Ever struggled to know how to set prices for your products and services, and feel like you should be charging more? You’re not alone! Even people who have been in business for quite some time sometimes still ask me how much they should be charging.
Method 1 – Add a Margin to Time & Materials
Small business owners in service industries, particularly, are inclined to charge for their time based on a rate that they think is in line with market standards. However, they frequently fail to make the distinction between the rates a business needs to charge to cover its overheads and make a profit, versus what they would have received when they were an employee. This frequently leads to them work longer hours with greater uncertainty than when they had a job, and yet take home less money.
It’s ultimately a lose/lose scenario, and before long they start to resent their work and lose the passion they first brought to it.
People making and selling products often use a similar approach, adding up the inputs involved in making their product and adding a profit margin that they feel is ‘honourable’ and has ‘integrity’.
Few people have the confidence and belief in themselves to look at the value they are delivering to their clients. Furthermore, they often fail to adequately analyse the true expenses involved in developing a business.
If you intend to grow and enhance your business over time you cannot afford to neglect provision for research & product development expenses, marketing costs, capital expenditure that will be required to keep pace with your growth, security deposits that may be required when you want to rent larger premises, training & professional development expenses, legal and accounting costs, and a healthy return on investment to the company’s shareholders (even if that is just you!).
Method 2 – Set Prices According to the Value the Client Receives
My recommendation is that you stop focussing on your hourly rate or costs, and instead evaluate how much value you are delivering to your client.
There’s a story, retold in numerous ways, that illustrates beautifully the value of your expertise:
An engineer is called to fix a generator. After some consideration he taps the generator with a hammer and it roars back into life.
The bill arrives the next day for $5,000.The business owners requests itemisation of this ‘excessive’ bill and receives back an itemised bill:
– Tapping generator with hammer $10
– Knowing where to tap $4990
Have you ever stopped to think about how much knowledge you’ve acquired over the years? And acknowledged that you quite possibly deliver a service that the client depends on greatly and receives substantial value from?
I know copywriters who charges thousands for the sales letters and emails they write for their clients, and receive royalties every time the client reuses an old script. The clients willingly pay because one email campaign sent to their database of a few thousand people usually results in six figure revenues. Copywriters of this ilk have helped their clients to dramatically increase their revenues through the application of their specialist knowledge in copywriting.
But what if you can’t quantify the financial value the client receives?
Your customers/clients buy from you for a number of reasons other than price – none understands this better than exclusive fashion brands such as Burberry, Ralph Lauren, Louis Voitton, Hermes or Versace. As lovely as a Hermes bag may be, it’s clear that the profit margins on a $12,000 Hermes hand bag are huge!
One of the most valuable assets on the balance sheet of many companies is their “brand”. What is “brand”? It’s the way people perceive the company and the experience of buying their products.
How do people perceive what they receive from their dealings with you? Would they be prepared to pay more because of your reliability? Your trustworthiness and discretion? Do they trust you more than your competitors, perhaps because you take the time to really understand their situation, and you’ve demonstrated that you want to help them achieve their goals rather than just taking their money with no regard for their success? Would they pay more because it makes them feel good to purchase a ‘premium’ product or deal with the premier vendor in the field?
Is a $50,000 piece of artwork really 50 times better than a $1,000 piece of artwork? Or is an iPhone X at $1800 twice as productive as a new Nokia 8 at half that price? And will a $130,000 BMW X5 save you any travel time compared to a cheaper Hyundai?
There are numerous reasons why people will not only gladly pay more, but sometimes even seek out the higher priced product. (Yes, people will sometimes shy away from your services because you’re TOO CHEAP!)
People will spend more for comfort, convenience, safety, certainty, timeliness, personalised care and attention, social image and because your product or service is congruent with how they see themselves.
Think for a moment about a jeweller. If he buys a diamond for $50,000, plus a little gold for the band, and spends a day or two crafting an engagement ring, does he then sell it for $55,000? Absolutely not. He may sell it for $80,000, $90,000 or even $100,000. A customer who buys an engagement ring in this price bracket does not cross-examine the jeweller to find out how much time he spent making it. And they’re not even likely to haggle on the price. In fact, they would probably prefer to pay $100,000 than $98,000 – because the purchase is really a reflection of how they perceive themselves, and they would much rather be able to say that it cost 6 figures rather than 5 figures.
Of course, not everybody is purchasing a $100,000 ring – or in a position to do so. The key is to understand who your customers are, or who you WANT them to be, and develop a pricing model that is appropriate for them.
What if I’m selling a ‘Commodity’?
