Sales = Work; Sales x Margin = $

There has been a lot of talk about how to increase sales lately… while Sales are great (especially for us - thanks!), you need to make sure you are also making the most $ you can yourself!

The 5:50 “Change In Price To Change In Sales" - Ratio.
This is an important ratio – it’s simple but has BIG implications! It means that each decrease in price by 5% means you have to sell at least 50% MORE just to stay even, each increase in price by 5% means you can sell 50% less and you will still stay even. You can go further and break it down to 1:10 or .5:5 or even .1:1 etc... even the smallest change to price has an much greater effect on the sales you need to make the same profit.

Simple Example
Many of you may know this, but at risk of preaching to the converted let me run through an example of what I mean. Let’s use a simple example, Imagine I am selling Apples; I buy my apples for $1.00 each, and apply a 15% markup, selling them for $1.15. This works well, and I sell 1,000 apples. So my sales are 1,000 apples, and my profit is $150. (15 cents profit on each apple sold x 1,000 apples).

What if I lower prices by 5%?
OK, suppose I wanted to make more money and decide to lower my price and sell more apples. So far so good! So I lower my price to $1.10, but now to make the same $150 profit, I will have to sell 1,500 apples ($150 divided by 10 cents = 1,500 apples). That’s an extra 500 apples, or an increase in sales by 50%, just to make the same profit!!! To sell the needed extra apples would also take a lot more work, and there is the risk that if I don’t sell at least 500 more that I won’t make as much profit as the $150 I’m making at the moment! IF for example I only increase my sales by 30% selling 1,300 apples, at $1.10 I’ll only make $130 profit. That’s a lot less than the $150 I was making before!

What if I raise prices by 5%?
OK, suppose I thought instead of trying to sell more I would try and raise my prices. So instead of selling at $1.15 I would sell my apples for $1.20. At $1.20 an apple I am making a margin of 20 cents an apple, so now to make my $150 I only have to sell 750 apples. (That’s 50% less apples to make the same profit!) If for example I can sell 800 apples at $1.20 would make $160 (20 cents x 800 apples); so even though I would be selling fewer apples than I am at the moment, I would actually be making more profit!

It’s a scary ratio, 5 to 50! It’s intuitive that at a lower price you need to sell more ...but 50% more that’s A LOT!! Of course, it’s not always that simple... If the customer only wants to pay $1.15 then I will have a hard time selling him an apple for $1.20! If the guy next to me is selling his apples for $1.10 then I will have a hard time selling any for $1.20! And it may sell be that if I sell for $1.10 I will sell thousands more apples making it well worth my while... But it may not. And I don’t want to work twice as hard all week selling apples, then at the end of the week find I made less than the week before!

How to fight a price war

"If you find yourself facing a price war, you'll need to understand how it started in order to respond effectively. Often the best counterattack does not involve a retaliatory price cut. " - Harvard business Review Mar 2000.

You can read the full article at http://www.csom.umn.edu/Assets/71544.pdf

The Law and "Price Maintenance"

Here's what the ACCC says on Price Maintenance:

" Suppliers may try to impose a resale price to maintain brand positioning or to give resellers attractive profit margins.
Any arrangement between a supplier and a reseller that means the reseller will not advertise, display or sell the goods the supplier supplies below a specified price is illegal.
It is also illegal for a supplier to cut off, or threaten to cut off, supply to a reseller (wholesale or retail) because they have been discounting goods or advertising discounts below prices set by the supplier.
A supplier may recommend an appropriate price for particular goods but may not stop retailers charging or advertising below that price. In most cases, a supplier may specify a maximum price for resale. "

"There is nothing wrong with using a supplier’s recommended resale price (RRP) list so long as it is just that—recommended. However, it would be illegal for the supplier to put pressure on you to charge the listed prices or any other set price (for example, RRP less 10 per cent).

Don’t be tempted to ask your supplier to use its price list to stop your competitors from discounting. You, as well as the supplier who agrees with your suggestion, would then be breaking the law, that is, inducing resale price maintenance or a price fix."
Source http://www.accc.gov.au/