Logic surely dictates that if you raise prices (and don’t change anything else) that you will make more profit; in fact, every penny more you charge goes straight to your bottom line – happy days!
So how much volume could you afford to lose and still have the same profit before that price increase?
Surely it would be fair to assume that if you put your prices up by say 5% then you could lose 5% of the volume and be back where you were before – WRONG! Every business is different – but the rule of thumb if you are a manufacturing business making a Gross Profit of, say, 30% is that you can “afford” to lose 14% of your volume.
And it gets better! If you were working at a 15% gross profit % and increased your prices by 5% you could “afford” to lose a whopping 25% of your volume – that’s a quarter of what you are doing now!! Or, in other words, you could be working at three quarters your existing level and still show the same profit – goodbye, busy fool!
There is, however, a sinister flip side to this coin: in these competitive times your sales team might quite possibly suggest (very persuasively) that “we must reduce our prices to get business to keep those new machines humming”. Before you do anything – THINK! If you are making a 15% gross profit and you followed the advice of your sales team and reduced prices by, say, 5% – then you would have to sell 50% – YES, that is 50% – more stuff (units/hours etc.) just to stand still. Have we got your attention now??
If any of this is meaningless gobbledegook or you see this as nothing more than a theoretical exercise – please think again.
You simply must understand this dynamic and how it affects your business – especially if you are contemplating reducing prices.
Contact Tectona now if you want to learn how this affects your business.