How to Optimize Prices During Inflation

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So I'm going to kind of follow on to what Ryan and Rich started talking about earlier, which is what are we going to do with this inflation thing that's happening? And how do we adjust our business to really find free money and deal with it so that it doesn't affect us as much as it otherwise might?

And so we have the how to.

Increase profits and make customers happy when everything costs more. So a couple of interesting statistics. 8.4% inflation last month. 8.4. Right. It just keeps going up and going up, and they say it's going to ease off. They also said it wasn't going to stay around a few months ago. So it doesn't seem like maybe they know what they're talking about, which is very unusual for a government agency. Okay. I mean, I'm very surprised, but that's the highest in over 40 years. And what it means is really annoying. A It means everything that we want, from simple things like food to airplanes and expensive bottles of bourbon and tennis shoes and watches costs more and our buying power is down per million. $84,000. That's a lot, right? I don't like that. I don't care for it. I don't want it to continue to happen. And jobless claims are the lowest that they've been in about 50 years. Don't understand why all this is happening exactly, but it is. And therefore our average wage increase right now is 5.9%. And it's different. That's across all industries. Some are significantly higher, like 12% and job switchers get even more. So you have a lot of risk of people leaving you. Well, what that means is that at an average expense ratio of about 20 to 35% labor to sales, that you're netting 11,8 to almost $21,000 less per million in sales. So not great news across the board. So the question that I kept asking was, well, how? Not only how do I net the same amount after inflation, but are there any opportunities where I could actually increase profits? And I think there are. If we approach this in a very systematic way, this there is warning, some math involved in what we'll be talking about today. So I know those of you who said, I was told there would be no math, that's not true. But here's what we're gonna talk about how can you optimize your pricing strategies? The second thing is, what can you do to adjust your customer mix and your product mix, like the things that you're selling and how you're selling them? The third would be thinking about your value ladder in a little bit different way. The fourth, creating profit, optimized offers. And last but not least, how can you acquire across your value chain, like actually acquire companies to increase margin? So let's start with optimizing our pricing strategies. It's kind of interesting because pricing is the absolute fastest, most effective way that you can increase profits because it passes 100% of the increase down to the bottom line. Right. If you increase your profits by $100,000, that goes straight to your bottom line. Unless something happens to change volume and costs, which just raising prices shouldn't, if you do it right. So then the question is, well, should I just increase all my prices? And the answer is maybe. Right, maybe. But you should definitely be looking at them. So the first thing that you need to do is calculate your current profit margin. Raise your hand if you know what your current profit margin is across your products and services. Okay, that's cool. And a lot of honest people too, not raising their hands. That's okay. But it's really important that we do know this. So if you don't know your profit margin, currently take. And if you don't know what it is. Exactly guess, because it will be helpful to you as we go through this. Your TTM stands for Trailing 12 Months. Take your trailing 12 months of profits, the profits that you've earned over the last 12 months, and divide that by the last 12 months of sales so that you can figure out what is the percentage that you're actually getting to take home. Because that's going to. There's going to be some kind of interesting math that we're going to do here in a second. Okay, so the question then that you want to ask is how would a 1% price increase, 1% price increase impact your profits? Well, it's pretty significant. If you are at. Who is it? A 40% or better margin. Raise your hand. Okay, you guys see me later. Okay, that's fantastic. Who's at like 25? Okay. And who's at less than 25? Okay, great. Thank you. So as you can see. So if you're at a 40% margin, you're gonna get a two and a half to one bump in your profits for every percent that you increase your sales. Okay. Because if you're. Let's say you have a million dollars in sales, you're operating at a 40% profit margin. That means 400,000 in profit. But our new profit's 10,000. So 10,000 divided by 400,000. 