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Pricing - Important Information for Contractors
 

 

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Pricing - Important Information to Guide the Contractor!

April 12, 2011
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 Pricing – Important Information to Guide the Contractor!

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By Stan Rydzynski

One of the most critical elements of marketing is pricing which is probably the one that is formulated with the least amount of education and knowledge.

Did you know:

  • A change of one penny can increase some companies profit by thousands or millions of dollars? Or, a change of 1% of your selling price can increase profits 11%?
  • The difference between “Markup” and “Margin”?
  • That working from cost up to establish a price never maximizes profitability?
  • What a breakeven analysis is and why it is one of the most important pieces of information to company?

Since pricing is so important, I want to first introduce you to the best text book on pricing I have read. The book is entitled, “The Strategy and Tactics of Pricing” by Dr.Thomas Nagle and Reed Holden. This book is the bible of pricing. I have met both authors and I have been at a few of their informative presentations. The book can be very academic but it completely outlines pricing.

What not to do

I would like to give you a list of some of the biggest mistakes you can make in trying to develop your pricing strategy. Hopefully by informing you on what not to do you will plan the correct strategy for your company.

  • Basing prices on costs, not customers' perceptions of value. Pricing based on costs invariably lead to prices that are too high or too low. Not a winning formula for quotations.
  • Attempting to achieve the same profit margin across different services. Profit is optimized when the price reflects the customer's willingness to pay.
  • Contractors must find ways to differentiate their products or services to create additional value for specific market segments. This is where you identify the attributes of your services and listing them on the quotation is extremely important.
  • Keeping prices at the same level for too long, ignoring changes in costs, competitive environment and customers' preferences.
  • Using insufficient resources (Past results) to manage pricing practices.

Here are a few important pricing issues and concepts to consider.

Mark-up versus Margin

This is the number one issue when I engage someone when it comes to understanding and mathematically calculating gross profit margin. Most contractors, their employees, sales personnel and others believe that if you want to make a 10% profit on an item or service that cost $100, you multiply $100 X 1.10 = $110 and you will make 10% profit. This is incorrect! We have just calculated the Mark-Up of 10% from cost not the profit margin.

Profit margin is “what percentage of the price is profit”. As opposed to mark-up which is the “what percentage of cost is profit”. Using the example before, the correct method to determine the selling price for an item that cost $100 with a 10% profit is to divide the cost by the desired profit percentage (i.e. cost/{100%-profit margin percent}). Which in this case is $100/90 = $111. A simple check is to multiply the selling price ($111) by 90%. I must get my cost ($100 X .9 = $100). In the case of multiplying the cost by 1.10 to get the selling price ($110) the reverse would lead to a cost of $99. I hope this simple explanation will increase your profits in the future.

What should you do when customers only want to talk about price?

You need to prepare you response (never wing it). When someone asks about price before they understand how you do what you do, simply mention that you can provide accurate quotes once you understand what they need.  Then, immediately ask them if you could ask a few questions.  The questions you ask should strive to understand exactly what they want and what’s important to them so you can sell them on the benefits of your service.  If they persist in wanting to know what your price is before knowing any more, give them a range to work with.  Don’t defend your prices. This usually has little effect on their willingness to pay the price you ask.  Don’t volunteer to drop your price immediately.  This only adds suspicion to your entire business.  If you feel the need to match a competitor, do so only after you’ve had a chance to understand exactly what they want and what their other price was based on.
Note: this is why it is very important to list other benefits/services you will provide with your quotation. You can than match or reduce your quote by removing the other benefits/services in your re-quote without looking like you were trying to “overcharge” the customer.

Bundling

One of the most profitable and strategic ways to capture more quotes is bundling. Bundling is when you add other services or products to the quotation that will not only make it more profitable but allow you to win a job that if not coupled with other services you would loss. For example, let’s say the customer wants to upgrade to 200 amp service with a standard 42 circuit panel. The lowest bid from three contractors is $1450. You bid $1800. You can lower you bid to meet the price but the margin is very low for your business. You decide to tell the customer you can add whole house surge protection and a lighting arrestor for $650 and you can install the next day. Bundling is a valuable tool for profitability.

Finally

Effective sales and marketing strategies that focus on unique positioning, identifying the right customers and creating compelling messages are the tools that will reduce the “price questions” and make you more confident about holding the line on price concessions. The less price concessions, the more profit for you.

 
Stan Rydzynski, Executive V.P., Channel Marketing Group, has over 35 years of experience in marketing/sales/product excellence in the electrical industry. The Channel Marketing Group provides strategic planning, marketing planning and market research for contractors, manufacturers and distributors with a focus on growth initiatives to accelerate performance. If you have a marketing/strategic planning question, you can contact Stan for a FREE consult at srydzynski@channelmkt.com or 516-319-1191. In addition, Stan conducts a 2-3 hour marketing/planning contractor seminar covering basic marketing concepts as well as teaching how to write an effective contractor marketing plan. Contact your local IEC, NECA chapters and/or your local distributor to arrange for him to conduct his highly effective and informative seminars.

 

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Comments
  • Great job explaining margin vs markup. What I'm a little confused about is your explanation of bundling. Your bid is $1800 vs a competitor's at $1450. You say add a surge protector for $650. For a total of $2450? So now your price is a $1000 more than the competing bid. How's this going to win over the customer.

    Bill Bauler  April 29 2011, 11:44 pm EDT
    Reply to this comment

  • This is the sort of thing Enron called “innovative ideals” except Enron took it to a most immoral level. Some in our society also call this “thinking outside the box” whatever you may want to call it...it smells of wrongdoing. Mark-up versus, Margin, what’s the difference? There is no difference. Mark-up 10%...Margin 11%, there is no need to play this kind game. A better way would be “flat-rate” pricing or some combination of flat-rate and unit pricing to arrive at a “fair” price. When I was growing-up people use to say, “you can’t squeeze blood out of a turnip” but in today’s economy you can “hook and crook” your way in business.

    Rogers  April 14 2011, 9:26 am EDT
    Reply to this comment

  • Lets be honest here Stan. Perceived value of the customer for electrical work, at least in the eyes of 98% of the residential service customer would be to pay at most $35 dollars an hour for a service electrician. You stated that it is a mistake to base price on actual costs instead of customer's perception of value. I happen to disagree with that. My proposals are in fact entirely based on my costs of performing the service and built up from there. While I totally agree with highlighting all values you can bring to the customer's table vs the competitor, as a way of increasing the value of your service, it must be performed at a price above your breakeven amount and further it must be at a profit, regardless of the customer's perception of value of it. If the customer is unwilling to meet at breakeven plus profit, then I seek other customers. The trick is to get the customer to value our price , not to base our price on the customer's idea of value. The customer values Craigslist only too often because of their idea's of what electrical repairs or service is worth....

    macmikeman  April 14 2011, 12:29 am EDT
    Reply to this comment

  • Excellent! I've been trying to get our sales staff to understand the concept of Mark-up vs. Margin. Thanks for the help!

    J. Wayne Collingsworth  April 13 2011, 12:00 pm EDT
    Reply to this comment

  • You did not mention overhead. Do you advise adding overhead percentage to material and labor cost then adding the profit? Or keep the overhead separate so as not to inflate the total markup? I think one should also consider volume of business, if you are, say 3/4 through your fiscal year and have done better than expected and have covered 90% of your projected annual overhead you could reduce your overhead markup and be more competetive. However, if business is slow you need to increase overhead markup at the expense of profit. Overhead must be covered.

    bill talbot  April 13 2011, 10:40 am EDT
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