Going through my old transcripts I found the ideas of elasticity from my old economics books. Following this theory there is a straight forward way to increase revenue if the demand curve is known. Therefore we are going to increase the price of our product on the bottom side of our demand curve and on the other side decrease it while we face high elasticity in the upper area. A necessity of such a calculation is the derivation of a demand curve which in fact represents the reality. Since behavioral psychology and finance also attracts my attention I have found an interesting statement about price setting and why a valuable brand and products might be better in the long run than hitting the perfect elasticity point on the demand curve.
If you were to raise your prices 20 percent tomorrow and not lose any customers, what would happen to your profit margins?
If you make a ten percent profit margin now, you’d be making 25 percent tomorrow morning. On the other hand, if you cut your prices 20 percent, you’d be sending out dollar bills with every order.
Charge more and make more.
Which is a very simple way of saying that cutting your prices to win more customers is a very, very bad way to make more money. It’s the fastest route to more hassles and less profit. There’s always a way to charge more. And there are always people who are willing to pay more.
My dad was a minister. Which means that when I grew up there wasn’t a lot of extra money laying around. If you ask my mom, she’ll tell you that when I was seven or eight years old and forming my perceptions about money, our resources were pretty darn thin. Consequently I’m a pretty thrifty guy.
For me, there’s a natural thrill to taking a single dollar bill and stretching seemingly impossible value from it. It’s one of the things that makes me a good marketer. When the president of a company tells me that it costs him $50,000 to acquire a new customer (happened a year ago), I get a buzz. Because I know I can probably slash that cost dramatically and bring him a whole bunch more customers at the same time.
Is “cheapness” always a virtue?
But there’s a downside to that thrift, too. I grew up thinking that there was great virtue in having low prices. Wal-Mart/Kmart mentality. And that’s a very bad way to think when you’re a marketer, because if you’re not the 900 pound gorilla in a commodity market, you’ll get smashed by him. One of the things that I had to learn was that being the premium priced guy in town is a good thing. Not only does it mean your profit margins are a whole lot fatter, but you also get more respect.
If you’re thinking that cheapness is a virtue in your business, it’s time to un-learn that misconception.
Here’s the real deal: Most companies ask themselves: “How low do we have to go to get customers to buy?”
But here’s the real question you should ask yourself: “How do I add enough value to what I already sell so that people will pay twice as much for it?”
That’s exactly what many companies including Whole Foods and California Pizza Kitchen have done. And when you’re a marketing maniac like I am, your eyes and ears are open for examples everywhere you go.
Answer that question in your business and you’ll be surprised at how fast your company can grow.
Here are six factors that will influence your ability to establish and maintain your premium price position and reap the rewards:
- Become a Premium Provider. Identify the features that would be considered high-end on the value scale, and then highlight those crucial elements in your marketing. Resist the urge to offer a basic service level or baseline product. Stick with the premium level of service if you plan to maintain your premium pricing strategy.
- Define Your Value. Help your customers understand why your prices are higher. If you know how competitors are undercutting your prices, and you feel the competitors’ lower cost equates to poorer quality or service, explain this difference. In other words, don’t hide your price; instead, explain your value to the customer, and be prepared to demonstrate the ROI associated with your service or product.
- Go the Extra Mile. You’d be surprised how many business owners declare they offer superior service simply because their people are friendly. Successful companies have more than friendly employees. They have employees who are so aware of customer needs that they anticipate them. I heard one business traveler’s tale about a trip to a Florida hotel. A member of the housekeeping staff at the hotel saw my friend approaching the elevator. While my friend was still 70 feet away, the staff member pressed the elevator button and held it open until he arrived. My friend was certainly capable of calling his own elevator, and the housekeeper obviously had other tasks to perform, but that simple act of doing something extra and waiting patiently for my friend to enter the elevator left such an impression that he offered the highest praise for the hotel to other business associates.
- Don’t Sacrifice Price, Even When Times are Tough. Just explain why your product or service is worth the investment, but be a little flexible for long-time customers. Do yourself a favor, though, and make a list of the customers you are willing to be flexible with; then make sure your sales team is aware of which customers are on the list so they won’t be pressured to make snap decisions. Give employees freedom in dealing with customers, but make sure they know which customers are worthy of special treatment.
- Don’t Play the Lowest Price Game. Weaker competitors are quick to cut prices to earn business. Don’t play their game. Many competitors will fail because they can’t generate cash flow to sustain this discounting strategy. Another disadvantage to playing the discount game is that this strategy is the fastest way to push your product or service into the commodity category. Select businesses have carved out a distinctive market by not discounting their products. The challenge is to create and sustain a brand that supports your premium pricing strategy.
- Project Financial Stability. A colleague told me about his expensive dilemma. He needed to replace his entire home air conditioning system. He asked two local companies for estimates. The smaller, newer company, run by an entrepreneur, submitted a bid for $4,800. The more established AC company, celebrating its 30th anniversary, submitted a bid for nearly $5,300. While offering significant savings, the entrepreneur didn’t realize he was competing based on both price and permanence. The owner of the smaller business told my friend he couldn’t do the initial examination right away because his service truck was in the shop. My friend was worried that the 10-year warranty that both firms offered would be worthless if he went with the newer company. The entrepreneur would have won the business if he had projected more stability.