2.5%. That's how we're calculating that. So that's why I put it up there. Okay. But as you get tighter and tighter margins, it gets to be more and more beneficial to raise by 1 point. So if we're down at 20%, it's a 5% bump. So could you increase your prices by 1% without it affecting the people who are buying from you? Could it be a straight pass through? Right. I'd like for you to just take a note right now. Which of these profit increase percentages is the closest to your company? Okay. So are you 25, a 20, a 35, whatever. But then write down the percentage profit increase number that's in orange on the right so that you have it for the next thing that we're gonna do. Okay. All right, so now I want you to divide the current inflation rate, which is 8.4%, by your applicable net profit percentage increase, wherever you were on that right hand column. And that's going to show you the amount that you're going to need to increase prices to neutralize the effect of inflation. Now, I'm not satisfied with just neutralizing, but let's see what that looks like. So if you were at a 25% margin and you did this exercise, basically our current inflation rate, we know, is 8.4%. So we're going to divide that by our profit increase in a 25% company, that's 4%. That means that to stay neutral, to not lose money, we need to raise prices by 2.1%. How many of you have raised prices in the last six months? A fair number. That's great. Okay, good. So a price increase of 2.1% would basically get us whole. Could we do more? Don't know, but definitely should be thinking about it. But just a tiny little increase can have a tremendous impact. In this case, if you were selling products that averaged $100, you would have to increase the prices to a whopping $102.10. Right. That should not adversely impact volume. You got to test always. But that's like, that's such a tiny little increase. $2.10 increases profits by 8.4%. That's pretty significant. And a lot of us don't think about it. And when we're thinking about acquiring companies as well, there's Tremendous opportunities because most people don't ever think to raise prices for years and years and years, even when something like this is going on. But raising prices is one of our easiest ways to achieve neutral neutrality with inflation. Right? So always test to validate. But what we've typically found is that even a 5% increase typically doesn't have a significant adverse material impact on the volume of purchases. So then we get to 5%. Well, take a look at what 5% does. Even if you're at a 40% margin, a 5% increase in your price is 12 and a half percent increase in your profits. If you're at 20%, you've increased your profits by 25%. A 10% is even more. Right. Everything doubles. So up to 67. So like, could you increase prices 10% and should you test? Because you could potentially be missing out on 25 to 67% more. To me, that's kind of crazy. Like to. To actually see the math and say, what is the impact of a price increase? Now, how many of you have lowered prices in the last 12 months? I love you guys. That's so awesome. Nobody. Well, here's something that's interesting, right? Because a lot of people think, well, if things are tight, and you'll see in the research that Philip Stutts is going to give us that price is a big factor, like in our market, in the research that he did, that price, there's definitely a lot of price sensitivity. So we might think, well, maybe we'll sell more if we lower the price and then we'll make more profit because we'll sell so much more. But it's kind of scary that the exact opposite effect applies to profit as it does with an increase, as it does when you decrease. In other words, it's the inverse effect. So you're going to lose. And I didn't put negatives in, but you can see it says profit decrease. You're going to. You raise prices. Excuse me, you lower prices by 20%, you're going to lose 25% in profits. That sucks. But a lot of people do it. A 5% price cut would require you to sell $333,000 more if you're at a million bucks to maintain the same profit. That almost never happens, right? This is a huge mistake that a lot of entrepreneurs make is they think, well, it's not that much, but it's a lot. A 5% decrease has to. You gotta have a 33% increase in sales. How often have you ever seen that happen? I haven't I haven't ever seen that happen. So 200, excuse me, $200,000 profit decreases to 150,000. Your margin that was 20% now goes down by 25%. So you're at 15%. And so that $200,000 profit divided by 15% means that on a million, to earn the same profit of 200,000 that what used to be there on a million dollars of sales, when you lower prices just a little bit, it goes to a million. Three, just so that the math is there for everybody right now there are alternatives to price increases. So you don't just have to increase prices to make more money. Some of the alternatives would be replacing the prices instead of raising them. Like what if we had completely different prices? What if we stated things differently? What if we change the profit, excuse me, the pricing model. Well, we could move to subscription. That's something I'm a big advocate of. And the markets love when they're valuing your company because subscriptions are considered less risky. And pricing. Valuation is all about risk. Right. So if we can reduce that, that's cool. Adobe switched their model in 2013 from prepackaged software to subscription. $4 billion in sales to 16 billion, 743 million in profit and EBITDA to 6.6 and a market cap from 22 billion to 205 billion. That's win, win, win across the board. Right. And they initially did, by the way. I think they took an 8% dip immediately following switching to this, but then they basically took that knowing this was going to kind