
(UK) 07967 180615
Cliff Peat FCA
Link to the Videos: http://bit.ly/GOU9YZ
Effective and positive recognition by:
- target-market decision makers and
- their support staff
- potential future employees
- potential future commercial partners
Factors to consider if this recognition is to be achieved
- The colour(s) should be distinctive
- Multiple colours should contrast and be memorable
- The shape should be distinctive and simple
- The shape should be memorable
- The logo should be as recognisable in black and white tones as in full colour
- The logo should reflect the qualities and standards of the product and services the business sells.
- It must be versatile. All instances where the logo would be used in a business should be considered and it should “work” without major change for all of these. Which might include:
- Print – gloss or matt
- Letter heading
- Photocopies in b&w
- Business cards
- Exhibition stands
- Cuff links etc. etc.
A factor that is (almost) irrelevant - Whether it is “liked”
How to achieve a suitable logo:
- Choose an experienced logo designer
- If a designer starts talking about a logo “inspiring trust, recognition and admiration” say you are paying only for one of those or get a new designer (The logo doesn’t inspire trust or admiration – it’s our work that does that!)
- Brief designer on the objectives and the nature of the business and its target customers (and influencers)
- Make clear that effectiveness is the key criterion to choice (based on factors above – inter alia)