Consumer products like soft drinks and chocolate biscuits don’t tend to have huge variation in prices. Generally speaking you can’t just set arbitrary prices! They’re a ‘commodity’. But it is still possible, in some cases, to charge at the upper end of the scale (or even redefine the upper end of the scale) – to do this you will need to ensure that your brand image (including packaging) has the cachet of a premium product. It’s also important to understand the concept of ‘price elasticity‘ – the idea that, as the price goes up, the volume of sales is likely to fall. Marketers need to decide where the right balance is for their business – for example, do manufacturing costs become prohibitive if you don’t sell sufficient volume?
Are you Being Realistic About Your Costs?
If you are in a situation where you can’t charge for ‘value delivered’, then do yourself a favour and make sure that you’re being realistic with yourself about the real costs of being in business before you set your hourly rates.
Let’s take a look at a home-based business that engages in delivering services, such as copywriting, editing, graphic design, etc… The first thing you need to assess is how much productive output you can realistically achieve in a week/month/year, factor in the costs of running your business (no matter how small the outfit), and ensure that your rates are sufficient to cover those realities.
For example, you may spend 10 unpaid hours each week staying up to date in your field of expertise, another 10 hours per week working on your finances, quotes, invoicing, answering phone calls and general administration. And you may have some idle time occasionally because work was delayed and didn’t come in when it was expected. Allowing for all those considerations, you could be spending as little as 15 hours per week on productive client work. If an employee in a similar role earned $60,000 per year (5,000 per month), and you allow a further $30,000 per year in on-costs, plus the business needs to be making a profit to build up cash reserves and give it growth opportunities (another $30,000 at least in my view!), then you should be generating revenue of at least $120,000 per year. Of course, you need to take holidays and you’ll probably get sick occasionally so you should assume you’ll only work about 44 weeks/year – in other words, your 15 productive hours for your clients need to generate $2727 per week – that’s $180 per hour.
Many micro- and small-business owners will consider that rate ridiculous. But if you look at what larger professional services firms charge (accountants, engineers, IT support, lawyers, financial planners, etc….) you may now start to understand why they charge what they do.
Of course, it’s up to you what your priorities are in your business. By charging only $60 per hour, you may be able to easily pick up your first few clients and keep yourself loaded up with plenty of work. But it’s not going to make a profitable business over the longer term, it’s just giving you some pocket money. For some people, that’s fine – it gives them a flexible lifestyle where they can work from home and spend more time with their family. But you have to be aware of that and decide what your objectives are.
Of course, you can tweak a few figures – more productive hours per week? Sure, you could perhaps push it up to 50% or even 75%. But don’t forget how much time you have to spend just taking care of the business, and you may have idle time when nobody is paying you. Cut overheads? Sure, you could spend less on advertising (but maybe pay the price later on). If you don’t think about your computer aging and the new software you have to subscribe to along the way, it’s easy to forget those expenses. And a lot of self-employed home business owners neglect to pay their own Superannuation – you can defer that now, but it will come back to bite you in your retirement!
You’re Only as Valuable as the Amount they Pay You
It’s important to realise that clients rarely value what they haven’t paid for. You may think that you’re doing someone a great service by only charging them $60 per hour, but frequently those very same clients are the ones that end up appreciating you the least! Meanwhile, someone paying you $180 treats you as a peer and tells all their acquaintances how you’re a “leading expert” in your field.
It’s vital that you match your pricing model to your target market. All too frequently small business owners set prices based on a model of low hourly rates, but there are numerous other alternatives available to you – you just need to be willing to adjust your own mindset and market yourself congruently with that.
What if customers are not purchasing at my prices?
If people aren’t prepared to pay your price, have you stopped to think about why that is? Ultimately, people buy because the believe they’re going to receive the benefits they anticipate – are you delivering the benefits they’re seeking? And do they TRUST that you will deliver those benefits?
Issues to consider: is the quality of the product/service really as good as you portray it? Is the presentation and delivery up to scratch? Do you have social proof (testimonials or other evidence of happy customers)? Are you too “common” and need to be more “exclusive”? Are you too “exclusive” and need to be more accessible to the masses? Do your clients take you for granted? Do you take your clients for granted?
My Top Tips About Pricing
Perhaps my most important pieces of advice are (a) build up experience and testimonials if you need to, it’s ok to not worry too much about the price to start with; but then (b) acknowledge your true worth and don’t be afraid to ask an appropriate price. Too many people are worried that they’ll lose clients if they raise their prices – but if you’ve already proven yourself to your clients, very few will abandon you. And the ones who do are perhaps not worth the hassle to keep.
If you’re delivering the benefits that your clients are hoping for, don’t be embarrassed to ask for your reasonable share of the rewards.Tags: business, Pricing