of change the game. And it makes sense. We experienced this at Digital Marketer when we changed from $500 and $900 packages to a subscription. We took a hit because we were selling something for 500 or $900 that we got all the money right away and, and now we've traded it for X dollars a month. That's, you know, that's going to be something you're going to want to plan for from a cash flow standpoint for sure. But it's definitely worth trying. And here's the thing is that if you can increase lifetime customer value, as Adobe and hundreds and thousands of other companies have, then this makes sense. Now it might take you a little bit to dial it in, but it's definitely a way to not increase prices. Replace your existing pricing with a different kind of pricing and it actually can appeal to more people. Okay. You can also refocus your customers pricing attention. What are they actually looking at and what do they care about? Well, a Lot of times you could go to a price per month, that's the subscription. But you could also do a price per credit. We do that in one of our software businesses. We sell access for X dollars per month and then a certain number of credits that they get when the credits expire, then they buy more credits. So that's kind of cool, right? It's focusing them on something different. Not selling them an X thousand dollar package, but selling them this access plus credit. It can be a per use, it can be a per access or per any unit of consumption. So can you refocus your customer's attention and get them focused on this unit of consumption which is significantly lower than what you might sell a full blown course or full blown software access for? Okay, something to think about repricing based on performance. Are you willing to stand behind the benefit that you are telling your customer your brand promise is is going to confer to them? Right. If you are, then you can get a whole lot more price pricing based on performance. So as a recovering attorney, I used to price based on outcome. When I help somebody sell a business, I price on outcome. I'm going to sell your business. If I can get you this much more for it than the base that we agree on, then can I have a piece of that? Right. That's a great outcome. If we can get the benefit, whatever benefit you're trying to confer to your customer, whatever the thing is that's driving that sale, can you guarantee it enough times to be ready to stand behind it with an outcome based pricing? Because they will pay more for that almost always. And you're refocusing their attention on that. Now there's another thing called a pocket price waterfall. The pocket price waterfall says basically we don't generally capture 100% of our sales price. So we think we do. But there's a whole bunch of things that are out there that might stop us from being able to do that, like incentives. Okay, so now some of these are going to be very product company based and some of them are going to be service company based. So if I don't get you covered with this because you're like, I'm not a product company, think about this. Can I apply any of these typical pricing incentives to the things that I do right now to get more sales? And if I do, what would the cost of that be? But these are some things to think about. Can I use these? But also what is the cost of this and am I using them right now and am I actually taking into consideration the Fact that, that each of these things effectively lowers my purchase price. Okay, they call it the price pocket, right? Or the pocket price because it's what can you get in your pocket? How much of the price are you getting in your pocket? Okay, so annual volume to hit preset buying targets. That's something that you as a manufacturer might, or as a product seller selling to wholesalers or distributors might, if they hit certain volumes, be willing to pay them more. Right? You can do. Think about the account's receivable carrying cost. How much does it cost you from the minute that your customer owes the money until the time that you collect it? Are you carrying any cost? Now if you've got a digital or an information product, maybe you're not, but you kind of are because there is access or if you add coaching to it or something like that, now you got a labor cost that's attached to it. Are you thinking about that? Right? Think about these things. What about cash discounts for paying? Right. If you're selling product you typically offer some discount for early payment because you're like, well it's better to have the money sooner than later. But that is a cost. And if you're offering a discount, you're getting less of a purchase price. But do you know that and are you realizing that and are you stacking it all up? That's the thing is that we can very often we'll put all these promotions in because we're like, we could sell more if we do this, we sell more if we do that. But then we forget and it can really eat away. Another would be consignment costs. So if suppliers are lending you inventory and, and if they're, if you're not using that, something definitely to consider cause it'll reduce your overall carrying cost, but it will also reduce effectively the price you're getting. Co opt ads. Are you paying any distributors or wholesalers for advertising in local markets? If