Business expenses and pricing are money matters that go hand in hand.
You can’t set the price of your products or services without a clear understanding of how much you need to make to cover all of the business costs that allow you to produce or deliver that product or service—and still make a profit.
Let’s look in more detail at how business expenses and pricing play off each other and how to effectively set pricing for your business.
Business expenses, or business costs, are ordinary and necessary expenses your business incurs to operate. There are two main types of business costs: fixed and variable.
Examples of fixed costs include:
Examples of variable costs include:
As the names suggest, variable costs go up and down with income; fixed costs normally remain consistent.
To keep ahead of your variable costs, keep your eye on the market.
For example, look at your wages costs versus market rates/industry expectations, keep up to date with potential changes the government might make to payroll tax, worker’s comp and super, and stay abreast of the inflation impact on products and materials.
When it comes to fixed, it’s best to think of these as an investment rather than a cost. You need to consider whether or not you’re getting value.
If you’re not, we recommend you look at your options. You also need to think about the inflationary impact and, if leasing, when your lease is up for renewal.
Knowing the costs associated with your business can help you calculate your breakeven sales point—the point where your business’s revenue equals its total costs.
You can use the following formula to calculate your breakeven point:
Breakeven sales point = fixed costs/contribution (or gross) margin
Once you know where you hit zero, you can make informed decisions about pricing strategy, as well as your production levels, and sales strategies, to maximise your profits and minimise your losses.
When it comes to pricing, you need to set targets. Work out how many sales you need daily, weekly and monthly to reach that breakeven point.
Break it down into either how many hours to sell (if you sell services) or how many items to sell (if you sell products). Doing this will give you an idea on price.
For example, if your breakeven sales are $2 million and you sell at $10 a unit, you would need to sell 200,000 units to reach your breakeven point.
If you don’t think you can reach 200,000 sales, you need to adjust the price upwards, so you still hit your breakeven point. Just make sure you don’t overestimate your productivity and efficiency—and that you can maintain it.
You then need to try and set your price above this, taking into account market prices, to a point where you’ll make a decent profit.
If your costs are too high to make a profit, you need to rethink your strategy and cost structure.
Business expenses are a key factor in pricing decisions because they determine the minimum price at which a product or service can be sold without incurring losses.
However, pricing decisions are not solely determined by expenses. You also need to consider factors such as market demand, competition, and the perceived value of the product or service.
For example, you may be able to charge a higher price for a product or service that’s in high demand, even if the cost of producing it is relatively low.
The key is to strike a balance between pricing your products or services high enough to cover your expenses and make a profit and low enough to remain competitive and attract customers.
If you need fresh insights on your business costs or would like some support with pricing, reach out to your Maxim Advisor or get in touch with our team.