Why You Should Raise Your Prices

This article is a reprint of Wise Bread's contribution to OPEN Forum from American Express -- where small business owners can get advice from experts and share tips with each other.

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The quickest, easiest way to increase your income is to raise your prices. If you're worried about losing customers, do the math. You'll be surprised at how many you can lose and still make more money.

Here's an example. It's a bit dense with numbers, but stick with it. This is an important concept and one that will give you a distinct advantage over those who don't understand it.

Let's say your product or service sells for $200 and your cost is $150. Now you raise your price by 5% to $210 per unit and, as a result, you lose 10% of your customers.

Before
Price Per Unit: $200, Cost Per Unit: $150, # of Customers: 1,000
Gross Income: $200,000, Direct Costs: - $150,000, Gross Profit: $50,000
Gross Profit Margin: 25%

After
Price Per Unit: $210, Cost Per Unit: $150, # of Customers: 900
Gross Income: $189,000, Direct Costs: - $135,000, Gross Profit $54,000
Gross Profit Margin: 28.5714%

You're actually making $4,000 more profit with 100 less customers!

In fact, in this example, you could lose almost 17% of your business and still break even from a 5% price increase ($50,000 / 28.6% = $175,000).

# of Customers: 833
Gross Income: $175,000, Direct Costs: - $125,000
Gross Profit: $50,000

The same math shows why it's a very bad idea to offer discounts, figuring you'll make it up on volume. A 5% price decrease in this same situation would require a 25% increase in sales just to stay even.

Before
Price Per Unit: $200, Cost Per Unit: $150, # of Customers: 1,000
Gross Income: $200,000, Direct Costs: -$150,000, Gross Profit: $50,000
Gross Profit Margin: 25%

After
Price Per Unit: $190, Cost Per Unit: $150, # of Customers: 1,250
Gross Income: $237,500, Direct Costs: - $187,500, Gross Profit $50,000
Gross Profit Margin: 21.0526%

That's an extra 250 customers you'll somehow need to woo with your new low prices!

If all that hasn't convinced you to raise your prices and NOT discount, consider that price buyers:

• Are your least loyal customers
• Complain more than premium price buyers
• Expect more than premium buyers
• Will blab about the deal they got to your full price customers

In a prior life, I owned a vintage airplane ride business. It was so popular we could hardly keep up with demand. We often had to turn customers away. Adding planes wasn't really an option as there aren't many of them around any more. Finding pilots whose spouses allowed them out to play with airplanes in their spare time wasn't easy, either. Putting a spreadsheet to work, we did just the kind of math shown here to evaluate how much business we could afford to lose and still break even. Over the next two years, we eventually tripled our prices before we started to see any fall off in demand. Then we carefully tweaked them until we found that "just right" price that allowed us make the most amount of money with the least amount of work.

Having fewer customers saved us money in other ways. There was less wear and tear on the airplanes, less oil and spark plug changes, less frequent engine overhauls, fewer phone calls/staffing issues, a reduced need for pilots, and generally an easier time making money.

By this point, you're hopefully wondering about your own pricing strategy. Here's a tip. If no one's complaining about your prices or if you have more work than you can handle, you're due for a price increase, or two, or three. Back up those higher prices with a better product/service, better customer service, friendlier staff, or other value-added strategies, and you'll never have to worry about price wars again.

It's always easy to lower your prices if you find you've gone too far. Better yet, keep your prices high to maintain the perceived value of your product or service and offer frequent-buyer coupons, limited-time only-discounts, bulk purchase offers, or other such programs that increase the per customer purchase, and/or lower your unit or fixed costs.

Price wars, discounting, and other price-based competition may make you busier, but as the numbers show, busier is not always better. Unless you "make it up on volume" you'll be out of business and a whole lot more tired than if you'd just left your prices alone.

We'd love to hear your pricing successes (or failures). Has raising your prices worked for you? How about lowering them? Sharing is good. Do tell.