you're not, think about it, it might be good or in target markets, it doesn't have to be geo. It could be just a target market. We want E commerce people. Well, maybe it's worth paying somebody that has access to that market to run ads to that market so that they can make sales as an affiliate, right? Maybe you want to supplement that freight cost. Are you offering shipping? Are you taking that off of the price effectively so you can see how much of the price is coming in your pocket. And what about developing markets? What about off invoice promotions so that maybe you're doing retailer rebate? Promos. So car dealers all the time, basically from the manufacturer they'll get, when they sell a certain amount, they'll get a rebate. Are you offering that? If you're not, it's worth considering because it can definitely drive sales. But are you also aware of how much it actually costs in real dollars? How about online discounts? If you have retail or you have customer service people that are taking the orders, is it worth offering a discount to somebody who will go and do an use an automated system to buy so that you don't have to maybe pay a sales commission? Right, that makes sense to think about. But when you do, is there a cost associated with that? What about performance penalties? Are you making guarantees on quantity, time of delivery, specific performance levels, anything like that, and saying in the event that we don't do this, you get a discount. Okay, that's typically like in construction contracts, there'll be penalties on delays. You build my house within this amount of time and if you don't, then it's X dollars a day for every day you run behind. And it's very typical in the contract world to do this if you're not offering that. And it would incentivize people to take advantage of your offers and close the deal. It's something worth considering. Cause to me this is a toolkit of how to sell also, right? How do I incentivize the sale? But what is the cost? What is the cost? How often are we failing if we're making guarantees? And what is the actual cost? Cause that's gotta come off the price. It's not going into our pocket. It's effectively reducing the selling price. Slotting fees. If you're paying to get into stores, stocking allowances, right. To incentivize retailers to carry or make larger seasonal buys and then target customer discounts. If you want to acquire a Dream 100 type client and you are willing to pay more to do that or discount more to do that, then think about that. And if you haven't like think about the cost of that. But if you haven't done it, this might be worth thinking about. So there's a lot of ways to incentivize sales. And so what the pocket price waterfall does is basically goes through and says, okay, so this is 100%, this is our standard list price, right? So standard list price is 100. And then I've got all these things that eat away at it. I've got distributor discounts and special discounts and end customers and other promotions. And this is all Invoice pricing. So these things show up on the invoice. They're not as hard to find and identify as the off invoice soft costs. Right. This is where you can really get into trouble because you're probably thinking about these things, but you're probably not thinking about these as much. So what the pocket price waterfall does is it gets us thinking about all the actual costs of selling and what we net. Also, you have to be aware of what is the true margin, what is the margin that you're making on these things. So there are lots of purchase incentives that can affect margin. And so this I'm leaning more towards our digital sellers and our E learners and things like that. But are you paying affiliate performance incentives? Let's say that you have a leaderboard of affiliates on your launch and you're giving somebody a car that costs $50,000 or $100,000. Are you taking that into consideration or are you just thinking, oh, well, it's $100,000 against the launch. Right. Is it necessary to do that? Is that a price that makes sense? Am I getting that much more benefit from it? Am I getting a multiple of benefit from it? Can you do cash discounts to drive immediate purchases? So do you enable your sales team to say, you've got somebody that says, it's a $15,000 product that I'm selling, but man, if they only have 12 or 14, seven, go ahead. Right. Do you enable any kind of discretion there? What about coupons? Are you offering coupons? Do you have coupon programs either with affiliates or just to drive sales or in promotions that you do? And are you calculating that into how much you're actually receiving? What about free training and coaching? There's a labor cost associated with that. If you offer onboarding or free training or free coaching to facilitate consumption of your thing or to help enable the sale, do you figure in the actual cost of delivering that? When you're figuring out what is my actual profit margin? What about free shipping? Are you shipping any goods to the customer? Right. What about guarantees? Quantity guarantees, quality guarantees, Time guarantees? Satisfaction. Satisfaction guaranteed. How many people take you up on that? You're not putting that in your pocket. Is that helpful? Okay. Awesome.

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